Higher Natural Gas Production Could Create 30% Upside for Chesapeake

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Trefis
CHK: Chesapeake Energy logo
CHK
Chesapeake Energy

Chesapeake’s (NYSE:CHK) natural gas production volume has historically seen a steep increase, largely to support the growing demand for natural gas. However, due to the economic downturn, demand and price of natural gas declined in 2009, causing a decline in gas production as well. We expect production volumes to remain suppressed in the short term but increase in the future. Improvements in drilling technology and growing adoption of natural gas as a cleaner source of energy are the prime factors that will contribute to growth in Chesapeake’s natural gas production. Chesapeake competes with Anadarko (NYSE:APC), ExxonMobil (NYSE:XOM), ConocoPhillips (NYSE:COP), BP (NYSE:BP), Chevron (NYSE:CVX) and Massey (NYSE:MEE) in the natural gas industry.

Chesapeake’s stock is highly sensitive to natural gas production since the natural gas business accounts for more than three-fourths of the company’s stock price. While we expect Chesapeake’s natural gas production will cross 0.9 billion cubic feet (bcf) by the end of our forecast period, Trefis members predict the volumes will reach 1 bcf. The member estimates represent a significant upside of around 30% to our price estimate for CHK stock.

We currently have a Trefis price estimate of $25.01 for Chesapeake’s stock, about 10% below the current market price of $27.89.

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Improvements in Drilling Technology

Improvements in the efficiency of drilling techniques, most notably in the production of natural gas from shale formations has helped boost production. Shale gas has also been the primary source of the recent growth in the US recoverable natural gas resources. In 2009, marketed production of natural gas in the US reached 21.9 trillion cubic feet , the highest recorded annual total since 1973.

Chesapeake’s main strategy is to develop its ‘Big 6’ natural gas shale plays – Barnett, Haynesville, Bossier, Fayetteville, Marcellus, and the Eagle Ford Shale, which account for more than 50% of its total proven natural gas reserves of around 13.5 trillion cubic feet (as of fiscal 2009 end). We wrote about this trend in a recent article. (See Trefis article Chesapeake’s Shale Reserves Could Carry the Stock Higher.)

Growing Adoption of Natural Gas As a Cleaner Fuel

Natural Gas is considered to be the world’s third largest source of energy after oil and hydro power. In 2009, it accounted for nearly 21% of the world’s energy consumption. Its use as a cleaner source of fuel compared to other alternatives is a reason why governments are encouraging the production of it and use over coal or oil as a source of energy generation.

The use of natural gas in power sector is also growing. The Energy Information Administration (EIA) anticipates that gas demand in the power sector will grow by a CAGR of 1.7% between 2007 and 2030 and will represent 41% of total gas demand in 2030.

Trefis Community Forecast

Trefis members expect Chesapeake’s natural gas production volume will increase from 0.8 billion cubic feet (bcf) in 2011 to 1.1 bcf by the end of the Trefis forecast period, compared to the baseline Trefis estimate of an increase from 0.8 bcf to 0.9 bcf during the same period. The member estimates imply an upside of 29% to the Trefis price estimate for Chesapeake’s stock, suggesting that the stock is highly sensitive to the production volume of natural gas.

Our complete analysis for Chesapeake’s stock is here.

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