Chesapeake strips CEO of chairmanship
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Chesapeake Energy stripped its co-founder and chief executive officer, Aubrey McClendon, of his chairmanship Tuesday, the most dramatic step yet in the Oklahoma company's efforts to placate shareholders angry over a loan arrangement that allowed Mr. McClendon to quietly mortgage personal stakes in company wells.
The move ends Mr. McClendon's tenure on the board after he was criticized for too closely aligning his personal portfolio with his company's assets. He will be replaced in that role by a candidate "with no previous substantive relationship with Chesapeake," the company said.
Mr. McClendon will stay on as CEO but will lose the lucrative Founder Well Participation Program that afforded him 2.5 percent stakes in Chesapeake wells that he then mortgaged through a subsidiary called Jamestown Resources.
That program -- unique in the industry and a crucial element of Mr. McClendon's sky-high compensation packages -- will end in June 2014, about 18 months before it was set to expire and without any compensation to Mr. McClendon.
The Post-Gazette first reported the existence of Mr. McClendon's mortgages in a March 25 article. Since then, the fallout has enveloped both the company and Mr. McClendon, the public face and a stalwart defender of the company he co-founded in 1989 and built into the country's second-largest natural gas producer.
At one point, share prices fell and sliced more than $1 billion of Chesapeake's market value. Federal agencies took initial steps toward investigations into the practice. Shareholders and analysts called for a clean sweep -- the resignation of Mr. McClendon and the entire board.
"We believe separation of the chairman and CEO roles will improve Chesapeake's corporate governance and the early termination of the FWPP will eliminate a source of controversy, both of which should send a positive signal to the market and improve shareholder value," said Merrill A. Miller Jr., Chesapeake's lead independent director, in a prepared statement.
The market did respond well Tuesday, initially sending the company shares up 10 percent on the news. The stock closed at $19.60, up about 6 percent. Of the 36 analysts who track Chesapeake, four listed the company at "sell" before its quarterly earnings were announced after the market closed.
Chesapeake announced a first quarter loss of $71 million, or 11 cents per diluted share.
The Founder Well program was approved by shareholders in 2005, but recent reports that Mr. McClendon had mortgaged his personal stakes raised questions over the potentially questionable ways he and Chesapeake were raising capital.
The entire industry is scaling back as natural gas prices remain at record lows, and the mortgages provided Mr. McClendon with quick cash while adding another layer of leverage to a company already comfortable with high-risk practices.
Chesapeake initially had said the mortgages were an everyday practice, and Mr. McClendon defended the transactions, saying he was protecting shareholders by tying his personal fortune to his company's success.
"Would the financial crisis of 2008 have occurred if the CEO of Lehman and Morgan Stanley and Goldman and Citibank had to take a very small percentage of every mortgage-backed security ... or every loan they made?" he said in a recent interview with The Wall Street Journal.
The Chesapeake board has been distancing itself from the CEO in recent days, reversing previous comments that it was "fully aware" of Mr. McClendon's financial transactions. Despite Tuesday's announcement, the board will continue its review of the financial arrangements between Mr. McClendon and the third-party firms that granted the loans.
Mr. McClendon continues to have the option to keep acquiring the 2.5 percent stake in wells drilled through June 2014, and Chesapeake's recent push into the lucrative Utica Shale region of Ohio could offer some serious returns on those stakes, said Mark Hanson, a Chicago-based analyst at Morningstar Inc.
The Utica Shale holds lucrative natural gas liquids, which trade higher than natural gas, and Chesapeake has said it has been acquiring 1,000 acres per day.
Some of Mr. McClendon's loans, which he said are worth $846 million in total, were given by EIG Global Energy Partners, a Washington, D.C.-based energy investment company that has done business with Chesapeake in the past. EIG can then bundle and trade the mortgages on Wall Street.
Mr. McClendon hedges his bets with the mortgages. If a well is profitable, the returns go to his company. If it's not and he can't make good on the loan, the only collateral is oil and gas interests in rural farmland.
Mr. McClendon processed the mortgages through the Jamestown Resources subsidiary, which he owns.
Critics said the cozy relationship raised questions over whether Mr. McClendon received preferential treatment on the loans because of his relationship with EIG through Chesapeake.
Like other gas companies, Chesapeake has been in a vulnerable spot since natural gas prices plunged to record lows of around $2 per Mcf. The company is known for heavily leveraging its natural gas interests, and it became the dominant leaseholder in the Marcellus region through aggressive land swaps and flips.
"If gas were $5, no one would have mentioned these deals," said Fadel Gheit, an oil and gas analyst at Oppenheimer & Co. Inc. in New York. "Chesapeake is very leveraged to natural gas -- they have no protection whatsoever from low gas prices."
The Securities and Exchange Commission has taken the first steps toward launching an investigation of the practice, and Chesapeake said this week the Internal Revenue Service also has been conducting a review.
Tuesday's announcement seemed more focused on appeasing shareholders than federal agencies.
The release announcing the move included a statement from the company's largest shareholder, Southeastern Asset Management, which supported the title-splitting.
"We are pleased that the board has listened to our input and believe it has made the right decision by ending the FWPP early and seeking an independent chairman," said O. Mason Hawkins, chairman and CEO of the firm, which owns 13.2 percent of Chesapeake shares.
The drop in stock value has affected more than institutional investors.
The New York state pension fund owns more than 3 million Chesapeake shares, and when stock prices fell over the past couple weeks, state comptroller Thomas DiNapoli called for changes in company leadership.
After Tuesday's announcement, Mr. DiNapoli said, "Much remains to be done to restore investor confidence in this company, and we hope this is one of several steps Chesapeake's board will take to achieve that goal."
Corporate governance experts said the title-splitting won't change much about the controversial program that led to the change.
"The only change that is going to occur is the program ends, but he will still benefit from the incentive plan," said Barry Mitnick, professor of business administration and public and international affairs at the University of Pittsburgh's Katz Graduate School of Business. "And bringing in a nonexecutive, independent director doesn't really change anything at all. He is still CEO."
Chesapeake remained on the defensive Tuesday, sending out messages on the company Twitter account about chairman and CEO splits in the business world.
One read: "Fact: 41% of S&P 500 companies have split the chairman and CEO positions and only 21% have truly independent chairmen."
First Published May 2, 2012 1:28 am