Sitio Royalty Corp. (STR) Update from RBC Cap - Jan 17

[dan_s]

January 17, 2023
Sitio Royalties Corp / Model Update

Our view: We update our STR model to reflect the 12/29/22 closing of
the merger with Brigham Minerals. We think the merger checks the right
boxes: lower cash G&A per unit, increased stock liquidity, presumably
better access to capital, and a strong combined balance sheet. We like
STR for its diversified asset footprint with a strong mix to the Permian,
commodity price exposure with oil price upside, and attractive payout. We
estimate a 2023 dividend yield of 8.5% at our commodity deck and a 65%
payout ratio. Reiterate Outperform with a new price target of $37.00

Key points:

• Merger Close and Guidance. On 12/29/22, STR completed its at-the-
market stock for stock merger with Brigham Minerals (previously listed
as MNRL). As a result of the merger, each MNRL shareholder received
1.133 shares of STR (consistent with deal economics initially announced
in September). With 3Q22 results, STR increased guidance for combined
company proforma production for the 12-months ending 6/30/23 to a
range of 32,750-34,250 boe/d at roughly a 50% oil split. < I believe STR's production will increase to 37,000 Boepd in 2023.

• Estimate Updates. We update estimates for STR to reflect the
combination with MNRL. We model 2023/2024 production of 34.1/35.5
Mboe/d, which reflects our view that STR delivers within its LTM 6/30
production guidance and grows low single digits organically into 2024. As
a result of our production guidance and RBC's current commodity deck,
we estimate a 2023 dividend of ~$2.28/share at STR's 65% payout ratio.
This implies a forward yield of ~8.5% at current prices. We also expect
STR to continue to pay down debt through our forecast period, and all
else equal, we model debt leverage well below 1x into 2024.

• M&A Thoughts. We think STR will continue to be an active acquirer of
royalties, with a returns-focused approach. While we still think STR will
remain Permian weighted (currently ~70% of net royalty acres), we note
the MNRL merger brings more balance to the portfolio. In our view, this
should allow STR to look across multiple basins to gain scale. We do not
explicitly model acquisitions, but we do think STR's size and scale, along
with its demonstrated success in executing on M&A, are meaningful to
valuation.

• Private Equity. Post the MNRL merger, the three primary private equity
sponsors for STR own a combined ~45% of STR equity. We believe lock-ups
have expired, and we do expect investor focus on perceived timing
for exit opportunities from these equity sponsors. We expect private
equity to look for orderly exit opportunities over the coming months and
years, and better stock liquidity can be helpful to valuation in our view.

• Valuation. We utilize a relative valuation approach for the royalty group.
Our $37 PT is based on a 8.5x target EV/EBITDA multiple, which is near
our peer average given STR's size and scale, and was slightly lowered to
reflect our current view on growth and to account for a higher-cycle 2024
RBC oil price deck. Our $37 PT supports our valuation multiple.
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STR is now one of my Top Picks in our High Yield Income Portfolio.