BP Revised To $47: Improving Production Outlook Outweighs Spill Costs Uncertainty

May 21st, 2013 by Trefis Team
+9.56%
Upside
38.52
Market
42.20
Trefis
BP: BP logo
BP
BP

Quick Take

  • We have revised BP to $47 based on production growth from new projects although rising oil spill expenses continue to impact its valuation.
  • In a bid to reverse declining volumes trend seen over the last few years, BP started as many as five new projects in 2012 alone and has another 10 projects under advanced development stages that are targeted to be brought online by 2014.
  • Net incremental production volume from the new projects started in 2012 and expected to be ramped up in 2013, is expected to reach almost 115,000 barrels of oil equivalent per day.
  • Uncertainty around oil spill expenses due to disagreements with U.S. courts on the interpretation of certain terms is driving higher claims associated with business economic losses.

We recently updated our price estimate for BP Plc (NYSE:BP) to $47 apiece, which implies almost 10% upside to the stock from its current market price. Our estimate is primarily based on expected production volume consolidation by 2014, as the company ramps up production from new facilities that should compensate for asset sales in recent years. Higher crude oil and natural gas prices should drive better profitability in the long run for its upstream and downstream divisions. However, rising claims associated with the 2010 Deepwater Horizon disaster continue to be an overhang for the energy giant’s outlook.

Relevant Articles
  1. BP Stock Up 7% This Year, What’s Next?
  2. Flat Since The Beginning of 2023, Where is BP Stock Headed?
  3. What’s Happening With BP Stock?
  4. BP Stock Up 11% Over Last Month. What’s Next?
  5. BP Stock Up 8% Over Last Month. Will It Continue?
  6. Should A Benchmark Price Correction Weigh Heavily On BP Stock?

Headquartered in London, BP is one of the world’s leading oil & gas multinationals with operations in more than 80 countries. As a vertically integrated oil and gas major, it has both upstream as well as downstream operations. The upstream division primarily includes exploration and production activities for oil and gas while the downstream division focuses on producing refined petroleum products such as gasoline.

See Our Complete Analysis of BP

Incremental Production Output To Offset Impact Of Divestments

BP has changed a lot over the last few years, primarily due to divestments made by the company in order to fund charges associated with the 2010 oil spill fiasco. By the end of 2012, the company had announced divestments of around $38 billion. The majority of the assets sold primarily include upstream installations, pipelines and wells while the company has managed to retain most of its (~90%) proven reserves. This has led to a sharp decline in BP’s production volumes over the last three years. The volume of total hydrocarbons produced by its subsidiaries has fallen by more than 21% to 1,963,000 barrels of oil equivalent (BOE) per day since 2010. [1]

In a bid to recover its lost ground, BP started production from as many as five new projects in 2012 alone. It also plans to bring another 10 projects online by 2014. Therefore, we expect the company’s production volume to bottom out by 2014 and gradually increase thereafter. Net incremental production volume attributable to BP from the new projects brought online in 2012 is expected to reach around 115,000 BOE per day by the end of this year itself. Below is a summary of upstream projects brought online by the company recently.

  1. BP and its partners started production from the Skarv field in the Norwegian Sea on December 31, 2012. Production volume from the field is anticipated to ramp up to around 125,000 barrels of oil equivalent per day (boe/d), monthly average rate within the first six months of production. However, output is expected to peak at approximately 165,000 boe/d by the end of this year. BP’s 23.84% stake in the project will imply net incremental production of around 40,000 boe/d attributable to the company at peak production. [2]
  2. BP also holds a 56% stake in the Galapagos project that started production last year in the Gulf of Mexico. The company expects its share of the production from this project to increase from around 15,000 boe/d to around 26,000 boe/d, as production ramps up by the end of this year. [3]
  3. The production from the Plutao field, part of the Plutao, Saturno, Venus and Marte (PSVM) project in Angola started last year is expected to reach around 70,000 barrels of oil per day over 2013. PSVM is expected to produce as many as 150,000 barrels of oil per day by 2014, as the other three fields, Saturno, Venus and Marte come online. BP holds a 26.7% stake in the project as an operator.
  4. The production from the Clochas and Mavacola fields in Angola started in May last year, and were reportedly producing around 65,000 boe/d by the end of last year. According to the company’s annual report, it is entitled to 26.7% production from the project.
  5. BP also successfully started production from its Devenick gas project in the North Sea last year. Holding almost an 89% stake in the project, the company is expected to see its oil equivalent production volume boosted by more than 15,000 boe/d. Total production capacity of the project is reported at 100 million cubic feet per day. [4]

Stable Growth In Crude Oil  Price Realization Expected

As far as price realization is concerned, at least for oil, we forecast prices to increase by a 2.5% CAGR over the forecast period in contrast to almost 15% CAGR seen in the Brent Crude prices since May 2003. This is because we believe rising oil production in the North America region, mostly coming from unconventional sources such as shale oil in the U.S. and oil sands in Canada, will increase oil supply from non-OPEC countries significantly and limit the pricing power of OPEC countries. We also realize that negative supply shocks might increase oil prices and volatility in the short run cannot be ruled out though in the long term fundamentals appear to support a much smoother demand-supply equation than seen in the past. According to the IEA’s latest report, U.S. production is likely to grow by almost 3.9 million barrels of oil per day by 2018, which will change it from the largest importer to a net exporter of oil. [5]

Most of the incremental demand fueling higher prices is seen coming from the emerging economies such as China and India, where growing population and rising income levels make a solid case for higher energy requirements. The rising demand from these economies is expected to more than offset declining consumption seen in the European countries.

Higher Oil Spill Expenses Hurt Its Valuation

Since the 2010 oil spill incident in the Gulf of Mexico, BP has made total payments amounting to as much as $32.8 billion related to the accident. According to its 2012 income statement, the cumulative charges recognized by the company stood at $42.2 billion. However, it seems that the company will have to shell out a lot more going forward as the claims relating to the incident keep climbing. In its 2012 annual report the company admitted that claims associated to business economic losses were being paid at a significantly higher average amount than previously estimated, as per its interpretation of certain protocols established in the economic and property damages settlement agreement. It reached out to the court with its position, but the court upheld the claims administrator’s interpretation of the agreement on March 5th 2013. BP says that it “strongly disagrees” with the ruling and intends to pursue all available legal options to challenge it.

Initially BP had set aside $7.7 billion for claims associated to business economic losses, which was revised to $8.5 billion earlier this year. However, due to inherent uncertainties attached to these claims as the company continues to pursue available legal actions against rising claims, the company has nullified earlier guidances for these expenses and has not provided any new figures around it as of now. While the company is still trying to get its way in the matter, we expect that its costs could rise meaningfully if its fails to do so.

We currently estimate the total cumulative spending to amount to ~$47.2 billion. However, the company’s valuation is highly sensitive to cash payouts for these claims and a 20% higher cash payout than expected will imply a 5-10% downside to our current estimate.

Understand How a Company’s Products Impact its Stock Price at Trefis

Notes:
  1. BP Annual Report 2012, www.bp.com [↩]
  2. BP Begins Production From Skarv Field, Norway, www.bp.com [↩]
  3. BP Starts Galapagos Oil, Gas Project in Gulf, www.wsj.com [↩]
  4. BP North Sea Devenick Gas Project Starts, www.bbc.co.uk [↩]
  5. US shale oil supply shock shifts global power balance, www.bbc.co.uk [↩]