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Devon to Acquire GeoSouthern Energy

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The market rumor proved to be true as oil and gas company Devon Energy Corporation (DVN - Free Report) announced that it will acquire Texas-based oil and gas explorer GeoSouthern Energy for about $6 billion in cash. The market had already reacted positively to the media report on Nov 19. Finally when the deal was announced, the shares ended two cents lower than the previous day’s close. Despite the nominal decline, it appears the market continues to have a positive view with nearly 14.57 millions shares changing hands during the day.

The deal will enhance Devon’s footprint in the Eagle Ford Shale as the acquired assets bring with it an output of 53,000 barrels of oil equivalent (BOE) per day and 82,000 net acres with at least 1,200 undrilled locations. In addition, reserves are estimated at 400 million barrels of oil equivalent, the majority of which is proved reserves.

The existing holdings of GeoSouthern are located in a rich reserve area in DeWitt and Lavaca counties in Texas, with average estimated recoveries per well in DeWitt County exceeding 800,000 BOE.

Most importantly, production from the acquired assets are expected to grow at a compound annual growth rate of 25% for the next few years, reaching a peak production rate of 140,000 BOE per day, a whopping increase of 164.1% from the current production level.

As expected, the acquisition will be primarily funded from Devon’s huge pile of cash and the balance funded from borrowings. Devon generates a significant volume of cash flow each year. The company expects to repay its borrowings from the generated cash flow and proceeds from its monetized assets.

The current boom in oil and natural gas with demand spiralling on a global scale has prompted Devon to strengthen its position in the Eagle Ford, a region with tremendous growth potential. The acquired assets are expected to contribute $800 million in free cash flow from 2015 and increase further going forward.

No doubt, Eagle Ford has now become a hot spot for mergers and acquisitions; the big operators are leveraging their financial strength to expand their presence in the region. In 2011, Marathon Oil Corporation (MRO - Free Report) invested $3.5 billion to acquire acreage from Hilcorp Resources. In Jun 2013, Sanchez Energy Corporation (SN - Free Report) invested $230.1 million to further its presence in this shale.

The increasing exploration and development activity in the region is also attracting the midstream operators. In April 2013, oil and gas pipeline operator, Atlas Pipeline Partners acquired the midstream business from TEAK Midstream for $1 billion.

Devon also has plans in place for transporting and processing the excess volume from the Eagle Ford. The company has already planned to develop its midstream business by forming a midstream master limited partnership (MLP). So, acquiring GeoSouthern Energy, which primarily has upstream operations, will allow Devon to process the additional production from the Eagle Ford shale through its midstream MLP assets.

Devon Energy currently carries a Zacks Rank #3 (Hold).

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