Filing and reporting period
Important issuer mismatch: The supplied filing is Chesapeake Energy Corporation’s Form 10-K for the fiscal year ended December 31, 2011, filed February 29, 2012. It is not an Expand Energy Corp. filing. The filing includes unaudited quarterly results for 2011 Q4; the annual figures below cover the full fiscal year.
Business context and key financial metrics
Chesapeake was a large U.S. onshore natural gas and oil producer with marketing, midstream, compression and oilfield-services operations. It reported 45,700 producing wells and average 2011 production of 3.272 bcfe per day. Management was shifting investment toward liquids-rich plays as natural gas prices weakened.
| Metric | FY 2011 | FY 2010 |
|---|---|---|
| Total revenue | $11.635 billion | $9.366 billion |
| Operating income | $2.921 billion | $2.805 billion |
| Net income attributable to Chesapeake | $1.742 billion | $1.774 billion |
| Net income available to common stockholders | $1.570 billion | $1.663 billion |
| Diluted earnings per common share | $2.32 | $2.51 |
| Cash provided by operating activities | $5.903 billion | $5.117 billion |
| Cash used in investing activities | $5.812 billion | $8.503 billion |
| Long-term debt, net of current maturities | $10.626 billion | $12.640 billion |
| Cash and cash equivalents at year-end | $351 million | $102 million |
Revenue increased about 24%, while net income attributable to Chesapeake declined about 2%. Operating income margin was approximately 25% in 2011. The reported effective tax rate was 39%; $1.110 billion of the $1.123 billion tax expense was deferred.
Production rose 15% to 1.194 tcfe. Liquids production averaged 86,784 barrels per day, up 72%; natural gas production averaged 2.751 bcf per day. Excluding unrealized derivative effects, realized natural gas equivalent price declined to $5.70/mcfe from $6.09/mcfe, while oil price rose to $63.90/bbl from $62.71/bbl.
Year-end current assets were $3.177 billion and current liabilities were $7.082 billion, a current ratio of approximately 0.45. The filing reported $10.626 billion of long-term debt on the balance sheet; management also described year-end long-term debt net of cash of approximately $10.3 billion. The $4.0 billion corporate revolver had $1.719 billion outstanding, and the company reported compliance with credit-facility covenants.
Fourth-quarter results and changes versus comparable periods
Unaudited Q4 2011 revenue was $2.728 billion, gross profit was $737 million, net income attributable to Chesapeake was $472 million, and net income available to common stockholders was $429 million. Diluted EPS was $0.63. In Q4 2010, revenue was $1.975 billion, common-stockholder net income was $181 million, and diluted EPS was $0.28. Q4 2011 revenue and earnings were below Q3 2011, when revenue was $3.977 billion and net income attributable to Chesapeake was $922 million.
Year over year, higher production increased natural gas and oil revenue, but lower realized prices and reduced realized hedge gains were offsets. The company sold its Fayetteville Shale assets in March 2011 for approximately $4.65 billion and retired about $2.044 billion of senior and contingent convertible notes during the year. It also recorded a $436 million gain on the December sale of Marcellus midstream assets to its affiliate CHKM; Q4 results should be assessed with this unusual transaction in mind.
Outlook, risks and unusual items
- In February 2012, management responded to low natural gas prices by planning to cut operated dry-gas rigs to about 24 by Q2 2012 from 47 in January and an average of 75 in 2011; dry-gas drilling and completion spending was expected to fall about 70%, to $900 million.
- Management said it had curtailed approximately 1.0 bcf per day of gross operated gas production and expected 2012 net gas production to average about 2.65 bcf per day, down roughly 4% from 2011. It planned to direct about 85% of operated drilling and completion spending to liquids-rich plays, targeting liquids production of about 150,000 bbl/day in 2012, over 200,000 in 2013 and 250,000 by 2015.
- Planned 2012 net drilling and completion expenditures were $7.0–$7.5 billion; projected midstream and oilfield-services capital spending was $2.5–$3.5 billion. Management targeted $1.4 billion of net undeveloped leasehold spending and long-term debt of no more than $9.5 billion by year-end 2012.
- The plan relied on an estimated $10–$12 billion of asset monetizations, including joint ventures, production-payment transactions and asset sales. The company had no binding agreements for the contemplated transactions and warned that failure to complete them could require spending cuts or other financing. Planned 2012 spending was expected to exceed operating cash flow.
- Natural gas price exposure was significant: about 83% of proved reserves were gas, and the filing said forecast gas production was not protected against downward price moves by gas swaps. Commodity derivatives had a reported net fair-value liability of $1.639 billion at year-end; hedge values and settlements can change substantially with market prices.
- Other material risks include substantial development needs for proved undeveloped reserves, reserve-estimate uncertainty, possible full-cost ceiling-test write-downs, debt and funding requirements, gathering and transportation commitments, and potential hydraulic-fracturing and environmental regulation. The filing disclosed ongoing EPA Clean Water Act matters and a DOJ investigation concerning West Virginia sites; potential sanctions were not estimable. A separate offering-related class action also remained pending with loss probability and range not estimable.
- Chesapeake settled certain derivative litigation involving CEO-related matters through a court-approved agreement that included rescission of an antique-map sale, a payment to the company of approximately $12 million plus interest, and governance measures. Management disclosed related-party transactions and long-term arena naming-rights and sponsorship commitments.
Most important facts for investors to verify
- Confirm the issuer and filing: the source document identifies Chesapeake Energy Corporation, not Expand Energy Corp.
- Review whether planned asset monetizations closed and generated the proceeds needed to fund capital spending and meet the $9.5 billion debt target.
- Track actual liquids growth, gas curtailments, capital spending and operating cash flow against management’s 2012–2015 targets.
- Assess debt, available revolver capacity, covenant headroom, contractual gathering and transportation commitments, and the impact of derivative positions.
- Monitor reserve revisions, PUD development spending and commodity prices for potential effects on proved reserves and asset carrying values.
- Follow the West Virginia environmental investigation and other disclosed litigation for outcomes, sanctions or changes in potential exposure.
The financial statements received an unqualified audit opinion, and management and the independent auditor reported effective internal control over financial reporting as of December 31, 2011.