Chesapeake Reignites Shale Gas as Resource Opportunity

McDep natural gas analysis expands with the addition of two innovative producers of the clean fuel, Canadian small cap Birchcliff Energy Ltd. [BIR.TO] and U.S. large cap Chesapeake Energy Corporation (CHK). Both have upside potential in unconventional resources unlocked by advanced technology applied to fracture tight rock and shale formations.

Birchcliff is just a few wells into a program that may reach 500 wells in a newly defined Montney/Doig trend in Alberta. In our early, rough estimate the Montney may be almost half of estimated Net Present Value [NPV] of US$12 a share. Similarly, Chesapeake is just a couple of wells into a program first disclosed on March 26 that may reach a couple thousand wells in a North Louisiana play called the Haynesville Shale. Only proven reserves with normal enhancement make up estimated NPV of $62 a share for Chesapeake.

Though we may not have time to provide the detailed coverage we give for our official buy recommendations, both stocks have attractive McDep Ratios of 0.84 and 0.83 respectively. Birchcliff is inherently more speculative because of its smaller size and higher cash flow multiple relative to reserve life. Meanwhile oil futures at new highs imply further gains for natural gas.

Seymour Schulich Owns 20% of Birchcliff

Seymour Schulich, Canadian billionaire and author (see McDep Energy Income, August 6, 2007), picked Birchcliff last year as his concentrated natural gas investment. Our client, who may be the largest individual shareholder in buy-recommended Canadian Oil Sands Trust (COSWF.PK), is hoping to reproduce in natural gas the success he had in small cap oil sands producer, Blackrock Ventures, which was sold at a nice gain to buy-recommended Royal Dutch Shell (RDS.A) (see Meter Reader, June 6, 2006).

Like Blackrock, Birchcliff is long on future potential that could provide growth for it to develop, or for a well-established, larger company to acquire. At the same time that future potential is not much represented in cash flow currently being generated. By the normal relationships, NTM cash flow would support a present value of about US$7 a share. The remaining NPV of US$5 a share is a tentative assessment of Birchcliff’s Alberta gas play. On the upside there may be a trillion cubic feet of recoverable resources. Risk factors include the billion dollars of investment that may be needed, the years of effort to complete that investment and high Alberta royalties likely to be imposed beginning next year.

Chesapeake Develops Shale Gas

The Barnett Shale play around Fort Worth, Texas has reignited shale gas as an exciting resource opportunity. Chesapeake, with drilling rigs on the grounds of Dallas Ft. Worth airport, is a leading participant there as it joins buy-recommendations Devon Energy (DVN), XTO Energy (XTO) and EOG Resources (EOG). Chesapeake has also emerged as the second largest player in Arkansas’ Fayetteville Shale where income stock Dorchester Minerals (DMLP) has a profitable lease position. Illustrating that one good shale idea seems to lead to another, CHK disclosed its Haynesville play as offering multi- trillion cubic feet of resources in the ground. (In round numbers, annual U.S. production of natural gas is 20 trillion cubic feet with revenue value of $200 billion at a price of $10 a thousand cubic feet or million British thermal units.) Though the shale prospects are stirring, it will take a decade or more of expensive drilling and fracturing to achieve the high resource volumes suggested.

Chesapeake derives a high proportion of current cash flow from natural gas much like peers XTO and EOG. By the normal relationships, NTM cash flow would support a present value close to our estimate of $62 a share.

Originally published on April 8, 2008.

Comments

[AAFinancialFreedom]

The Towers Are Up at DFW:

We at AA Financial Freedom have followed CHK for a number of years now and agree that they are doing a great job at growing their business. It is featured in our top picks right now. Glad to see that you placed excellent research within your article. Finally, I drive by the DFW Airport quite often. During the stops I always look at those drilling towers doing well, belonging to CHK, and think to myself "the stock is doing well too".

Sincerely,
The Editor
Remember visit us at at AAFinancialFreedom.net
&
"Pave your own road to Financial Freedom"