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New Chesapeake Chairman to Take Reins This Week

Aubrey McClendon, who has run Chesapeake Energy Corp. and helmed the board of directors since he co-founded the company in 1989, officially will step down as chairman of the board at some point this week.

A nonexecutive independent chairman is to be named by Friday (June 22) under a plan unveiled by the board earlier this month (see Shale Daily, June 5). McClendon is to retain his CEO title. However, questions remain about how the incoming board leader may change the company's direction -- and how McClendon conforms in his more tightly defined role.

Many shareholders see McClendon's demotion as a plus. In a historic shareholder revolt earlier this month the stockholders garnered enough support at the annual meeting to oust two board members up for reelection, reincorporate in Delaware from Oklahoma, implement a supermajority voting standard and implement proxy access (see Shale Daily, June 11a).

Southeastern Asset Management Inc. CEO O. Mason Hawkins, who oversees the largest Chesapeake shareholder block (13.6%), voted against the board members up for reelection, V. Burns Hargis, president of Oklahoma State University, and former Union Pacific CEO Richard K. Davidson. Both men tendered their resignations from the board following the meeting on June 8.

Southeastern took an active role in the company as the personal loans by McClendon were disclosed beginning in April, and management will be appointing three of Chesapeake's new independent directors while investor Carl Icahn (7.8%) is to become -- or to appoint -- a fourth director.

With board member Louis Simpson, a former Berkshire Hathaway executive who was appointed to the board last year at Southeastern's request, it means that with the new chairman -- one Hawkins and Icahn are likely to approve -- Icahn and Southeastern would control the board and therefore, McClendon.

Selling the midstream businesses for $4 billion to Global Infrastructure Partners also is a step in the right direction, said Hawkins (see Shale Daily, June 11b).

"We applaud this...announced sale of the midstream assets," Hawkins said. In early May "we urged the move not just to strengthen the balance sheet but also to reduce future capital spending. We are pleased that the company has moved so quickly to increase its financial flexibility and support management's intentions to monetize other meaningful noncore assets not recognized in today's share price. We believe that management and the soon-to-be reconstituted board will vigilantly prioritize and pursue these and other value-creating opportunities."

Some energy analysts think that business-wise, things are looking more positive for Chesapeake, especially after unloading the midstream businesses. Based on the midstream sale, Canaccord Genuity's John Gerdes raised his price target to $28 on the company; it closed at $18.10 on Friday.

To comply with Chesapeake's four-times net debt/trailing 12-month earnings before interest, taxes, depreciation and amortization, the company still "needs to monetize an additional $2.5 billion of assets" in 2012, Gerdes said. The company "should exhibit 14% production growth in '12."

Based on other asset sales planned in the coming months, "we view these targets as achievable given asset sales should net $6.5-9.5 billion," said Gerdes. Proceeds from the Permian Basin sale could net $4-6 billion; the Mississippian Lime joint venture (JV), $1-1.5 billion; Utica JV, $500 million to $1 billion; northern Denver-Julesburg Basin, $500 million; and miscellaneous sales another $500 million.

"Looking to '13, Chesapeake should outspend cash flow by $6 billion, less than our prior $6.5 billion estimate," he said. Through identified asset sales, Chesapeake could pre-fund $1-4 billion of the '13 estimated shortfall."

Using the midpoint of Chesapeake's guidance it still may need another $8 billion-plus of sales this year to bridge a projected funding gap, according to the oil and gas analysts with ISI Group.

"The latest disposals cover roughly half that before accounting for impacts on free cash flow. These are hard to judge, but the foregone annual cash flow amounts to $195 million. Against that, Chesapeake says its capital-expenditure budget will also drop by $1 billion a year on average. It is questionable as to why so much was budgeted given that Chesapeake's pipelines serve natural gas wells where output growth looks unlikely in the near-term. Either way, though, the capital expenditure part of the equation should fall."

On paper, the free cash flow impact relative to the budget "looks like a positive $800 million a year," said ISI analysts. "On that basis, the company needs another $3.3 billion of asset sales to balance its 2012 math at the midpoint. With a package of assets including its Permian Basin interests already up for sale and worth perhaps north of $8 billion, Chesapeake's sums look easier to solve.

"But its work is still far from done. It will have to pay someone else now to use those pipelines. And these sales fly completely in the face of the company's previous vertical integration strategy."

Some insist that McClendon needs to be relieved entirely of his duties.

David Dreman's firm Dreman Value Management Inc. owns about one million Chesapeake shares. "When you see all the things that Aubrey McClendon has done in the past years in increasing numbers, I don't think as talented as he is he should be a member of Chesapeake anymore," Dreman said recently on CNBC. "I think he should be -- either resign or be fired by the reconstructed board...This company's got to get its credibility back. As long as you have a guy like Aubrey there, I don't think we're going to get the credibility back."

According to a document filed June 8 in the Oklahoma County Clerk's Office, McClendon pledged his personal "oil and gas memorabilia" against a loan from George Kaiser, a Tulsa billionaire.

Kaiser's investment firm Argonaut Private Equity in late 2008 completed a volumetric production payment agreement with Chesapeake for gas properties in the Arkoma and Anadarko basins. Kaiser also controls Tulsa-based BOK Financial Corp., which has done business with Chesapeake as well. Hargis, who resigned from Chesapeake's board, was a former BOK executive.

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