3 Stocks to Play the Michigan Basin and 1 to Avoid

Wouldn't you know it, there is fuel trapped underneath the ground in the Land of the Automobile. In its quest to find oil and gas everywhere, the energy industry is taking another look at the great state of Michigan. Below, you'll find a breakdown of three of the companies that are leading the way in the Michigan Basin -- and one that leaves a little to be desired.

What is the Michigan Basin?
The basin includes not only Michigan, but extends north to Ontario and south to parts of Ohio and Indiana. Of all the layers of rock under the ground, the Antrim shale has received the most attention from oil and gas companies to date. Drilling began there in the 1940s and ramped up in the '70s and '80s. More than 9,000 wells have been drilled there to date.

As technology advances, exploration moves forward into the Collingwood and Utica shales as well. The liquids content of the rock in these two formations is suspected to be much higher than in the Antrim shale, which contains mostly methane.

BreitBurn Energy Partners (Nasdaq: BBEP  )
Forty-five percent of this MLP's production comes from the Michigan Basin. The company has an estimated 68% of its proved reserves in the basin, numbering 80.3 million barrels of oil equivalent. BreitBurn has hedged the price of natural gas at $6.24 through 2015.

BreitBurn had a strong third quarter, meeting production guidance and completing several acquisitions. Specifically, oil and natural gas liquids production increased over second-quarter production rates, as methane production decreased slightly.

The company's success in the short term is matched by its commitment to long-term shareholder return -- distributions have grown about 16% since 2010, to $1.74 annualized.

Encana (NYSE: ECA  )
Encana is one of the companies drilling exploratory wells in the Collingwood shale. The company has 425,000 net acres in the play to pursue oil and NGL production. Though it's too early to declare the operation a winner, early well results are promising.

The company could use the boost of a successful liquids play, as it spent most of last year shedding assets to pay down debt and stay afloat. An emphasis on NGL production helped Encana to a stronger showing in the third quarter, and as the company plans to stick to that focus in 2012, expect to hear more from Encana in Michigan.

Atlas Energy (Nasdaq: ATLS  )
Like BreitBurn, Atlas Energy is also a master limited partnership. The company owns Atlas Pipeline Partners and Atlas Resources, the latter being the biggest natural gas producer in the Antrim shale. The company operates 2,500 wells in the shale and is the lowest cost producer in the area.

Production numbers for the first three quarters of 2011 trounced the output over the same period last year: 3,172 million cubic feet per day compared with 1,614 Mcfd. The flip side of that news is that only 47% of natural gas production is hedged in 2012, at $5.40. Every little bit helps, I suppose, given that natural gas is now trading at its lowest point in a decade.

Chesapeake Energy (NYSE: CHK  )
Chesapeake seems to have a position in every major natural gas play in the U.S. It is the second largest natural gas producer (after ExxonMobil) in the country, and its stakes are frequently the largest by acreage. Building positions like that can be costly, even if you get into a play early when leases are cheap. Given that those early purchases are based largely on a questionable mix of science and speculation, it can be very risky to be the first mover in a play -- and very expensive if production doesn't pan out.

Unless, that is, your company operates like Chesapeake and voids thousands of leases when your wells come up dry. A recent report from Reuters details the complex network of shell companies that Chesapeake operated to get out of leases in the Michigan Basin. Chesapeake has long been on investors' radars because of the dubious actions of CEO Aubrey McClendon, and I see no reason for that to change. Caveat emptor.

Foolish takeaway
The Michigan Basin is yet another energy reserve experiencing new success because of horizontal drilling. As U.S. energy policy continues to evolve and natural gas continues to become more popular, companies like the ones outlined above should produce great returns. Consider also the tangential plays tied to increasing natural gas production, like pipelines, oil-field-service companies, and what Motley Fool analysts consider the "1 Stock to Own Before The Nat Gas Act Becomes Law."

Fool contributor Aimee Duffy doesn't own shares of the companies mentioned in this article. If you have the energy, check out what she's keeping an eye on by following her on Twitter, where she goes by @TMFDuffy.

Motley Fool newsletter services have recommended buying shares of Chesapeake Energy. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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