Big Natgas Producer Chesapeake Energy Makes Oil Move

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Chesapeake Energy's diligent restructuring work is finally paying off. The oil and gas producer has logged three quarters of high earnings growth, into the triple digits, and four quarters of solid double-digit sales growth.

This year marks a big turnaround from a string of poor earnings growth. The Oklahoma City-based firm earned 43 cents a share in its third quarter, up 330% from a year earlier and on par with Wall Street expectations. It took in $4.87 billion in revenue, up 64% and topping the $3.84 billion that analysts polled by Thomson Reuters anticipated.

Much of Chesapeake's financial progress in 2013 is attributable to its repositioning of focus more on oil than on natural gas, a big change in management and a strategy of selling off noncore assets.

In the third quarter its net daily oil production lifted 23% from a year earlier to 120,000 barrels and natural gas liquids rose 31%, as natural gas production decreased 10%.

"It's a pretty extensive restructuring story," said James Sullivan, analyst at Alembic Global Advisors. "They went through a management change and a significant shift in terms of spending priorities."

Fuel And Efficiency

Chesapeake is the second largest U.S. natural gas producer and 11th largest U.S. liquid fuels producer. The company owns an interest in 45,900 producing natural gas and oil wells with a net production of about 4.1 billion of cubic feet equivalent (BCFE) per day, 75% of which is natural gas.

The company has significantly cut its number of assets. Chesapeake's capital expenditures, especially to do with leasehold inventory spending, dropped almost 60% in a two-quarter span, Sullivan noted ahead of the third quarter report.

"They've exited almost entirely the midstream business now, which was a very large part of what they had; multiple billions of dollars worth of sales in that," he said. "They've exited the Permian Basin ... and they've thinned out positions in certain areas, in the Eagle Ford and elsewhere in the Utica."

Chesapeake also made Doug Lawler its new CEO and a board member. There since June, Lawler has spent 25 years in the upstream E&P industry. He comes fromAnadarko Petroleum ( APC ), the No. 2 firm by market cap in IBD's Oil & Gas-U.S. Exploration & Production industry group afterEOG Resources ( EOG ).

"Lawler has been in the midst of sorting through the organization, making some early changes," said analyst Joe Magner of Macquarie Research. "He's provided some high-level thoughts about what he hopes to be able to accomplish and where he hopes to be able to get Chesapeake long term."

That is, for the firm to "be more self-dependent" and not necessarily "reliant on asset sales" to fund development of acreage core to the firm's strategy and growth plans.

It is No. 7 in its group by market cap, after EOG, Anadarko,Noble Energy ( NBL ),Pioneer Natural Resources ( PXD ),Devon Energy ( DVN ) andContinental Resources (CLR).

Last year, when Chesapeake was desperately trying to fill its cash flow shortage, it had to work through a fire sale of some of its assets. This year, the sales have been made in a more paced way and at better prices. In July, it sold its Northern Eagle Ford Shale and Haynesville Shale stake for $1 billion. It also sold its 50% stake in the Mississippi Lime joint venture with Sinopec International Petroleum Exploration and Production for $1 billion in cash.

Chesapeake also made some internal changes to keep administrative costs under control. So far this year, about 1,200 jobs have been cut.

Restructuring Under Way

The company ran an average 81 rigs in the first half of 2013. With the restructuring it trimmed the rig count to 67 in the third quarter and forecasts 59 for the fourth quarter.

In the third quarter, Chesapeake invested about $1.2 billion in drilling and completion activities, $350 million less than in the second. It finished 321 wells, down from 410.

With a forecast 14% reduction in gross wells completed in the fourth quarter vs. the third, Chesapeake sees its drilling and completion costs coming in lower for 2013 than it previously anticipated, the company said in its third quarter report. It gave a range of $5.5 billion to $5.8 billion, down from its prior view of $5.7 billion to $6 billion.

This year Chesapeake has worked Texas natural gas shale plays (Barnett, Bossier and Haynesville) and the Marcellus Shale in the Northeast. In unconventional liquids it has worked the Anadarko Basin, Eagle Ford Shale, Mississippi Lime, Niobrara Shale and Utica Shale.

"Because of the magnitude of acreage that the company had acquired and the need to drill that acreage in order to hold on to it, the operations have not been very streamlined. They've been drilling wells spread out over big areas in Marcellus and Eagle Ford," said Magner.

"So as they looked to gain efficiencies and improve the productivity of that program, they're talking more of concentrated development off of pads, similar to what a lot of other E&P companies are talking about," he said. This should enable the company to drill more wells in certain areas and save on the cost of moving rigs, equipment and crews around.

Magner says that the Eagle Ford and Marcellus are areas where the firm hopes to gain such operational efficiencies. "They're arguing that the acreage that they have should be more productive than what they've seen as they move into that mode of development," he said. "But they haven't really been able to exhibit what that's going to look like."

The company has been able to cover the funding gap this year, but analysts think that it probably will outspend cash flows next year, with a much smaller size of operations.

Then "they can start to think about how they shape what they want to be -- but they're going to be smaller," said Sullivan. "We are cautiously optimistic that Lawler is going to be able to put into place a strategy that's much more disciplined going forward, in terms of investment but also trying to balance cash flow and their capex needs."

Many pieces still must "fall into place," Sullivan said. "Is it going to be possible that they can improve the performance of the assets and be able to spend less money?"



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Investing Ideas

Referenced Stocks: APC , DVN , EOG , NBL , PXD

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