Chesapeake Energy Clears CEO in Review of Gas-Well Loans

Chesapeake Energy Corp. exonerated co-founder and outgoing Chief Executive Officer Aubrey McClendon for privately borrowing hundreds of millions of dollars from some of the company’s biggest financiers.

The review found no intentional misconduct on the part of McClendon, the Oklahoma City-based oil and natural gas explorer said in a statement today. The findings, announced three weeks after McClendon agreed to resign from the company he led for almost a quarter century, was the culmination of a 10-month probe by the board into the CEO’s use of minority stakes in Chesapeake-owned wells as collateral for private loans.

The conclusion of the board’s inquiry clears a distraction for management and investors that weighed on Chesapeake’s stock price for most of the past year, said Scott Hanold, an analyst at RBC Capital Markets LLC in Minneapolis. Chesapeake may signal newfound financial discipline by unveiling a scaled-back 2013 capital budget when fourth-quarter results are announced tomorrow, he said.

“The board has been taking a more assertive approach to fixing the company’s free cash flow deficit, so the market is waiting to see if it will continue down that path,” Hanold said in a telephone interview today.

Photographer: Daniel Acker/Bloomberg

Chesapeake Energy Corp. has been selling oilfields, cutting jobs, reducing drilling and postponing debt reduction to plug a cash-flow shortfall triggered by a plunge in the price of natural gas, which accounts for 80 percent of the company’s output. Close

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Chesapeake Energy Corp. has been selling oilfields, cutting jobs, reducing drilling and postponing debt reduction to plug a cash-flow shortfall triggered by a plunge in the price of natural gas, which accounts for 80 percent of the company’s output.

The investigation by the board’s audit committee and the Locke Lord Bissell & Liddell LLP law firm involved more than 50 interviews with executives from Chesapeake and other companies, according to the statement. The transactions reviewed included McClendon’s borrowings from EIG Global Energy Partners LLC, a private-equity firm that bought preferred shares in two Chesapeake subsidiaries in 2011 and 2012.

Financial Overlap

“The review of the financing arrangements did not reveal any improper benefit to Mr. McClendon or increased cost to the company as a result of the overlap in the financial relationships,” the company said.

Separate probes are in progress at the Internal Revenue Service and the U.S. Securities and Exchange Commission.

The internal investigation also found no evidence of antitrust violations during Chesapeake’s 2010 acquisitions of drilling rights in a Michigan shale formation, the company said. Chesapeake said it has been cooperating with federal and state investigations of those transactions.

‘Peace Pipe’

The U.S. Justice Department and Michigan’s attorney general began inquiries last year into e-mailed communications between Chesapeake and Encana Corp. in the run-up to a 2010 auction of state-owned leases. The e-mails included discussions of divvying up Michigan counties for bidding by each company.

Photographer: Matt Nager/Bloomberg

A file photo shows a Chesapeake Energy Corp. floorman, working on a natural gas rig in the North Texas Barnett Shale bed rock deposit near Kennendale, Texas, during March 2009. Close

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Photographer: Matt Nager/Bloomberg

A file photo shows a Chesapeake Energy Corp. floorman, working on a natural gas rig in the North Texas Barnett Shale bed rock deposit near Kennendale, Texas, during March 2009.

McClendon said in one e-mail that the company needed to “smoke a peace pipe” with Calgary-based Encana to prevent the rivals from “bidding each other up,” Reuters said in a June report. Encana said in September that its separate internal inquiry concluded the company hadn’t colluded with Chesapeake to fix lease prices.

Michigan Attorney General Bill Schuette is continuing to investigate, Joy Yearout, his spokeswoman, said in an e-mailed message.

“The importance of independent -- rather than internal -- investigations cannot be emphasized enough in a case involving antitrust bid-rigging allegations,” she said. “Our thorough, independent investigation into these serious allegations will continue.”

Chesapeake has been selling oilfields, cutting jobs, reducing drilling and postponing debt reduction to plug a cash- flow shortfall triggered by a plunge in the price of natural gas, which accounts for 80 percent of the company’s output. Chesapeake lost as much as 43 percent of its market value last year as the gas slump was compounded by collapsing investor confidence in McClendon’s leadership.

April Retirement

McClendon, 53, agreed on Jan. 29 to resign effective April 1, citing “philosophical differences” with the board that he didn’t detail. His grip on power at what was once the pre- eminent U.S. gas producer began to slip last year when the board inquiry commenced in April and he was deposed as chairman in June.

The board telegraphed its verdict in the Jan. 29 statement on McClendon’s imminent departure, noting that as of that date, the audit had found no evidence of improper conduct.

Chesapeake rose 0.3 percent to $20.43 at 12:20 p.m. in New York. The company’s 6.775 percent notes maturing in March 2019 rose 0.5 cent to 101.75 cents on the dollar, for a yield of 6.421 percent, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority.

The company is expected to report tomorrow that fourth- quarter profit tumbled because of hedging contracts that linked about three-fourths of its gas output to below-market prices.

Energy Pioneer

McClendon led Chesapeake from its 1989 inception, amassing U.S. gas and oil fields that cover an area equivalent in size to half of New York state. As one of the first explorers to embrace horizontal drilling and hydraulic fracturing, McClendon helped usher in a revival of U.S. gas and oil production with discoveries such as the Haynesville Shale in Louisiana and Utica Shale in Ohio.

Chesapeake sold about $11 billion in fields, pipelines and gas-processing plants last year, short of McClendon’s full-year goal of $13 billion to $14 billion. The company is targeting billions more in asset sales this year to close a funding gap that Senior Vice President of Investor Relations Jeffrey Mobley estimated at $3.5 billion during a presentation at a Credit Suisse Group AG conference in Feb. 5.

Brian Gibbons, a debt analyst at CreditSights Inc. in New York, estimated Chesapeake needs to raise $8 billion to $9 billion through asset sales this year to close the funding gap and adhere to the company’s plan to reduce net debt to $9.5 billion.

Debt-Reduction

Abandoning that debt-reduction target would lower the amount needed from asset sales to $6 billion, though it would alarm debt holders and trigger a decline in the company’s notes, Gibbons said.

Under an executive perk designed to align McClendon’s personal interests with those of the company, McClendon acquired stakes as large as 2.5 percent in almost every well Chesapeake drilled during the past 24 years. McClendon took out loans backed by his well stakes to fund his portion of costs. As of Dec. 31, 2011, he owed $846 million on those loans, the company reported on April 26.

Some of the loans came from companies that were involved in separate financial transactions with the company.

To contact the reporter on this story: Joe Carroll in Chicago at jcarroll8@bloomberg.net

To contact the editor responsible for this story: Susan Warren at susanwarren@bloomberg.net

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