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Reuters Exclusive: After McClendon's trades, Chesapeake board gave blessing

BY JOSHUA SCHNEYER AND JEANINE PREZIOSO Reuters Published: May 8, 2012
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In its latest employment contract with CEO Aubrey McClendon, Chesapeake Energy Corp. gave him permission to trade commodities for himself after he already had begun doing so.


Giving the CEO explicit license to play the markets represented an extraordinary incentive that enhanced one of corporate America's most generous compensation plans and reinforced the unique treatment afforded to McClendon by Chesapeake.

Oil and gas producers say they typically prohibit such trading by executives because of the potential for conflicts of interest. Indeed, Reuters found that McClendon, 52, was granted greater leeway to participate in external ventures than were his top lieutenants.

The 2009 contract did, however, limit McClendon in at least one way: Months after his personal hedge fund shut down, the agreement explicitly banned McClendon from taking an active role in any hedge fund.

The contract raises new questions about what Chesapeake board members knew of McClendon's personal investments, and whether his dealings might be at odds with his fiduciary responsibilities as head of the second-largest natural gas producer in the United States.

It isn't clear why Chesapeake changed the contract. Two board members declined to comment, and Chesapeake spokesman Michael Kehs said only that McClendon's employment contracts “fall under board review.” Through a personal spokesman, McClendon also declined to comment.

Some lawyers and commodity-trading analysts said they were troubled by provisions in McClendon's agreements with the company. At a minimum, they said, McClendon could be distracted from his job at Chesapeake by his outside business activities.

They also said McClendon could have used privileged Chesapeake information to advance his own trading.

“This is edge-of-the-universe contract language,” said Saul Cohen, a retired securities lawyer who formerly served as general counsel at investment bank Lehman Brothers.

Last week, Chesapeake's board stripped McClendon of his chairmanship after Reuters reported that he had taken $1.1 billion in personal loans against his stakes in Chesapeake wells during the past three years. The loans, which came mostly from an investment-management company that also did business with Chesapeake, hadn't been disclosed to shareholders. The Securities and Exchange Commission and the Internal Revenue Service have launched inquiries.

Reuters subsequently reported that McClendon partially owned and helped run a $200 million private hedge fund from within Chesapeake's Oklahoma headquarters. The fund, Heritage Management Company LLC, operated between 2004 and 2008 and traded McClendon's own cash in markets including natural gas and oil, the same commodities that Chesapeake produces.

On Friday, Senator Bill Nelson, a Democrat from Florida, asked U.S. Attorney General Eric Holder to investigate McClendon's private commodity trading for potential fraud, insider trading or commodity price manipulation.

HEDGE FUND RESTRICTION

The 2009 contract, which extends for five years, is McClendon's first to include a specific mention of hedge funds or commodity market investments, part of a new sub-section governing the types of investments he could pursue.

It says McClendon is allowed to trade a range of financial instruments such as commodities — including “short positions, long positions or positions in options” in both futures and over-the-counter markets.

It also states that McClendon could put cash into a “passive investment entity,” including a hedge fund, provided it “does not actively engage in (exploration and production) activities,” and “for which the Executive does not directly or indirectly provide input, advice or management.”

Why Chesapeake made the changes remains unclear. The revisions could indicate they were aware of McClendon's personal hedge fund and worried that such a side business might run afoul of shareholders, according to legal experts who reviewed McClendon's current and prior contracts.

The former head trader at the Heritage hedge fund, Peter Cirino, said McClendon and Chesapeake co-founder Tom Ward spent significant amounts of time managing Heritage between 2004 and 2008. That often included daily communications between McClendon and Heritage traders, weekly strategy calls that could be “exhaustive,” frequent meetings with traders in New York and occasionally in Oklahoma, and meetings or calls between McClendon and investors, Cirino said.

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