Chesapeake Energy Corp (CHK)

goldseth (< 20) Submitted: 12/15/2008 9:41:07 AM : Start Price: $17.25 CHK Score: +4.02

Those who know me or have read any of my stock market pontifications know I’ve been a fan of Chesapeake for a few years now. Our investment club bought CHK at 30+ and sold in 50’s while drawing income from covered calls all the way. However, CHK’s rise has been followed by an equally severe decline as the stock has been punished severely due to cash flow concerns, high debt levels, plummeting natural gas prices, CEO McClendon’s inexplicable sale of all stock to cover margin calls and, most recently, a poorly planned announcement of additional stock sales.

However, this sell-off is an over-reaction (hedge fund redemption may be a key here) which creates great opportunity for those willing to take the dive! First of all, consider natural gas prices. Short term, the natural gas phenomenon created an industry of drill, drill, drill and resulting oversupply coinciding with an economic slowdown, industrial demand destruction in particular, has destroyed prices. However,the credit crunch, slowing economy and low prices should weed out many small players and unconventional rigs, bringing more balance to supply. Long-term, the charts seem to show support in the $6 range and natural gas demand should be strong as clean energy and domestic energy remain key political talking points.

The other major concern is cash flow, which admittedly looks strained on paper, but if you look a bit deeper at the value created over the years, Chesapeake has great flexibility in creating cash flow as needed. The acquisition budget should be reduced to nothing while reducing rig count and drilling costs all while increasing reserves nonetheless. Its also important to consider partnerships Cheapeake has created with Plains Exploration & Production Company and British Petroleum in which a majority of the Chesapeake’s drilling expenses are paid for. In a crunch, Chesapeake has been able to monetize under performing or unwanted properties at a premium.

I would also recommend visiting the investor section of Chesapeake’ website as you will rarely find a company so forthcoming and transparent regarding outlook and operations. Given Chesapeake’s operational efficiences, huge asset base and growth of reserves, I bought at just under $14/share and would consider buying under $20 while selling covered calls just ut of the money to protect against further declines.