Chesapeake Energy Corporation — Q2 2012 Form 10-Q
Filing identity: The supplied filing is Chesapeake Energy Corporation’s unaudited 10-Q for the quarter ended June 30, 2012, filed August 9, 2012. This does not match the request metadata naming Expand Energy Corp; verify the intended company and filing.
Business context and reporting period
Chesapeake was a large U.S. natural gas and oil producer, with related marketing, gathering, compression and oilfield-services businesses. Results cover the three and six months ended June 30, 2012, compared with the same 2011 periods. Management was shifting investment toward liquids-rich plays in response to very low natural gas prices.
Financial performance and liquidity
| Metric | Q2 2012 | First half 2012 | Comparable 2011 |
|---|---|---|---|
| Total revenue | $3.389 billion | $5.807 billion | $3.318 billion Q2; $4.930 billion first half |
| Operating income | $738 million | $743 million | $985 million Q2; $701 million first half |
| Net income attributable to Chesapeake | $972 million | $944 million | $510 million Q2; $347 million first half |
| Diluted EPS | $1.29 | $1.25 | $0.68 Q2; $0.41 first half |
| Cash from operations | Not separately reported for the quarter | $1.029 billion | $2.093 billion first half |
- Q2 revenue increased slightly year over year, while operating income fell from $985 million. First-half revenue and operating income rose year over year.
- Reported earnings included a $1.032 billion pretax gain from selling the company’s Access Midstream Partners investment for $2.0 billion. The gain was a major contributor to reported first-half and Q2 net income; it should not be treated as recurring operating performance.
- Q2 natural gas, oil and NGL revenue was $2.117 billion, including $810 million of unrealized derivative gains and $195 million of realized derivative gains. For the first half, the corresponding total was $3.185 billion, including $540 million unrealized gains and $311 million realized gains.
- Production grew: Q2 output was 346.5 bcfe, up 25% year over year; first-half output was 679.4 bcfe, up 22%. First-half average realized prices excluding unrealized derivative effects were $2.11/mcf for gas, $92.06/barrel for oil and $29.68/barrel for NGL.
- At June 30, cash and cash equivalents were $1.024 billion, restricted cash $224 million, total debt net $14.329 billion, and total current assets and liabilities were $4.516 billion and $6.259 billion, respectively. Management reported cash availability of approximately $5.3 billion. Working capital remained in deficit.
- First-half investing cash outflow was $4.921 billion, including $5.007 billion of drilling and completion costs and $1.452 billion for unproved-property acquisitions. Capital spending substantially exceeded operating cash flow.
Material changes versus the prior period
- Natural gas prices weakened sharply: first-half realized gas price excluding unrealized hedge effects fell to $2.11/mcf from $5.25/mcf. Operating cash flow declined by about half, from $2.093 billion to $1.029 billion, which management attributed primarily to lower realized gas prices.
- Higher production and liquids output partly offset lower commodity prices. Liquids production averaged about 121,900 barrels per day in the first half, up 67% year over year.
- Long-term debt increased from $10.626 billion at December 31, 2011 to $14.329 billion at June 30, 2012. The company raised $4.0 billion in term loans and issued $1.3 billion of senior notes during the period.
- Chesapeake sold its Access Midstream investment and classified substantially all of its midstream business as held for sale, expecting a sale in Q3 2012. Held-for-sale property and equipment totaled $2.207 billion at June 30.
- The company recorded $243 million of fixed-asset impairments, principally $219 million for Barnett Shale land and an office building. Natural gas and oil DD&A rose to $1.70/mcfe in Q2 from $1.32/mcfe a year earlier.
Outlook, risks, contingencies and unusual items
- Management’s 2012 plan targeted $8.0–$8.5 billion of drilling and completion spending, $2.0 billion of net undeveloped leasehold spending, and $2.8–$3.1 billion of investment in oilfield services, midstream and other assets. It forecast $13–$14 billion of asset-sale and other transaction proceeds and a $2.3 billion budgeted cash-flow surplus, assuming specified commodity prices.
- The 25/25 Plan targeted net long-term debt of no more than $9.5 billion by year-end 2012. Management said planned sales and operating cash flow were intended to fund capital spending and reduce debt, but acknowledged that several planned transactions lacked binding agreements and might be delayed, reduced or not completed.
- The $4.0 billion unsecured term loan carried an initial LIBOR margin of 7%; the filing described an effective interest rate of 11.16% over its term. If amounts remained after January 1, 2013, margins would step up. Management said repayment by year-end 2012 was part of its plan.
- Management anticipated a possible non-cash natural gas and oil property impairment in the second half of 2012, due to lower reserve-price assumptions. Proved reserves declined 7% from year-end to 17.392 tcfe, including 4.565 tcfe of downward price revisions. About 35% of projected second-half 2012 gas production was unhedged.
- New and ongoing legal and regulatory matters included shareholder and derivative suits concerning executive compensation, the Founder Well Participation Program and related-party matters; SEC and other agency inquiries; a DOJ antitrust investigation into oil and gas rights purchases; and EPA/DOJ Clean Water Act matters in West Virginia. The company said potential losses for several cases could not be assessed or estimated; it expected monetary sanctions in the Clean Water Act matters but did not anticipate a material financial effect.
- Other obligations include undiscounted gathering, processing and transportation commitments of $16.169 billion, future rig and compressor lease payments, drilling commitments, and other contractual and contingent obligations. The filing states the company was in compliance with its credit-facility and term-loan covenants at June 30.
- Five new independent directors joined a reconstituted nine-member board in June; Archie Dunham became independent non-executive chairman, while Aubrey McClendon remained CEO and president. Management reported disclosure controls were effective; an ERP implementation was undergoing control testing.
Important facts for investors to verify
- Confirm the filing’s company identity: Chesapeake Energy Corporation, not Expand Energy Corp.
- Check whether planned asset sales closed on the expected terms and timing, and whether proceeds supported the $9.5 billion year-end debt target.
- Assess recurring earnings and cash generation separately from the $1.032 billion midstream-investment sale gain and volatile unrealized hedge gains.
- Review subsequent reserve estimates, impairment charges, production mix and hedge coverage, particularly exposure to low gas prices.
- Track debt costs and maturities, term-loan repayment or rate step-ups, liquidity, and compliance with revolving-credit covenants.
- Monitor material litigation and investigations, along with the company’s substantial contractual commitments.