BP Stock’s Dividend Will Survive Despite Economic Headwinds

Dividend Stocks

Oil giant BP (NYSE:BP) is trading at exactly the same levels from a year ago. During this period, the S&P 500 has moved higher by 30%. Clearly, BP stock has been an underperformer and economic headwinds are the key reason.

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However, this does not make BP uninteresting. With an annual dividend of $2.44 and a dividend yield of 6.5%, BP stock is worth considering for dividend investors.

Talking about dividends first, BP reported operating cash flow of $18.2 billion for the first nine months of 2019. For the same period, the company’s capital expenditure (net of disposals) was $13.7 billion. This implies free cash flow of $4.5 billion. With FCF remaining positive amidst economic worries and lower oil price realization, dividends seem to be secure.

Economic Headwinds and Upstream Segment

For BP, the upstream segment is a key cash flow driver. However, for the third quarter of 2019, BP reported a loss before interest and tax of $1.1 billion from the upstream segment. For the same quarter a year earlier, the profit from the segment was $3.5 billion.

If we look at the reason for this loss, the average realization (total hydrocarbons) was $46.14 in 3Q18 and it declined to $35.48 in 3Q19. This decline in realization was due to economic weakness translating into lower oil and gas prices.

The International Monetary Fund expects developed economies to report 1.7% GDP growth in 2019 and 2020. With growth stagnation and a global manufacturing sector recession, oil prices might struggle to move higher. The U.S. Energy Information Administration expects Brent Crude to average $63.93 per barrel in 2019 and $60.51 in 2020. This is in sync with my view that oil might move sideways. Having said that, even if oil remains sideways, BP will still report positive FCF and dividends will flow for investors.

If we look at the positives, OPEC and its allies announced a production cut in December. Narrowing the supply-demand gap can take oil prices higher even if economic growth remains subdued. Further, expansionary monetary policies are positive for oil and commodity prices. Another potential positive is the resolution of trade tensions, as a deal could boost economic growth beyond the current forecast.

Therefore, there are headwinds, but potential positives are on the horizon. If these positives play out, the BP stock price will trend higher in 2020. From a technical perspective, $35-$40 is likely to be a strong support zone. Once the stock breaks out above $40, I expect a meaningful rally.

Expect Growth in Downstream Segment

Over the next three to five years, I expect the downstream segment’s growth to significantly add to cash flows.

In August 2019, BP announced a partnership with Reliance Industries in India. Reliance currently has 1,400 fuel retailing sites in India. The partnership will expand the network to 5,500 outlets over the next five years. In addition, the joint venture will also include the aviation fuel business. I am bullish because India has a population of 1.3 billion and is energy thirsty. With this partnership, BP can make significant inroads in a potentially rewarding market.

I want to add here that in the alternative energy segment, BP and China’s Didi Chuxing have formed a joint venture. This is to build an electric vehicle charging network in China. Similarly, BP signed a memorandum of understanding with Zhejiang Petroleum. The joint venture hopes to create an acetic acid plant in China.

The point I want to make here is that BP is focusing on economies that can be growth game changers. Be it China or India, strong growth in the broad energy sector will sustain in the coming decade.

My Final Thoughts on BP Stock

Through 2019, BP has also been focused on divestment of non-strategic assets. By the end of 2019, the company expects transaction proceeds of $10 billion from divestment. This will help BP in deleveraging the balance sheet.

With a disciplined capital expenditure program, positive free cash flows and divestment, BP is also positioned to improve its credit metrics in the coming years. This should also help BP navigate challenging economic conditions with relative ease.

Overall, BP is a quality dividend stock that has the potential to trend higher in 2020 if economic conditions improve. Even if economic growth remains sluggish, BP stock seems to have discounted the negatives. I therefore expect an uptrend in the stock after its sideways movement.

As of this writing, Faisal Humayun did not hold a position in any of the aforementioned securities.

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