After numerous false starts and months of hollow hopes for the stakeholders of beleaguered gas producer Chesapeake Energy, including an activist stake built up by none other than Carl Icahn which was the source of much transitory joy, various notional reducing debt exchanges, and speculation of asset sales, the time is coming when the inevitable debt-for-equity restructuring, one which could wipe away most or all of the existing $2.6 billion equity tranche (down from $11 billion a year ago) is on the table.
According to the WSJ, Chesapeake has hired restructuring advisor Evercore "to shore up its balance sheet as commodity prices extend their decline." This means that Evercore will seek to further slash its debt, almost certainly be equitizing a substantial portion of it, and handing it over as equity in the new company to CHK's bondholders.
And while many saw the restructuring, and potential prepackaged bankruptcy, coming from a mile away, what precipitated it was the plunge in the company's liquidity as a result of the ongoing collapse in commodity prices. Just earlier today, nat gas hit the lowest price in 13 years, which meant that after ending 2014 with $4.1 billion in cash, the company is down to just $1.8 billion in cash, or about 1-2 quarter of liquidity at the current cash burn rate.
But while CHK's stock has imploded, falling 79% this year to around $4.09 per share or a $2.7 billion market cap, the real story is in the company's bonds.
Chesapeake’s $1.3 billion in bonds due in 2020 bearing 6.625% interest recently traded at 29 cents on the dollar, down from 47 cents late last month, according to MarketAxess.
Worse, the company's 2023 bonds which were trading at par as recently as late May, just rumbled to a record low 27 cents on the dollar.
What is troubling is that Chesapeake has already taken steps to reduce its debt load, and is offering to exchange bonds at a discount for up to $1.5 billion of new debt, while offering a partial priming and a stronger claim on the company’s assets. As the WSJ adds, the proposed swap follows a deal Chesapeake cut with its banks earlier this year that allowed it to issue the new high-ranking debt. In return, Chesapeake agreed to secure its $4 billion credit line with a top-ranking claim on its assets.
In other words, what Chesapeake is doing is using and abusing the goodwill of its creditors, both secured and unsecured, to extract every last penny from them while promising the sun and the moon to both groups.
This is hardly new: "Dozens of money-losing oil-and-gas companies have issued new debt this year, sometimes swapping it for discounted bonds, in an effort to ride out the slump in prices. SandRidge Energy Inc., Midstates Petroleum Co. and Halcon Resources Corp. all have done such deals this year."
However, in the aftermath of the most recent implosion in the high yield space, of which Chesapeake is a proud member, we expect that the banks, realizing at this point they are only throwing good money after bad will slam the issuance (and voluntary refi) window shut, forcing the company to burn the last of its cash which at current commodity prices should be gone by the summer of 2016, at which point it will have no choice but to file for bankruptcy. The only question is whether it will be a prepackaged consensual affair or a free-fall Chapter 11.
Our only question is whether Carl Icahn will be as generous with lending Chesapeake the Debtoi In Possession loan it will need, as he was in building up his 11% "BTFD" equity stake.