by Russell Gold
Details of Chesapeake’s entry into the Barnett come from various sources, including its SEC filings (10-K in March 2002, as well as 8-Ks on March 12 and 18, 2002.) Hallwood’s large wells in Johnson County were alluded to in a Morgan Stanley investor report by Lloyd Byrne on April 16, 2004. He refers to an unnamed private operator, but the details he provided match Hallwood wells in state records. The enthusiasm—and skullduggery—of the early Barnett days comes through in the Noel v. Rees-Jones lawsuit in state district court in Harris County (Houston, Texas.)
Nichols’s decision not to join the Oklahoma City group that bought the Seattle SuperSonics can be found in a 2008 deposition given by McClendon as part of the federal court case City of Seattle v. The Professional Basketball Club LLC (2:07-cv-01620-MJP, Western District of Washington).
Burke, Bob. Deals, Deals, and More Deals: The Life of John W. Nichols. Oklahoma City: Oklahoma Heritage Association, 2004.
Coll, Steve. Private Empire: ExxonMobil and American Power. New York: Penguin Press, 2012.
Donnelly, John. “Q&A: J. Larry Nichols, CEO, Devon Energy.” Journal of Petroleum Technology 58, no. 7 (July 2006): 30–31.
Ford, Charles, and Bob Burke. The Oklahoma State Capitol: A History of Our Seat of Government. Oklahoma City: Oklahoma Heritage Association, 2011.
Gold, R. “Boom Town: Drilling for Natural Gas Faces a Sizable Hurdle: Fort Worth—The U.S.’s Largest Field Lies Under 1.6 Million People; Not Everyone Will Benefit—Avoiding Baseball Diamonds.” Wall Street Journal, April 29, 2005.
Nichols, J. Larry. Devon Energy Corporation / J. Larry Nichols. Exton, PA: Newcomen Society of the United States, 1996.
Siebrits, E., J. L. Elbel, R. S. Hoover, et al. “Refracture Reorientation Enhances Gas Production in Barnett Shale Tight Gas Wells.” Paper presented at SPE Annual Technical Conference and Exhibition, Dallas, October 1–4, 2000.
Williams, Peggy. “Barnett Wonderland.” Oil and Gas Investor, April 29, 2005.
Chapter 8: The Rise of Aubrey McClendon
I attended the 2012 Chesapeake shareholders’ meeting, and quotes and details of that day are from my notebooks. An overview of the Sarbanes-Oxley Act, as it relates to audit committee, can be found in online guidelines, Standards Relating to Listed Company Audit Committees, on the US Securities and Exchange Commission website at www.sec.gov/rules/final/33-8220.htm. (Last accessed August 2013.) The historically low vote tally for directors is from Institutional Shareholder Services, a consulting firm. Ed Crooks, the Financial Times’s energy reporter in the United States, sat behind me in the reporter’s quarantine at the meeting and deserves credit for noticing the Billie Holiday song that played after the meeting wrapped up. The steep $3 billion loan I mentioned was disclosed by the company in a May 11 press release. The “Yes, it’s a crisis” quote is from Jon Wolff’s note to investors, “Pricey $3B Loan Averts Liquidity Crisis,” on May 14, 2012. He works for financial advisory firm International Strategy & Investment.
Nominal oil prices hit $39 a barrel in February 1981, equal to $103 in 2013 dollars. The source for this is the Energy Information Administration’s “Real Prices Viewer” in the Short-Term Energy Outlook available here: www.eia.gov/forecasts/steo/realprices. (Last accessed August 2013.) The Robert Kerr campaign quote is from an exhibit at the University of Oklahoma’s Carl Albert Center (http://web.archive.org/web/20070806164902/http://ou.edu/special/albertctr/archives/kerr/KERRPN3.HTM). (Last accessed August 2013.) Consultant WTRG Economics offers a useful guide to historical oil prices here: www.wtrg.com/prices.htm. (Last accessed August 2013.)
I have spoken with Ralph Eads, Tom Ward, and Aubrey McClendon many times over the past few years, as well as others at Randall & Dewey and at Jefferies. I have also interviewed Blair Thomas at EIG, Floyd Wilson, formerly of Petrohawk Energy, and various Chesapeake board members. The overwhelming majority of my interviews were on the record. On a few occasions, people wanted to speak without attribution. I agreed to this very warily, because I do not want to give people the ability to tell their story unless they are willing to attach their names. I have used these off-the-record interviews very sparingly. Jefferies’s U.S. Shale/Resource Play Overview, a two-volume pitch book used to interest large foreign and institutional investors, was a helpful resource as well. The book changed over time, and the version I consulted was from April 2012.
If you want to learn more about the collapse of the Penn Square Bank, consult two sources: Mark Singer’s Funny Money and part II, chapter 3 of Managing the Crisis: The FDIC and RTC Experience 1980–1994, published by the Federal Deposit Insurance Corporation in August 1998. Jerry Shottenkirk’s profile of McClendon, cited below, is the source of McClendon’s quote about spending time with his father “looking at dirty bathrooms in gas stations.” Details of his time at Jaytex and Duke come from several sources, including interviews and McClendon’s deposition in the City of Seattle v. The Professional Basketball Club LLC, as well as from Rick Robinson’s 2002 profile, cited below.
Details about the early days of Chesapeake come from many sources, most notably a lengthy author interview with Tom Ward. McClendon has told parts of this story several times in hometown newspaper interviews. Please see Chapter 9 notes for more information about the sources of McClendon quotes. The “We clearly could not outthink a geologist or an engineer” quote comes from an industry conference on April 21, 2009. I pulled the court file from the Plotner lawsuit out of storage and read through the voluminous transcripts, depositions, and arguments. The case is no. 81896, Tom L. Ward, TLW Investments, Aubrey McClendon, Chesapeake Investments and Chesapeake Operating Inc. v. Ralph E. Plotner Oil & Gas Investments Inc., and includes records from the jury trial. The quotes from Megan Hann, the court findings and related materials all come from the case file. McClendon contended that he and Ward were “100 percent” innocent, but did not provide any information to dispute the contemporary court record.
The S-1 form that Chesapeake filed with the SEC on February 4, 1993, is a fascinating document and details the birth of the Founders Well Participation Program. It also is where I found that Arthur Andersen had resigned as the company’s independent accounting firm. The S-1 form is a lengthy form that all companies must file before selling stock to the public for the first time. It provided information about Ward’s and McClendon’s salaries ($175,000). The company reported capital expenditures of $37.6 million in its 1994 fiscal year. I calculated what 2.5 percent of that would be ($940,000). This is the source of my contention that McClendon needed to pay several times his annual salary. McClendon, during a talk with investors on November 16, 2004, remarked that Chesapeake’s IPO was the worst performer of the year. The company’s 1993 annual report is the source of the quote that Chesapeake “believes a financing arrangement of this type is unprecedented in the industry.” While digging through Oklahoma Uniform Commercial Code (UCC) filings related to debt and sales, I discovered that four of the original board members lent McClendon and Ward $1.65 million. The key document was filed on August 24, 1993, and assigned no. 00111395 and was recorded in book 6,478, pages 0184–0199. My thanks to Theo Francis—an SEC filings investigative maven who ran his own consulting and research outfit, Disclosure Matters—for helping me decipher what Chesapeake was saying.
The source of Eads’s quote about American Energy Operations comes from a 1986 Wall Street Journal article, “New Wildcatters: Oil-Patch ‘Bargains’ Lure Some Plungers Hoping to Get Rich,” by Steve Frazier and James Tanner. My claim that there is one oil operator for every 1,200 Oklahomans—twice the rate of Texas—comes from dividing the state’s population by the number of active operators in May 2012 reported by the Oklahoma Corporation Commission. I did the same with Texas Railroad Commission records. Thanks to Ken Zimmerman, a longtime employee of the Oklahoma Corporation Commission, for his insights on the nature of the Oklahoma wildcatter. David Fleischaker, the state’s energy secretary from 2003 to 2008, also shared his recollections. I first reported some details of Chesapeake’s nea
r-death experience in the Austin Chalk and meeting with Calpine in a 2006 front-page article in the Wall Street Journal, and fleshed out details for the book by looking through news articles and corporate filings.
Getting to the bottom of the California energy crisis and El Paso’s and Ralph Eads’s role required a lot of reading and digging through Federal Energy Regulatory Commission dockets. Some of the most interesting documents have been made public only in recent years and were not available to reporters covering the story as it unfolded. The March 2003 FERC final report, cited below, is the best overview document. El Paso fought to keep the Eads memo to Bill Wise confidential, but it was eventually made public and can be found in slides 19–21 of the December 13, 2002, filing in Public Utilities Commission of the State of California, et al., v. El Paso Natural Gas Company, et al., FERC Docket no. RP00-241-006. Also informative was Administrative Law Judge Curtis Wagner’s initial decision, issued on September 23, 2002, and part of the above docket. For details on power and gas prices, see Public Utilities Commission of the State of California v. El Paso Natural Gas Company, et al., FERC Docket no. RP00-241-000. California’s initial brief, filed on August 24, 2001, is particularly instructive. The “cashed in big-time . . .” quote is from a transcript of a FERC hearing on December 2, 2002, and was spoken by Harvey Morris. He, Wagner, and Frank Lindh, an attorney for Pacific Gas and Electric Company, all shared their recollections of the clash in the Washington courtroom. I also relied on coverage in the Wall Street Journal and the Houston Chronicle for details of the El Paso settlement and investigation of price reporting. El Paso reported the restatement of its earnings in an 8-K (August 23, 2004) and a 10-K (September 30, 2004) filed with the SEC. FERC’s settlement order was issued on November 14, 2003, and is filed in Dockets nos. RP00-241-000 and RP00-241-006. Details of El Paso’s internal investigation into index price reporting is in FERC’s final report, cited below.
Driver, Anna, and Brian Grow. “The Energy Billionaire’s Shrouded Loans.” Reuters, April 18, 2012.
Federal Energy Regulatory Commission. Final Report on Price Manipulation in Western Markets: Fact-Finding Investigation of Potential Manipulation of Electric and Natural Gas Prices, Docket No. PA02-2-000. Washington, DC: Federal Energy Regulatory Commission, March 2003.
Gold, R. “Investment Forecast: On a Roller Coaster, One Energy Firm Tries Hedging Bets; Natural-Gas Giant Chesapeake Has Expanded Rapidly by Locking In Its Revenue; Dangers of Guessing Wrong.” Wall Street Journal, November 6, 2006.
Gold, R., and Daniel Gilbert. “Chesapeake Directors Spurned: Two Board Members Fall Far Short of Voting Majority in Rebuke to Gas Driller.” Wall Street Journal, June 9, 2012.
Gold, R., Daniel Gilbert, and Joann S. Lublin. “For Chesapeake’s CEO, a Complex Web of Loans.” Wall Street Journal, April 19, 2012.
Krauss, Clifford, and Eric Lipton. “After the Boom in Natural Gas.” New York Times, October 21, 2012.
McLean, Bethany, and Peter Elkind. The Smartest Guys in the Room: The Amazing Rise and Scandalous Fall of Enron. New York: Portfolio, 2003.
Mollenkamp, Carrick. “Chesapeake’s Deepest Well: Wall Street.” Reuters, May 9, 2012.
Robinson, Rick. “The Daily Oklahoman Executive Interview Column.” Daily Oklahoman, July 21, 2002.
Shottenkirk, Jerry. “Hard Work, Luck Make Billions for Oklahoma Executive.” Journal Record (Oklahoma), August 13, 2007.
Smith, Rebecca, and John R. Emshwiller. 24 Days: How Two Wall Street Journal Reporters Uncovered the Lies That Destroyed Faith in Corporate America. New York: HarperCollins, 2003.
Chapter 9: The Fall of Aubrey McClendon
I had spoken to and exchanged emails with Aubrey McClendon for many years and wrote a front-page profile of him and Chesapeake for the Wall Street Journal in 2006, back when he was known only inside energy circles. I had scheduled a lengthy interview with him on May 1, 2012, to go over his history and the story of Chesapeake and natural gas. About ten days before the interview, Reuters reporters Anna Driver and Brian Grow first reported the existence of enormous loans to McClendon from financial firms that were buying assets from Chesapeake. Their article, “The Energy Billionaire’s Shrouded Loans,” is available online at http://graphics.thomsonreuters.com/12/04/ChesapeakeMcClendon.pdf. (Last accessed August 2013.) My follow-up story on April 19 provided some additional details and is the source of the $1.4 billion figure.
McClendon canceled my May 1 interview and subsequently declined to reschedule it. He responded to some questions I sent to him by email during the editing of this book. His responses are the source of several quotes attributed to him in Chapters 8, 9, and 11. Before April 2012, he was never shy about talking at conferences and giving interviews. I compiled all the transcripts of his talks on investor conference calls and at energy conferences, and it is not an exaggeration when I say that the file ran to nearly a thousand pages. I also relied on tapes of speeches he gave, lengthy emails we exchanged in 2006, and tape recordings of interviews he gave to other reporters.
His quote “It will be better to be a provider of energy than a consumer of energy for the next twenty years” comes from an article in the November 4, 2002, edition of the Oil & Gas Journal, and his pessimism about future production is from the March 24, 2003, edition of the same publication. The OGJ publishes an annual list of the largest oil and gas producers. I relied on these rankings to make the determination that Chesapeake was the largest driller in the country.
Jason Baihly, in a 2010 paper cited below, provides detail on how shale wells grew larger and the industry figured out how to drill them more quickly.
A quick note on company financials. The $328.8 million figure in the second quarter of 2004 is cash from operations; the $337.9 million is a broad definition of capital expenditures. These figures are derived from S&P Capital IQ, a financial data product. From that point until the end of 2012, Chesapeake reported three quarters of positive cash flow: the first quarter of 2005 and the second and third quarters of 2006. The $163 billion invested in US shale is roughly equal to the market capitalization of Coca-Cola ($167.6 billion) and Google ($165.4 billion). Those figures are from the 2012 FT Global 500 listing, published by the Financial Times and current as of March 30, 2012.
This chapter deals, at length, with McClendon’s loans. Details on those loans are contained in UCC filings in Oklahoma City. His ties with John Arnold’s Centaurus Advisors are in UCC filings nos. 2008011942027 and 2008013852736. See also filings nos. 20100517020492600 and 2008008596947, although this is not an exhaustive list. Chesapeake disclosed information about McClendon’s stake in the Founders Well Participation Program in a SEC DFAN14A filing on April 26, 2012. I consulted the Energy Information Administration’s Natural Gas Monthly reports for my assertion that McClendon’s 147 million cubic feet a day of natural was enough to supply all residential customers in Connecticut or Kentucky. See table 14 of the monthly EIA reports. For more information about Arnold, see “The Reckoning of Centaurus Billionaire John Arnold,” by Leah McGrath Goodman in the February 1, 2011, edition of Absolute Return.
Some of McClendon’s quotes about Chesapeake having four main inputs and the number of leasing transactions come from an interview he gave on January 5, 2012, to my Wall Street Journal colleagues Daniel Gilbert and Ryan Dezember.
Senator Bernie Sanders, in August 2011, released a snapshot of participants in natural gas and oil futures markets. The information was made available on his Senate website, www.sanders.senate.gov/newsroom/news/?id=e802998a-8ee2-4808-9649-0d9730b75ea4. (Last accessed August 2013.) I downloaded the data, put it into spreadsheets, and analyzed it to come up with the rankings of largest natural gas market participants. In a statement on August 25, 2011, the Futures Industry Association said it was “shocked and outraged” by the disclosure.
Details on Chesapeake’s $8 billion in gains from trading and hedging were reported by the company over time in various public disclosures. The section on the Heritage Management hedge fund is based on r
eporting by myself and the former Wall Street Journal reporter Ann Davis in 2006 and 2007 and was supplemented by the Reuters article cited below.
John Pinkerton’s quote “When Aubrey joined the party” is from an interview with the author. McClendon’s quote “I got caught up in a wildfire” is from Ben Casselman’s Wall Street Journal article cited below. I greatly appreciate Casselman’s insights from covering Chesapeake for the Journal in this time frame. The value of McClendon’s share ownership is derived from various SEC filings.
More broadly, I have benefited from many, many talks over the years with investment bankers and analysts who followed Chesapeake. I quote Dan Pickering in the chapter, but he is not alone.
Pawel Rajszel’s investor note was titled “Chesa’peak’e Leverage: It’s More Than You Think” and issued by Veritas Investment Research on April 29, 2010. McClendon’s quote that regarding VPPs as debt is “kind of nutty” is from a conference call with analysts on November 4, 2010. His appearance on Mad Money was archived on Chesapeake Energy’s website at www.chk.com/News/Articles/Pages/TV_20110801_AKM.aspx. (Last accessed August 2013.)
The Archie Dunham email was sent on January 29 and reviewed by the author. McClendon’s email in April 2013 was first reported by Christopher Helman in Forbes in an article titled “Aubrey McClendon Is Now Hiring.”
Baihly, Jason, Raphael Altman, Raj Malpani, and Fang Luo. “Shale Gas Production Decline Trend Comparison over Time and Basins.” Paper presented at SPE Annual Technical Conference and Exhibition, September 19–22, 2010, Florence, Italy.
Birol, Fatih. World Energy Outlook 2012. Paris: IEA Publications, 2012.
Casselman, Ben. “Margin Calls Hitting More Executive Suites.” Wall Street Journal, October 13, 2008.