Why Devon Energy shares jumped 12% in August

What happened

Shares of Devon Energy (DVN 3.20%) rebounded 12.4% in August, according to data provided by S&P Global Market Intelligence. Second-quarter results and news that it is buying more cash-generating oil assets fueled the oil producer’s gain. It continued on oil stocksof this year’s fierce rally, with stocks soaring more than 50% on rising crude prices.

So what

Devon Energy started the month of August with a bang. The company reported strong second quarter results, highlighted by record free cash flow. Devon’s free cash flow from operations more than doubled year over year to $2.7 billion. It kept its capital spending at 22% of that total, helping it produce $2.1 billion of free cash, the highest quarterly total in its 51-year history.

This gave Devon Energy a source of free cash flow to return to shareholders. Driven by its innovative fixed and variable dividend program, the company paid investors $1.55 per share in dividends last quarter. This is 22% above its previous rate, setting a new record for the company. Devon also continued to buy back shares. Through the end of July, it repurchased 23.9 million shares, or 4% of outstanding shares, for $1.2 billion. Even with these cash returns, the company’s cash balance increased by $823 million to $3.5 billion from $6.5 billion in debt.

Devon used its cash-rich balance sheet to purchase additional oil properties. It completed its $865 million deal in late July to buy RimRock Oil & Gas’ leasehold interests and related assets in the Williston Basin. A few weeks later, it agreed to buy Validus Energy for $1.8 billion, strengthening its position in Eagle Ford’s shale.

Validus Energy’s deal will be immediately accretive to Devon’s financial metrics, including free cash flow per share. It pays an attractive value of twice cash flow and a free cash flow yield of 30%, which is even cheaper than its RimRock deal. The company expects the acquisition to improve its ability to pay variable dividends in the future.

Now what

Devon Energy is absolutely relishing the rise in oil prices this year, allowing it to produce a huge level of free cash flow. With a rock-solid balance sheet, the company returns most of that windfall to shareholders. It also strategically uses the remainder to make acquisitions that should increase its cash flow in the future. This will give Devon more fuel to continue paying attractive dividends, making it a compelling option for investors looking to profit from rising oil prices.

Matthew DiLallo has no position in any of the stocks mentioned. The Motley Fool has no position in the stocks mentioned. The Motley Fool has a disclosure policy.

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