‘Wildcat’ Chesapeake Billionaire McClendon Becomes the Hunted

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Sean Gardner / Reuters

Chesapeake Energy CEO Aubrey McClendon.

The 52-year-old executive at the center of the unfolding drama at Chesapeake Energy, the nation’s second largest natural gas company, is a brash risk-taker from a powerful oil family who decided to strike out on his own. A nephew of Robert Kerr, a former governor of Oklahoma who founded oil giant Kerr-McGee, Aubrey McClendon “could have had an easy life in the energy business,” as Forbes‘ Christoper Helman wrote in the best recent profile of the Chesapeake CEO. But McClendon chose another path, going out on his own after college to find a new fortune, like a true “wildcatter.”

Over the last few years, Chespeake has become the nation’s “largest holder of onshore drilling leases with 15.6 million acres under its control, an area half the size of New York state,” according to Bloomberg. But the company has lost 45% of its stock price over the last year thanks to a massive glut in the natural gas market, due in part to the shale-gas “fracking” boom of the last several years. “The supply surplus, aggravated by a mild U.S. winter that curbed furnace usage, pushed prices to a 10-year low of $1.902 per million British thermal units on April 19,” Bloomberg reported.

McClendon now finds himself the subject of a Securities and Exchange Commission inquiry into his controversial compensation plan. In a statement released after the stock market closed Thursday, Chesapeake said it had been notified by the SEC that the regulator’s Fort Worth regional office has launched an informal investigation and asked the company and McClendon to preserve certain documents related to the probe.

The SEC inquiry comes amid growing scrutiny of a controversial plan that allows McClendon to buy a stake of each of the wells that Chesapeake drills, as a well as a billion-dollar loan McClendon reportedly used to help finance the stakes. Chesapeake’s board has now prematurely ended that plan and stripped McClendon of his title as Chairman of the company he co-founded. According to Bloomberg, federal investigators are looking at whether McLendon violated conflict of interest rules while head of Chesapeake.

(More: Fracked: Why Chesapeake Energy’s Aubrey McClendon is in Hot Water)

It’s a reasonable question, after Reuters reported that McClendon and his co-founder Tom Ward operated a secret $200 million hedge fund that traded oil and gas contracts — at the same time McClendon was publicly leading Chesapeake. As the CEO of one of the largest energy companies in the country, McClendon would have access to knowledge about large, market-moving trades that Chesapeake was about to make.

Phil Weiss, an analyst at Argus research who has been closely following the company and has a sell rating on its stock, believes the recent disclosures “only scratch the surface” of the problems at Chesapeake. “There are a lot of other things that I’m worried about,” Weiss said in a phone interview. “Financial engineering, leverage that goes beyond normal limits, an accounting method that does not show a true picture of what’s going on with the company.”

As a true wildcatter, McClendon is a risk-taker to a fault, and this is not the first time one of his extreme bets have thrown him toward the ropes. By 2008, McClendon was flying high. Natural gas prices reached $13 and and Chesapeake’s stock had soared to $73 per share. Then, oil and gas prices both tanked — along with the rest of the economy. “That’s when the wheels started to come off,” Weiss said. Weiss says that most major oil and gas producers routinely use hedging — the process of placing an offsetting bet in order to reduce risk. But Chesapeake is different. “They view hedging as a way to make money and not just a way to protect the company,” he said.

Natural gas prices climbed back to $6 in January of 2010, but have been falling ever since, finally hitting $2 earlier this year. Oil prices rebounded, but natural gas prices did not, thanks to the fracking-fueled glut of product now on the market. “There is a massive amount of supply and not enough of demand,” Weiss said. “With natural gas, you can’t export it easily, you can only send it through pipes unless you have liquification factories, which are expensive.”

Major producers like Exxon Mobil have started to curtail production to ease the glut of gas on the market. But even until the most recent quarter, Chesapeake was still increasing the amount of gas it was pumping — by 18% compared to last year, according to The Wall Street Journal. Now McClendon told investors, he wants to transition from gas to oil.

There’s no indication yet that McClendon used inside information to make trades in the hedge fund, but the potential for conflict of interest is apparent. “Where there’s smoke there’s fire,” Weiss said. “Every time I see something like this it makes me concerned that there are other things beyond what I can see that are going on.”

Bonus: Watch this video from the local station NBC4 in Columbus, Ohio by political reporter Ted Hart. Aired Thursday night, it describes the dynamics between a family of dairy farmers in rural Ohio, Chesapeake Energy, and the local government. Here a sample from the transcript provided by the station:

Hart: Gene and Judith Campbell are dairy farmers now caught in the middle of a stressful oil and gas drilling dispute.
Gene Campbell: “I don’t know what I’m going to do now.”
Hart: The Campbells signed an oil and gas lease in 2006 with an oil company called Tri-Star Energy. Nothing ever came of it until last year. Chesapeake Energy bought their lease, along with leases for a number of neighboring properties and filed plans to start drilling.
And drill they did – first down on a neighbor’s property, then across and under the Campbells’ farm. That’s all OK. Except now, Chesapeake wants the Campbells to sign an amendment to their lease and won’t pay them royalties until they do. It would effectively make them part of a larger drilling area and potentially reduce the money they get paid.
Gene: “The way I feel about it, I have to honor the lease that I signed. Why don’t they have to honor the lease that they bought? If they didn’t like the lease, they shouldn’t have bought it.”
Hart: In an email Chesapeake says their drilling complies with all laws and the Campbells’ lease.
Gene: “I thought they were trying to blackmail me into signing it. That’s basically what it amounted to.
Hart: Chesapeake says its employees acted appropriately. The Campbells’ attorney is State Rep. Mark Okey (D)-Carroll County.
Okey: “What we’re running into is a corporate mentality of threats and intimidation and telling people you either do it our way or it’s the highway.”