What Are Chesapeake Energy Corporation’s Asset Sales Doing For Shareholders?

In an effort to shore up its balance sheet and improve its financial performance, Chesapeake Energy Corporation (NYSE: CHK  ) has been busy divesting billions of dollars worth of non-core assets over the past couple of years. Most recently, it announced that it would pursue a spin-off of its oil-field services business and sell additional non-core producing assets.

While sales of producing properties will weigh on the company's near-term production growth, they should actually improve shareholder value over the long run by reducing the company's leverage and improving its liquidity, as well as by reducing its organizational and financial complexity, and thereby positioning it for stronger, more profitable growth in the future. 

Photo credit: Chesapeake Energy

Oilfield services spin-off
Earlier this month, Chesapeake announced that its board approved the spin-off of its oilfield services business, Chesapeake Oilfield Operating (COO), into a stand-alone, publicly traded company called Seventy Seven Energy, which will trade under the ticker symbol "SSE" on the New York Stock Exchange (NYSE).

Chesapeake shareholders are to receive one share of SSE common stock for every 14 shares of CHK common stock held at the close of business on June 19, 2014. The company expects the distribution to be made after the close of business on June 30, 2014.

While the spin-off option is less attractive than an outright sale, which would have raised immediate cash, it does have its benefits. Crucially, it will allow the company to eliminate roughly $1.1 billion of consolidated COO debt from its balance sheet and will generate a roughly $400 million dividend that will be used to pay off additional COO debt.

Chesapeake has also reached an agreement to sell its ownership of CHK Cleveland Tonkawa (CHKCT), a Chesapeake subsidiary, to preferred members, a move that will eliminate roughly $1.0 billion of equity attributable to third parties and $160 million of liabilities from the company's balance sheet. It has also agreed to sell non-core producing assets in southwestern Oklahoma, east Texas, south Texas, southwest Pennsylvania, and Wyoming for total expected proceeds of $600 million.

Positive impact of asset sales
Combined with the $925 million in asset sale proceeds the company had received as of May 7, these transactions are expected to bring in more than $4 billion in proceeds this year. This will allow the company to reduce its debt by nearly $3 billion, lower its 2014 interest expense and dividend payments by roughly $70 million, and erase $200 million from its projected 2014 capital expenditures.

Crucially, these asset sales will have only a minimal impact on Chesapeake's production and operating cash flows, reducing expected 2014 production by 2% and operating cash flow by $250 million, while significantly improving its leverage and liquidity. Following the transactions, the company should have a cash position of $1.9 billion, as compared to roughly $1billion as of the end of the first quarter.

Combined with full availability on its $4 billion senior secured credit facility, this should allow Chesapeake to easily cover its capital expenses in excess of operating cash flow and greatly reduce funding concerns going forward. As a result, the company should have ample flexibility to focus on its most profitable opportunities in south Texas' Eagle Ford shale and Ohio's Utica shale.

Investor takeaway
It's hard to deny that Chesapeake has made significant progress over the past year in terms of growing oil and liquids production, slashing costs and improving capital efficiency, and reducing its leverage. In my view, the company's asset sales should improve long-term shareholder value, helping bolster Chesapeake's balance sheet and improve its credit metrics, and therefore giving it greater financial flexibility to focus on its most lucrative opportunities.

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