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Shares of BP (NYSE:BP) jumped up following the release of a solid third quarter earnings report.

BP furthermore announced that it aims to shed more assets, and plans to return those cash proceeds through an increase in the dividend and share repurchases.

Given the reduction in leverage, the low earnings multiple and attractive dividend yield, accompanied by share repurchases, I am optimistic about BP's long term prospects.

Third Quarter Results

BP generated third quarter revenues of $98.20 billion, up 4.0% on the year before.

Earnings attributable to shareholders came in at $3.50 billion, down 33.6% on the year before.

Note that underlying replacement cost profits came in at $3.69 billion, down 26.4% on the year before. Underlying earnings per share fell from $1.58 to $1.17 per share. Note that consensus estimates for underlying replacement cost earnings stood at just $3.17 billion for the quarter.

CEO Bob Dudley commented on the third quarter performance, "In 2011 we set a clear target for operating cash flow in 2014 and we are confident in its delivery. The strong operational progress we are now seeing across the group, combined with our focus on disciplined investment, also underpins our confidence in growing long-term sustainable free cash flow and being able to increase shareholder distributions. Today's announcement is a further demonstration of this."

Looking Into The Results

BP reported declining earnings, mostly on the back of a very strong performance in the third quarter of 2012. Upstream earnings fell by 15% to $4.16 billion, as quarterly production came in at 3.17 million barrels of oil-equivalent, including the 965,000 production share from BP's stake in Rosneft.

BP's controlled production came in at 2.21 million barrels of oil-equivalent per day. This was down 2.3% on the year before. Adjusting for divestments and joint ventures, production would have risen by 3.4% on better weather and production growth in the North Sea and Angola.

The main downfall in earnings were plunging earnings at BP's downstream assets driven by a much less favorable refining environment. Earnings fell by three quarters to just $616 million.

The contribution from BP's stake in Rosneft generated earnings of $792 million which compares to last year's earnings of $1.28 billion in TNK-BP.

Valuation

BP ended its third quarter with $29.50 billion in cash and equivalents. Total debt stands at $50.28 billion, for a net debt position of $20.1 billion.

Revenues for the first nine months of the year came in at $301.1 billion, up 4.5% on the year before. Earnings attributable to shareholders more than doubled to $22.7 billion, although underlying replacement earnings came in at $10.6 billion.

At this pace annual revenues of $400 billion and underlying earnings of $14 billion should be attainable.

Factoring in gains of 3%, with the ADR's trading around $45 per share, the market values BP at $142 billion. This values equity in the firm at around 0.35 times annual revenues and 10 times annual earnings.

BP currently pays a quarterly dividend of $0.57 per share, for an annual dividend yield of 5.1%.

Some Historical Perspective

Over the past decade, shareholders have not seen capital gains, but totally relied on dividends for any returns on their investments. Shares peaked around $80 per share in 2007, but shares fell to lows of $25 on the back of the Macondo disaster.

Shares have recovered, after initiating a dividend again, although they continue to trade at levels below the disaster occurred, trading around $40 per share in recent times.

Between 2009 and 2012, BP has increased its annual revenues by a cumulative 58% to $388 billion. After reporting a $3.7 billion loss in 2010, BP reported earnings of $11.6 billion last year.

Investment Thesis

Investors are happy with BP's report and the announcement of a dividend hike of three cents per ADR, and the focus on share repurchases.

Note that BP only divested $0.4 billion in assets through the quarter, marking year to date returns of $21.6 billion. Note that BP aims to divest another $10 billion worth of assets through 2015, to be used mainly for share buybacks.

In fact, BP already repurchased $3.3 billion worth of shares over the past quarter as part of its $8 billion share repurchase program. As such BP retired 2.3% of its shares outstanding over the quarter, at an annual rate of roughly 9%. Note that investors furthermore stand to receive a 5% dividend yield, implying that BP is returning cash at an incredible rate of 14% to its investors at the moment.

Despite these paydays, BP has cut its net debt position by some $11 billion over the past twelve months, reducing the net debt position to $21 billion.

Note that BP has left most of the Gulf of Mexico disaster behind itself. It took $39 million in quarterly charges, and $280 million in charges so far this year. So far the company has already sold $38 billion of assets to finance the clean-up costs which have risen to $42.5 billion by now. These direct costs, and the depressed valuation of some of the asset sales could easily peg the total cost of the disaster for BP to around $50 billion by now, or around $17 per ADR.

The progress with the clean-up and the deal made in Russia, as BP now simply holds an equity stake in Rosneft, have "cleaned"up the company's issues and its balance sheet. For now the focus is again on production growth in the coming years and beyond, and shareholder returns.

Given the relatively solid balance sheet, low price-earnings ratio and high dividend yield, BP continues to offer great value for its shareholders. I see shares trading in a $50-$60 trading range next year, once shareholders leave the past behind and look forward to a more profitable future.

Source: BP: Problems Are In The Past, Investors Look Forward To Their Payday