Monday March 19, 2012
by Nathan Slaughter, editor Energy & Income
As with any energy producer, Devon Energy (DVN) has no control over the descent in natural gas prices and can only take what the market is willing to pay.
But the company controls its own destiny when it comes to production and reserve levels -- both of which have just reached new record highs.
Devon exited 2011 with average production of 680,000 barrels of oil equivalent (BOE) per day, up from 618,000 per day in 2010.
Higher-priced crude and natural gas liquids (NGL) accounted for more than one-third of the output -- a percentage that continues to rise as the firm diverts resources from dry natural gas fields to wetter oil and NGL ones.
If you multiply daily production of 680,000 by 365, you see that Devon dug up and sold about 248 million BOE. Meanwhile, it found 386 million new barrels in 2011 -- so every two barrels that went out the door were replaced with three new ones.
It's always important to ask how much a company is paying to acquire new reserves. Devon reported $6.9 billion in drill-bit capital expenditures last year. That works out to an attractive finding and development cost of just $17.88 per barrel ($6.9 billion/386 million).
Thanks to the firm's robust exploration and development activity, reserves have risen to 3.0 billion barrels of oil equivalent. And 40% of that stockpile is composed of liquids, which means future production will be more skewed toward higher-priced products than yesterday's output.
And earnings have already climbed to record levels. Even with natural gas at extremely depressed prices, Devon generated $6.5 billion in operating cash flow in 2011, a healthy 23% increase.
Net income ticked up from $4.55 billion to $4.70 billion. That's a modest improvement. But on a per-share basis, earnings climbed from $10.35 to $11.29, a 9.1% increase.
For that, we can credit the impact of $3.5 billion invested in an ambitious stock buyback program, which has removed 49 million shares (11% of the total outstanding) over the past 18 months.
Action to Take --> Devon continues to invest heavily (but prudently) to fuel future growth opportunities. Management spent $1.9 billion last quarter alone, including $400 million in pursuit of promising new acreage in the northeast U.S.'s Utica Shale and a new undisclosed oil play.
Over the past 12 months, the company has drilled 1,045 new wells, which should soon all be gushing oil and gas.
In the meantime, yesterday's investments are now bearing fruit. With deeper cash flow on the horizon, Devon just hiked its quarterly dividend by 18% to $0.20 per share.
With all this in mind, I think the rally that has lifted Devon more than 40% since October will continue pushing the stock toward a target in the mid-$80s. I consider DVN a buy at prices below $75.
Learn more about this financial newsletter at Nathan Slaughter's Energy & Income.