Devon Energy (NYSE: DVN) continued to produce record levels of cash during the second quarter, on the back of higher realized per barrel price of oil. During the quarter, the company increased production by 7%, producing over 616,000 BOE per day, as it looked to take advantage of global supply-side shortages. However, shares were only up slightly after-hours despite positive earnings. Devon isn’t the only company benefiting from a better macroeconomic background; competitors such as Occidental Petroleum (NYSE: OXY) and Marathon Oil (NYSE: MOR) have also seen their profits increase significantly.

Strong execution and reduction of costs for the past half a decade have led to costs of production falling to $13 per barrel, which then translated into $60 per barrel of profit during the quarter. The higher realized price per barrel combined with higher volume led to revenue increasing by 132% y-o-y. More importantly, the company beat analysts’ revenue estimates by $880 million. At the same time, the company beat earnings per share (EPS) estimates by 22%, with net profit coming in at $1.93 billion and adjusted earnings coming in at $2.59 per share.

CEO’s comments - “This success was showcased by production from our Delaware-focused program that exceeded guidance expectations, our streamlined cost structure captured the full benefit of higher commodity prices, and we returned record-setting amounts of cash to shareholders. In addition, we took important steps to strengthen the quality and depth of our asset portfolio.”

“As a result of the strong financial and operational performance achieved year to date, we have updated our full-year 2022 guidance,” Muncrief commented. “This improved outlook raises production targets, increases free cash flow projections, and enhances our ability to accelerate the return of capital to shareholders.”

What’s driving Devon’s good fortunes?

Devon Energy has benefited from a couple of big factors over the past year. Firstly,  loose monetary policy has led to record demand for energy, which has driven the price of oil to around $100 per barrel.  Despite the increase in demand, major-oil producers have not increased production by any significant amount, and some countries, such as Russia, have reduced their output as sanctions continue to weigh on production. While some of the supply shortages have reduced as the likes of Libya increased their production, others, such as OPEC, a bloc of major oil-producing nations, have also decided to remain firm on not increasing production as they look to take advantage of higher prices. Furthermore, any chance of increased production by major oil-producing nations has taken a hit in recent months as economic weakness has led to a wait-and-watch approach.

Estimates show that as of July,  demand hovered around 99.2 million barrels per day, indicating an increase of 1.7 mbpd y-o-y, slightly below what forecasts had initially projected. The lower-than-expected demand stems from two issues: firstly, higher oil prices have led to a fall in demand, and secondly, global economic demand is slowly deteriorating due to broader economic weakness. Simultaneously, supply currently stands at around 70 mbpd. Therefore, the difference in demand and supply has led to significant declines in crude oil reserves, which has allowed upstream shale companies such as Devon Energy to increase their own output.

Devon’s outlook and valuation

Net profit margins increased to 33% during the quarter, as lower costs and higher realized prices pushed margins significantly above historical levels. Devon has raised its full-year production outlook by 3%, to 610,000 BOE/per day, bringing estimates of total revenue to around $18-19 billion in 2022.

Devon’s P/E currently stands at 12x, and the company has forward earnings of 6x, which is still above most industry peers who average around 5x forward earnings. With the increase in cash flow Devon increased its dividend yield to 8%, which makes the stock very attractive, and a strong hedge against the current rate of inflation.

Finally, the balance sheet remains healthy as well with total debt standing at $6.5 billion as of the latest quarter. Many players in the shale industry continue to be plagued by high debt, and increasing interest rates should result in a consolidation of shale players, in turn helping the likes of Devon energy pick up important assets such as its recent acquisition of WPX energy.