Devon Energy Corp (NYSE: DVN) gave investors a double dose of disappointment in late February. Not only did its fourth-quarter earnings report fall well short of expectations due to production problems, but the company didn't join most of its large shale producing peers in announcing a big cash return to investors either through a share repurchase program or a higher dividend. Instead, its CEO asked for patience on the company's fourth-quarter conference call because the company wanted to pay off a bit more debt before ramping up cash returns. That didn't sit well with some investors, who promptly sold the stock.
That said, those investors who remained patient didn't have to wait too long. That's because less than two weeks later the oil giant gave them an unexpected raise and planned to buy back a significant portion of the company's outstanding stock in the coming year.
A little rewind
On Feb. 21, Devon Energy's management team hosted its fourth-quarter conference call. CEO Dave Hager led off by saying:
Before I get into my prepared remarks, I wanted to address a topic that we have received a lot of questions on, and that is why we have not authorized a share-repurchase program. Let me be clear. As we generate more cash through our operations and asset divestiture programs, we will reward our shareholders through higher dividends and opportunistic share buybacks. However, our near-term priority is to use a significant portion of our large cash balance to reduce the debt associated with our upstream business.
The reason Devon received so many questions about a buyback is that many of its rivals had already announced one, which has become the "in" thing among U.S. oil companies in the past year. ConocoPhillips (NYSE: COP) and Anadarko Petroleum (NYSE: APC) were among those that spearheaded this trend. In ConocoPhillips' case, it started buying back its stock last year after completing its asset sale plan, repurchasing $3 billion in shares (or about 5% of those outstanding) with plans to buy back another $2 billion this year. Anadarko, meanwhile, decided to use $2.5 billion of its cash pile to buy back stock (enough at the time to retire about 10% of shares outstanding) before bumping that up to $3 billion this year. Others followed suit, with smaller programs like Hess (NYSE: HES) unveiling plans to repurchase $500 million of its stock last fall.
That said, despite having $2.9 billion in cash on its balance sheet, Devon Energy wanted to pay off up to $1.5 billion in debt before joining the buyback brigade.
And then this happened
However, Devon recently sealed a deal to sell a portion of its Barnett Shale assets for $533 million, which enabled the company to hit the $1 billion target it set last year as part of its 2020 Vision. Because of that, Devon is now in an even more comfortable financial position, which enabled it to announce a series of financial moves.
First, it offered to repurchase up to $1 billion of its debt from creditors that currently hold more than $4.5 billion of its outstanding borrowings. Second, it authorized a $1 billion stock buyback over the next year, which is enough money to reduce its outstanding share count by 6% at the current price. Finally, the company increased its dividend 33%, though the reset rate remains well below where it was in early 2016 when Devon slashed the payout 75% to preserve cash. That said, Hager noted that this first step "demonstrates our firm commitment to enhance shareholder value" and that "as market conditions permit, we will continue to pursue opportunities to further increase cash returns to our shareholders." That's just what Hess, Anadarko, and ConocoPhillips did this year, with Hess adding $1 billion to its buyback program and the other two bolstering theirs by $500 million due to higher-than-expected oil prices.
Why investors should take notice
Those increasing cash returns have paid immediate dividends for investors in those oil stocks. As the table below shows, ConocoPhillips, Anadarko, and Hess have outperformed Devon and their peer group by a wide margin since announcing their initial repurchase programs:
Return since announcing buyback
Peer group return over that time frame
Devon Energy's return over that time frame
That's why Devon's unexpected early announcement of a buyback program is a welcomed surprise. Over the coming months, it has the potential to reverse its underperformance, especially given that at 6% it represents a meaningful portion of its outstanding shares. That's why I think Devon's stock looks like an incredible opportunity right now.
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