Chesapeake Energy Corporation (CHK) has become the ultimate battleground stock over the last few months, with it up 70% during that period and many bulls seeing a lucrative recovery for the company and CHK stock.
However, many others consider CHK stock’s rally nothing more than a dead cat bounce, with Barclays recently saying that shares are worth no more than $1.
With that said, shares of Chesapeake Energy are still down 75% over the last 12 months, and while oil prices are more than 50% off their 52-week lows, there are many who still believe the company is headed for bankruptcy.
With CHK up roughly 70% the last three months, the big question is whether it will in fact come back down, or whether it can continue to surge higher.
What’s Causing Fears About CHK Stock?
The bleak outlook for CHK stock comes down to a large debt position, and the weight of that debt in a low oil price environment.
Research firms like Barclays and Credit Suisse have specifically noted Chesapeake Energy’s debt as a reason for concern, with CHK needing to cover the maturity of more than $1.6 billion in debt next year.
As of May 16, 77 oil and natural gas companies have filed for bankruptcy since the start of 2015, totaling more than $50 billion in defaults. While oil prices have risen in the last couple months, bankruptcy filings have recently intensified with eight firms and $15 billion in defaults the last month, with the long-lasting effects of depreciated oil finally taking a toll.
The most recent oil company to file for bankruptcy was SandRidge Energy Inc. (SDOCQ), a company that had seen its assets fall from $6 billion to $2.5 billion over the course of one year, and its debt jump from $3.3 billion to nearly $4 billion during the same period.
Ultimately, SandRidge was unable to operate and repay its obligations with this structure, and such a high debt to asset ratio.
That said, however, most companies that have filed for bankruptcy have operated under a similar format, with a debt-to-asset ratio above 125% and an inability to create profits in the current environment.
Like SandRidge, Chesapeake Energy’s debt has risen over the last year and the company cannot operate profitably in this environment. However, CHK’s debt to asset ratio is under 70% and while not profitable, the company has made many moves to improve its credit and operating position over the last several months.
For example, Chesapeake Energy sold $470 million worth of assets and was able to do so without affecting an existing $4 billion credit line that provides liquidity during this time of macro turmoil. It also has $436 million in cash, and during its last quarter, the company had better than expected performance, a 31% decline in production expenses and improved cash flow.
Hence, CHK is navigating the oil storm quite well, and is not close to joining the list of bankrupt oil companies.
Bottom Line for Chesapeake Energy
In other words, CHK has time before it can no longer meet its obligations and follows the path of its 77 peers. At roughly $3.75, CHK stock is far from its 52-week high over $15, but in order to realize those gains, crude oil prices must continue to trend higher and ultimately stay above $85.
I’m not sure that is going to happen any time soon, and unfortunately, CHK stock is on a race against time. Even at crude prices of $50, Chesapeake Energy is not profitable, which means its debt rises, and it becomes harder to fulfill its debt obligations.
While CHK does have assets that it can use to create liquidity, it is unlikely that Chesapeake Energy can sell assets fast enough to counter the rise in debt if oil prices stay low.
At the end of the day, CHK stock gains are nice, but even with oil prices 50% above 52-week lows, Chesapeake’s debt will still rise. This means that Chesapeake Energy will ultimately return to lows as debt and the risk for bankruptcy rises.
The only way that CHK stock maintains gains and trades higher is if oil prices rise another 50%, and I don’t see that happening anytime soon. At this point, the only silver lining is that Chesapeake Energy has bought itself some time, but the end result with low oil prices is still inevitable.
As of this writing, Brian Nichols did not own any of aforementioned securities.
