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RE: Range Resources  & Cabot Oil & Gas

From the THE MOTLEY FOOL, August 5, 2013

Is fracked natural gas sustainable? Do its public relation risks hinder sound, long-term investing? Companies such as Cabot Oil & Gas Corporation  and Range Resources Corp.  are raking in profits from plays in the Marcellus Shale, but before making a long-term investment, I suggest you consider possible changes in states’ public policies. The potential for boom and bust in fracked natural gas is similar to public policy’s effect on the coal industry.

Companies with large holdings that require fracking (slang for hydraulic fracturing, whereby injected fluid forces open cracks in rock formations), especially in the Marcellus Shale, are paying out for investors. In the last quarter, Cabot Oil & Gas Corporation reported revenue was $373.3 million, with GAAP reported sales that were 37% above the prior-year quarter at $272.1 million. Range Resources Corp., likewise, had revenue of $398.2 million, up 30% from the prior-year quarter’s $322.2 million. Cabot Oil & Gas Corporation and Range Resources Corp. are the top two operators in Pennsylvania, one of the states most open to fracking, where 74 companies operate gas wells. For all intents and purposes, the fracking industry seems like it’s at the precipice of a continuing gold rush.

Range Resources Corp. is credited with starting the Marcellus Shale boom, and in 2011 sold all its North Texas Barnett Shale holdings to ramp up Marcellus production. The company’s strategy magnifies the importance of public policy for its future, now that it’s staked its future on the play. Its well count in the Marcellus is over 500 now, and the company expects production growth averaging 20% to 25% each year for the near future. Analysts believe that Range could reach 1.6 billion cubic feet of gas in about three years, and doubling that over time, 3 billion in six years, to surpass the U.S. record for a single year’s output. Be wary of those figures, as they’re based on assumptions about present production.

Cabot Oil & Gas Corporation too is heavily involved in the Marcellus; the company operates 226 wells in the formation and is starting a sixth rig in 2014. Cabot Oil & Gas Corporation CEO and President Dan O. Dinges expects capital spending to approximate cash flow this year. Cash flow at Range Resources Corp., meanwhile, is expected to outpace capital spending.

Both companies have seen huge jumps in earnings: in the third quarter, Range Resources Corp. saw revenue increase by 50% to $673.4 million, while Cabot Oil & Gas Corporation  reported a 40% increase in net income, up to $89.1 million from $35.9 million.

But let’s hit the brakes for a second and consider the public relations crisis in the industry right now, and its effect on public opinion and policy.

Industry image problems

Coal saw its boom, and then as those supplies waned, companies invented Mountaintop Removal, a destructive practice meant to mine thin seams of coal. With fracking, we have a practice that’s as lambasted, but much more widespread, so any negative PR also covers more ground. MTR was regional, fracking is national. The public relations problems surrounding fracking originate in both secrecy and in tactics used to save money at the expense of image. Let’s talk tactics first. The gas rights grab means less-reputable gas landmen may lie to save money. Recent news headlines include one about an Ohio Amish family, who sold their gas rights and received much lower prices per acre than neighbors. They can’t sue due to religious beliefs, a fact lawyers in the case say is relied on by some companies. The same article mentions an Amish lawsuit involving leasing rights, against Columbia Gas Transmission.

Why should we worry about the isolated cases in this article? With time, they build up and create a synergy corruption effect. Suddenly, Chesapeake, Cabot and Columbia all mire into one big tangled ball in the public’s minds. As for secrecy, gas companies have been remiss in publicly stating the chemical makeup of fracking fluid. Kansas has forwarded legislation to force a limited disclosure of those chemicals. Pennsylvania and 10 other states require that companies list their fracking liquid ingredients on FracFocus, but a Harvard study just found serious flaws in that database. Some other folks have been pretty upset about fracking too, for a while now.

Did you really think I would leave out Josh Fox and Gasland, and now Gasland 2? I’ve watched both movies, and like many others, I have concerns about polluting the water supply. Gasland 2 has shown on HBO, and they have about 114 million subscribers worldwide. That’s viewing potential. Add the watch parties held nationwide and that’s more potential for message distribution. At the Pittsburgh premiere alone, 1,700 people showed up. Whatever your view on the movies, the message has reached a general viewing audience.

Public policy problems

The reaction to fracking has varied drastically among states. In New York, a moratorium on fracking that started in 2008 is still in effect, with no foreseeable change. North Carolina just extended its own moratorium on onshore fracking, as many other states continue allowing the practice with no restrictions other than counting violations. The biggest unknown for fracking is the federal Environmental Protection Agency study that concludes in 2014. The EPA is studying potential impacts on human health, drinking water, and what happens to chemicals used in fracking, including processing and disposal. The preliminary report issued in 2012 is available here, but lacks any preliminary results. New EPA head Gina McCarthy has said states should regulate fracking practices, but we can assume the EPA study results will impact or change some states’ policies. Early findings suggest that some well water in Dimock, Pa., is unsafe for drinking, as a direct result of fracking, according to an internal EPA staff report just obtained by the media. The report directly conflicts with statements made by Cabot Oil & Gas.

Investing that considers risk

Natural gas prices are trending downward, for reasons of weather and market saturation, but the industry is still a smart investment. I suggest completing a thorough study of company reputation before making a long-term investment. First, where are the company’s holdings, not just the formation, but also the state? What track record does the company have with both environmental violations and with landowners leasing to it? And don’t forget to consider liquidity versus assets. For instance, Chesapeake Energy Corporation  just sold $1 billion worth of interests in gas lands to improve company liquidity and is veering toward more oil production. Chesapeake Energy has sold off a total $3.6 billion of interests, with plans for more asset sales totaling $2 billion to $4 billion. The company has already sold some of its Marcellus Shale holdings and, surprisingly, some oil holdings, while capital expenditures are down 43% this year. The company is focusing on those properties that provide the highest ROI, and emerging policies and gas prices could dictate if its next asset divestiture is in oil or gas lands.

Gretchen Stone has no position in any stocks mentioned. Gretchen is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited. The article Fracking’s Controversial Image Is Your Risk originally appeared on Fool.com as written by Gretchen Stone.

Road Thru Blake Fork (Not)

NOTE: The following article by Casey Junkins in the Wheeling Intelligencer today provides a rather complete description of the Blake Fork circumstances in Wetzel County, essentially on the Mason-Dixon line when it is extended to the Ohio River.

OCTOBER 6^TH — By pleading guilty Friday, Chesapeake Appalachia must pay a $600,000 fine for violating the federal Clean Water Act during the company’s natural gas drilling and fracking in Wetzel County.

 ”The defendant illegally filled at least three sensitive wetlands; in one instance, obliterating a natural waterfall. This plea agreement demonstrates that those who illegally fill in or destroy these essential natural resources will be prosecuted,” said David McLeod Jr., special agent for the U.S. Environmental Protection Agency’s criminal enforcement program in West Virginia.

Chesapeake Appalachia is the local operating division of Oklahoma City-based Chesapeake Energy. The company will pay $200,000 for each of three separate violations from late-2008. These included discharging 60 tons of crushed stone and gravel into Blake Fork in rural Wetzel County, about 2.4 miles north of the intersection of WV 89, near Proctor. In doing so, the company removed a waterfall to construct a road to facilitate its drilling and fracking operations.

Blake Fork and three other streams affected by Chesapeake’s drilling activities are tributaries of Fish Creek, which flows into the Ohio River (primarily thru Marshall County to Moundsville).

“Chesapeake Appalachia remains fully committed to regulatory compliance and promptly instituted additional training and oversight to help ensure that our regulatory obligations are met,” the company said in a statement acknowledging the plea.

Working in cooperation with U.S. Attorney William Ihlenfeld and his assistants, McLeod said his agency has been investigating Chesapeake’s Wetzel County actions for more than two years. “This matter is the first Marcellus Shale related prosecution, and one of only a handful of criminal investigations, under the U.S. EPA’s 2011 Energy Extraction Initiative. We will continue to vigorously investigate allegations of illegal activities relating to energy extraction in the mid-Atlantic states,” McLeod said. “Furthermore, this case will be the highest criminal penalty relating to energy extraction, to date, should the agreed upon penalty be so ordered.”

Pending U.S. District Judge Frederick P. Stamp Jr.’s acceptance of the plea agreement, the company will also receive two years of court supervised probation. Ihlenfeld said Chesapeake as a whole – rather than a specific individual – will be supervised during the probation, noting it is not unusual for a company to be given probation as a penalty.

Ihlenfeld and McLeod said Chesapeake is responsible because the company: selected the location for an access road to a site associated with its drilling activities; hired construction contractors to discharge; spread rock and gravel in Blake Fork in order to develop access to the Hohman Pit; and supervised and directed the work of the construction contractors.

Even though the Blake Fork waterfall has since been restored at Chesapeake’s expense, Ihlenfeld said it is still vital to enforce the Clean Water Act. “You cannot rob a bank, bring the money back and say, ‘Forgive me,’” he said after the hearing. “Companies need to be held accountable for violating the Clean Water Act.”

“Our nation’s wetlands play a critical role in maintaining water quality, reducing flood damage, and providing habitat for fish and wildlife,” McLeod added when asked about the need to uphold the law.

The Clean Water Act specifically prohibits the discharge of any pollutant from a point source into the waters of the United States without a permit. Discharges of dredged or fill material into waters of the United States are prohibited, unless authorized by a permit issued by the U.S. Army Corps of Engineers.

Ihlenfeld said in this case, Chesapeake failed to obtain or even apply for such a permit.

Additionally, the parties have agreed that separate violations committed by Chesapeake in Marshall and Wetzel Counties would be addressed by civil penalties and not via criminal charges. “The events at Blake Fork were more egregious than the others – that’s why they were classified as criminal,” McLeod said.

The other alleged violations still under EPA investigation to be addressed with civil penalties are the impoundment of an unnamed tributary to Laurel Run between January 2007 and December 2009; constructing the Gordon Stansberry well pad took place about 2.2 miles north of WV 89, near New Martinsville. This project also included the burial of an underground pipeline; and building the Chesapeake “B” well pad, along with the widening of Lynn Camp Road, also located north of WV 89.

For photographs of the Blake Fork (aka Blake Run) damages, see this web-site.

Ohio County, WV

This story about Ohio County in West Virginia was published by Casey Junkins on July 23rd in the Wheeling Intelligencer and has appeared in other papers:

Sulfur dioxide, carbon monoxide and formaldehyde are some of the chemicals Chesapeake Energy is likely to pump into the air in Ohio County from its numerous drilling sites, company information states.

Earlier this year, Chesapeake officials confirmed plans to build local compressor stations that may release these and other chemicals into the atmosphere. Now, the company is identifying “potential to emit” levels for several potentially hazardous materials from its well drilling sites.

“The West Virginia Department of Environmental Protection has primacy to regulate air emissions from all industries, including oil and gas operations, to protect public health and the environment. Chesapeake works with the agency on a regular basis to comply with, and usually exceed, the requirements,” said Stacey Brodak, Chesapeake’s senior director of corporate development.

Chesapeake Energy is again drilling at the Minch pad in Ohio County, where the company plans to extract natural gas from beneath Oglebay Park. The company plans to frack under the park before the end of this year.

In four separate legal advertisements, Chesapeake is seeking permits from the West Virginia DEP’s Division of Air Quality to release several pollutants from four of its Ohio County well sites. The notices state that the DEP intends to issue the permits, but is providing public notice to allow for comments and discussion.

The well sites are situated in the areas of:

– Gantzer Ridge Road on the south side of Interstate 70, near The Highlands.

– Stone Church Road, near the Elm Grove section of Wheeling.

– Garrison Road, near West Liberty.

– Laidley Run Road in the southeastern part of the county.

Fact Box: MAKE A COMMENT

Those wishing to comment on the four Chesapeake Energy air quality permits for Ohio County natural gas drilling sites have until 5 p.m. Aug. 15 to submit them to: Roy Kees, P.E.; West Virginia Department of Environmental Protection; Division of Air Quality; 601 57th St., SE; Charleston, WV 25304.

“It is vitally important to understand that the emissions listed in the legal notice are representative of a conservative potential to emit level typical of the air permitting process and not necessarily indicative of the actual annual emissions of the site,” Brodak said. “Emissions levels vary depending on several factors including gas composition, well head pressure, volume of condensate and the production equipment.”

The amounts of the particulates that may be released at the four sites slightly vary. The carbon monoxide projections, for example, range from 40 tons per year to 61.5 tons per year to be released from a single site.

The potential to emit levels for sulfur dioxide and formaldehyde are substantially less than those for carbon monoxide.

Chesapeake is also now awaiting a DEP permit to drill on property owned by the Park System Trust Fund of Wheeling, roughly 1,300 feet from Wheeling Park High School. So far, at least 20 people have sent objections to the DEP regarding the well site, as have the Ohio County Board of Education, the Ohio County Commission and the city of Wheeling.

So far, Chesapeake officials have only said that they have engaged with the parties affected by the drilling site, including the Ohio County Board of Education members and superintendent’s office. They also emphasize the well site will be more than twice the 625-foot legal limit away from an “occupied dwelling,” as defined by state law.

In addition to the pollution from the well sites, Chesapeake also will release emissions from its local compressor stations. One of these is just off the Interstate 70 Dallas Pike exit near The Highlands, while another is in the Sand Hill area near the Marshall/Ohio County border.

Chesapeake, in a legal advertisement earlier this year, confirmed the “potential to discharge” the following amounts of these materials on an annual basis from the operations at the compressor stations: carbon dioxide – 93,800 tons; nitrogen oxides – 82.96 tons; carbon monoxide – 16.87 tons; methane – 86.64; carbon dioxide equivalent – 95,667 tons; benzene – 0.33 tons; and formaldehyde – 3.22 tons.

Chesapeake Energy Campus in Oklahoma

The article by Daniel Gilbert has been exerpted below, from the Wall Street Journal of July 16, 2012.

Chesapeake Energy Corp. is pushing Ohio landowners to accept revised lease contracts that would help the cash-strapped driller save money while holding on to its prized oil and gas fields.

The company’s actions, documented in scores of property and court records, aren’t the first time that Chesapeake has tried to change the terms of lease deals, or walked away from them. Since 2008, more than 100 lawsuits have been filed across the country by landowners, who claim the company breached contracts. In some cases, settlements have been reached, in other cases the litigation continues.

Chesapeake, the country’s second-largest natural-gas producer, has spent about $2 billion to lease the mineral rights to more than a million acres—about 5% of Ohio’s land mass—in a bet that Ohio’s Utica Shale fields will become a major oil producer. The leases contain deadlines by which the company must drill wells costing millions of dollars apiece or give up rights to the property.

Facing a cash crunch and mounting pressure from activist shareholders to trim spending, Chesapeake is seeking contract changes that would allow it to drill fewer wells while keeping the leases. It is generally required to drill at least one well on a specified group of properties known as a unit; it is trying to bundle leases into much bigger units, which will allow it to drill fewer wells but retain rights to more acreage.

Chesapeake’s agents tell landowners that they will be shut out of the oil and gas boom if they don’t agree to the changes, according to landowners interviewed by The Wall Street Journal, which reviewed more than 100 property records in Ohio filed over the past year detailing the changes.The company says the changes it seeks are minor and that most landowners have been amenable to them.

It says that many of the leases it acquired in Ohio were negotiated by other companies, some going back more than 20 years, and are ill-suited for the horizontal wells needed to extract oil and gas from shale rock; it acknowledges, however, that it stands to save money by combining leases into units that cover two square miles, at least twice the size of most existing units.

Chesapeake carries significant clout in Ohio’s rustbelt, where some landowners are eager to begin receiving royalties. More than 100 landowners in Carroll County alone have accepted the lease amendments so far this year, property records show.

“It kind of makes you mad,” said Karen Hampton, who owns about 10 acres in Carroll County and refused to be part of a larger unit. She is one of eight landowners who last month sued Chesapeake to cancel their leases, alleging the company’s agents, known as land men, warned them their property would become a “hole on the map” if they didn’t agree to change their leases.

The company, in its legal response, said the plaintiffs failed to allege the specific circumstances in which the “hole on the map” comment was made, and that it was legally insufficient to support a charge of fraud. Chesapeake says in court filings that landowners are looking to cancel valid leases to pursue richer offers. Chesapeake has recorded more than 3,000 leases in Carroll County since late 2010.

Chesapeake’s flood-the-zone approach to leasing has helped the company capture coveted oil and gas fields across the country. But the strategy also saddled it with expensive drilling obligations: By the end of last year, Chesapeake had to drill to preserve the leases on more than half of the 15 million acres it controls, an area three times the size of New Jersey.

With the plunge in natural-gas prices, the amount of cash Chesapeake expects to generate from operations this year is less than half the amount it plans to spend on drilling and leasing. The shortfall has prompted the company to try to sell as much as $14 billion of its assets. It has slashed its annual land-leasing budget to $1.6 billion from $4.8 billion last year.

Amid the global financial crisis in the fall of 2008, Chesapeake tried to delay or walk away from lease deals to conserve cash. The moves triggered lawsuits in the Haynesville Shale in Louisiana and Texas. A federal judge in Houston ruled last week that Chesapeake must honor a contract to buy leases from three Texas landowners for more than $100 million, a deal the company refused to close in 2008. Chesapeake says it will appeal. The company is also seeking to overturn a $22 million judgment over a 2008 deal on leases in east Texas.

Wyalusing, Bradford Co. PA

Kevin Begos writing for the Associated Press, as reported in the Philadelphia Inquirer on June 23^rd, describes an open legal settlement in Bradford County, Pennsylvania, involving three families who experienced contaminated water wells as a result of Marcellus drilling by Chesapeake Energy.

Jared McMicken of Wyalusing said the agreement reached Thursday provides little comfort since his drinking water was ruined by nearby drilling, and his family must move. “We’ve lost our house, and we’re not going to get out of it what we got into it,” he said. “We have a bunch of people who have to leave their homes.”

McMicken said he and the other families in the case insisted that any settlement be made public. The families settled for $1.6 million. The families will have to give Chesapeake the properties by the end of 2012.

The arbitration trial began this week and was settled on the fourth day. Attorney Todd O’Malley said he believes this is the first case involving pollution in the Marcellus Shale region where settlement terms were publicly disclosed. Past disputes have been sealed.

Chesapeake said in a statement that it believes there is no permanent damage to the properties and that other water wells in the area showed natural contamination before drilling began. McMicken disputed that, saying his water and that of his neighbors was fine before the drilling. “They screwed up all the wells on this mountain. Anybody that lives in this area, are going to pay the price over time,” McMicken said. Attorney John Romano said he’s representing about 30 other families in the region with similar claims.

Last year the Pennsylvania Department of Environmental Protection fined Chesapeake just over $1 million for contaminating the water supplies of 16 families in the area, including McMicken’s. A transcript of expert testimony in the settlement showed that experts from DEP agreed that faulty cement casings on the wells allowed gas and other substances to migrate from deep underground and pollute the water wells.

“While Chesapeake remains confident that the water supply is consistent with area water quality standards, it has entered into the settlement so the families and the company could bring closure to the matter,” the company said.

Chesapeake Energy’s 50 Acre Campus

According to Pam Kasey, writing in the State Journal, Global Infrastructure Partners will purchase all of Chesapeake Energy Corp.’s ownership interest for $2 billion in Chesapeake Midstream Partners LP. This purchase will result in Global Infrastructure Partners, or GIP, owning 100 percent of CHKM’s general partner interest and 69 percent of its limited partner units.

The move is part of Chesapeake Energy’s sell-off of assets to cover its cash shortfall. According to Chesapeake’s website, Chesapeake Midstream Partners, or CHKM, is a master limited partnership between Chesapeake Energy, Global Infrastructure Partners and public unit holders. It has a strong asset base in the Barnett Shale near Fort Worth, Texas, in the Haynesville Shale in Louisiana, in the Marcellus Shale in Pennsylvania and West Virginia and in the Mid-Continent region of Arkansas, Kansas, Oklahoma and Texas.

On its own website, CHKM claims to be the largest gathering and processing master limited partnership in the U.S.

GIP is an infrastructure investment fund founded by Credit Suisse, General Electric Co. and an independent management team, according to Credit Suisse. In two other aspects of a larger transaction, GIP signed an agreement to acquire some midstream assets from Chesapeake Energy’s midstream subsidiary and Chesapeake Midstream signed a letter of agreement to acquire some Chesapeake mid-continent gathering and processing assets.

In the Marcellus, CHKM owns about 47 percent of the Marcellus gathering systems made up of about 200 miles of gathering pipeline. 

The Wetzel County Action Group contested the building of the Pleasants and Miller compressor stations by Chesapeake partners in 2010.  Access to this appeal no. 10-3-AQB is on the web site of the WV Air Quality Board.

CEO McClendon

According to a Special Report by Reuters, the CEO of Chesapeake Energy helped cause stock shares to plummet amid a financial crisis when he sold hundreds of millions of dollars in stock to raise cash for himself. And, to settle a lawsuit by shareholders, he agreed to buy back a $12 million map collection that he’d sold to Chesapeake.

Now, a series of undisclosed loans to McClendon could once again put Chesapeake’s CEO and shareholders in disagreement. McClendon borrowed about $1.1 billion in the last three years using his stake in the company’s oil and natural gas wells as collateral, documents reviewed by Reuters show.

The loans were made through three companies controlled by McClendon that list Chesapeake’s headquarters as their address. The money is being used to help finance a 2.5% ownership in each of the drilled wells for McClendon himself. This raises conflict of interest questions on behalf of the Chesapeake CEO.

“Basically what you have here is a private transaction that could potentially impact a public company, depending on the manner in which the clause is interpreted and applied,” says Thomas O. Gorman, a partner at law firm Dorsey & Whitney in Washington, D.C., and a former special trial counsel at the Securities and Exchange Commission (SEC). “That may create a conflict of interest.” As a result, the loans should have been fully disclosed to Chesapeake shareholders, the academics, attorneys and analysts said.

The Special Report from Reuters was prepared by Anna Driver in Houston and Brian Grow in Atlanta.  It is an extensive report on many of the less well known aspects of Chesapeake Energy and its unusual CEO Aubrey McClendon. And, this report provides some of the responses from Chesapeake Energy to the critical comments that others have made.