Chesapeake’s Q4 Earnings Hit By Lower Price Realizations And Volumes

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Chesapeake Energy (NYSE:CHK) reported a relatively lackluster set of Q4 2013 numbers on February 26 due to lower-than-expected production growth, weak price realizations and certain one-time charges. Production revenues for the quarter stood at around $1.61 billion, down by around 3% year-over-year, while adjusted net income stood at around $161 million, up about 12% from a year ago. However, on a GAAP basis, the company swung to a net loss of around $116 million due to some restructuring and termination costs. [1] Despite the recent weakness, we believe that the company will do better going into 2014, aided by better costs, higher natural gas prices and better capital discipline. Below is a brief look at how Q4 panned out for Chesapeake and what to expect going forward.

Trefis is updating its valuation model and price estimate for Chesapeake Energy to account for the earnings release.

Sluggish Production Growth and Gas Price Realizations

Chesapeake’s total hydrocarbon production for the quarter grew by around 1.5% year-over-year to 61.2 million barrels of oil equivalent (boe). However, on a sequential basis, production was lower by around 1%.  Oil production fell from 11 million barrels in Q3 2013 to around 10.2 million barrels due to heavy rains and flooding in the Mid-continent (Oklahoma, Texas Panhandle, southern Kansas) and south Texas area. Natural gas production also declined sequentially from around 273 billion cubic feet (bcf) to around 271 bcf. This was partially due to lower production in the Haynesville Shale and slower growth in the Utica shale, where delays in building midstream infrastructure and downtime at a natural gas processing facility have weighed on production.

Things were relatively challenging on the pricing front as well. Oil price  realizations were around 3% lower sequentially at around $89.60 per barrel, which is in keeping with the decline in WTI crude prices over the quarter. However, natural gas price realizations also saw a sharp decline, despite the fact that NYMEX gas prices have been on the uptrend on the back of a colder winter. Average well head gas price realizations fell from $2.26 per thousand cubic feet (mcf) during Q3 2013 to around $1.90 per mcf.  This was primarily due to higher price differentials ($1.76 per mcf in Q4 versus under $1.40 per mcf during the first nine months) with the NYMEX, which were brought about by some minimum volume commitment payments that the company had to make to service providers in the Barnett shale region. [2] Since the company’s production volumes for the year were likely below the contracted amounts and the contracts were backward looking, with payments being accrued in Q4 alone, it resulted in a disproportionate impact on price realizations for the quarter. Additionally, higher differentials in the North East also impacted price realizations.

Outlook For 2014: Natural Gas Liquids Growth, Lower SG&A Costs Will Drive Earnings

For 2014, the company expects overall production to rise by an average of 3% year-over-year. However, adjusted for recent asset sales in the Northern Eagle Ford, Haynesville shale and Mississippi lime, production is actually expected to rise by around 8 to 10%, which is quite encouraging. While oil production is expected to grow by between 1% and 5% (production was 41.1 million barrels in 2013), natural gas production could fall by as much as 2%. Much of the company’s volumes growth will come from natural gas liquids, since the company intends to boost production of the commodity by as much as 45% for this year. We believe that this is a relatively good move as NGL demand has been on the rise globally and prices have also been increasing.

Chesapeake also expects to make some significant progress on the cost front this year. Production expenses per boe are projected to fall by around 5% to $4.50 while  general and administrative expenses per boe are expected to fall by 20% to around $1.30. This should bode well for the company’s margins and earnings for the year.

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Notes:
  1. Chesapeake Q4 2013 Earnings Presentation, Chesapeake Energy, February 2014 []
  2. Chesapeake Q4 2013 Earnings Call Transcripts, Seeking Alpha, February 2014 []
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