| DEVON ENERGY CORP/DE Item 1A Risk Factors Our business activities, and the oil and gas industry in general, are subject to a variety of risks |
| Although we have a diversified asset base, a strong balance sheet and a history of generating sufficient cash to fund capital expenditure and investment programs and to pay dividends, if any of the following risk factors should occur, our profitability, financial condition and/or liquidity could be materially impacted |
| Oil, Natural Gas and NGL Prices are Volatile Our financial results are highly dependent on the prices of and demand for oil, natural gas and NGLs |
| A significant downward movement of the prices for these commodities could have a material adverse effect on our estimated proved reserves, revenues and operating cash flows |
| Such a downward price movement could also have a material adverse effect on our profitability, the carrying value of our oil and gas properties and future growth |
| Historically, prices have been volatile and are likely to continue to be volatile in the future due to numerous factors beyond our control |
| These factors include, but are not limited to: • consumer demand for oil, natural gas and NGLs; • conservation efforts; • OPEC production restraints; • weather; • regional market pricing differences; • differing quality of oil produced (ie, sweet crude versus heavy or sour crude) and Btu content of gas produced; • the level of imports and exports of oil, natural gas and NGLs; • the price and availability of alternative fuels; • the overall economic environment; and • governmental regulations and taxes |
| Estimates of Oil, Natural Gas and NGL Reserves are Uncertain The process of estimating oil, gas and NGL reserves is complex and requires significant judgment in the evaluation of available geological, engineering and economic data for each reservoir, particularly for new discoveries |
| Because of the high degree of judgment involved, different reserve engineers may develop different estimates of reserve quantities and related revenue based on the same data |
| In addition, the reserve estimates for a given reservoir may change substantially over time as a result of several factors including additional development activity, the viability of production under varying economic conditions and variations in production levels and associated costs |
| Consequently, material revisions to existing reserve estimates may occur as a result of changes in any of these factors |
| Such revisions to proved reserves could have a material adverse effect on our estimates of future net revenue, as well as our financial condition and profitability |
| Additional discussion of our policies regarding estimating requires significant judgment as discussed in “Item 1A Risk Factors” |
| Our policies regarding booking reserves require proved reserves to be in compliance with the SEC definitions and guidance, and assign responsibilities for reserves bookings to our Reserve Evaluation Group (the “Group”) |
| The policies also require that reserve estimates be made by qualified reserves estimators (“QREs”), as defined by the Society of Petroleum Engineers’ standards |
| All QREs are required to receive education covering the fundamentals of SEC proved reserves assignments |
| The Group is responsible for internal reserves evaluation and certification and includes the Manager — E&P Budgets and Reserves and the Senior Advisor — Corporate Reserves |
| The Group reports independently of any of our operating divisions |
| The Vice President — Planning and Evaluation is directly responsible for overseeing the Group and reports to the President of Devon |
| No portion of the Group’s compensation is dependent on the quantity of reserves booked |
| Throughout the year, the Group performs internal audits of each operating division’s reserves |
| Selection criteria of reserves that are audited include major fields and major changes (additions and 16 _________________________________________________________________ [56]Table of Contents revisions) to reserves |
| In addition, the Group reviews reserve estimates with each of the third-party petroleum consultants as discussed below |
| In addition to internal audits, we engage three independent petroleum consulting firms to perform both external reserves preparation and audits |
| Ryder Scott Company, LP prepared the reserves estimates for all offshore Gulf of Mexico properties and for 98prca of the international proved reserves |
| LaRoche Petroleum Consultants, Ltd |
| audited the reserves estimates for 87prca of the domestic onshore properties |
| AJM Petroleum Consultants prepared estimates covering 46prca of our Canadian reserves and audited an additional 26prca of our Canadian reserves |
| Set forth below is a summary of the reserves which were evaluated, either by preparation or audit, by independent petroleum consultants for each of the years ended 2005, 2004 and 2003 |
| 2005 2004 2003 Prepared Audited Prepared Audited Prepared Audited Domestic 9 % 79 % 16 % 61 % 33 % 37 % Canada 46 % 26 % 22 % — 28 % — International 98 % — 98 % — 98 % — Total 31 % 54 % 28 % 35 % 42 % 21 % “Prepared” reserves are those estimates of quantities of reserves which were prepared by an independent petroleum consultant |
| “Audited” reserves are those quantities of reserves which were estimated by our employees and audited by an independent petroleum consultant |
| An audit is an examination of a company’s proved oil and gas reserves and net cash flow by an independent petroleum consultant that is conducted for the purpose of expressing an opinion as to whether such estimates, in aggregate, are reasonable and have been estimated and presented in conformity with generally accepted petroleum engineering and evaluation principles |
| We follow what we believe to be a rational approach not only to recording oil and gas reserves, but also to subjecting these reserves to reviews by independent petroleum consultants |
| In 2004 and 2003, 63prca of our company-wide reserves were prepared or audited by an independent petroleum consulting firm |
| In 2005, 85prca of our company-wide reserves were prepared or audited by an independent petroleum consulting firm |
| We expect the 2005 percent to be indicative of the coverage provided by independent reviews in 2006 |
| This approach provides a high degree of assurance about the validity of our reserve estimates |
| This is evidenced by the fact that in the past five years, our annual performance related revisions to our reserve estimates, which have been both increases and decreases in individual years, have averaged approximately 1prca of the previous year’s estimate |
| In addition to internal and external reviews, three independent members of our Board of Directors have been assigned to a Reserves Committee |
| The Reserves Committee meets at lease twice a year to discuss reserves issues and policies and periodically meets separately with our senior reserves engineering personnel and our independent petroleum consultants |
| The Reserves Committee assists the Board of Directors with the oversight of the following: • the annual review and evaluation of our consolidated oil, gas and NGL reserves; • the integrity of our reserves evaluation and reporting system; • our compliance with legal and regulatory requirements related to reserves evaluation, preparation, and disclosure; • the qualifications and independence of our independent engineering consultants; and • our business practices and ethical standards in relation to the preparation and disclosure of reserves |
| 17 _________________________________________________________________ [57]Table of Contents The following table sets forth our estimated proved reserves and the related estimated pre-tax future net revenues, pre-tax 10prca present value and after-tax standardized measure of discounted future net cash flows as of December 31, 2005 |
| These estimates correspond with the method used in presenting the “Supplemental Information on Oil and Gas Operations” in Note 15 to our Consolidated Financial Statements included herein |
| Total Proved Proved Proved Developed Undeveloped Reserves Reserves Reserves Total Reserves Oil (MMBbls) 649 363 286 Gas (Bcf) 7cmam296 6cmam111 1cmam185 NGLs (MMBbls) 246 216 30 MMBoe(1) 2cmam112 1cmam599 513 Pre-tax future net revenue (in millions)(2) $ 64cmam956 51cmam671 13cmam285 Pre-tax 10prca present value (in millions)(2) $ 35cmam610 29cmam135 6cmam475 Standardized measure of discounted future net cash flows (in millions)(3) $ 23cmam574 US Reserves Oil (MMBbls) 173 149 24 Gas (Bcf) 5cmam164 4cmam343 821 NGLs (MMBbls) 197 175 22 MMBoe(1) 1cmam232 1cmam049 183 Pre-tax future net revenue (in millions)(2) $ 38cmam118 32cmam389 5cmam729 Pre-tax 10prca present value (in millions)(2) $ 20cmam173 17cmam233 2cmam940 Standardized measure of discounted future net cash flows (in millions)(3) $ 13cmam276 Canadian Reserves Oil (MMBbls) 253 103 150 Gas (Bcf) 2cmam006 1cmam708 298 NGLs (MMBbls) 49 41 8 MMBoe(1) 636 429 207 Pre-tax future net revenue (in millions)(2) $ 17cmam949 15cmam116 2cmam833 Pre-tax 10prca present value (in millions)(2) $ 9cmam912 8cmam786 1cmam126 Standardized measure of discounted future net cash flows (in millions)(3) $ 6cmam631 International Reserves Oil (MMBbls) 223 111 112 Gas (Bcf) 126 60 66 NGLs (MMBbls) — — — MMBoe(1) 244 121 123 Pre-tax future net revenue (in millions)(2) $ 8cmam889 4cmam166 4cmam723 Pre-tax 10prca present value (in millions)(2) $ 5cmam525 3cmam116 2cmam409 Standardized measure of discounted future net cash flows (in millions)(3) $ 3cmam667 (1) Gas reserves are converted to Boe at the rate of six Mcf per Bbl of oil, based upon the approximate relative energy content of natural gas to oil, which rate is not necessarily indicative of the relationship of gas to oil prices |
| NGL reserves are converted to Boe on a one-to-one basis with oil |
| 18 _________________________________________________________________ [58]Table of Contents (2) Estimated future net revenue represents estimated future revenue to be generated from the production of proved reserves, net of estimated production and development costs and site restoration and abandonment charges |
| The amounts shown do not give effect to non-property related expenses such as debt service and future income tax expense or to depreciation, depletion and amortization |
| These amounts were calculated using prices and costs in effect for each individual property as of December 31, 2005 |
| These prices were not changed except where different prices were fixed and determinable from applicable contracts |
| These assumptions yield average prices over the life of our properties of dlra45dtta50 per Bbl of oil, dlra7dtta84 per Mcf of natural gas and dlra32dtta46 per Bbl of NGLs |
| These prices compare to the December 31, 2005, NYMEX price of dlra61dtta04 per Bbl for crude oil and the Henry Hub spot price of dlra10dtta08 per MMBtu for natural gas |
| We believe the pre-tax 10prca present value is a useful measure in addition to standardized measure as it assists in both the determination of future cash flows of the current reserves as well as in making relative value comparisons among peer companies |
| The standardized measure is dependent on the unique tax situation of each individual company, while the pre-tax 10prca present value is based on prices and discount factors which are consistent from company to company |
| We also understand that securities analysts use this measure in similar ways |
| (3) See Note 15 to the consolidated financial statements included in “Item 8 |
| Financial Statements and Supplementary Data” |
| As presented in the previous table, we had 1cmam599 MMBoe of proved developed reserves at December 31, 2005 |
| Proved developed reserves consist of proved developed producing reserves and proved developed non-producing reserves |
| The following table provides additional information regarding our proved developed reserves at December 31, 2005 |
| Total Proved Proved Proved Developed Developed Developed Producing Non-Producing Reserves Reserves Reserves Total Reserves Oil (MMBbls) 363 305 58 Gas (Bcf) 6cmam111 5cmam449 662 NGLs (MMBbls) 216 199 17 MMBoe 1cmam599 1cmam412 187 US Reserves Oil (MMBbls) 149 125 24 Gas (Bcf) 4cmam343 3cmam913 430 NGLs (MMBbls) 175 164 11 MMBoe 1cmam049 942 107 Canadian Reserves Oil (MMBbls) 103 87 16 Gas (Bcf) 1cmam708 1cmam481 227 NGLs (MMBbls) 41 35 6 MMBoe 429 369 60 International Reserves Oil (MMBbls) 111 93 18 Gas (Bcf) 60 55 5 NGLs (MMBbls) — — — MMBoe 121 101 20 No estimates of our proved reserves have been filed with or included in reports to any federal or foreign governmental authority or agency since the beginning of the last fiscal year except (i) in filings 19 _________________________________________________________________ [59]Table of Contents with the SEC and (ii) in filings with the Department of Energy (“DOE”) |
| Reserve estimates filed with the SEC correspond with the estimates of our reserves contained herein |
| Reserve estimates filed with the DOE are based upon the same underlying technical and economic assumptions as the estimates of our reserves included herein |
| However, the DOE requires reports to include the interests of all owners in wells that we operate and to exclude all interests in wells that we do not operate |
| The prices used in calculating the estimated future net revenues attributable to proved reserves do not necessarily reflect market prices for oil, gas and NGL production subsequent to December 31, 2005 |
| There can be no assurance that all of the proved reserves will be produced and sold within the periods indicated, that the assumed prices will be realized or that existing contracts will be honored or judicially enforced |
| Production, Revenue and Price History Certain information concerning oil, natural gas and NGL production, prices, revenues (net of all royalties, overriding royalties and other third party interests) and operating expenses for the three years ended December 31, 2005, is set forth in “Item 7 |
| Management’s Discussion and Analysis of Financial Condition and Results of Operations |
| ” Well Statistics The following table sets forth our producing wells as of December 31, 2005: Oil Wells Gas Wells Total Wells Gross(1) Net(2) Gross(1) Net(2) Gross(1) Net(2) US 9cmam039 3cmam134 15cmam459 10cmam656 24cmam498 13cmam790 Canada 2cmam840 1cmam985 4cmam004 2cmam292 6cmam844 4cmam277 International 589 249 4 2 593 251 Total 12cmam468 5cmam368 19cmam467 12cmam950 31cmam935 18cmam318 (1) Gross wells are the total number of wells in which we own a working interest |
| (2) Net wells are gross wells multiplied by our fractional working interests therein |
| Developed and Undeveloped Acreage The following table sets forth our developed and undeveloped oil and gas lease and mineral acreage as of December 31, 2005 |
| Developed Undeveloped Gross(1) Net(2) Gross(1) Net(2) (In thousands) United States Permian Basin 588 309 1cmam138 494 Mid-Continent 993 678 964 455 Rocky Mountains 789 538 2cmam178 1cmam148 Gulf Coast Onshore 860 524 812 471 Gulf Offshore 609 384 3cmam272 1cmam635 Total US 3cmam839 2cmam433 8cmam364 4cmam203 Canada 3cmam284 2cmam066 10cmam319 6cmam681 International 624 341 19cmam889 10cmam947 Grand Total 7cmam747 4cmam840 38cmam572 21cmam831 20 _________________________________________________________________ [60]Table of Contents (1) Gross acres are the total number of acres in which we own a working interest |
| (2) Net acres are gross acres multiplied by our fractional working interests therein |
| Operation of Properties The day-to-day operations of oil and gas properties are the responsibility of an operator designated under pooling or operating agreements |
| The operator supervises production, maintains production records, employs field personnel and performs other functions |
| As operator, we receive reimbursement for direct expenses incurred in the performance of our duties as well as monthly per-well producing and drilling overhead reimbursement at rates customarily charged in the area |
| In presenting our financial data, we record the monthly overhead reimbursements as a reduction of general and administrative expense, which is a common industry practice |
| Organization Structure Our North American properties are concentrated within five geographic areas |
| Operations in the United States are focused in the Permian Basin, the Mid-Continent, the Rocky Mountains and onshore and offshore Gulf Coast regions |
| Canadian properties are focused in the Western Canadian Sedimentary Basin in Alberta and British Columbia |
| Properties outside North America are located primarily in Azerbaijan, China, Egypt and areas in West Africa, including Equatorial Guinea, Gabon, and Cote d’Ivoire |
| Additionally, we have exploratory interests, but no current producing assets, in other international countries including Angola, Brazil, Ghana and Nigeria |
| Maintaining a tight geographic focus in selected core areas has allowed us to improve operating and capital efficiency |
| The following table sets forth proved reserve information on the most significant geographic areas in which our properties are located as of December 31, 2005 |
| Standardized Measure of Discounted Pre-Tax 10prca Pre-Tax Future Net Oil Gas NGLs MMBoe Present Value 10prca Present Cash Flows (MMBbls) (Bcf) (MMBbls) MMBoe(1) %(2) (In millions)(3) Value %(4) (In millions)(5) United States Permian Basin 91 285 23 161 7dtta6 % $ 2cmam832 8dtta0 % Mid-Continent 5 2cmam282 124 509 24dtta1 % 6cmam292 17dtta7 % Rocky Mountain 22 1cmam074 8 209 9dtta9 % 3cmam336 9dtta4 % Gulf Coast Onshore 11 1cmam120 38 237 11dtta2 % 3cmam817 10dtta7 % Gulf Offshore 44 403 4 116 5dtta5 % 3cmam896 10dtta9 % Total US 173 5cmam164 197 1cmam232 58dtta3 % 20cmam173 56dtta7 % $ 13cmam276 Canada(6) 253 2cmam006 49 636 30dtta1 % 9cmam912 27dtta8 % 6cmam631 International 223 126 — 244 11dtta6 % 5cmam525 15dtta5 % 3cmam667 Grand Total 649 7cmam296 246 2cmam112 100dtta0 % $ 35cmam610 100dtta0 % $ 23cmam574 (1) Gas reserves are converted to Boe at the rate of six Mcf of gas per Bbl of oil, based upon the approximate relative energy content of natural gas to oil, which rate is not necessarily indicative of the relationship of gas to oil prices |
| (2) Percentage which MMBoe for the basin or region bears to total MMBoe for all proved reserves |
| (3) Determined in accordance with Statement of Financial Accounting Standards Nodtta 69, Disclosures about Oil and Gas Producing Activities (“SFAS Nodtta 69”), except that no effect is given to future income taxes |
| See a discussion of the difference between the pre-tax 10prca present value and 21 _________________________________________________________________ [61]Table of Contents |