Thursday, January 5, 2012

Natural Gas: "Has Chesapeake Energy Bottomed?" (CHK)

Tuesday's Deal Journal article on CHK made me question whether the big NatGas E&P was gaining more chatter or if it was just me paying more attention.
Here's Google Trends on Chesapeake Energy, it's not just me.

With natural gas futures cheap (and getting cheaper) compared to recent history; Feb futures down 2.39% this morning at $3.02, I wondered, why all the interest?

Duh, the equities are looking further ahead than the commodity.
Here's CHK's price action, the last month looks like a flounder bouncing along the bottom:
Chart forChesapeake Energy Corporation (CHK)

That March high was at $35.95 compared to today's $23.70 off 16 cents.
Here's Barron's on why we might have seen the lows:

The natural-gas giant has hit hard times, but a series of moves to slash debt suggests its beleaguered stock could rebound.
Chesapeake Energy and its debt-reduction plan are regaining credibility with the announcement Tuesday of a joint venture with Total SA, the French exploration and refining giant, to develop a hot Utica Shale.
Shares of Chesapeake (ticker: CHK) jumped 4% to $23.19 on the news.

Chesapeake has lost more than a third of its value since March, largely due to debt worries, but bulls see shares recovering to $35 as more deals like the one announced Tuesday show that the company has embraced more financial discipline in its complex acquisition, production and development strategy.
Total is paying $2.32 billion for a 25% stake in a 619,000 net-acre parcel in the liquids-rich area of the Utica Shale, a shale mostly in Ohio that geologists and energy companies say has great production potential. The transaction gives Chesapeake cash up front to pay down debt while locking in future capital from Total for developing the play. Chesapeake will receive $2.03 billion and EnerVest Ltd. will get $290 million.
The deal comes on the heels of several other transactions that have raised cash. Last week, Chesapeake said it would sell some of its Marcellus Shale pipeline assets into its master limited partnership, and the result generated $600 million in cash and shares of Chesapeake Midstream Partners (CHKM) worth $265 million. And Chesapeake raised another $1.25 billion cash in recent weeks from preferred-share sales.

"There is clearly support for the shares in the low 20s, and as the company shows execution, the stock should start pushing up toward 30," says Tim Rezvan, an exploration and production analyst at Sterne Agee. "To the extent that Chesapeake can alleviate concerns about consistent elevated debt levels, the stock should reflect that and perform well."

Rezvan points out that Chesapeake had reserves of 17 trillion cubic feet at the end of 2010, and reserves could exceed 21 trillion cubic feet by the end of 2012. So at some point, based on a revaluation of assets, the base value of the company – and the stock -- should rise.

Investors have been frustrated, however. Chesapeake has been gobbling up leases on land where it can use horizontal drilling – the oft-controversial fracking technique -- to extract natural gas, and increasingly gas liquids like butane and ethane. But Chesapeake's aggressive investments – it is the country's second-largest gas driller – has resulted in $11.7 billion in net debt (including $111 million in cash); its market capitalization is $14.8 billion.

The debt level exemplifies CEO Aubrey McClendon's historic willingness to take big risks. And while last year, the company at points made good on its promise to slash debt by 25% while raising production 25% by the end of 2012, debt levels fluctuated quite a bit as Chesapeake cemented new deals.

Stock levels have fluctuated too. When weighed in on Chesapeake shares in August 2010, (see Weekday Trader "Why Chesapeake Should Regain Its Energy,") we said investors had little to lose with the stock, at $20, then down about 60% over two years. But since we followed up in June 2011, when the stock was trading near $27, shares have weakened. At that point, we said shares looked attractive because pessimism about shale production was overdone (see "Chesapeake Can Regain Its Fire.")

Chesapeake needs cash. The company bet that natural-gas prices bottomed in the fall of 2011, ridding itself of revenue-generating hedges on natural-gas prices. Since, gas prices have collapsed further – below $3 per million British Thermal Units. Roughly 75% of Chesapeake's estimated 2012 production is natural gas.
On the presumption that gas prices can't fall much lower, and with Chesapeake showing signs that it's getting its financial house in order, the shares could get fired up this year.

Also at the Barron's Take column: