Devon Energy Corporation
Devon Energy Corporation
Sales: $4.3 billion (2002)
Stock Exchanges: American
Ticker Symbol: DVN
NAIC: 211111 Crude Petroleum and Natural Gas Extraction
With its headquarters in Oklahoma City, Oklahoma, publicly traded Devon Energy Corporation is the largest independent oil and gas producer based in the United States. It is also a leading North American independent processor of natural gas and natural gas liquids. Devon is ranked as one of the world's 50 largest oil companies. While most of its proved reserves are located in Colorado, New Mexico, Texas, and Wyoming, Devon also has exploration and production assets in Canada, South America, west Africa, the Caspian Sea, and China. Approximately 60 percent of these reserves are in the form of natural gas.
Company Founded in 1971
Devon was founded in Oklahoma City in 1971 by John W. Nichols and his son J. Larry Nichols. The elder Nichols was raised in Ardmore, Oklahoma, and graduated from the University of Oklahoma with a degree in accounting in 1936. He then became a certified public accountant in Oklahoma City, where he learned the oil business by auditing the books of area oil companies. He became so knowledgeable about how the tax laws impacted the oil industry that in 1950 he was credited with creating the first public oil and gas drilling fund to be registered with the Securities and Exchange Commission. His partner was Oklahoma oilman F.G. "Blackie" Blackwood. Over the next two decades their company, Blackwood & Nichols Co., grew into one of the area's leading oil and gas companies. In 1969 he and his son incorporated Devon Energy Corporation in Oklahoma, but the company dates its history to 1971 when Larry Nichols was able to actively participate in the privately held business—after taking an unusual sidetrack for an oilman. Nichols earned a geology degree from Princeton University, followed by a law degree from the University of Michigan, and then moved to Washington in 1968 to spend a year clerking for Justice Tom Clark and Chief Justice of the Supreme Court, Earl Warren. Nichols then spent another three years in Washington working for assistant U.S. Attorney General William Rehnquist, who would also later become chief justice. Urged by his father, Larry Nichols then returned to Oklahoma City to help run Devon. A director and vice-president from the outset, he became executive vice-president and general counsel in 1973, president of the company in 1976, and chief executive officer in 1980. His father retained the chairmanship, and although he supposedly retired from the day-to-day running of the business during the 1980s, he remained actively involved in the business. It was not until 2000, when he was 85 years old, that he relinquished the chairmanship to his son.
In a 2003 Oil & Gas Journal profile Larry Nichols recalled the early days at Devon: "We started this company with my father, myself, an accountant, and a couple of clerical staff." Over the years, Devon would grow through acquisitions, essentially completing a significant purchase each year, then parlaying its size to go after even larger targets. Because the major oil companies were looking overseas for exploration opportunities during the 1970s, Devon focused on already producing North American properties, hoping to emerge as one of the dominant players among the 400 publicly traded independents working the same field. The company looked to apply modern technology to already exploited properties that could be bought at reasonable prices. The focus was on natural gas, which at the time was a surplus commodity, but the Nicholses believed that the industry would soon experience a change in the cycle and natural gas would emerge as a scarce commodity and rise in price. Because the same situation prevailed in Canada, Devon soon set its sight north of the border as well. In general, it was a conservatively run organization, but a key to the company's success over the years had been its willingness to buck traditional thinking. An example of this tendency to go against the grain came in 1981 when Devon acquired its first interest in the San Juan Basin of New Mexico, an area that within a few years became one of the top natural gas providers in the lower 48 states. For funding, Devon in the first decade of operation relied on innovative partnerships it created for European investors.
The Nicholses preferred to acquire properties when most of the competition was not in the market. In June 1982, Devon acquired the U.S. oil and gas interests from the Canadian firm of Cominco for $31 million, but it was at this point that the Nicholses and their management team became aware of a sea change: Contraction in the industry was resulting in a lot of attractive properties going on the market but too much cash was chasing them. Adhering to its conservative approach, Devon had targeted properties that could realize a 20 to 25 percent rate of return. Now, prices were such that returns would average less than 15 percent. In order to participate and maintain its pattern of growth, management felt that it had to change strategy.
Master Limited Partnership Launched in 1985
After being on the sidelines for more than a year, in January 1984 Devon decided to create a master limited partnership in order to attract investors and return to pursuing acquisitions. Units in an MLP were registered and traded like stock, thus offering liquidity to investors, who were generally trapped in other forms of oil and gas partnerships. Investors were to receive quarterly cash distributions based on net cash flow, as opposed to dividends. In addition to tapping new sources of funding, Devon, acting as general partner, would also be able to use the units to acquire properties. In short, an MLP could combine the favorable tax benefits of limited partnerships with the liquidity and operating ability of a corporation. Devon spent 18 months studying MLPs already in operation, then in July 1985 launched Devon Resource Investors, trading on the Devon name while offering investors the benefits of an MLP. The company rolled in some $42 million in property, with an 85 to 15 percent mix of gas to oil. Unlike most general partners of MLPs, Devon acquired a stake, buying a 38 percent interest, or a 25 percent share of the total assets. To assure investors that Devon had a long-term interest in Devon Resource, the company entered into an agreement not to sell its interest without the permission of its underwriter, Paine Webber. The goal of the MLP was to make quarterly cash distributions equal to half of its net cash flow.
Oil prices collapsed in the mid-1980s, which forced many independents out of business and adversely impacted the fortunes of Devon and its MLP. Commodity prices dropped and the cost of managing the partnership rose. Moreover, changes in tax laws in 1986 also made the investment less attractive. As a result, Devon Resource posted a string of eight losing quarters, and management reassessed its strategy. Rather than return to the simplified structure of a private company, Devon Energy elected to go public, after concluding that bank funding was likely to dry up for independents for a number of reasons. Thus, in April 1988 Devon Energy merged with Devon Resource, along with a privately held fund, Devon-Smedvig 1973 Oil & Gas Program Ltd., to form a larger, publicly traded version of Devon Energy. When energy stocks tanked in mid-1988, Devon's shares lost over a third of their value within a matter of weeks, but as would be the case throughout its history, Devon was able to prosper by operating out of sequence with the rest of the industry. Assets acquired years earlier in the San Juan Basin now became quite attractive, due to advances in technology that allowed exploiters to tap into gas trapped in coal seams previously ignored by drillers because of water problems. Not only did Devon extract this gas, it received attractive federal tax credits to do so. In 1989, Devon returned to profitability. Its annual revenues at this stage totaled less than $30 million, but the company was poised for an impressive run during the 1990s, when it aggressively acquired producing properties.
Devon made several small deals in 1990 and 1991 before completing its first major acquisition as a public company in July 1992: the $122 million purchase of Hondo Oil and Gas Company of Roswell, New Mexico. Devon picked up some 2,700 properties and 5,300 producing oil and gas wells spread across 13 states, but situated mostly in Texas, Oklahoma, New Mexico, and Wyoming. Furthermore, Devon added 180,000 to 200,000 net acres of undeveloped leases and 3,200 miles of seismic information related to both the producing and undeveloped sites. Another major acquisition followed a year later when Devon paid $54 million to oil and gas properties in the San Juan Basin. As would be the case with all of Devon's acquisitions, these properties complemented the company's current holdings, and in many cases set up the next acquisition. At this stage, Devon did not carry much debt and as a result was able to prosper whether commodity prices were high or low. While low prices hurt highly leveraged competitors, Devon was able to hold back on drilling and take advantage of acquisition possibilities. During periods of high prices, the company could realize greater revenues and have even more funds to earmark for new properties. In fiscal 1993 Devon posted record results in terms of production, revenues, profits, and shareholders' equity. Revenues totaled $98.8 million for the year, a significant increase over the previous year's $71.6 million. Net income grew from $14.6 million in 1992 to $20.5 million in 1993.
Devon is well positioned to continue its extraordinary path of growth and value creation for its shareholders.
Alta Energy Acquired in 1994
During several years of low energy prices in the 1990s, Devon bought a large number of properties. In March 1994 the company completed its next significant purchase, paying $66 million for Denver-based Alta Energy Corporation. Devon's total proved oil and gas reserves increased by 37 percent. Of particular importance was the Grayburg-Jackson Field located in southeast New Mexico, which fit nicely with Devon's other holdings in the area. During the final weeks of 1995, the company supplemented another core area of operation, Wyoming, where Devon had enjoyed success in drilling for coalbed methane. It spent $50.3 million to acquire oil and gas properties and a gas processing plant in the region. The pickups in New Mexico and Wyoming were not without risk, however. According to Oil & Gas Investor, "Devon has seemingly been in the wrong places at the wrong times—holding natural gas properties in the Rocky Mountains and the San Juan Basin during the miserable early months of 1996, for example—only to come out smelling like a rose when pipeline extensions came on line."
In December 1996, Devon completed its largest acquisition to that point, trading more than $250 million in stock for the North American onshore oil and gas properties of Kerr-McGee Corporation, which received 31 percent of Devon's stock as well as three seats on its board. The deal boosted Devon's reserves by 46 percent, bolstered its Wyoming presence, and also added some interests in Canada. Devon's next big deal added to the company's Canadian holdings. In 1998 it used another $750 million in stock to acquire Northstar Energy Corp. to achieve critical mass in Canada, adding 550 billion cubic feet of natural gas and 36 million barrels of oil and natural-gas liquids located in Alberta and British Columbia. As a result of this transaction, Devon became a $2 billion company in market capitalization and one of the top 15 U.S.-based independents. In a lesser deal in 1998, Devon paid $57.5 million to acquire natural gas properties in Alberta from a subsidiary of Canadian Occidental Petroleum Ltd.
Devon's penchant for completing ever larger acquisitions on an annual basis continued in 1999, when Devon acquired Pennz-Energy, the oil and gas business of Pennzoil Co., in a stock swap. Once again, Larry Nichols's ability to shun conventional thinking paid off. According to Forbes, "In 1997 oil was going for as much as $26 a barrel and many producers borrowed money and bought each other out. At the height of the frenzy, Pennzoil got a $6.4 billion offer (including assumed debt) from Union Pacific Resources—and rejected it. Nichols went the other way. He used profits from selling oil to pay down debt and prepare for the inevitable crash. The next year oil prices dipped to $10. That's when he started talking to Pennzoil about selling some assets. Devon wound up buying Pennzoil's oil and gas exploration and production operations for a measly $2.6 billion, a bargain that appeared even cheaper after Nichol's eliminated $50 million a year in operating costs. Thrown in essentially free: a 5% interest in a 4-billion-barrel oilfield in Azerbaijan." Doubled in size as a result, Devon now cracked the top 10 of U.S.-based independent oil and gas companies. For 1999 Devon topped $1 billion in revenues for the first time, increasing from $604 million in 1998 to $1.14 billion. With the Pennzoil assets available for the full year, in 2000 Devon's revenues approached $2.6 billion and the company posted net earnings of $730 million.
With the dawn of the new century, Devon continued its pattern of growth through opportunistic acquisitions. In 2000 Devon paid $3.5 billion in cash and the assumption of debt to add Houston-based Santa Fe Snyder Corp. In addition to supplementing Devon's holding in the Rocky Mountains, Permian Basin, and Gulf of Mexico, the deal also included assets in South America, southeast Asia, and west Africa. Devon now became a top five independent. In 2001 Devon engineered a $3.5 billion takeover of Mitchell Energy & Development Corp. (completed in 2002), a deal that increased its reserve base by 38 percent. In particular, it greatly enhanced the company's presence in the important Fort Worth Basin. Devon then completed the $4.6 billion acquisition of Anderson Exploration Ltd., which solidified Devon's position in Canada, as it now became the country's third largest gas producer. Revenues in fiscal 2002 exceeded $4.3 billion, making Devon the 47th largest oil company in the world, according to Petroleum Intelligence Weekly. Devon struck next in 2003 when in a $3.5 billion stock deal, plus the assumption of $1.8 billion in debt, it acquired Houston-based Ocean Energy. This acquisition elevated Devon to the top spot among U.S. independent producers of oil and gas, with the ability to produce 2.4 billion cubic feet of natural gas and 250,000 barrels of oil and gas liquids per day. In addition, Devon became the largest independent deepwater Gulf of Mexico leaseholder with over 500 deepwater blocks, and also held 29 million net undeveloped acres around the world. Annual revenues were projected to approach $6 billion. Some analysts were concerned that Devon had taken on too much debt, but management took steps to sell off some $1.5 billion in assets picked up in the Anderson and Mitchell acquisitions, freeing itself of a large portion of debt. Nevertheless, interest payments for 2003 were an estimated $550 million. For a company that for decades had been cautious about taking on debt, it was a significant departure. But given Devon's track record, there was every reason to believe that the company would find a way to maintain its pattern of ongoing prosperity.
- "Old" Devon Energy Corporation is formed.
- "New" Devon Energy begins operations when J. Larry Nichols joins father, John W. Nichols.
- Larry Nichols becomes CEO.
- Devon becomes a public company.
- Hondo Oil & Gas Company becomes first major acquisition.
- Acquisition of PennzEnergy makes Devon a top ten independent.
- Ocean Energy Acquisition makes Devon largest U.S.-based independent.
Devon Energy Corporation; Devon Energy Production Company, L.P.; Devon Canada Corporation; Devon Gas Services, L.P.
BP p.l.c.; Burlington Resources Inc.; Royal Dutch/Shell Group of Companies.
Danker, Jessica, "Devon Success Strategy Not Tied to Market," Journal Record, May 27, 1994.
Duey, Rhonda, "Deal of the Century," Oil & Gas Investor, April 1997, p. 55.
Egan, John, "Beyond the Law," FW, January 9, 1990, p. 34.
Fisher, Daniel, "Odd Man In," Forbes, September 3, 2001, p. 66.
Fletcher, Sam, "Devon Energy Puts Early Focus on Long-Term Strategy," Oil & Gas Journal, September 22, 2003, p. 38.
Gold, Russell, "Devon Looks Good, But Could Stumble If Gas Prices Drop," Wall Street Journal, July 16, 2003, p. C1.