Shareholders curb Aubrey McClendon

May 5th 2012 | NEW YORK | from the print edition

“WILDCAT” was once American slang for risky business; then it was applied specifically to drilling for oil or gas in virgin land. Either way, it fits Aubrey McClendon, the boss of Chesapeake Energy. Since co-founding the firm in 1989, the tall Oklahoman has overseen the acquisition of vast tracts of land and found oodles of natural gas under it. As Chesapeake became America’s second-largest natural-gas producer, Mr McClendon became the face of fracking, a gas-extraction technique hated by greens.

More recently Mr McClendon has enraged shareholder activists. On May 1st they clipped his wings. While remaining chief executive, Mr McClendon will give up the chair of Chesapeake to someone independent. Shareholders hope this will stiffen the spine of a boss-friendly board. Mr McClendon will also negotiate the scrapping, by 2014, of a programme by which he was allowed to buy a 2.5% stake in every new well drilled by his company.

Mr McClendon has long argued that this unusual arrangement was in the best interests of shareholders. “You could say I’m the only CEO in America who truly participates alongside his company in the day-to-day business activity on the same basis as the company,” he told Forbes last year. Presumably he believes that his incentives will now become less well-aligned. Many shareholders disagree.

As Chesapeake has grown, so has Mr McClendon’s appetite for debt to finance his stakes in wells. (To avoid cherry-picking, he was obliged to invest in all of each year’s new ones, or none at all.) In the first year of the programme, according to the Wall Street Journal, the firm drilled 19 wells; last year it was around 1,700, and Mr McClendon had to stump up over $457m.

He did this mostly by borrowing: he admits to personal debts of $846m. In 2008, as natural-gas prices plunged along with the firm’s market capitalisation, he had to sell most of his shares in Chesapeake to repay debts. The following June, the board gave him a special $75m bonus to invest in the well programme, while suspending the requirement that he own shares in the firm worth five times his annual salary. This generous move was what first stoked the ire of shareholder activists.

Hedge funds short-selling Chesapeake’s shares talk of “red flags” that suggest trouble ahead. For example, the board is looking into reports that Mr McClendon borrowed money from financial firms that had a business relationship with Chesapeake. The firm also disclosed that the taxman was looking at the well programme as part of an audit. On May 2nd, Mr McClendon complained that “a great deal of misinformation” has been published.

To have a boss with such big debts looks risky. Did the board know the details? This much is clear: neither the board nor shareholders can claim they were unaware of the programme that let Mr McClendon invest in new wells, which has existed since the firm went public in 1993.

As the forthcoming flotation of Facebook may show, investors are often willing to overlook weak corporate governance when offered the chance to buy shares in a newly listed firm run by a brilliant entrepreneur. The turmoil at Chesapeake should remind them: caveat emptor.

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