BP (LSE: BP) is positioning itself to cope with a “new oil price environment,” said CEO Bob Dudley in results released this morning, suggesting that some industry insiders might not expect the recent rally to last much longer.
Oil majors like BP and fellow FTSE giant Royal Dutch Shell (LSE: RDSB) have been regarded as dividend stalwarts for years, but can these companies maintain a market-beating 6% dividend payout in a long-term, low-price environment?
Break-even point higher at BP
BP is maintaining a “tight focus on costs, efficiency and discipline in capital spending” to ensure it can survive even the worst case scenario. That’s necessary because analysts estimate that the company should break even at around $60 oil. Competitor Shell turns a profit closer to the $50 mark. The oil price has traded around the latter figure for a while now, indicating that the Dutch oil-major might be a better pick for income-seekers.
That said, BP’s performance has stabilised this year and today’s results will have been warmly welcomed by investors. The company reported an underlying replacement cost profit of $684m for the first half, which was completely wiped out by a $753m exploration write-off related predominantly to operations in Angola.
A loss may not sound like great news for the company, but drastic underlying improvements have kept investors interested. BP’s production increased by 9.9% to 2,431mboe/d in Q2 compared to the same period last year. This follows a 6.4% uptick in Q1. The company believes it will launch seven oil and gas projects in 2017, a record number, although the focus on project start-ups in Q3 means production growth will probably pause for breath.
Cash flow is improving at the company too, an all-important metric for income-seekers. The company said that underlying operating cash flow for the second quarter and half year was $6.9bn and $11.3bn respectively, compared with $5.3bn and $8.3bn for the same periods in 2016. That’s a huge improvement and has covered BP’s dividend so far this year. This ignores the Gulf of Mexico payments, which is probably fair if we take a truly long-term view.
Safer with Shell?
Leaning towards the lower-cost producer of a commodity is often a smart tactic. The $10 cost of production difference has helped Shell maintain profit and keep the dividend safe. Profits at constant cost of supplies excluding one-offs came in at $7.8bn, just shy of tripping 2016’s H1 figure.
CEO Ben van Beurden commented: “Over the past 12 months cash flow from operations of $38 billion has covered our cash dividend and reduced gearing to 25%.”
Shell has turned a $5,286m profit so far this year, compared to only $1,735m a year ago, despite production levels increasing only 4%. The uptick was generated by far lower costs, courtesy of synergies from the British Gas acquisition.
If you believe in a lower for longer environment then Shell would seem to have the advantage over BP, although neither are bad choices for yield hunters. The former has not yet stated a target break-even cost per barrel, but BP is aiming for $35-$40 by 2021 and so may catch up. You could do worse than to split your allocation across the two companies.
That said, heavy exposure to commodities is unsuitable for income investors because producers have little control over prices. This can be disastrous for cash flow and therefore dividends.