Allow Chesapeake Energy to Act as a Lesson on Stocks to Avoid

Let Chesapeake Energy (NYSE:CHK) be a lesson to you; a warning. When CHK stock underwent a 1 for 200 reverse stock split in April, that was the sign that investors needed to avoid this name.

chk stock
Source: Casimiro PT /

Maybe Chesapeake will find some way to survive the current environment. It’s possible — however unlikely — that oil and natural gas prices shoot through the moon and give CHK new life.

But with the current situation, where demand remains incredibly low due to the novel coronavirus and ample supply keep a lid on prices, it’s an unlikely development. Further, as we come up to summer, I wouldn’t look for a surge in natural gas prices.

So what good is Chesapeake to investors at this point? To me, the positive here is that it can serve as a lesson.

CHK Stock Is Just Speculation

There’s good speculation and there’s bad speculation. Good speculation might be on a small-cap biotech stock you know well but hinges on approval for its drug or treatment that’s in trial. It might be on a company like Virgin Galactic (NYSE:SPCE), which is working on high-speed air travel and space tourism.

When I say “good speculation,” I don’t mean sinking 30%, 40%, or a majority of your portfolio in the stock either. I mean taking a reasonable portion of risk with the name if you believe in its prospects.

Bad speculation is combing over penny stocks looking for those that may see big moves simply because they’re cheap. Buying into these stocks may lead to big payouts at times, but it’s more akin to gambling than investing in many instances.

I’ve said it before and I’ll say it again: Buying CHK stock now is gambling on higher prices, not investing in a sound company.

Sound companies do not undergo 1 for 200 stock splits. Adjusting the current price of $13.33, as of this writing, leaves Chesapeake trading at 6 cents. Does that sound like a high-quality company?

How come Apple (NASDAQ:AAPL) doesn’t trade for less than $1? Or Exxon Mobil (NYSE:XOM) for that matter? Because they are quality enterprises.

Breaking Down Chesapeake

chart of CHK stock
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Source: Chart courtesy of 

CHK stock is forecast to lose a tremendous amount of money this year and even more next year. At this rate, that’s just par for the course.

After losing $4.4 billion in fiscal 2016, the company put together back-to-back years of profit. Chesapeake earned $949 million in 2017 and $873 million in 2018 as it looked to be getting back on track. At that point, it was possible for the company to turn it around — if the operating environment remained favorable.

But then the company lost more than $300 million last year as it took a step back. A glance at the cash flow situation was even more concerning, with negative free cash flow in each of the previous four years.

That leads us to the most concerning financial statement of them all: The balance sheet.

Current assets have shrunk in each of the prior four years, from $2.14 billion at year-end 2016 to $1.25 billion at year-end 2019. For a moment, Chesapeake was reducing its debt and becoming more flexible, financially speaking. But long-term debt climbed from $7.34 billion at year-end 2018 to $9.07 billion at year-end 2019.

The balance sheet has deteriorated further in the months since that year-end report (on Dec. 31), with assets falling considerably and total liabilities holding steady. With a market cap of just $127 million and total debt of more than $9 billion, you don’t have to be a CPA to see the issue.

But here’s the bottom line: In CHK stock lies lessons about what pitfalls to look out for on the financial statements and the stock price. Avoid Chesapeake but learn from its mistakes.

Bret Kenwell is the manager and author of Future Blue Chips and is on Twitter @BretKenwell. Kenwell is long AAPL.

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