Natural gas provider, Chesapeake Energy Corp. (CHK) has reported sharper-than-expected adjusted third quarter 2011 earnings of 72 cents per share, striding ahead of the Zacks Consensus Estimate of 65 cents. The outperformance came on the back of a 91% expansion in liquid production volumes. The reported figure showed a modest improvement from the year-earlier profit of 70 cents.
Total revenue increased 54% year over year to $3,977 million from $2,581 million reported in the comparable quarter last year.
Operational Performance
Chesapeake’s average daily production in the quarter increased more than 9% year over year to 3,329 million cubic feet equivalent (Bcfe), of which natural gas accounted for 83%. The percentage of natural gas production to total volume decreased 7% on an annualized basis. However, natural gas production grew marginally to 254 billion cubic feet (Bcf) from 253 Bcf, while oil production expanded 91% from the year-ago level.
Natural gas equivalent realized price in the reported quarter was $5.78 per thousand cubic feet equivalent (Mcfe) versus $5.67 in the year-earlier quarter. Average realizations for natural gas were $4.82 per Mcf compared with $5.20 per Mcf in the year-earlier quarter. Liquids were sold at $63.03 per barrel, up from the year-ago price level of $59.81 per barrel.
On the cost front, production expenses increased almost 11% from the year-earlier level to 92 cents per Mcfe.
Financials
At the end of the quarter, Chesapeake had a cash balance of $111 million. Debt balance stood at $11,789 million, representing a debt-to-capitalization ratio of 41.9% (versus 39.4% in the preceding quarter). Operating cash flow increased 14.2% year over year to $1,409 million.
Guidance
Chesapeake expects its 2011 as well as 2012 total production to be approximately in the range of 1,156–1,188 Bcfe and 1,318–1,382 Bcfe, respectively, to account for impressive drilling results, particularly in Haynesville and Marcellus Shale plays.
This year’s liquids production forecast range is 31–33 MMBbls, 2012 liquids production forecast range is 53–57 MMBbls. Chesapeake expects its natural gas production in the bands of 970–990 Bcf and 1,000–1,400 Bcf for 2011 and 2012, respectively.
For 2013, total production is projected in the range of 1,452–1,516 Bcfe, of which 1,020–1,060 Bcf is expected to be gas and 72–76 MMBbls for liquids.
We believe that production growth will remain at or near the top of its large-cap peer group, particularly in light of continued strong drilling results from its shale plays.
Outlook
We appreciate Chesapeake’s initiative of deploying more funds toward liquids. The company has grown rapidly and now ranks as the second-largest producer of natural gas. Till date, the company has built leasehold positions and established production in multiple liquids-rich plays on approximately 6.2 million net leasehold acres. As a result of its success so far, Chesapeake expects to increase its liquids production through its drilling activities to an average of approximately 150,000 Bbls per day in 2012, 200,000 Bbls per day in 2013 and 250,000 Bbls per day in 2015.
It also holds a leading position in 12 of the top 15 unconventional liquids-rich plays in the U.S. –– the Granite Wash, Cleveland, Tonkawa and Mississippi Lime plays in the Anadarko Basin; the Avalon, Bone Spring, Wolfcamp and Wolfberry plays in the Permian Basin; the Eagle Ford Shale in South Texas; the Niobrara Shale in the Powder River and DJ Basins; the Bakken/Three Forks in the Williston Basin; and the Utica Shale in the Appalachian Basin.
In our opinion, Chesapeake is one of the most active players in the industry to manage its asset portfolio through a combination of acquisitions and disposals. In a separate press release, the company revealed plans in selling a substantial portion of its land holdings in Ohio's Utica Shale for $3.4 billion in two separate deals. It has entered a $2.14 billion deal with an undisclosed international partner to sell a 25% stake in 650,000 acres of Utica shale that the company holds with EnerVest Ltd.
In addition, Chesapeake has completed the sale of 500 million to EIG Global Energy Partners of perpetual preferred shares of a newly formed entity, CHK Utica –– a wholly owned, unrestricted subsidiary of Chesapeake that owns about 700,000 acres in the Utica. Chesapeake expects to sell up to $750 million of additional CHK Utica preferred shares to other investors, including limited partners of EIG, by November 30, 2011.
We think Chesapeake’s focus on shale gas plays should provide the impetus to monetize these assets more effectively. This, coupled with the company’s concentration on liquids will boost returns. However, since natural gas accounted for about 83% of Chesapeake’s production in the quarter and as near-term speculations of challenging natural gas fundamentals remain, we are apprehensive that the company’s results will be vulnerable to fluctuations in the relevant markets. Hence, we believe that the stock will perform in line with the group and maintain our long-term Neutral recommendation for Chesapeake.
The company, which retains a Zacks #3 Rank (short-term Hold rating), competes with EOG Resources Inc. (EOG).
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