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Seventy Seven Spinoff Could Have Chesapeake's Investors Gushing

Chesapeake carries a lot of debt. By the end of 2013, Chesapeake's total debt, excluding unrestricted cash, dropped slightly to $12.05 billion from $12.33 billion a year ago. On the other hand, the company's cash reserves increased to $873 million by the end of 2013 from $287 million in the prior year.

Chesapeake has been selling its assets to shore up its balance sheet. So far this year, Chesapeake has received $209 million from the sale of its interest in Chaparral Energy and will receive an additional $150 million from asset sales held in the prior years. Overall, the company has forecast that it will receive $1 billion from divestitures in 2014. This will help the company in filling its $1 billion funding gap.

The spinoff will also help Chesapeake in its capital expense reduction drive once the oilfield services unit starts operating as a separate and independent company.

For the current year, Chesapeake will spend between $5.2 billion and $5.6 billion as capital expenditures, more than 90% of which will flow towards exploration and production projects. The current capital expenditure shows a significant decline from $6.7 billion in 2013 and $13.4 billion in 2012.

In these tough times, the spinoff could also support Chesapeake's balance sheet if it results in an inflow of cash. On the other hand, an outright sale of the unit could cause a massive cash infusion of more than $2 billion.

According to Jefferies, Seventy Seven will be valued at $2.5 billion. This would imply the company is valued at 1.13 times its trailing sales. The three biggest oilfield services firms, Schlumberger (SLB), Halliburton (HAL) and Baker Hughes (BHI) are valued at an average of 1.87 times their trailing sales. At this multiple, Seventy Seven could be valued at $4.12 billion.

On the other hand, in 2011, Chesapeake's co-founder and former head Aubrey McClendon valued the unit at between $5 billion and $7 billion.

Once the oilfield services unit is spun off, Chesapeake shareholders will receive a single share of Seventy Seven for an unspecified number of Chesapeake's shares.

At the time of publication, the author held no positions in any of the stocks mentioned.

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

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