BP Remains a Buy

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BP (NYSE: BP) is the very definition of a company with significant headline risks.  At this point, the concerns surrounding the company are universally known:  fallout from the Gulf of Mexico oil spill in 2010 that has resulted in billions in fines paid by the company.  In the face of the largest corporate criminal penalty ever, I continue to be a BP shareholder.  Not only that, I believe that BP is undervalued, and should the stock retrace some of its recent gains, I will be looking to add to my position.

BP competes with fellow oil majors Exxon Mobil (NYSE: XOM) and Chevron (NYSE: CVX).  While all oil companies carry their fair share of risks, Exxon and Chevron enjoy higher multiples than BP—and rightly so.  Exxon and Chevron trade for trailing price-to-earnings ratios of 10, whereas BP’s trailing P/E ratio stands at 8.  In addition, Exxon and Chevron’s price-to-book ratios are 2.5 and 1.75, respectively, whereas BP’s P/B ratio is 1.2 times.  For now, the fines resulting from the Deepwater Horizon rig disaster have served as an anchor on BP's valuation.  My position is not to deny those realities, but instead to understand that with time, the fallout will recede and BP will eventually return to its normal state of business with normal valuation multiples to follow.

Back From the Brink

There’s no way to deny the harsh financial penalties that BP continues to endure since the spill.  Prior to that, BP was trading at $60 per share.  Afterwards, the stock immediately cratered.  BP shares fell from $60 to $27 in two months.  The company suspended its dividend, and it wasn’t long after the spill that predictions of the company’s impending bankruptcy rained down from financial pundits.

While it was extremely easy to get carried away with the cascade of negative headlines, the reality was and continues to be that BP is a juggernaut operating in an industry that is necessary to our society.  To date, the company has paid more than $24 billion in expenses related to the oil spill.  Furthermore, BP has estimated it will pay a total of $42 billion to fully resolve its liability for the disaster in the Gulf of Mexico.  Those are staggering numbers, no doubt—but I believe those figures are largely reflected in the stock price.  While the stock has recovered since its 2010 low, it has still lost nearly $50 billion in market value since the spill.

Including impacts from the Gulf of Mexico spill, BP generated $39 billion in operating profit in fiscal 2011.  As a result, the company was not only able to restore its quarterly dividend in early 2011, but it has raised its dividend twice since then.  Its most recent increase was 12.5%, and the stock now yields nearly 5% at recent prices.  That yield compares very favorably to the dividends its peers currently offer: Chevron yields 3%, and Exxon Mobil yields only 2.5%.

The Road to Recovery

BP has taken a number of steps to place it on the right path going forward.  The company is in the process of a $38 billion divestment program to focus its investments and restore its financial position.  In fiscal 2011 BP’s upstream business secured 55 new licenses in nine countries.  BP will release its fiscal 2012 results in early February.  While I expect to see results hampered by the tragic Gulf of Mexico spill, I also expect to see continued progress.  I have added to my position gradually on dips since the 2010 disaster, and will do so again should the opportunity present itself.

rciura owns shares of BP p.l.c. (ADR). The Motley Fool recommends Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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