Chesapeake Energy 2000 Annual Report Download - page 26

The ability of Chesapeake to utilize NOL cariyforwards to reduce future federal taxable income and
federal income tax of Chesapeake is subject to various limitations under the Internal Revenue Code of 1986,
as amended. The utilization of such carryforwards may be limited upon the occurrence of certain ownership
changes, including the issuance or exercise of rights to acquire stock, the purchase or sale of stock by 5%
stockholders, as defined in the Treasury regulations, and the offering of stock by us during any three-year
period resulting in an aggregate change of more than 50% in the beneficial ownership of Chesapeake.
In the event of an ownership change, Section 382 of the Code imposes an annual limitation on the
amount of a corporation's taxable income that can be offset by these carryforwards. The limitation is generally
equal to the product of (i) the fair market value of the equity of the company multiplied by (ii) a percentage
approximately equivalent to the yield on long-term tax exempt bonds during the month in which an ownership
change occurs. In addition, the limitation is increased if there are recognized built-in gains during any post-
change year, but only to the extent of any net unrealized built-in gains (as defined in the Code) inherent in the
assets sold. Chesapeake had ownership changes in January 1995 and March 1998 which triggered limitations.
Of the $567 million NOLs and $301 million AMT NOLs, $254 million and $25 million, respectively, are
limited under Section 382. Therefore, $313 million of the NOLs and $276 million of the AMT NOLs are not
subject to the limitation. The utilization of $254 million of the NOLs and the utilization of $25 million of the
AMT NOLs subject to the Section 382 limitation are both limited to approximately $26 million each taxable
year. Although no assurances can be made, we do not believe that an additional ownership change has
occurred as of December 31, 2000, or will occur as a result of the issuance of the common stock in 2001
related to the acquisition of Gothic. Equity transactions after the date hereof by Chesapeake or by 5%
stockholders (including relatively small transactions and transactions beyond our control) could cause an
ownership change and therefore a limitation on the annual utilization of NOLs.
In the event of another ownership change, the amount of Chesapeake's NOLs available for use each year
will depend upon future events that cannot currently be predicted and upon interpretation of complex rules
under Treasury regulations. If less than the full amount of the annual limitation is utilized in any given year,
the unused portion may be carried forward and may be used in addition to successive years' annual limitation.
We expect to utilize our NOL carryforwards and other tax deductions and credits to offset taxable
income in the near future. However, there is no assurance that the Internal Revenue Service will not challenge
these carryforwards or their utilization.
Title to Properties
Our title to properties is subject to royalty, overriding royalty, carried, net profits, working and other
similar interests and contractual arrangements customary in the oil and gas industry, to liens for current taxes
not yet due and to other encumbrances. As is customary in the industry in the case of undeveloped properties,
only cursory investigation of record title is made at the time of acquisition. Drilling title opinions are usually
prepared before commencement of drilling operations. From time tO time, Chesapeake's title to oil and gas
properties is challenged through legal proceedings. We are routinely involved in litigation involving title to
certain of our oil and gas properties, some of which management believes could be adverse to us, individually
or in the aggregate. See Item 3 Legal Proceedings.
Operating Hazards and Insurance
The oil and gas business involves a variety of operating risks, including the risk of fire, explosions, blow-
outs, pipe failure, abnormally pressured formations and environmental hazards such as oil spills, gas leaks,
ruptures or discharges of toxic gases, the occurrence of any of which could result in substantial losses to
Chesapeake due to injury or loss of life, severe damage to or destruction of property, natural resources and
equipment, pollution or other environmental damage, clean-up responsibilities, regulatory investigation and
penalties and suspension of operations. Our horizontal and deep drilling activities involve greater risk of
mechanical problems than vertical and shallow drilling operations.
Chesapeake maintains a $50 million oil and gas lease operator policy that insures against certain sudden
and accidental risks associated with drilling, completing and operating our wells. There can be no assurance
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