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BP - buybacks as strategy gathers pace

Nicholas Hyett, Equity Analyst | 27 April 2021 | A A A
BP - buybacks as strategy gathers pace

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BP Plc Ordinary US$0.25

Sell: 302.85 | Buy: 303.05 | Change 0.00 (0.00%)
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BP reported an underlying profit in the first quarter of $2.6bn, up from $791m a year ago. That reflects a 18.7% increase in average oil & gas prices and very strong results in gas trading.

With the net debt target reached a year early, thanks to substantial asset disposals, the group has announced a $500m share buyback programme for the second quarter.

Management also announced a quarterly dividend of 5.25 cents per share.

The shares were broadly unmoved in early trading.

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Our View

The world still runs on oil & gas - with the most recently available data showing oil & gas accounting for over 50% of global energy in 2019. It's unsurprising then that a collapse in global economic activity led to collapse in oil prices and corresponding nosedive in BP's profits.

However, BP has recovered from that shock rather well.

Rising oil prices and some smart moves in the group's gas trading business have boosted first quarter results. Crucially positive free cash flow and billions of dollars in disposals have got the balance sheet back into something like good health - cutting $18.1bn off net debt in 12 months and getting gearing (the industry's preferred measure of leverage) back under 30%.

The group plans to sell billions more in assets over the next four years or so, funding a share buyback scheme that is designed to keep the dividend affordable. Reducing the number of shares in issue allows the group to maintain or grow the dividend per share while holding total dividend expense steady at $1.1bn a quarter or even reducing it.

But selling assets to pay down debt and buy back shares isn't a long-term strategy. Eventually the business would eat itself. Instead the group needs to generate significant positive free cash flow from the core business.

Legacy oil & gas assets seem to be doing just that for now, helped by the group's decision to trim capital expenditure. But oil & gas are capital hungry businesses, if new oil wells aren't brought online, eventually the group's fields will run dry.

That make BP's decision to concentrate future capital expenditure in lower carbon assets a brave one. In the first quarter of this year the group spent $1.9bn on gas and low carbon projects and just $1.3bn on oil production and operations. It's testament to the changing nature of energy markets, that a company formerly called British Petroleum is slowly selling off and running down it's oil assets. By 2030 the group expects to be spending $5bn a year on low carbon energy projects, up from just $500m in 2020.

The new strategy calls for a twenty-fold increase in renewable generating capacity, big increases in biofuel and hydrogen output, increased focus on its petrol station convenience offering and continued investment in electric vehicle charging. Meanwhile the carbon intensity of the group's remaining oil & gas assets will fall.

It's an admirable goal and, depending on the speed of the transition, may prove an inspired decision. However, we worry that BP may be selling high returning, high quality oil & gas fields for low returning renewables with an unproven track record. Neither BP nor the global energy mix will be free of oil & gas products for years to come, but investing in renewables will be expensive and in the short term will probably be a bit of a money pit. That could make the next few years tough for BP.

BP key facts

  • Price/Earnings ratio: 9.9
  • 10 year average Price/Earnings ratio: 11.9
  • Prospective dividend yield (next 12 months): 5.1%

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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First Quarter Results

These results are BP's first under its new reporting segments - gas & low carbon energy, oil production & operations, customers & products and Rosneft.

The Gas & Low Carbon Energy business reported underlying profits of $2.3bn, up from $847 a year ago. That reflects an "exceptionally strong gas marketing and trading" result as well as higher gas prices and lower depreciation.

Oil Production & Operations reported underlying profits of $1.6bn, up from $895m a year ago. That reflects increased oil & gas prices, and lower depreciation partly offset by lower production.

Customer & Products, which includes most of the assets previously in Downstream, saw underlying profits fall from $921 a year ago to $656m in the first quarter. That was down to much weaker refining margins, and increased cost of renewable fuel credits. That more than offset a positive result in Castrol.

Underlying profits at Rosneft came in at $363m, versus a $17m loss in Q1 2020. That reflects higher oil prices and favourable foreign exchange movements.

Total capital expenditure came in at $3.8bn, down 1.6% year-on-year, including $1.1bn spent on low carbon energy projects. Lower capital expenditure and higher profits resulted in free cash flow of $2.3bn, compared to a $2.9bn outflow last year.

BP completed disposals of $4.8bn during the quarter, including a $2.4bn oil field stake in in Oman and $1bn final instalment for the sale of the petrochemicals business. That resulted in a $1.0bn gain on disposal, boosting non-underlying profits.

Net debt at the end of the quarter stood at $33.1bn, down from $38.9bn at the start of the year and $51.4bn a year ago. Gearing, which measures debt as a percentage of total assets, fell from 36.2% a year ago to 26.9%.

The group has now agreed or completed on $14.7bn of its planned $25bn in disposals by 2025, with full year 2021 disposals expected to reach $5-$6bn. Capital expenditure for the year is expected to be$13bn, with depreciation similar to 2020 ($14.9bn).

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This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.