On Devon Energy Corp. (NYSE: DVN) is BUY. Despite pressure from lower commodity prices, we believe that Devon continues to offer value based on its strong balance sheet, substantial liquidity, and top-tier assets. In the current environment, the company is focused on recalibrating drilling and completion activity and lowering operating costs. We expect Devon to emerge from the current downturn as a stronger company and to take advantage of its high-quality portfolio when commodity prices recover.
We also expect Devon to benefit from its planned merger with WPX Energy.
The company’s average realized price for crude oil, including the impact of hedging, decreased 33% year-over-year in 3Q20, to $38.21 per barrel. The average realized price for NGLs fell 17% to $12.06 per barrel, and the average realized price for natural gas dropped 18% to $1.54 per mcf.
Additionally, on October 1, Devon sold its Barnett shale gas assets in Texas for $770 million, completing its transformation into a ‘high-return U.S. oil growth business.’
Based on this exchange ratio and the closing prices of DVN and WPX on September 25, 2020, the combined company will have an enterprise value of $12 billion.
We see the main benefit of the merger as greater scale in the Delaware Basin, one of the most productive and lowest-cost shale oil basins in the U.S. We also like the all-stock nature of the transaction, as the absence of new debt will help to preserve the company’s balance sheet strength. The post-merger company should also be able to provide enhanced returns to shareholders.
EARNINGS & GROWTH ANALYSIS
Management expects to generate this higher production with lower capital spending than previously planned.
FINANCIAL STRENGTH & DIVIDEND
Fitch rates Devon’s debt at BBB/under review.
In 2019, the company repaid $1.7 billion in debt, and does not have any outstanding debt maturities until late 2025. Management expects interest cost savings of about $60 million annually going forward.
In February 2019, Devon added $1 billion to its existing $4 billion share repurchase program. The company completed this authorization in 4Q19 and authorized a new $1 billion program. It has not repurchased any shares under the new authorization.
As discussed previously, with the closing of the Barnett Shale divestiture, Devon declared a special dividend of $0.26 per share, or approximately $100 million in total. The special dividend was paid on October 1, 2020.
MANAGEMENT & RISKS
Dave Hager succeeded John Richels as Devon’s president and CEO in July 2015.
Investors in DVN shares face risks. Commodity prices can be highly volatile, making revenues, earnings and cash flow unpredictable.
Devon Energy is a leading independent energy company engaged in oil and gas exploration, production and property acquisitions. Based in Oklahoma City, Devon is among the largest U.S.-based independent oil and gas producers and is included in the S&P 500 index. The company’s operations are focused onshore in the United States and Canada.
Despite energy market turbulence, we expect Devon to become a disciplined ‘returns-driven’ company, with premier acreage positions in major basins and a strong long-term growth profile – now helped by the planned merger with WPX. We also like the company’s solid balance sheet and expect it to emerge from the current downturn in a stronger financial position.