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Devon Energy Corp.'s Strategic Initiatives Paid Big Dividends in Q3

Matthew DiLallo, The Motley Fool

Devon Energy's (NYSE: DVN) drilling machine continued humming along during the third quarter. While companywide production trended toward the low end of its guidance range due to some maintenance issues in Canada, output in the U.S. came in ahead of expectations due to strong drilling results in both the Delaware Basin and Eagle Ford Shale. That growth in higher-margin U.S. output, when combined with the company's needle-moving share repurchase program, enabled Devon to report expectation-crushing earnings for the quarter while setting it up to end the year on a high note.

Drilling down into the results

Metric

Q3 2018

Guidance or Expectations

Total production

522,000 BOE/D

517,000 to 541,000 BOE/D

Core earnings per share

$0.65

$0.42

Data source: Devon Energy. BOE/D = Barrels of oil equivalent per day.

As expected, Devon Energy's production came in toward the low end of its guidance range because it had to perform extra maintenance at its Jackfish facility in Canada. However, output in the U.S. averaged 418,000 BOE/D, which was above the high end of the company's 398,000-to-417,000 BOE/D forecast range. Fueling that stronger-than-expected result was the Delaware Basin, where production surged 45% versus the year-ago period. One of the drivers was a prolific seven-well pad that delivered an average initial 30-day rate of 4,000 BOE/D per well.

In addition to that, Devon also reported strong drilling results in the Eagle Ford Shale, where production increased 12% compared with the year-ago period. Fueling that impressive result was 20 high-rate wells in the region that produced an average of 3,000 BOE/D in their first month online.

An oil pump with the sun setting behind it.

Image source: Getty Images.

In addition to reporting strong production results, Devon also kept a firm lid on costs. Lease operating expenses and transportation costs, for example, were 2% below its guidance. Those factors, along with higher oil prices, boosted Devon's margin per barrel 34% above the year-ago level.

That expansion in both margins and production enabled Devon to produce $807 million in cash flow from operations during the quarter. That was enough money to fully fund the company's capital expenses -- which came in 9% below budget -- with about $249 million to spare.

Another highlight on the quarter was the company's earnings per share, which blew past the consensus estimate. One factor driving that expectation-beating result is that Devon repurchased $2.7 billion in stock since the beginning of the year, or 13% of its shares outstanding, which provided an additional boost to per-share earnings. Fueling that accelerated repurchase plan was the company's strategic decision to sell its midstream assets earlier in the year.

Drilling rigs in the mountains.

Image source: Getty Images.

A look at what's ahead

Devon Energy's strong operational showing in the third quarter has it on track to grow its oil production from retained assets by 17% this year, which is up from the 15% increase it initially expected. What makes that even more noteworthy is that Devon expects to grow production at a faster pace while keeping a firm lid on its capital budget, with the company still anticipating that it will spend only $2.4 billion this year. That ability to stick to its budget is impressive considering that most other peers have boosted their spending level this year.

The company also provided its initial glimpse at 2019. Devon said that it expects to invest between $2.4 billion and $2.7 billion into its capital program, which should fuel 15% to 19% growth in U.S. oil production from its retained assets. The main driver will be the company's position in the Delaware Basin, though the STACK Shale of Oklahoma and the Powder River Basin will also contribute to its oil growth. Further, it expects to complete its $4 billion buyback program in the first quarter, retiring about 20% of its stock, while continuing to generate free cash as long as oil prices cooperate.

The emergence of the Powder River Basin as a third growth driver is worth noting. Overall, Devon plans to double its activity level in that region next year due to strong results from recently drilled wells. In doing so, it's joining the likes of Chesapeake Energy and EOG Resources in using the region to drive growth. Chesapeake Energy recently added a fifth drilling rig on its land, which positions the company to more than double its output in the next year. Meanwhile, EOG Resources recently announced a 10-field increase in its resource estimate, which provides it with years of high-return growth.

Bold moves are paying off

Devon Energy has worked hard over the past year to focus its portfolio on its best assets, which paid off during the third quarter. The company delivered strong production growth from its high-margin shale assets in the U.S., which enabled it to produce stronger-than-expected earnings and cash flow. Meanwhile, its move to monetize its midstream business provided the company with the funds to buy back a big chunk of its stock, further boosting its per-share profitability. The company expects more of the same next year, which sets it up to continue delivering strong results on behalf of its investors.

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Matthew DiLallo has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.