Has Devon Energy Become the Perfect Stock?

Every investor would love to stumble upon the perfect stock. But will you ever really find a stock that provides everything you could possibly want?

One thing's for sure: You'll never discover truly great investments unless you actively look for them. Let's discuss the ideal qualities of a perfect stock and then decide whether Devon Energy (NYSE: DVN  ) fits the bill.

The quest for perfection
Stocks that look great based on one factor may prove horrible elsewhere, making due diligence a crucial part of your investing research. The best stocks excel in many different areas, including these important factors:

  • Growth. Expanding businesses show healthy revenue growth. While past growth is no guarantee that revenue will keep rising, it's certainly a better sign than a stagnant top line.
  • Margins. Higher sales mean nothing if a company can't produce profits from them. Strong margins ensure that company can turn revenue into profit.
  • Balance sheet. At debt-laden companies, banks and bondholders compete with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.
  • Moneymaking opportunities. Return on equity helps measure how well a company is finding opportunities to turn its resources into profitable business endeavors.
  • Valuation. You can't afford to pay too much for even the best companies. By using normalized figures, you can see how a stock's simple earnings multiple fits into a longer-term context.
  • Dividends. For tangible proof of profits, a check to shareholders every three months can't be beat. Companies with solid dividends and strong commitments to increasing payouts treat shareholders well.

With those factors in mind, let's take a closer look at Devon Energy.

Factor

What We Want to See

Actual

Pass or Fail?

Growth

5-Year Annual Revenue Growth > 15%

(3%)

Fail

 

1-Year Revenue Growth > 12%

(9.8%)

Fail

Margins

Gross Margin > 35%

63.7%

Pass

 

Net Margin > 15%

7.2%

Fail

Balance Sheet

Debt to Equity < 50%

51.6%

Fail

 

Current Ratio > 1.3

1.72

Pass

Opportunities

Return on Equity > 15%

3.2%

Fail

Valuation

Normalized P/E < 20

17.02

Pass

Dividends

Current Yield > 2%

1.5%

Fail

 

5-Year Dividend Growth > 10%

7.7%

Fail

       
 

Total Score

 

3 out of 10

Source: S&P Capital IQ. Total score = number of passes.

Since we looked at Devon Energy last year, the company's score has fallen by two points, as debt levels rose a bit and net margins plunged. The stock has also seen substantial deterioration, with about a 20% drop over the past year.

Devon is an integrated energy company with exploration and production as well as significant midstream operations. Its assets include a million net acres in the Permian Basin, as well as property in the Mississippian, where SandRidge Energy (NYSE: SD  ) has had great success. Yet Devon has suffered from low natural gas prices that have resulted in falling revenue for a long time.

To offset the negatives of natural gas exposure, Devon has followed EOG Resources (NYSE: EOG  ) and other major players by pushing into oil. Although oil production still represents just a small fraction of the company's overall output, Devon has pulled back on international expansion in an effort to shore up its domestic operations and refocus its efforts on the U.S. energy boom.

Earlier this month, Devon suffered a big share-price loss as President Obama's election victory spooked oil and gas investors. But the fundamentals don't bear out Devon's loss, as its operating margins are far better than rival Chesapeake Energy (NYSE: CHK  ) and even manage to outpace the industry's low-cost leader, Ultra Petroleum (NYSE: UPL  ) .

For Devon to improve going forward, it needs investors to see its relative undervaluation compared with its peers. If it can work on getting debt levels back down and perhaps boost its dividend to shareholders, Devon could get a lot closer to perfection in the years ahead.

Keep searching
No stock is a sure thing, but some stocks are a lot closer to perfect than others. By looking for the perfect stock, you'll go a long way toward improving your investing prowess and learning how to separate out the best investments from the rest.

Among natural gas plays, Devon is definitely interesting, but SandRidge has drawn more investor attention. Investors were startled after SandRidge plummeted when natural gas prices reached 10-year lows, but with the company halfway through its ambitious three-year plan to profitability, the future looks bright. Find out whether SandRidge is a buy in our premium report on the stock, which reveals the future of this emerging oil and gas junior as well as its strengths and weaknesses. Don't wait to discover more about SandRidge's game plan and what to expect from the company going forward -- click here!

Click here to add Devon Energy to My Watchlist, which can find all of our Foolish analysis on it and all your other stocks.


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