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Basis of Presentation and Summary of Significant Accounting Policies (Notes)
12 Months Ended
Dec. 31, 2017
Accounting Policies [Abstract]  
Organization, Consolidation, Basis of Presentation, Business Description and Accounting Policies Disclosure
Basis of Presentation and Summary of Significant Accounting Policies
Description of Company
Chesapeake Energy Corporation ("Chesapeake", “we,” “our”, “us” or the "Company") is an oil and natural gas exploration and production company engaged in the acquisition, exploration and development of properties for the production of oil, natural gas and natural gas liquids (NGL) from underground reservoirs. Our operations are located onshore in the United States.
Basis of Presentation
The accompanying consolidated financial statements of Chesapeake were prepared in accordance with GAAP and include the accounts of our direct and indirect wholly owned subsidiaries and entities in which Chesapeake has a controlling financial interest. Intercompany accounts and balances have been eliminated.
Accounting Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the related disclosures in the financial statements. Management evaluates its estimates and related assumptions regularly, including those related to the impairment of oil and natural gas properties, oil and natural gas reserves, derivatives, income taxes, collectibility of accounts receivable, impairment of other property and equipment, environmental remediation costs, asset retirement obligations, litigation and regulatory proceedings and fair values. Changes in facts and circumstances or additional information may result in revised estimates, and actual results may differ significantly from these estimates.
Consolidation
We consolidate entities in which we have a controlling financial interest. We consolidate subsidiaries in which we hold, directly or indirectly, more than 50% of the voting rights and variable interest entities (VIEs) in which we are the primary beneficiary. We use the equity method of accounting to record our net interests where we have the ability to exercise significant influence through our investment. Under the equity method, our share of net income (loss) is included in our consolidated statements of operations according to our equity ownership or according to the terms of the applicable governing instrument. Undivided interests in oil and natural gas properties are consolidated on a proportionate basis.
Segments
Operating segments are defined as components of an enterprise that engage in activities from which it may earn revenues and incur expenses for which separate operational financial information is available and is regularly evaluated by the chief operating decision maker for the purpose of allocating an enterprise’s resources and assessing its operating performance.
We have historically presented two reportable operating segments: (i) exploration and production and (ii) marketing, gathering and compression. In the fourth quarter of 2017, we completed the realignment of our marketing, gathering and compression operations to serve as an ancillary service integral to our exploration and production activities. Following this realignment, we have a single, company-wide management team that administers all activities as a whole rather than through discrete operating units, with an emphasis on allocating capital focused on the expansion of our exploration and production assets. As a result, we have concluded that we have only one reportable operating segment, which is exploration and production. Prior year financial information for our previous marketing, gathering and compression reportable operating segment has been eliminated.
Noncontrolling Interests
Noncontrolling interests represent third-party equity ownership in certain of our consolidated subsidiaries and are presented as a component of equity. See Note 8 for further discussion of noncontrolling interests.
Variable Interest Entities
VIEs are entities that, by design, either (i) lack sufficient equity to permit the entity to finance its activities independently, or (ii) have equity holders that do not have the power to direct the activities of the entity that most significantly impact its economic performance, the obligation to absorb the entity’s losses, or the right to receive the entity’s residual returns. We consolidate a VIE when we are the primary beneficiary, which is the party that has both (i) the power to direct the activities that most significantly impact the VIE’s economic performance and (ii) through its interests in the VIE, the obligation to absorb losses or the right to receive benefits from the VIE that could potentially be significant to the VIE. In order to determine whether we own a variable interest in a VIE, we perform a qualitative analysis of the entity’s design, organizational structure, primary decision makers and relevant agreements. We continually monitor our consolidated VIE to determine if any events have occurred that could cause the primary beneficiary to change. See Note 8 for further discussion of our VIE.
Cash and Cash Equivalents
For purposes of the consolidated financial statements, we consider investments in all highly liquid instruments with original maturities of three months or less at the date of purchase to be cash equivalents.
Accounts Receivable
Our accounts receivable are primarily from purchasers of oil, natural gas and NGL and from exploration and production companies that own interests in properties we operate. This industry concentration could affect our overall exposure to credit risk, either positively or negatively, because our purchasers and joint working interest owners may be similarly affected by changes in economic, industry or other conditions. We monitor the creditworthiness of all our counterparties and we generally require letters of credit or parent guarantees for receivables from parties deemed to have sub-standard credit, unless the credit risk can otherwise be mitigated. We utilize an allowance method in accounting for bad debt based on historical trends in addition to specifically identifying receivables that we believe may be uncollectible. Accounts receivable as of December 31, 2017 and 2016 are detailed below:
 
 
December 31,
 
 
2017
 
2016
 
 
($ in millions)
Oil, natural gas and NGL sales
 
$
959

 
$
840

Joint interest
 
209

 
156

Other
 
184

 
93

Allowance for doubtful accounts
 
(30
)
 
(32
)
Total accounts receivable, net
 
$
1,322

 
$
1,057


Oil and Natural Gas Properties
We follow the full cost method of accounting under which all costs associated with oil and natural gas property acquisition, exploration and development activities are capitalized. We capitalize internal costs that can be directly identified with these activities and do not capitalize any costs related to production, general corporate overhead or similar activities (see Supplementary Information – Supplemental Disclosures About Oil, Natural Gas and NGL Producing Activities). Capitalized costs are amortized on a composite unit-of-production method based on proved oil and natural gas reserves. Estimates of our proved reserves as of December 31, 2017 were prepared by an independent engineering firm and our internal staff. In addition, our internal engineers review and update our reserves on a quarterly basis.
Proceeds from the sale of oil and natural gas properties are accounted for as reductions of capitalized costs unless these sales involve a significant change in proved reserves and significantly alter the relationship between costs and proved reserves, in which case a gain or loss is recognized.
The costs of unproved properties are excluded from amortization until the properties are evaluated. We review all of our unproved properties quarterly to determine whether or not and to what extent proved reserves have been assigned to the properties and otherwise if impairment has occurred. Unproved properties are grouped by major prospect area in circumstances where individual property costs are not significant. In addition, we analyze our unproved leasehold and transfer to proved properties that portion of our leasehold that expired in the quarter, or leasehold that is no longer part of our development strategy and will be abandoned.
The table below sets forth the cost of unproved properties excluded from the amortization base as of December 31, 2017 and the year in which the associated costs were incurred:
 
 
Year of Acquisition
 
 
 
 
2017
 
2016
 
2015
 
Prior
 
Total
 
 
($ in millions)
Leasehold cost
 
$
70

 
$
89

 
$
87

 
$
2,368

 
$
2,614

Exploration cost
 
50

 
9

 
33

 
11

 
103

Capitalized interest
 
154

 
116

 
120

 
377

 
767

Total
 
$
274

 
$
214

 
$
240

 
$
2,756

 
$
3,484


We also review, on a quarterly basis, the carrying value of our oil and natural gas properties under the full cost accounting rules of the SEC. This quarterly review is referred to as a ceiling test. Under the ceiling test, capitalized costs, less accumulated amortization and related deferred income taxes, may not exceed an amount equal to the sum of the present value of estimated future net revenues (adjusted for oil and natural gas derivatives designated as cash flow hedges) less estimated future expenditures to be incurred in developing and producing the proved reserves, less any related income tax effects. The ceiling test calculation uses costs as of the end of the applicable quarterly period and the unweighted arithmetic average of oil, natural gas and NGL prices on the first day of each month within the 12-month period prior to the ending date of the quarterly period. These prices are utilized except where different prices are fixed and determinable from applicable contracts for the remaining term of those contracts, including the effects of derivatives designated as cash flow hedges. As of December 31, 2017, none of our open derivative instruments were designated as cash flow hedges. Our oil and natural gas hedging activities are discussed in Note 11.
Two primary factors impacting the ceiling test are reserve levels and oil, natural gas and NGL prices, and their associated impact on the present value of estimated future net revenues. Revisions to estimates of oil and natural gas reserves and/or an increase or decrease in prices can have a material impact on the present value of our estimated future net revenues. Any excess of the net book value over the ceiling is written off as an impairment expense.
We account for seismic costs as part of our oil and natural gas properties. Exploration costs may be incurred both before acquiring the related property and after acquiring the property. Further, exploration costs include, among other things, geological and geophysical studies and salaries and other expenses of geologists, geophysical crews and others conducting those studies. These costs are capitalized as incurred. We review our unproved properties and associated seismic costs quarterly to determine whether impairment has occurred. To the extent that seismic costs cannot be directly associated with specific unproved properties, they are included in the amortization base as incurred.
Estimates of oil and natural gas reserves and their values, future production rates and future costs and expenses are the most significant of our estimates. The accuracy of any reserve estimate is a function of the quality of data available and of engineering and geological interpretation and judgment. In addition, estimates of reserves may be revised based on actual production, results of subsequent exploration and development activities, recent commodity prices, operating costs and other factors. These revisions could materially affect our financial statements. The volatility of commodity prices results in increased uncertainty inherent in these estimates and assumptions. Changes in oil, natural gas or NGL prices could result in significant changes to the quarterly ceiling test calculation.
Other Property and Equipment
Other property and equipment consists primarily of natural gas compressors, buildings and improvements, land, vehicles, computers and office equipment. Major renewals and betterments are capitalized while the costs of repairs and maintenance are charged to expense as incurred. The costs of assets retired or otherwise disposed of and the applicable accumulated depreciation are removed from the accounts, and the resulting gain or loss is reflected in operating expenses. Other property and equipment costs, excluding land, are depreciated on a straight-line basis.
Realization of the carrying value of other property and equipment is reviewed for possible impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. Assets are determined to be impaired if a forecast of undiscounted estimated future net operating cash flows directly related to the asset, including any disposal value, is less than the carrying amount of the asset. If any asset is determined to be impaired, the loss is measured as the amount by which the carrying amount of the asset exceeds its fair value. An estimate of fair value is based on the best information available, including prices for similar assets and discounted cash flow.
Capitalized Interest
Interest from external borrowings is capitalized on significant investments in unproved properties and major development projects until the asset is ready for service using the weighted average borrowing rate of outstanding borrowings. Capitalized interest is determined by multiplying our weighted-average borrowing cost on debt by the average amount of qualifying costs incurred. Capitalized interest is depreciated over the useful lives of the assets in the same manner as the depreciation of the underlying asset.
Accounts Payable
Included in accounts payable as of December 31, 2017 and 2016 are liabilities of approximately $92 million and $77 million, respectively, representing the amount by which checks issued, but not yet presented to our banks for collection, exceeded balances in applicable bank accounts.
Debt Issuance Costs
Included in other long-term assets are costs associated with the issuance and amendments of our revolving credit facility. The remaining unamortized issuance costs as of December 31, 2017 and 2016, totaled $22 million and $32 million, respectively, and are being amortized over the life of credit facility using the straight-line method. Included in debt are costs associated with the issuance of our senior notes and term loan. The remaining unamortized issuance costs as of December 31, 2017 and 2016, totaled $63 million and $64 million, respectively, and are being amortized over the life of the senior notes using the effective interest method.
Litigation Contingencies
We are subject to litigation and regulatory proceedings, claims and liabilities that arise in the ordinary course of business. We accrue losses associated with litigation and regulatory claims when such losses are probable and reasonably estimable. If we determine that a loss is probable and cannot estimate a specific amount for that loss but can estimate a range of loss, our best estimate within the range is accrued. Estimates are adjusted as additional information becomes available or circumstances change. Legal defense costs associated with loss contingencies are expensed in the period incurred.
Environmental Remediation Costs
We record environmental reserves for estimated remediation costs related to existing conditions from past operations when the responsibility to remediate is probable and the costs can be reasonably estimated. Expenditures that create future benefits or contribute to future revenue generation are capitalized.
Asset Retirement Obligations
We recognize liabilities for obligations associated with the retirement of tangible long-lived assets that result from the acquisition, construction and development of the assets. We recognize the fair value of a liability for a retirement obligation in the period in which the liability is incurred. For oil and natural gas properties, this is the period in which an oil or natural gas well is acquired or drilled. The liability is then accreted each period until the liability is settled or the well is sold, at which time the liability is removed. The related asset retirement cost is capitalized as part of the carrying amount of our oil and natural gas properties. See Note 17 for further discussion of asset retirement obligations.
Revenue Recognition
Oil, Natural Gas and NGL Sales. Revenue from the sale of oil, natural gas and NGL is recognized when title passes, net of royalties due to third parties.
Natural Gas Imbalances. We follow the sales method of accounting for our natural gas revenue whereby we recognize sales revenue on all natural gas sold to our purchasers, regardless of whether the sales are proportionate to our ownership in the property. An asset or a liability is recognized to the extent that we have an imbalance in excess of the remaining estimated natural gas reserves on the underlying properties. The natural gas imbalance net liability position as of December 31, 2017 and 2016, was $5 million and $9 million, respectively.
Marketing, Gathering and Compression Sales. In connection with the marketing of our production, we take title to the oil, natural gas and NGL we purchase from other interest owners at defined delivery points and deliver the product to third parties, at which time revenues are recorded. In addition, we periodically enter into a variety of oil, natural gas and NGL purchase and sale contracts with third parties for various commercial purposes, primarily for credit risk mitigation and to help meet certain of our pipeline delivery commitments. In circumstances where we act as a principal rather than an agent, our results of operations related to oil, natural gas and NGL marketing activities are presented on a gross basis. Gathering and compression revenues consist of fees billed to other interest owners in operated wells or third-party producers for the gathering, treating and compression of natural gas. Revenues are recognized when the service is performed and are based upon non-regulated rates and the related gathering, treating and compression volumes. All significant intercompany accounts and transactions have been eliminated.
Fair Value Measurements
Certain financial instruments are reported at fair value on our consolidated balance sheets. Under fair value measurement accounting guidance, fair value is defined as the amount that would be received from the sale of an asset or paid for the transfer of a liability in an orderly transaction between market participants (i.e., an exit price). To estimate an exit price, a three-level hierarchy is used. The fair value hierarchy prioritizes the inputs, which refer broadly to assumptions market participants would use in pricing an asset or a liability, into three levels. Level 1 inputs are unadjusted quoted prices in active markets for identical assets and liabilities and have the highest priority. Level 2 inputs are inputs other than quoted prices within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability and have the lowest priority.
The valuation techniques that may be used to measure fair value include a market approach, an income approach and a cost approach. A market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities. An income approach uses valuation techniques to convert future amounts to a single present amount based on current market expectations, including present value techniques, option-pricing models and the excess earnings method. The cost approach is based on the amount that currently would be required to replace the service capacity of an asset (replacement cost).
The carrying values of financial instruments comprising cash and cash equivalents, accounts payable and accounts receivable approximate fair values due to the short-term maturities of these instruments.
Derivatives
Derivative instruments are recorded at fair value, and changes in fair value are recognized currently in earnings unless specific hedge accounting criteria are followed. For qualifying commodity derivative instruments designated as cash flow hedges, changes in fair value, to the extent the hedge is effective, are recognized in other comprehensive income until the hedged item is recognized in earnings. Any change in fair value resulting from ineffectiveness is recognized immediately in earnings. Locked-in gains and losses of settled cash flow hedges are recorded in accumulated other comprehensive income and are transferred to earnings in the month of production. Changes in the fair value of interest rate derivative instruments designated as fair value hedges are recorded on the consolidated balance sheets as assets or liabilities, and the debt's carrying value amount is adjusted by the change in the fair value of the debt subsequent to the initiation of the derivative. Differences between the changes in the fair values of the hedged item and the derivative instrument, if any, represent hedge ineffectiveness and are recognized currently in earnings. Locked-in gains and losses related to settled fair value hedges are amortized as an adjustment to interest expense over the remaining term of the related debt instrument. We have elected not to designate any of our qualifying commodity and interest rate derivatives as cash flow or fair value hedges. Therefore, changes in fair value of these derivatives that occur prior to their maturity (i.e., temporary fluctuations in value) are recognized in our consolidated statements of operations within oil, natural gas and NGL sales and interest expense, respectively.
Derivative instruments reflected as current in the consolidated balance sheets represent the estimated fair value of derivatives scheduled to settle over the next twelve months based on market prices/rates as of the respective balance sheet dates. Cash settlements of our derivative instruments are generally classified as operating cash flows unless the derivatives are deemed to contain, for accounting purposes, a significant financing element at contract inception, in which case these cash settlements are classified as financing cash flows in the accompanying consolidated statement of cash flows. All of our derivative instruments are subject to master netting arrangements by contract type which provide for the offsetting of asset and liability positions within each contract type, as well as related cash collateral if applicable, by counterparty. Therefore, we net the value of our derivative instruments by contract type with the same counterparty in the accompanying consolidated balance sheets.
We have established the fair value of our derivative instruments using established index prices, volatility curves and discount factors. These estimates are compared to our counterparty values for reasonableness. The values we report in our financial statements are as of a point in time and subsequently change as these estimates are revised to reflect actual results, changes in market conditions and other factors. Derivative transactions are subject to the risk that counterparties will be unable to meet their obligations. This non-performance risk is considered in the valuation of our derivative instruments, but to date has not had a material impact on the values of our derivatives. See Note 11 for further discussion of our derivative instruments.
Share-Based Compensation
Our share-based compensation program consists of restricted stock, stock options and performance share units granted to employees and restricted stock granted to non-employee directors under our Long Term Incentive Plan. We recognize the cost of employee services received in exchange for restricted stock and stock options based on the fair value of the equity instruments as of the grant date. For employees, this value is amortized over the vesting period, which is generally three or four years from the grant date. For directors, although restricted stock grants vest over three years, this value is recognized immediately as there is a non-substantive service condition for vesting. Because performance share units can only be settled in cash, they are classified as a liability in our consolidated financial statements and are measured at fair value as of the grant date and re-measured at fair value at the end of each reporting period. These fair value adjustments are recognized as general and administrative expense in the consolidated statements of operations.
To the extent compensation expense relates to employees directly involved in the acquisition of oil and natural gas leasehold and exploration and development activities, these amounts are capitalized to oil and natural gas properties. Amounts not capitalized to oil and natural gas properties are recognized as general and administrative expenses, oil, natural gas and NGL production expenses, or marketing, gathering and compression expenses, based on the employees involved in those activities. See Note 9 for further discussion of share-based compensation.
Recently Issued Accounting Standards
In May 2014, the Financial Accounting Standards Board (FASB) issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606) that supersedes virtually all existing revenue recognition guidance. The new standard includes a five-step revenue recognition model that requires the recognition of revenue to depict the transfer of promised goods to customers in an amount reflecting the consideration we expect to be entitled in exchange for those goods. The standard is required to be adopted using either the full retrospective approach or the modified retrospective approach. We will adopt this new standard in the first quarter of 2018 using the modified retrospective approach. Among other things, the standard requires enhanced disclosures about revenue and provides guidance for transactions that were not previously addressed comprehensively. As of December 31, 2017, we have completed our evaluation of the new standard and have concluded that the cumulative effect of adoption will not have a material impact on our consolidated financial statements. The adoption will result in a change in the gross versus net presentation of certain revenue transactions in our consolidated statements of operations, but any such presentation changes would not have an impact on income (loss) from operations, earnings per share or cash flows.
In January 2016, the FASB issued amendments on certain aspects of recognition, measurement, presentation, and disclosure of financial instruments through ASU 2016-01, Financial Instruments-Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. ASU 2016-01 will require equity investments (except those accounted for under the equity method of accounting, or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. In addition, ASU 2016-01 changes certain disclosure requirements and other aspects of GAAP. We will adopt ASU 2016-01 on January 1, 2018. As of December 31, 2017, we have completed our evaluation of the new standard and have concluded that the effect on our financial statements is not material, but may be material in the future if we were to sell a portion of our equity method investments such that we no longer had the ability to exercise significant influence over the operating and financial activities of the investee.
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842) which updated lease accounting guidance requiring lessees to recognize most leases, including operating leases, on the balance sheet as a right of use asset and lease liability. The accounting standards update is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018 and will be adopted using a modified retrospective transition method, which requires applying the new standard to leases that exist or are entered into after the beginning of the earliest period in the financial statements. Early adoption is permitted, but we do not plan to early adopt. The standard will not apply to our leases of mineral rights. We are continuing to evaluate the impact of this standard on our consolidated financial statements and related disclosures.
In August 2017, the FASB issued ASU 2017-12, Derivatives and Hedging (Topic 815) which makes significant changes to the current hedge accounting guidance. The new standard eliminates the requirement to separately measure and report hedge ineffectiveness and generally requires the entire change in the fair value of a hedging instrument to be presented in the same income statement line as the hedged item. The new standard also eases certain documentation and assessment requirements and modifies the accounting for components excluded from the assessment of hedge effectiveness. The new standard update is effective for annual and interim periods beginning after December 15, 2018, including interim periods within those annual periods. Early adoption is permitted, but we do not plan to early adopt. We are currently evaluating the impact of this standard on our consolidated financial statements and related disclosures.
Reclassifications
Certain reclassifications have been made to the consolidated financial statements for 2016 and 2015 to conform to the presentation used for the 2017 consolidated financial statements.