BP: 4Q19 Review

by The Compound Investor

It has been a while since I wrote a dedicated BP (BP) article on The Compound Investor. The British oil giant released financial results earlier today which gives me the perfect chance to put that right. All things considered, the numbers coming out of its headquarters in London were decent. The company even managed to announce a 2.4% boost to its quarterly dividend, so good news for shareholders. The stock was up over 3.5% in New York trading at time of publication.

Now, whenever I write about BP I always mention two things. The first is the Gulf of Mexico oil spill, the tenth anniversary of which will arrive in April. The second is the oil price slump that occurred a few years later. Between them, they have wreaked havoc on the company’s finances. The oil spill alone has cost BP somewhere in the region of $55b on a pre-tax basis so far. Obviously the effects of lower oil prices don’t require much additional comment.

As you’d expect given the above, BP’s share price has suffered a woeful lost decade. At this point in 2010, the ADRs traded for around $53.50 each on the New York Stock Exchange. You can currently buy them for circa $36.50. The only crumb of comfort you might be able to take from that performance is that BP still managed to pump out nearly $19 per ADS in dividend cash in that time.

Results

As bad as things have undoubtedly been here, I think the situation is steadily improving. Granted, profit was down in 2019 versus 2018, but it’s the same story everywhere in the oil space. All-in-all, and after stripping out various one-off losses on divested assets, the company posted underlying profit of around $2.56b in 4Q19 (circa 76¢ per ADS). That figure increases to $9.99b (circa $2.95 per ADS) for 2019 as a whole.

In terms of cash flow, the company generated $25.8b from operations last year. That was enough to cover the combined capital spending and dividend bill, with a couple billion dollars left in change for good measure. Oh, and that cash inflow figure already includes $2.4b worth of Gulf of Mexico oil spill payments. We are talking more like $28b on an underlying basis.

On top of its free cash flow, BP raised around $2.2b in cash from the sale of non-core assets. That left a total post-dividend cash pile of circa $5.5b for the year if my math is correct. A chunk of the balance was spent on stock buybacks, which helped to offset dilution from the scrip dividend program. The firm also spent the outstanding $3.5b due on its purchase of onshore US assets from BHP.

Dividend Bump

The news that probably stands out most for BP stockholders is the dividend raise. The firm announced it was inreasing its quarterly dividend by 2.4% to 63¢ per ADR. That may not look like much, but a low single-digit bump is quite meaningful given the pre-news yield of 7%. That basically sums up why I’m fairly bullish on BP stock going forward.

To expand on that last statement a little, let’s just take a look at the company’s guidance. Note first that most of this is based on a Brent crude oil price of $55/bbl (real terms, 2017). Using that as a reference, the company sees itself generating circa 50% more in annual free cash flow by 2021. Note that it should generate an extra $1.4b per year just through reduced Gulf of Mexico oil spill payments. Now, the gap between BP’s reference year (i.e. 2017) and 2021 obviously incorporates a little bit of inflation, so let’s increase the oil price from $55/bbl to $60/bbl. We are obviously a fair bit below that at the moment because of the ongoing coronavirus hit, with Brent currently trading at circa $54/bbl, but it’s not a particularly aggressive long-term assumption. Heck, Brent crude averaged over $64/bbl over the course of last year.

Debt Load

The one thing I haven’t touched on yet is the debt load. BP carries around $45b in financial debt net of its $22.5b cash pile. In terms of gearing, that puts it higher than its oil major peers. The company is in position to reduce that somewhat via its post-dividend free cash flow, but it is also running an asset disposal program which aims to raise $10b between 2019 and the end of 2020. BP received circa $2.2b of that over the course of last year, and it also announced plans for an extra $5b from asset disposals by mid-2021.

Those numbers imply that we could reasonably expect another $12b or so to reach BP over the next couple of years. That would put gearing at around 25% by my count, which happens to be the midpoint of its 20-30% target range. I would like to see the company accumulate more excess free cashflow on top of that, though the case for stock buybacks is strong right now.

Outlook

BP ADSs currently trade for around $36.50 apiece on the New York Stock Exchange. Earnings power is in the $10b range, equivalent to around $3.00 per ADS. On that basis, let’s call the current valuation equal to around 12x annual profit. I think that is a pretty okay deal in the prevailing oil price environment. BP is paying most of that profit out by way of its dividend – equivalent to a yield of 6.9% right now – with increasing dividend cover going forward. All things being equal, I am optimistic that will lead to a much better decade for shareholders than the one just gone.

Note

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