Neil Mehta : Rick, first question to you is just on M&A. You talked about the two property acquisitions last year. How do you think about balancing incremental bolt-ons relative to buying back your stock? And what do you think the activity set around M&A could look like in 2023.
Rick Muncrief : Neil, that’s a great question. The foundation for us is really the high bar that we’ve always had on transactions. And so we’ll look at transactions. If it makes sense, we’ll compare and contrast that with what you’re talking about the share repurchases. And I think what you saw, that’s the beauty of our model. We had an earlier question about that. The beauty of our model is we can do a little of all those. And so we paid some great dividends, the share repurchases took place, we were able to pay cash for two very accretive acquisitions, bolt-ons. And so I think that’s a winning combination. It really is. Now, I do think that you’re going to continue to see consolidation in our space. I think there’s consolidation needs to take place, and it’s healthy for our industry.
And I’m very much in that camp. For us, I can tell you we’re going to continue to be disciplined and thoughtful and once again, think about over the long haul. And these be something that can compete. We’ve got a wonderful portfolio. And so we’ll always — that will always be something we look at as an option.
Neil Mehta : And a follow-up for the team is just on the outlook for natural gas. You shared your comments around the oil markets. Gas is a lot more uncertain. It does feel like we might need to see a supply response in order to calibrate the market given where inventories are. So just perspective on the gas macro in 2023? And then how is the lower flat price for gas changing the way Devon is approaching its activity program in 2023. Do you see any changes that you need to make on the margin to respond to the margin environment?
Rick Muncrief : Yes. Neil, I’ll start and then I’ll have Jeff follow-up, clean up any of my comments. But I think for us, we were on record is going out there a year ago, where we felt like gas actually, some of the commodity price has actually got a little bit ahead of itself. And we’re a little surprised it went up quite as fast as it did. I can also say that it’s come down a little faster than I thought it would as well. But I think it’s driven by two things. Number one, certainly was Freeport with the — you take 2 Bs a day. There is a cumulative impact of that export capability being lost. And then the second thing is probably in a lot of parts of the country, a little milder winter. Natural gas is still — we all know this it’s still somewhat weather-dependent.
It’s a lot different than crude oil. And so I think that for us, we’re going to continue to stay as oily as we can for as long as we can. I can assure you. We just think that’s a winning combination. Obviously, there’s some strong gas guys out there, they probably are more appropriate to answer the questions. But Jeff, how are you looking at it longer term?
Jeff Ritenour : Yes. You bet, Neil. Thanks for the question. And I think I would echo Rick’s comments. We continue to believe that longer term, there’s going to be increased demand for natural gas out of the U.S. given the LNG projects that are going to be built out. Obviously, as we all know, that’s still a couple of years out. And in the meantime, we’re going to be susceptible to some volatility depending on what weather does and other dynamics like Freeport that impact the market. As Rick also mentioned, we view ourselves as an oil company and 80%, 90% of our revenues are around oil. So we’re more focused there. To your second part of your question, Neil, hasn’t changed our game plan for this year or going forward as it relates to activity? The answer is no. Again, most of all of our activity is oil-focused and driven by the prices that we see there and the cost structure. So no big change to our game plan as a result of what we’ve seen in the natural gas markets.
Rick Muncrief : One thing I may add is even some are more gassy development actually is here in the Anadarko. But you have to remember that a big part of that is on Meramec. And so that’s a lot different kind of project than, I’d say, an Appalachia or a Haynesville-type project. Many of these wells IP 1,500 barrels a day of condensate. So they are high liquid content and that’s what drives returns. That’s what drives our interest in it.
Operator: Our next question comes from Doug Leggate from Bank of America.
Doug Leggate : Well, Jeff, everybody, I guess someone else stole my variable dividend question, so I’ll have to go with something else. But anyway, nice to be on the call. Two related questions, guys, if I may. And I guess, Jeff, they both might be for you. A year ago on this call, you talked about an ultra-low breakeven around $30. And in your press release yesterday, you talked about — presentation rather. You talked about a $40 breakeven. It seems that with the moderate inflation, I guess, expectations, those two numbers don’t really seem to align. Can you walk through what’s changed about $40, $10 increase in breakeven is what you’re trying to communicate?
Jeff Ritenour : Yes. No, you bet, Doug. So no question, the cost structure, as we’ve been talking about, has moved higher on a year-over-year basis. We had the benefit for the better part of 2022 given the supply chain work that we did and the great work that the teams did to kind of lock in, kind of firm contracts with term. You’re starting to see some of that unwind now as Clay referenced earlier. And so that contract refresh has resulted in the higher cost structure that you’re seeing in this year. And so that’s really what’s driven that breakeven higher. Now there are some other impacts as you’re well aware, our cash taxes, we expect to be higher this year as we’ve utilized the NOLs in 2022. That’s been an impact that’s driving that cost higher.
But far and away, I know everybody is tired of talking about it, I certainly am as well. But it’s the inflationary impact that we’ve seen across, frankly, every cost category and you use the word moderate, I would actually choose a different adjective. When you think about most of these cost categories we’ve seen anywhere between 30% and 50% kind of inflation, depending on which cost category you’re talking about, that’s what we’re walking into in 2023. And again, I’d like to think we’ve protected ourselves well and benefited from the other side of that for the bulk of 2022. But certainly, as we refresh contracts in the fourth quarter of last year, walking into the first and second quarter of this year, you’re seeing some of that impact, and it’s certainly driven that breakeven higher.
Doug Leggate : I guess I was referencing moderate versus the fourth quarter. But yes, you’re quite correct. Thanks, Jeff, for correcting. Well, thanks for the clarification. I guess my follow-up, it might be for you, Jeff, and it might be for Rick, but I’m looking at the free cash flow in the fourth quarter of 2022. And it’s basically the same as the free cash flow in the fourth quarter of 2021 with higher oil and gas price. And I guess my question is that with the deferred tax, it looks like that’s going to move lower to your point versus the fourth quarter. On a normalized basis, Q4 would probably be lower than a year ago than — if the deferred tax moves per your guidance. So I guess my question is, I don’t want to say free cash flow has peaked but it kind of feels like outside of a commodity call, it kind of has.
And so when you think about creating value in an inflationary environment, how do you expand free cash flow outside there, I say, of something like an acquisition. What do you do to drive value accretion, which is ultimately a function of free cash flow expansion? I’ll leave it there.
Jeff Ritenour : Yes. I appreciate the question. You’re spot on. I mean, that’s why our focus here internally, and Clay referenced this in his comments earlier, is around the focus on that cost structure, the productivity and the efficiency of the wells that we’re drilling. That’s the piece that we can control, right? Obviously, we don’t have a lot of help on the revenue side. You’re certainly correct to the extent that commodity prices go higher, which we frankly expect that to happen given what we’ve seen in the market. That certainly would be incremental free cash flow to us but we can’t count on that. And so what we’re focused on as a company internally is around our cost structure and being more efficient every day in the field, in the office on the things that we can control.
And so the good news, as Clay referenced, is we’re continuing to see improvement on that front. We’re continuing to squeeze white space out of the Gantt chart and on a day-to-day on each of our projects, but it’s got to be focused around cost structure because that’s what we can control and that’s how we can drive greater margins relative to the inflationary environment we’re seeing today.
Doug Leggate : I appreciate the answer, Jeff. I guess I was thinking about taking out someone else’s cost because you have got a strong track record of M&A, but I’ll leave it there.
Jeff Ritenour : Yes. Well, Doug, I’ll just add on, and again, just to echo Rick’s comments earlier, we continue to be believers that consolidation is going to happen in the space, and that certainly is going to be a driver of that. We feel like we’re well positioned to take advantage of those opportunities. But as you’ve seen from us in the past, we’ve got a really high bar as it relates to what we would bring into the portfolio and to how it would compete with the assets that we’ve got. But again, we can’t — that’s hard to control as well the timing and the nature of those transactions. So we got to stay focused on what we can control, which is the work we’re doing day to day.
Operator: Our next question comes from Paul Cheng from Scotiabank.
Paul Cheng : Two questions, please. In your press release, it seems like in the fourth quarter, the lateral length for the well tied in is about 17% lower than the third quarter. Is that a structural reason? Or it just so happened that for other reasons that, that end up to be every single basin, your lateral length is lower? And also maybe Clay, in your press release, you also said there’s a negative 55 million barrel of oil — negative reserve adjustment or revision. What’s the — what area related to that, what’s causing the negative revision there? And then a second question is that do you have a net debt medium to longer-term target? I know just mentioning that you’re going to pay down the debt based on the maturity, but is there a gross net or net debt target you have in my say, what would be a par pay for the company longer term?
Clay Gaspar : Paul, it’s Clay. I’m going to jump in on the reserves question, and then I’ll let Jeff handle the debt question. So one, I appreciate the question. I’m really — I want to stress this very importantly. We are super confident in our reserves booking process, the quality of our reserves. This is one of the hidden benefits actually from our merger. WPX had one auditor. Devon had another. We’ve actually brought in a third party to look at both sets of books and just take a brand-new refresh this year, which has been a great process and inevitably, there’s gives and takes, but — and we just — we were very, very much in line with this world-class new look, fresh auditor. The nature of reserves in general is that we — there’s no strong incentive to overbook.
There’s lots of incentives to — there’s a strong disincentive to overbook. And so we want to make sure that we have a conservative outlook as designed by the SEC. I think that the general phrase is much more likely to go up and down. But sometimes you have — with a five-year rule, there’s things that move around. And so specifically to the oil question, you hinted at there was some movement in the rig dedications and the rig focus from some of the Texas assets in Delaware to a little bit more New Mexico focus. And that caused some of those wells to fall off in the five-year rule. And so they fall off one category. Obviously, they can come on in other parts of the additions as well. And so that tends to balance. But when you look at the overall quality of the reserves year after year, there’s lots of really important hints to look at, finding in development cost as a run rate.
If you think about PUD percentage booking, you think about PUD conversion percentage, there’s a lot of things that are kind of very important to look at. When you watch all of those, Devon is in a very, very strong position. We feel very confident about our reserves. There’s one other piece and a nuance of the reserves booking that’s very important. When you — first thing you do is you’re looking at price revisions. So you make a change on price. The second thing you start looking at are things like cost structure and all of that. And in our case, in everyone’s case, but in our case, in particular, our LOE ticked up year-over-year, and that falls into a reserves, a non-price-related revision. And so it’s in that bucket. It’s really as a result of higher inflation due to prices, but it doesn’t quite fit into that to that price revision category.
So there’s some interesting nuances. I just want to emphasize the confidence that I have personally and the team has in our reserves process. I’ll hand it to Jeff and let him talk that.
Paul Cheng : Before, Jeff, can you also talk — comment about the lateral length in the fourth quarter that is about 17% lower shorter than the third quarter. Is there any structural reason or it’s just a one-off because of other reasons?
Scott Coody : Paul, this is Scott. I’ll jump in real quick and then pass it over to Jeff for the debt question. But the key driver of the shorter lateral length is largely the incorporation of Validus. You brought online in the Eagle Ford, you brought online about 30 wells in Eagle Ford. So that by nature of the drilling configuration there, they’re shorter laterals but overall, if you exclude that impact, largely, everything else was close to a 2-mile ladder, which is in line of our previous trends. So that’s going to be the big variance there and probably all things equal. You should see that kind of weighting be very similar going forward given the capital plan that we have planned for 2023. Jeffrey?
Jeff Ritenour : Yes, Paul, I think your last question was around our net debt to EBITDA and any targets that we have related to that. What we’ve talked about historically internally and externally was kind of a 1x net debt-to-EBITDA target. As you heard in my opening comments, we’re well below that today. And we’re very comfortable, frankly, with our overall leverage position. As we highlighted in the materials, we’ve got a strong investment grade credit rating. We have really positive conversations as it relates to the rating agencies. And frankly, just given the strength of our — the core of our business, we feel really good about where we are. And as I mentioned in my opening comments, that allows us to be less aggressive trying to take down the absolute debt level.
We feel really good with the maturities coming due here over the next, call it, two to three years, our expectation is we’ll just take those out as they mature and wouldn’t expect us to step up any incremental debt reduction in addition to that. Now certainly, should market conditions change or something else come to light that might change our point of view, we would adapt and be flexible given the cash balance that we have and the free cash flow we expect to generate and I’ll just reiterate something Rick mentioned earlier, which is that’s one of the beauties of our financial model is it provides us a lot of balance to do multiple things, whether it’s debt reduction, variable dividend, stock buybacks are certainly even evaluate some cash transactions.
So we feel really good where we are on the leverage, and we’ll expect to just take those maturities as they come due over the next couple of years.
