Shares in BP (LSE: BP) look buoyant today, up around 4% as I write, on the release of the oil major’s third-quarter and nine-months results. The rise to around 556p looks set to continue a trend that has seen the stock lift more than 60% since February 2016, driven by operational progress and an almost doubling of the price of oil over the period.
If progress continues, and the oil price holds up, I reckon we could see BP blast to new highs, and 800p per share is well within the realms of possibility. Based on current City analysts’ forecasts, at 800p, the forward price-to-earnings ratio would be just over 16 for 2019, and the forward dividend yield would be a little under 4%. That’s not a wild valuation and it’s easy to imagine investor enthusiasm driving the share price to those levels, or for ever-improving earnings and operational progress causing the market to reset its expectations higher.
Strong trading
Today’s figures are good. Underlying replacement cost profit for the third quarter of 2018 came in at $3.8bn, which is more than double the figure in the equivalent period last year. BP said in trading report it’s “the highest quarterly result in more than five years,” and includes “significant earnings growth” from upstream operations, and from the firm’s involvement with Russian state oil company Rosneft.
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One of the constants with BP has been its gargantuan cash generation, which saw it through its Gulf-of-Mexico oil spill challenges since 2010. Operating cash flow for the quarter, excluding oil-spill payments, hit $6.6bn. But even now, the company is still throwing millions towards settling its obligations in America, spending $0.5bn on oil-spill payments in the quarter. Nevertheless, the directors expressed their confidence in the outlook by pushing up the third-quarter dividend by 2.5%.
Operations are ticking along nicely, and the firm said in the report it had experienced its highest quarterly refining availability for 15 years, and BP-operated upstream plant reliability of 95%. Although I can’t help but remember how well things seemed to be going just before the Macondo blowout, which destroyed the Deepwater Horizon drilling rig, and took 11 lives, in 2010. I think it’s worth being aware of the hazards involved in BP’s business and the potential for something to derail any investment you make in the company.
Throwing off cash
However, things are going so well, and the firm is throwing off so much cash that it now plans to pay for its acquisition of assets from BHP Billiton with cash, rather than by raising equity. BP announced the $10.5bn acquisition in the summer and it consists of oil-producing assets onshore in the US. The deal should complete imminently and the firm now plans to plough some $5bn-$6bn of planned divestments from the acquired assets into reducing debt.
Based on the firm’s current performance and progress, the shares look attractive. The forward dividend yield runs close to 5.7% and the shares change hands at around 11 times forward earnings. However, if the oil price slides again, I think earnings will fall, taking the share price with it. As an alternative to the cyclical and execution risks inherent with BP, I’d also consider investing in an FTSE 100 index tracker fund.
