Devon Earns $705 Million in Third Quarter



Devon Energy Corporation on Wednesday reported net earnings for the quarter ended September 30, 2006, of $705 million, or $1.59 per common share ($1.57 per diluted common share). These results compare with third-quarter 2005 net earnings of $744 million, or $1.66 per common share ($1.63 per diluted common share).

For the nine months ended September 30, 2006, Devon earned $2.3 billion, or $5.11 per common share ($5.05 per diluted common share). Net earnings for the nine months ended September 30, 2005, were $2.0 billion, or $4.22 per common share ($4.15 per diluted common share).

Third-quarter 2006 reported net earnings of $705 million were reduced by certain items securities analysts typically exclude from their published estimates. Adjusting for these items, Devon earned $743 million, or $1.66 per diluted share. The adjusting items are described in detail in this news release.

"Our third-quarter exploration results were highlighted by the successful test of the deepwater Jack #2 well and drilling our fourth significant discovery in the lower Tertiary trend," said J. Larry Nichols, chairman and chief executive officer. "Our producing properties are also performing well. Oil and gas production in the third quarter was up both year-over-year and sequentially as we produced more than 600 thousand equivalent barrels per day."

Lower Tertiary Achievements Lead Operations Highlights

Devon drilled 740 exploration and development wells in the third quarter of 2006. Of the total wells drilled, 731 were successful. Following are highlights of third-quarter exploration and development activity:

  • Devon and its co-owners announced the results of a production test of the deepwater Jack #2 well in the Gulf of Mexico's lower Tertiary trend. During the test, the Jack #2 flowed at a sustained rate of 6,000 barrels of oil per day from approximately 40 percent of the total net pay measured in the well. The successful production test was an important milestone in moving the Jack project toward sanctioning and development. Devon has a 25 percent working interest in the Jack prospect.
  • Also in the lower Tertiary trend, the company increased its working interest in the Cascade project from 25 percent to 50 percent. Devon and equal-partner Petrobras plan to develop Cascade using a floating production, storage and offloading vessel. The partners anticipate first production from Cascade in late 2009.
  • Elsewhere in the lower Tertiary trend, Devon and its co-owners announced an oil discovery on the Kaskida prospect. Kaskida is Devon's fourth discovery in the lower Tertiary trend and its first in the Keathley Canyon deepwater lease area. Devon has identified 12 additional exploratory prospects on its acreage in Keathley Canyon. The company believes that Kaskida is the largest of its four lower Tertiary discoveries to date.
  • In the Barnett Shale in north Texas, Devon began integrating the properties of Chief Holdings LLC in the third quarter. Devon acquired Chief on June 29, 2006. The company drilled and completed 141 wells in the Barnett Shale in the third quarter bringing its total producing wells in the field to 2,607. Devon exited the third quarter producing approximately 660 million cubic feet of gas equivalent per day from the Barnett Shale.
  • Devon continued its successful horizontal drilling program in the Groesbeck area in east Texas. The company's third 100 percent working interest well in the Nan-Su-Gail field flowed natural gas at an initial rate of 32 million cubic feet per day. The company also commenced drilling high working interest horizontal wells in three additional fields in the Groesbeck area in the quarter. The three wells are in various stages of drilling and completion.
Oil and Gas Production Increases; Pre-Tax Earnings at $1 Billion

Sales of oil, gas and natural gas liquids in the third quarter of 2006 were $2.3 billion. This was unchanged from the third quarter of 2005. After expenses, Devon's pre-tax earnings exceeded $1 billion.

Combined oil, gas and natural gas liquids production averaged 602 thousand oil equivalent barrels (Boe) per day in the third quarter of 2006. This was one percent greater than third-quarter 2005 average production of 598 thousand Boe per day. Compared with the second quarter of 2006, daily production increased four percent in the most recent quarter. The properties acquired from Chief Holdings LLC in June of 2006 contributed nine thousand Boe per day to third-quarter production.

Crude oil and natural gas liquids prices increased in the third quarter of 2006 compared with the third quarter of 2005. Devon's third-quarter 2006 average realized oil price increased 48 percent to $64.17 per barrel compared with $43.45 per barrel in the third quarter of 2005. The increase in Devon's realized oil price is attributable to a higher market price for crude oil and to the expiration of oil price hedges at December 31, 2005. None of Devon's oil production is hedged in 2006. The average realized price for the company's natural gas liquids increased nine percent to $34.98 per barrel in the third quarter of 2006 compared with $32.23 per barrel in the third quarter of 2005.

The realized price of natural gas decreased over the same comparative period. Devon's realized price for natural gas decreased 21 percent to $5.62 per thousand cubic feet in the third quarter of 2006 compared with $7.13 per thousand cubic feet in third quarter of 2005.

Marketing and midstream revenues increased three percent to $417 million while related expenses increased three percent to $303 million. This resulted in a three percent increase in marketing and midstream operating profit to $114 million in the third quarter of 2006 compared with the third quarter of 2005.

Lease operating expenses (LOE) increased 20 percent to $382 million in the third quarter of 2006. Higher ad valorem taxes and repair and maintenance costs driven by rising oil field service and supply costs contributed to the increase. Higher well workover and transportation costs also contributed to the increase in LOE.

Production taxes increased 13 percent to $92 million in the third quarter of 2006. Higher international production tax rates, primarily in China, contributed to the increase.

Depreciation, depletion and amortization (DD&A) of oil and gas properties increased 23 percent to $604 million in the third quarter of 2006 compared with the same quarter in 2005. Unit DD&A was $10.91 per Boe in the third quarter of 2006.

General and administrative (G&A) expenses increased 48 percent to $104 million compared with the third quarter of 2005. Higher employee-related costs were the largest component of the increase in G&A.

Interest expense decreased 32 percent to $112 million in the third quarter of 2006. Interest expense of $164 million in the third quarter of 2005 included $51 million resulting from early redemption of long-term debt.

Income Tax Rate Declines to 31 Percent of Pre-Tax Earnings

Income tax expense was $317 million in the third quarter of 2006, or 31 percent of pre-tax earnings. Of the total income tax expense, $231 million was current and $86 million was deferred. Third-quarter 2005 income tax expense was 35 percent of pre-tax earnings.

As a result of finalizing Devon's 2005 tax return in the third quarter of 2006, the company accelerated the utilization of certain deferred tax benefits. This resulted in a $35 million reclassification of deferred tax benefits to reduce current tax expense in the third quarter of 2006.

Devon Retires $678 million of Debt; Cash Flow Funds Capital Expenditures

Devon retired $678 million of long-term debt in the third quarter of 2006. This contributed to a reduction in net debt to adjusted capitalization to 23 percent at September 30, 2006. The ratio was unchanged when compared to September 30, 2005, and lower when compared to the June 30, 2006, level of 26 percent.

Cash flow before balance sheet changes was $1.5 billion in the third quarter of 2006. This allowed Devon to fund $1.4 billion in total capital expenditures. Cash and short-term investments totaled $1.3 billion as of September 30, 2006. Reconciliations of cash flow before balance sheet changes, net debt and adjusted capitalization, which are non-GAAP measures, are provided in this release.

Items Excluded from Published Earnings Estimates

Devon's reported net earnings include items of income and expense that are typically excluded by securities analysts in their published estimates for the company's financial results. These items and their effects upon third-quarter 2006 reported earnings were as follows:

  • A change in fair value of derivative financial instruments decreased earnings by $22 million pre-tax ($14 million after tax).
  • An unrealized gain on natural gas derivative instruments increased earnings by $5 million pre-tax ($3 million after tax).
  • A reduction in the carrying value of oil and gas properties decreased earnings by $51 million pre-tax ($27 million after tax).

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