Journalism in the Public Interest

Chesapeake Energy Faces Subpoena on Royalty Payment Practices

The Justice Department’s inquiry comes after a ProPublica investigation and years of complaints from landowners who say they have been underpaid for leasing land to the energy giant for drilling.

A natural gas drilling rig stands on a Chesapeake Energy Corp. site in Pennsylvania, a state where landowners who had leased their gas rights to Chesapeake saw the payments they were receiving abruptly slashed. (Daniel Acker/Bloomberg via Getty Images)

The U.S. Department of Justice is investigating how Chesapeake Energy pays landowners for the natural gas it drills on their property, according to disclosures made earlier this month in the company's filings with the Securities and Exchange Commission.

The probe comes after years of complaints by landowners that they are being underpaid, and an investigation by ProPublica, which found the company was using the fees it had been been paying those landowners to repay billions of dollars of hidden corporate debt instead.

Chesapeake received subpoenas about its royalty practices from the federal government and several states, the company stated Nov. 6. The company did not respond to a request for comment from ProPublica.

In lawsuits filed in several states, Chesapeake has been accused of inflating its operating expenses and then deducting those expenses from the share of income it pays for the right to drill on peoples' land. Chesapeake has paid hundreds of millions of dollars in judgments and to settle some of these cases.

In mid-2013, landowners in Pennsylvania who had leased their gas rights to Chesapeake saw the payments they were receiving abruptly slashed by as much as 97 percent. In some cases checks for thousands of dollars a month were replaced with payments for less than a dollar. Those early complaints prompted a probe by Pennsylvania's Attorney General and a letter from the state's governor, Tom Corbett, to Chesapeake's chief executive calling the practices "unfair and perhaps illegal."

A ProPublica investigation traced that shift in payments to a series of complicated corporate transactions, worth nearly $5 billion, in which Chesapeake sold its pipelines for an inflated price, but then signed long-term contracts to pay the pipelines' new owner exorbitant fees to continue to use them. While Chesapeake raised billions through the sale, it committed to repay all of that money and more in fees. The fees Chesapeake paid to the new company, called Access Midstream Partners, were then charged back to landowners, erasing much of their share of the economic bounty from the surge in natural gas drilling in the Marcellus Shale. At the same time that landowners' gas income dropped, Chesapeake was attempting to raise cash to rescue itself from enormous and mounting corporate debt.

"I think they looked at it as an opportunity to effectively get disguised financing ... that is going to be repaid at a premium,'' an executive of an energy company who routinely does business with Chesapeake told ProPublica at the time.

In July, after news of the deals was published, county commissioners in Bradford County, Pennsylvania, where much of the Marcellus drilling was taking place, appealed to U.S. Attorney Peter Smith to investigate the company.  The commissioners wrote that ProPublica's reporting pointed to possible "violations of state and federal law." Several new lawsuits have also been filed against the company in Pennsylvania and elsewhere.

Throughout 2013 and early 2014, Chesapeake never responded to any of ProPublica's initial written questions or requests for interviews about the size or origins of its corporate debt and the sale of its pipeline companies. But after receiving our written questions, Chesapeake for the first time acknowledged in its quarterly financial filings that it had $36 billion dollars in "off-balance-sheet arrangements," and that much of it was related to its pipeline businesses.

Chesapeake faces other inquiries as well. Following a Reuters investigation alleging Chesapeake rigged land leasing prices in Michigan, the company was charged with antitrust violations by Michigan's state attorney general. It faces separate racketeering charges in the state as well. Chesapeake has said both sets of charges are without merit, and the two cases are expected to go to trial. The company's financial disclosures state that Chesapeake has been served federal subpoenas related to anti-trust inquiries in Michigan as well.

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