Billionaire Raider Carl Icahn: Just What Chesapeake Energy Needs?

The pugnacious activist investor wants the natural-gas giant to address its cash crunch and improve corporate governance.

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Sean Gardner / Reuters file

Chesapeake Energy CEO Aubrey McClendon in New Orleans, La., on March 26, 2012.

Legendary corporate raider Carl Icahn has made billions buying large stakes in prominent companies and then agitating for change. His latest target is troubled natural-gas giant Chesapeake, which has been dogged by growing criticism in recent months over its business strategy, slumping stock price, huge cash shortfall, corporate governance practices, and the controversial financial dealings of its charismatic CEO Aubrey McClendon. Icahn, who made a reported $500 million selling his Chesapeake shares at their peak of about $30 last year, has come around for a second pass, now that the stock has dropped over 50%. Icahn has acquired a 7.6% percent stake in Chesapeake and requested changes to the company’s board — and he’s warned ominously that he’s prepared to take “immediate” action if his demands aren’t met. Here’s why Icahn’s agitation could be good for Chesapeake and its shareholders.

Icahn’s challenge will bring more attention to a company at the center of the shale gas revolution. Chesapeake Energy is a key player in one of the most important business stories in years — the shale oil and gas boom, which some argue has the potential to transform America’s economy and help wean the country off foreign oil. Although Chesapeake Energy isn’t a household name, it should be, because it has been at the center of this critical change now transforming U.S. energy market. As the leading energy industry advocate of hydraulic fracturing, or “fracking,” the company has become the second-largest natural gas producer in the U.S. and one of the largest private landowners in the country, with a staggering land portfolio of over 15 million acres. Chesapeake employs more than 12,000 people and has become a presence in local communities around the country, where it frequently negotiates for drilling rights with businesses, individuals land-owners, and even school districts. Icahn is closely-followed on Wall Street, so his involvement with Chesapeake could turn this story into one of the must-follow corporate dramas of the year.

(More: ‘Fracking’ Titan Chesapeake Energy in Stock Swoon Amid Cash Crunch)

Icahn could help boost the company’s stock price. In many ways, Chesapeake is a prime candidate for an Icahn challenge. The company is sitting on lucrative oil and gas assets, but its shares have fallen more than 50% in the last year, mirroring the dramatic decline in natural gas prices, which has been driven by a glut of gas on the market. As the price of natural gas has slumped, Chesapeake has faced a growing cash crunch, estimated to be over $10 billion this year. In response, CEO Aubrey McClendon wants to move the company away from natural gas drilling to more lucrative oil drilling. Still, Chesapeake needs cash in the short term, which is why it announced plans earlier this month to take out a $4 billion loan from investment banks Goldman Sachs and Jeffries & Co. Chesapeake also plans to raise money by selling large chunks of its land portfolio, including a massive, 1.5 million-acre oil-rich holding in the Permian Basin in West Texas, which could fetch $5 billion or more. Icahn’s challenge, coming so close the company’s June 8 annual meeting, could provide added ammunition for shareholders who want to see Chesapeake get its financial house in order.

Icahn’s track record of driving shareholder value is mixed, but there is evidence that at least some of the targets of his activism have seen their stock prices climb after he becomes involved. (After years of agitating for change at Motorola, he scored a huge win when Google bought the phone-maker for $12.5 billion.) This is the so-called “Icahn lift,” as 60 Minutes memorably described it in a 2008 profile of the billionaire. In the interview, Icahn succinctly conveyed why he’s developed such a fearsome reputation among the targets of his agitation. “They know my nature,” Icahn told Lesley Stahl. “They know I’m not going away, that I’m an obsessive guy, and I’m coming in here and there’s no way I’m leaving until they do something.”

(More: Chesapeake Energy, CEO Aubrey McClendon Face SEC Probe)

Icahn could help bring about much-needed corporate governance reforms at Chesapeake. In his letter to Chesapeake’s board, the pugnacious Icahn pulls no punches, accusing the board of failing “in a dramatic fashion” to oversee the company’s management. “Rather than act as a source of stability and provide assurance to shareholders, this board has led the company through a highly publicized spate of corporate governance breakdowns while amassing an astounding $16 billion funding gap, which we believe has contributed to the share price decline of over 55% from the 52-week high,” Icahn wrote.

Chesapeake’s board has faced increasing criticism for its oversight of McClendon’s financial dealings, and Icahn and the CEO are said to have a frosty relationship. In recent weeks, a series of revelations have emerged, including that McClendon ran a secret $200 million hedge fund that traded natural gas at the same time he was privy to potentially market-moving information in his role as CEO of the natural gas giant. He also received over $1 billion in undisclosed personal loans over the last three years, secured by his stake in Chesapeake’s oil and gas wells. Both the Internal Revenue Service and the Securities and Exchange Commission have begun preliminary probes into the company. In response, Chesapeake’s board stripped McClendon of his role as chairman, and curtailed the CEO’s controversial well-stake compensation plan. But that doesn’t go far enough, according to Icahn, who wants shareholders to have a voice in naming the new board chairman.

While this is certainly a step in the right direction, appointing a new Chairman in the manner that Chesapeake is doing, does not exactly elevate corporate governance to the “gold standard” as the board would have shareholders believe, instead it is woefully inadequate in both process and substance. Having the current board select a new chairman without shareholder approval and without allowing for shareholder representation is akin to asking the fox, who has plundered the hen house, to choose another fox to assist it in standing guard over the remaining hens.

In response to Icahn’s letter, Chesapeake’s board issued a statement saying that it agrees that the company’s stock price is currently undervalued. But the board said that it wouldn’t address Icahn’s concerns until after it has named a new independent chairman. Given that Icahn specifically objects to the manner in which the board is selecting a new chairman, it’s hard to see how the company’s response will do much to mollify the activist investor. The dispute with Icahn, who has a reputation as a corporate brawler, could boil over at the annual meeting on June 8, at Chesapeake’s Oklahoma City headquarters.