Seeking Alpha
Independent research analyst, value, growth
Profile| Send Message|
( followers)  

The U.S natural gas giant Chesapeake Energy (CHK) has been offloading its assets to pump up its balance sheet. The company has been struggling due to the weak natural gas pricing environment, a mounting pile of debt -- which stood at $12 billion by the end of last year -- and some serious management problems, coming largely from the former CEO Aubrey McClendon. The business's current goals are to sell assets, cut spending, reduce debt and focus on increasing production of higher margin liquids. However, the WSJ has recently reported that Chesapeake has no plans to sell its much hyped $2 billion stake in FTS International due to a fall in its value, according to one estimate, to less than $1 billion.

McClendon took a brilliant decision to invest in FTS back in 2006 for just $100 million. The company now owns 30% of FTS. However, McClendon failed to cash in on his investment when it was worth significantly more. In late 2011, McClendon announced that he would try to sell the company's stake in FTS, Chaparral Energy and a part of its subsidiary, Chesapeake Oilfield Services LLC, for $3 billion in early 2012.

So far, Chesapeake has sold $1.5 billion of assets this year; the company has annual target of $4 billion -- $7 billion for 2013. Earlier in February, the China Petroleum and Chemical Corp (SNP), otherwise known as Sinopec Corp, announced that it would purchase 50% of Chesapeake's 850,000 acres Mississippi Lime oil and natural gas assets for $1.02 billion. According to Chesapeake's own valuation, the acreage was worth more than $2.97 billion (Chesapeake estimated its value as more than $7000/acre).

Meanwhile, Chesapeake is trying to rein in its capital expenditure. The company's management is going to make sure that the company does not spend more than $6 billion in drilling. Given its current cash flows, Chesapeake is going to be $4 billion short - which is going to come from asset sale.

FTS International

Fort Worth-based privately held FTS, formerly known as Frac Tech, provides well stimulation services to oil and natural gas companies. It operates 34 fracking/hydraulic fracturing equipment fleets with 1,579,500 horsepower. Just two years ago, FTS was planning to expand into the shale regions of Asia, South America and Middle East as it geared up for an IPO for 10% of the company. Neither did the IPO happen (the company has not given any official reason) nor did it witness any kind of growth.

The business generates 43% of its revenues from just three customers, of which a quarter, 25.4%, comes from Chesapeake. A loss of any one of its clients could have disastrous effects on the firm. The company is operating in an industry that is not only facing intense competition but is also consolidating, which can also result in loss of business. In fact, two of its big customers have recently been taken over by larger firms. When that happens, there is always a risk of clients going elsewhere. Moreover, FTS doesn't get any long term contracts from its customers instead, in this competitive environment, it has little options but to operate on per project basis.

As mentioned earlier, FTS is privately held but it releases its financial results on its website. In 2012, the company's revenues have dropped from $2.3 billion to $1.9 billion as it swung from a profit of $644 million in 2011 to a loss of $29.8 million last year.

In November 2012, FTS replaced its CEO from the Chesapeake's former financial boss Marcus Rowland (the same Marcus Rowland who received more compensation from FTS in 2010 than Exxon's Rex Tillerson did in the same year) to Greg Lanham, a former Temasek executive. Temasek is a Singapore based government owned investment firm, which together with the private equity firm RRJ Capital, purchased a 70% stake in FTS about two years ago for $3.95 billion -- which would take FTS's valuation to $5.64 billion.

FTS, like Chesapeake, is also operating under a heavy debt load which had a negative impact on its valuation. The business has been focusing on reducing its debt levels. Although the company's long term debt stands at $400 million (shown in the picture below), but that of its parent - FTSI - has reached $1.16 billion. FTSI essentially has "no other material assets" except FTS so in essence, the business's debt is about $1.5 billion ($1.16 billion + $400 million). However, this is still an improvement as its debt has come down from $2 billion in 2011.

(click to enlarge)

Based on its current EBITDA levels, analysts have valued the company at less than $1.5 billion, which means Chesapeake won't be able to net a billion dollars from its sale. This should be disappointing for Chesapeake's investors as in December 2011, it was reported that Saudi Arabian and Chinese companies were willing to pay $2 billion for 30% of FTS.

Chesapeake's Stock

Chesapeake's recent rally is slowing down and the company's shares are down 6.2% in the last four weeks. But overall, they have increased by 20.8% since the beginning of the year. The company's shares are currently hovering around $20. With annualized dividends of $0.35, Chesapeake gives a yield of 1.75% while it has generated a return on equity (trailing twelve months) of negative 3.31%. By comparison, its rival Anadarko Petroleum (APC) has also been up 20% in 2013 but gives a lower yield (0.40%) and higher comparable return on equity (11.97%).

Source: Chesapeake's Asset Sale: A Look Inside FTS International