BP Switches Partners In Russia Through Sale of Stake In TNK-BP To Rosneft

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BP Plc (NYSE:BP) has agreed to sell its 50% stake in TNK-BP to Rosneft as part of a $55 billion buyout which will see the state-owned Russian oil major gain full control of TNK-BP, making it the largest publicly traded oil company in the world in terms of net production. The deal marks an end to BP’s difficult relationship with partners AAR, and will give the UK firm exposure to Russia’s largest oil company and access to Russia’s vast energy reserves. [1]

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BP will receive $17.1 billion in cash and a 12.84% stake in Rosneft in a deal valued at around $27 billion. BP plans to use $4.8 billion of the cash received to purchase an additional 5.66% stake, acquired from the Russian government at $8 per share. This, including its current 1.25% stake, will take its total interest in Rosneft to 19.75%, making it the second largest stakeholder in the Russian oil giant. AAR, on the other hand, will receive around $28 billion in an all cash deal.

TNK-BP was initiated as a joint venture between BP and a group of Soviet-born tycoons in 2003, with BP buying a 50% stake in the venture for $8 billion. The operation has been highly lucrative, with BP receiving dividends totaling $19 billion from the project since inception, and accounting for 29% of BP’s total oil production last year. However, the venture has been marred with disputes between BP and AAR, a number of which led to share price declines.

A few points on what this deal means for BP:

  1. It gives the UK firm a partnership with far more clout in Russia than its former partners AAR, and will give the company powerful allies in the country such as Vladimir Putin and Rosneft boss Igor Sechin.
  2. BP will get a heads up over competitors in Russia, such as ExxonMobil, who recently signed a $3.2 billion deal with Rosneft to explore and develop reserves in the Black Sea and Kara Sea. The company had its earlier attempt to to explore the Arctic Seas through an agreement with Rosneft blocked by AAR. Exploration and development of the energy reserves in the Arctic Sea could lead to a significant upside in net oil & gas production long term.
  3. Owing to its 20% stake, BP has received two seats on Rosneft’s board, which could give it some amount of influence in the Russian oil company’s operations. However, there is also the possibility that BP will be sidelined, considering Rosneft’s political ties and powerful leaders.
  4. The cash BP receives from the deal, net of the purchase of additional shares in Rosneft, could be used to pay off a portion of the penalties relating to the 2010 Gulf of Mexico oil spill. BP recently agreed to sell its refinery in Texas City for $2.5 billion to Marathon Petroleum. That sale brought the value of BP’s divestments since the beginning of 2010 to more than $35 billion. The company may be liable to pay substantially more in civil and criminal penalties after the U.S. Department of Justice recently accused it of gross negligence and misconduct during the spill by.
  5. The loss of dividends and equity affiliates oil production from the sale of its stake in TNK-BP will be partly offset by its 20% share of Rosneft’s profits, production and reserves. In fact, according to some estimates, the deal will see BP’s total reserves (including equity affiliates) grow 12.5%.

Considering BP’s stake in Rosneft, it is worthwhile looking at how the deal will impact Rosneft as well:

  1. Following the deal, Rosneft’s net oil & gas production is estimated to reach around 4.6 million barrels of oil-equivalent per day. This will make it the largest publicly listed energy company in the world in terms of total production.
  2. Just eight years ago, Rosneft was completely sidelined by private sector energy companies in Russia. It is now the undisputedly the largest energy company in the country and will look to build on its success through its government links, which will enable it to tap the country’s vast energy reserves without restriction.
  3. The deal is a huge financial burden on Rosneft and will increase its total debt to around $71 billion. However, according to analysts in the country, its investment grade credit rating will remain intact, considering that the company has strong cash flows and can manage to pay off the entire amount in 14 years through annual repayments of around $5 billion.
  4. Rosneft can benefit from BP’s technical expertise and international clout. This may deter it from pursuing deals with other western oil majors such as ExxonMobil and Royal Dutch Shell, who are looking to gain access to Russia’s energy reserves.

We will be updating our $46 price estimate for BP based on recent developments and the upcoming earnings release.

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Notes:
  1. Rosneft to pay $55 bn in TNK-BP takeover, FT, October 2012 []
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