Chesapeake Energy Stock: Bankruptcy to a Dividend Star (NASDAQ:CHK)
The oil and gas industry doesn’t necessarily have a good track record when it comes to shareholder returns after years of disappointments, especially gas-focused Chesapeake Energy (NASDAQ:CHK) which went bankrupt during the serious downturn in 2020 after a long struggle of several years. Fortunately, following their subsequent Chapter 11 restructuring, they now enter 2022 as a dividend star with a high yield of over 8% on current cost.
Executive summary and ratings
Since many readers are likely short on time, the table below provides a very brief summary and scores for the main criteria assessed. This google doc provides a list of all my equivalent ratings as well as more information about my rating system. The following section provides a detailed analysis for readers wishing to delve deeper into their situation.
*Instead of simply assessing dividend coverage through earnings per share cash flow, I prefer to use free cash flow as it provides the strictest criteria and also best captures the true impact on their financial situation.
Thanks to the strengthening of gas prices in 2021 as well as economic conditions, their operating cash flow recovered in tandem to end the year at $1.788 billion and therefore overall return to around its usual level before the severe downturn of 2020 and the resulting bankruptcy. Meanwhile, their continued disciplined approach to capital spending saw their free cash flow hit the highest point in recent history since at least 2018 with a strong $1.042 billion result, which excitedly saw their first dividend payout to begin in 2021. While that’s only a small $119 million, when looking at their forecast for 2022, it looks very exciting about to be multiplied by nearly of ten, as shown in the slide below.
It can be seen that management expects their free cash flow to essentially double year over year to $2 billion at the midpoint of 2021 and, more excitingly, they also plan to send their dividends climb to $1 billion at midterm, which should still see very strong coverage of around 200%. On their current market capitalization of approximately $12 billion, which includes their recent equity issuance, this gives a high dividend yield of just over 8% on current cost which, while already desirable, should increase further in the future. ‘coming.
In addition to the impacts of their billion-dollar share buyback program which is expected to remove approximately 8% of their number of outstanding shares at current market prices and thereby increase their outlook for future dividends per share, the triggering of the war in Eastern Europe stands to provide a very significant tailwind in the medium and long term. Importantly, their very impressive 2022 forecast appears to be heavily driven by higher production with their mid-term production forecast of 680 mboe/d representing a massive 47.19% year-over-year increase. compared to their production of 462 mboe/d during 2021, as per slide 6 of the Q4 2021 results presentation. This means they are still able to see even more upside as they capture any price increases gas in the future, which now seems very likely after the much-discussed Russian-Ukrainian war that has already pushed gas price north of 6 mmbtu from their level of around 4 mmbtu earlier in the year when they set their forecast for 2022.
Even though Europe has only banned imports of Russian coal, thus letting oil and gas flow, this massive geopolitical shock further strengthens their resolve to find new gas supplies outside of Russia, thus reducing their dependence strategy and the resulting threat to national security. Although this is not a simple task that will take many years, it is nonetheless likely to provide a boom for gas producers in the United States who should see additional LNG-related demand medium to long term, as discussed in detail in my other post for any new reader. Only time will tell to what extent this pushes up gasoline prices, but it nevertheless offers a very favorable outlook that will most likely increase their future financial performance and therefore the prospects for dividends, despite the tragic loss of life. While the prospect of a high dividend yield of over 8% sounds very exciting, it is nonetheless important to assess their financial situation to ensure that these shareholder returns will not be short-lived and result in than another painful bankruptcy.
While their Chapter 11 restructuring is obviously a painful memory for their former shareholders, it has nonetheless seen their capital structure stabilized. This saw their net debt swapped for equity and therefore now ending in 2021 at $1.373 billion and therefore well below the whopping $9.452 billion where it ended 2019 before their subsequent bankruptcy. Going forward, their acquisition of Chief E&D Holdings for $2 billion in cash will significantly increase their net debt, although the $450 million divestment of Powder River Basin assets offsets some of that increase. When offset, this sees their net debt increase by $1.55 billion, doubling its current level a little more to $2.923 billion before taking into account the impacts of their retained free cash flow later in 2022, which will ultimately be determined by high gas prices. rally.
With their now significantly lower net debt, their leverage is no longer an issue, with their net debt to EBITDA and net debt to operating cash ratio now only standing at just 0.43 and 0.77 respectively , which are below the threshold of 1.00 for the very high territory. Meanwhile, their interest coverage is effectively off the charts at 26.14 and so, unlike 2018-2019 before their restructuring, when it was struggling at a very low level of around 1.00 or lower, they don’t no longer have any problem repaying their debt. Even more impressive, these ratios were derived from their 2021 financial performance which, while good, was not the result of particularly high gas prices which spent most of the year below even 4 mbtu, not to mention their current level north of 6 mbtu.
Looking ahead to 2022, their significantly higher net debt should be mostly offset by their higher financial performance forecasts which, as previously reported, see their free cash flow roughly double even at gas prices below those currently prevailing. As their leverage is already very low, this means that they do not require any deleveraging and can therefore safely afford to fund their dividends and share buybacks, provided they have sufficient liquidity.
Fortunately, their chronically very low liquidity that preceded their bankruptcy is now firmly in the rearview mirror with their current and cash ratios now at 0.86 and 0.37 respectively. Meanwhile, they also keep an additional $1.25 billion available in their credit facility and do not face any maturities until 2024, as shown in the chart below. Since this provides additional fiscal space to their already large cash position, they have no hand brake on their shareholder returns.
It is somewhat odd to think of potentially receiving a high dividend yield of over 8% from a company that recently went bankrupt, despite not being the once-debted company that struggled for years. In addition to being able to generate abundant free cash flow, their very healthy post-bankruptcy financial situation easily supports their dividends, not to mention their share buybacks. Combined with the prospect of even higher dividends in the coming years due to potentially higher gas prices as Europe seeks to source supplies from outside Russia, it’s no surprise that I think a buy rating is appropriate.
Notes: Unless otherwise noted, all figures in this article are taken from Chesapeake Energy’s SEC Filingsall calculated figures were performed by the author.