Chesapeake Energy’s Bold Oil Bet Is Already Paying Big Dividends

Last fall, Chesapeake Energy (NYSE: CHK) surprised investors by sealing a deal to acquire WildHorse Resource Development for nearly $4 billion. The transaction marked a crucial point for the oil and gas company, as it will now accelerate its strategy to improve both its financial and growth profiles.

Just a few months in, and the deal is already starting to pay off for the company. That was evident during Chesapeake's recent first-quarter conference call where CEO Doug Lawler highlighted how quickly the acquired assets are delivering results.

'We're quickly capturing cost savings'

When Chesapeake Energy unveiled its acquisition of WildHorse last fall (since renamed its Brazos Valley unit), one of the drivers of the deal was that the company expects to capture substantial cost savings. In Chesapeake's estimation, it will save between $200 million and $280 million per year through both operational and capital efficiencies.

It didn't take the company long to start delivering on those savings. Lawler stated on the conference call that "during the last three months, we've rapidly integrated the new asset into our portfolio, eliminating approximately $500,000 in cost per well with improved drilling and completion techniques, highlighted by new records in drilling rate of penetration and number of fracture stimulation stages completed in a day."

As Lawler pointed out, the company quickly transferred its best practices to the recently acquired Brazos Valley unit, which delivered an immediate improvement in well costs. On top of that, the company is also starting to see improved production rates. Not only did it achieve a 4% monthly increase in the asset's base production, but it also delivered a 35% increase in the initial production rate of two newly drilled wells compared with prior wells, thanks to the implementation of a new procedure.

And that progress is only the beginning. Lawler went on to state:

As Lawler pointed out, Chesapeake Energy believes it can capture even more cost savings as it learns more about the acquired assets. That should enable the company to deliver substantial cost savings from this acquisition.

'Our quick success keeps us on track for a transformational year'

Aside from the cost savings, another expected benefit of this transaction is that it will transform Chesapeake into an oil growth company. That metamorphosis started taking shape during the first quarter.

Lawler noted that "we averaged oil production of approximately 109,000 barrels per day in the first quarter, representing 18% in absolute growth compared to last year and 22% of our total production mix, that compares to 19% in the fourth quarter of last year." As a result, Lawler said, "we remain on track to deliver the transformational 32% absolute oil growth we guided to in February, ultimately reaching the year-end oil production mix of approximately 26% of total net production."

What's important to note is that Chesapeake Energy isn't pivoting toward growing its oil output because that's what everyone else is doing these days. Instead, Lawler said: "... more importantly, our increasing oil production, along with our focus on reducing our cost, continue to improve our competitiveness and cash-flow generating capability. We believe the rate of change in our cash flow is already noticeable in 2019."

Because oil carries higher margins than natural gas, Chesapeake Energy can generate more cash flow. That puts the company closer to its aim of producing enough cash so that it can fully fund its drilling budget. While the company is on pace to slightly outspend cash flow this year, especially given the recent slump in oil prices, it's getting closer to being able to live within its means.

The deal looks good so far

Chesapeake Energy's bold acquisition of WildHorse is quickly paying dividends. Not only was the company able to rapidly reduce costs and improve production, but the deal also has it on track for transformational oil and cash flow growth in 2019. While the driller still has much more integration work to do -- which investors need to watch closely over the next year -- it seems like Chesapeake made the right deal to accelerate execution on its strategy.

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Matthew DiLallo has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.