Important Note: This article is not an investment recommendation and should not be relied upon when making investment decisions - investors should conduct their own comprehensive research. Please read the disclaimer at the end of this article.
Chesapeake Energy (NYSE:CHK) received a respectable valuation for its first Haynesville package, which was sold to an undisclosed private company. The sale price is $450 million.
The transaction is accretive on credit metrics, as an estimated two-thirds of the price received are attributable to undeveloped acreage.
The sale is well-timed, given the positive momentum in natural gas fundamentals.
According to the press release, the divestiture included ~78,000 net acres, of which ~40,000 net acres the company considered as core.
The acreage is located predominantly in Desoto and Sabine Parishes and is shown in gray on the map above. The map indicates that Chesapeake is selling less valuable portions of its acreage, retaining the highly concentrated core-of-the-core areas.
The sale includes 250 wells (gross) currently producing ~30 million cubic feet of gas per day, net to Chesapeake. The company did not provide any further information with regard to the asset package.
Assuming an average working interest of 70% and an average royalty burden of 25%, average gross production rate per well is ~0.23 MMcf/d. In other words, the vast majority of the wells are mature and production is likely characterized by a relatively low decline but relatively high operating cost. I also assume that the acreage is encumbered by a long-term midstream dedication with gathering fees reflecting Chesapeake's legacy contracts.
Based on these assumptions, I estimate the M&A value of the existing production at ~$125-$150 million.
Further, using a density assumption of 5-6 wells per drilling unit on core acreage and 95% "geometric efficiency" of the acreage, I estimate the core acreage being sold to yield 140-200 future development locations. Some additional upside may exist in the event the acreage is developed using a stack-and-stagger pattern.
Based on these estimates and using the high end of the range for the remaining inventory, the core acreage is roughly 45% developed.
If I were to attribute a valuation of ~$2,000 per acre to the Tier 1 acreage included in the package, for a total of ~$75 million, the implied valuation of the ~22,000 undeveloped core acres is roughly $10,000 per acre. The valuation would also imply $1.1 million per drilling location.
Given the likely heavy burden of the midstream dedications and gathering fees, such valuation appears favorable.
The Second Package Is On The Market
Chesapeake is marketing another asset package in the Haynesville area, which includes ~50,000 net acres located in the northeastern part of the play, predominantly in Bossier and Bienville parishes.
Chesapeake made no comment with regard to the prospectivity of the acreage included in the second package. The biggest intrigue with regard to the northeastern acreage is its Lower Cotton Valley potential (which in certain areas may exceed in value that of the Haynesville Shale). Without having a detailed geologic mapping of the acreage, it is difficult to speculate with regard to the price that can be received in the auction.
Meaningful Exposure To The Haynesville Retained
The announced transaction represents a second round of position "trimming" by Chesapeake in the Haynesville. Three years ago, Chesapeake sold operated and non-operated interests in ~9,600 net core acres in Desoto and Caddo parishes and ~114 MMcf/d of production to EXCO (NYSE:XCO) for ~$320 million.
The transaction gave EXCO approximately 55 additional Haynesville drilling locations on the 11 CHK-operated sections plus an increased working interest in 75 EXCO-operated drilling locations. While the implied valuation per drilling location in the EXCO transaction was substantially higher, based on my estimate, it reflected the core-of-the-core quality of that package.
Following the two pending divestitures, Chesapeake plans to retain ~250,000 net acres in the core of the Haynesville. The retained acreage is characterized by very high quality.
Growth Guidance Underwhelming
Chesapeake guided that it plans to grow its Haynesville production volumes by ~13% in 2017. The guidance is somewhat disappointing.
(Source: Chesapeake Energy Analyst Day Presentation, Oct 2016)
The Haynesville has a distinct advantage in the current market environment due to unconstrained takeaway capacity it enjoys and close proximity to Henry Hub. These factors enable favorable pricing and unconstrained growth with short lead times. It is also important to mention that the Haynesville is a high-pressure, high-decline formation, which makes it a candidate for priority capital allocation in the current macro environment for natural gas.
Given the recent rally in Henry Hub futures, Chesapeake appears to be favorably positioned to increase its Haynesville volumes. In this context, the 13% growth guidance is underwhelming and highlights the company's severe capital constraints, which limit its ability to react to price signals.
Impact On The Balance Sheet
The valuation discussed above suggests that approximately two-thirds of the price received in the announced transaction will likely be attributed to undeveloped acreage. Therefore, the impact on the company's borrowing base will be minimal. The second Haynesville package is likely to have a similar credit impact, although the proceeds are difficult to estimate (my expectation is for undeveloped acreage to receive pricing in the $5,000-$10,000 per acre range).
The format of the announced transaction highlights the deleveraging path that Chesapeake may have to continue to pursue. The divestiture package obviously includes valuable acreage blocks held by production but are less promising and strategic to the portfolio than the acreage that is being retained. Given the pressing need to de-lever the balance sheet, this high-grading strategy appears to make sense, even though some sacrifices will have to be made.
Despite numerous divestitures to date, Chesapeake's asset portfolio remains asset-rich relative to the company's enterprise value. The de-leveraging route via similar "trimming" in other areas appears viable in the current M&A environment.
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Disclaimer: Opinions expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment, tax, legal or any other advisory capacity. This is not an investment research report. The author's opinions expressed herein address only select aspects of potential investment in securities of the companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies' SEC filings, and consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author's best judgment as of the date of publication, and are subject to change without notice. The author explicitly disclaims any liability that may arise from the use of this material.
Disclosure: I/we 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.