Chesapeake Energy Corp. (CHK) reported sharper-than-expected adjusted fourth quarter 2010 earnings of 70 cents per share, striding ahead of the Zacks Consensus Estimate of 64 cents. The outperformance came on the back of a 12% increase in production volumes. However, the reported figure was below the year-earlier profit of 77 cents.
Full-year 2010 adjusted earnings improved more than 15% to $2.95 per share from last year’s profit level of $2.55. The full-year earnings also surpassed the Zacks Consensus Estimate of $2.92.
Total revenue dropped 11% year over year to $1,975 million, and came in well below the Zacks Consensus Estimate of $2,378 million. However, full-year 2010 total revenue increased more than 21% to $9,366 million from the year-earlier level of $7,702 million and failed to match up to our expectation of $9,844 million.
Operational Performance
Chesapeake’s average daily production in the quarter increased 12% year over year and decreased 4% sequentially to 2.92 billion cubic feet equivalent (Bcfe), of which natural gas was 88%. The percentage of natural gas production to total volume decreased 5% on an annualized basis. However, its natural gas production increased 5% and oil production hiked 103% on an annualized basis.
Natural gas equivalent realized price in the reported quarter was $5.87 per thousand cubic feet (Mcfe) versus $6.45 in the year-earlier quarter. Average realizations for natural gas were $5.22 per Mcf compared with $6.05 per Mcf in the year-earlier quarter. Realizations came in at $62.62 per barrel of liquids compared with $71.61 per barrel in the year-ago quarter.
On the cost front, production expenses increased almost 5% from the year-earlier level to 90 cents per Mcfe. Cash flow from operations decreased 2% year over year to $1.19 billion.
At the end of the quarter, Chesapeake had cash balance of $102 million. Debt balance stood at $12.64 billion, representing a debt-to-capitalization ratio of 45% (versus 42.8% in the preceding quarter).
Asset Sale Program
The company is on track with its 25/25 plan, which intends to reduce its long-term debt (through monetizing its assets and a reduction of lease-hold spending) by 25% during 2011-2012 while increasing its natural gas and oil production by 25% during the period. Niobrara Shale cooperation deal and the sale of its Fayetteville Shale properties mark the company’s significant progress in this regard.
Chesapeakeclosed its deal with China’s top offshore oil producer CNOOC Limited (CEO) for the sale of stakes in its U.S. Niobrara shale project for $570 million. Further, the company recently announced the sale of its Fayetteville Shale assets to mining giant BHP Billiton (BHP) for $4.75 billion in cash.
Guidance
The company is guiding toward full-year production growth of 9% and 17% for 2011 and 2012, respectively. Liquids production is expected to range between 32,000-36,000 thousand barrels (MBbls) and 51,000-57,000 MBbls for 2011 and the next year, respectively. Further, natural gas output is expected to be in bands of 900 to 930 Bcf for 2011 and 960 to1,000 Bcf for 2012.
Outlook
We appreciate Chesapeake’s initiative of deploying more funds toward liquids. In the current scenario of an uptrend in oil prices, the company is planning to deploy more capital to drill liquids-rich plays, particularly the unconventional Granite Wash, Eagle Ford Shale, Anadarko Basin, Permian Basin and Rocky Mountain plays. The drilling success rate was 98% for both the company-operated wells and for non-operated wells during 2010.
Given Chesapeake’s industry leading growth profile, competitive cost structure and management’s track record of outperformance, the company is favorably placed compared with many of its peers in the exploration and production space. In our opinion, Chesapeake is one of the industry’s most active players in managing its asset portfolio through a combination of acquisitions and disposals.
We think Chesapeake’s concentrated focus on shale gas plays should provide the impetus to monetize these assets more effectively. This, coupled with the company’s increased focus on liquids will boost returns. However, given our fears of challenging natural gas fundamentals in the near term, we believe that the stock will perform in line with the group.
We are maintaining our long-term Neutral recommendation on the stock. Oklahoma Citybased Chesapeake currently retains a Zacks #3 Rank, which translates into a short-term Hold rating.
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