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Go Steady With Shell, or Get a Buzz From BP?


By James Herron: FEBRUARY 3, 2011


Sometimes equity markets have a sick sense of humor.

On Tuesday, troubled oil giant BP posted zero growth in fourth quarter adjusted profit, said its oil and gas output had plunged by more than 9% and had a major Russian exploration deal halted by a court order. Its shares closed just over 1% higher.

On Thursday, BP rival Royal Dutch Shell grew its adjusted profit for the quarter by almost 50%, produced 5% more oil and gas and said its flagship gas projects in Qatar were starting up exactly on schedule. Its shares fell more than 3%.

This reaction seems all the more perverse when you consider that both companies posted a similar performance relative to analysts’ expectations– each undershooting by a bit more than 10%. But it demonstrates the divergent paths the two oil giants are taking in the wake of the Deepwater Horizon oil spill and how investors are coming to regard them differently.

Shell continues very much along the traditional path of Big Oil–focussing on growing output, trimming costs and paying out huge dividends every quarter like clockwork. BP has boldly turned off that beaten path by selling major chunks of its assets, ditching production targets, slashing its dividend and cutting risky deals with the Russians.

This could turn BP into what some analysts believe will make it faster growing and, dare I say it, more exciting than its rival.

BP’s woes are well known. It has written off $40 billion for the Deepwater Horizon disaster–pushing it to its first annual loss in 20 years–and has been forced to sell off up to $30 billion of oil and gas production assets and half its U.S. refining capacity to cover that cost. Because of this action, BP’s all-important production rate is plunging just as the oil price hits $100 per barrel again. It produced 15% less oil and gas in 2011 than in the year before the disaster.

This is in stark contrast to Shell, which is just emerging from a successful restructuring and is set to reap the rewards of major long-term investments over the next couple of years. By 2012 it expects its production to have grown by 11% from 2009 and its cash flow to be a whopping 80% higher, even if the oil price were to fall back to $80 a barrel.

Shell will also continue to pay a quarterly dividend of 42 cents a share, giving a yield of 4.5%. BP, after nine months of paying no dividend at all, will now give investors just 7 cents a share, half the pre-spill level, for a yield of 3.6%.

If there ever was an investment no brainer, you’d think this would be it.

“Shell is yielding nearer 4.5% without any of the legal risks that BP still has to face in the U.S.,” said ING analyst Jason Kenney. “Essentially, Shell looks lower risk and higher return from an income fund perspective.”

However, it is important to remember that once BP completes its current painful downsizing, its dividend growth prospects are better than that of Shell, Kenney said. There is also, “a potential wall of cash that is possible for BP by end 2013 due to U.S. escrow commitments ending, partner cost recovery, further divestment income and the benefits of superior growth,” he said.

BP’s new venture to explore for oil in Russia’s Arctic in partnership with Rosneft, assuming the deal isn’t blocked by the troublesome Russian partners in TNK-BP, also offers more tantalizing growth prospects into the long-term than are apparent from Shell’s pact with Gazprom. And although BP CEO Bob Dudley’s bold moves since Deepwater Horizon carry their risks, they certainly make a compelling story for investors to get behind.

BP may not be so tempting to the income funds that love Shell’s yield, but others seem to like its prospects.


BP Photo: AFP/Getty Images

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