Shares of Devon Energy Underperform the Market. What Do the Numbers Tell Us?

Standing out among the Street's worst performers today is Devon Energy, a fossil fuel exploration and production company whose shares slumped -4.1% to a price of $66.8, 17.0% below its average analyst target price of $80.48. The average analyst rating for the stock is buy. DVN underperformed the S&P 500 index by -3.7% during today's afternoon session, but outpaced it by 84.6% over the last year with a return of 69.2%.

Devon Energy Corporation, an independent energy company, primarily engages in the exploration, development, and production of oil, natural gas, and natural gas liquids in the United States. The company is classified within the energy sector. The stock prices of energy companies are highly correlated with geopolitics: economic crisis, war, commodity prices, and politics all have an effect on the industry. For this reason, energy companies tend to have high volatility -— meaning large and frequent price swings. As global energy supplies shift towards renewables, we may see a reduced correlation between energy prices and geopolitical events.

Devon Energy's trailing 12 month P/E ratio is 7.0, based on its trailing Eps of $9.52. The company has a forward P/E ratio of 7.2 according to its forward Eps of $9.26 -- which is an estimate of what its earnings will look like in the next quarter. As of the third quarter of 2022, the average Price to Earnings (P/E) ratio for US energy companies is 9.11, and the S&P 500 has an average of 15.97. The P/E ratio consists in the stock's share price divided by its earnings per share (Eps), representing how much investors are willing to spend for each dollar of the company's earnings. Earnings are the company's revenues minus the cost of goods sold, overhead, and taxes.

A significant limitation with the price to earnings analysis is that it doesn’t account for investors’ growth expectations in the company. For example, a company with a low P/E ratio may not actually be a good value if it has little growth potential. Conversely, companies with high P/E ratios may be fairly valued in terms of growth expectations.

When we divide Devon Energy's P/E ratio by its projected 5 year earnings growth rate, we see that it has a Price to Earnings Growth (PEG) ratio of 0.21. This tells us that the company is largely undervalued in terms of growth expectations -- but remember, these growth expectations could turn out to be wrong!

An analysis of the company's gross profit margins can help us understand its long term profitability and market position. Gross profits are the company's revenue minus the cost of goods only, and unlike earnings, don't take into account taxes and overhead. Here's an overview of Devon Energy's gross profit margin trends:

Date Reported Revenue ($) Cost of Revenue ($) Gross Margins (%) YoY Growth (%)
2021-12-31 13,117,000,000.0 5,703,000,000.0 56.52 63.45
2020-12-31 4,503,000,000.0 2,946,000,000.0 34.58 -13.4
2019-12-31 6,674,000,000.0 4,009,000,000.0 39.93 13.66
2018-12-31 8,439,000,000.0 5,474,000,000.0 35.13 n/a
  • Average gross margin: 41.5 %
  • Average gross margin growth rate: 21.2 %
  • Coefficient of variability (lower numbers indicating more stability): 24.7 %

Devon Energy's gross margins indicate that its underlying business is viable, and that the stock is potentially worthy for investment -- as opposed to speculative -- purposes.

Companies have many costs that arise independently from their core business: cost of maintaining debt, rent payments, capital expenditures, depreciation, etc. When all of these separate cash flows are taken into account, we are left with the company's free cash flow, which for Devon Energy was $2,892,000,000.00 as of its last annual report. This represents the amount of money that is available for reinvesting in the business, or for paying out to investors in the form of a dividend. With its strong cash flows, DVN is in a position to do either -- which can encourage more investors to place their capital in the company. Over the last four years, the company's free cash flow has been growing at a rate of 457.1% and has on average been $937,000,000.00.

Another valuation metric for analyzing a stock is its Price to Book (P/B) Ratio, which consists in its share price divided by its book value per share. The book value refers to the present liquidation value of the company, as if it sold all of its assets and paid off all debts). Devon energy's P/B ratio is 4.0 -- in other words, the market value of the company exceeds its book value by a factor of more than 4, so the company's assets may be overvalued compared to the average P/B ratio of the Energy sector, which stands at 1.45 as of the third quarter of 2022.

Devon Energy is likely fairly valued at today's prices because it has a very low P/E ratio, an elevated P/B ratio, and an irregular stream of positive cash flows with an upwards trend. The stock has strong growth indicators because of its consistently average gross margins, and a PEG ratio of less than 1. We hope this preliminary analysis will encourage you to do your own research into DVN's fundamental values -- especially their trends over the last few years, which provide the clearest picture of the company's valuation.

The above analysis is intended for educational purposes only and was performed on the basis of publicly available data. It is not to be construed as a recommendation to buy or sell any security. Any buy, sell, or other recommendations mentioned in the article are direct quotations of consensus recommendations from the analysts covering the stock, and do not represent the opinions of Market Inference or its writers. Past performance, accounting data, and inferences about market position and corporate valuation are not reliable indicators of future price movements. Market Inference does not provide financial advice. Investors should conduct their own review and analysis of any company of interest before making an investment decision.