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Devon Energy: Synergies, Cash Flow to Boost Stock

Stock MarketsAug 24, 2021 08:01AM ET
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© Reuters Devon Energy: Synergies, Cash Flow to Boost Stock

Devon Energy Corporation (NYSE:DVN) is one of the most undervalued stocks in the market, and could experience significant upside over the next 12 months. The energy company posted its second-quarter earnings on August 3.

Looking at the industry as a whole, Goldman Sachs expects that the latest OPEC+ deal to boost supply will stabilize oil prices, but argues that short-term supply might not meet demand.

Goldman has set an $80 price target on WTI Crude (one of the main oil benchmarks), subsequently causing much optimism for energy stocks. (See DVN stock charts on TipRanks) This author is bullish on DVN stock.

Earnings Beat

Analysts' earnings estimates were crushed as Devon Energy produced 291,000 barrels of oil per day in its second quarter, to beat revenue estimates by $420 million. Furthermore, operating cash flows surged by 85% year-over-year, free-cash flow increased by 600%, and non-GAAP EPS estimates were beaten by $0.07.

The company decided to reward shareholders by declaring a fixed-plus-variable dividend of $0.49 per share, a 44% increase from its previous dividend of $0.34.

Devon Energy's WPX Merger  

In January, Devon Energy completed an all-stock deal with WPX Energy (NYSE:WPX), further strengthening its presence in the Delaware Basin.

It is anticipated that synergies from this deal will improve operating cash flows by 5-10%; a significant improvement considering Devon Energy's trailing 12-month operating margin is 5.94%.

Improvements in Operating Efficiency

Devon Energy has emphasized investing in technology that will boost production volume and lead to cost-saving.

Furthermore, Devon energy has emphasized cash-flow generation over exploration growth, resulting in lower reinvestment rates and better free-cash flow to shareholders. FitchRatings announced on August 19 that it had taken note of the change in strategy, and upgraded the company's credit rating to BBB+ from BBB.

Valuation with Solid Dividend Payments

At 9.51, Devon energy has one of the lowest forward P/E ratios in the market, which is a dream if you're a value investor. It's expected that strong sales growth will lead the way, as the company recovers from the pandemic's disruptions to supply chains.

The company's debt-to-assets ratio decreased by more than 10% over the past quarter. According to Fitch, share repurchases are a strong possibility, and a surge in stock price could follow if such an event is met with the growing asset base.

With a trailing 12-month cash-flow payout ratio of only 9.66%, we can conclude that investors' dividend safety will remain intact, especially with the prospect of further cash-flow improvements.

Wall Street's Take

Overall, the consensus is that Devon Energy is a Strong Buy, based on 13 Buys and two Holds. The average DVN price target of $38 implies 39.2% upside potential to current levels.

Disclosure: At the time of publication, Steve Gray Booyens did not have a position in any of the securities mentioned in this article.

Disclaimer: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities.

Devon Energy: Synergies, Cash Flow to Boost Stock
 

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