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Chesapeake Energy Corporation (NYSE:CHK)

Special Conference Call

April 01, 2013, 08:30 am ET

Executives

Jeff Mobley - SVP, IR

Archie Dunham - Non-Executive Chairman of the Board

Steve Dixon - Acting CEO and COO

Nick Dell’Osso - CFO

Jeff Fisher - EVP, Production

Gary Clark - VP, IR and Research

Analysts

Doug Leggate - Bank of America Merrill Lynch

Brian Singer - Goldman Sachs

David Tameron - Wells Fargo

Neal Dingmann - SunTrust

Bob Brackett - Bernstein Research

Charles Meade - Johnson Rice

Matt Portillo - Tudor, Pickering and Holt

Biju Perincheril - Jefferies

Ray Deacon - Brean Capital

Joe Magner - Macquarie Capital

Mike Kelly - Global Hunter Securities

Operator

Good day everyone and welcome to the Chesapeake Energy Corporation Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Jeff Mobley. Please go ahead sir.

Jeff Mobley

Good morning and thank you for joining our call this morning regarding the leadership transition at Chesapeake and for an update on our operations. During the course of this call, our commentary will include goals, expectations, objectives, forecasts, projections and future performance and the assumptions underlying such statements. Please note that there are a number of factors that could cause our actual results to differ materially from such forward-looking statements. Additional information concerning those factors is available in our earnings release and the company's SEC filings.

As announced in our press release Friday, our Board of Directors has established a 3% office of the Chairman following today's retirement of Aubrey McClendon, while continuing the previously announced CEO search process. The office of the Chairman will be comprised of Archie Dunham, our non-executive Chairman of the Board, Steve Dixon, who has been named acting Chief Executive Officer in addition to his continuing role as our Chief Operating Officer; and Nick Dell’Osso, our Chief Financial Officer. Steve and Nick are with me on the call today in addition to Jeff Fisher, our Executive Vice President of Production; and Gary Clark, our Vice President of Investor Relations and Research. I will now turn the call over to Steve for an update on our operations and then we will move to Q&A. Steve?

Steve Dixon

Thanks Jeff. I would like to begin by expressing our sincere appreciation and gratitude to Aubrey for his leadership, dedication and contributions to the company and to our entire industry over the past 24 years. I personally would like to thank Aubrey for his wisdom, guidance and friendship during the 22 years that we have partnered together here at Chesapeake, and I certainly wish him well in his future endeavors. Looking ahead I'm very excited for Chesapeake’s future. Our senior management team is energized about our opportunities ahead, as we convert the great resources we have discovered and captured into production, cash flow and investor returns.

Our management team and Board of Directors are well aligned in our objectives and strategy to take Chesapeake forward. We will remain focused on increasing our liquids production, driving capital efficiencies across our business and enhancing our financial flexibility to prudently fund our future growth. Maintaining our culture of excellence at Chesapeake is also a priority, and we will continue to conduct our business with the same urgency, intensity and attention to detail that we’ve always had.

We are shifting to our operations, I am pleased to report that we are achieving many important objectives and surpassing notable production milestones. Our current level of drilling and completion and lease hold capital expenditures are on pace below our budgeted expenditure plan for (inaudible); and while our expenditures are on track to becoming under budget in the first quarter, we're also delivering on planned production targets. These are despite challenges with winter storms in the mid-continent and several midstream outages and delays.

We have recently averaged an all time high water mark in average daily net liquids production of 160,000 barrels per day. We've also recently exceeded 4 Bcfe per day of production, having regained this level following the sale of production for recent transactions in the Permian Basin, the mid-continent and other areas. We're also making great progress in cost reductions and are on track for a [lease] operating expenses and G&A expenses to come in at or below budget this year.

Permian asset sales, we've completed or signed up approximately 1.5 billion of sales as part of our plan of 4 billion to 7 billion sales this year, and we are on track to execute agreements for additional sales in the next few months that we look forward to sharing with you once the pending agreements are reached.

We're particularly pleased with the markets response to multiple small asset packages that we have offered. These packages represent very good opportunities for development exploratory drilling that Chesapeake will not be in a position to exploit in the near-term. It will provide great value to our asset buyers. While many of these assets may not be individually noteworthy to the investors; in aggregate, the combined value that we anticipate collecting this year will likely be very meaningful and lead to further progress in improving our balance sheet.

We've also taken advantage of the recent surge in natural gas prices to walk in additional price production in 2013. And we have begun to hedge natural gas production in 2014 and prices well above $4, a level the market is not seen for quite some time.

Now turning to specific plays, I would like to highlight several positive developments underway in our Utica Shale play in eastern Ohio and western Pennsylvania. As many of you know Chesapeake discovered the play in 2010 and completed an important joined venture with Total in 2010. We are the largest lease holder with approximately 1 million net acres in the play. To date we have drilled more than 240 wells in the Utica representing approximately 75% of the wells drilled in the entire play thus far.

As a result of infrastructure constraints, we are currently have turned to sales of just 54 wells. But we anticipate substantial ramp up and completions as we progress through this year. We are only producing 75 mmcfe per day from the play net to Chesapeake due to processing constraints. But we believe these wells that are capable to producing approximately double this level if unconstrained.

We are targeting net production of more than 330 mmcfe per day or 55,000 BOE per day from the play by the end of the year. Achieve this level will be dependent upon the timely start-up of critical processing infrastructure at multiple facilities in the months ahead.

As an example of the outstanding recent well results we are achieving in this play, we recently completed the six well program on our (inaudible) unit in Carroll County, Ohio. We drilled six wells from a common pad with average 24-hour stricted test rates of 1250 BOE per day, which includes 310 barrels of oil. 200 barrels of NGL with ethane not recovered and 4.4 mmcf of natural gas per day. This is a flowing tubing pressures exceeding 3000 [PSI].

Well cost for this group averaged approximately 6.5 million, indicating some of the potential cost savings we expect to realize as our operations mature and we focus on development in the future. I would also note that we recently submitted 2012 annual production data and other information on our wells drilled the 2011 and 2012 to the Ohio Department of Natural Resources. This data will be available publicly perhaps later this week. Due to the infrastructure constraints as I mentioned before, it was necessary to curtail and restrict production on these wells placed in the service last year.

As a result, we believe the data reported to the ODNR is not indicative of the productive capacity of the initial wells drilled and (inaudible) fairway. Based on Chesapeake’s via scientific with our physical and engineering research during the past two years and the results in detail now is that the wells we have drilled to date, Chesapeake is targeting ultimate reserve recoveries of 5 to 10 Bcfe per well in Utica depending on location and commodity mix within the play.

Our analysis that the play to date in the case of very prolific resource based is in place that varies across the play with increasing condensate yield from east to west following a strong correlation to reservoir maturity. Given our view of per well reserve and production potential and in consideration of product mix, planned well cost and current market rises; we are targeting drilling rates of return of [30% to 80%] with average return and excess of 40% within our joint venture AMI with Total which is largely in the wet gas window of the play.

Now turning to the Eagle Ford Shale play in south Texas; I am please to report that we continue to achieve strong operating results. We recently establish a daily record high of 124,000 barrels per day with gross operated oil production, or approximately 56,000 barrels per day net to Chesapeake. We believe our gross operated production level potentially ranks Chesapeake as the second largest oil producer in the play, further validation of quality of our Eagle Ford asset base.

Our total daily net production in Eagle Ford has recently averaged 80,000 BOE per day and we are targeting total daily net production of more than 92,000 BOE per day by year end. This is even after selling net production of approximately 5,000 Boe per day associated with our Northern Eagle Ford asset package that's currently in the market.

This strong growth will be generated from the completion of production of more than 400 gross wells this year. Our margins in the Eagle Ford continue to be strong; particularly as a result of premium pricing for crude oil that's been sold based on MOS pricing that has remained well above WTI pricing.

Looking forward, we anticipate further margin expansion to transportation cost reductions and better access to premium markets as a result of start up of multiple important pipeline projects this year. In terms of capital efficiency we continue to make good progress of reducing well cost in the Eagle Ford through reduced cycle times further economies of scale and optimize completions.

Our well costs were 6,300 foot laterals well have decreased from $9 million early in the play to approximately $7 million currently. Once we've largely completed our drilling campaign in the play (inaudible) leases by production later this year, we believe we can drive well costs down further to the $6 million range by utilizing existing infrastructure and capitalizing on pad development efficiencies.

As a reminder, we are allocating largest percentage of our drilling completion capital expenditure budget in the Eagle Ford Shale this year, representing approximately 35% of our planned drilling completion CapEx. We are also beginning to test the merits of increased [density] drilling on our (inaudible) pilot programs underway to evaluate well performance on 350 foot [offset] spacing. This equates to roughly 50 acre wells spacing. If successful with this development approach, we will increase our drilling inventory meaningfully from the 500 foot or 70-acre well spacing development plan we currently assumed.

In summary, the leadership transition at Chesapeake has been implemented smoothly and successfully and we are very pleased with the operational results our company is delivering as highlighted by the two examples provided today. We look forward to sharing our first quarter financial results and provide a more detailed update on our asset sale as we assume. We would now like to open the call for questions. Operator?

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from Doug Leggate with Bank of America Merrill Lynch.

Doug Leggate - Bank of America Merrill Lynch

I've got two quick ones if I may. Steve, on the disposable progress generally, can you give any specificity around likely timing as to when maybe you can get better comfort that the planned disposals that you have underway right now for this year are going to be achieved and then to reiterate perhaps for any associated production has already been taken out of your guidance and I've got a quick follow-up please.

Steve Dixon

Yes, we are well underway, you know we've announced that the 1.5. We have ongoing negotiations with additional packages. We have data rooms opened. We can't provide any specifics on timing or size but as the data becomes available, we will certainly release it.

Doug Leggate - Bank of America Merrill Lynch

And the all associated production is already out of our guidance?

Steve Dixon

Significant amount of it is yes. I mean 4 to 7 is a big range. So the lower end of that would be out of our guidance.

Doug Leggate - Bank of America Merrill Lynch

Okay, great. So my follow-up given the strength of gas prices recently both in the front end and the backend of the curve, can you give us any updates to how you might have changed your hedging policy short-term in terms of any resets you might have put in place and I will leave it there? Thanks.

Steve Dixon

Thanks Doug. Really no reset. We have been doing some hedging. This pricing has run up. We're pleased with our history of how we have done hedging in the past but we've added some ‘13. So we're starting to layer some in ‘14 but no real change in our philosophy.

Doug Leggate - Bank of America Merrill Lynch

Go ahead.

Unidentified Company Representative

My answer to you what I would just add there Doug, is that we've done almost exclusively swaps in the recent past and we have done just a little bit of (inaudible).

Doug Leggate - Bank of America Merrill Lynch

Alright, I will wait on the first quarter to get more details. Thanks.

Operator

We will take our next question from Brian Singer with Goldman Sachs.

Brian Singer - Goldman Sachs

Just one follow-up question with regards to natural gas pricing, you’ve just highlighted the additional hedges that you've done for 2013 and 2014. Can you just talk to whether you feel at this time or comfortable with they are adding the more tier completion accounts for more dry gas activity over to your rig count and that at what point you might feel more comfortable doing that?

Steve Dixon

We're on a pretty strict budget and we're not planning on changing our activity on dry gas drilling. So really no changes, Brian.

Brian Singer - Goldman Sachs

And to the degree that your budget (inaudible) to the downside it seems like your earlier comments you seem to relatively optimistic with regards to capital efficiency. Do you end up still spending the budget that you have planned and with more activity or do you end up spending less?

Steve Dixon

We will probably end up spending less, Brain.

Brian Singer - Goldman Sachs

Great thanks and lastly, for you guys follow-up hedging question specifically are you implying (inaudible) provisions or anything besides your standards swaps and colors for your hedges that you are taking on here?

Steve Dixon

No sir we are not.

Operator

I wonder the next question from David Tameron with Wells Fargo.

David Tameron - Wells Fargo

Just one question on the transition, if you guys are still in search for a permanent fee, can you talk about the decision to make this, why not just leave Steve, I guess, when I just leave your CEO and continue to move forward why establish the softness?

Steve Dixon

The board felt it was important to setup the office of the Chairman may be gives me full authority of CEO but I have got Archie and Nick to rely on there in this transition period. So the board felt it was important that we had strong leadership moving forward and so I have been empowered CEO and very anxious to lead a very exciting business plans that we have. So senior management on the board are aligned and we are moving ahead.

David Tameron - Wells Fargo

Okay. And there was some articles written in speculation that you got close to [somebody] which fell apart to last minute, can you just talk about any timing expectations as far as either to make your role permanent or to a find a new CEO?

Steve Dixon

No. Those are speculations and we won’t address that this is the board’s decision.

David Tameron - Wells Fargo

All right and last question on the board, it sounds like there has been some talk last year about may be a potential change in CapEx, it sounds like the board right now has signed off from the 2013 plan we [shouldn't] anticipate anymore meaningful changes at this point is that, is that the right way to look at it?

Steve Dixon

Yeah, that is correct, we are executing on that plan. We are executing on our asset sales and everything is working well and again I am excited to continue to execute and improve upon that plan.

Operator

Our next question comes from Neal Dingmann with SunTrust.

Neal Dingmann - SunTrust

Just a little bit maybe more color on Utica went through pretty well, so I am just wondering as far as the rigs running now, our thoughts about that returns you mentioned especially in [AMI] but even throughout seems to be quite positive, thoughts about adding rigs there, I guess should be the first question to Utica and then second you are seeing currently in the area is far as takeaway it seems like, you and your partner pretty good built that, I want to know how that is coming along?

Steve Dixon

Thanks, Neal, it is significant amount of build out being done by us, our partners and others and because that’s not on the place yet, we really can't ramp up anymore than we are today. We hope to be able to do more of that next year but this is the fastest we can do today and not get too far ahead of the processing capacity.

Neal Dingmann - SunTrust

Okay, and then just M&A in the region are you guys, I guess what you said I mean you obviously have a sizable amount of acreage, are you trying to look at any potential additional JVs or anything like that or are you adding bolt-on just through some of your acreage there, just wondering for either yourselves or others around your area what you are seeing as far as just M&A in the Utica.

Steve Dixon

We are focused on really within our blocks we are not looking to expand. We do have a significant amount of acreage down the Utica dry block that we may look to JV with others later, but we are not looking to grow significantly ourselves.

Neal Dingmann - SunTrust

And then just lastly staying in the same area, I noticed your cost a little bit lower than some others maybe clue they are down in the southern that are doing a little bit longer laterals more frac stages. Just kind of your comments about your thoughts as far as the optimal length sort of frac stages and the amount of sort of propping per staged. You know is there thoughts about maybe expanding this a little bit even if that means cost and a little bit more in order to perhaps push the results a little bit or are you pretty satisfied with how you are drilling and completing these.

Steve Dixon

Well we are very satisfied with the progress, its always continuous improvement, and you would expect our cost to be less because we've drilled 75% of the wells in the play and so we've had a much longer learning curve and would rather do it better and quicker, cheaper, but no we are not satisfied yet. We think there's a lot of opportunity especially on the completion side and so we are working hard to continue to improve and optimize our completions.

Operator

We will take our next question from Bob Brackett with Bernstein Research.

Bob Brackett - Bernstein Research

I had a quick question on how the rising gas price might impact your choices of what to dispose. Any sense that there's a greater market to buy some of your gas here asset.

Steve Dixon

Well, there certainly is sentiment in the market that gas has bottomed and will be going up so I would say yes there is more interest Bob.

Bob Brackett - Bernstein Research

Would you change sort of the suite of asset packages on the market or are you going to stick with what you are already thinking about.

Steve Dixon

We plan on sticking with what we had, which again we've got a lot of interest and continuing to make progress, so no we don't see any reason to change our plans.

Operator

We will take our next question from Charles Meade with Johnson Rice.

Charles Meade - Johnson Rice

Going back to the Utica, Steve I'm curious can you tell us in general, how many stages you are doing on your completions there, and is there I recognize not every well will be the same but is there kind of a standard lateral length in the number of stages you are doing right now.

Steve Dixon

There probably is an average per foot of lateral, though our laterals are not all the same length and we are still doing quite a bit of testing. As I mentioned earlier the completion part is something that we are really trying to optimize and that's again a function of costs and then what (inaudible) activity you get, and I mentioned that that changes across the play. So its just not one set of parameters that work. So it’s really more customized and we are still trying to work on optimization, so I don't really have a formula to give you Charles.

Charles Meade - Johnson Rice

But in general are you denser spacing in the more liquids rich areas, is that a fair assumption.

Steve Dixon

Yes sir.

Charles Meade - Johnson Rice

Okay and then I was hoping also you could talk a little bit about the nature of the bottlenecks you are having there. It sounds like you cited that you are flowing that (inaudible) unit 3000 pounds flowing tubing pressure. So that sounds like its riding all the wells or those wells are riding line pressure, what are the pieces that you are really working hard? Is it gathering lines, is it compression infrastructure or is it the biggest piece being gas processing?

Steve Dixon

Biggest piece is gas processing. By far that’s the limit, Charles. I mean we do have gathering to build out in compression, but it's really the processing plants. We've got [Natrium] coming on soon, Momentum mid year. So there a number of projects that are being completed, that will add significantly to our production capacity.

Operator

We will take our next question from Matt Portillo with Tudor, Pickering and Holt.

Matt Portillo - Tudor, Pickering and Holt

Good morning, just two quick questions for me. In terms of the production you mentioned, the 160,000 barrels a day of liquids production. Just wanted to clarify is that less Mississippian line sale?

Steve Dixon

No sir. That will come off once that is completed.

Matt Portillo - Tudor, Pickering and Holt

Great and then just in regards to your 2013 budget, could you remind you how many rigs you guys were planning on running in that budget and kind of where you stand today. Thank you.

Steve Dixon

It's in the low 80s and I believe we are at 81 rigs today.

Operator

We will take our next question from Biju Perincheril from Jefferies.

Biju Perincheril - Jefferies

Steve, just looking through your assets sales and you still have sizeable amount of acreage expiring over the next couple of years, and just wondering how that changes once you go through the divestiture program this year?

Steve Dixon

Yes, over ‘13 and ‘14, a lot of that acreage will either be sold or perhaps expire. We're focusing on our core assets and as you can imagine our acreage within the core.

Biju Perincheril - Jefferies

Okay. So what's the current rig program the acreage that you want to hold on to, what's your expectations when all tat (inaudible) your requirements?

Steve Dixon

100%. That’s how we determine the size of this year’s capital program (inaudible) to HBP all the stuff that we want to do and so our budget allows HBP that either through the drillbit or there are some dollars in therefore extensions and renewals also in our leasehold budgets. All that’s budget --- and we are again right on target to accomplish that.

Biju Perincheril - Jefferies

Got it. And one follow-up question, I apologize if you mentioned this before the CapEx run rate being below budget, did you mention how much of that is on the cost side, service cost versus just improved efficiency on your operations?

Steve Dixon

It is well probably similar to both but a lot of it is efficiency of our operations, the teams are just doing an outstanding job of lowering cost and everybody is focused on that and when this team there focuses they can get it accomplished and so we get tremendous confidence that we will be on or under budget this year.

Operator

(Operator Instructions) We will take our next question from Ray Deacon with Brean Capital.

Ray Deacon - Brean Capital

I was wondering if you could elaborate a little bit more on the Eagle Ford liquids-rich position in terms of down spacing, how much of your acreage do you think is likely to work for the reduced 50 acres spacing?

Steve Dixon

Well, I hope significant portion Ray. We are doing a couple of pilots in different areas to test that and try to understand the limits of that but we are excited to get those results and because it could be very meaningful to our resource base.

Ray Deacon - Brean Capital

All right, so may be by year end you have a clear picture after you see these pilots for a while?

Steve Dixon

Yes and we'll need to watch that production for a while but we are doing quite bit of testing, quite of science with those, so I think we will get some good results obviously later in this year.

Ray Deacon - Brean Capital

Okay, great. And I guess kind of a similar question on the Utica 300 barrel a day, IP rate on the oil side; I guess how much of the acreage do you think you can see that higher oil component versus NGLs I guess (inaudible) you know yet?

Steve Dixon

Well, I don't have the broke out percentage of acreage but it’s a (inaudible) from east to west on the amount of those liquids, lot of NGLs you know and all of it and that the --- all proportion of that increases to the west but it is significant amount of acreage and we have million acres in the play and these are great economics on these wells. So we have a lot of good acreage.

Operator

We will take our next question from Joe Magner with Macquarie Capital.

Joe Magner - Macquarie Capital

I just wanted to make sure that I have outlook for the Eagle Ford straight, I think on the call today you mentioned that current productions around 80,000 barrels a day, targeting 92 at the end of year net of asset sales, I believe prior target is around 70,000 but if I am not mistaken the planned and I guess package that you are marketing was for 11,000 barrels a day of volumes and now it's 5,000. I just want to make sure that all the pieces………

Steve Dixon

Yeah, its kind of confusing on gross and net and then whether its oil, liquids versus BOE, I believe the 70 was liquids and the 92 is BOE. So I think those numbers are still consistent in both those are with the planned asset sales of 5,000 net to us.

Joe Magner - Macquarie Capital

So is that 5000, net, that's consistent with prior plans.

Steve Dixon

Yes, yeah, that was 10,000 to 11,000 gross.

Joe Magner - Macquarie Capital

Okay.

Steve Dixon

5,000 net in the asset sale.

Operator

We will take our next question from Mike Kelly with Global Hunter Securities.

Mike Kelly - Global Hunter Securities

You mentioned that the smaller asset sales that are like off of the radar screen are starting to add up in aggregate here and I was just hoping you could quantify if you look at the 5 billion to 7 billion in terms of the total divestiture program this year how much of that might be made up of these smaller asset sales?

Steve Dixon

I don't have to tally that for you Mike but its clearly one dimension that because its not like you said its not on anybody’s radar screen and we have a number of what's over what's our huge acreage position, really the kind of the (inaudible) and all these plays are some, are sort of really good, really we don't have the capital or attention to are valuable to others and I mean we are just continuing to click along at 50% to 100% or more you know little asset sales that are really starting to add up.

Mike Kelly - Global Hunter Securities

Okay, just maybe try again for kind of a ballpark figure to something to think of there's a billion in aggregate or potentially more than that or considerably less than that I'm not sure how to ---

Steve Dixon

My guess is you know again I'll just say that as we get definitive agreements, we will release them and provide that information.

We've reached the top of the hour and I would like to wrap up the call. I want to thank everyone for their attendance on such a short notice. Please direct additional questions to Jeff and Gray. Thank you.

Operator

And that concludes today's teleconference. Thank you for your participation.

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