The oil industry has been challenging for dividend investors over the years. Intense volatility has forced oil producers to rethink their dividend strategies to better reflect this reality. That's leading a growing number of oil companies to launch a new dividend framework with a sustainable fixed quarterly rate and the potential of paying an additional variable dividend, depending on oil prices.
Two oil stocks that are planning to use this framework in the future are Diamondback Energy (FANG 0.92%) and the soon-to-be-renamed combination of Whiting Petroleum (WLL) and Oasis Petroleum (CHRD 1.17%). Here's why these oil companies could offer investors the potential to collect enormous dividends.
Image source: Getty Images.
Steadily pushing up the floor with the potential for more
Diamondback Energy pays a solid dividend these days. At $0.60 per share each quarter, it offers a dividend yield of around 1.8%, above the S&P 500's 1.4% yield. The oil company has significantly increased that payment over the past year. Diamondback recently boosted it by 20% and has grown it 50% over the last 12 months.
With oil prices rising, Diamondback Energy is generating more cash than it needs to run the business. The company has committed to returning at least half of this money to investors and using the other half at its discretion to repay debt, invest in expanding its operations, or send more money to shareholders.
Diamondback Energy plans to use the base dividend and its share repurchase program to deliver on its goal of returning at least 50% of its free cash flow (FCF) to shareholders. It did that in the fourth quarter. The company spent $409 million to buy back 2.1% of its outstanding stock at an average price of $105.96 per share. Add in the dividend, and Diamondback returned 67% of its excess cash to investors in the quarter.
The company has said that it could incorporate a variable dividend to supplement opportunistic share repurchases and return additional cash to shareholders in the future. With crude prices continuing to rise, pushing the share price into the $130s, Diamondback Energy might opt to initiate a variable dividend to return some of its growing cash flow gusher to shareholders. Given its cash-flow-generating capabilities at triple-digit oil prices, Diamondback Energy could pay out a gusher of variable dividends in the coming quarters if it starts this program.
Setting the stage for significant dividends
Whiting Petroleum and Oasis Petroleum recently agreed to a merger of equals transaction. Shareholders in both companies will get a significant cash payment when the deal closes. Whiting investors will receive 0.5774 shares of Oasis stock and $6.25 per share in cash. Meanwhile, Oasis investors will receive a $15 per share special dividend. The combined company will operate under a new name and have a new ticker symbol.
The new company will pay a $0.585 per share quarterly dividend -- a 17% increase from Oasis Petroleum's payout rate at the end of last year -- implying a 1.7% dividend yield at the current stock price. That quarterly dividend is one part of the company's plan to pay out up to 60% of its FCF to investors via dividends and share repurchases.
In addition to that base dividend, the combined company plans to repurchase stock and pay variable dividends. Oasis Petroleum recently declared its first variable dividend payment of $3.00 per share. Future payments could be even higher since the merger will generate cost savings. Combined with higher oil prices, that savings will enable it to generate a significant amount of FCF to fund shareholder returns.
Oil-fueled dividend stocks to watch
Diamondback Energy and the Whiting/Oasis Petroleum combo currently pay above-average dividends that have risen sharply in recent months. There's more dividend upside potential for both oil producers. They plan to pay out at least 50% of their FCF to investors via their base dividends, share repurchases, and possible variable dividends. That makes them intriguing options for dividend-focused investors to consider if they want some income upside potential.
