Unless you're the Geico guy in the commercial living under a rock, you have probably heard the startling Chesapeake Energy (CHK) news about CEO Aubrey McClendon getting caught with his hand in the cookie jar yet again.
To add insult to injury, the disclosure comes just as Chesapeake is trying to weather a multibillion-dollar liquidity crisis amid a painful plunge in the price of natural gas.
Investors will undoubtedly remember back in 2008 when McClendon and the company nearly went bankrupt after he received margin calls on loans taken out to purchase stock in the company. A stake worth $1.9 billion at one point has now virtually disappeared.
Oops, he's done it again. McClendon has borrowed $1.1 billion (with his shares in the company as collateral) over the last three years to invest in thousands of the company's wells. The loans are used to fund a perk that allows him to invest 2.5% in every well drilled by the company.
McClendon and the company say the loans pose no conflict of interest nor did they need to be disclosed. If you believe this, I have some oil producing sands in my backyard. The sheer size and nature of the loans raise questions about whether McClendon's personal financial deals could compromise his fiduciary duty to Chesapeake investors
McClendon's biggest personal lender, EIG Global Energy Partners, has also been a big financier for Chesapeake. EIG and other investors have helped Chesapeake raise more than $2 billion through the sale of preferred shares that provide very favorable terms to the buyers.
He has once again demonstrated how greed can destroy a business model and how sometimes management can be the biggest risk faced from an investor standpoint. His behavior merely reinforces what many diligent investors already know: Chesapeake Energy is run for the benefit of management, not shareholders. Until this changes, will the last person shorting Chesapeake please turn out the lights?
If you are inclined to dumpster dive or try to catch a falling knife for a natural gas play, I would choose Encana (ECA) over Chesapeake any day. Encana is one of the most efficient producers in North America. Although natural gas prices are hitting new lows, 60% of Encana's 2012 production is hedged at $5.80/mmbtu level. It also does not suffer the same management risk as Chesapeake. It provides an attractive yield of over 4%, but faces sustainability questions if natural gas prices continue downward. The dividend will also be subject to a 15% tax as this is a Canadian energy company.
Summary
I just do not like pure natural gas plays right now, even Encana. I would not advocate buying the stock, but perhaps selling puts and maybe getting lucky with a low ball. This very well could be the bottom for natural gas prices, but you have to ask: How long do we bottom for? These companies are starving every day that we plumb the depths. Natural gas may have a train coming, but it is a slow train and the next couple of years do not look favorable.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
