Diamondback Energy’s divestitures keep on rolling, although the Permian Basin E&P has long since shot past its target from earlier in the year.

On Sept. 11, Diamondback and Five Point Energy LLC, a midstream private equity firm, said they formed a new joint venture (JV), Deep Blue Midland Basin LLC, to create the largest independent water infrastructure platform in the Midland Basin.

Diamondback’s goal was to sell $1 billion of non-core assets by the end of year. It reached that target in the second quarter — but, notably, still held $742 million worth of assets for sale. Even more divestitures might be on the table, an analyst said.

Diamondback will retain a 30% equity interest in Deep Blue and receive approximately $500 million in upfront cash proceeds, with the potential for more cash proceeds through performance-based earn-outs over the next 24 months.

As part of the transaction, Diamondback entered into a 15-year dedication for its produced water and supply water within a 12-county area of mutual interest in the Midland Basin.

Deep Blue has already executed two long-term acreage dedications totaling more than 20,000 acres. Deep Blue said it expected produced water volumes to average more than 75,000 bbl/d during fiscal year 2024. And the JV company, in addition to having dedication across “substantially all” of Diamondback’s Midland Basin acreage, still has spare capacity for other producers.

Deep Blue will offer that excess capacity up for third-party growth as an integrated midstream water infrastructure network. The company’s infrastructure consisted of more than 800 miles of pipelines for gathering, transport, disposal and reuse.

The company will have permitted disposal capacity of approximately 2 MMbbl/d and more than 65 MMbbl of water storage. Deep Blue will also employ extensive recycling facilities to supply more than 500,000 bbl/d of recycled water for completions activity.

For Diamondback, the deal represents another “monetization event,” said David Deckelbaum, an analyst at TD Cowen.

“In conjunction with the ~$750 [million] in assets held for sale at the end of 2Q23, the deal sets FANG up for more asset monetizations down the line and strong liquidity through the next 24 months,” Deckelbaum wrote in a Sept. 11 report. “Together with Five Point, FANG will contribute $500 [million] in equity capital over time to pursue growth opportunities and can also receive deferred performance earn-outs in 2024 and 2025 that were undisclosed.”

Going forward, Diamondback’s opex will increase slightly on a per unit basis, reflecting third-party costs, but the company’s midstream and infrastructure capex—about $270 million in 2023, or 11% of total capex—will decline as spending is supported by Deep Blue.

Diamondback will also receive distributions from the JV. “Net-net, FCF will increase slightly going forward, $500 [million] is received upfront, and FANG will retain a valuable 30% ownership stake,” Deckelbaum said. “The deal is incremental to several other oil and gas midstream minority investments that FANG has illustrated as sources of potential future cash.”

He added that proceeds from Deep Blue will further strengthen a balance sheet and a return of capital program that has delivered an 8% yield.

Kaes Van't Hof, Diamondback president and CFO, said the JV has the assets, management and producer support to create significant value for Diamondback stockholders.

“We have spent nearly a decade building a differentiated water infrastructure platform in the Midland Basin, and believe this is the opportune time to monetize this business while retaining meaningful upside through our equity ownership,” he said. “The joint venture has already had significant third-party commercial success, and we look forward to participating in the future growth of this business."

Skadden, Arps, Slate, Meagher & Flom LLP and Winston & Strawn LLP served as legal counsel to Deep Blue. Piper Sandler served as financial adviser, and Akin Gump Strauss Hauer & Feld LLP served as legal counsel to Diamondback.

Jeoffrey Lambujon, an analyst at Tudor, Pickering, Holt & Co. noted that Five Point and Diamondback will collectively contribute $500 million in follow-on equity capital to fund future growth projects and acquisitions.

“Looking for additional color on performance-based earn-outs to FANG over the next 24 months, growth plans for the entity and current/future earnings potential for the asset base, but we like FANG’s opportunistic monetization of the infrastructure platform it has built.”

The announcement builds upon prior milestones for Five Point, which has established several water-handling JVs with E&Ps in the Delaware Basin.

Five Point’s partnerships include San Mateo Midstream II with Matador Resources and Waterbridge II with Concho Resources, which ConocoPhillips acquired in 2021. In August, Five Point’s portfolio company, WaterBridge NDB LLC, entered an agreement with Devon Energy to form a produced water infrastructure system, NDB Midstream LLC.

"Deep Blue is thrilled to announce our partnership with Diamondback and Five Point in the Midland Basin,” said Scott Mitchell, CEO of Deep Blue. “This joint venture affords us the unique opportunity to execute on our vision of sustainable produced water management utilizing one of the largest platforms in the core of the Midland Basin. In addition to supporting Diamondback's long-term growth plans and advancing their reuse objectives, Deep Blue plans to grow its footprint while driving the advancement of new technology solutions for our customers."

David Capobianco, CEO of Five Point and chairman of Deep Blue, said, "Our joint venture with Diamondback reinforces Five Point's leadership in environmental water management solutions and our status as the industry's preferred partner. Deep Blue's basin-wide footprint and excess capacity ideally position it to grow and consolidate in the Midland Basin while bringing next-generation water management solutions to our customers, including recycling, enhanced evaporation and desalination technologies."

Skadden, Arps, Slate, Meagher & Flom LLP and Winston & Strawn LLP served as legal counsel to Deep Blue. Piper Sandler served as financial adviser, and Akin Gump Strauss Hauer & Feld LLP served as legal counsel to Diamondback.

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