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BP, One Year After the Spill: A Slick Buy?

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  • BP's Game of Russian Roulette

  • When BP first announced its Arctic venture with Rosneft on Jan. 14, its shares gained $1.75 and reached their year-to-date high near the $50 mark. Yet since the negative headlines and Rosneft deal "failure premium" began to be factored into BP shares, the oil company's shares have fallen three times as much as the original Rosneft "lift."

    "Obviously it will be perceived negatively if this deal doesn't work out in the end and people will say BP didn't do its homework, but one thing everyone should realize is the fact that when the deal was announced BP stock didn't gain that much but once the deal ran into trouble BP stock came down a lot," Oppenheimer's Gheit said. At the same time, there's the short-term oil prices lift that BP has also not been afforded by the market.

    So is Rosneft a headline risk that has been overblown as far as it relates to the BP financial outlook?

    To answer this question requires both a short-term and long-term view of BP.

    The short-term view dictates that the Rosneft deal is a headline risk and headline risk only.

    "To discount today what earnings BP might gain from Arctic production ten years down the road is quite hypothetical," said Raymond James' Molchanov. "This doesn't mean much in terms of today's financial dynamics for BP, and it's not exactly an issue of management credibility, but it is allowing for criticism of management judgment," Molchanov said, adding, "for the record, my view is that managing the TNK-BP relationship is truly complicated."

    Argus Research's Weiss tends to the view that it is a headline issue that's been hyped beyond any observable financial metric, yet added, "This was the first big thing to come out of BP's Dudley-led management team since Macondo, and it seems like things that could have been covered upfront weren't."

    The only short-term risk that exists for BP investors is if BP were to cave in to demands from its partners in TNK-BP to get the Rosneft deal done, and any "opportunity cost" in losing the battle. The valuation that the partners have asked for has been widely ridiculed as grossly overvaluing the TNK-BP venture, and Dudley has publicly stated that BP has offered the partners a number of deals short of giving up BP shares, which would punish existing shareholders.

    Analysts also noted that in this case, the Kremlin is actually supporting BP, which wasn't the case when Dudley was forced to leave the country during his tenure as head of TNK-BP. Indeed, on Wednesday, Russian Prime Minister Vladimir Putin told reporters after his annual address to Russia's Parliament, "As for cooperation with such a respectable company as BP, we would welcome that both for TNK-BP and for Rosneft," according to a Reuters report.

    Reuters also quoted Putin as saying, "When the British colleagues came to us with their proposals on working with Rosneft, I said we would support this. At the time, no-one told me personally or Rosneft about any mutual obligations to TNK-BP. We simply did not know anything about this."

    "I don't think BP should give in and don't think they will," said the Raymond James analyst. "I think BP understands that as lucrative as a potential Arctic is, diluting shareholders today in return for something that could be ten years out in the future is rarely a smart move," the analyst added.

    Argus Research's Weiss said investors can't completely disregard the risk that BP makes a larger financial concession than currently advertised to assuage its partners and based on its level of desperation to get the deal done. Still, he thinks capitulating is not a likely end result. More importantly, the Rosneft fiasco does raise the critical long-term issue for BP since its asset sales began.

    The long-term view starts with the fact that a byproduct of BP's asset divestitures is a reduction of production in the range of 300,000 to 400,000 barrels of oil.

    The Rosneft deal was viewed as a future path to growth for BP, and the biggest issue any integrated oil company faces is access to resources. "They have to worry about where production is coming from not just today but out into the future, and if BP is unable to work out the deal, someone else steps in and this path is taken away," Weiss said.

    Indeed, ExxonMobil recently came to an agreement on additional work in Russia and has an existing agreement in the Sakhalin Island. At the last Davos World Economic Forum, Exxon Mobil CEO Rex Tillerson could be seen in a friendly embrace with a Russian government minister key in the energy business after the deal was struck. "Exxon is definitely a possibility," Weiss said.

    Oppenheimer's Gheit took issue with the idea that Dudley could be judged on the Rosneft outcome, saying it "absolutely was not the case" that there was any management credibility issue. "I visited him in Moscow five years ago when he ran TNK-BP and he knows the business well. This is a big company and all the big oil companies are looking for what will happen to the company five, ten, fifteen years from now. They have to plant the seeds now beyond Dudley's retirement, and it's the same for Exxon and Chevron," Gheit said.

    The analysts also noted that since the oil spill BP has won new leases in Angola, India -- through a joint venture with Reliance Industries -- and in Australia, all major oil producing countries that are offering BP offshore acreage less than year after Deepwater Horizon.

    The Oppenheimer analyst concluded, "Dudley needs to replace reserves, and the question is how soon and via what projects, but no project will give BP the 300,000 to 400,000 barrels of production they divested."

    "What I'll say is that Bob Dudley knows how Tony Hayward felt. It's a very different situation in substance, but as far as management trying to deal with the situation, it has a similar flavor in terms of level of complexity and sensitivity, including political sensitivity," Raymond James Molchanov concluded on the one-year anniversary of the oil spill.
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