Natural gas and the companies that produce it have not had an easy time of late. Natural gas prices are not expected to show a great improvement in 2012. The current price of $2.25 per thousand cubic feet is far below the heady $13 per thousand cubic feet in 2008. The recession, improvements in drilling and extraction technologies which have generated oversupply are all responsible for the price tumble since 2008. The 2012 forecast price is $3.70 per thousand cubic feet, providing there is increased usage in the winter months (this did not happen in 2011) and supply becomes more finely tuned to demand. While some energy companies have fared better than others in the last three years, it appears that most of the players are tired after the relentless beating the price of natural gas continues to take.
Chesapeake Energy (CHK) is in the business of exploration and production of oil and natural gas assets. Its drilling and production activities account for 5% of the natural gas production in the U.S. The common shares trade around $17. The shares have a 52 week range of $16.78 and $35.75. The price earnings ratio is 7.34. The earnings per share are $2.32 and the dividend yield is 2%. The company has total cash of $351 million and total debt of $10.87 billion. The book value per share is $21.20. The percentage of the float sold short is 9.10%.
Kodiak Oil & Gas (KOG) common shares trade around $8.70 and have a 52-week range of $2.43 and $10.90. The price earnings ratio is 457.37. The earnings per share are $0.02. It does not pay a dividend. Book value per share is $3.26. Kodiak has cash of $81.6 million and total debt of 750 million. Float is 18.20% short owned 49% by institutions and 8.13% by insiders. Short position is up 6% from previous month to 18.2% of the float.
Lucas Energy (LEI) trades around $1.80 between a year low of $1.04 and high of $3.46. The company has a market cap of $34.78 million and negative earnings of ($0.40) per share. Lucas Energy has total cash of $22.6 million and total debt of $22.3 million. Its book value per share is $1.19. The float is 11.4% sold short. The shares are 83% held by retail investors. The large retail ownership percentage is not unusual, as low priced shares rarely get any coverage by analysts or institutions.
Linn Energy (LINE) shares trade around $41. They have a 52-week range of $31.03 to $41.13. The earnings per share are $4.85. The dividend yield is 7.30%. It has $24.18 million in cash and $4.93 billion in debt. The book value per share is $20.20. Only 1% of the float is short. It is widely held by retail investors 76%. It is a limited liability corporation that distributes cash to investors much as a master limited partnership does. The share price is not as volatile because of its corporate structure and its ability to balance oil assets against those of underperforming natural gas assets. Going into the ex-dividend date of May 4, this is not surprising as retail investors are not as likely to follow a short program as institutions and fund managers do.
Double Eagle Petroleum (DBLE) shares trade around $5.50. The stock trades in a 52-week range of $5.02 and $11.25. The company has a price earnings ratio of 7.80, earnings per share of $0.71 and does not pay a dividend. The company has total cash of $8.68 million and total debt of $42.05 million. The book value per share is $5.01. Short percentage of float is 2.8% is widely held by retail investors; approximately 57% of the float is held by retail.
Debt levels exploration companies are always a high as the price of exploration and drilling occur far in advance of any production. Companies take on debt necessary to finance drilling and production. The trick to longevity in the business is to diversify the revenue stream out of complete dependence on asset class, operate in a price environment that make the production of a viable business endeavor and to fine tune supply to market demand.
Back at Chesapeake, things are not going well at all. The Chairman/CEO has recently been sued by investors for taking a $1.4 billion loan from the company when it has $10 billion in debt. Its shares showed steep declines on May 2, after releasing weaker than expected quarterly results. These results are being blamed on the Chairman and CEO, Aubrey McClendon for taking sizable personal loans secured by interests in company owned assets and for running Heritage Management LLC, a $200 million hedge fund from 2004 to 2008 when he was, as he still is, at the helm of Chesapeake.
The fund's focus is on trading in energy commodities and derivatives. While there is no hard evidence to indicate that he and Chesapeake co-founder Tom Ward used inside knowledge gathered from Chesapeake for the hedge fund trading, it stretches the realm of the believable to a thin limit. Tom Ward is presently the CEO of SandRidge Energy (SD). It is really hard to fathom that each of these gentlemen had no particular knowledge of the oil and gas industry which would assist them in their hedge fund endeavors. Heritage has never been mentioned in any Chesapeake disclosure from 2004 to 2008. The shares were off almost 15% on May 2, 2012.
In February, Chesapeake reported that in order to remain solvent, it would exit its Permian Basin assets. Chesapeake owns the sixth largest property cluster in the Permian Basin, which accounts for approximately 5% of the company's total net proven and probable mineral reserves and current production. The Permian Basin is a sought after region because its reserves contain more oil than gas. There are several suitors for the Permian assets, one being BHP Billiton (BHP), which has acquired some other Chesapeake assets in the past. Selling off these assets will deter it from Chesapeake's objective to not be so heavily weighted in natural gas.
Chesapeake can also receive approximately $2 billion during 2012 by disposing of some of its midstream assets and service company assets. These proceeds would allow the company to meet its debt reduction goals. These dispositions will hopefully improve the company's financial strength through this period of low natural gas prices. The company has pulled back some of its drilling activities and it will engage in shut downs at some of its marginal facilities. The difficulty with the sell offs and shut downs is that the company is obliged to drill on its leased oil and gas properties in order to maintain the right to do so on the land. If the price of natural gas does not increase in 2012, Chesapeake will face a multi-billion dollar cash shortfall.
The CEO's previous strategy has been to acquire as many oil and gas properties at a very fast rate. Joint ventures, asset disposal and debt issuances have all paid for the acquisition ride. With natural gas now looking to dip below $2 per thousand cubic feet, this acquisition program has become problematic. A change to a concentration on oil plays in North America, particularly the Permian Basin was undertaken to provide cash flows from the higher value oil assets, assets that the company is now going to sell. In order to maintain the Permian properties, investments and expenditures have to be made in order to drill wells. Unfortunately, Chesapeake does not have the wherewithal to make these expenditures.
The company's new strategy is to enter into production payment plans, which involve receiving payments in advance of delivery future volumes of oil and gas from fields in its Texas Panhandle properties. There are two drawbacks to these advance payments. One, the price of delivered product is locked at current levels, if the price of delivered oil and gas rises, Chesapeake receives no benefit. Two: customers who pre-pay for oil and gas have no recourse to the company if the projected production volumes don't materialize. The companies will still have to find a way to finance drilling activities to maintain a hold on the properties it remains to be seen how this will be accomplished.
It has been a gut-wrenching and scary ride for natural gas. One of the most successful natural gas traders and fund managers has tapped out. After seeing natural gas prices near $2 per thousand cubic feet, John Arnold, the king of natural gas, who founded Centarus Advisors, has exited the business. After several successful years staying ahead of the curve in natural gas hedging, he has decided to do something less depressing with his life. There will probably be more fund managers and natural gas operators exiting the business through 2012.
Increased production, over supply and no response from consumers during mild winters are responsible for the reduced demand. A long term strategy geared toward the eventual increase in demand and price for natural gas seems to be only a theory. Is this the darkness before the dawn on natural gas prices and assets? Right now, it just seems to be the end.
There are many reasons to be optimistic that natural gas will finally get the respect it deserves. History reminds us that oil and its discovery saw it as an abundant, cheap and easy way to move vehicles and heat houses. Natural gas is presently seen in this light, what will change that perception as long as it remains in abundant supply is not presently known. Natural gas has been referred to as many things in the commodity markets: not pretty, the ugly stepsister, the relative we keep locked under the stairs and my current favorite, the body buried in the basement. It seems to be the most appropriate description right now.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.