Chesapeake Energy CEO Aubrey McClendon pledged his stake in company oil and natural gas wells as collateral to secure $1.1 billion in loans to buy even more well stakes, Reuters’ bulldog investigative reporters Anna Driver and Brian Grow report this morning.
Chesapeake’s shares were down 6% this morning.
The transactions were permitted under something called a Founder Well Participation Plan — which Driver and Grow say that among all U.S. energy firms, only Chesapeake, the country’s second-largest natural gas producer, possesses.
Through a legal mechanism called a conveyance, the Founder plan grants McClendon a 2.5 per cent share of profits from the wells and the leased land on which the wells are drilled.
The problem, according to Driver and Grow, is that McClendon bought the well stakes using loans made through three companies controlled by McClendon.
On the surface, McClendon’s risk seems self contained. Its his investment, and his money to lose.
“He has to eat his own cooking here,” company spokesman Michael Kehs told Reuters.
But Driver and Grow say that McClendon’s biggest lender is simultaneously a major investor in two units of Chesapeake.
“That connection raises questions about whether Chesapeake’s own financing terms could be influenced by its CEO’s personal borrowing,” they say, adding that the deal could leave McClendon more inclined to act in the interest of lenders rather than shareholders.
The lenders also happen to list Chesapeake’s headquarters as their address.
“Basically what you have here is a private transaction that could potentially impact a public company, depending on the manner in which the clause is interpreted and applied,” Thomas O. Gorman, a partner at law firm Dorsey & Whitney in Washington, D.C., and a former special trial counsel at the SEC, told Reuters. “That may create a conflict of interest.”
McClendon said the transactions were not material to Chesapeake — and thus did not need to be disclosed to shareholders.
“I do not believe this is material to Chesapeake,” McClendon said in an email response to Driver and Grow. “There are no covenants or obligations in my loan documents or mortgages that bind Chesapeake in any way.”
McClendon’s lawyer added: “Any loans are Mr. McClendon’s personal business and not appropriate for review or monitoring by the company or public comment.”
Chesapeake’s board of directors is aware that McClendon has borrowed against his share of company wells, McClendon’s lawyer said.
McClendon has made similar transactions to finance personal investments in the past.
At one point, McClendon bought Chesapeake shares on margin — borrowing money from brokers to purchase stock at a price one’s cash can’t cover.
But in 2008, as the financial crisis erupted, McClendon had to sell more than 31 million Chesapeake shares for $569 million to cover margin calls from those brokers.
In the last three years, the terms and size of the loans McClendon’s received from the private equity firm that’s also connected to Chesapeake has changed substantially — to the aforementioned $1.1 billion, Driver and Grow write.
“Nowhere in Chesapeake proxy statements or SEC filings does the company disclose the number, amounts, or terms of McClendon’s loans,” the reporters say. “Veteran analysts of the company said they were never aware of the loans until contacted for this article.”
In 2009, Businessweek reported that despite Chesapeake stock falling nearly 60%, McClendon’s compensation had increased fivefold to $100 million.
The company also agreed to purchase McClendon’s personal art collection—vintage maps that had been hanging in Chesapeake’s corporate office—for $12.1 million, Businessweek’s Christopher Palmeri reported.
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