Chesapeake Energy: An Opportunity To Generate Profits For Investors

Summary

• Chesapeake will have eliminated $12.2 billion in total leverage over the past five years.
• Chesapeake will retire the debt obligations for 2018, 2019, and 2020 completely and just over 53% of the debt owed in 2021.
• Anticipating oil volumes to increase by 10% in 2019.
• Beginning development in the Austin Chalk and Upper Eagle Ford.

If Chesapeake Energy (NASDAQ:CHK) was a technology company they would be celebrated and put on a pedestal. Chesapeake operates in a sector which hasn’t been attractive for quite some time, yet the energy sector is essential to not only the global economy but every person’s way of life. Unlike products and services which could be phased out or flat out, replaced energy is a constant which will always be needed. If you were to spend some time and really research everything Chesapeake has done since Mr. Lawler took the helm, you would think this is a broken stock which provides a golden opportunity not a broken company. Sooner or later, more upgrades will follow Bank of America (BAC), and the market will fairly evaluate Chesapeake’s true value. Warren Buffett once said it is wise to be fearful when others are greedy and greedy when others are fearful. This is a time to be an investor for the long haul with Chesapeake because all the progress which has been made can’t be negated much longer.

Anyone selling Chesapeake at these levels or expressing negative views didn’t listen to the same conference call that Mr. Lawler delivered

On May 23^rd, my first article on Chesapeake was published titled A True Turnaround Story With Exceptional Upside Potential, and this conference call solidified my thesis. With the closure of the Utica transaction, which is slated for Q4, Chesapeake will have eliminated $12.2 billion in total leverage over the past five years. Their annual gathering, processing, and transportation expenses will have decreased by approximately $900 million. CapEx will have been cumulatively reduced by more than $12 billion, while over $1 billion in annual cash costs will have been eliminated. This is remarkable for a five-year span which included a collapse in oil prices.

Debt cast a large shadow, and now, the rays of light have broken through

The most common reason for the diminished share price of Chesapeake was their debt load followed by commodity prices. Once this sale closes, Chesapeake will retire the debt obligations for 2018, 2019, and 2020 completely and just over 53% of the debt owed in 2021. In total, $1.9 billion of debt will be retired from this sale which is just over 20% of their obligations, leaving the company with $7.3 billion of debt left on the books. Chesapeake will not have to touch their profits to pay down debt again until 2021. Chesapeake has three full years where their profits will not be touched allowing them to increase cash on hand while utilizing capital to create further efficiencies to increase margins and their bottom line.

(Source: Chesapeake Energy Q1 2018 Presentation)

Q1 and the TPH Hotter ‘N Hell Energy Conference jump-started the party

On June 14^th, my second article titled Now Is Not The Time To Sell As The Party Is Just Beginning was a response to an influential figure who stated that now was a good exit point if you were invested in CHK. These two presentations that CHK released provided a wealth of information which solidified my positions on the organization. Consider the following highlights before looking at Q2, which kept building off of a solid foundation:

• Chesapeake placed an Upper Marcellus well online which has produced approximately 18 million cubic feet of gas per day
• First 10,000-foot lateral in the Bossier Shale
• First 15,000-foot lateral well placed online in the Haynesville location
• 2018 Q1 adjusted EBITDA $733mm 40% increase YOY
• 2018 Q1 Free Cash Flow $609mm 27% increase YOY
• Powder River >80% oil growth YOY
• Powder River Current Avg. Rate 750 bo/day and 5.9 mmcf/day with the Target Rate of 1,225 bo/day and 6.5 mmcf/day
• Powder River is expected to have >110% net BOPD growth and >75% net BOEPD growth within Q4 2018
• Turner drilling improvements include drilling days reduced from 60+ days to 21
• Turner location is expected to have 35-40 wells drilled in 2018
• Oswego location moving to extended laterals and multiwell pads

(Source: TPH Hotter ‘N Hell Energy Conference & 2018 Q1 Earnings Presentation)

The Q2 conference call was positive and should have generated tremendous excitement for the second half of 2018 and 2019

I really believe people don’t do the research because the Q2 conference call was very positive and painted a great picture which is validated by facts. I think the sell-off was attributed to computerized trading programs using algorithms to find sell points, stop loss levels being triggered, and straight up day trading. Nothing about this conference call made me think about selling, and I am in the green on my investment. This is what I found extremely exciting about the Q2 call:

For the 2018 second quarter:

• Total production growth of 8% year over year, after adjusting for asset sales
• Roughly 38,000 barrels of oil equivalent per day
• Grew oil volumes 11% adjusted for asset sales
• Increase in full-year oil production guidance of 500,000 barrels
• Attained a 47% increase in cash flow before working capital changes compared to last year
• Growing adjusted EBITDA per barrel by 16%

Utica sale:

• Approximately $2 billion of proceeds from the Utica sale will go directly to debt reduction
• Eliminating up to $150 million in annual cash interest expense
• Improved gathering, processing, and transportation expenses yielding a $0.50 per boe improvement
• Removed approximately $450 million in projected 2019 GP&T expense
• Removed $2.4 billion of future midstream and downstream commitments
• Increase EBITDA by approximately $0.70 per boe in 2019

South Texas team:

• Was cash flow negative even at $100 per barrel as recently as 2014
• Expected to generate approximately $475 million in free cash flow this year
• Implementing first improved oil recovery project in 2019
• Beginning development in the Austin Chalk and Upper Eagle Ford

Drilling program:

• Drilled the longest lateral to-date in the Lower Marcellus at approximately 13,380 feet
• Drilling an even longer planned lateral of approximately 14,500 feet
• Expect to place both wells on production before year end 2018

Oil volumes:

• Anticipating oil volumes to increase by 10% in 2019

Breakeven Levels:

• CHK has breakeven levels that will reap huge benefits as oil hedges roll off is commodity prices stay flat or continue to increase

The US is gearing up to make Natural Gas (NG) a major export

Europe’s consumption of natural gas has been growing and production has declined. The Dutch government ordered a large cut in gas production as earthquakes caused explosions at Groningen field. When President Trump met with Jean-Claude Juncker who is the president of the European Commission, the two stated that they would be entering into a new phase in their relationship with an emphasis on natural gas. Steps are being taken to boost US Liquefied Natural Gas (LNG) exports to Europe, including the EU building more terminals to import LNG.

This is great news because the US has been ramping up our export facilities. According to the FERC website, the United States currently has three export terminals for LNG amounting to a total export capacity of 3.82 Bcfd (billion cubic feet per day).

• Cove Point, MD, .82 Bcfd
• Sabine, LA, 2.8 Bcfd
• Kenai, AK

FERC has also green-lit nine additional export facilities in the United States. Once these nine facilities become operational, a total of 18.74 Bcfd of LNG exports will be flowing from U.S. shores.

U.S. approved - under construction:

• Hackberry, LA, 2.1 Bcfd
• Freeport, TX, 2.14 Bcfd
• Corpus Christi, TX, 2.14 Bcfd
• Sabine Pass, LA, 1.40 Bcfd
• Elba Island, GA, .35 Bcfd

U.S. approved but not under construction:

• Lake Charles, LA, 2.2 Bcfd
• Lake Charles, LA, 1.08 Bcfd
• Hackberry, LA, 1.41 Bcfd
• Sabine Pass, TX, 2.1 Bcfd

(Source: FERC)

Analysts are starting to come around

Doug Leggate, an analyst from Bank of America Merrill Lynch, was the first reported analyst to change his views on Chesapeake after the announcement of an asset sale. He upgraded Chesapeake from underperform to neutral and raised his price estimate from $4 to $6, while indicating that the worst is behind Chesapeake.

Moody’s placed Chesapeake under review for an upgrade, which will include the B3 Corporate Family Rating and the Caa1 senior unsecured ratings. Pete Speer a Senior Vice President at Moody’s said, “This transaction will significantly reduce absolute debt levels and further the company's portfolio repositioning towards liquids from natural gas.”

Conclusion

If Chesapeake was a technology company, right now, the share price would have exceptional movement north of where it currently is. Investment firms and credit agencies are starting to notice the improvements Chesapeake has been making. I believe Chesapeake has exceptional upside potential, and investors who are patient will be rewarded. As I stated before, I am in the green on my investment, but if I have an opportunity to purchase shares below my average share price, I will add to my position. I believe commodity prices will be favorable for the foreseeable future, and the growing energy demands will help energy producers and transporters. I am long Chesapeake and believe in Mr. Lawler!

Analyst’s Disclosure: I am/we are long CHK. 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.