Devon Energy (NYSE: DVN) divested and dealt across the world as it worked to slim down into a focused and powerful E&P, but it enters 2015 staring at a potential $1.5 billion cash deficit, said Thomas R. Driscoll, analyst, Barclays, in a Feb. 20 report.

Devon completed its noncore U.S. asset divestiture program in 2014 and purchased best-in-class acreage in the Eagle Ford, along with the formation of EnLink Midstream (NYSE: ENLK), with Devon as the majority owner. The company says it is poised to see production growth of up to 25%.

“The company appears to be in a stronger position relative to its old portfolio,” Driscoll said. “However, we think the company will deliver balance sheet adjusted growth on par with peer averages in 2016.”

The midpoint of Devon’s E&P budget is $4.7 billion, which represents about 2.5x 2015’s cash flow estimate excluding robust hedge gains expected to be about $2 billion.

Still, adding in Devon’s hedges, Driscoll said he “still envisions a $1.5 billion cash deficit this year.”

Devon’s Bread And Butter

Devon’s 2015 capex also doesn’t include any spending information for its midstream partners.

Overall, the company’s capex is about 20% lower than its 2014 budget—a modest cut compared to the announced spending by other E&Ps.

Capital would be focused heavily on the Permian and Eagle Ford assets, not a surprise since Devon’s decline rate in the Permian is an estimated 29% based on prior years, said Bob Brackett, senior analyst, Bernstein.

To keep production flat there, the company would need to deliver 35,000 barrels of oil equivalent per day (Mboe/d) of new production, Brackett said.

Enviable, To A Point

Devon can afford to be confident, of course. Revenue from oil, natural gas and natural gas liquids sales totaled $9.9 billion in 2014, a 16% increase from 2013. Revenue growth was linked to the company’s significant increase in U.S. light-oil production. The high-margin growth increased oil sales to 60% of Devon’s total upstream revenues during the year.

In the fourth quarter, upstream revenue was $2.1 billion, a 3% fall compared to the fourth quarter of 2013.

Devon’s financial position remains exceptionally strong with investment-grade credit ratings and cash balances of $1.5 billion at the end of the fourth quarter.

Brackett said Devon follows a similar narrative heard across the E&P space for the earnings seasons: reduce capex, high-grade drilling and achieve positive growth (in their case 20-25% oil production growth).

“In some ways, Devon is in a more enviable position than many, with reasonably attractive oil hedges in place for 2015 and a healthy balance sheet,” Brackett said.

Still, its Eagle Ford inventory, recognized by the company as its highest value asset, may ultimately become a concern.

As mapped out, about 15,000 acres a year are being drained from a 50,000-acre core position, assuming about 250 wells at 60-acre spacing, he said.

Devon’s guidance is for 20-25% production growth, though with about 5% falling NGL volumes compared to 2014.

With higher oil production and lower leverage since divesting non-core assets, Devon should still deliver strong balance sheet adjusted production growth in 2015.

For instance, the company was assuming a 10% cost reduction across most of its capex comparing the fourth quarter of 2015 to 2014. Already in several key areas, Devon has won those cuts and is optimistic it can drive costs down by another 10-15% by the end of the year, helping boost capital efficiency.

But the concern is for the future.

For 2016, “we are concerned that balance sheet adjusted growth will be stymied by the cash shortfall this year, which will likely increase the balance sheet, and a more muted growth profile as any reacceleration in spending in 2016 will not have a full impact on the entire year,” Driscoll said.

Operating Areas

Eagle Ford

  • Devon increased its type curve expectations in DeWitt County with IP rates now expected to be 25% higher than previous estimates. Dewitt will remain the focus of the 2015 plan as the company expects to run an 11-12 rig program in the area this year. Average production in the Eagle Ford in 2015 should surpass 100 Mboe/d.
  • Devon entered 2015 with about 150 drilled but uncompleted wells in the Eagle Ford. Inventory should drift towards 70-75 by year end, Driscoll said.

Permian

  • The Delaware Basin will remain an area of focus for Devon in 2015. About 65% of the planned Permian Basin wells for this year are scheduled for the Delaware. The down-spacing pilot in the Bone Spring is also ongoing this year. The company entered 2015 with about 55 drilled but uncompleted wells in the Permian and plans to drive the inventory toward 20-25 by the end of the year.

Canadian Heavy Oil

  • The ramp-up at Jackfish 3, which reached first oil during the third quarter of 2014, is ahead of schedule.
  • Jackfish 3 exited 2014 at production of 13 Mbbl/d. The drive toward full capacity of 35 Mbbl/d will account for the 20% year over year production increase expected across the heavy oil asset in 2015.