How Does BP Plan To Ride Through The Oil Crash?
The recent crash in oil prices has made BP’s (NYSE:BP) road to recovery from a massive setback it faced as a result of the 2010 Deepwater Horizon incident even more challenging. Just when the company’s underlying business seemed to be on the cusp of a turnaround with new upstream projects adding to both production and profitability, it now faces a potentially prolonged cycle of depressed commodity prices, coupled with huge uncertainties related to additional liabilities from the oil spill incident. In this article, we look at the key strategic steps BP is taking to ride through the commodity down cycle.
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. We currently have a $43/share price estimate for BP, which is almost in line with its current market price.
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Lower Capital Spending
In line with its peers, the most important strategic move that BP has announced in response to the changed crude oil price environment is reducing its capital spending on growth projects. The company recently cut its 2015 capital budget by 20%, or $5 billion, from the initial guidance of around $24-26 billion. Most of the reduction in capital spending is expected to come from the paring back of exploration activity and the deferral of new upstream projects, both of which will result in a much slower long-term production growth for the company. However, the move will help BP sustain its shareholder distributions at current levels while conserving its balance sheet for additional liabilities from the 2010 oil spill incident that killed 11 people and sent more than 3 million barrels of oil spewing into the Gulf of Mexico. [1]
Continued Divestments
BP has changed a lot since the 2010 Deepwater Horizon incident, primarily due to divestments made by the company in order to fund charges associated with the oil spill fiasco. By the end of 2013, the company had raised around $38 billion from the sale of its interests in several upstream and downstream installations including wells, pipelines, and refineries. However, last year, it further extended its divestment program by around $10 billion, which it plans to complete by the end of this year. To date, the company has already signed divestment agreements worth $4.7 billion, which include the sale of its assets on the Alaskan North Slope and in the Gulf of Mexico in the U.S., and a farm-down of its interest in a key gas project in Oman. Further divestitures will reduce its net capital expenditures and help fund shareholder distributions. [1]
Efficiency Improvements
In addition to lower net capital spending in its upstream business, where the company is prioritizing value over volume, BP is also targeting significant efficiency improvements in its downstream business. The company plans to enhance its feedstock advantage in the U.S. by increasing the proportion of cheaper crude oil — primarily from Canadian oil sands and the Bakken shale — processed by its refineries from around 70% currently to almost 90% in the medium term. In addition, it also plans to reduce its unit breakeven cost in the petrochemical business by divesting some of the highest-marginal cost assets and licensing its proprietary technology to third parties. Through these measures and a streamlining of its downstream operations across verticals, BP plans to deliver annual cost savings of around $1.6 billion by 2018, versus a 2014 baseline. [1]
We have factored in the potential impact of these strategic steps being taken by BP in our current price estimate for the company and will review its performance against these goals in the coming years.
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Notes:- BP 2014 Full-Year Investor Update, bp.com [↩] [↩] [↩]