Chesapeake Energy Corporation — Q1 2010 Form 10-Q
Entity note: The filing identifies Chesapeake Energy Corporation, not EXPAND ENERGY Corp. It covers the three months ended March 31, 2010; comparative results are for Q1 2009. Financial amounts are in millions of dollars unless noted.
Business context and reporting period
Chesapeake was a large U.S. natural gas and oil producer, with midstream, drilling, and oilfield service operations. Its strategy emphasized shale development and, increasingly, liquids-rich plays. Average production was 2.586 bcfe per day, up 9% year over year; natural gas represented about 90% of production on a gas-equivalent basis.
Key financial metrics
| Metric | Q1 2010 | Q1 2009 |
|---|---|---|
| Total revenue | $2,798 | $1,995 |
| Operating income (loss) | $1,212 | $(9,053) |
| Income (loss) before tax | $1,200 | $(9,184) |
| Net income (loss) attributable to Chesapeake | $596 | $(5,740) |
| Diluted EPS | $0.92 | $(9.63) |
| Cash from operating activities | $1,183 | $1,261 |
| Cash used in investing activities | $(1,014) | $(2,367) |
| Cash from (used in) financing activities | $40 | $(560) |
Natural gas and oil sales were $1,898, including $399 of realized derivative gains and $315 of unrealized derivative gains, net of losses. Excluding unrealized derivative effects, average realized prices were $6.80/mcfe versus $6.09/mcfe a year earlier. Production expenses were $0.89/mcfe versus $1.12; production taxes were $0.21/mcfe versus $0.11. The reported operating margin was approximately 43% of revenue, though results include substantial marketing and derivative activity.
At March 31, cash was $516; current assets were $3,335 and current liabilities $3,123. Long-term debt, net, was $12,204, compared with $12,295 at year-end. Total assets were $30,288. The corporate revolving facility had $1,835 outstanding against $3,500 capacity, plus $41 of letters of credit; the midstream facility had $37 outstanding against $250 capacity. At May 5, the company reported available borrowing capacity of $1,689 and $213, respectively. Corporate facility covenant ratios were 0.41 debt-to-capitalization and 3.05 debt-to-EBITDA, against limits of 0.70 and 3.75.
Material changes versus Q1 2009 and year-end
- Revenue increased about 40%, reflecting higher production and realized commodity prices, along with derivative gains. Production rose 9%; oil production increased to 3.9 million barrels from 2.9 million.
- The comparison in earnings is heavily affected by the prior-year $9.630 billion impairment charge on natural gas and oil properties and other assets. Q1 2010 had no such impairment.
- Q1 2010 net income includes a $142 after-tax cumulative accounting-change charge. Effective January 1, Chesapeake deconsolidated its 50%-owned Chesapeake Midstream Partners (CMP) and began equity-method accounting.
- Operating cash flow declined $78, while investing cash use fell substantially, partly because of proceeds from asset and VPP transactions and the Total Barnett joint venture.
- Cash rose $209 from year-end. Investments increased to $1,005, principally reflecting the $614 equity-method carrying value of CMP; noncontrolling interest fell from $897 to zero following deconsolidation.
Outlook, management commentary, and risks
- Management projected 2010 production growth of approximately 8–10% and 2011 growth of 16–18%. Budgeted drilling and completion spending, net of drilling carries, was $4.2–$4.5 billion for 2010 and $4.3–$4.6 billion for 2011.
- Because of low natural gas prices and stronger prospects in liquids-rich plays, the company reduced planned spending on gas-focused plays by about $300 million in 2010 and $400 million in 2011, redirecting capital to liquids-rich areas.
- Management planned to target repayment of up to $3.5 billion of senior indebtedness. A proposed $600 million preferred-stock placement was intended to repay debt; an option covered up to $500 million of additional preferred stock. Other contemplated funding included asset sales, joint ventures, and midstream monetizations. These transactions were subject to conditions and market factors, with no assurance of completion.
- At March 31, swaps and collars covered 57% of expected remaining 2010 production at average prices of $8.21/mcfe. Commodity derivative fair value was a net asset of $699; management cautioned that values change with market prices. Hedging creates counterparty, collateral, and potential upside-limitation risks.
- Debt ratings were below investment grade: Moody’s Ba3 and S&P BB, both stable; Fitch BB, negative. The company cited commodity-price volatility, leverage, borrowing capacity, reserve replacement, ceiling-test write-downs, and access to capital as key risks.
- Significant contractual commitments included $2.709 billion of undiscounted pipeline transportation demand charges, approximately $500 million of future rig lease payments, $328 million of compressor lease payments, and $251 million of drilling commitments. A subsequent transportation agreement added a further $1.8 billion to commitments.
- Litigation included securities and derivative shareholder matters and leasehold acquisition disputes. Management said no pending or threatened matter was likely to have a material adverse effect, but stated that outcomes could exceed accrued amounts. It reported no known potential material environmental issues or claims at quarter-end.
Most important facts for investors to verify
- Confirm the issuer identity: the supplied filing is for Chesapeake Energy Corporation, despite the request metadata naming EXPAND ENERGY Corp.
- Assess how much reported revenue and earnings depend on derivatives, including realized and unrealized gains, and how hedge positions affect future realized prices.
- Track execution and closing of the proposed preferred-stock financing, additional placement option, and planned debt repayments; these were not completed as of the filing date.
- Test production and capital-spending outlook against commodity prices, drilling results, joint-venture carries, and planned asset monetizations.
- Review leverage, facility covenant headroom, refinancing needs, and the large off-balance-sheet lease, transportation, and volume-delivery commitments.
- Distinguish ongoing operating performance from the prior-year impairment comparison and the Q1 2010 CMP deconsolidation charge.