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BP - 'most brutal' oil and gas environment for decades

Emilie Stevens, Equity Analyst | 1 April 2020 | A A A
BP - 'most brutal' oil and gas environment for decades

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BP Plc Ordinary US$0.25

Sell: 276.00 | Buy: 276.10 | Change 10.45 (3.92%)
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BP has announced a range of measures to protect its employees, support its communities, and strengthen its financial position.

To protect its finances BP is continuing with its divestment program, cutting capital spending, implementing a cost saving program and has confirmed it has around $32bn in available cash.

The shares fell 3.2% following the announcement.

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Our View

BP has spent the best part of a decade addressing big problems: first the Gulf of Mexico disaster and then the 2015 oil price crash. But those events are being overshadowed by the COVID-19 pandemic and oil price war between Saudi Arabia and Russia. The combined impact has driven oil prices into the ground, and the pressure on BP's cash flows will only increase the longer current conditions persist.

BP reckons it can match its cash-in to cash-out with oil at $50 a barrel, but oil is currently closer to $20 to $25. While it feels unlikely that prices will stay this low for a significant period of time, we would caution against making specific oil price forecasts.

For this reason, BP is taking steps to preserve cash in anticipation of a lean few months if not longer. This means cutting capital spending, selling assets and controlling every day costs as much as possible. Meanwhile, Deepwater Horizon payments are still soaking up mind boggling sums, $2.4bn last year, but are finally starting to shrink.

However, the word "dividend" was noticeably absent from the most recent statement. It seems that management is going to do everything it can to keep the dividend going, and that's good as long as investment doesn't suffer too much for it. The shares currently offer a 9.1% yield, and if management can sustain the payout in the short run, and if oil prices recover reasonably soon, that could be attractive. Those are some big "ifs" though, and nothing is guaranteed. If oil prices stay this low for a long time then eventually the dividend will get cut.

Longer term, increasing consumer and investor hostility towards hydrocarbon fuels is a challenge, with falling demand potentially undermining oil prices. While we think oil & gas will continue to play an important role in the global energy mix for years to come, probably at the expense of coal, it's good to see the group investing in renewable energy sources now. Lightsource is a particular success, but BP also owns wind and biofuel assets that should provide some insulation against future energy shifts.

We think the next few months could be tough for BP, and there's not much management can do about that. Until the oil price recovers it's going to bleed cash, and while there are some cost saving levers to pull, nothing management does will bring back profits. However, once the group comes through this rough patch we think the future looks a little brighter, especially if the dividend can be maintained.

Fourth Quarter Results

BP's plan to sell $15bn worth of assets by mid-2021 remains on track. However, the timings of the receipt of $10bn by the end of 2020 may be revised during current market conditions. This includes the sale of the Alaskan business, although management still expects to complete the sale this year, subject to regulatory approval. To date, $3.4bn of cash has been received since the start of 2019, out of $9.6bn in announced transactions.

Organic capital spending is expected to be around $12bn in 2020, 25% below prior guidance. This includes a reduction of around $1.0bn in both Upstream and Downstream spend. This is expected to reduce Upstream production by around 70,000 barrels of oil equivalent per day (mboed), and production in 2020 will be lower than in 2019.

Thanks to cost saving measures, BP expects to save around $2.5bn in cash by the end of 2021. However, the group has promised that no employees will be laid off for at least three months as a result of either COVID-19 or the recent drop in oil prices.

BP has $32bn in cash and undrawn credit facilities. Credit rating agency Standard & Poor's has reaffirmed the groups A- credit rating, but has downgraded its outlook from "positive" to "stable". Meanwhile, Moody's reaffirmed its A1 credit rating, but changed its outlook from "stable" to "negative".

BP has seen no significant operational impact from COVID-19 in the first quarter of 2020, but warns this may change in the second quarter. Nonetheless, the group expects the disruptions to impact first quarter results.

First quarter Upstream production is expected to be lower than the fourth quarter of 2019, and between 2,550-2,600 mboed. Downstream refining availability is anticipated to be between 95% and 96%, but the results are expected to be impacted by a "significant and growing decline in demand" for many of the group's products.

The stronger US dollar will increase BP's effective tax rate "significantly", and the group expects to take a non-cash write down of roughly $1bn.

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