Marathon Oil Is Shrinking to Grow

Marathon Oil (NYSE: MRO  ) is reinventing itself. The company is shedding international assets, buying back stock, and ramping up domestic production. These changes have revitalized the company's share price, but there is much more to come.

Shrinking to grow
Including the proceeds from the company's recently divested Norwegian assets, Marathon has raised around $6 billion since the beginning of 2011. The cash raised has been used to fund domestic production growth and buybacks.

Traditionally, the North Sea is a high-cost production region. This means that divesting these assets should help the company improve margins. Wall Street really liked the divestment.

Selling off high-cost international assets to focus on domestic operations is effectively shrinking to grow; this is a great plan for the company.

Analysts are now pleased that Marathon is a more domestically focused company, as this lowers execution risk. Additionally, with domestic economies of scale, the company should be able to drive down costs further. Marathon is already one of the lowest-cost drillers and producers within the U.S.

Free assets
Marathon's size and scale within the domestic exploration and production market is not to be understated.

The company has acreage within the Bakken, Eagle Ford, and Oklahoma Resource Basins. Production from these regions is expected to jump 30% during 2013-2014.

These wells are much more lucrative than many of Marathon's international fields. The internal rate of return on these fields is expected to be above 70%, a return likely to be above that achieved on many other projects. According to Marathon's own figures, the payback time of the majority of these wells within North America will be less than two years.

Credit Suisse believes that these assets alone are worth around $35 per share, or around $24 billion, which implies that Marathon's international assets are currently valued at $2.5 billion. That's 280,000 BOE of production valued at only $2.5 billion.

There is also the possibility of a further $1 billion or $2 billion share buyback following the disposal of the North Sea assets. When put in context of Marathon's current $26.5 billion market cap, these buybacks are impressive.

Domestic production yields results
Marathon is being joined in the Eagle Ford region by Devon Energy (NYSE: DVN  ) , one of the U.S.' largest domestic exploration and production companies.

Unlike Marathon, however, Devon has only recently switched to concentrating on oil production. Previously, the company had been focused on gas production, as a result, earnings have gone nowhere but down during the past few years, in line with the price of natural gas.

Nevertheless, Devon's first-quarter oil production jumped 21% year over year to an average of 176,000 barrels per day. Off the back of this growth, adjusted earnings jumped 103% year on year and cash flow jumped 41%.

The company continues to chase production growth. During May, Devon's production was 64,000 boe per day. This is expected to average 70,000 boe/d to 80,000 boe/d throughout the rest of the year.

Devon will spend roughly $1.3 billion to hit this production target. Marathon is spending more, however. Marathon has a $2.3 billion Eagle Ford capital spending budget for this year.

Foolish summary
Marathon's growth has been lackluster these past few years, but now the company has realigned its focus on North American production. Shareholders should profit as a result.

The company is selling off non-core, low-margin international assets to fund domestic growth, and this should pay off. It would appear that the company's shares are worth much more than their current valuation.

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