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Chesapeake Energy (NYSE:CHK) is the second largest natural gas producer in the U.S. Due to some missteps by the now-former CEO, CHK managed to get in some serious liquidity problems, turbocharged by recent record low prices for NG.

Just when I was becoming comfortable with the idea of massive domestic supplies of natural gas and happy that NG was replacing dirty coal in our electric generation industry,and waiting to watch the heavy truck fleet convert to NG from diesel fuel, I now learn that the NG glut has suddenly turned into a possible NG shortage. What happened to the planned LNG exports and NG fueled cars?

Well it turns out that consumption grew like crazy because the fuel was so cheap. Because the price is so low, suppliers have drastically cut the rate of NG drilling and converted the rigs to drilling for more profitable oil. Quite successfully, I might add.

Of the 1750 rotary rigs operating in the U.S., about 20% are targeting NG and 80% are targeting oil. I can remember when it was the other way around.

In a low precision analysis, there are three factors to consider in a discussion of NG; production, consumption, and storage. Since wells alone cannot supply all the gas required during the winter heating season, the industry has established a system of underground storage caverns that are filled during the summer season and depleted during the heating season.

The low NG prices have finally worked their magic. NG production appears to have peaked and might actually be declining. Consumption is still high and moving higher. And storage is below the five year average. Since there is some concern that the storage cannot be fully refilled during the summer, prices are rising. Finally, up $.19 today alone at $4.15/mcf.

On the Berry Petroleum (BRY)message board at Investor Village there is a gentleman with the handle of robry825. Robry, as I understand, is a NG trader. Robry posts a dizzying array of data on the daily gas flows and predicts the weekly injection or withdrawal of NG into and out of storage. He is often the most accurate of many sources for this information. Robry rarely engages in the inane banter often found on Internet message boards. He just posts his information for everyone to use as they wish. Neat guy. Occasionally robry offers some commentary on the longer term direction of NG prices. In eight years of casually following this data I have never known robry's directional guidance to be wrong.

Here is a snippet from robry's Mar 26 commentary:

".....Overall, natgas looks "wicked-bullish" and my thinking remains that natgas makes a run for par with oil in 13 months
.....(by end of April-2014). I see no credible way around this scenario, and as obvious as it looks... the buy side should
.....be hedging like mad right now all the way out to the end of the strip. The sell-side should not even think about hedging
.....anything until we can get a weekly baseline score below zero.

.....(Par value of natgas to WTI yesterday was $15.80)"

Robry just never uses terms like "wicked-bullish", so he has my attention. The NG glut has been pounded into the American consciousness to the point that no one is looking for anything like this kind of a bullish turn-around on NG prices.

Now, my play on this will be CHK. I own CHK as a play on a buy out and a play on NG longer term if they are not bought.

In the fourth quarter CHK produced 278 billion cubic feet of natural gas and received an average price of $2.07 per mcf for about $577 million in NG revenue or about 16% of the $3.539 billion total revenue. The company earned $.39 per share of NON-GAAP earnings.

Now for some assumptions going forward. Let's say that robry is right and NG reaches $16/mcf in a year. Let's further assume that the increase will be linear, and therefore, average $8/mcf for the year ahead. Now, let's take that fourth quarter above and substitute $8/mcf for the $2.07/mcf actually received. Nothing else changes except the company gets an extra $6/mcf for the 278 Bcf of NG produced during the quarter. That would be about $1.7 billion more earnings for the quarter, that would flow essentially unimpeded to the bottom line, on top of the $.39, or about $2.97/share. Remember this is a quarterly number; the full year earnings number would be about $12/share.

The ending quarter, in robry's world would, would get the full $16mMcf vs. $2.07. Without boring you with more calculations the earnings number would be about $6.30/share - for the quarter - annualized earnings = $25/share. Hedges will reduce the front quarters and they will maybe pay some cash taxes, but this gives some idea of the heretofore obscured earnings potential of CHK.

As an unreformed gambler, I am playing options, Jan 2014 30s, for either a buyout or the robry option.

Disclosure: I am long CHK. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: Chesapeake Energy: The Best Play In Rising Natural Gas Prices