Chesapeake Energy – Aggressive plans to grow oil production
Chesapeake Energy was an early mover into shale gas. They did an incredible job of identifying new plays and locking up millions and millions of acres. In fact they did too good of a job as their rapid growth (and that of others) has so flooded the market with natural gas that the company is now faced with $4 natural gas prices vs the $7 to $8 one might have expected.
In response to this the company is trying to rapidly make a move to oil by identifying and gobbling up huge amounts of property in liquid rich plays in the same manner they did with natural gas plays through the last decade. The company is likely undervalued based on the value of the natural gas acreage it holds. This might give an investor a free ride on whatever value they can create by moving to oil.
Chesapeake just released their second quarter operational update. Below details their strategy on moving to oil:
“2011 Drilling and Completion Capital Expenditures Projected to Remain Flat Compared to 2010 Drilling and Completion Capital Expenditures; 2011 Drilling and Completion Capital Expenditures Reduced by $400 Million on Natural Gas Plays and Increased by $400 Million on Liquids-Rich Plays Compared to 2010”
One problem CHK has had is that it has had to keep drilling aggressively into some of its acreage in order to hold it by production prior to lease expiry. As it gets existing natural gas leases HBP it can shift dollars to oil drilling which is a much higher return on investment.
“In recognition of the significant and persistent value gap that has developed between natural gas and oil prices, Chesapeake has accelerated its transition to a more liquids-rich asset base. The company has redirected a significant portion of its technological, geoscientific, leasehold acquisition and drilling expertise to identifying, securing and commercializing unconventional liquids-rich plays. To date, Chesapeake has built leasehold positions and established production in 12 disclosed and several undisclosed liquids-rich plays. The company now owns approximately 2.4 million net acres of leasehold in liquids-rich plays with approximately 3.0 billion barrels of oil equivalent (bboe) (18 tcfe) of risked unproved resources and approximately 8.2 bboe (49 tcfe) of unrisked unproved resources. “
Those are big numbers and can have a big impact on the value of CHK’s reserves if proven out. If they managed to prove out only 500 million barrels of oil which you might value at about $15 per barrel that would be an increase in value of $7.5bil. The entire company currently has an enterprise value of about $27bil, so these oil plays can move the needle.
“The following table provides an analysis and projection of how Chesapeake's operated net drilling and completion capital expenditures on liquids plays are expected to increase from 13% in 2008 to approximately 55% in 2012.
CHK Operated Drilling and Completion Capital Expenditures | ||||
Year | Natural Gas Plays | Liquids Plays | ||
2008 (actual) | 87% | 13% | ||
2009 (actual) | 90% | 10% | ||
2010 (1H actual, 2H projected) | 68% | 32% | ||
2011 (projected) | 59% | 41% | ||
2012 (projected) | 45% | 55% | ||
This planned transition will result in a more balanced portfolio between natural gas and liquids and by year-end 2015, Chesapeake expects to increase its liquids production to approximately 200,000 bbls per day, or approximately 25% of total production (using a 6:1 natural gas to liquids ratio), through organic growth and expects revenue from liquids to be approximately 40% of total production revenue.”
Here are details on the largest of Chesapeake’s current oil plays:
Granite Wash (western Oklahoma and Texas Panhandle):Chesapeake is the largest leasehold owner and producer and the most active driller with approximately 200,000 net acres, an increase of 5,000 net acres from the 2010 first quarter, in the unconventional liquids-rich Granite Wash plays in the Anadarko Basin, which include the Oklahoma Colony and the Texas Panhandle Granite Wash plays. On its Granite Wash leasehold, Chesapeake estimates it has approximately 200 million barrels of oil equivalent (mmboe) (1.2 tcfe) of proved reserves (based on the 10-year average NYMEX strip prices at June 30, 2010) and 900 mmboe (5.4 tcfe) of risked unproved resources.
Eagle Ford Shale (South Texas):Chesapeake has built a leading position in the liquids-rich portion of the Eagle Ford Shale in South Texas with approximately 550,000 net acres of Eagle Ford Shale leasehold, an increase of approximately 150,000 net acres from the 2010 first quarter. Chesapeake has drilled and completed seven gross wells to date and anticipates operating an average of approximately five rigs in the Eagle Ford in 2010. In 2011 and 2012, the company expects to increase its drilling activity to an average of 16 and 27 rigs, respectively. Chesapeake expects to conclude ongoing Eagle Ford Shale joint venture discussions and announce a joint venture transaction by the end of the 2010 third quarter.
Anadarko Basin Unconventional Liquids Plays (western Oklahoma and Texas Panhandle):Chesapeake is the largest leasehold owner in the Anadarko Basin unconventional liquids plays, which include horizontal drilling in the Cleveland, Tonkawa and Mississippian formations, with approximately 730,000 net acres, an increase of 65,000 net acres from the 2010 first quarter. The company has drilled and completed 55 gross wells to date in these three plays. Chesapeake anticipates operating an average of approximately six rigs in its Anadarko Basin unconventional liquids plays in 2010 to drill approximately 55 net wells and expects to increase its average operated rig count to 11 in 2011 and 13 in 2012.
Permian Basin Unconventional Liquids Plays (West Texas and southern New Mexico):Chesapeake has built a strong position of approximately 290,000 net acres of leasehold in four Permian Basin unconventional liquids plays: the Avalon Shale, Bone Spring, Wolfcamp and Spraberry in West Texas and in southern New Mexico. The company has drilled and completed 100 gross wells to date in these four plays. Chesapeake anticipates operating an average of approximately five rigs in its Permian Basin unconventional liquids plays in 2010 to drill approximately 60 net wells. In 2011 and 2012, the company plans to increase its operated rig count as it continues its transition away from natural gas drilling to more liquids-rich drilling.
Rocky Mountain Unconventional Liquids Plays (southern Wyoming and northern Colorado): Chesapeake has developed a leading position in the horizontal Niobrara and Frontier plays in the Powder River Basin in Wyoming with approximately 470,000 net acres acquired during the past two years. The company has also recently entered the Niobrara play in the DJ Basin of northern Colorado and southern Wyoming with 205,000 net acres. The company has drilled and completed two gross wells to date in these plays. Chesapeake expects to initiate joint venture discussions in the Niobrara play in the 2010 second half. In 2011 and 2012, the company plans to increase its Niobrara and Frontier operated rig count to an average of approximately six operated rigs as it continues its transition away from natural gas drilling to more liquids-rich drilling.”
"Chesapeake's goal is to reach a balanced mix of natural gas and liquids revenue as quickly as possible. We plan to shift our capital spending mix between natural gas plays and liquids-rich plays to approximately 45/55 by year-end 2012. By year-end 2015, we expect to increase our liquids production to approximately 200,000 bbls per day, or approximately 25% of total production and 40% of production revenue. This will be a remarkable achievement for a company of our size, one that we expect to deliver to our investors from organic drilling, rather than through acquisitions, at very low per net acre leasehold acquisition costs and low drilling and completion costs. Chesapeake's transition will be transformative for our company and its shareholders. “
"Our strategy to accomplish this goal is set forth below:
- Reduce drilling of natural gas wells except for those required to HBP leasehold or to use a drilling carry provided by a joint venture partner until such time as natural gas prices rise above $6.00 per mcf;
- Lease and develop substantial new liquids-rich plays in which the company can acquire very large leasehold positions of 250,000-750,000 net acres;
- Within one year of acquisition, sell a minority interest in a new play, recovering all or virtually all of the cost to acquire the leasehold in the play and to fund approximately a significant portion of Chesapeake's future drilling costs in the play;
- Accelerate drilling of liquids-rich plays until year-end 2012 when the company's drilling capital expenditures are balanced approximately 50/50 between natural gas plays and liquids-rich plays;
- Continue adding proved reserves, net of monetizations and divestitures, of approximately 2.5 - 3.0 tcfe (415 - 500 mmboe) annually; and
- Accomplish these goals without the issuance of additional equity and with a reduction of debt levels such that the company becomes investment grade within the next few years."
