Could Devon Energy Stock Hit $100?

Is there more room to run for Devon Energy?

Jun 18, 2014 at 8:50AM

In a recent Fool update, the author suggested shares of Devon Energy (NYSE:DVN) could be on track to hit the $100 mark, mainly due to "a sense on Wall Street that its asset monetization prospects still aren't fully baked into the valuation." But is the company's current value off by such a high margin? Let's review the latest developments at Devon Energy and examine the company's current valuation. 

The Eagle Ford deal
Devon Energy has shifted gears to increase its oil and natural gas liquids operations over natural gas. Moreover, Devon Energy's 82,000 newly acquired net acres in the Eagle Ford will augment its oil production in the coming years. During the first quarter alone, the company increased its U.S oil production by more than 55%. Looking forward, based on the company's estimates, its oil and NGL production in this region will reach 140,000 barrels of oil equivalent per day by 2022 -- a 20% increase over the company's 2013 production.

Oil and gas producer Chesapeake Energy (NYSE:CHK) has also shifted its attention toward oil and away from natural gas by investing in regions such as the Eagle Ford shale. Nonetheless, natural gas still accounts for most (70%) of its total output. 

Considering Devon Energy's production mix will change in the coming years to reflect a high volume of oil produced, its valuation is likely to be closer to a company such as Anadarko Petroleum (NYSE:APC), which mostly produces oil (as opposed to Chesapeake Energy, whose production is still mostly natural gas). 

So how does Devon Energy's valuation measure up to Anadarko Petroleum's? 

Currently, Anadarko Petroleum's enterprise value-to-EBITDA ratio is around 6.89, while Devon Energy's ratio is only 5.4. This implies Devon Energy's current valuation could be a bit low, and there may be some room for growth. Keep in mind, however, Devon Energy's natural gas operations still account for a big portion of its total production (higher than Anadarko Petroleum's). Also, its level of debt is reducing the company's valuation. 

Higher debt
In order to pay for the Eagle Ford deal, it had to take on debt. By the end of the first quarter of 2014, its level of debt reached $15.5 billion -- nearly 29% higher than year-end 2013. As a result, its debt-to-equity ratio increased from 61% in the first quarter of 2013 to 75%. In comparison, Anadarko Petroleum's debt-to-equity ratio is close at 70%. 

Despite this high burden of debt Devon Energy faces, the company recently sold its Canadian conventional assets for more than $2.8 billion. This sale will help pay off a big chunk of its debt accumulated from the purchase of Eagle Ford shale assets. In other words, this sale is likely to bring down its burden of debt close to the levels recorded last year. 

Shares of Devon Energy have room to grow, especially if the company lowers its level of debt, keeps increasing its oil production, and reduces its natural gas operations. But the company's current value doesn't seem so off to reach the $100 mark anytime soon.

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Lior Cohen has no position in any stocks mentioned. The Motley Fool owns shares of Devon Energy. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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