BP, the former British Petroleum, recently announced its results [pdf] for the third quarter of 2008. This post provides the GCFR analysis of the financial statements.BP p.l.c. (NYSE: BP) is the Major Integrated Oil & Gas firm with the third-most sales and fifth-highest market value. BP became a behemoth, in part, by acquiring Amoco and Arco. As a result of these purchases and other investments, BP now operates of 13 oil fields and four pipelines on Alaska's North Slope.
Last month, BP spent $1.9 billion to purchase 25 percent of Chesapeake Energy's (NYSE: CHK) properties in the Fayetteville Shale natural gas field in Arkansas. BP previously purchased gas-producing shale assets in Oklahoma from Chesapeake for $1.75 billion.
The last few years have been, to say the least, trying ones for BP. The company has faced tragedies, maintenance problems, market manipulation allegations, and an ignominious leadership change. Reduced production and lower refining margins haven't helped. A chart showing the price of BP ADRs versus shares of Exxon Mobil (NYSE: XOM) and Chevron Corp. (NYSE: CVX) says volumes about BP's performance.BP recently took steps to resolve an acrimonious dispute with its Russian partners about the management of the TNK-BP joint venture.
Earlier, the GCFR Overall Gauge assessment of BP edged up to 52, of the 100 possible, points when we analyzed the company's second-quarter financial statements. The Growth gauge was the star in the June quarter, attaining 24 of 25 possible points. Revenue, Net Income, and Cash Flow from Operations all increased at accelerating rates. Second-quarter Revenue, for example, surpassed that of the year-earlier quarter by 51 percent.
However, this performance was almost entirely due to high energy prices. Production levels were, as BP expressed it, "broadly flat," and refining margins were slim.
Now, with the available data from the September 2008 quarter, our gauges display the following (extraordinary!) scores:
- Cash Management: 19 of 25 (up from 13 in June)
- Growth: 25 of 25 (up from 24)
- Profitability: 10 of 25 (up from 8)
- Value: 25 of 25 (up from 13)
- Overall: 78 of 100 (up from 52)
Before we examine the factors that affected each gauge, we will compare the latest quarterly Income Statement with our previously communicated expectations.
BP prepares its financial statements in accordance with International Financial Reporting Standards (IFRS), as adopted for use by the European Union. Reports prior to 2006 complied with UK Generally Accepted Accounting Principles.
Please note that the tabular format below, which we use for all analyses, can and often does differ in material respects from company-used formats. A common difference is the classification of income and expenses as Operating and Non-Operating. The standardization is simply for convenience and to facilitate cross-company comparisons.
| ($M) | | September 2008 (actual) | September 2008 (predicted) | September 2007 (actual) |
| Revenue (1) | | 103,174 | 98,000 | 71,334 |
| Op expenses | | | | |
| | CGS (2) | (86,669) | (78,890) | (59,028) |
| | Depreciation (3) | (2,653) | (3,136) | (2,505) |
| | Exploration | (232) | (180) | (244) |
| | SG&A (4) | (3,794) | (3,920) | (4,137) |
| | Other (5) | 1,044 | (500) | (115) |
| Operating Income | | 10,870 | 11,374 | 5,305 |
| Other income | | | | |
| | Investments (6) | 1,327 | 1,200 | 1,104 |
| | Asset sales (7) | 193 | 300 | 228 |
| | Interest, etc. (8) | (103) | 0 | (1) |
| Pretax income | | 12,287 | 12,874 | 6,636 |
| Income tax | | (4,101) | (4,506) | (2,158) |
| Net Income | | 8,186 | 8,368 | 4,478 |
| | | $2.62/ADS | $2.66/ADS | $1.41/ADS |
| Shares outstanding | | 3,124 | 3,150 | 3,177 |
2. Purchases + Production and manufacturing expenses + Production and similar taxes
3. Depreciation, depletion and amortization
4. Distribution and administration expenses
5. Impairment and losses on sale of businesses and fixed assets + Fair value (gain) loss on embedded derivatives
6. Earnings from jointly controlled entities + Earnings from associates
7. Gain on sale of businesses and fixed assets
8. Interest and other revenues - Finance costs + Other finance income
Third-quarter Revenue (i.e., Sales and Other Operating Revenues) was 44.6 percent greater than in the September 2007 quarter. We had expected Revenue growth of 37 percent. In the last four quarters, Revenue is up 42 percent over the prior four quarters.
BP's Cost of Goods Sold (CGS) -- which we define to be Purchases, Production and Manufacturing Expenses, and Production and Similar Taxes -- was 84 percent of Revenue. This equates to a Gross Margin of 16 percent of Revenue. We had expected BP to attain a much more profitable Gross Margin of 19.5 percent of Revenue. The Gross Margin in the year-earlier quarter was 17.3 percent.
Depreciation was 2.6 percent of Revenue, compared to our 3.2 percent estimate.Exploration costs in the third quarter were $52 million more than our forecast.
Sales, General, and Administrative (SG&A) expenses, what BP calls Distribution and Administration Expenses, were 3.7 percent of Revenue. We has expected these costs to be 4.0 percent of Revenue.
Other Operating income and expenses is our catchall category for asset impairments and gains/losses from derivatives. Items of this sort are erratic and, as far as we can tell, unpredictable from quarter to quarter. The third quarter benefited from a $1 billion "fair value gain on embedded derivatives." In the second quarter, these securities were responsible for a $2 billion loss.
Operating Income, as we define it, more than doubled its value in the September 2007 quarter. But, it was 4.4 percent less than we expected, despite the large gain on "embedded derivatives." The substantial shortfall in the Gross Margin, relative to our projection, kept Operating Income below our target.
The various Non-operating items, such as gains on investments, gains on asset sales, and net interest income, were, in total, 5.5 percent below our forecast.
The income tax rate for the quarter was 33.4 percent, whereas we had expected 35 percent. Net Income exceeded the year-earlier figure by 83 percent. We had expected Net Income to grow by 87 percent. On a per-share basis, Net Income increased by 85.6 percent.
| Cash Management | September 2008 | 3 mos. ago | 12 mos. ago |
| Current Ratio | 1.1 | 1.1 | 1.0 |
| LTD/Equity | 13.3% | 12.9% | 13.8% |
| Debt/CFO | 0.8 yrs | 1.1 yrs | 1.0 yrs |
| Inventory/CGS | N/A | N/A | N/A |
| Finished Goods/Inventory | N/A | N/A | N/A |
| Days of Sales Outstanding (DSO) | 37.8 days | 46.4 days | 53.4 days |
| Working Capital/Market Capitalization | 2.7% | 2.7% | 0.4% |
| Cash Conversion Cycle Time (CCCT) | 16.5 days | 23.0 days | 18.8 days |
| Gauge Score (0 to 25) | 19 | 13 | 10 |
The score rose because Low debt, a much reduced DSO, and improving efficiency as demonstrated by the lower CCCT. Sure, we would like to see the cushion of a higher Current Ratio and greater Working Capital, but these are lesser concerns for a company of BP's heft.
| Growth | September 2008 | 3 mos. ago | 12 mos. ago |
| Revenue growth | 42.4% | 31.9% | 0.0% |
| Revenue/Assets | 158% | 138% | 121% |
| CFO growth | 44.8% | 16.9% | -7.5% |
| Net Income growth | 52.4% | 22.8% | -13.5% |
| Gauge Score (0 to 25) | 25 | 24 | 0 |
The growth metrics are all in overdrive, accounting for the perfect score.
| Profitability | September 2008 | 3 mos. ago | 12 mos. ago |
| Operating Expenses/Revenue | 88.9% | 89.1% | 91.3% |
| ROIC | 21.4% | 18.7% | 14.0% |
| FCF/Equity | 14.6% | 9.5% | 9.8% |
| Accrual Ratio | 6.0% | 6.0% | 3.4% |
| Gauge Score (0 to 25) | 10 | 8 | 4 |
The increases in ROIC and FCF were the most favorable Profitability results. Although Opertating Expenses came down as percentage of Revenue, we would have expected a greater drop. The increase in the Accrual Ratio suggests lower quality earnings, in the sense that a smaller proportion of earnings is due to Cash Flow.
| Value | September 2008 | 3 mos. ago | 12 mos. ago |
| P/E | 5.2 | 8.3 | 11.2 |
| P/E to S&P 500 average P/E | 31% | 45% | 66% |
| Price/Revenue | 0.4 | 0.6 | 0.8 |
| Enterprise Value/Cash Flow (EV/CFO) | 4.9 | 8.7 | 9.6 |
| Gauge Score (0 to 25) | 25 | 13 | 4 |
The price of BP ADRs fell sharply in the third quarter, from $69.57 to $50.17. The ADRs trade at an even lower price now. The Value gauge is calculated using the quarter-end price.
BP's valuation ratios can be compared with other companies in the Major Integrated Oil & Gas industry.
| Overall | September 2008 | 3 mos. ago | 12 mos. ago |
| Gauge Score (0 to 100) | 78 | 52 | 19 |
An Overall score in the 70's is excellent and rare It's not very often that one can buy shares in a company with earnings growth over 50 percent and a P/E multiple in the mid-single digits.
Why are the shares of this blue-chip, money-making machine so cheap? Investors are expecting a big drop in BP's future results now that the slow economy has reduced worldwide demand for energy products and, not coincidentally, prices for energy commodities have tumbled greatly. But, BP's profits will have to fall dramatically, say by 50 percent, to explain the current discount to the market.
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