Chesapeake Energy Corp. (CHK), America’s second largest producer of natural gas, recently announced its intent to sell its midstream assets, expecting to increase its cash position by $4 billion. Once these sales efforts are completed, CHK will have sold assets valued at $6.6 billion during the first half of 2012.
The oil and gas industry is divided into three major phases: upstream, midstream, and downstream. The upstream phase is the exploration, recovery, and production of crude oil and gas products, while the midstream phase is generally the processing, storing, and marketing of the oil and gas. The downstream phase includes the refining of crude oil and distribution of gas.
“The midstream divestitures will also enable Chesapeake to reduce previously budgeted capital expenditures by approximately $3.0 billion over the next three years,” according to a recently released Chesapeake Energy announcement.
CHK is considering selling more of its assets during the second half of 2012, expecting its sales proceeds to range between $5 billion and $7.5 billion. Total asset sales in 2012 are predicted to be between $11.5 billion and $14 billion.
“CHK’s asset sales program is designed to fully fund the company’s 2012 capex program and reduce the company’s long-term debt to the 25/25 Plan goal of $9.5 billion by year-end 2012,” according to a recent investor presentation published on the CHK website.
For 2012, CHK predicts a cash surplus of between $1.6 billion and $2.65 billion, depending on the total costs it has to expand during the year. However, for 2013, CHK expects a possible cash shortfall of $100 million and hopes for a cash surplus of $550 million.
“Chesapeake (CHK) is struggling. The company is planning to sell $4 billion in pipeline assets to Global Infrastructure Partners in order to buffer a $10 billion cash shortfall this year, which could have a significant impact on the viability of this stock option,” according to a recent article on the Dividend Kings website.
Funding Shortfall Under the Microscope
“The funding gap is being created primarily due to the aggressive shift towards liquid production and to continue its aggressive growth model, and has been aggravated due to the decline in natural gas prices over the last year,” a recent article on the Seeking Alpha website suggests.
The Dividend Kings article suggested that there are two reasons for the funding shortfall, agreeing in one part with the Seeking Alpha article.
First, the price for natural gas has declined significantly, given the relatively warm winter last season, which has actually eaten into industrywide profits.
A review of historical gas prices shows that on Sept. 15, 2011, the Henry Hub Natural Gas Spot Price was $4.04 per million British Thermal Units (BTU). On Jan. 3, the price was $2.97 per million BTU. On June 19, the price was at $2.59 per million BTU, having decreased from $4.33 per million or 40.18 percent BTU on June 20, 2011, according to the Ycharts website.
Secondly, CHK’s investors are becoming more vocal. “The company also faces investor discontent related to corporate governance issues. Chesapeake became ‘vulnerable to the sharp drop in natural gas prices’ by closing natural gas hedges last fall. This is yet another factor that is influencing the stock for the worse,” according to the Dividend Kings article.
During the June annual meeting, shareholders voted in the election of directors, resulting in the replacement of four directors, two of which then tendered their resignations based on the voting results. In addition, one director retired.
Since two directors “received the support of approximately 26% and 27%, respectively, of the votes cast, they have tendered their resignations as required by the Company’s new majority voting bylaw,” a recent CHK announcement said.
Spending Habits Impacting Negatively
“Chesapeake’s heavy spending has finally begun to have a negative impact on the company,” the Dividend Kings article said.
Financial analysts suggest that the company will most likely face a more than $6 billion cash shortfall and may slide into financial stress in 2013 unless it sells about $10 billion in assets.
Moody’s Investors Service assigned CHK a “Ba2” Corporate Family Rating with a stable outlook. “Ba2” is a junk rating.
Bond ratings are classified into either investment or junk grade, depending on the risk they represent to an investor. A bond that receives a rating below Moody’s Baa rating is considered to be junk.
The investing community is split in its opinion concerning CHK’s future. The majority of articles evaluating the company appear to be on the bearish side. The worry that the company has taken on too much debt over time and could lose its industry position appears to be held by the majority of investors. Many point to the 2012 asset sales, which serve to reinforce the negative attitude.
“Investors could build a bearish or bullish case on Chesapeake Energy (CHK). The bears could contend that its debt levels are very high and that it is facing a liquidity crunch. ...The bulls could contend that the worst news is already priced in. The stock is trading over 50% below its August 2011 highs and from a contrarian perspective it could make for good play as the majority seems to despise it,” according to one investor on the Seeking Alpha website.
The company’s stock price reflects its investor’s opinions, and the price has moved up and down since Dec. 30, 2011, when its adjusted closing price was at $22.11. CHK’s stock price peaked on Mar. 20 at an adjusted closing price of $25.47. Subsequently, the stock price has ebbed and flowed, reaching the lowest adjusted closing price of $13.55 on May 17. By June 22, the adjusted closing price had moved up to $18.61.
Losing Investor Confidence
“Chesapeake’s curtailment has gone pooof!” said Paulo Santos, an investor and analyst, in a recent Seeking Alpha article.
According to Santos, CHK, in its February investor presentation, said that it would cut back on its natural gas production. Then, in its latest investor presentation, CHK reversed its position and increased its natural gas production.
Santos suggests that CHK, in a need to improve its cash flow, changed its strategy and increased production. However, the article also implies that CHK is playing the market in the hope for a gas shortage this coming winter, allowing prices to rise again.
“Natural gas production is already on a downswing, and actions such as those taken by Chesapeake only make this downswing more certain. Indeed, at this point there might be reason to believe the market will witness a natural gas shortage during 2013,” Santos said.
Jason Merriam, also an investment advisor, seconded Santos’s assumption in a recent article on the Seeking Alpha website, but for a different reason.
“In the case of CHK, the financial statements were telling us for some time that the company’s finances were likely engineered to the hilt. Granted depressed natural gas prices didn’t help matters, but it is now crystal clear that Chesapeake was and is in dire straits regarding liquidity.”
The Epoch Times publishes in 35 countries and in 19 languages. Subscribe to our e-newsletter.
