Is Chesapeake Energy Selling Assets For More Drilling?

It wasn't that long ago that Chesapeake (CHK) shut down production at several wells because it had a surplus flow and the price of natural gas was too low. Now we recently learned that on top of the past shut down CHK is projecting an 18-22% production growth for 2007 and upped the production growth estimates for 2008 to a 14-18% range. This implores for a little analysis.

On the one hand, CHK announced that it is selling reserves and production equaling 1.5% of all output in West Virginia and Kentucky. Supposedly the reason for the asset sale is to provide cash for additional drilling at other sites. The problem with this is twofold and contradictory. First, CHK doesn't need to sell assets to raise cash for drilling. Second, CHK may have a regional production surplus. Without the ability to acquire new customers it makes sense to sell some assets. The contradiction is that CHK management are straight shooters and usually do not (have not) disseminate misleading PR statements.

At first I had to double check the press release. It does sound like CHK is selling assets to raise cash for drilling. Then on a second reading it became clear what CHK is up to. CHK has tremendous reserves in the Appalachian mountain region. Recently CHK has been buying new reserves in Texas and other geographical locations. In essence what CHK is doing is an asset swap without adding substantially to its 10 trillion cubic feet reserve. The geographical diversification is expected to help lower delivery costs to market and help margins.

Only $310M was spent on acquiring the new assets and CHK expects to sell $600M of existing production sites. The Deep Haley site (Texas) hasn't been developed yet. I guess you can call this 'selling assets to drill more'. In reality it is just an asset swap. By diversifying geographically, CHK is hedging against a possible future downturn in the Northeast and Eastern seaboard or alternately the Northeast market stays strong yet the West provides better future demand/growth. The latter is more likely as CHK has more than enough reserves to supply the Northeast and East, even after selling off 1.5% of current production.

In any event, CHK is drilling again. Now wouldn't it be nice if Deep Haley bumps up reserves by a trillion cubic feet or more? It's a long shot, but you never know!

Disclosure: No conflicts.

Comments

[Mmarrkk]

I don't think you have it figured out. If you look at their balance sheet and income statements, you'll see that CHK really does need to raise cash to fund the drilling programs. In the past they've floated debt or issued shares. And they have been hammered on Wall Street. This is an ingenious way of raising the money by selling assets that are going to fetch a very high premium to their market value. Read the transcript of their investor call the other day. Its actually pretty clear and a great way to do this.

They are shutting in production due to overall market prices and storage overhang. It has absolutely nothing to do with a "lack of customers" on a regional level. CHK doesn't sell into a retail base where they have to hunt for 'customers'. The problem right now is we have an overhang of storage and that is driving all gas prices down. And why produce gas at $5 when you believe it will be at $8 in a few months? And, again if you listen to their investor call, you'll note that they won't be shutting in production in the Northeast. It will mostly come from shutting in "high rate" wells in other areas. The Appalachian wells are very very very low rate wells and they'd have to shut in hundreds to get this kind of impact. Or, they can shut in less than 50 wells in other basins and get the same impact.

Need to pay closer attention to the details and understand the NG biz a bit more.

[Mmarrkk]

I don't think you have it figured out. If you look at their balance sheet and income statements, you'll see that CHK really does need to raise cash to fund the drilling programs. In the past they've floated debt or issued shares. And they have been hammered on Wall Street. This is an ingenious way of raising the money by selling assets that are going to fetch a very high premium to their market value. Read the transcript of their investor call the other day. Its actually pretty clear and a great way to do this.

They are shutting in production due to overall market prices and storage overhang. It has absolutely nothing to do with a "lack of customers" on a regional level. CHK doesn't sell into a retail base where they have to hunt for 'customers'. The problem right now is we have an overhang of storage and that is driving all gas prices down. And why produce gas at $5 when you believe it will be at $8 in a few months? And, again if you listen to their investor call, you'll note that they won't be shutting in production in the Northeast. It will mostly come from shutting in "high rate" wells in other areas. The Appalachian wells are very very very low rate wells and they'd have to shut in hundreds to get this kind of impact. Or, they can shut in less than 50 wells in other basins and get the same impact.

Need to pay closer attention to the details and understand the NG biz a bit more.

[Mmarrkk]

I don't think you have it figured out. If you look at their balance sheet and income statements, you'll see that CHK really does need to raise cash to fund the drilling programs. In the past they've floated debt or issued shares. And they have been hammered on Wall Street. This is an ingenious way of raising the money by selling assets that are going to fetch a very high premium to their market value. Read the transcript of their investor call the other day. Its actually pretty clear and a great way to do this.

They are shutting in production due to overall market prices and storage overhang. It has absolutely nothing to do with a "lack of customers" on a regional level. CHK doesn't sell into a retail base where they have to hunt for 'customers'. The problem right now is we have an overhang of storage and that is driving all gas prices down. And why produce gas at $5 when you believe it will be at $8 in a few months? And, again if you listen to their investor call, you'll note that they won't be shutting in production in the Northeast. It will mostly come from shutting in "high rate" wells in other areas. The Appalachian wells are very very very low rate wells and they'd have to shut in hundreds to get this kind of impact. Or, they can shut in less than 50 wells in other basins and get the same impact.

Need to pay closer attention to the details and understand the NG biz a bit more.

[Mmarrkk]

I don't think you have it figured out. If you look at their balance sheet and income statements, you'll see that CHK really does need to raise cash to fund the drilling programs. In the past they've floated debt or issued shares. And they have been hammered on Wall Street. This is an ingenious way of raising the money by selling assets that are going to fetch a very high premium to their market value. Read the transcript of their investor call the other day. Its actually pretty clear and a great way to do this.

They are shutting in production due to overall market prices and storage overhang. It has absolutely nothing to do with a "lack of customers" on a regional level. CHK doesn't sell into a retail base where they have to hunt for 'customers'. The problem right now is we have an overhang of storage and that is driving all gas prices down. And why produce gas at $5 when you believe it will be at $8 in a few months? And, again if you listen to their investor call, you'll note that they won't be shutting in production in the Northeast. It will mostly come from shutting in "high rate" wells in other areas. The Appalachian wells are very very very low rate wells and they'd have to shut in hundreds to get this kind of impact. Or, they can shut in less than 50 wells in other basins and get the same impact.

Need to pay closer attention to the details and understand the NG biz a bit more.