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(Reuters) - Chesapeake Energy Corp's (CHK.N) annual meeting promises to be raucous, with a vote on executive compensation in the spotlight, but the company's biggest challenge will be convincing investors it is still a good investment despite the turmoil.
At the insistence of the company's two largest shareholders, activist Carl Icahn and Mason Hawkins' Southeastern Asset Management, Chesapeake said on Monday that four directors will resign and be replaced by shareholder representatives. Paul Hodgson, senior research associate at governance firm GMI Ratings expects they will include Richard Davidson and Burns Hargis, two Chesapeake directors up for reelection at Friday's meeting.
There is a long list of investors who are demanding change after Reuters reports shed light on the board's lax oversight of Chief Executive Aubrey McClendon.
The actions of Southeastern and Icahn were sparked by financial peril at Chesapeake and an ongoing governance crisis related to transactions by McClendon that may put shareholder interests below his.
Since Monday, the shares have moved 8 percent higher, lifted by news of Icahn and Hawkins' involvement and reports the company was in talks to sell its pipeline business for $4 billion to Global Infrastructure Partners. Still, the stock is down about 40 percent over the last 12 months and many risks remain for investors.
"The company's problems with debt, liquidity, and cash flow, along with the negative impact of falling commodity prices, will not disappear simply because of changes in the composition of the board," Phil Weiss, independent oil analyst at Argus Research told his clients on Wednesday.
Chesapeake faces a funding shortfall this year estimated at around $10 billion and shareholders are forcing McClendon to curb the torrid pace of land purchases that turned the company into the largest holder of natural gas acreage in the country and to sell as much as $11.5 billion in assets to fund operations and pay down debt.
While all exploration and production companies are seeing profitability sapped by falling oil and gas prices, Chesapeake's onshore U.S. peers, including Devon Energy Corp and EOG Resources, do not have the same liquidity and governance problems.
Even if Chesapeake is able to sell all the assets it wants, it is selling some of its best properties, and finances could remain stretched. Growing production is sure to be expensive as the company shifts from natural gas to more profitable oil and liquids. And company watchers are worried that Chesapeake, a company known for risky decisions under McClendon, may not be able to maintain financial discipline even with a new board.
Weiss of Argus said he prefers companies that have a more conservative management, as well as a good balance sheet, such as Occidental Petroleum and Devon Energy.
"I like Occidental because it has a much stronger balance sheet and a much lower cost structure," Weiss said.
But some analysts say the worst may be behind the company, citing the firm hand of the activist shareholders and Chesapeake's stellar oil and gas assets.
"Liquidity risk is fading as a 2012 issue, but remains as a 2013 issue," Tim Rezvan, an analyst at Sterne Agee, said in an email. "Icahn's ability to remove that 2013 uncertainty should set a floor for the stock barring a significant move down in commodity prices."
Chesapeake's funding shortfall for 2013 is estimated to be as much as $5 billion.
The pressing question for investors over the next few weeks is the make-up of the new board of directors. Decisions about the new board members, as well as a new independent chairman, will not be made at Friday's board meeting, but are expected by or before June 22.
"Given the amount of value destruction that has gone on, since the loan story broke, I think shareholders are much more angry about what is going on at the company than they have ever been in the past," Hodgson said.
McClendon arranged for $1.5 billion in previously undisclosed loans using his interest in thousands of company wells granted to him as a unusual perk by the board. McClendon's personal lender is also a big source of funding for Chesapeake, a situation that academics and analysts have said may cause a conflict.
The CEO also ran a $200 million hedge fund from his office, borrowed from a former board member and is allowed to profit when his oil and gas interests are sold alongside the company's, Reuters has reported.
After the billion-dollar loan was reported, Chesapeake's board made some changes, including stripping McClendon of his role as chairman, but some argue more needs to be done and a number of investors and proxy advisory firms are recommending that investors vote against the reelection of Davidson and Hargis.
Shareholders have also become more willing to vote against executive compensation packages at companies that are underperforming.
"People are definitely paying more attention to pay for performance and we've seen companies get rid of pay practices as a results," said Robin Ferracone, executive chairman, Farient Advisors.
Last year, only 58 percent of Chesapeake shareholders voted in favor of executive compensation, support that will likely erode more this year given the stock performance and governance woes.
In 2011, McClendons total compensation fell 15 percent to $17.87 million, but that figure is still well above the median of $13.10 million paid to CEOs at peer companies, according to data from proxy advisory firm ISS.
Reporting By Matt Daily in New York and Anna Driver in Houston; editing by Patricia Kranz