Approximately a year ago, when Chief Executive Bob Dudley of BP (BP) unveiled the third-quarter results, he announced a 10-point plan for the company, confidently stating that it had reached "a definite turning point." Twelve months later, it is interesting to see that after a stronger-than-expected quarter the board feels confident enough to announce a 12.5% increase in BP's quarterly dividend payout (the second increase since the Gulf disaster interrupted payouts) to US$0.09 (up almost 29% from $0.07 for the same three months of 2011) -- still below the $0.14 quarterly payouts BP made before the Gulf of Mexico disaster.
The question, though, is: Is this "reset" in dividends sustainable? Let's first delve into BP's announced results.
Q3 2012 Results
In its first quarterly announcement following the high-profile sale of its stake in Russian joint venture TNK-BP (OTC:TNKBF), the group revealed profits of $4.69 billion -- an 11% fall owing to the impact of asset sales to pay for the Gulf of Mexico disaster. But with net income of $5.2 billion, it was well ahead of expectations of around $4 billion.
Third-quarter underlying replacement cost profit, which strips out the effects of changes to the value of inventories and one-offs, fell just over 5% to $5.17 billion compared to $3.7 billion reported for the previous quarter and down from the $5.5 billion for the third quarter of 2011. The profit measures are given on a "replacement cost profit" basis, the oil industry standard that strips out changes to the value of their oil inventories. Production of oil and gas, excluding TNK-BP, was 2.26 million barrels of oil equivalent per day. That's flat compared with the previous quarter, but down 3% from a year ago.
Underlying profits in the "upstream" exploration and production division fell 31%. The impact of divestments, maintenance in the North Sea and Alaska, and the impact of Hurricane Isaac in the Gulf all helped in offsetting increased production from new projects and maintenance completions in the Gulf. With the maintenance season completed, BP is expecting higher underlying profits in the fourth quarter, although divestments completing in that quarter would partially offset that.
This is clearly a shrinking business, as lower production and lower crude prices took their toll but were partly offset by strong refining margins and the company's highest availability of refinery capacity in years. BP's "downstream" refining and marketing operations generated record profits, with BP reporting an 80% increase in underlying profits, aided by an increase in refining margins across the sector. However, BP warned that margins and volumes were both likely to decline in the fourth quarter.
From Russia With Love?
BP's results come just over a week since it confirmed it will sell its 50% share in the Russian joint venture TNK-BP to Russian state-owned firm Rosneft (OTC:RNFTF) for a total consideration valued at $27 billion. BP is to trade its 50% stake in TNK-BP for a nearly 20% share in Rosneft and $12.3 billion in cash. BP also will receive two Rosneft board seats.
Having finally sorted out its Russian joint venture, BP's aim is to establish a close relationship with Rosneft. Rosneft is currently one of Russia's main oil majors, and following the transaction with BP is likely to become one of the world's biggest oil company.
Commenting on the deal, Dudley said:
Rosneft is a great company with great opportunities. I believe our agreement will remove considerable uncertainty for our shareholders about BP's future in Russia and will secure for BP a valuable and truly distinctive position in one of the world's largest and most important oil and gas provinces.
If true, while other explorers may yet strike deals in Russia, none are likely to be able to replicate BP's "seal of approval" from Russian President Putin, or have such close access to Rosneft boss Igor Sechin. Even as Exxon Mobil (XOM) and Rosneft proceed with their $3.2 billion Arctic and Black Sea drilling venture, future contracts of a similar scope are unlikely to be repeated -- effectively locking out BP's major competitors. Exxon's other partnerships in Russia include the Sakhalin Island oil project in the country's Far East that dates back to the early 1990s. Again, Rosneft is Exxon's partner in this project.
Still, BP has a long way to recover as it has fallen to a distant fifth in the top tier of oil and gas companies following the Gulf of Mexico disaster, after state-owned Saudi Aramco, OAO Gazprom (OTCPK:OGZPY), Exxon Mobil, PetroChina (PTR) -- with Royal Dutch Shell (RDS.A) and Chevron (CVX) close behind.
Gulf of Mexico Aftermath Still Unclear
BP was producing over four million barrels of oil a day before the Gulf of Mexico disaster. It is unlikely to return to those levels anytime soon. Since then, BP has divested large parts of its business to raise cash to pay compensation for the spill. BP has already spent $14 billion on cleanup operations and paid out over $8 billion in claims.
BP is in talks with the Department of Justice and other U.S. agencies regarding a final settlement for the 2010 disaster, offering an additional $7.8 billion in settlement to individuals and businesses affected by the disaster on top of all the other costs. Despite this, an out-of-court deal has not materialised. BP has warned that while discussions were ongoing over a possible settlement regarding civil and criminal charges related to the spill, "a number of unresolved issues remain and there is significant uncertainty as to whether an agreement will ultimately be reached."
In August, the Department of Justice made a court filing reasserting its case for gross negligence with regard to the accident. Such a finding could cost BP $21 billion under the U.S.'s Clean Water Act. The trial is now scheduled to start in late February 2013.
On Tuesday, Dudley outlined (see the article linked to above) BP's preparedness for a court battle with U.S. authorities over the spill:
BP has repeatedly said that it is willing to settle on reasonable terms but otherwise continues to prepare vigorously for the start of trial.
As per Dudley's statement (see the article linked to above):
BP's performance and the strong progress we are making in transforming the company give us the confidence to increase distributions to our shareholders.
We are on track with our strategy to 2014 and are laying the right foundations for sustainable growth during the coming decade.
Clearly, BP is on track for delivery of its 10-point plan for 2014, which includes plans to deliver free cash flow growth, focusing on increasing investment in the upstream activities, and the board giving a signal of its confidence regarding the medium-term of the dividend payout.
Overall, as long as the oil price remains around $100 per barrel, and with BP moving upstream, it reckons its cash flow will grow by more than 50% to $33 billion by 2014. This should result in plenty of surplus cash to sustain it to pay a higher dividend, but only if and when a favorable outcome emerges from its impending court case.
While BP is ahead of its schedule to raise $38 billion from asset sales, a figure that is identical to BP's estimate for the 2010 disaster, this is ignoring any possible negative outcome in U.S. courts next year. Therefore, the uncertainty over the final bill for the disaster remains by far the biggest issue hanging over BP and the group's near-future earnings and dividend prospects.