In early October, top executives of two large independent production companies, Chesapeake Energy Corp. in Oklahoma City and XTO Energy Inc. in Fort Worth, separately sold large blocks of personally owned stock in their companies.
Because of intense market fluctuations in recent weeks, some investors have been forced to liquidate holdings in the commodity markets to cover margin calls in equity markets. But these sales of company stock by three corporate executives appear to be isolated incidents, analysts said. “If there were any more CEOs with investments at risk, more stock sales would have happened by now,” said Ray Deacon, senior analyst at Pritchard Capital Partners LLC in New Orleans.
Aubrey McClendon, chief executive of Chesapeake Energy Corp., sold “substantially all” of his Chesapeake common shares to meet margin loan calls. McClendon blamed “the extraordinary circumstances of the worldwide financial crisis” for forcing the sale.
Analysts peg Chesapeake as the worst-performing producer this year in the Standard & Poor’s 500. However, McClendon said, “In no way do these sales reflect my view of the company’s financial position or my view of Chesapeake’s future performance potential.”
According to a Sept. 30 filing with the US Securities and Exchange Commission, McClendon was the company’s third-largest shareholder, with 33.5 million shares, or 5.8% of the company’s common stock. Stock awards accounted for more than three quarters of his $18.7 million compensation in 2007 and helped put him at 134 on the Forbes 400 list of wealthiest Americans.
XTO Energy Chairman and Chief Executive Bob R. Simpson sold 2.8 million shares of his XTO stock for $101.3 million, or an average $37.43/share during the week ended Oct. 10. A company statement said the sale “satisfied all considerations for debt, personal interests, and family liquidity.” Simpson was XTO’s 10th largest shareholder, and the sale involved more than 28% of his stock in the company. But he still holds 6.8 million shares, with options to buy another 4 million.
A few days later Louis G. Baldwin, executive vice-president and chief financial officer of XTO, sold 535,700 shares of XTO common stock to eliminate “all of his margin debt.” Baldwin still owns 1.1 million shares of XTO, with options to buy an additional 900,000.
XTO Energy
XTO Energy is an independent US producer engaged in the acquisition and exploitation of long-life producing natural gas and oil properties. Its reserves have grown to 11.29 tcfe at the end of 2007 from 296 bcf of gas equivalent in 1993, making it one of the largest owners of domestic natural gas reserves among the independents.
Its properties are concentrated in Texas, New Mexico, Arkansas, Oklahoma, Kansas, Wyoming, Colorado, Alaska, Utah, Louisiana, Mississippi, Montana, North Dakota, Pennsylvania, and West Virginia. XTO is active in the Marcellus shale, Bakken shale, and Haynesville shale, and has substantial acreage in the Fayetteville shale play in north-central Arkansas.
Pritchard Capital analysts rank XTO among their “best of breed” E&P companies along with Range Resources Corp. and Ultra Petroleum Corp., capable of replacing 350% of production in 2009 while financing projects out of existing cash flows based on a $7/MMbtu benchmark gas price.
“Many resource play stocks are back to 2006 levels despite gas prices very similar to year-ago levels and a storage deficit vs. a year ago,” the analysts said. “Each of the large-cap companies we mentioned would stand out from the peers in two additional regards: the robust economics of their projects and their shallow first-year production declines, particularly for XTO.”
XTO said Oct. 24 it has hedged 70% of its expected 2009 production at an equivalent price of $11/Mcf of natural gas equivalent. “Given these hedges and the current commodity strip pricing, XTO anticipates record cash flow and production volumes with the financial strength to reduce debt by at least $1 billion next year,” Simpson said. “With our focus on delivering performance, particularly in these challenging times, we will continue to look for opportunities to increase our hedge position.”
Many producers have used hedging contracts to lock in returns on future oil and gas output. But some analysts have recently speculated that the global credit crisis and recession may not permit payment for hedged production at the agreed prices.
Chesapeake Energy
Chesapeake Energy is the second-largest independent and third-largest overall producer of natural gas in the US, with operations focused in the Mid-Continent, Fort Worth Barnett shale, Fayetteville shale, Haynesville shale, Permian basin, Delaware basin, South Texas, Texas Gulf Coast, Ark-La-Tex, and Appalachian basin regions.
Chesapeake had hedging arrangements with 19 different parties, including knockout swap contracts for a third of its 2009 production. Under those contracts, buyers are not obligated to take the gas if market prices drop to $6.28/Mcf. It also has used kick-out swaps for some production, but only 4 of the past 57 months has resulted in any of its hedges being kicked out. However, it has since eliminated all knockout swap provisions with its hedges for November and December, transforming them into traditional collars. It also eliminated its April-October knockout swaps, leaving only 15% of its 2009 volumes hedged in this manner.
In September, Chesapeake slashed its drilling capital expenditure budget by $3.2 billion, or 17%, for the second half of 2008 through 2010. Company officials blamed a 50% drop in gas prices since June and the possibility of an emerging gas surplus (OGJ Online, Sept. 25, 2008)
At that time, analysts in the Houston office of Raymond James & Associates Inc. warned, “Expect other firms to follow Chesapeake’s lead and lay down rigs as well.” They said, “We continue to see reduced drilling activity (lower rig count) as necessary to balance the natural gas market. Still, this may lead to the decline in activity about a quarter earlier than we anticipated.”
Other capex cutbacks
Others who have announced capex cutbacks include Newfield Exploration Co., Petrohawk Energy Corp., Penn Virginia Corp., SandRidge Energy Inc., Quicksilver Resources Inc., Equitable Resources Inc., Denbury Resources Inc., ATP Oil & Gas Corp., and Energy XXI (Bermuda) Ltd.
“We expect the list to accelerate as we move toward the end of 2008,” said Pritchard Capital analysts. In Canada, Suncor Energy Inc., the world’s second-largest oil-sands producer, slashed its 2009 capital budget by 33% to $6 billion (Can.) and slowed construction at its Voyageur expansion project.
At the end of the third quarter, Chesapeake borrowed the remaining capacity of its revolving credit and invested the proceeds in short-term US Treasury and other liquid securities. However, financially troubled Lehman Brothers Holdings Inc. failed to fund its $11 million share of the advance. Chesapeake’s financial exposure to Lehman Brothers included unpaid gas sales and derivates contracts. The company received cash payment for all gas marketed through a former affiliate of Lehman Brothers, but it estimated a maximum loss of $50 million on terminated derivate contracts and the net value of hedges with Lehman.
Analysts at Friedman, Billings, Ramsey & Co. Inc. (FBR) in Arlington, Va., said some independent producers are planning their 2009 budgets based on average prices of $80/bbl for oil and $7.50/Mcf for natural gas. “Hedging costs are expected to increase, and liquidity on the long end of the curve is expected to decrease. Management teams expect bank debts, whenever possible, to be repriced to match funding cost increases. Also, bank debt capital available to the industry in general and smaller players specifically is expected to go down reasonably,” they said.
“E&P spending cuts make it clear to us that operators will not simply ‘drill through’ this period of natural gas price uncertainty,” said analysts at Pritchard Capital (OGJ Online, Oct. 15, 2008). “We have begun to see spending reductions or deferrals that will negatively affect oil service demand. Key markets are oversupplied with natural gas, with prices below $4/MMbtu in the Mid-continent, West Texas, and the Rockies.”
Transparency impresses
Despite Chesapeake’s disappointing performance earlier this year, analysts were impressed with the company’s plans at its inaugural analyst meeting in mid-October. “The impressive level of transparency shown by the management team should calm any lingering fears about the company’s financial position,” said Raymond James analysts.
Company officials told analysts its operations in the Haynesville and Fayetteville shale areas alone could replace 95% of Chesapeake’s 2009 production. “Due to the innovative joint venture structures in these plays, Chesapeake’s partners are expected to cover 64% of the costs, meaning Chesapeake needs to only spend about $545 million to replace 95% of its 2009 production, less than one tenth of our 2009 operating cash flow forecast of $5.8 billion,” Raymond James said.
Company officials are certain they can drive down acreage costs 50% in the Barnett and Haynesville plays.
Pritchard Capital analysts previously reported “significant skepticism regarding the Marcellus value proposition, given that Chesapeake has not discussed its plans in the past to any degree.” They said, “Management believes Marcellus wells from pads can be drilled for $3.5 million. They see returns in excess of 200% at $7/MMbtu pricing on the New York Mercantile Exchange.”
Chesapeake is operating 3 rigs on its 1.8 million net acres in the Marcellus play and plans to go to 20 rigs by yearend 2010, with net production expected to reach 130 MMcfd of gas equivalent from current levels of 15 MMcfd. That development could be accelerated with completion of a planned joint venture.