Yesterday, I talked about how Chesapeake Energy's (NYSE: CHK) new joint venture with Total SA (NYSE: TOT) in the Barnett shale would help shore up the firm's lightly hedged production profile. Clearly I hadn't read the firm's financial update, also released yesterday.
Back in November, Chesapeake had just 14% of its anticipated 2010 natural gas production covered by swaps (a common form of derivative used by folks like XTO Energy (NYSE: XTO) for hedging purposes) at $9.53 per thousand cubic feet (mcf). Now, the firm has 43% covered at $7.49/mcf.
It's important to note that Chesapeake's estimate of total production, at 892 billion cubic feet, is unchanged. That actually implies significant production gains compared to previous guidance, since 25% of the firm's Barnett flows belong to Total as of the closing of this deal (expected later this month). But my point is that Chesapeake's swap coverage comes entirely from the addition of additional contracts, not a downward adjustment in estimated production.
While Anadarko Petroleum (NYSE: APC) has taken a very cautious approach toward its natural gas exposure, with 75% of 2010 production hedged as of the third-quarter report, Chesapeake, alongside EOG Resources (NYSE: EOG), has been quite vocal about the prospect of higher gas prices, and kept hedging to a minimum. So why the sudden pop in swaps?
Well, at the time of Chesapeake's fall investor day, the company was modeling 2010 natural gas prices of $6.50 to $7.50/mcf. That remains the case today. It doesn't appear like any great capitulation on Chesapeake's part to lock in a chunk of production at the upper end of that range.
Anyone formerly questioning Chesapeake's competence or sanity with regards to hedging might need to reassess that position. By delaying the initiation of these substantial hedges, the company has secured significantly better prices than were available a few months ago. As the second-biggest producer and the most active driller in the industry, Chesapeake has a nearly unrivaled view into the dynamics of the U.S. natural gas market. That insight has translated directly to better hedges and, in turn, stronger projected cash flow.
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