Factors That Will Drive Chesapeake Energy’s Value In The Next Two Years

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Chesapeake Energy

Chesapeake Energy (NYSE:CHK), one of the largest natural gas producers in the US, has had a decent year so far. The recovery in commodity prices, coupled with the company’s divestment program, have enabled it to improve its performance over the last few quarters. The company plans to increase the proportion of oil in its production mix and deliver a sustained production growth in 2018 and beyond. In addition, the company will continue to focus on its cash flow neutrality target by reducing its long term debt obligations. We believe Chesapeake’s strategy to enhance its performance and value is likely to work in its favor and drive its value in the near term.

We have a price estimate of $4.50 per share for Chesapeake Energy, which is in line with its current market price. View our interactive dashboard – Chesapeake Energy’s Price Estimate – and modify the key drivers to visualize the impact on its valuation.

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Ramping Up Oil Output To Deliver Sustained Growth

Primarily a natural gas company, Chesapeake has benefited from the growing demand for gas globally. However, since the realized price for natural gas is significantly lower than that of crude oil, the company is now planning to increase the proportion of oil in its production mix. The company expects to deliver an adjusted oil production growth of 10% in 2019 and a sustained growth thereafter.

With the strong results from the Powder River Basin, Chesapeake has increased its full-year oil production guidance by 500,000 barrels. With the use of optimized completions and customized facility design, the company has managed to increase its net oil production in the Powder River Basin by 90% year to date and anticipates further growth in the second half of the year. While the Turner formation continues to boost the output in the Powder River Basin, the company plans to move to other zones to further ramp up its production from the region in 2019. Consequently, the company expects to deploy 6 rigs in the region, which will enable it to increase its oil production by 100% in 2019.

Apart from Powder River Basin, Chesapeake’s low-cost, high-margin assets in South Texas have also demonstrated improved capital efficiency, and is expected to generate roughly $475 million in free cash flow this year. In addition, the company plans to implement its first improved oil recovery project in 2019 and begin development in the Austin Chalk and Upper Eagle Ford. These two assets will provide additional growth opportunities for the company in the near term.

Debt Reduction & Cash Neutrality Target

With an aim to improve its skewed capital structure, Chesapeake had set a target of reducing its net debt-to-EBITDA ratio to 2x in the coming years. In order to achieve this, the company has been actively divesting its non-core and low-margin assets over the last couple of years, and utilizing the proceeds to pare down its long-term debt obligations.
The company recently completed the sale of its assets in Utica for a sum of roughly $2 billion, which will be used for the last leg of debt reduction. This will bring down the company’s interest expense by up to $150 million annually, which is likely to boost its bottom-line. Further, the deal is expected to yield a $0.50 per boe improvement in its profits due to lower gathering, processing and transportation (GP&T) expenses. Assuming commodity prices remain at the current levels, the company anticipates the divestiture of the Utica Shale to increase its EBITDA by around $0.70 per boe in 2019.
With the closure of this deal, Chesapeake will have cumulatively eliminated $12.2 billion in total debt, and more than $12 billion in capital expenditure over the last few years. Thus, this sale marks the end of the company’s aggressive divestment program to reduce its debt obligations, and puts the company on track to achieve its leverage target. Though the company will continue to look for opportunities to enhance its portfolio through divestiture or acquisition, this will no longer be the company’s primary financial strategy. Going forward, the company will focus on organic production growth, exploration, strategic acquisitions, and portfolio management that drive its value in the near future.

Do not agree with our forecast? Create your own price forecast for Chesapeake Energy by changing the base inputs (blue dots) on our interactive dashboard.

 

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