Inside Wall Street: Don't be ensnared by BP

The stock remains risky as the Gulf of Mexico oil spill continues to impact the energy company's performance.

By Gene Marcial Jul 19, 2012 1:51PM
Image: Oil drums (© Kevin Phillips/Digital Vision/age fotostock)It's difficult to understand why some Wall Street analysts stick with their "buy" or "sell" recommendations, even when faced with obvious odds against such decisions.


For the professional contrarians, it's reasonable to expect against-the-mainstream thinking. Otherwise, downplaying or going against visible problems confronting a stock is, at best, irresponsible. Some analysts' continued bullishness on BP (BP) is one example that's hard to accept.


The notion that the stock is of long-term value, as a number of bullish analysts say, is difficult to fathom, unless you are a trader who jumps in and out of stocks for speculative short-term gains. Like it or not, BP remains a risky bet for investors.

 

The move by Zacks Equity Research to downgrade BP to "underperform," which is equivalent to a "sell," is welcome and timely advice.

 

"The Gulf of Mexico drilling moratorium of 2010 is still hurting BP's production, which registered a 6% year-over-year decline," says Zacks in a recent analysis of the company's performance. It noted that BP, which is based in London, had a "lackluster performance in both upstream and downstream segments in the most recent quarter."

 

Not surprisingly, the company has forecast lower production and higher costs for the coming quarter. In its report, Zacks didn't minimize the huge risks that threaten the   international integrated crude oil and natural gas company.

 

"BP faces headwinds from a number of global macro issues," cautions Zacks, which include sovereign debt risks, defaults on sovereign debt risks, defaults on sovereign credits, and changes in U.S. monetary, fiscal, and tax policies. Predictably, BP missed analysts' quarterly expectations. The weaker-than-expected earnings continued to be affected by the costs and consequences of the April 2010 Macondo oil spill in the Gulf of Mexico.    

 

BP reported cash inflow from operations of $3.4 billion in the first quarter, down about 33% sequentially. The weak performance reflects the impact of the oil spill -- and derivative gains. Hence, the company's net debt jumped to $31.2 billion from $29 billion at the end of the fourth quarter of 2011.

 

The oil-spill catastrophe, which killed 11 oil rig workers and spewed 170 million gallons of toxic crude oil into the Gulf, resulted in heavy fines, lawsuits, and forced BP to sell non-core assets, as well as two large oil refineries. But today, BP is still very much in business, with five rigs running in company-operated leases in the Gulf as of the end of 2011.

 

In 2012, BP expects to drill 12 exploration wells to improve production. Cash margins per barrel on these projects are projected to double the average BP existing portfolio, which in turn should boost cash flow. The company also plans to increase capital spending, to around $22 billion, in 2012. Zachs says that bodes well for the company's future as it will fuel expansion plans and help increase revenues. It plans to increase cash flow by 50% by 2014 in a $100-per-barrel environment.

 

Half of any increase in cash flow will be allocated to capital expenditures and the other half towards boosting shareholder returns, including dividends and share buybacks, according to BP. "BP's focus on a string of upstream activities in high margin areas like the Gulf of Mexico, Angola, the North Sea, Brazil, Australia and India, also bode well for its future growth," says Zacks.

 

Indeed, BP is doing well post-oil spill, notes S&P Capital IQ, swiftly signing deals to provide growth after 2016. But right now, it isn't a stock it recommends, rating it as a "hold."

 

The stock, which traded as high as $77 a share in 2008, was trading at $60 a few days before the oil spill on April 20, 2010. It crashed to as low as $27 by the end of June 2010. It has since climbed to $41, where it's now trading.

 

"Given BP's high risk profile, our recommendation is a hold," says S&P's Michael Kay, "as we believe uncertainty over U.S. Gulf of Mexico legal claims will persist."  And the oil spill and Russia-related problems have clearly affected the stock, he adds. Looking forward, he sees "increased efficiency over the next three years," paced partly by restructuring of its downstream operations.     

 

Zacks predicts the stock will continue to sag, and it has set a 12-month price target of $37. "The Gulf of Mexico oil spill and the failed Russian Arctic deal have undoubtedly weighed on BP shares," notes Zacks.     



Gene Marcial wrote "Inside Wall Street" for Business Week for 28 years and now writes for MSN Money's Top Stocks. He also wrote the book "Seven Commandments of Stock Investing," published by FT Press.

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1Comment
Jul 19, 2012 6:10PM
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BP Plc offers 35 pct upside say JPMorgan, dividend growth looks set to outperform rivals
STRATEGIC FINANCE
Written by Roberta Murray   
Thursday, 19 July 2012



BP plc
 (LON:BP) has been maintained at Overweight by JPMorgan, the US investment bank has set a target share price of 600. This being 35.5 pct higher than our last quote on BP at 442.8. 


Over the period 2011-15 JPMorgan expects BP's dividend to grow by more than 40 pct - from 29 to 41 cents - compared to 10 pct growth at rival Royal Dutch Shell, where the bank expects an increase to 184 from 168 cents.

There are other factors that could boost the BP share price in addition to yield; a comprehensive settlement with the US Department of Justice over the Gulf of Mexico disaster in the next three months is one of them; a permanent resolution to the TNK-BP ownership issues; a resumption of higher margin growth in the last quarter of 2012 and a reactivation of a share buyback programme. 
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