A 31% dividend? That’s the top end of FTSE 250 dividend yields right now.
It’s hard to ignore a yield that might return your initial stake in less than three years – and could hand you a 10 times return in less than nine years.
Such big yields can be a smoking gun, but this stock isn’t on the cusp of slashing its payout. Is it a buy? Let’s take a look.
Jump out
The stock in question is Diversified Energy (LSE: DEC) – an Alabama-headquartered oil and gas company listed both in the States and over here.
A few things jump out straight away.
There’s the eye-catching 30.6% dividend yield, of course. Only four other FTSE 250 stocks offer above 10% to shareholders.
The £468m market value makes it one of the smallest firms on the index too. Any drop in share price and it could be booted out.
Lastly, the stock is cratering – down 55% in the last year. This drop will have pushed the yield up and is probably the key detail here.
Fleeing
So why have investors been fleeing the stock?
Well, Diversified’s business model is squeezing the last drops out of ageing, and therefore cheap, oil wells.
The practice has landed the firm in a bit of hot water. Its vast portfolio of 65,000 wells needs to be clean up and plugged at the end of their lifespan.
The Democrats are after them. They claim the firm is leaving billions of dollars of clean-up costs to the state governments.
Snowcap Research shorted the stock after publishing a 39-page report claiming the firm had underestimated these costs. Total short interest is up five times since December.
Diversified’s own reporting gives a $22,000 average cost per retirement. Other sources cost it at over $100,000.
In amongst this fiasco, the business is going great guns. 50% EBITDA margins, industry-leading decline rates and net debt to EBITDA of 2.4x all look attractive.
As for that dividend, the firm wants to pivot to buybacks, saying the share price, “does not reflect the quality of assets nor the significant opportunities for the long-term strategy”.
24% yield?
The forecast dividend yield is 24.2% although I’d say there’s too much uncertainty here to rely on that figure.
And the uncertainty is what will guide my own decision here. How much will the well clear up cost? What kind of regulatory risk could we be looking at?
The threat here is not just to a couple of years of dividends either, it’s to the entire business itself. What if it’s simply not cost-effective to buy these older wells?
Without solid answers to these questions, I won’t be investing myself.
