The news on BP is getting better - so should you buy in?

By MoneyWeek Editor John Stepek Aug 02, 2010

John Stepek

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Things have been looking up for BP recently.

They've got themselves a new, more media-friendly American chief executive, Robert Dudley. The hole in the Gulf of Mexico looks as though it's well on the way to being plugged. The worst of the catastrophe has passed. Now it's all about the clearing up process.

But what does it all mean for BP as an investment? Let's have a look.

The company's second quarter results revealed a pre-tax charge of $32.2bn for the Gulf of Mexico oil spill costs. Excluding this, replacement cost profit was $5bn, up on $2.9bn the year before. The group is also planning to sell off $30bn in assets to help fund the spill cost, and to cut net debt to $10-$15bn in the next 18 months, from $23bn.

The Gulf of Mexico spill will hang over it for a long time. There could be further nasties in store. And while $32.2bn is a lot of money, it's still below the worst-case estimates, which are upwards of $50bn.

But it does seem far more likely now that the company will get back on track. Talk of bankruptcy has faded away. And the background chatter about the oil spill seems to be turning more positive, with reports of scientists arguing that it's nowhere near as bad as it was originally portrayed.

Unless something else unexpected happens, the worst seems to be behind the stock. But does that make it a buy?

We pointed out a couple of months ago that BP was now more of a punt than a nice big safe blue chip. And to be honest, that advice still stands. The main difference now is that the risk/reward profile is that bit less extreme.

There are still a lot of potential hazards hovering around the stock. It might end up being a takeover target, sure, which could mean plenty of upside from here. But it might also be hit harder by legal costs and a US backlash than it is currently predicting.

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And as The Telegraph's Questor page points out, even when the group returns to paying a dividend, it may take the opportunity to do so at a lower yield. "when Mr Dudley reinstates the payment, he may decide not to 'let a good crisis go to waste.' The dividend could be reinstated at a lower level so that it is not such a financial burden on the group in turbulent times."

On top of that, 70% of analysts have stayed bullish about BP – never a good sign…

So hold them if you've still got them (unless you bought at £3, in which case you might be tempted to take at least some of your profits). But if you want to buy an oil major for income, you'd be better off looking at Royal Dutch Shell. As Fiona Maharg-Bravo points out on Breakingviews.com, by 2012, both oil majors aim to be producing around 3.5m barrels of oil a day. However, Shell will be growing (from its current 3.3m barrels) while BP will be shrinking (from around 4m barrels just now) as it sells off assets. "For Shell, unlike BP, the best is yet to come."

Of course, Shell – or any other oil major – could be hit by a similar disaster tomorrow. But you'd hope that they'd learn from BP's mistakes. The company is on a 6% prospective yield, and a p/e of nine.

Alternatively, if it's a risky bet in the oil sector you're looking for, you could go the whole hog and look at some of the exploration minnows. These are much riskier than BP of course, but the upside is also far greater. Tom Bulford, who writes the free Penny Sleuth email, did a recent cover story for MoneyWeek magazine in which he took a look at the most interesting explorers around the world.

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Published in Tips & advice | More articles by John Stepek

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  • 1. Tom O'Neill

    (02 August 2010, 12:30PM)  Complain about this comment

    At least one major pension fund believes Shell is a good investment:
    that's the BP Pension Fund, which holds no BP shares at all...
    http://ftalphaville.ft.com/blog/2010/06/28/272276/the-pension-fund-thats-not-invested-in-bp/

  • 2. Dilip

    (02 August 2010, 01:57PM)  Complain about this comment

    Yes but which Royal Dutch Shell share would one go for? There's one called "A" and one called "B"
    Thanks

  • 3. JGH

    (02 August 2010, 02:22PM)  Complain about this comment

    Dilip, slightly different tax treatment bvetween the two shares means that RDSB are the ones to go for if you are in the UK. If you are in The Netherlands go for the RDSA shares.

    John

  • 4. IJ

    (02 August 2010, 02:28PM)  Complain about this comment

    BP is no less a "punt" now than it was when the price was 30-odd% lower. It's no less "risky" than it was when newspapers were writing about impending bankruptcy. It is only perception that has changed. The idea that Shell or any oil major is somehow less risky than BP is probably a perception too, which means we should probably still favour BP among oil majors, though not to the same degree as when it was at GBP3 or lower. I can accept that as human beings it is difficult to follow this basic rule of investing (i.e. buying when the news is awful and the mere thought of doing it makes you feel sick), but we should at least recognise it. I can also understand that from Moneyweek's point of view pushing BP may seem somehow irresponsible. But it's the advice that seems irresponsible that is often the best and in fact the least dangerous. You should have pushed BP harder when it was at GBP3.

  • 5. Stephen B

    (03 August 2010, 10:46AM)  Complain about this comment

    i got out of the bp trade last week, and dont plan to get back in anytime soon.
    the share price cannot return to the original price as it is effectively going to be a much smaller company. i think the price now represents fair value and can't see it moving much for the next couple of years from here (other than down in the event of another crash)

  • 6. yo yo

    (07 August 2010, 12:05PM)  Complain about this comment

    IJ,

    The reason BP is less "risky" now is because there is no longer oil pi**ing into the gulf of Mexico. Perception has nothing to do with it. It's not that the oil spill is perceived to have stopped. It has stopped. Hence the 30% bounce. The ability to contain this well was by no means a certainty - I worked onboard the rig that discovered Thunderhorse so I know what I'm talking about.
    While the new strategic direction of BP has yet to fully play out, which in itself carries risk, by plugging the well BP is a far less risky investment prospect.

    IMO

  • 7. John Morrison

    (11 August 2010, 07:58AM)  Complain about this comment

    The reason that the BP pension scheme does invest in BP is that it's not allowed to. I assume this is to ensure to keep clear separating betweeen the management of the company and scheme.

  • 8. Petroman

    (21 October 2010, 06:16PM)  Complain about this comment

    BP will be far more profitable when it is smaller. BP also has Oil and Gas fields coming on stream in Egypt, West Africa,Iraq,Russia and
    elswhere, further info and i'll get nicked. Drilling in the Gulf is hazardous
    because the sea bed is unsound ( crumbley) ask any drillers operating in the area at any depth, there are many blow outs every year in the Gulf, shallow blow outs are easy to fix! BP now have unique invaluable experience to evolve technology to overcome deep well drilling problems in the gulf. Their shares are a great buy, If you wimps miss out then you have only yourselves to blame.

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