Ten iconic UK shares: BP

The next in our series of articles using fundamental analysis to examine the prospects of 10 iconic FTSE companies.

BP logo
Source: Bloomberg

Reasons to watch

1.  Strong dividend yield supported by good cashflow

2.  Russian sanctions will hinder the Rosneft division

3.  Ongoing costs from the Deepwater Horizon Spill


Once known as British Petroleum, now simply as BP, the company has been a part of the UK industrial landscape for over a century. Its interests in what is now Iran meant that it became of vital importance for British imperial interests, with both world wars confirming the need to maintain control of oil supplies. Its position in post-war Iran was clouded by involvement in political machinations, and in the latter half of the twentieth century it acquired new interests outside of the Middle East.

A somewhat gung-ho approach to risk in the 1960s and 1970s meant that it both reaped substantial rewards and earned opprobrium. The Torrey Canyon disaster of 1967 was the worst example, as a ship chartered by BP caused the worst-ever oil spill in UK waters.

The British government slowly sold its interest in BP over a number of years from 1979 onwards and the company continued to evolve, acquiring interests in Russia for the first time in 1990. This would become both a strength and weakness in years to come.

The Deepwater Horizon spill of 2010 was the seminal event in recent BP history. The ramifications have continued to dog the company, with litigation and costs still being calculated. 

Fundamental analysis*

BP’s figures came in ahead of expectations, confounding a few bears that had expected a dire set of results thanks to the ongoing decline in the oil price. Revenue was down 2.8% to $93.9 billion, as opposed to the expected $93.4 billion, while the key underlying replacement cost profit figure (which includes the replacement cost of oil supplies) was down 18% to $3 billion, squeaking in ahead of the $2.9 billion expectation.

Oil prices are still down heavily over the quarter, but BP still manages to maintain good cash flow, thanks to rising production of oil and gas. Overall BP generated $25.51 billion in cash over the first three quarters of the year, up from $15.69 billion in the same period a year ago. A company throwing off this much cash still has much to recommend it, especially where dividend hunters are concerned.

Nonetheless, there are still reasons for worry. The most obvious is the 20% stake in Rosneft, the Russian firm. With sanctions beginning to bite thanks to Vladimir Putin’s actions in Ukraine, Rosneft is going to feel the pinch in coming years, a fact that has not escaped BP, with the firm warning about a real impact on this part of its business.

There is, of course, still the Deepwater Horizon spill to consider. Recently the firm was found guilty of gross negligence and willful misconduct, with potential penalties topping $18 billion, and while BP’s trust fund now stands at $20 billion, it is likely that further costs and charges will emerge.

With a yield of 5.3% BP is still a natural destination for those looking for dividend income. However, a PE of 9.5 reflects the uncertainty surrounding the company – these problems may go away in time, or at least be reduced in their impact, but for now they will remain as warnings for potential investors.

Having climbed laboriously higher for the first half of the year, BP shares then dived 20% from their high of 520p, hitting a low around 420p. Since then the buyers have returned, no doubt tempted by the dividend yield, and while the rally continues immediate targets are 450p and then 463p.

*What is fundamental analysis?

Fundamental analysis seeks to examine a security by measuring its value through the use of financial and qualitative factors. Essentially, fundamental investors believe that each share is a piece of a company, and that the company can be analysed to determine whether the current share price indicates whether the company itself is undervalued (trading at a discount) or overvalued (trading at a premium).

The overall objective is to determine the underlying value of a company, and use comparisons with similar companies to determine if the business is likely to be successful or otherwise. Crucially, a company cannot be overvalued or undervalued in isolation. Instead, fundamental analysis compares a company to its peers in the sector, to the broader market, and to past valuations, to determine whether the current valuations are appropriate. 

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