Chesapeake Energy (NYSE:CHK), America's second-largest natural gas producer, might be out of its erstwhile CEO Aubrey McClendon's shadow, but this won't help the company escape the realities of the natural gas market. Chesapeake hasn't been able to post a profit yet and incurred a net loss of $159 million in the previous quarter. However, the company's revenue rose by 28% to $4.54 billion, beating consensus estimates of $4.41 billion. But then, the dynamics of the natural gas industry could handicap Chesapeake's performance in the long run and lead to disappointment.
Moreover, Chesapeake's daily production declined 3% last quarter as a result of reduction in well connections. Chesapeake also struggled due to the severe weather across the country. Due to these tough conditions, the company's expenses increased. As a result, Chesapeake was forced to terminate drilling rig contracts, eventually leading to loss of market share.
Trying to get better, but can it?
However, Chesapeake is focusing on various aspects to get over the tough situation and plans to raise cash through sale of assets to bridge the gap between income and expenditure. Chesapeake is also planning to spin off the oil field service division and raise about $4.4 billion. With the help of these spin-off strategies, Chesapeake is focusing on discovering and developing natural gas and oil assets onshore in the U.S.
Chesapeake has also announced the sale of up to 437 natural gas units and related assets as natural gas pricing remains unfavorable. There are many reasons responsible for the decline in natural gas prices in the U.S. The growing supply of shale gas is one such reason that's affecting natural gas pricing. The evolution of horizontal drilling and hydraulic fracturing over the past few years has allowed companies to tap shale gas at cheaper rates. However, since then, natural gas production in the U.S. has ramped up much faster than growth in consumption, which has led to price declines.
But, Chesapeake expects better performance in the future due to rise in natural gas prices on the back of export demand. Exports are expected to play a key role in lifting natural gas prices in the U.S. despite surging supply from shale gas resources.
Further, electricity demand is expected to rise in the future, which will cause natural gas prices to rise. This is because of the fact that natural gas has much lower carbon intensity compared to coal. In addition, it is an attractive alternative fuel for new power generation plants because of relatively low capital costs and favorable heat rates. But, analysts expect the decrease in natural gas prices to continue in the future. Even Chesapeake sees pressure on natural gas pricing to continue. This is why the company is focusing on asset sales to maintain profitability, or else it would be in dire straits.
But Chesapeake can take heart from the fact that natural gas is expected to remain the fastest growing global energy source until 2035, growing at a rate of 1.9%, but not much can be said about the pricing. The short-term forecast doesn't look promising as natural gas prices recently declined the most in six years.
Valuation and conclusion
Chesapeake is quite expensive at 34 times earnings, while the industry average is just 23. Moreover, the company is deep in debt. Chesapeake's balance sheet carries $13 billion in debt, while its cash position is just $837 million.
All in all, the present scenario for Chesapeake is tough. Though the company is selling assets to maintain cash, yet, there aren't enough concrete reasons that warrant an investment in this stock. So, investors should consider staying away from Chesapeake Energy until and unless the company shows signs of a recovery.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.