DEVON ENERGY CORP/DE - 10-Q Quarterly Report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q


(Mark One)
þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended March 31, 2004


o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File No. 000-30176

Devon Energy Corporation

(Exact Name of Registrant as Specified in its Charter)


Delaware (State or Other Jurisdiction of Incorporation or Organization)		73-1567067 (I.R.S. Employer Identification Number)


20 North Broadway Oklahoma City, Oklahoma (Address of Principal Executive Offices)		73102-8260 (Zip Code)

Registrant’s telephone number, including area code:
(405) 235-3611

Former name, former address and former fiscal year, if changed from last report.
Not applicable

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes x No o

The number of shares outstanding of Registrant’s common stock, par value $.10, as of March 31, 2004, was 239,795,000.

DEFINITIONS

As used in this document:

“AECO” means the price of gas delivered onto the NOVA Gas Transmission Ltd. System.

“Bbl” or “Bbls” means barrel or barrels.

“Bcf” means billion cubic feet.

“Boe” means barrel of oil equivalent, determined by using the ratio of one Bbl of oil or NGLs to six Mcf of gas.

“Brent” means pricing point for selling North Sea crude oil.

“Btu” means British Thermal units, a measure of heating value.

“Inside FERC” refers to the publication Inside F.E.R.C.’s Gas Market Report.

“LIBOR” means London Interbank Offered Rate.

“MBbls” means thousand barrels.

“MMBbls” means million barrels.

“MBoe” means thousand Boe.

“MMBoe” means million Boe.

“MMBtu” means million Btu.

“Mcf” means thousand cubic feet.

“MMcf” means million cubic feet.

“NGL” or “NGLs” means natural gas liquids.

“NYMEX” means New York Mercantile Exchange.

“Oil” includes crude oil and condensate.

“Domestic” means the properties of Devon in the onshore continental United States and the offshore Gulf of Mexico.

“Canada” means the division of Devon encompassing oil and gas properties located in Canada.

“International” means the division of Devon encompassing oil and gas properties that lie outside the United States and Canada.

DEVON ENERGY CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS


	March 31,			December 31,
	2004			2003
	(Unaudited)
	(In millions, except share data)
ASSETS
Current assets:
Cash and cash equivalents	$	1,481		$	1,273
Accounts receivable		1,063			946
Inventories		70			72
Fair value of financial instruments		18			13
Income taxes receivable		11			11
Investments and other current assets		42			49

Total current assets		2,685			2,364

Property and equipment, at cost, based on the full cost method of accounting for oil and gas properties ($3,249 and $3,336 excluded from amortization in 2004 and 2003, respectively)		29,177			28,546
Less accumulated depreciation, depletion and amortization		10,727			10,212

		18,450			18,334
Investment in ChevronTexaco Corporation common stock, at fair value		623			613
Fair value of financial instruments		19			14
Goodwill		5,440			5,477
Other assets		360			360

Total assets	$	27,577		$	27,162

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable:
Trade	$	769		$	859
Revenues and royalties due to others		380			315
Income taxes payable		207			15
Current portion of long-term debt		763			338
Deferred revenue		42			56
Accrued interest payable		90			130
Merger related expenses payable		14			21
Fair value of financial instruments		284			153
Current portion of asset retirement obligation		38			42
Accrued expenses and other current liabilities		103			142

Total current liabilities		2,690			2,071

Other liabilities		350			349
Asset retirement obligation, long-term		633			629
Debentures exchangeable into shares of ChevronTexaco Corporation common stock		680			677
Other long-term debt		7,274			7,903
Preferred stock of a subsidiary		—			55
Fair value of financial instruments		86			52
Deferred income taxes		4,334			4,370
Stockholders’ equity:
Preferred stock of $1.00 par value.
Authorized 4,500,000 shares; issued 1,500,000 ($150 million aggregate liquidation value)		1			1
Common stock of $0.10 par value.
Authorized 800,000,000 shares; issued 242,379,000 in 2004 and 239,767,000 in 2003		24			24
Additional paid-in capital		9,174			9,066
Retained earnings		2,082			1,614
Accumulated other comprehensive income		409			569
Deferred compensation and other		(30	)		(32	)
Treasury stock at cost: 2,584,000 shares in 2004 and 3,677,000 shares in 2003		(130	)		(186	)

Total stockholders’ equity		11,530			11,056

Total liabilities and stockholders’ equity	$	27,577		$	27,162

See accompanying notes to consolidated financial statements.

DEVON ENERGY CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS


	Three Months Ended March 31,
	2004			2003
	(Unaudited)
	(In millions, except per share amounts)
Revenues:
Oil sales	$	581		$	256
Gas sales		1,121			874
Natural gas liquids sales		119			107
Marketing and midstream revenues		417			434

Total revenues		2,238			1,671

Production and operating costs and expenses:
Lease operating expenses		257			165
Transportation costs		53			41
Production taxes		62			47
Marketing and midstream operating costs and expenses		332			356
Depreciation, depletion and amortization of property and equipment		572			296
Accretion of asset retirement obligation		11			7
General and administrative expenses		77			49

Total production and operating costs and expenses		1,364			961

Earnings from operations		874			710
Other income (expenses):
Interest expense		(118	)		(130	)
Effects of changes in foreign currency exchange rates		(6	)		22
Change in fair value of financial instruments		4			10
Other income		22			8

Net other expenses		(98	)		(90	)

Earnings from continuing operations before income tax expense and cumulative effect of change in accounting principle		776			620
Income tax expense:
Current		203			35
Deferred		79			165

Total income tax expense		282			200

Earnings from continuing operations before cumulative effect of change in accounting principle		494			420
Cumulative effect of change in accounting principle, net of income tax expense of $10 million		—			16

Net earnings		494			436
Preferred stock dividends		2			2

Net earnings applicable to common stockholders	$	492		$	434

Basic earnings per share:
Earnings from continuing operations	$	2.06		$	2.66
Cumulative effect of change in accounting principle		—			0.10

Net earnings applicable to common stockholders	$	2.06		$	2.76

Diluted earnings per share:
Earnings from continuing operations	$	2.00		$	2.57
Cumulative effect of change in accounting principle		—			0.10

Net earnings applicable to common stockholders	$	2.00		$	2.67

Weighted average common shares outstanding – basic		239			157

Weighted average common shares outstanding – diluted		247			163

See accompanying notes to consolidated financial statements.

DEVON ENERGY CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME


	Three Months Ended March 31,
	2004			2003
	(Unaudited)
	(In millions)
Net earnings	$	494		$	436
Other comprehensive income (loss), net of tax:
Foreign currency translation adjustments ¹		(61	)		293
Reclassification adjustment for derivative losses reclassified into oil and gas sales ²		43			83
Change in fair value of outstanding hedging positions ³		(148	)		(112	)
Unrealized gains (losses) on marketable securities ⁴		6			(8	)

Comprehensive income	$	334		$	692


¹ net of income tax benefit of:	$	7		$	—
² net of income tax expense of:		(29	)		(52	)
³ net of income tax benefit of:		95			67
⁴ net of income tax (expense) benefit of:		(4	)		5

See accompanying notes to consolidated financial statements.

DEVON ENERGY CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS


	Three Months Ended March 31,
	2004			2003
	(Unaudited)
	(In millions)
Cash flows from operating activities:
Earnings from continuing operations	$	494		$	420
Adjustments to reconcile earnings from continuing operations to net cash provided by operating activities:
Depreciation, depletion and amortization of property and equipment		572			296
Accretion of asset retirement obligation		11			7
Accretion of discounts on long-term debt, net		4			8
Effects of changes in foreign currency exchange rates		6			(22	)
Change in fair value of derivative instruments		(4	)		(10	)
Deferred income tax expense		79			165
Gain on sale of assets		(4	)		—
Other		8			4
Changes in assets and liabilities:
(Increase) decrease in:
Accounts receivable		(117	)		(254	)
Inventories		2			(6	)
Investments and other current assets		1			2
Increase (decrease) in:
Accounts payable		102			228
Income taxes payable		194			65
Accrued interest and expenses		(98	)		(69	)
Deferred revenue		(14	)		—
Long-term other liabilities		(13	)		(7	)

Net cash provided by operating activities		1,223			827

Cash flows from investing activities:
Proceeds from sale of property and equipment		11			26
Capital expenditures		(890	)		(512	)

Net cash used in investing activities		(879	)		(486	)

Cash flows from financing activities:
Proceeds from borrowings of long-term debt, net of issuance costs		—			50
Principal payments on long-term debt		(211	)		(50	)
Issuance of common stock, net of issuance costs		108			3
Dividends paid on common stock		(24	)		(8	)
Dividends paid on preferred stock		(2	)		(2	)

Net cash used in financing activities		(129	)		(7	)

Effect of exchange rate changes on cash		(7	)		8

Net increase in cash and cash equivalents		208			342
Cash and cash equivalents at beginning of period		1,273			292

Cash and cash equivalents at end of period	$	1,481		$	634

See accompanying notes to consolidated financial statements.

DEVON ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. Summary of Significant Accounting Policies

The accompanying consolidated financial statements and notes thereto of Devon Energy Corporation (“Devon”) have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Accordingly, certain disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted. The accompanying consolidated financial statements and notes thereto should be read in conjunction with the consolidated financial statements and notes thereto included in Devon’s 2003 Annual Report on Form 10-K.

In the opinion of Devon’s management, all adjustments (all of which are normal and recurring) have been made which are necessary to fairly state the consolidated financial position of Devon and its subsidiaries as of March 31, 2004, and the results of their operations and their cash flows for the three-month periods ended March 31, 2004 and 2003.

2. Business Combinations and Pro Forma Information

Ocean Energy, Inc.

On April 25, 2003, Devon completed its merger with Ocean Energy Inc. (“Ocean”). In the transaction, Devon issued 0.414 shares of its common stock for each outstanding share of Ocean common stock (or a total of approximately 74 million shares). Also, Devon assumed approximately $1.8 billion of debt (current and long-term) from Ocean.

Devon acquired Ocean primarily for the significant production, development projects and exploration prospects in both the deepwater Gulf of Mexico and internationally, and the additional producing assets onshore United States and in the shallower shelf regions of the Gulf of Mexico.

The calculation of the purchase price and the allocation to assets and liabilities as of April 25, 2003, are shown below.

DEVON ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


	(In millions,
	except share
	price)
Calculation and preliminary allocation of purchase price:
Shares of Devon common stock issued to Ocean stockholders		74
Average Devon stock price	$	48.05

Fair value of common stock issued	$	3,546
Plus estimated merger costs incurred		114
Plus fair value of Ocean convertible preferred stock assumed by a Devon subsidiary		64
Plus fair value of Ocean employee stock options assumed by Devon		124

Total purchase price		3,848

Plus fair value of liabilities assumed by Devon:
Current liabilities		650
Long-term debt		1,436
Deferred revenue		97
Asset retirement obligation, long-term		121
Other noncurrent liabilities		89
Deferred income taxes		962

Total purchase price plus liabilities assumed	$	7,203


Fair value of assets acquired by Devon:
Current assets		256
Proved oil and gas properties		4,262
Unproved oil and gas properties		1,060
Other property and equipment		85
Other noncurrent assets		39
Goodwill (none deductible for income taxes)		1,501

Total fair value of assets acquired	$	7,203

Pro Forma Information

Set forth in the following table is certain unaudited pro forma financial information for the three-month period ended March 31, 2003. The information for the three-month period ended March 31, 2003, has been prepared assuming the Ocean merger was consummated on January 1, 2003. All pro forma information is based on estimates and assumptions deemed appropriate by Devon. The pro forma information is presented for illustrative purposes only. If the transactions had occurred in the past, Devon’s operating results might have been different from those presented in the following table. The pro forma information should not be relied upon as an indication of the operating results that Devon would have achieved if the transactions had occurred on January 1, 2003. The pro forma information also should not be used as an indication of the future results that Devon will achieve after the transaction.

DEVON ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


	Pro Forma
	Information
	Three Months
	Ended
	March 31, 2003
	(In millions, except
	per share amounts
	and production
	volumes)
Revenues:
Oil sales	$	461
Gas sales		1,083
Natural gas liquids sales		114
Marketing and midstream revenues		434

Total revenues		2,092

Production and operating costs and expenses:
Lease operating expenses		224
Transportation costs		51
Production taxes		59
Marketing and midstream operating costs and expenses		356
Depreciation, depletion and amortization of property and equipment		454
Accretion of asset retirement obligation		9
General and administrative expenses		75

Total production and operating costs and expenses		1,228

Earnings from operations		864
Other income (expenses):
Interest expense		(139	)
Dividends on subsidiary’s preferred stock		(1	)
Effects of changes in foreign currency exchange rates		22
Change in fair value of financial instruments		10
Other income		8

Net other expenses		(100	)

Earnings from continuing operations before income tax expense and cumulative effect of change in accounting principle		764
Income tax expense:
Current		58
Deferred		206

Total income tax expense		264

Earnings from continuing operations before cumulative effect of change in accounting principle		500
Cumulative effect of change in accounting principle, net of income tax expense of $19 million		29

Net earnings		529
Preferred stock dividends		2

Net earnings applicable to common stockholders	$	527

DEVON ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


	Pro Forma
	Information
	Three Months
	Ended
	March 31, 2003
	(In millions, except
	per share amounts
	and production
	volumes)
Basic earnings per share:
Earnings from continuing operations	$	2.16
Cumulative effect of change in accounting principle		0.12

Net earnings applicable to common stockholders	$	2.28

Diluted earnings per share:
Earnings from continuing operations	$	2.07
Cumulative effect of change in accounting principle		0.12

Net earnings applicable to common stockholders	$	2.19

Weighted average common shares outstanding – basic		230
Weighted average common shares outstanding – diluted		241
Production volumes:
Oil (MMBbls)		17
Gas (Bcf)		221
NGLs (MMBbls)		5
MMBoe		59

3. Debt

New Credit Facility

In April 2004, Devon replaced its existing $1.0 billion of unsecured long-term credit facilities with a $1.5 billion five-year unsecured revolving credit facility (the “Senior Credit Facility”). The Senior Credit Facility includes (i) a five-year revolving Canadian subfacility in a maximum amount of U.S. $500 million and (ii) a $1 billion sublimit for the issuance of letters of credit, including letters of credit under the Canadian subfacility.

The Senior Credit Facility matures on April 8, 2009, and all amounts outstanding will be due and payable at that time unless the maturity is extended. Prior to each anniversary subsequent to April 8, 2004, Devon has the option to extend the maturity of the Senior Credit Facility for one year, subject to the approval of the lenders.

Amounts borrowed under the Senior Credit Facility may, at the election of Devon, bear interest at various fixed rate options for periods of up to twelve months. Such rates are generally less than the prime rate. Devon may also elect to borrow at the prime rate. The Senior Credit Facility currently provides for an annual facility fee of $1.9 million that is payable quarterly in arrears.

The agreement governing the Senior Credit Facility contains certain covenants and restrictions, including a maximum allowed debt-to-capitalization ratio of 65% as defined in the agreement.

As of April 30, 2004, there were no borrowings under the Senior Credit Facility. The available capacity under the Senior Credit Facility as of April 30, 2004, net of outstanding letters

DEVON ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

of credit, was approximately $1.3 billion.

$3 Billion Term Loan Credit Facility

On April 9, 2004, Devon repaid the $635 million outstanding balance under its $3 billion term loan credit facility with cash on hand. This amount is classified as current portion of long-term debt in the March 31, 2004, consolidated balance sheet. As a result of the early repayment, Devon will expense the remaining $16 million of unamortized issuance costs in April 2004.

4. Derivative Instruments and Hedging Activities

Devon recorded in its consolidated statements of operations gains of $4 million and $10 million in the first quarter of 2004 and 2003, respectively, for the change in fair value of derivative instruments that do not qualify for hedge accounting treatment, as well as the ineffectiveness of derivatives that do qualify as hedges.

As of March 31, 2004, $281 million of net deferred losses on derivative instruments accumulated in “accumulated other comprehensive income” are expected to be reclassified to earnings during the next 12 months assuming no change in forward commodity prices from the March 31, 2004 forward prices. Transactions and events expected to occur over the next 12 months that will necessitate reclassifying these derivatives’ losses to earnings are primarily the production and sale of oil and gas, which includes the production hedged under the various derivative instruments. Presently, the maximum term over which Devon has hedged exposures to the variability of cash flows for commodity price risk is 21 months.

During April 2004, Devon entered into additional interest rate swaps. Following is a table summarizing all the fixed-to-floating interest rate swaps with the related debt instrument and notional amounts as of April 30, 2004.


Debt Instrument	Notional Amount			Floating Rate
4.375% senior notes due in 2007	$	400		LIBOR plus 40 basis points
10.25% bond due in 2005	$	235		LIBOR plus 711 basis points
8.05% senior notes due in 2004.	$	125		LIBOR plus 336 basis points
2.75% notes due in 2006	$	500		LIBOR less 26.8 basis points
7.625% senior notes due in 2005	$	125		LIBOR plus 237 basis points
6.75% senior notes due 2011	$	250		LIBOR plus 213 basis points
6.55% senior notes due 2006	$	146	¹	Banker's Acceptance plus 340 basis points

Converted from $200 million Canadian dollars at a Canadian-to-U.S. dollar exchange rate of $0.7296 as of April 30, 2004.

DEVON ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

5. Earnings Per Share

The following table reconciles the net earnings and common shares outstanding used in the calculations of basic and diluted earnings per share for the three-month periods ended March 31, 2004 and 2003.

Weighted

Net Earnings

Average

Net

Applicable to

Common

Earnings

to Common

Shares

Per

Stockholders

Outstanding

Share


		Page
		No.
Part I. Financial Information
Item 1.	Consolidated Financial Statements
	Consolidated Balance Sheets, March 31, 2004 (Unaudited) and December 31, 2003		6
	Consolidated Statements of Operations (Unaudited) for the Three Months Ended March 31, 2004 and 2003		7
	Consolidated Statements of Comprehensive Income (Unaudited) for the Three Months Ended March 31, 2004 and 2003		8
	Consolidated Statements of Cash Flows (Unaudited) for the Three Months Ended March 31, 2004 and 2003		9
	Notes to Consolidated Financial Statements (Unaudited)		10
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations		24
Item 3.	Quantitative and Qualitative Disclosures About Market Risk		35
Item 4.	Controls and Procedures		36
Part II. Other Information
Item 6.	Exhibits and Reports on Form 8-K		38
Credit Agreement Dated as of April 8, 2004
Certification of CEO Pursuant to Section 302
Certification of CFO Pursuant to Section 302
Certification of CEO Pursuant to Section 906
Certification of CFO Pursuant to Section 906

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