Here’s Why Chesapeake Recently Sold $5 billion Worth Of Its Assets

A few days ago Chesapeake Energy announced the sale of non-core assets in its Marcellus and Utica shale plays to Southwestern Energy for $5.4 billion. ^[1] As part of this sale, the company will divest over 400,000 acres and about 1,500 wells in Western Virginia and Southern Pennsylvania and generate cash flows from assets that are not central to its growth plans. In our note below, we take a look at Chesapeake’s motives in organizing this sale.

Chesapeake’s Growth Plans

The Texas based company is focusing on three specific areas in order to unlock value for its shareholders:

1) Reducing Leverage: Over the past six months, Chesapeake has increased its cash and cash equivalents by almost 67%, from $900 million in December to $1.5 billion in June. More importantly, the company has reduced its long-term debt by almost $1.3 billion over the last six months.  In the last two years, it has reduced its net leverage by as much as $6 billion. In addition to reducing its leverage in order to strengthen its financial security, CHK has also reduced the complexity of its balance sheet, offloading several term loans, VPP’s and levered subsidiaries. The net result has been the improvement of the company’s liquidity position-its quick ratio has gone from 0.47 in 2012 to 0.75 and the lowering of its net-debt to total capitalization ratio to about 35%.

2) Increasing Production of Oil: The company has consolidated its position in the Powder River Basin, which is seen as a significant resource reservoir by Chesapeake. More importantly, the company is leaning on oil to fuel its sales growth in the region and sees the Niobrara oil play as key in order to diversify its production. The company is already generating returns in excess of 40% in the Niobrara.

Unlocking Value in the Marcellus Shale

The third area that Chesapeake Energy had been looking at to fuel its future growth was the potential spin-off of its Southern Marcellus shale assets. Even though these assets were generating strong returns for the company, those returns could be even stronger if the assets were no longer a part of Chesapeake. In an investor presentation in August, the company had noted that the asset could generate nearly 50% organic production growth if it were set free.

The company estimated the value of its non-core assets in the southern Marcellus shale and the Utica shale plays at $4 billion to $8 billion based on the market valuation of some of its peers. ^[2] Despite considering the idea of spinning off the asset to unlock its value, the company has decided that a more efficient way of achieving its goal was the sale of this acreage to Southwestern Energy. The sale will provide the company with a bucket load of cash that it can invest in other potentially profitable ventures to fuel even more shareholder value. The deal will also contribute further to the improvement of its balance sheet. Chesapeake can now use its new cash to make acquisitions, buy back shares, or accelerate growth. The company expects the sale will have no impact on its growth because these assets were not a core part of its growth plans, which is why it still expects to deliver a 7%-10% production increase next year even as it maintains a tight capital program.

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1. Chesapeake Energy sells Appalachian shale acreage for $5.4B, Columbia Business First, October 2014 [↩]
2. Chesapeake Investor Presentation [↩]