Investment Idea - British Petroleum (BP.)

British Petroleum
Ticker: BP.
Sector: Oil & Gas Producers
Listing: LSE

Introduction

BP conducts the following activities; exploration, extraction and transportation of oil & gas, refines crude oil into a wide range of products, conducts sales through forecourts, supplies fuel and generates low carbon energy in the form of non-renewables and renewables. The firm has operations in more than 80 countries across six continents.

Analysis

Over the past four years the EPS have remained flat.Rising energy prices as a result of increasing demand in part supported the near constant EPS level. BP's profits have fallen by 21.41% to $16.578 billion (EPS of 88.49c) for 2009 compared to the previous year. This is due to a fall in global demand for energy as a result of the worse economic recession since the Great Depression.

The EPS growth rate has dropped dramatically. This could be due to expansion of exploration operations away from it's core geographical areas, for example, into Russia. Also fluctuating energy prices throughout the period and the financial crisis is the cause of the drop from 2007 onwards. 

ROCE has been falling over the past five years. The exploration programs in new geographic areas and development of low carbon energy could be the reasons. However, the average ROCE is 26.51% so therefore the company has the potential to deliver good and probably superior returns in the long run.

Dividends have increased since 1993 with the exception of 2005. The average increase is 15.29%. This shows that the firm does have a good track record of raising the dividend year after year most of the time. Note that the dividend has increased by 8.91% from 32.39p in 2008 to 35.28p in 2009 suggesting that the management have the confidence that results would improve in the 2010 financial year. This with the chairman's statement in the 2009 annual does have an overall optimistic tone implying that the company will do well in the current financial year. However, I must take into account of the likely effects of the Gulf of Mexico oil spill on the company's near future profits. This includes but not limited to legal, clean-up and compensation costs. It's reputation will be damaged in the short term but the extent is very hard to measure. Only time will tell.

Financial ratios as at the close of 11/6/2010 (1):

Note that for P/CF, only positive values are used to calculate the sector average.

The financial ratios of all companies in the same sector as at the close of 11/6/2010 (1):

 

Using the contrarian strategy, the stock satisfies most of the criteria. This is because:

1. The P/E, P/BV and P/CF are below sector average and within the two lowest quintiles.
2. The dividend yield is above sector average and within the two highest quintiles.
3. Dividend cover of 1.58 is below the desirable limit but above the mandatory limit. This implies that dividends could be cut or in the worse case scenario be suspended into the clean-up is complete. 
4. The current ratio 0.72 is below the mandatory amount so it may be unable to repay all short term liabilities if they all become due simultaneously.
5. With P/S of 0.45, it is below sector average and very cheap compared to it's peers. With a prospective PEG of 0.32 it is very good enough for a large cap. ROCE of 17.36%,the firm does have competitive advantage over it's peers (comparing against those with positive ROCE). Net gearing of 32.28% is not too high and the firm's strong cash flow should mean it can pay off it's liabilities all in one go without major problems.
6. EPS growth of -21.41% is below that of FTSE100, which is about 5.1%.
7. Future earnings growth forecasts do lean on the very conservative side and are unlikely to go down. Taking into account of the current situation, future growth will be revised downwards by analysts. Therefore, future EPS growth might be quite low for the current financial year. Note that the images below are taken from Digital Look for comparison purposes.

Conclusion

This stock is a very good buy the long term. In the very short term, it may be a little bumpy ride if the US state gets it's own way.

Note

I will not be responsible for any losses incurred by investors through investing in this stock. Investing in the stock market may result in not getting their initial amount back.

Full disclosure: Long BP.


Source:

1. Digital Look retrieved 11/6/2010.