Why BP Made Concessions

(BP dividend suspension story updated for reports of BP plan to sell debt)

NEW YORK ( TheStreet) -- BP ( BP) chairman Carl-Henric Svanberg announced from outside the White House that the British oil giant will suspend its dividend at least through the third quarter of 2010, but the task fell to CFO Byron Grote to sell the dividend plan and other major financial concessions to investors on a Wednesday afternoon conference call.

Grote tried to spin all the concessions made by BP as the "prudent" move to increase confidence in the embattled company, which has seen its market value cut in half and its bond ratings knocked down to two notches above junk status, with bond and swaps yields also widening.
British Petroleum Chairman Carl-Henric Svanberg
BP Chairman Carl-Henric Svanberg

BP's dividend suspension will remain in place for the second and third quarters -- in effect, the remainder of 2010. Grote said the board will review the dividend policy again when it reports fourth-quarter earnings at the beginning of 2011. By then, it hopes to have a clearer picture of all the costs and liabilities resulting from the oil spill.

About the BP dividend, Grote said, "the board takes these steps having had deep consideration of all factors and having thought long and hard about it. ... Given the timing of costs and liability associated with the spill, even though business continues to operate well, with strong cash flows, we need to take a deeply conservative fiscal approach to running our business at this time and in that framework we made these decisions today."

Facing questions as to what happened to the reported plans to create a dividend IOU plan, Grote reiterated the prudency of its decisions and said, "We recognize the dislocation this makes for some of our long-term shareholders but the board is looking at what is right over the long-term," and remains committed to dividend payments.

The essential question to the BP CFO on the call could be boiled down to this: if executives had a constructive discussion with the White House, as BP's chairman said, why does it seem that all the concessions were made by BP?

The response from Grote was, over and over again, all the actions taken by BP on Wednesday relate to two primary factors. First, the company has always said it will make good on all legitimate claims resulting from the oil spill and the agreement with the White House provides a framework for this position.

Second, taking an extremely conservative fiscal approach is the oil giant's way of trying to put an end to the market fears and rhetoric that BP is not a viable company given the uncertainty resulting from the spill. Grote noted the comment made by President Obama in his White House briefing, when the President said BP is a strong and viable company and it remains in everyone's best interest that BP remain that way.

In addition to the dividend cut, BP announced that it's setting up a $20 billion escrow account to be administered by an independent agency, and into which BP will make cash injections. BP is also creating a $100 million fund to pay claims by oil workers who lost jobs as a result of the federal ban on drilling in the Gulf of Mexico.


Some analysts were out with comments by Thursday morning that would seem to bolster the BP case. Bond rating firm CreditInsights said that the BP financial plans shows that President Obama does not have his finger on the "Make BP Go Bankrupt" button. BP shares rallied after Wednesday's announcement and were up again in pre-market trading and in London.

Yet just as quickly as BP breathed a sign of relief, though, Raymond James came out with a report estimating BP's legal liability alone at over $62 billion, and The New York Times ran a headline saying that the potential for criminal charges against BP could make $20 billion seem like chump change.

The text of Hayward's opening statement was released on Thursday and includes a long mea culpa from the BP CEO to the people of the Gulf region. Though it's unlikely that Congress will let Hayward off the hook for finally stepping up with extended words of remorse.


In the Wednesday announcement of financial concessions, BP also said it plans to pursue asset sales from within its global portfolio that could raise as much as $10 billion.

On Thursday, CNBC reported that BP is considering a debt sale of $5 billion to $10 billion, by as early as next week. BP has previously said that it is currently at the low end of a net debt ratio it wants to keep between 20% and 30%, so it has the flexibility to take on more debt.

On Wednesday's conference call with investors, BP CFO Byron Grote was asked if BP had any financing plans in the works tied to the cash commitments due the escrow fund. The BP CFO said the only financing plan that BP had at present was the agreement to make cash injections into the escrow fund. "External financing we do when appropriate, but there is nothing tied to the escrow fund explicitly in any form," Grote said.

BP bonds rallied on Wednesday and Thursday as a result of the financial concessions made after the White House meeting, with yield spreads narrowing.

BP is discussing the offering with five banks, including Goldman Sachs ( GS) and Morgan Stanley ( MS), CNBC reported, though the banks had no immediate comment.

As a result of the decisions made on Wednesday and the slowdown in the Gulf of Mexico due to the federal ban on drilling, BP said its capital expenditures will decline by as much as 10% in 2010, and 10% or more in 2011. Cuts in organic capex of 10%, or slightly higher in 2011, are based on the company's previous guidance of $18 billion in capital expenditures, Grote said.

If it seemed BP had walked into the White House not being legally bound to suspend its dividend or create an escrow fund, it seemed to some analysts that BP walked out of White House with the legal nature of the government's demands not being a very big issue anymore -- or one on which BP thought it wise to take much of a stand.

John Rigby, analyst at UBS, said to Grote on the call, "It seems to me that BP agreed to pay $20 billion into escrow and suspended the dividend for three quarters, yet the BP chairman described the meeting as being constructive. So what did you get out of the meeting, from what appears to not be a legal requirement and something people thought was an aggressive stance taken by the U.S. government?"

Grote's response to Rigby involved both the political reality of the oil spill situation and the financial threat to BP of a situation that seemed to be worsening on a daily basis. "We believe we got the opportunity for the first time to have a constructive dialogue with the President. As the frustration has grown with the inability to cap the flow, there has been increasing concern about how BP was going to fulfill its obligations to all of those affected by incident, and the rhetoric has had some fairly dramatic affects on BP, both debt and equity markets observable for one and all."

Grote continued, "Much of the reaction was caused by deep uncertainty of how issues would be resolved. ... To have the chance for the chairman and CEO to sit down with the President and carve out an agreement that provides greater comfort and clarity and a framework consistent with the intention BP has had all along, allows our business to progress effectively," Grote said.

Specifically, the BP CFO said that being allowed to stage injections into the escrow account, "I hope provides greater comfort to debt and equity markets that there is not a very large and significant impact on BP coming in the immediate time frame."

The cash injections into the escrow account will be $5 billion per year over the next four years -- $3 billion in the third quarter 2010, $2 billion in the fourth quarter, and then $1.25 billion per quarter after that.

As for asset sales to be made by BP, Grote said that BP was exploring a range of non-core assets that are not strategic to its longer-term success, primarily from its upstream asset base. Grote also noted the potential to spin off U.S. assets and derive an independent valuation.


The BP CFO said that the cuts in organic capex of 10%, or slightly higher in 2011, are based on the company's previous guidance of $18 billion in capital expenditures.

In all, BP is looking at the moves creating a $2 billion decrease in capital spending, $7 billion to $8 billion in dividends not paid, and another $7 billion to $8 billion from asset sales, for a total of $16 billion to $18 billion incrementally gained in cash. That is against the $5 billion already in planned injections into the escrow fund in 2010, giving BP a much larger cash balance than some investors and analyst thought it needed to get through the oil spill crisis.

BP expects $30 billion in cash flow from operations in 2010.

The math of the decisions made by BP on Wednesday, and the cash on hand question, brought Grote back around to same fundamental decision made by BP on how to play the politics and market aspects of the crisis in tandem.

"We believe that there is enough uncertainty around the wider context that it is important that we run our business in a prudent fashion, therefore, operate with a focus on generating more cash ... while there is uncertainty out there, the company believes it is prudent to bolster the balance sheet to address uncertainties that might exist in the future and we hope you all agree that it is a cautious approach but a prudent approach."

Grote's "hope" was the biggest unresolved question on the call, but not the only one.

The BP CFO was also asked whether any of the other companies with liability in the oil spill, such as Transocean ( RIG) or Anadarko Petroleum ( APC) would be subject to the decisions made on Wednesday by BP.

An analyst questioned whether BP had the right to make these decisions without consulting the other companies, if those companies were to be required to make financial commitments.

The BP CFO couldn't speak as to the other companies idea of a "prudent response" but he did make it seem as if these companies were far from off the hook, saying, "We believe the expenditures we are making are appropriate expenditures in response to liabilities, and I expect partners to meet obligations also."

In opening remarks to be made in Capitol Hill testimony on Thursday morning, BP CEO Tony Hayward will say "A number of companies are involved, including BP."

It's notable that four of the seven items that make the BP CEO's short list of potential causes to investigation in the oil spill are related to the blowout preventer, a device not made by BP, but by Cameron International ( CAM).

-- Reported by Eric Rosenbaum in New York.

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