Moody's: Chesapeake Energy's credit metrics pressured by higher costs than peers

Chesapeake Energy's gathering and transportation (G&T) costs, which are significantly higher than those of its natural-gas-focused peers, will offset the benefit from the company's greater oil production, pressuring the company's cash margins in 2016, says Moody's Investors Service.

G&T costs include those associated with gathering, compressing, treating, and transporting fuel, and Chesapeake records these costs as a reduction from its production revenues.

"Chesapeake's high G&T costs date back to volume commitments and contractual pricing mechanisms it agreed to several years ago to support construction of new midstream infrastructure necessary to meet its rapid production growth," says Pete Speer, a Moody's senior vice president.

However, that rapid production pace has slowed and in response, Chesapeake has shifted its focus to investment returns by cutting its capital spending. Coupled with the collapse in oil prices and flattening or declining production volumes, Chesapeake's cost burden now puts it at a significant disadvantage relative to other independent North American exploration and production companies, notes the report "High Gathering, Transportation Costs Significantly Reduce Price Realizations."

Moody's comments that the G&T cost burden is even more pronounced when commodity price hedging gains are removed, which will be more evident in 2016 when the company has much less hedge protection.

"When hedging gains are removed, Chesapeake still has the second-highest cash margin of its peer group, but that margin should be a lot higher given its higher oil production, which is more profitable than natural gas production, even given the reduction in oil prices," Speer says.

Chesapeake is considering various strategies to reduce its G&T cost burden, but Moody's expects that these high costs will weigh on its margins in 2016 and negatively affect its competitive strength versus peers.

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