Date: 2/20/13

Analyst: Christopher Weber

CIF Sector Recommendation Report (Spring 2013)

Sector: Energy Review Period: 2/1/2013 – 2/15/2013

Section (A) Sector Performance Review

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Highlight noteworthy headline news from the sector (company-, industry-, or

sector- level news) The entire energy sector has been very volatile over my review period as talks in Washington

D.C. have created tension between oil companies and the government. Tax cuts and breaks that

big oil companies have been enjoying will soon be expiring, and many investors think that oil

companies will see record losses in the 2nd quarter of 2013. Shale gas prices have reached an all-time low as more and more energy companies begin

drilling. American companies Exxon Mobil and Chevron are beginning exploration along the

Russian and Canadian Pacific Coasts for new supplies of crude oil and natural gas.

The Fracturing Responsibility and Awareness of Chemicals Act is slated to be revisited soon in

Congress. Many democrats are trying to push the bill through that would severely limit oil

companies’ ability to drill for natural gas in places that aquifers are present. Many

enviromentalists and government officials believe that increased “fracking” will poison a good

percentage of the world’s clean water supply.

Highlight the biggest (+) and the biggest (-) movers from the sector holdings

during the review period. Are there notable reasons why the stocks had big

moves (e.g., earnings surprises, etc)? Biggest Gainers (+):

Valero Energy Corp (VLO)- +5.44%

Nabor Industries Ltd (NBR)- +4.93%

Range Resources Group (RRC)- +3.82%

Biggest Losers (-):

Apache (APA)- -9.97% Peabody Energy Corp (BTU)- -2.67%

Valero’s recent success can be attributed to its increase in U.S. domestic crude oil production.

Valero has been running its plants along the Gulf Coast at near full capacity. The company has

begun substituting imported refined oil, with its own domestically refined oil, which is driving

profits up.

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Apache’s terrible performance over the review period can be attributed to many things. The

company has missed estimated earnings in the past two quarters. A big reason for this is the

record low shale gas prices, and the huge amount of surplus that Apache currently has. Apache

also has been spending too much in the last two quarters as expenses have risen dramatically.

Furthermore, one of Apache’s offshore drill sites is leaking in the ocean and they have been

ordered to drill a “spilloff” well in order to prevent further leakage.

Highlight the largest two holdings from the sector and note any headline news

on the companies:

Exxon Mobil (17.25%) sector weight of XLE and Chevron (14.54%) sector weight are the

two biggest holdings in the XLE. Some recent news for these two companies, Exxon Mobil just

bought out Canadian company Celtic Exploration Ltd for $2.64 billion dollars. For 2012 and for

year-to-date in 2013 Exxon’s oil and gas reserves are up and have beaten estimates. Exxon

Mobil has also begun talks with Russian company Rosneft to build a large drilling facility off of

Russia’s Pacific Coast to tap into the oil fields that are deep below the ocean there

Chevron was facing some prosecution by Brazilian courts for its subsidiary, Transocean

Ltd’s oil spill. All charges have been dropped against Chevron and the company avoided paying

$20.4 billion in damages. Chevron is looking to expand its international drilling operations in

Romania specifically in the new shale gas market, before they begin their operations they need

to secure two permits from the government before they begin drilling

Comment on short-term outlook of the sector (including noteworthy upcoming

events) Analysts are skeptical about the future of the XLE. In the very near future, tax cuts that big oil

corporations such as Exxon and Chevron have been enjoying will be gone. MorningStar analysts

fear that potential manufacturing slowdowns in China will adversely affect crude oil prices.

Many large environmental groups have not given up on attacking horizontal drilling for natural

gas and if laws are passed against “fracking” then many large energy firms will lose a substantial

amount of production. It will be interesting to see what President Obama has to say about

drilling practices and its potential terrible effect on tainting aquifers.

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Section (B) Sector Holding Updates Company #1: Devon Energy (DVN)

Date Recommended: 11/07/2012

Date Re-evaluated: 2/20/2013

Company Update

Over the review period Devon Energy has some ups and downs. The company continues

to miss earnings this quarter as it did in Q1. Investors are nervous for the future of the

company. The CEO has announced that in the quarters to come Devon will be drastically cutting

back on exploration expense in an effort to bring profits back to a normal level.

Analyst sentiment has not changed much for Devon. The vast majority of analysts are

bearish on the stock which has a Beta of 2.17. With the recent losses in operating profit it is

difficult to predict the future of Devon.

Relative Performance

Over the course of the review period Devon did outperform both the S&P 500 and the XLE

gaining 2.12%. The stock has been very volatile and with the recent news of it missing earnings

again, and the unease created by Washington investors are nervous.

Price Charts

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3 month price chart

1 Year Price Chart

Over the course of the last 3 months DVN has seen a significant ROI and grown quite a bit if you

as an investor had bought into the stock around October. However, when comparing the recent

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success of the stock to the year, the stock is down around 24% this is a huge loss in value from

the stock was. This could indicate that the stock will be regaining a lot of its lost value in the

near future however, given current economic factors and the volatility of the stock I am

skeptical.

Valuations Analysis

Original Analysis

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Re-evaluation Analysis

Recently DVN has had quite a bit of difficulty with debt and meeting earnings estimates.

Currently DVN is on pace to underperform on revenue and earnings in this quarter, like it did

last quarter. When looking at the P/E ratio from my review period to when it was first

recommend the stock has definitely suffered quite a bit.

Historical Surprises

Original Analysis

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Re-evaluation Analysis

This chart shows data from the end of Q3 last year. This was the most recent information that Reuters

provided. Even though revenue and earnings are shown to be positive, which they were at the end of

Q3, Q4 and Q1 both saw revenue and earnings miss estimates. This had a very adverse effect on the

stock and investor faith in its potential value dropped. This is a big reason why the stock is down almost

24% on the year.

Consensus Estimates

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Original Analysis

Re-Evaluation Analysis

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All the estimates for earnings in the 2nd and 3rd quarter for 2013 have been revised down. Due

to the recent trend of DVN failing to hit its revenue and earnings estimates analysts are bearish

about the company’s ability to operate at a profit. With declining price in natural gas it will be

difficult for DVN to capitalize on its surplus of natural gas and turn it into a profit.

Estimate Revision Analysis

Original Analysis (11/06/2012)

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Re-Evaluation Analysis

Analysts have mixed feelings about DVN’s earnings estimates. It is apparent from the amount of

votes switch to down for Quarter Ending March-13 that analysts believe the company will not

be as profitable as originally estimated in the short term. However, when looking at the up

revisions for year ending Dec-13, some analysts believe that DVN will be able to turn a large

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profit in the months to come. Depending on demand for natural gas and new legislation that is

coming out DVN may be able to have good revenue and earnings by years end.

A n al yst s’ Reco mmen d ati on s

Original Analysis

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Re-Evaluation Analysis

Since it was originally recommended back in November, analysts have become much more skeptical

about the value and future of DVN stock. The Beta has increased to 2.17 from 1.93. This reflects the

bearish attitude many investors are having towards the stock. Additionally, many analysts have changed

votes from buy and outperform to Hold. Only time will tell if the stock will tank or rise in value, one thing

is for sure is that unless something is done to bolster earnings the stock will continue to lose value.

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