Drillbits

How a Player Plays the Play

In recent days, after leasing in the Marcellus shale had stopped almost completely, the last in a long line of the major E&P companies have sent lease rescission letters out to landowners who had signed up in the past few months. Two months ago, at the head of that line was, of course, Chesapeake Energy. Within a matter of days, Range Resources followed Chesapeake's lead; then Chief followed suit, and more recently, Cabot, East Resources and XTO all did too. Along the way, most of the smaller outfits also dropped out, and finally, last week, even zero debt Rex hauled its box of letters down to the post office.

So, while all this was going on, who do you think had his landman building mailing lists for the next round of lease offers,...you know, of all of those irate property owners that were just dumped by the other companies? And, guess who just mailed a big box of those letters in Greene County, PA last week? .......yep, right again, Aubrey McClendon.

While there are legitimate concerns among some of these companies about expending cash and credit lines in the face of a credit crunch and impending recession, most, in the wake of Chesapeake's walking away, just decided to wait it out for lower lease prices. It will be interesting to see how that gambit works out. As for Chesapeake, it will be really interesting to see how the new offers stack up against its recent $5,800/acre effective flip of previously acquired leasehold to StatoilHydro.

Also last week, Chesapeake made over 25 permit applications in one of the NWPA counties...and why not? It is becoming increasingly clear that the economics of the Marcellus are the best of the shale plays. Natural gas futures are still in contango and with the Marcellus' Appalachian premium, will still bring $8.50-$9.50/mcf for the next two years while input costs: day rates, pipe, supplies and services are all coming down.

As so often happens in the O&G business.......the cycle begins anew.

Drillbits

It Matters Hardly at All

As Chesapeake Energy seeks to shore up its cash position by taking on a JV partner for its Marcellus shale, a strange, but true back story may be hurting the company's chances. The consummate land man, Aubrey McClendon, might just have outdone himself.

The company’s latest investor presentation gives an implied value of $7,500/acre for its 1.8 mm acres of Marcellus leasehold (US $13.5B). So, a 25% share would be worth $3.4B. On the basis of the previous JV deals, a portion of this amount would be in cash with the balance delivered over time in the form of a drilling cost carry. According to the presentation’s tables, these JV proceeds combined with the proceeds from sales of some producing properties in Oklahoma and South Texas are projected to raise $2.5B to $3.0B. So, $1.7B from the Marcellus would seem reasonable and, thus, a critical piece of the 12/31/08 Ending Cash forecast of $3.5B.

But, there’s a problem. While advocating a lease acquisition and monetization strategy of buy low, sell high, Mr. McClendon noted:

“One of the great advantages of a time like this is we can drive down the cost of our business. That’s not only going to be true soon on the drilling side but it’s especially true today on the leasing side as we are continuing to be very, very aggressive in driving down prices in areas of shale plays so we can acquire leases we think at a lower price going forward.” …..“I can assure you that buying leases for X and selling them for 5X or 10X is a lot more profitable than trying to produce gas at $5 or $6/mcf.”

Now, that’s all well and good, if, as Chairman/CEO of the largest US gas producer, you can somehow profit by professing your abilities as a land man. Call me crazy, but I’d think the best way to profit by buying and selling leases is to keep lease prices in a play high until you sell them, not knock them down while you're still trying. Then, you could tout them by saying, as Mr. McClendon did:

“The neat thing is leasehold is always cheap in a play whether you pay $5,000 an acre or $10,000 or $20,000 or $30,000. In most of these shale plays it matters hardly at all as to what you pay for leasehold because you consume so much leasehold at 80 acres generally a well and these wells can cost $3 million to $6.5 million. So you put some leasehold on top of that, it’s just not much money at the end of the day.”

Instead, what Chesapeake has done in the Marcellus is to be “very, very aggressive in driving down prices”, by effectively pulling out of leasing completely. First in NEPA, then in SWPA, then Range followed suit….then a few smaller operators, then Chief and last week, Marathon. Prices have plummeted to $500 to $2,000/acre, and so have Chesapeake’s chances of doing a JV deal by year end.

More likely is another kind of deal; a deal following a Not Done or Failure to Deliver on the JV; a kind of Bear or Wachovia deal when someone deciding to commit $3.4B for a 25% share of the Marcellus realizes that the entire market cap of Chesapeake is only $10B. And that, if they hold up on the JV, they just might get the whole company for the same number.

Unfortunately, for Aubrey, since getting hit with those margin calls, his vote on the motion………why, it matters hardly at all.

October 15, Business Update Call Transcript

Drillbits

Reach Out I'll Be There

XTO updated it's hedge position today as having approximately 70% of 2009 projected production locked in at $11 mcfe. The NG component is in the $9 range. At that level, the company should be able to reduce debt by $1 billion next year.

With the financial markets still in disarray, NG knocking on the $6 door, and just about everybody reporting 70-80% of next years production as hedged in the $9-$10 range, how'd you like to be on the other side of those trades? As companies have been reporting earnings, you're now beginning to see the release of counterparty exposures. Good to see, but a bit concerning.

Let's just hope this happiness isn't just an illusion.

RIP Levi (Levi Stubbs - June 6, 1936-October 17, 2008)

Drillbits

Up From the Ground Come a Bubble

In what must be one of the greatest sector collapses in market history, participants in the nation's shale plays have had to move quickly to pare back risk. In an industry where the taking and management of risk are at the core of a company's success, it's not surprising that dramatic steps had to be taken. Most dramatic of all, beyond the deals falling through, capex being cut, leasing being stopped, wells being shut in and rigs being let go, was the quickness of some companies and individuals to cut debt exposure. Some, voluntarily and some not, and some more quickly than others.

This writer has long praised Aubrey McClendon for his bullishness and quickness in exploiting the shale plays and putting Chesapeake at the top of the producer list. The most remarkable part this ascent was his willingness to put his personal wealth on the line. Nobody did that better than Aubrey. Had I known that he'd also bought the last several million shares on margin, my remarks might not have been so laudatory. It's hard to say what his net equity was at the top when his holdings were worth $1.9 billion, but by the day of the first call, it had dropped to $750 million and after three days of selling, at Friday's close, it was worth $31.9 million. Nonetheless, I'll still root for him as long as he's capable of learning THE LESSON OF A LIFETIME and managing the company with the knowledge that there's so much more to lose if he's not.

Bob Simpson of XTO also did some heavy selling. Apparently, not by force as in McClendon's case, but Simpson cited cleaning up some debt as one of his reasons for disposing of 2.777 million shares or about 30% of his holdings.

Stories:
McClendon
Simpson

Drillbits

There's a Thin Line.....Between Love and Hate

Or, is it between Genius and Madness. No matter, you gotta love this guy.

Rebalancing his portfolio? Diversifying his holdings? Estate planning?

You heard it all before but you won't from balls to the wall Aubrey. In an F4 this afternoon, Chairman & CEO McClendon reported having plopped down another $43 million on July 15 to acquire 750,000 more shares of Chesapeake Energy. This bring his direct holdings to 33,452,911 shares. Recapping this years open market buys, he has individually invested around $185 million in CHK common stock to purchase 3.85 million shares in the open market.

I'm going with genius.

Drillbits

Truckin, Like the Do-Dah Man

Chesapeake Energy announced after the close today that they will offer 25 million common shares with the customary 15% over allotment. Net proceeds from the offering will be used to temporarily repay outstanding indebtedness under its revolving bank credit facility which it anticipates re-borrowing from time to time to fund its recently announced drilling and leasehold acquisition initiatives and for general corporate purposes.

Take a look at the capital flows since the end of last quarter:

April 2 - Sold 23 million shares of Common netting $1.011B
May 1 - Sold Tex-Okla-Kan assets for $623 million
May 1 - Sold Woodford Shale holdings for $1.5B
May 20 - Sold $1.38B of Contingent Convertible Senior Notes netting $1.173B
May 20 - Sold $800 million of Senior Notes netting $487 million after retiring notes.
July 1 - Sold 20% interest in the Haynesville shale to Plains (PXP) for $1.65B
July 8 - Selling 28.75 shares Common to net $1.7B (estimated @$60/sh. net)

Net Cash from Equity Sales $2.71B
Net Cash from Debt Sales $1.66B
Net Cash from Asset Sales$3.77B

Total $8.14B


The $1.65B Haynesville sale to Plains Energy also includes an additional $1.65B commitment from Plains for future cost sharing to develop the play. This transaction effectively raised the value of Chesapeake's remaining 80% interest in the Haynesville by $9.5B to $13.2B. At the end of Q1, CHK's market cap was about $24B. Including the latest offering shares, as of today's close, the market cap would be $35B; up 42% (diluted) while net assets, thanks to the Haynesville alone are up 81%. The Woodford sale and Q2 net income will probably further add to net assets.

The only acquisitions announced during the period were for 18,000 acres in the Haynesville from Goodrich Petroleum and a third party for about $300 million (est.), and the Pier One building. So, going into Q3, any concerns about CHK's debt levels should be laid to rest; that is, unless Aubrey finds another Hunt Petroleum.

Sometimes the lights all shinin' on me......

Full Story at http://phx.corporate-ir.net/phoenix.zhtml?c=104617&p=irol-newsArticle&ID=1172815&highlight=

Drillbits

Bob Away My Blues

I'm goin' down to the river...I got my cane pole in my hand
Got me some red worms...in a Maxwell House coffee can
I'm gonna sit under a shade tree...on the riverbank where it's cool
I'm gonna close my eyes and dream and let the cork bob away my blues

Toy Caldwell, Doug Gray and The Marshall Tucker Band created such a beautiful, peaceful scene with that tune but from there does it go...

Hey! What the hell happened to my river?

On June 6, in the wake of the May 30th DEP orders to Range Resources and Chief Oil & Gas to suspend a portion of their operations at separate sites in Lycoming County for violating Pennsylvania's Clean Streams Law, the Susquehanna River Basin Commission notified 23 natural gas operators currently using or planning to use the river's water to develop Marcellus wells that they now must have approval from the commission and follow water consumption guidelines. And, last Friday, the Pennsylvania Department of Environmental Protection held a Marcellus Shale Summit for Gas Operators in Harrisburg. This first of its kind meeting in Pennsylvania was certainly a novel and excellent idea but having to have that meeting at this stage of the game is really quite extraordinary.

Here we are with the majors having spent over $5 billion so far this year to gain a foothold in the play and they needed to go to a meeting with the DEP to get informed about water use! Is it really possible that the largest natural gas E&P companies in the US, after making billion dollar commitments didn't know that they had to get permits to pump frac water from the streams? Does this change the dynamics of the Marcellus' development? I think the answers are yes and yes.

From now on when you hear the word infrastructure you need to be thinking WATER. As evidenced by 5 year paid-up lease bonuses approaching $3,000 per acre and 20% royalties, the greatest drilling interest so far has been in the southern tier of New York and the northeastern part of Pennsylvania. This region, graced by the thickest deposits, shallowest depths and proximity to the northeast's large pipelines and gas markets, is by some accounts, also graced with something more precious; the northeast's finest, most pristine, wild trout streams. Now, we'll let you build a pipeline or two but, son, you foul up one of those trout streams and you in a heap o' trouble.

No doubt there were some interesting decisions made by many of the companies in the days following the May 30th orders to Range and Chief. Landowners have reported that Range immediately stopped acquiring leases in Luzerne, Lackawanna and Wyoming counties and Cabot Oil & Gas also stopped leasing in Lackawanna. It's not yet clear whether those moves had anything to do with the water situation. Maybe they've just gone fishin'.

Full Story at http://www.ahs.dep.state.pa.us/newsreleases/default.asp?ID=5107&varQueryType=Detail

Drillbits

Fire on the Mountain - Lightnin' in the Air

In what must be the most irresponsible writing (I'll refrain from calling it journalism) that I've ever seen, Tom Wilbur, of Binghamton, NY's Press and Sun Bulletin shows an absolute disregard for his professional reputation and that of his paper in last Sunday's article, Drilling carries a hefty environmental price.

His preference for an apocalyptic rather than informational account of the development of the Marcellus shale will leave some landowners shaking in their boots at the prospect of leasing their property to Beelzebub. Others, having surpassed Mr. Wilbur by attaining the intelligence level of a ten year old, will take some time to learn about the subject from neighbors, internet pages and forums; go to a landowner meeting or two; visit a few completed sites and steer clear of the following propaganda:

"For local property owners giddy about the prospects of their own lucrative land deals, it has been a sobering vision to see heavy equipment diverting stream beds and bright red diesel fuel flowing through ditches."

"Spectacular explosions at gas-drilling sites, shooting churning orange and black fireballs into the air and leaving columns of soot visible for miles, are not unheard of. "

"The noise of heavy equipment pounding the earth, clouds of dust settling over their house and swimming pool, and loss of control of their property are too much, Bonnie said. Town officials seem to be helpless in controlling booming noises coming from the site day and night. After a string of sleepless nights, Beagel complained to the operators, she said, and was told this: 'I know your neighbors aren't happy with us, ma'am. One came out of the woods at 2 o'clock last night swearing. But my orders are to keep this operation going'."

Full Story at http://www.pressconnects.com/apps/pbcs.dll/article?AID=/20080608/NEWS01/806080359/1001/ARCHIVE

Drillbits

Hey Boys, We Got Laws in These Parts

Following last weeks order to Range Resources and Chief Oil & Gas to suspend a portion of their operations at separate sites in Lycoming County for violating Pennsylvania's Clean Streams Law, the Department of Environmental Protection Secretary Kathleen A. McGinty thought it appropriate today to advise oil and gas industry officials that developing the natural gas resources found in the Marcellus Shale formation must be done in accordance with the state's environmental laws and regulations.

Full Story at http://www.prnewswire.com/cgi-bin/stories.pl?ACCT=104&STORY=/www/story/06-06-2008/0004827961&EDATE=

Drillbits

Just How Big Is That Truck Aubrey?

Aubrey McClendon, Chairman and Chief Executive Officer of Chesapeake Energy purchased 400,000 more shares of CHK last Friday to increase his personal holdings to 32.2 million shares. The average price per share for this $21.97 million investment was $54.96. This is $2.12 more per share than the 600,000 shares he purchased the previous Friday. So far, in 2008, Aubrey has individually invested nearly $142 million in CHK common stock to purchase 3.1 million shares in the open market.

Drillbits

Still, No No Brainer

Last evening, I took an opportunity to attend a joint meeting of the Pittsburgh Association of Petroleum Geologists and the Society of Petroleum Engineers to listen to a talk by Dan Steward, author of The Barnett Shale Play - Phoenix of the Fort Worth Basin-A History (2007-Fort Worth Geological Society & The North Texas Geological Society).

I had hoped Dan's talk would further illuminate the path to the Marcellus. I'm sure it did for those who had not read his book but for my thinking, as blogged in this Tuesday's Drillbits, little was changed. Responding to audience questions, he did convey that due to the shale's characteristics, the Marcellus, notwithstanding the acreage difference, should be a much better play than the Barnett. Among the many transferrable lessons from the Barnett, however, are those urging caution.

There are already some early successes, notably Range and Atlas, but a few good holes don't make a bonanza. Relatively speaking, the biggest winners in the play for a while may well be the thousands of landowners getting $2,000-$3,000/acre for the rights to drill.

Drillbits

Hey Aubrey, Backup the Truck Will Ya?

According the Dow Jones Newswire, Aubrey McClendon, Chairman and Chief Executive Officer of Chesapeake Energy purchased another 600,000 shares of CHK last Friday to increase his personal holdings to 31.8 million shares. Prices per share for this $31.7 million investment ranged from $52.64 to $53.44. Updating our Drillbits missive of May 9th; so far, in 2008, Aubrey has individually invested over $120 million in CHK common stock to purchase 2.7mm shares.

Drillbits

Shale We Dance?

In what appears to be the first positive government/industry collaboration in the Marcellus, the Lycoming County Board of Commissioners and the Williamsport/Lycoming Chamber of Commerce have formed the Community Gas Exploration Task Force. Unlike the PA state legislature which, so far, only views the profound impact of the shale play from a "let's tax the bastards!" perspective, Lycoming County's thoughtful, intelligent approach should be applauded.

Full Story at http://www.muncyluminary.com/News/articles.asp?articleID=7667

Drillbits

Who wrote the book on........

I just finished reading Dan Steward's The Barnett Shale Play - Phoenix of the Fort Worth Basin-A History (2007-Fort Worth Geological Society & The North Texas Geological Society)

The media and (dare I say?) corporate hype combined with the truth of our current technology has and continues to postulate the Marcellus play as no brainer prospect. While the technology is much further advanced than in the early days of the Barnett, I was struck by the amount of trials and errors, truly prospective wildcat nature of not only Mitchell's early Barnett discoveries, but of the play's development even into the early Devon years. Those guys, in 2001, a full 20 years after the first well, after Chevron and other "big boys" had taken their balls and left the Barnett, were still playing with frac types as they related to the geology of the upper and lower containments, the the turn radii, and the frac's pressures, staging, backflow pressures and timing, the drilling locations and orientations relating to various fault types....and the list goes on and on.

Surely, to some extent, those lessons are transferable to the Marcellus but the Marcellus is not the Barnett. There will be new challenges to face and lessons to be learned. Maybe, it's because I'm really a nimrod when it comes to this stuff but, maybe, I'm just a good enough engineer to know that it ain't gonna be no no brainer.

Drillbits

Up from the Ground Come A.....

Somerset County is the place to be...........farm livin' is the life for.....(uh oh..wrong show!) Well, somehow, I don't think either Jed or, certainly not, Lisa would mind much. Seems the landmen are crawling all over the courthouse and signed 1400 leases in the last 17 months. Not all of the activity is on the PA-NY border.

Full Story at http://www.dailyamerican.com/articles/2008/05/21/opinion/editorials/editorial664.txt

Drillbits

Says Chesapeake, "Yeah, And I'll Raise You $700 Million"

Just following up on Aubrey McClendon.......On Monday, May 19, Chesapeake Energy announced offerings of $1.2b in notes and convertibles. Yesterday, as announced, in addition to pricing the $800mm of 10 year notes, they also priced the $500mm of contingent convertible paper but then, presumably on the way to the bank, decided to change it to $1.2b. Aw shucks....what the heh...we'll find somethin' to do with it!

Carrizo, Chesapeake, Range, Atlas, Equitable, and a few smaller operators have raised over $3.5 billion, mostly debt, in just the past 3 weeks and they've all mentioned the Marcellus shale as one of the uses for the cash.

Has the street has found the new subprime? Anybody seen Mozillo?

Full Story at http://biz.yahoo.com/ap/080520/chesapeake_energy_financing.html?.v=1

Drillbits

Natural Gas Heading for a Double?

The general rule of thumb relationship between the price of one barrel of oil and one mcf of natural gas is 6 to 1. Based on the btu's available to power generation plants from each energy source, if oil is trading at $60/bbl, then the equivalent cost of using natural gas would be $10/mcf. Seasonal supply and demand factors always skew this price relationship somewhat but because U.S. power generators are the largest users of natural gas and signifcant users of heating oil, the relationship tends to revert to the 6:1 mean as the pricing disparities drive demand to one or the other.

This morning, crude oil futures have set another record by crossing above the $130/bbl mark yet, natural gas is trading at $11.50/mcf. The old "rule of thumb" says that either natural gas should be $21.66, or oil should be at $69. The difference this time around, however, is that oil demand is coming from outside of the old price dynamic; namely, the rest of the world, And, further, supplies cannot keep up.

It doesn't sound like oil is heading to $69 anytime soon. With peak power demand coming in the months ahead...........can you say $20 natural gas?

Early yesterday, investor T. Boone Pickens told CNBC he expected oil to hit $150 this year because supply isn’t keeping pace with demand. Very interesting interview at: http://www.cnbc.com/id/15840232?video=748353630&play=1

Drillbits

Will Your Bluestone Be Next?

Why not? PA Legislators are pushing for passage of HB 1373 which would amend the state's right to "enumerate coal, natural gas, coal bed methane, oil, and other valuable minerals as those subjects to be valued and assessed for the purposes of taxation"... IN THE GROUND!

"The action is coming in the midst of a rush of companies drilling for natural gas in the area. A layer of rock called Marcellus shale, known for more than 100 years to contain gas, is now being seen as ripe for the picking because of improved recovery technology. Years ago, the layer of rock wasn't seen as economical to extract. Marcellus shale appears to be the thickest in Pennsylvania. James A. Hercik, Fayette County's chief assessor, recently sent a letter to (Rep. Tim) Mahoney urging action on changing the law to make taxation of gas legal, citing a loss of revenue that increases every month."

In other words...Hey, there's something of value out there and we need to get our grubby little hands on it ASAP. After all, it has to be shared with the people! Nevermind that the region will benefit tremendously from the influx of capital and high paying jobs for many years to come and nevermind that the landowners who own it will pay federal and state income taxes on it when, and if, it ever produces.

What happens if your wells don't come in? Think they'll pay you back?

Full Story http://www.heraldstandard.com/site/index.cfm?newsid=19683190&BRD=2280&PAG=461&dept_id=565757&rfi=8

Drillbits

Yeah, I'm a Believer

One might consider Aubrey McClendon, President and founder of Chesapeake Energy as someone in the know about the Marcellus play. Since January of this year, he has individually purchased over $80mm in CHK common stock. The notable purchases were:

Jan 22-25th - 500,000 shs; Feb 26-29th - 600,000 shs; March 5-6th 500,000 shs; April 2 - 500,000 shs.

These were not option related buys, rather, they were outright, open market buys. Prices ranged from $35.87-$45.91/share. His current holdings now stand at 31.2 mm shares. CHK's current price is $56.25.