Chesapeake Energy (CHK) has not done well recently as a result of historically low natural gas prices for various reasons including a milder than expected winder. On top of that, even now in March, things haven’t been getting better. Just on Thursday, natural gas prices fell to a 10-year low after the U.S. Department of Energy reported a build in U.S. natural gas inventories. To make matters worse, the inventory is now 59% above the five-year average for natural gas, according to the Associated Press.
As the second-largest producer of natural gas, this has forced Chesapeake to alter is strategy. In January, the company updated its 2012 operating plan in response to the weak natural gas fundamentals. On February 13, 2012, in response to the lowest natural gas prices the U.S. has experienced in the past 10 years, it announced that it had taken a series of steps. Among the highlights includes a reduction in its operated dry gas drilling activity to approximately 24 rigs by the second quarter of 2012 from 47 dry gas rigs in use in January 2012 and from an average of 75 dry gas rigs used during 2011. It is expected to significantly cut its 2012 gas capex. Chesapeake said that its gas capex will decrease to $900 million, or approximately 70%, from similar expenditures of $3.1 billion in 2011. The company also reallocated capital from natural gas into liquids-rich plays.
Chesapeake is in transition now as it redirects a significant portion of its technological and leasehold acquisition expertise to identify, secure and commercialize new unconventional liquids-rich plays versus gas-rich plays previously. This planned transition will result in a more balanced and likely more profitable portfolio between natural gas and liquids in the future.
Notably, Chesapeake has been through down market in natural gas before. And just like in previous cycles, the company and other natural gas companies are doing what any rational business owner would do in a down market, cut product and adjust to current market tendencies.
Although optimism for Chesapeake’s stock is hard to find, value investors, such as Investment Underground’s founders, thrive in this type of environment. When you look at Chesapeake you see the second-largest producer of natural gas, a top 15 producer of oil and natural gas liquids and the most active driller of new wells in the U.S. It is one of the biggest energy companies in the U.S. that has a lot of assets. It owns interests in approximately 45,700 producing natural gas and oil wells.
Despite the pessimism in the marketplace, analysts are optimistic on the company was a consensus price target of $29 versus the current stock price of just over $23 a share. The stock is trading for 13x its 2011 EPS estimates and the EPS estimate has fallen significantly over the past 90 days from $2.39 a share to $1.77 a share today. The valuation favorably compares to other natural gas companies. Encana (ECA), a Canadian-based company, is trading at a forward P/E ratio of nearly 35. Chesapeake’s valuation is slightly below Talisman Energy’s (TLM), another natural gas stock, which has a forward P/E ratio of 14.4.
Still, with a company of this size with assets in natural gas and resources, this is a top oil and gas play in the market. Management is proven and has richly rewarded shareholders for their patience as the stock is up 20x from its split-adjusted IPO price in 1993. It’s hard to be confident when times are bad, but sticking with Chesapeake is not a bad way to go in this market.
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