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The future is perennially uncertain for every company. Even the most knowledgeable and experienced investors do not know what will ultimately happen to any company’s share price. Even if they argue otherwise.
However, there are times where uncertainty is particularly heightened.
Following our analysis of Shell on Tuesday and of Italy’s ENI on Monday, we conclude this week’s short series on oil companies with BP – a business that faces a hugely opaque outlook, largely as a result of its muddled strategy.
In 2020 it announced ambitious plans to turn towards renewables in response to the world’s expected transition to net zero. However, it has since watered down those plans, thanks in part to an elevated oil price as well as an increasingly cautious industry consensus on how quickly net zero can happen and how profitable it can be.
In addition, the company is without a permanent chief executive after Bernard Looney stood down in September. Until a new permanent boss is announced, which appears unlikely in the near term because of the abrupt nature of Looney’s resignation, the future direction of the business seems likely to remain unresolved.
Ultimately, though, fossil fuels are widely expected to remain a key part of the world’s energy mix for decades to come. They are therefore likely to deliver high levels of profits and cash flow for energy businesses over the coming years. At the same time, renewables are arguably most accurately described as a potential long-term growth opportunity that does not appear to offer high returns in the short run.
Despite its lack of a clear strategy, BP’s shares have been extremely strong since we tipped them in August 2021. They have soared by 61pc and in doing so have trounced the FTSE 100 index’s paltry 4pc rise over the same period.
Their prospects are aided by a continued low valuation: they trade at about seven times forecast earnings, which suggests a wide margin of safety.
In Questor’s view, this bargain valuation is key to their investment appeal during a highly uncertain period for the business; even though BP’s strategy is likely to be confirmed only once a new management team is in place, its share price fully factors this in.
The share price also more than adequately compensates investors for an uncertain outlook for the global economy, whose rate of growth is expected to fall from 3.5pc last year to 3pc this year and 2.9pc in 2024. And, because the full impact of rapid rises in interest rate has yet to be felt owing to the existence of time lags, the prospects for oil and gas prices are highly uncertain.
However, if we assume that interest rates will fall over the next two years as the era of rampant inflation comes to an end, the outlook for the world economy is extremely likely to improve. There are also geopolitical risks that could support fossil fuel prices and BP’s performance over the coming years.
The company’s market value has declined following the recent release of its third-quarter results. Its shares have fallen by 13pc over the past three weeks and could prove volatile over the short run.
Although the company reported growth in underlying profits of 27pc compared with the previous quarter, they were 60pc lower than in the same period last year. This was largely due to weak results from gas marketing and trading, which more than offset buoyant refining margins and a strong result from oil trading.
The third-quarter dividend was held at around 6p a share, which means the stock currently yields around 5pc on an annualised basis.
The company also announced a further $1.5bn (£1.22bn) repurchase of its own shares, which is underpinned by continued robust cash flow generation, while net debt fell by nearly 6pc relative to the previous quarter. As a result the company has a relatively modest net gearing ratio of 26pc.
As ever, Questor believes that the best time to buy any high-quality stock is when its market valuation reflects elevated near-term uncertainty.
On that basis, BP remains a buy. Its wide margin of safety, solid fundamentals and a growing realisation among investors that fossil fuels can provide generous returns for many years to come mean that further capital gains are ahead.
Questor says: buy
Ticker: BP
Share price at close: 481.05p
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