Has Chesapeake Become the Perfect "Hold?"

There was a time, not so very long ago, when Chesapeake Energy (NYSE: CHK  ) was perhaps the energy sector's main attraction. The company was essentially the developer or discoverer of many of the nation's key unconventional oil and gas plays. And, beyond that, its financial feats of daring-do, had most observers agog.

But things have changed dramatically for the Oklahoma City-based company. You see, natural gas prices -- still Chesapeake's stock-in-trade -- weren't supposed to drop like a shale rock. And the company's too-smart-by-a-half financial engineering also wasn't supposed to come home to roost in the manner that it has.

Just beginning to unload
And yet, while the company has been conducting something of an asset fire sale, in view of its debt-laden balance sheet, unloading properties to the likes of Royal Dutch Shell (NYSE: RDS-B  ) and Chevron (NYSE: CVX  ) , it's still possible to be of two minds about its prospects. On the one hand, the company retains an impressive inventory of unconventional assets that, when the day arrives that natural gas prices begin to levitate -- clearly not an occurrence that has begun today -- will be of considerable value. But on the other, one has to wonder whether management, especially under CEO Aubrey McClendon, will ever comprehend that cute and complicated don't always constitute smart.

Looking briefly at Chesapeake's results for the third quarter, the company reported a net loss of $2.01 billion, or $3.19 per share, compared with a profit of $922 million, or $1.23 for the comparable quarter of 2011. Absent one-time items, including a $2 billion write-down of natural gas reserves in the face of moribund prices, the company earned $0.10 a share for the quarter, a penny above analysts' consensus estimate. In that connection, it's noteworthy that, of the 34 analysts who follow the company, fully 21 rate it a "Hold."

As to the write-down, Chesapeake is hardly the only company to be affected by low natural gas prices. Australia's BHP Billiton (NYSE: BHP  ) and Canada's Encana Corp. (NYSE: ECA  ) are among others that have similarly lowered the carrying value of their gas assets.

Permian placement
I mentioned asset sales above. As you likely know, the company recently unloaded properties in the Permian Basin. But that clearly isn't the sum total of its eventual transactions. Indeed, as McClendon said on his company's call: "We have multiple sale -- assets sales -- initiatives under way and we look forward to sharing additional details with you as we complete our two-year assets sales goals of $17 billion to $19 billion by year-end 2013."

The pace of those sales might have been more rapid, but for a decision by management to back away from courting potential buyers from Asia for political reasons. McClendon et al are apparently in discussions with western companies regarding possible sales of additional properties.

Chesapeake is also attempting to breathe life into its balance sheet by taking down a $2 billion, five-year-term loan. The borrowing is expected to occur at an interest rate about 4.5% above the London Interbank offered rate. The resulting proceeds will be used to repay higher-rate credit obtained last spring from a trio of U.S. banks.

A foot off the gas
Also of importance at Chesapeake is the continued movement from a company that was almost solely a natural gas producer three years ago to one with a somewhat more balanced gas-and-liquids output. In the third quarter, natural gas constituted 79% of Chesapeake's total production, something of a reduction from 83% a year ago.

McClendon said in this connection: "As evidence of the magnitude of our transformation, during the third quarter our daily average liquids production was up 51% year-over-year and 10% sequentially." He added: "Those liquid growth percentages would have been even higher at 57% and 13%, respectively, if we hadn't rejected 467,000 barrels of ethane processing during the quarter because of very low ethane prices, especially at Conway, Arkansas."

The Foolish bottom line
In summary, I think the analysts generally have it correct: The Chesapeake of today is a stereotypical "Hold." In the relatively recent past, I've referred to the company as a circus. Little has subsequently occurred that would result in a change of mind on my part.

I'm strongly inclined to watch for both meaningful additional assets sales at the company, along with the outcome of a number of investigations of McClendon's somewhat questionable dealings within the company. Those investigations -- which include his having taken down personal loans from a company that was simultaneously arranging financing for Chesapeake-- are being conducted separately by the company's reconstituted board of directors, the Internal Revenue Service, and the Securities and Exchange Commission.

For now, I'd simply urge Fools to monitor the company closely by adding it to My Watchlist.


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