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Devon Doubles PRB Position, Joins EnLink to 'Stack' Opportunities in Oklahoma

Devon Energy Corp. on Monday paid $2.5 billion to tack on 80,000 net surface areas in Oklahoma's emerging stacked reservoirs and double its position in the Powder River Basin, two onshore areas that CEO Dave Hager said were among the best in North America.

Denver-based Felix Energy LLC, a privately held portfolio company of EnCap Investments, agreed to a $1.9 billion deal for the Oklahoma acreage in Blaine, Canadian and Kingfisher counties. The leasehold, immediately northeast of Devon's legacy acreage, is in an area that's come to be known by some producers as the STACK because it generally is in the Sooner Trend of the Anadarko (Basin) mostly in Canadian and Kingfisher counties. Devon also is paying $600 million to an undisclosed seller for 253,000 net acres in the PRB.

Separately, Devon’s majority owned partnership EnLink Midstream agreed to pay $1.55 billion for Tall Oak Midstream LLC, which gathers and processes most of the Felix production in Oklahoma (see related story).

"Devon has made several bold moves over the past few years transforming the company into a leading North American onshore producer with a portfolio that provides an advantaged platform to generate long-term value growth for shareholders," Hager said during a conference call. "These acquisitions materially core up our position in two of the best emerging North America development oil plays and further upgrade our asset portfolio."

The STACK combines the best attributes of Devon's positions in the Eagle Ford Shale and in the Delaware sub-basin in the Permian, Hager said. Like the Delaware, the Oklahoma reservoirs offer "tremendous stack pay opportunities" in the Meramec, Osage and Woodford formations.

"Importantly, we would not have been able to secure the Felix assets without EnLink," he said. "We leveraged the midstream relationship to secure the Felix transaction. The EnLink relationship gave us a strategic advantage in this transaction. We would not have been able to place the value on Felix we did unless EnLink controlled the midstream. The same is true of EnLink in regards to the Tall Oak acquisition. Knowing Devon controlled the upstream assets in case of development created differentiating value."

The exploration and production (E&P) giant, which now controls more than half of EnLink, two years ago created the master limited partnership with Crosstex Energy Inc. (see Shale DailyOct. 21, 2013).

"And because of the depth of our portfolio, we have an abundance of opportunities. This allows us to high grade our portfolio, accelerate value recognition of these noncore assets and also allows us to use these upstream proceeds to reduce debt." At strip pricing, the cash margin "expands 5% pro forma" once the purchases are completed.

Asked how the Felix transaction came about, Hager said the management team in the past year had been looking at transactions that could enhance the portfolio. Felix always was at the top of the list as far as potential targets in Oklahoma, he said.

Situated in the over-pressured oil window of the play, the Felix properties include low-risk development targets in up to 10 intervals including multiple landing zones in the Meramec, Osage and Woodford formations. Given the potential for numerous landing zones and tighter infill spacing opportunities across this high-quality acreage, Devon has identified 1,400 risked locations, with an unrisked inventory of more than 3,000 locations.

The Oklahoma properties include 9,000 boe/d of current output and estimated risked resource of approximately 400 million boe. Based on an estimated value of the existing daily production in excess of $300 million, Devon estimates it is paying about $20,000/surface acre or $4.00/boe of risked resource.

"This acquisition has captured a significant position in the most economic portion of the STACK oil window, which is emerging as one of the top resource plays in North America," said E&P chief Tony Vaughn. "Combined with our current acreage position we have created a best-in-class STACK position that provides significant resource and drilling inventory to support visible growth for many years to come."

Devon now plans to run 10 rigs (gross) in the STACK in 2016. Of its estimated $2.5 billion total capital spending plan next year, about $500 million is to be dedicated to the new assets. On some of its STACK acreage, Devon works with Cimarex Energy Co. (see Shale Daily, May 7, 2014).

Once the Felix purchase is completed in early 2016, Devon's production in the STACK play, which includes the Cana-Woodford development, is expected to increase to an industry-leading total of nearly 80,000 boe/d. The company now has exposure to 430,000 net surface acres in the STACK with 5,300 risked locations.

The acquired PRB acreage, south of Devon's legacy position in Wyoming, includes production of 7,000 boe/d, 85% weighted to oil. The leasehold "is most prospective for the Parkman, Turner and Teapot formations," Vaughn noted.

The contiguous acreage in the PRB allows for extended-reach horizontal drilling, and Devon has conservatively identified 500 development-ready locations with potential for as many as 2,700 unrisked locations as appraisal drilling further derisks multiple formations.

"This opportunistic transaction adds scale and scope to our Powder River Basin operations, creating the largest and highest quality acreage position in the industry," said Vaughn. "Our Powder River programs are delivering some of the best returns at Devon, and we will apply our unique basin knowledge to efficiently develop and derisk this premium acreage position."

After deducting the value of current production at $30,000/flowing barrel and $100 million of midstream infrastructure, Devon secured the undeveloped leasehold at roughly $1,100/acre. Devon's PRB leasehold would double to more than 470,000 net acres once the deal is completed, with Rockies business unit's production increasing to more than 30,000 boe/d.

For the STACK leasehold, Felix would receive $1.05 billion in equity and $850 million cash. The PRB seller would be paid  $300 million in equity and $300 million cash.

To pay for the new leaseholds, Devon is marketing several assets that it expects to bring in $2-3 billion over the next year. The Access Pipeline in Canada now is being marketed in a deal estimated to be worth $700-800 million. Devon also has identified 50,000-80,000 boe/d of production from other assets that potentially could be sold including the Carthage assets in a gassy area of East Texas, as well as property in the Mississippian Lime, Granite Wash and "select" Permian assets in the Midland sub-basin.

Moody's Investors Service placed Devon's ratings on review for downgrade, and Standard & Poor's Ratings Services (S&P) revised its outlook to negative from stable.

"The two acquisitions bring a number of strategic benefits to Devon and have a material equity financing component," said Moody's Vice President Gretchen French. "However, the associated production and cash flows from the acquisitions are expected to be modest in 2016 and 2017 and may not be sufficient to offset our expectation of Devon generating very weak leveraged cash margins, returns and cash flow-based leverage metrics in 2016 and into 2017, even with the assumption of a certain degree of success in Devon's asset divestiture program."

S&P credit analyst Ben Tsocanos said the transactions are "generally favorable for Devon's business risk, as they add sizable complementary acreage with large inventories of light oil drilling locations, though relatively little current production...We project debt leverage, however, to deteriorate to about 32% funds from operations (FFO) to debt in 2016 pro forma for the transaction, which is below our expectation of 45% for the current rating...We project FFO to debt to improve back above 45% in 2017 and 2018 based on a recovery in oil and natural gas prices under our current price deck assumptions."

Sanford Bernstein's senior energy analyst Bob Brackett said the acquisitions "make sense...from an operational perspective. They are located in basins where Devon is a major operator and knows the geology. We note that both the PRB and Anadarko Basin were the only regions in the U.S. in which Devon grew production in 3Q2015, so the existing positions appear to compete for capital."

Although the PRB seller was not disclosed, "a quick cross-check of the wells" suggests they are legacy assets of Oklahoma City-based RKI Exploration & Production LLC, Brackett said. 

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