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This Prediction Could Be Bad News for Devon Energy

Motley Fool - Fri Sep 15, 6:01AM CDT

According to Fatih Birol, the executive director of the International Energy Agency (IEA), demand for fossil fuels will peak by the end of this decade. While the IEA's leader expects oil consumption to continue growing over the next few years, it will hit its all-time high right before 2030 and start declining. Driving that view is the accelerating adoption of electric vehicles (EV), which will eventually cool off oil demand.

That outlook suggests trouble for oil stocks like Devon Energy(NYSE: DVN) could be ahead. Here's why and what the company could do about it.

Built for growth

Devon Energy has invested heavily to build a large-scale oil and gas producer. The company owns drilling rights across five top U.S. resource plays, led by its position in the Delaware Basin. It has enough drilling inventory to continue its current activity pace for the next 12 years. However, with tighter well spacing and continued appraisal, it could drill at the current rate for more than 20 years.

The company's current pace is fueling growing production. Its oil output rose 8% in the second quarter to a record 323,000 barrels per day. Devon expects its production to continue rising in the future.

However, if the IEA is correct, the world might not need Devon Energy and its peers to continue increasing their production as we approach the end of the decade. Instead, the company might need to significantly cut back on new drilling and allow its production to naturally decline so there isn't an oversupply, which would push oil prices lower.

Devon Energy's dilemma

The IEA's Fatih Birol believes "the world is on the cusp of a historic turning point." Growth in clean energy technologies and government policies has the world on pace to reach peak fossil fuel demand by the end of the decade, much earlier than many anticipated. Furthermore, he expects a drop-off in demand after that, especially in more advanced economies.

However, overall demand won't dry up overnight. The IEA's leader does expect demand for fossil fuels, especially natural gas, to grow in emerging and developing markets. Because of that, the world will continue to need oil and gas, just not as much as at the peak.

That leaves Devon Energy with a dilemma. It can continue on its current path of focusing all of its capital budget on exploration and production. Or, it can join some of its rivals and start investing in renewable energy and other alternatives. For example, Chevron(NYSE: CVX) has pledged to invest $10 billion through 2028 to build several low-carbon businesses. Last year, Chevron spent over $3 billion to buy Renewable Fuels Group, a leading producer of renewable fuels. Meanwhile, the energy giant recently bought a stake in the country's largest green hydrogen production and storage project. These early investments in alternative energy position Chevron to continue growing in the future even after the demand for fossil fuels peaks.

Devon Energy is a lot earlier in its new energy ventures investment strategy. The company's most notable deal was a $10 million strategic investment in Fervo Energy, a leader in next-generation geothermal technology. Fervo is the first company to successfully drill and complete horizontal wells for commercial geothermal production. The use of horizontal wells, which Devon uses to drill for oil and gas, could make geothermal energy more accessible in more places in the future and become a growth driver for Devon Energy. However, the company will likely need to invest a lot more money into the alternative energy space to eventually offset the potential decline in its oil and gas business.

The end could be near

The IEA's leader believes the world will hit peak oil demand by the end of this decade. That's a potentially big problem for oil and gas producers like Devon Energy since it would impact their ability to continue growing their production. Devon will need to find alternative sources of growth to offset that impact. The good news is that the company has some time to transition, which is something investors need to keep an eye on over the next few years.

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

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