Devon Energy Corporation — Q2 2012 Form 10-Q
Reporting period: Three and six months ended June 30, 2012; comparisons are with the same 2011 periods. Devon is an oil and gas producer operating in the U.S. and Canada. Dollar amounts below are in millions unless otherwise noted.
Financial performance
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Total revenue | $2,559 | $3,220 | $5,056 | $5,367 |
| Continuing earnings | $477 | $184 | $891 | $573 |
| Net earnings, including discontinued operations | $477 | $2,743 | $870 | $3,159 |
| Diluted earnings per share from continuing operations | $1.18 | $0.43 | $2.20 | $1.34 |
| Cash from operating activities, continuing operations | Not stated for quarter | Not stated for quarter | $2,426 | $2,830 |
- Q2 production rose 3% to 679,000 Boe/d; first-half production rose 6% to 686,000 Boe/d. Oil production increased 26% in both periods, reaching 149,000 barrels per day in Q2.
- Realized commodity price before hedges fell 29% to $26.18/Boe in Q2 and 19% to $28.28/Boe in the first half. The filing attributes the decline mainly to lower natural gas prices and weaker oil and NGL prices.
- Derivative gains were $665 in Q2 and $810 in the first half, including cash settlements of $267 and $425, respectively. These results include material unrealized fair-value effects.
- Lease operating expense rose 13% to $513 in Q2 and 17% to $1,027 in the first half. Unit LOE increased 10% to $8.30/Boe in Q2 and 9% to $8.23/Boe in the first half. DD&A increased 24% to $684 in Q2 and 29% to $1,364 in the first half.
Cash, debt and liquidity
- First-half cash from operating activities was $2,452 including discontinued operations; continuing operations provided $2,426, down 14% year over year. Cash capital expenditures were $4,267, up from $3,720.
- Cash and cash equivalents were $6,101 and short-term investments were $944 at June 30. Total debt was approximately $10,603: $2,148 short-term and $8,455 long-term. Cash plus short-term investments therefore totaled about $7,045.
- Devon issued $2.5 billion of senior notes in May, with maturities in 2017, 2022 and 2042, and used proceeds primarily to repay commercial paper and credit-facility borrowings. Commercial paper outstanding at June 30 was $2.1 billion at an average 0.40% rate.
- The $2.19 billion revolving facility had no borrowings at June 30; Devon reported compliance with its debt-to-capitalization covenant at 23.8%, against a maximum of 65%. As of July 18, the filing reported $2.1 billion of facility capacity and $2.6 billion of commercial paper outstanding.
Changes, outlook and notable items
- Revenue declined year over year, largely because weaker commodity prices outweighed production growth. Continuing earnings rose, while reported net earnings fell sharply versus 2011 because Q2 2011 included a large gain from offshore asset divestitures.
- Management increased its 2012 capital-expenditure estimate by $1.0 billion, from $6.2–$6.8 billion to approximately $7.2–$7.8 billion, reflecting expanded exploration and leasehold activity. Management said operating cash flow should remain the primary liquidity source and expected available funding sources to cover capital spending, debt repayments and commitments.
- Devon completed its offshore divestiture program with the March 2012 Angola sale. The company reported aggregate proceeds of $10.1 billion, or approximately $8 billion after tax assuming repatriation of a substantial portion under then-current tax law. Management said it did not currently expect to repatriate most foreign-held cash and investments, which could require current taxes if brought to the U.S.
- The April Sinopec joint venture provided approximately $900 million cash for a 33.3% interest in five U.S. exploration plays; Sinopec also agreed to fund approximately $1.6 billion of future drilling and development costs. In August, Devon announced a separate Sumitomo agreement for a 30% interest in two shale plays, with $1.365 billion in total consideration, including future drilling-cost funding; closing was expected in Q3 2012.
- Management warned that continued depressed natural gas prices could result in a full-cost ceiling write-down or additional DD&A for U.S. oil and gas properties in Q3 2012.
- Asset retirement obligations increased by $399 million in Q1, primarily from higher abandonment-cost estimates for certain production facilities. Legal contingencies include a $133 million judgment against Devon in the Chief matter; Devon is appealing and recorded an offsetting indemnification receivable. Management does not expect net exposure, but the appeal and indemnification are not resolved.
- Commodity prices, supply and demand, drilling results, regulatory or political developments, and general economic and financial-market conditions are identified as risks to forward-looking expectations. The filing says there were no material changes to previously disclosed risk factors. Devon reported effective disclosure controls; it implemented SAP on April 1 and modified related internal controls.
Key facts for investors to verify
- Whether commodity prices and hedge settlements sustain cash generation, and how much of reported derivative income is unrealized.
- Whether the increased 2012 capital budget is funded without materially increasing debt, especially given operating cash flow below capital spending.
- Potential Q3 full-cost ceiling impairment or added DD&A if natural gas prices remain depressed.
- Foreign cash availability and any tax cost if repatriated; confirm commercial-paper balances and revolving-credit capacity after quarter-end.
- Progress and funding terms for the Sinopec and announced Sumitomo ventures, plus resolution of the Chief judgment and indemnification appeal.
- Execution and control implications of the SAP implementation, and the basis for the substantial increase in asset-retirement estimates.