Chesapeake Energy Unlikely To Remain this Cheap 30 comments
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Energy stocks have retreated quite a bit since the commodity bubble popped in mid-summer. The energy sector as a whole is down about 40% during this time frame while the S&P 500 is down a relatively moderate—in comparison—23%. Chesapeake Energy (CHK) has been particularly hammered in recent months, down a whopping 62% from its peak.
Chesapeake is the nation’s largest natural gas producer and its stock has suffered from plunging gas prices as well as a debt load that is worrisome in this credit environment. There was also the embarrassing news story of the company’s CEO receiving a margin call as a result of the stock’s decline. Well, Chesapeake reported earnings yesterday and while the earnings were nothing spectacular they do give additional insights into the health of the company.
Chesapeake reported earnings of $.85 per share, excluding one-time events, which missed consensus estimates by 3.4%. Chesapeake had beaten estimates for the previous 3 quarters. However, the company had hedged pretty effectively against the falling price of natural gas and oil during the quarter which amounted to a gain of $2.8 billion and when you incorporate those profits into the results the company earned $5.61 per share.
Clearly, there is a reason that analysts do not account for “one-time” events but it is certainly worth noting when there is such a huge difference. CHK hedged by securing higher prices in the past for delivery in the future, which could have come back to bite them had prices risen. Also in response to the lower price of natural gas Chesapeake has chosen to slow its production. During the past quarter, production fell .3% from the prior quarter and 15% from one year ago. This is a logical response to low prices and with demand for gas likely on the rise with high profile energy independence plans such as the “Pickens Plan” getting a lot of attention, odds are the price of natural gas will rebound.
Chesapeake stock has had an especially painful run of late because the company does have a substantial debt burden. The total liabilities have declined in the most recent quarter and total assets have increased. The ratio of total debt over total assets has fallen from 73% in the previous quarter to 59% in the quarter just ended. While 59% is still a large debt burden in such environment, the company is clearing enough cash right now to easily service this debt. Furthermore, the company has no senior notes maturing before 2013.
In Chesapeake’s business, debt is inescapable as drilling requires substantial initial costs, and interestingly, the company’s asset-to-equity ratio of 2.44 is actually below its historical average of 3.1. It seems to me that CHK is generating enough cash to continue to reduce its debt exposure and, were the credit situation in the macro-economy to improve, CHK’s debt burden would seem pretty benign.
The assets Chesapeake owns undoubtedly have substantial value, and some particularly important assets are portions of the Marcellus Shale a huge natural gas field in the Appalachian Basin. Preliminary estimates are that this field holds up to 1.9 trillion cubic feet of gas (according to a 2002 U.S. Geological Survey), although these reserves are spread out over a massive area.
Chesapeake, in its Oct. 19 conference call, estimated that its interests in the Marcellus Shale to be worth about $13.5 billion. That’s not too bad for a company with a market capitalization of about $12.5 billion. No wonder Chesapeake has considered selling some of these assets to the likes of BP.
The fact of the matter is that Chesapeake calmed investors in with its recent quarter’s results. Yes the company has debt, but it is shrinking and not due for some time. Management effectively handled the eroding price of gas by hedging a significant portion of its production at higher prices. CHK has assets that, according to their own estimates, are worth more than the entire companies stock, so book value per share in theory exceeds the share price. Both price-to-cash flow and price-to-sales are significantly below their 10 year historical averages. So, although there are a lot of value plays in this market for patient investors, Chesapeake could be one of the best.
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This article has 30 comments:
"Unlikely to remain this cheap", until it's cheaper still.
Don't underestimate the length of time a market can remain irrational, it'll outlast you.
Issue right now is the definition of "money" is being attacked; until that's resolved, you can't use it to valuate anything.
I doubt that Chesapeake is in danger of financial distress given their cash generation and their hedging. I think natural gas in the US has great potential. At the same time, commodity prices are volatile and the CEO is a bit of a cowboy. I'm long Chesapeake, but if I were to do this again I would buy a more conservative company like Cimarex Energy (XEC).
Anyway! McClendon and his management have stated several times that they would like to ship NatGas overseas where some spot markets are just below $20 as opposed to our US prices in the mid $6. I'd like to see them pursue that avenue and suggest they look at buying Cheniere Energy with a market cap of $190 Mil. This would give them the LNG stations in the Gulf.... This from Yahoo Finance:
Cheniere Energy, Inc., through its subsidiaries, engages in the development, construction, ownership, and operation of onshore liquefied natural gas (LNG) receiving terminals and natural gas pipelines along the Gulf Coast of the United States.
jegan ;-)
They have monsterous values assigned to leases which will neve be drilled. They've paid $2,000 / acre for leases that are worth $20 / acre.
Sure, they have production. And it is declining. They don't have to shut in anything to have it go down. The production people are so focused on immediate production that they are damaging long term reserve recovery.
The Pickens plan is nonsense. The costs are so much greater than the rewards that it is obvious that Pickens has lost it.
This company has risked everything on very fast rising energy costs. They lost and will go bust. When the reserves are economic to develop, they will be developed. By someone other than McClendon and Pickens.
IF Jim Rogers and MArc Faber are right about inflation these commodity producers will benefit enormously.
jimrogers-investments..../
Brother Maynard: you say nothing has changed since $4 gas?? Well, take a look at production curves. Gas drilled before 2006 is declining rapidly and must be replaced. The drilling that is going on is adding production well north of $4...more like $6. If prices stay below $6, very little drilling will occur, which will make our supply decline at a rate you will be scared of. Then when our production declines, prices will skyrocket. I view a $6 floor here which will still result in lots of rigs being shut down (already happening) and lots of new wells NOT being drilled (already happening...most of the very active companies have dropped their capital budgets by 20% or more). And some wells will be shut in to help boost the price up. Can't see $4 gas for anything more than a month a best and I think there's less than 10% chance we see that.
Nothing has changed? May want to look at US/Canada gas production curves that show production segregated by initial year of production. You will see a harsh picture.
Well, what's the "historical average price" for ANY commodity??? Much lower than the current price - or the future price for that matter. Stop looking in the rearview mirror, people.
On Nov 04 06:08 AM Dr. O. wrote:
> What if natural gas falls to $2-3 from $6?
lanaslines.com
I sure haven't found one...maybe if they illustrated what happens to their model at $4, more people would be buyers.
there are ebitda covenents on their debt and ebitda is directly tied to nat gas prices...therefore, if nat gas drops below $5, they are really going to have problems with the liability side. this is what the XOM's and CVX's are waiting for...picking through the wreckage of independant E&P's that extrapolated the most fleeting of overly optimistic trends at the very top.
Go to page 3.
Look at NAV with a $5 nat gas scenario...$29 pershare (a lot higher than today, obviously). However, notice the difference between NAV at $6 and NAV at $5 (or the second derivative of change)...its a 37% drop. The drop is the same from $7 to $6. Yet from $8 to $7 it was only a 25% change...so the lower the prices go, the faster the NAV falls. If nat gas hits $4 will NAV be worth maybe, 50% less? Who knows...they, for whatever reason, won't show us.
On Nov 12 04:46 PM BrotherMaynard wrote:
> come to think of it....here's the most recent presentation from their
> site (10/14, analyst day...its a big file, like 12mb just to warn
> you): media.corporate-ir.net...
>
>
> Go to page 3.
>
> Look at NAV with a $5 nat gas scenario...$29 pershare (a lot higher
> than today, obviously). However, notice the difference between NAV
> at $6 and NAV at $5 (or the second derivative of change)...its a
> 37% drop. The drop is the same from $7 to $6. Yet from $8 to $7 it
> was only a 25% change...so the lower the prices go, the faster the
> NAV falls. If nat gas hits $4 will NAV be worth maybe, 50% less?
> Who knows...they, for whatever reason, won't show us.
I'm not sure where you derived that probability from...but how soon everyone forgets...the 2001-2002 recession saw sub $2.50
gas. CHK likely doesn't exist (assuming this capital structure) at $2.50
tfc-charts.w2d.com/his... (pull use the pull down menu to view year by year)