Morningstar | Initiating Coverage of Devon Energy; Shares Fairly Valued. See Updated Analyst Note from 12 Nov 2018
We are initiating coverage of Devon Energy with a fair value estimate of $32 per share and a no-moat rating. We think shares look fairly valued. Devon holds acreage across a variety of U.S. shale plays, but its key shale assets are in the Delaware portion of the Permian Basin and in the STACK oil play in western Oklahoma. In addition to shale assets, Devon owns heavy oil operations in the Athabasca sands of Canada.We view the company's position in the Delaware as its most promising asset. Devon holds a long-lived inventory of drilling opportunities in the attractive basin, having identified 6,500 gross risked drilling locations. In the STACK, a less mature play, Devon seems to be still working out the kinks in its development plan, namely spacing, but the company isn’t that far away from entering full-field development mode. Delaware and STACK assets should drive a more than 15% compound annual growth rate for Devon’s U.S. oil production to the end of the decade.
Growth prospects are less compelling in other parts of the portfolio, but the Canadian oil sands operations in particular should deliver solid cash flow that can be deployed in other areas. The company sold its midstream operations recently for $3 billion and is in the midst of a $4 billion share repurchase plan. The balance sheet is solid, and Devon pays a modest dividend. Devon has targeted further noncore asset sales by the end of the year, and we wouldn’t be surprised to see anything other than the Delaware and STACK assets sold.
Despite what looks like an attractive slate of future investment options in the Delaware and STACK, Devon is unlikely to generate returns on capital that would exceed costs of capital at our midcycle oil and gas prices of $55/barrel WTI and $3/mcf Henry Hub, respectively. Like many of its oil and gas exploration and production peers, we believe Devon invested too much capital under the assumption that oil and gas prices would considerably exceed our midcycle forecasts.
Devon Energy is an independent energy company engaged primarily in the exploration, development and production of oil, natural gas and natural gas liquids. The company's operations are concentrated in various onshore areas in United States. The company's areas of operation include Delaware Basin, Eagle Ford, Powder River Basin and the STACK development, located primarily in Oklahoma's Canadian, Kingfisher and Blaine counties.
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