Devon’s $2.5 Billion Shale Grab Prompts Downgrade Warnings

  • Moody's, S&P place Devon debt under review on debt concerns
  • Devon shares plunge most in six years as oil prices slide

Devon Energy Corp. agreed to buy oil-drilling rights across an area the size of Los Angeles from Felix Energy LLC for $2.5 billion, prompting the biggest credit-rating companies to warn they may downgrade Devon’s debt.

The company will acquire rights to search as many as 10 layers of oil- and gas-soaked rock beneath an 80,000-acre swath in Oklahoma for $1.9 billion, it said Monday in a statement. The company will acquire rights to another 253,000 acres in the Powder River Basin in Wyoming for $600 million.

Moody’s Investors Service and Standard & Poor’s placed Devon debt under review for downgrade. Devon will be increasing indebtedness to finance the deal at a time when it’s already squeezed by low energy prices, S&P analyst Ben Tsocanos said in a note to clients. Devon may be overpaying for the assets, John Gerdes, an analyst at KLR Group, said in a note to clients.

“The transactions should have a negative value impact due to the elevated purchase prices,” Gerdes said.

Shares Plunge

Devon plunged the most in seven years. The transactions will be funded with about $1.35 billion of Devon equity and about $1.15 billion of cash, according to the statement. The cash portion initially will come from debt, Gretchen French, a Moody’s analyst, said in a report.

Devon is expanding in the so-called Stack region, a cluster of oil fields where it has been drilling horizontal wells that stretch for 2 miles (3.2 kilometers) for less than $8 million each, down from about $14 million a year ago, according to a presentation on its website. The Powder River assets have “massive upside” of several billion barrels of crude yet to be tapped.

Shares fell 10 percent to $36.44 in New York for the biggest daily drop since November 2008.

“Levering up in this environment will not be well-received,” David Tameron, an analyst at Wells Fargo Securities LLC, said in a note to clients after the deal was announced.

OPEC’s Call

Oklahoma City-based Devon has almost doubled the proportion of its output from oil in the past two years to 41 percent as of Sept. 30, according to data compiled by Bloomberg.

The announcement came as oil extended a decline below $40 a barrel following OPEC’s Dec. 4 decision to maintain production at 31.5 million barrels a day. West Texas Intermediate, the U.S. crude benchmark, dropped 5.8 percent to $37.65 in New York, a six-year low.

“These acquisitions materially core up our position in two of the best emerging North America development oil plays,” Chief Executive Officer Dave Hager said.

Devon is paying about $19,800 an acre for the Oklahoma drilling rights and $1,150 in the Wyoming fields, Gerdes estimated. The Stack drilling rights comprise the area’s “geologic sweet spot,” Bloomberg Intelligence said last week.

Pipeline Assets

Devon said it is also marketing its Access Pipeline in Canada and plans to monetize various upstream assets across its portfolio. The company plans to divest wells pumping the equivalent of as much as 80,000 barrels a day by the end of next year.

The pipeline and oil field disposals will generate $2 billion to $3 billion, which the company will use to “strengthen its financial position,” Devon said.

Separately, EnLink Midstream Partners LP and its general partner, EnLink Midstream LLC, agreed to acquire Tall Oak Midstream LLC, a portfolio company for EnCap Flatrock Midstream, for $1.55 billion, according to the statement.

Tall Oak has assets including gathering pipelines and natural gas processing plants in the same Oklahoma areas where Felix acreage is located. Devon controls EnLink Midstream LP through a 70 percent stake in the general partner. The limited partnership will pay cash in installments for an 84 percent stake. The general partner will issue common units to buy its stake, according to the statement.

Moody’s said it may reduce debt to junk at EnLink Midstream Partners, calling the price high and citing risk that the Tall Oak system, yet to be completed, won’t carry as much gas and oil as expected. Moody’s placed EnLink’s $2.8 billion of Baa3 debt on negative outlook.

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