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BP Near 4-Year Low: Should I Buy?

BP Near 4-Year Low: Should I Buy?

From Proven Reserves to Future Returns: Decoding BP's Investment Thesis

David
April 22, 2025

Based on the provided sources, here is a valuation report focusing on BP's capital allocation, return on investments, pivot back to oil and gas, and shareholder returns:

BP Valuation Report

This report assesses BP's valuation based on its strategic direction, capital allocation decisions, return on investments, recent pivot back towards oil and gas, and shareholder return policies, as described in the provided sources.

Ticker	BP
Price (4/19)	$28.32
Market Cap ($MM)	$76,960
Enterprise Value ($MM)	$105,460
Dividend Yield %	6.6%
EPS 2025 Est. ($)	2.82
EPS 2025 Est. ($)	3.31

Pivot Back to Oil and Gas

BP is fundamentally resetting its strategy, which includes a plan to grow the upstream oil and gas business. This shift involves increasing investment to grow production and cash flow, alongside disciplined expansion of biogas. This represents a change from a previous strategic direction that involved a greater focus on renewables. According to one analyst, this strategic reset, bringing BP more in line with peers with greater investment in hydrocarbons and less in low carbon, is welcome. However, BP's earlier pivot to renewables at the expense of its oil and gas business reportedly cost years when reserves were not replaced. While BP still identifies as an "integrated energy company," its strategy now signifies a different emphasis compared to its earlier energy transition ambitions. Some analysts believe BP is now on the right path, particularly compared to its earlier low-carbon focus that resulted in underperformance. However, concerns remain that BP is behind peers like Shell, which pivoted earlier.

Capital Allocation

BP is reallocating capital to drive growth from its highest returning businesses. The company plans to grow the upstream, focus the downstream, and invest with discipline in the transition. By the end of 2027, BP expects to focus its capital investment in the Customers & Products business to around $3 billion while seeking returns above 15%. For its upstream business (including biogas), BP seeks an Internal Rate of Return (IRR) of 15%. New material capital expenditure (capex) investments are evaluated for consistency with BP’s strategy, including its net-zero aims and alignment with the Paris goals. These evaluations consider both quantitative guide levels (like IRR) and qualitative assessments based on six balanced investment criteria, including strategic alignment and safety and risks. BP aims for structural cost reductions of $4-5 billion by the end of 2027. The company's financial frame outlines how it allocates generated cash to strengthen the balance sheet, invest for value growth, and deliver shareholder distributions.

	bp-cmd-2025-presentation-slides.pdf2.60 MB • PDF File

	bp-cmd-2025-oil-and-gas-presentation-slides.pdf3.85 MB • PDF File

Return on Investments (ROI)

BP believes it has a compelling investor proposition, sustainably delivering long-term shareholder value through the energy transition. The company is focused on driving improved performance to grow long-term shareholder value. BP targets a Return on Average Capital Employed (ROACE) of over 16% by 2027 at a Brent oil price of $70 per barrel (in 2024 real terms). This is supported by an expected compound annual growth rate in adjusted free cash flow of over 20% from 2024 to 2027, subject to price and planning assumptions. For its downstream business, BP seeks portfolio-level returns in excess of 15%. The board considers factors like growth, profitability, and risk when assessing valuation growth. However, one analysis notes that at a midcycle oil price of $60/bbl, the forecast excess returns for BP are too narrow to instill confidence in various price environments, leading to a "no-moat" rating. BP's investments in renewable and low-carbon businesses have previously delivered poor returns. The new strategy aims to improve returns by increasing focus on higher-margin upstream projects and partnering in renewable ventures to reduce capital intensity.

Financials	2024A	2025E	2026E	2027E
Free Cash Flow ($MM)	14,047	8,867	14,408	15,085
FCF per share $	5.14	3.39	5.65	6.22
EPS $	3.26	2.82	3.31	4.38
P/E Ratio	8.1	10.0	8.6	6.5
FCF Yield %	18.2%	11.5%	18.7%	19.5%
Net Debt ($Bln)	23	21	18	16
ROE %	11.3%	10.5%	11.8%	14.8%
ROACE %	11.1%	9.4%	8.3%	12.7%
Price / Book	1.0x	1.0x	0.9x	0.9x

Shareholder Returns

A key aspect of BP's strategy is growing shareholder value. BP distributed $5.0 billion in total dividends to shareholders in 2024 (compared to $4.8 billion in 2023). The company executed $7.1 billion of share buybacks in 2024 (compared to $7.9 billion in 2023) and an additional $927 million up to February 14, 2025. BP's investor proposition is underpinned by a plan to deliver compelling adjusted free cash flow and strong returns growth, supporting resilient distributions and a stronger balance sheet. The board considers the outlook for cash flow and share count reduction from buybacks when setting dividends and buybacks each quarter. BP's strategy reset aims to deliver shareholder returns within a clearly defined framework. The company has previously stated a target to return 80% of surplus cash to shareholders. However, one analyst notes that while debt reduction is positive, it comes with lower current quarterly repurchase rates. BP's shareholder distribution policy is considered "appropriate" with a variable return model better suited to potential commodity price volatility.

Risk Assessment

Several risks could impact BP's performance and valuation, as highlighted in the sources:

Net Debt and Disposal Plans: BP's net debt stood at $23.0 billion at the end of 2024. The company aims to reduce this to a range of $14-18 billion by the end of 2027. This reduction is expected to be achieved partly through divesting $20 billion in assets, including Castrol. While the plan to reduce debt is seen as positive, the exact timing of achieving the net debt target range will be impacted by the timing of any potential transactions. Furthermore, one analysis notes that while debt reduction is positive, it comes with lower current quarterly repurchase rates [in previous valuation report]. The success and timing of these disposals are therefore a risk factor.
Weaker Oil Prices: BP's target of a Return on Average Capital Employed (ROACE) of over 16% by 2027 is based on a Brent oil price of $70 per barrel (in 2024 real terms). However, the current macro uncertainty amid tariff disputes and the recent decline in oil prices below this level pose a risk. One analyst's price target reduction to $27 reflects this increased uncertainty and lower oil prices. Another downside scenario suggests that if oil benchmarks fall to $60, a price target could approach $19. BP's long-term assumption for oil prices is also lower than the 2024 average as oil demand is likely to fall. Lower oil and gas prices could have an adverse effect on revenue, margins, profitability, and cash flows, potentially leading to asset write-downs and a reassessment of project viability. The excess returns forecast for BP at a midcycle oil price of $60/bbl are considered too narrow to instill confidence through various price environments, contributing to a "no-moat" rating.
Geopolitical Pressures: The estimation of future oil and gas prices is subject to increased uncertainty given macro-economic factors and disruption in global supply due to ongoing geo-political conflicts. Trade restrictions, international sanctions, or other actions taken by governmental authorities could also significantly impact global energy supply and demand, market volatility, and prices. BP actively monitors how geopolitical trends create risk at the country level and has processes for political risk management. However, unforeseen geopolitical events could negatively affect BP's operations and financial performance.
Shareholder Activism: While the sources do not explicitly detail current shareholder activism to pivot away from oil and gas, there is mention of reputational risks, which include the risk of shareholder action. The increasing focus on ESG factors and the potential for BP's reduced low-carbon spending to turn off ESG-oriented investors suggest that pressure from some shareholders regarding the energy transition remains a potential risk.
Execution Risks for New Projects: BP expects to start up 10 major projects by the end of 2027, including the Kaskida project in the US Gulf of America, which is expected to have a production capacity of 80,000 barrels of oil per day. These projects, particularly those in the Gulf of America, are considered high-margin barrels. However, project cost overruns and/or completion delays are continued sources of uncertainty. BP aims for a more simplified and cost-efficient platform design to replicate in future Gulf of America projects, but execution risks inherent in large-scale offshore developments remain. Furthermore, much of the expected cash flow growth is predicated on cost reductions and upstream project development, making successful execution crucial. Failure to achieve targeted returns from these projects could negatively impact BP's financial targets.

These risks, among others outlined in the "Risk factors" section of BP's annual report, could influence the company's ability to achieve its strategic goals and impact its valuation.

Financial Model

Qualitative and Quantitative Metrics Overview

Qualitative:
- BP acknowledges its troubled history, including the BP Horizon oil spill and the exit from the TNK venture in Russia.
- The company is focused on resetting its strategy to improve performance and grow shareholder value.
- BP aims to build trust through safety performance and culture.
- The board emphasizes consistent operational and financial performance and strategic clarity for investors.
- Analysts note increased macro uncertainty and recent declines in oil prices as factors influencing BP's valuation.
- Concerns exist regarding the execution of the new strategy, particularly cost reductions and upstream project development.
- ESG-related risks, particularly carbon emissions, are a consideration.
Quantitative:
- Upstream production was 2.4 million barrels of oil equivalent per day in 2024.
- BP's profit for the year attributable to shareholders in 2024 was $0.4 billion.
- Operating cash flow in 2024 was $27.3 billion.
- BP's reportable segments are Gas & low carbon energy, Oil production & operations, and Customers & products.
- The company targets structural cost reduction of $4-5 billion by the end of 2027.
- ROACE is targeted to be over 16% by 2027.
- Capital expenditure for 2024 in Oil production & operations was $10.8 billion, and for Gas & low carbon energy was $(1.6) billion.
- Analysts have adjusted their earnings per share (EPS) estimates for BP, reflecting factors like reduced Customer & Products margins and a higher tax rate.
- One analyst's price target for BP is $27.00, based on an EV/EBITDA multiple.
- Morningstar's fair value estimate for BP is $38.60 USD as of February 27, 2025.

Here is an addition to the valuation section for BP, incorporating the information you provided and drawing from the sources:

Valuation Considerations

BP's valuation must consider the scale of its hydrocarbon reserves and its ability to replenish them, as well as the market's current assessment of the company relative to its book value and future profitability.

Significant Hydrocarbon Reserves: As of the end of 2024, BP held 6,248 million barrels of oil equivalent (mmboe) in net proved reserves. These reserves form a significant asset base for the company and underpin its current production and future potential.
Challenges in Reserve Replacement: While BP possesses substantial reserves, its proved reserves replacement ratio has been weak in recent years. In 2024, the ratio was 50%, preceded by 47% in 2023 and only 20% in 2022. This ratio, excluding acquisitions and disposals, indicates that BP has not fully replaced the reserves it has produced in the last three years, which could have long-term implications for its production capacity if this trend continues. However, BP expects to get its reserves replacement ratio back to around 100% by the end of 2027 through additional investment.
Trading Close to Net Book Value: Currently, BP's market capitalization of $77 billion is trading at 30% premium to BP shareholders equity, which at the end of 2024 has a net book value of $59.2 billion (excluding minority interest). Investors are thus factoring in expectations that BP will be able to earn a 13% return on equity, not unreasonable given prior 10-15% range.
Future Profitability in Oil and Gas: This expectation of returns above the cost of capital is supported by BP's projections for its oil and gas business. The company anticipates Internal Rates of Return (IRR) of 15-20% on its new oil and gas projects [your input]. Furthermore, BP is increasing its investment in hydrocarbons with exploration and upstream capital spending planned at $10.5 billion annually through 2027. BP is also focusing on high-margin barrels in areas like the Gulf of America. Projects like Kaskida are expected to have significant production capacity.
Shift in Renewables Strategy: A contributing factor to the expectation of improved returns is BP's shrinking of investments in renewable energy. Previous investments in low-carbon areas have been noted for delivering poor returns and siphoning off capital. BP now plans to reduce capital investment in Customers & Products to around $3 billion by 2027 while seeking returns above 15%. This strategic adjustment towards higher-returning oil and gas projects and a more disciplined approach to renewables is likely influencing investor sentiment regarding BP's future profitability. BP's strategy of moving renewable investments into stand-alone JVs also reduces capital intensity and improves returns while maintaining exposure to renewable power growth.
In summary, while BP faces challenges in consistently replacing its produced reserves, its current valuation suggests that investors anticipate the company's focus on higher-return oil and gas projects and a more measured approach to renewable investments will enable it to generate value above its cost of capital. The projected returns on new upstream projects are a key element supporting this expectation.

Conclusion

BP is undergoing a significant strategic shift, pivoting back towards its core oil and gas business while maintaining a disciplined approach to the energy transition. The company is prioritizing capital allocation towards higher-returning ventures and aims to deliver increased shareholder value through dividends and share buybacks. While targets for ROACE and free cash flow growth are ambitious, analysts have mixed views on the sustainability of returns and the pace of BP's turnaround. Factors such as commodity price volatility, execution risks associated with cost reductions and project development, and the long-term implications of the energy transition will continue to influence BP's valuation. In the $70 oil price environment (BP’s own baseline assumption), BP should be able to deliver attractive 10% - 15% cash flow returns on the current valuations, rising to 20% in the $80 oil world. In the $50 - $60 oil world, the current valuation is fair. Investors need to carefully consider their oil price expectations