Devon Energy Corp's (DVN 0.58%) stock price is well off of its highs for the year as falling oil prices have taken the stock down.
As the chart shows, Devon Energy's stock price has started to recover some of its losses even though oil prices have continued to fall. That's a trend that could continue as Devon Energy has three very compelling reasons its stock could rise again to previous highs, even if oil prices remain weak.
Increased drilling returns
On the company's third-quarter conference call, management pointed out that it sees a lot of upside throughout its portfolio. One area in particular that stood out is the upside the company is seeing from enhanced completions, which add to the cost of drilling a well but yield stronger overall returns. The company said on that call that the returns for the extra $1 million it is investing in its wells is yielding returns ranging from "significant to staggering."
What the company is doing is pumping a lot more sand into its wells as part of the hydraulic fracturing process. The sand is used to prop open the tiny cracks in the tight rocks so more oil and gas can flow through the rocks and out the wellbore. What's important here is that the process is allowing the company to get more oil out of the reservoir than previous designs were accessing. Given the early success of this new design, the company thinks it could have a dramatic impact on the amount of oil and gas each future well produces, which would yield higher returns for the company since each well would be more valuable. Spread across thousands of future wells, there is the potential for the company to create a lot of value for investors.
Opportunity to go on the offensive
Devon Energy has an extremely strong balance sheet with a $3.4 billion cash balance against just $6.8 billion in debt. The company also has more than a billion dollars in midstream assets that could be dropped down into its affiliated MLP EnLink Midstream Partners LP, which could further bolster its liquidity. Combine that with the company's strong cash flows that are well protected by its oil hedges, and Devon Energy has the financial wherewithal to go on the offensive and acquire a rival that has been weakened by the plunge in crude oil prices.
While Devon Energy has plenty of organic growth opportunities, it demonstrated by its recent Eagle Ford Shale acquisition that it's not afraid to add another new core asset to fuel future growth. One area it could look at adding is the Bakken Shale, which has fueled strong results for many of its peers. If the company can find the right deal, at the right price, it has the potential to really move the needle by making a deal.
Upside to natural gas
Oil has been the focus of Devon Energy and many of its peers over the past few years. However, if natural gas prices do finally begin to head higher, it could provide another big future opportunity for Devon Energy to more profitably grow gas production.
One area it could focus on is its rather large position in the Barnett Shale, which is currently generating a billion dollars in free cash flow, as noted on the following slide.
Source: Devon Energy Corp Investor Presentation.
If natural gas prices head higher, Devon Energy has the optionality to reinvest more of that cash flow to grow its natural gas production from this play, earning a stronger return in the process. The play is particularly compelling because of its strategic location in Texas, which will benefit from natural gas exports as well as from increased demand from soon to be expanded petrochemical plants along the Gulf Coast. So, if that demand pushes gas prices high enough, Devon Energy could then turn some of its attention to natural gas to fuel future growth.
Investor takeaway
Devon Energy doesn't need oil prices to head higher in order to fuel its stock price. The company has compelling upside from a new completion technique, a rock-solid balance sheet that allows the company to go on the offensive and upside to natural gas when demand and prices improve. Seizing any one of these opportunities could be the key to push the company's stock price past previous highs.
