For about the past two years, Chesapeake Energy Corp. (NYSE: CHK) has been shedding assets in order to raise cash. The company reported debt of more than $12 billion at the end of March, and the company’s CEO thinks that reducing debt will get the company’s market cap up to where it belongs.
Chesapeake’s CEO thinks that its net asset value should be in the neighborhood of $56 billion, a far cry from Chesapeake’s $14 billion or so in market cap. The real problem is low prices for natural gas.
Chesapeake has invested heavily in natural gas leases and the cost of developing those plays is weighing heavily on the company’s cash flow. In the March quarter, Chesapeake reported operating cash flow of $1.225 billion and capex spending of $2.02 billion. A negative free cash flow means more debt, and more debt means depressed valuation. Fortunately Chesapeake has assets to sell.
Today the company announced that it had agreed to sell $600 million of 5.75% cumulative non-voting convertible preferred stock to an affiliate of Singapore’s Temasek Holdings and an affiliate of Chinese private equity firm Hopu Investment Management Co. Ltd. The buyers also have a 30-day option to place another $500 million in the same series with other Asian investors.
When the preferred shares are converted they will represent a stake of about 7% in Chesapeake.
Separately, the company also announced that it has adopted a plan to raise up to $5 billion over the next two years, of which $3.5 billion will be used to pay down indebtedness and the rest will be used to invest in “liquids-rich plays.” Chesapeake says it will sell a 20% equity interest in its Marcellus shale play within 3-12 months.
The company is also looking to expand its 19-rig drilling operations in 12 liquids-rich plays to 50 operated rigs in the next 12 months. To that end, it is going to seek joint venture partners to help recover its investments so far and to help fund increased drilling in these plays.
Low natural gas prices have hit Chesapeake hard, forcing the company to turn its attention to plays like Eagle Ford that are richer in natural gas liquids that can be sold for substantially higher prices. But the company can’t afford to do it on its own, and luring partners with convertible shares will soon lose its appeal to current shareholders.
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