BP Looks Like A Buy

Published in Company Comment on 1 May 2012

A poor first quarter presents an opportunity.

The headlines tell us that FTSE 100 giant BP (LSE: BP) had a rubbish first quarter.

The Big Oil company said its replacement cost profit (a figure that ignores gains or losses from non-operating items) dropped to $4.8bn, compared with $5.5 billion for the first quarter of 2011. This was below expectations.

The shares have reacted accordingly slumping over 3% to 430p at the time of writing. The big picture is of the company not producing as much oil and gas as last year after selling fields to help pay for the 2010 Gulf of Mexico disaster. So BP wasn't able to benefit from higher average oil prices or to produce as good a first quarter report card as did its peer Royal Dutch Shell (LSE: RDSB) last week. Shell was able to report an 11% increase in first quarter profits to $7.7bn, as it took advantage of higher prices.

But there was some good news among BP's first quarter performance. The company has now paid $16.6bn into a trust fund, and expects to meet its target of $20bn a year earlier than anticipated. And operating cash flow was up on the previous year. Also, the company's continuing divestment programme now totals $23bn. It now plans to sell its smaller fields in the Gulf of Mexico as it focuses on larger opportunities there.

CEO Bob Dudley says BP has gained access to significant new deepwater and US shale exploration, and has five deepwater rigs at work in the Gulf of Mexico.

BP still has it all

In early February, I was of the view that BP had it all. I was wrong as far as the share price movement has been concerned since then when it was 484p. But I haven't changed my view that current short-term price weakness presents an excellent long term opportunity.

A company the size of BP is analysed to the nth degree, so you can't really beat the market other than by zooming out and looking at the big picture and fundamentals, in my view. And on this score, I still think BP has it all. In future years, when the Gulf disaster is a distant memory, today's anticipated price-to-earnings (P/E) ratio of less than six and yield of 5.7% will also be a memory. That's because I think the price will have risen to a level more commensurate with earnings and the yield will gradually increase closer to historic levels.

For the moment, the yield remains at US$8 cents a quarter. BP is a US dollar-based business, so when sterling strengthens then you get less income in the UK.

Concerns

But the Deepwater Horizon disaster does still hang over the company. BP has paid a total of $8.3bn in claims and other payments relating to the incident. And the total expected charge for the spill remains at $37.2bn. But this is an estimate, and while BP hasn't admitted liability, it still faces claims from the US and state governments, and drilling companies.

The other concern is BP's 50/50 Russian joint venture; TNK-BP generates more than 25% of production, but the company doesn't have the direct control we shareholders would prefer to see.

Despite these concerns, it's all more than in the price for me. The huge cash outflows from the Macondo disaster won't last forever. We may even find that the company's eventual pay-out is lower than expected. Either way, BP's healthy cash flow should see it through while paying (increasing…) dividends along the way.

And once the litigation issues are finally put to bed the shares will gradually respond accordingly. If BP isn't good long-term value at today's price, I don't know what is.

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> David owns shares in BP.

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Comments

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fedupwithbanks 01 May 2012 , 3:34pm

The only problem for me is.... Is BP another accident waiting to happen.....again? Maybe the share price reflects this?

squirel007 01 May 2012 , 5:15pm

Yes, there is that risk. Shell has also had a number of accidents but people forget.
The question is, have they learnt anything? Are they better regulated? Are they reasonably diversified and do they have a road map? Bearing in mind the P/E of 6 and reasonable, sustainable yield, what is the downside and what is the upside?
I agree with David that this a good opportunity for a long term investor and diversified portfolio. Would buy some more but spent my last penny on CHG few days ago - a wise move.
If you think the risk is too high, maybe you should keep away from oil shares or shares?

Sotograndeman 02 May 2012 , 11:49am

I agree BP is a buy and hold for the long term (3-5+ years)

Don't punish yourself for the share price going down since your earlier recommendation. Short term movements in price of course cannot be predicted and in fact in this case offer a chance to average down.

I find it comforting that PB is one of Seth Klarman's largest holdings at Baupost.

theredflag 02 May 2012 , 5:24pm

Already having exposure to Shell, I have been watching BP for some time and now plan to build up a stake. I think it offers the better long term value of the two big oils at the moment.

ANuvver 05 May 2012 , 7:36pm

Also looking for something to keep my RDSB company.

But - yield of what now, exactly? None of my sources come anywhere near 5.7%. The lastest declared quarterly dividend is 5.1p, giving 4.8%ish. I note you mention anticipated p/e and yield, but that still seems to represent a hell of a lot of anticipation to me...

The shares go ex-div on 9 May.

MAACPRIME 13 May 2012 , 12:36am

If I were looking at oil and gas shares, I'd rather pick Chevron. It's P\E is not much higher than BP's - 7.5 and comes without the worries hanging over BP.

Right now, I'll probably buy more Barratt Developments if the price drops to the £1,10-£1.20 range. Also might buy more General Motors since it's flush with cash and on a P\E of 6-7.

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