Oil prices have been rising steadily over the past few months. Thanks to OPEC support, the US oil benchmark, WTI, recently rose above $ 57 a barrel, the highest level since last year. Meanwhile, rough can have more room to run, given the fact that it is just starting to bounce back and US producers declare self-control.
Oil producers are starting to make money after cutting costs for much of the past year. One of the best positions oil supplies for the current environment is Devon Energy (NYSE: DVN), which now makes it a top buy.
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In a position to thrive at lower oil prices
Devon Energy has worked hard over the past year to reduce its costs so that it can work at lower oil prices. The company sold assets at higher costs and used the cash to pay off debt, which reduced its interest costs. That move was on track to achieve $ 300 million in sustainable cash cost savings by the end of last year.
The company has since taken its cost-saving initiatives to another level by agreeing a merger-equivalent transaction with WPX Energy. The agreement enables him to increase his cost savings to $ 575 million by the end of this year. Devon will only need an average of $ 33 a barrel in 2021 to generate the cash to drill enough new boreholes to maintain its current production level. Add it to a strengthening balance sheet thanks to the debt reduction plan, and Devon can thrive at lower oil prices. It can cover its capital program and 2.5% –yield yield with less than $ 40 to save oil this year.
The strategy is about to pay big dividends
With crude prices currently higher than the level Devon needs to maintain its current operations, it is on track to generate significant excess cash. At $ 50 WTI, for example, Devon could produce more than $ 1.25 billion in free cash, with the figure rising above $ 2 billion if crude oil averaged $ 60 this year. That’s a lot of money for an oil company that currently has $ 12 billion market capitalization.
Devon has a range of options for that money. It can use the funds to pay off more debt, drill additional boreholes to increase its production, or return it to dividends and repurchases to shareholders. Since Devon already has $ 2.1 billion in cash on its balance sheet, it has the necessary funds to achieve its goal of reducing its debt by $ 1.5 billion in the short term. Meanwhile, it does not seem likely that the company will build up its drilling program any time soon. The oil market needs no new supply, given the current headwinds and the fact that OPEC is withholding its production to raise prices. It therefore looks very likely that Devon will return most of the free cash flow it delivers to shareholders this year.
The primary method is its variable dividend program, which the company plans to apply this year now that it has closed its merger with WPX Energy. With the strategy, the company will pay out up to 50% of its excess free cash each quarter, provided it has a cash balance of more than $ 500 million, a strong balance sheet and constructive commodity price prospects. As the company currently meets the criteria, it should start making these incremental payouts soon. These additional dividends can be significantly higher than the base payout, given the amount of excess cash the company is likely to deliver this year.
An ideal way to earn higher oil prices
Devon Energy’s strategy to transform into an ultra-cheap oil producer is beginning to bear fruit. It is about to produce a huge amount of cash this year thanks to the recent improvement in oil prices. While not the only oil stock to benefit from this setback, it is striking among its competitors as it plans to return some of its windfall to shareholders via its variable dividend program. The ability to immediately reap the rewards of higher oil prices is why Devon is my best position as the best oil stock to buy at the moment.