With most joint ventures, an investor company pays a relatively small price up front and agrees to fund a percentage of the drilling costs going forward through what is known as a drilling carry. With Chesapeake's most recent deal, however, Sinopec agreed to pay 93 percent of the total $1.02 billion up front.
Doug Leggate, an analyst for Bank of America Merrill Lynch, said Chesapeake's sales price is not as bad as it looks and that the dire analyst warnings are “flawed.”
He said the price Chesapeake received is based on the number of rigs the company has looking for oil and natural gas in the Mississippi Lime.
Because of funding and budget constraints, Chesapeake has reduced its rig count in the area to eight. At that level of drilling activity, Leggate said, the play is worth about $3,500 an acre on a fully developed basis. At 40 rigs — the amount SandRidge is using — the area would be worth $10,000 an acre, he said.
“There is no other way to summarize Chesapeake's much anticipated JV deal in the Mississippi Lime other than to acknowledge that headline metrics looked disappointing — at least versus other transactions in the play that had broadly set expectations,” Leggate wrote Wednesday.
“However, our analysis suggests this implication of the acreage value is highly misleading — and in fact we challenge the idea of valuing any resource play on acreage value. Instead, we contend that so long as the drilling locations are available, all other things equal, acreage values are entirely a function of the development pace.”
Leggate said Chesapeake is being criticized because it has taken steps to reduce spending.
“The market appears ready to treat CHK (Chesapeake) as always a glass-half-empty story in our view,” he wrote. “It is criticized for overspending cash flow — but the consequences of slowing spending is a lower per-acre value, for which it is also criticized.”
Chesapeake's stock price slipped nearly 7 percent Monday after the company's announcement, but has since recovered most of what it lost, closing up 39 cents, or 2 percent, Wednesday at $20.14 on the New York Stock Exchange.