4 Reasons To Sell Chesapeake And Cut Losses Now

| About: Chesapeake Energy (CHK)

Chesapeake Energy Corporation (NYSE:CHK) stock recently plunged to a 52-week low of $13.32 per share after investors learned that (now former) Chairman Aubrey McClendon had obtained stakes in some of Chesapeake's wells. The company has taken a number of steps to regain investor confidence and recently installed Archie Dunham as Chairman. This step and other action by the board has helped to spur a partial rebound in the stock price, which has rallied off the lows to now trade at about $17 per share. The level might not last for long and investors should consider using any rallies to sell for a number of reasons:

1) While the shares have rebounded from the lows, a number of risks remain and it would not be unlikely for the stock to re-test the $13 level. The headline risk remains high especially since a previously announced inquiry into Chesapeake by the SEC remains open. A more formal investigation could be developing based on what is found during the inquiry. More recently, news came out that the company allegedly engaged in bid rigging on land deals which could be a violation of state and federal laws. Some investors believe the "cockroach theory" might apply with companies like Chesapeake. This theory is based on the idea that if you find one roach, there are probably many more that could come out. There does appear to be a corporate governance issue at the company, and the full scope might not yet be known. Many analysts and investors remain skeptical and this cloud might linger and send the stock lower.

2) Chesapeake has a complex financial structure and a considerable debt load. According to Yahoo! Finance, the company has about $438 million in cash and around $13.33 billion in debt. Major debt levels are not attractive in almost any case, but especially not with a potentially weaker economy. Also, interest expenses could rise for the company since Standard & Poors recently cut Chesapeake Energy's rating to "BB" and it placed the company on credit watch with negative implications.

3) Natural gas prices have rebounded off of 2012 lows, but at current levels it is far from ideal for companies like Chesapeake. This company appears to have major challenges to resolve even if the economy and energy prices were stronger. When you consider some major macro risks that currently exist like the European debt crisis, the fiscal cliff, and a weakening U.S. economy, it could just add to the downside that the company-specific risks appear to exist. At this extraordinary time, and given the lessons of the 2008 financial crisis, it makes sense to avoid companies with management turmoil or issues, and stick to companies with little or no debt on the balance sheet.

4) With the big drop in oil prices, a number of stocks in the energy sector that have strong balance sheets are trading at very low valuations. A number of major oil stocks now trade for 6 to 8 times earnings and even offer a solid dividend yield. Chesapeake trades for well over 30 times earnings estimates and it does not offer a dividend. Given the broad investment choices investors have, it is hard to make a strong case for an investment here. While it can be tough to accept a loss by selling, it's possible to make back losses in a different stock and companies that have less controversy could be poised to rebound sooner than Chesapeake.

Key Data Points For Chesapeake From Yahoo Finance:
Current Price: $17.05
52-Week Range: $13.32 to $35.75
Dividend: 35 cents annually which yields about 1.9%
2012 Earnings Estimate: 50 cents per share
2013 Earnings Estimate: $1.67 per share
P/E Ratio: about 34 times earnings

Data is sourced from Yahoo Finance. No guarantees or representations are made. Please consult a financial advisor before making investments.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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