Devon Energy (DVN) reported lower, but still positive free cash flow for Q1 on May 8. As a result, Devon Energy cut the variable portion of its dividend. This leaves DVN stock with a 5.77% dividend yield, making it popular with value investors.
Devon Energy said that oil production reached an all-time high of 320,000 barrels per day in the first quarter.
However, due to lower prices and higher capex spending operating cash flow was $1.7 billion and free cash flow (FCF) reached $665 million. This was significantly lower than in Q4 when operating cash flow was $1.9 billion, and FCF was $1.1 billion.
So, FCF fell by $435 million or 40% in Q1 from $1.1 billion to $665 million.
Cheap Valuation Despite Dividend Cut
As a result, the company cut its dividend. It did this by reducing the variable portion of the dividend which is based on 50% of the net FCF produced each quarter.
This means that while the fixed dividend portion was kept at 20 cents, the variable portion was reduced from 79 cents to 52 cents. So the total dividend is now $0.72, or $2.88 per share annually. That gives DVN stock an attractive dividend yield of 5.77% at today's price of $49.91.
Moreover, analysts now forecast that earnings per share (EPS) will reach $6.50 this year and $7.02 next year. That makes DVN stock cheap at just 7.7x earnings this year and 7.1x for next year.
So, given its high yield and low multiples, DVN stock has become popular with value investors who believe it is inexpensive.
Shorting OTM Puts for Income
Investors can make extra income by shorting out-of-the-money (OTM) put options in DVN stock. For example, the June 9 expiration option chain, 31 days from now, shows that the $44 strike price puts trade for 50 cents per put contract.
This means that the investor can short this put strike price, which is over 10.7% below today's price, and make a 1.14% yield. That works out to an annualized rate of 13.68%.
To do this the investor secures $4,400 with their brokerage firm. Then they can enter an order to “Sell to Open” 1 put contract at the $44.00 strike price. Their account will immediately receive $50.00. That's why we say the yield is 1.14%, since $50 is 1.14% of $4,400. As long as the stock does not fall to $44.00 on or before June 9, the put price will keep falling as it has no intrinsic value above $44.00.
But even if the investor has to purchase the stock at $44.00 if the option is exercised, they get to own a stock with a dividend yield of 6.55% (i.e., $2.88/$44.00). That is significantly higher than the present 5.77% yield today. So, in effect, this is a cheap way to buy into DVN stock. In the meantime the investor makes 1.14% in income on a monthly basis.
This shows why DVN stock is popular now with value investors.
On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
