Fair Value Measurements

3 Months Ended

Mar. 31, 2012

Fair Value Measurements [Abstract]

Fair Value Measurements

11. Fair Value Measurements

Certain financial instruments are reported at fair value on the condensed 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 financial asset or liability and have the lowest priority. Chesapeake uses a market valuation approach based on available inputs and the following methods and assumptions to measure the fair values of its assets and liabilities, which may or may not be observable in the market.

Cash Equivalents. The fair value of cash equivalents is based on quoted market prices.

Investments. The fair value of Chesapeake's investment in Gastar Exploration Ltd. (NYSE Amex: GST) and Clean Energy Fuels Corporation (NASDAQ:CLNE) common stock is based on a quoted market price.

Other Long-Term Assets and Liabilities. The fair value of other long-term assets and liabilities, consisting of obligations under our deferred compensation plan, is based on quoted market prices.

Derivatives. The fair values of our commodity derivatives, interest rate swaps and cross currency swaps are based on third-party pricing models which utilize inputs that are either readily available in the public market, such as natural gas and oil forward curves and discount rates, or can be corroborated from active markets or broker quotes. These values are then compared to the values given by our counterparties for reasonableness. Since commodity, interest rate and cross currency swaps do not include optionality and therefore generally have no unobservable inputs, they are classified as Level 2. All other derivatives have some level of unobservable input, such as volatility curves, and are therefore classified as Level 3. For interest rate options and swaptions, we use the fair value estimates provided by our respective counterparties. These values are reviewed internally for reasonableness using future interest rate curves and time to maturity. Derivatives are also subject to the risk that counterparties will be unable to meet their obligations. We factor non-performance risk into the valuation of our derivatives using current published credit default swap rates. To date, this has not had a material impact on the values of our derivatives.

Debt. The fair value of certain of our long-term debt is based on the face amount of that debt along with the value of related qualifying interest rate swaps.

The following table provides fair value measurement information for financial assets (liabilities) measured at fair value on a recurring basis as of March 31, 2012:

	Quoted Prices in Active Markets     (Level 1)			Significant Other Observable Inputs   (Level 2)			Significant Unobservable Inputs (Level  3)			Total     Fair Value
	($ in millions)
Financial Assets (Liabilities):
Cash equivalents	$	519		$	—		$	—		$	519
Investments		41			—			—			41
Other long-term assets		69			—			—			69
Other long-term liabilities		(71	)		—			—			(71	)
Derivatives:
Commodity assets		—			37			50			87
Commodity liabilities		—			(75	)		(1,755	)		(1,830	)
Interest rate liabilities		—			(43	)		(3	)		(46	)
Foreign currency liabilities		—			(20	)		—			(20	)
Equity liabilities		—			(2	)		—			(2	)
Total derivatives		—			(103	)		(1,708	)		(1,811	)
Total	$	558		$	(103	)	$	(1,708	)	$	(1,253	)

The following table provides fair value measurement information for financial assets (liabilities) measured at fair value on a recurring basis as of December 31, 2011:

	Quoted Prices in Active Markets     (Level 1)			Significant Other Observable Inputs   (Level 2)			Significant Unobservable Inputs (Level 3)			Total     Fair Value
	($ in millions)
Financial Assets (Liabilities):
Cash equivalents	$	395		$	—		$	—		$	395
Investments		34			—			—			34
Other long-term assets		61			—			—			61
Other long-term liabilities		(62	)		—			—			(62	)
Derivatives:
Commodity assets		—			46			9			55
Commodity liabilities		—			(31	)		(1,663	)		(1,694	)
Interest rate liabilities		—			(42	)		—			(42	)
Foreign currency liabilities		—			(38	)		—			(38	)
Total derivatives		—			(65	)		(1,654	)		(1,719	)
Total	$	428		$	(65	)	$	(1,654	)	$	(1,291	)

A summary of the changes in Chesapeake's assets (liabilities) classified as Level 3 measurements during the Current Quarter and the Prior Quarter is presented below.

		$xxxxxxxxxxxxx			$xxxxxxxxxxxxx			$xxxxxxxxxxxxx			$xxxxxxxxxxxxx
	Derivatives
				Interest			Foreign
	Commodity			Rate			Currency			Debt
	($ in millions)
Beginning Balance as of January 1, 2012	$	(1,654	)	$	—		$	—		$	—
Total gains (losses) (realized/unrealized):
Included in earnings or change in net assets(a)		(59	)		(1	)		—			—
Total purchases, issuances, sales and settlements:
Sales		—			(2	)		—			—
Settlements		8			—			—			—
Ending Balance as of March 31, 2012	$	(1,705	)	$	(3	)	$	—		$	—
Beginning Balance as of January 1, 2011	$	(1,954	)	$	(69	)	$	(43	)	$	(1,371	)
Total gains (losses) (realized/unrealized):
Included in earnings or change in net assets(a)		(873	)		16			—			—
Total purchases, issuances, sales and settlements:
Settlements		44			(1	)		—			—
Transfers in and out of Level 3(b)		—			54			43			1,371
Ending Balance as of March 31, 2011	$	(2,783	)	$	—		$	—		$	—

(a)

	Natural Gas						Interest
	and Oil Sales						Expense
	2012			2011			2012			2011
	($ in millions)
Total gains (losses) included in earnings (or change in net assets) for the period	$	(59	)	$	(873	)	$	(1	)	$	16
Change in unrealized gains (losses) relating to assets still held at reporting date	$	(132	)	$	(868	)	$	(3	)	$	2

(b) The values related to interest rate and cross currency swaps were transferred from Level 3 to Level 2 as a result of our ability to use data readily available in the public market to corroborate our estimated fair values.

Qualitative Disclosures about Unobservable Inputs for Level 3 Fair Value Measurements

The significant unobservable inputs for Level 3 derivative contracts include forward prices of commodities, forward interest rate curves, market volatility and credit risk of counterparties. Changes in these inputs will impact the fair value measurement of our derivative contracts, e.g. an increase (decrease) in the forward prices and volatility of commodities will decrease (increase) the fair value of commodity derivatives; an increase (decrease) in forward price and volatility of interest rates will decrease (increase) the fair value of interest rate derivatives; and adverse changes to our counterparties' credit worthiness will decrease the fair value of our derivatives.

Quantitative Disclosures about Unobservable Inputs for Level 3 Fair Value Measurements

						Fair Value
Instrument	Unobservable		Weighted			March 31,
Type	Input	Range	Average			2012
						($ in millions)
Oil Trades(a)	NYMEX oil price forward curve	$ 91.47 - $105.33	$	97.95		$	(1,410	)
	Oil price volatility curve	16.39% - 31.03%		23.16	%
Natural Gas Trades(a)	NYMEX natural gas price     forward curve	$2.13 - $5.81	$	3.91		$	(255	)
	Natural gas price volatility curve	21.40% - 53.67%		28.27	%
Gas Basis Swaps(b)	NYMEX natural gas forward curve	$1.95 -$5.06	$	3.22		$	(40	)
	Physical pricing point     forward curves	($1.29) -$0.20	$	(0.22	)
Interest Rate Swaptions(a)	Forward interest rate curve	0.41% -3.66%		1.80	%	$	(3	)
	Interest rate volatility	40.04% - 52.07%		47.40	%

(a) Fair value is based on an estimate derived from option models.

(b) Fair value is based on an estimate of discounted cash flows.

Fair Value of Other Financial Instruments

The following disclosure of the estimated fair value of financial instruments is made in accordance with accounting guidance for financial instruments. The carrying values of financial instruments comprising current assets and current liabilities approximate fair values due to the short-term maturities of these instruments. We estimate the fair value of our long-term debt primarily using quoted market prices (Level 1). Fair value is compared to the carrying value, excluding the impact of interest rate derivatives, in the table below.

		00000000000		00000000000		00000000000		00000000000
	March 31, 2012				December 31, 2011
	Carrying		Estimated		Carrying		Estimated
	Amount		Fair Value		Amount		Fair Value
	($ in millions)
Long-term debt	$	13,056	$	13,671	$	10,598	$	11,399