BP plc (NYSE:BP) has failed to beat analyst expectations with its reported EPS of $0.85, representing an earnings surprise of -24.85%. This performance was mostly attributed to drop in crude oil prices from 1Q to 2Q. Moreover, the magnitude of the oil spill liability is still uncertain. I believe that investors should hold onto BP, as it has the financial muscle to cover the oil spill costs, as long as the company is not found negligent, which could result in civil and criminal charges.
Moreover, after almost three years BP has come up with its own estimates of how much oil had been spilled. BP believes that the government has overestimated the oil spill by 20%. Martin Blunt, a BP expert, believes that the miscalculation has been caused by doubling the "compressibility from the value measured on Macondo rock samples" by government scientists. However, if the government agrees to this claim made by BP, it could help the company save almost $7 billion.
Operating Cash Flow and Dividends
Operating profits were up 10% YoY and reached $4.4 billion in 2Q'13. This shows that the company has enough cash flow strength to meet its expected oil spillage cost before it decides to take more leverage or decrease dividends. The company has managed to substantially decrease its debt to $18.2 billion. BP offers an attractive dividend yield and can afford to cut down dividends and still be competitive among its peers.
Exxon Mobil Corporation (NYSE:XOM)
Chevron Corporation (NYSE:CVX)
Total SA (NYSE:TOT)
Source: Yahoo Finance
The figure below highlights the sources and uses of cash flows for the company. It shows that the company has managed to gather enough cash through divestments. This cash can be used to pay off any oil spill related cost. The company also plans to produce $30-$31 billion in the form of operating cash flows by the end of 2014. Moreover, capital spending is likely to remain in the range of $24-$27 billion in 2014.
BP is heavily dependent on its operations in the U.S., and the company might not be able to meet its target growth rates because it will face more scrutiny from different government institutions to comply with much higher safety standards. Moreover, China (second largest oil consumer after the U.S.) is expected to experience a further slowdown along with the Eurozone, where the financial crisis could result in excess oil supply, driving down prices in the short term.
Future Growth Prospects
The divestment of TNK-BP to RosNeft is another important step, as it will remove the uncertainty from the Russian business and allow BP to focus on other upstream projects. BP now owns around 20% of the world's largest listed oil producing company. The company is all set to adopt a refinery modernization program, including the expansion of the Whiting refinery, which will boost its downstream revenues. The Whiting refinery would eventually enable the company to produce up to 15 million gallons per day. BP, along with some other companies, is heavily investing in Alaska to benefit from tax reduction and untapped resources. The company is also doing well in India, and the government is eying to increase gas prices to $8-8.5 per mcf.
Enterprise Value/ Revenue
Next 5 yr growth rate per annum
Source: Yahoo Finance
As is evident from the table above, BP's multiples are at a discount as compared to its peers, which means that the multiples have room to expand. I believe $40.53 is a great entry point, as the company is facing litigation risks and its price is already low. The company compensates for the higher risk by offering a healthy dividend yield along with the highest growth rate for the next five years to come.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.