Chesapeake Energy (CHK): What Is the Carl Icahn End Game?

With oil and natural gas prices plunging, there’s certainly blood in the water — or at least in energy stocks. For fracking superstar Chesapeake Energy Corporation (NYSE:CHK), that blood has been spilling for quite some time now.

Chesapeake Energy (CHK): What Is the Carl Icahn End Game?And when there’s blood, there’s sharks and one of the biggest sharks of all is activist investor Carl Icahn.

Carl Icahn has had a long history as an owner of CHK stock. However, recent moves by the activist investor make it clear that Chesapeake Energy is now a top priority.

Naturally, you have to wonder what Uncle Carl’s end game is for the company. And importantly to investors — it’d be nice to know whether this is a game worth playing, or whether you should walk away.

A Huge Amount Of CHK Stock

CHK stock has tanked about 27% or so this year, and apparently Carl Icahn decided the time was right to up his stake in Chesapeake. The hedge fund manager — through three of his Icahn Enterprises LP (NASDAQ:IEP) fund vehicles — snagged another 6.6 million shares of Chesapeake stock earlier this month for around $14.15.

All in all, the purchase brings Icahn’s stake in the struggling firm to more than 11% of the shares outstanding — that’s a lot of ownership in any single company, and it gives Icahn the ability to enact his will on CHK.

And this isn’t the first time Icahn has been swimming in Chesapeake’s pool.

Back in 2012-13, when the issues with Chesapeake Energy founder and former CEO Aubrey McClendon first came to light, Icahn was one of the earliest institutional investors in the struggling firm. At that time — with his 9% stake in CHK — Icahn pushed hard to have McClendon removed, as well as more than half of its directors. Additionally, Icahn and fellow activist Mason Hawkins brought in a former head of ConocoPhillips (NYSE:COP) to quell the shareholder revolt.

Icahn wasn’t done, however. He pushed hard for continued asset sales, the spinoff of Chesapeake’s drilling/oil service arm — Seventy Seven Energy Inc. (NYSE:SSE) — and for more diversity in Chesapeake Energy’s production mix. All of those moves were designed to make CHK stock more desirable.

But … more desirable in whose eyes? (Hint: It’s not long-term mom ‘n’ pop shareholders.)

Icahn’s recent buy, along with his other moves, could be in preparation to push Chesapeake Energy into a sale to some other large energy producer. It’s a scenario that makes sense. After all, CHK has become leaner and meaner, trimming a lot of fat from its operations to pay the hefty debt load incurred under McClendon.

Besides, there’s not too much left to spin off to unlock tremendous value at this point. Chesapeake can’t really get rid of core assets and still function as real operating company.

Unlike some of Icahn’s other activist investments, CHK isn’t exactly rolling in cash. A combination of high debt and low oil and natural gas prices has burned into that. So you can forget about buybacks or special dividends. Plus, Chesapeake has a junk credit rating, according to Moody’s, so a debt offering to fuel that kind of shareholder-friendly activity is probably out of the question, too.

Even management’s promise of having $5 billion in liquidity by year’s end might not come to fruition as CHK continues to cut its capex and number of operated rigs. Even then, if that promise does come true, you’re still not looking at tons of cash that you could kick back to shareholders.

But … being cash-positive would make CHK stock a lot more attractive to anyone looking to do some M&A.

Icahn’s Game All Along

Chesapeake’s 50%-plus decline since its 2014 peak has dropped its market cap to less than $10 billion, making a sale seem much more likely to happen now. CHK has consistently been rumored as a buyout candidate for years, but now the price seems to be right.

But do you stick around and wait?

Well … Chesapeake Energy certainly has been struggling for years, and the latest oil/natural gas downturn is going to keep pressure on shares. So, while we could see a buyout, such a move could come at even cheaper prices than we’re seeing now. Of course, you at least have some backside protection, as CHK’s odds of filing for bankruptcy are low. Given Icahn’s huge stake, he’d force a buyout before things ever got that hairy.

As a gamble for some capital gains, CHK stock actually makes a lot of sense. It’s certainly cheap enough.

And if Icahn’s motives are truly altruistic and he is on the side of long term shareholders, then his stake is a major vote of confidence in natural gas production and the firm.

Bottom Line

Given how many headaches Chesapeake Energy has caused over the past few years, an increased stake from Carl Icahn seems to mean just one thing: a potential sale is brewing.

That might be of some comfort to more recent shareholders, but it might not be exactly what longer-suffering investors were hoping for.

As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.

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