Could Chesapeake See New 52-Week Highs In 2013?

Jordo is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Natural gas is becoming increasingly popular. It is safe, clean, and relatively cheap. Chesapeake Energy (NYSE: CHK) is the second largest producer of natural gas in the United States. It is now the twelfth largest oil producer in the US, and it wants to become the fifth or sixth largest within the next three years. The reason - natural gas prices seem to be stuck at historically low levels. Anytime it seems like gas prices will rise, they fail to do so. So the company must branch out and increase its oil production.

Natural gas is still a profitable business at this time. Cabot Oil & Gas (NYSE: COG) has produced earnings of almost $37 million in the last quarter, almost exclusively from the production of natural gas. So, despite the very low price natural gas is getting, it is still possible to see decent margins. But there is no doubt that oil produces more attractive margins, and Chesapeake realizes that in order to significantly grow, oil production must be increased.

The decline in natural gas prices has had particularly harsh effects on Chesapeake. Investors rapidly sold off, the stock has lost roughly half its value from the summer of 2011. This put pressure on the company and its creditors to the point that the board took the company over - which made it that more unattractive to investors.

That is why it is welcome news that Chesapeake seeks to aggressively expand its oil production. Not only that, but natural gas prices seem to be stabilizing. Further, the company has sold assets to Royal Dutch Shell (NYSE: RDS-A) and Chevron (CVX) for proceeds of $6.9 billion. This is part of the larger strategy to shift focus from natural gas production to oil production.

Despite this shift in thinking the company is still very much a natural gas production company. It still controls a large number of leaseholds and is producing in no small part with the purpose of not losing those leaseholds due to inactivity. But it could be worse for Chesapeake - companies such as EXCO Resources (NYSE: XCO) signed joint ventures with others and must continue its natural gas production in terms with those deals despite the steep drop in natural gas prices.

The company has focused on increasing gas demand, in large part by idling and or decreasing production. The company also sees a growing market for natural gas in the transportation market. The company is aggressively seeking subsidies under the New Alternative Transportation to Give Americans Solutions Act (NATGAS Act). This bill would provide subsidies for the manufacture and purchase of cars that run on natural gas, the conversion of commercial trucks from diesel to natural gas, the creation of natural-gas filling stations, and tax preferences to favor the use of natural gas at the expense of other forms of energy. Chesapeake and other natural gas producers have seen bipartisan support of the bill. In the current climate in Washington, any bill furthering the goal of ending the country's dependence on foreign oil has a good shot of making its way through Congress. I believe this bill will pass to some degree as the natural gas producers wish it to pass. When it does, Chesapeake will be in a great position to capitalize on the revenue and profits that will come. This makes Chesapeake a tremendous value in today's political climate.

Chesapeake has also unveiled its "CNG In A Box", through its affiliate Peake Fuel Solutions in cooperation with General Electric (GE). Chesapeake claims that the CNG In A Box system will reduce fuel costs up to 40% and is a "plug and play" solution for retailers to add CNG fueling options to existing stations with minimal upgrades and high margins. Shell is probably further along in its ability to convert gas to fuel at a retail level with its Pearl GTL. But even that is a concept that I do not expect to show big returns for some time. Nonetheless this shows that the company is constantly working towards solutions to increase gas consumption, even if the concept seems too far off to offer investors much of hope of seeing returns any time soon.

After its recent divestment of almost $7 billion of assets, I expect Chesapeake to return to profitability this quarter. Chesapeake is currently trading at around $17 per share. With these sales of assets and the relative freedom of not being involved in joint gas production activities, the company is in better position than some of its rivals going forward. Cabot is turning a profit, but is trading at a ratio of almost 87. This is exceptionally high amongst its peers and is not a good bet going forward. EXCO is not seeing a profit and is really suffering due to its position in the gas production market. Chesapeake looks like a very good choice going forward with its ability to expand in the oil production market while still maintain a strong presence in the gas production market. Its efforts to increase gas demand, particularly in the area of government subsidies, will pay off handsomely in the next year and for years to come.

Natural gas prices have stabilized and will only see increases going forward, the recent weather problems in the northeast will only add to the price of gas. Investors knowing this will find that Chesapeake is in a unique position amongst the big gas producers to capitalize. I expect Chesapeake to see its stock climb back to near its two year high of around $33 per share by this time next year. Shorter-term, the stock should rebound to around $25 by the first quarter of 2013.


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