Buy Chesapeake Energy Corporation (CHK) If You’ve Got Some Guts

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CHK stock - Buy Chesapeake Energy Corporation (CHK) If You’ve Got Some Guts

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I don’t pay a lot of attention to energy companies outside of the big producers and explorers. That’s because those big blue-chip names have done very well over the years and form core portions of my long-term diversified portfolio. But Chesapeake Energy Corporation (NYSE:CHK) and CHK stock have got my eye recently.

Buy CHK Stock if You've Got Some Guts

Many energy companies have gotten so badly beat up that they’ve become the kind of deep value plays I love. The trick is not getting involved in the ones that may, in fact, go bankrupt. I had my doubts about CHK, but recent developments suggest that CHK stock may be worth looking at.

First, for CHK stock and most other energy stocks, the price of oil underlies all profitability. Oil has been rising again recently. Oil drives revenues and the higher oil prices are, the more profit is generally derived for energy companies like CHK.

Second, the biggest bugaboo for CHK stock and most other energy stocks, is debt. For some energy companies, the cost of debt is quite reasonable. For others, however, the cost of debt can be very high — even as high as 10% per annum. CHK has been restructuring its debt and the signs are initially positive.

Chesapeake Energy had debt of about $8.7 billion, costing about 6% on average, or about $520 million. Its free cash flow was negative to the tune of almost a billion dollars, before selling some assets that cut that number to about $320 million. Something had to be done, hence those asset sales.

Recently, Chesapeake Energy made a few smart moves.

How Smart Moves Benefit CHK Stock

First, it effectively pushed out some debt maturities, by redeeming $500 million worth of 2.5% Senior Notes due in 2037 (but some as early as next year), and possibly some of the 2.25% 2038 Senior Notes (with some due as early as 2018).

That may seem dumb at first, for the rates are so low. Why swap out those Notes for ones that pay higher interest — in the form of a $1 billion term loan that will pay as much as 5%? To push out those maturities. That’s one way to manage debt. You don’t want it called right when you are trying to restructure.

The other $500 million from the new term loan will be used to buy back portions of a whole other set of notes, ranging from 4.875% to 7.25% Senior Notes, due between 2017 and 2023. The net result is a savings of about $40 million per year in interest. That’s not a lot in the grand scheme of things for Chesapeake Energy, but it’s better than nothing, and shows management is being pro-active. The optics are equally as important as the actual savings.

By the way, that new-term loan is a secured loan. This is another important optics element. It says that management can still get a secured loan. The assets of the company still have value to lenders. The move, as mentioned, also buys time. If oil prices recover, that time becomes precious, as it means higher revenues.

With the stock at $6.20, and significantly off its $1.50 low, it is the kind of play that I prefer. It takes a company at the brink of bankruptcy, and elevates it into a speculative turnaround, which can often yield great risk-adjusted returns.

Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance. He is the manager of the forthcoming Liberty Portfolio, has 22 years’ worth of experience in the stock market and has written more than 1,500 articles on investing. He owns shares of CHK. He can be reached at TheLibertyPortfolio@gmail.com.

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Article printed from InvestorPlace Media, https://investorplace.com/2016/08/buy-chesapeake-energy-chk-stock-got-guts/.

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