The end of the commodity super-cycle has sent shares of diversified miner BHP Billiton (LSE: BLT) plummeting over 50% and those of oil major BP (LSE: BP) down 25% over the past year. While sustained dividend payments at both companies have allowed share prices to tread water for the time being, anticipated cuts could mean a further 25%-plus drop in share prices over the near term.
BP’s healthy balance sheet, diversified asset base and nearly-8% dividend yield have propped up share prices while those of competitors have fallen much more sharply. However, last week’s results for the full year saw BP posting the largest loss in its history at $5.2bn. Although the majority of these losses were due to writedowns and fines related to the Gulf of Mexico spill, underlying profits for the past quarter were a full 91% lower year-on-year. Investors predictably reacted poorly to this news and sent shares tumbling 7% last week.
Although this sell-off wasn’t unwarranted, I believe BP’s shares won’t fall significantly over the medium term unless crude prices remain at current levels for a sustained period of time. While the current spot price for a barrel of crude is 25% lower than the average for the past quarter, BP’s refining arm posted record profits of $7.5bn. This helped produce operating cash flow of $5.8bn for the fourth quarter.
While downstream activities alone won’t be enough to cover dividend payouts, management has been straightforward with its ambition to continue with current dividends. The most likely way to fund this would be additional debt, and management has signalled BP would be willing to increase from current gearing ratios of 20% in order to maintain dividends. The target for BP remains 2017, when the company will be able to balance capex and dividend payments at $60/bbl. If oil rebounds enough to hit this price by next year, BP shares could be in for a significant upward rerating. But if oil remains at current prices, dividend payments will likely be in trouble and shares could careen downwards by 25% or more.
The dividend issue
The halving of BHP’s share price over the past year has sent dividend yields skyrocketing to 11.6%. Management’s insistence over this period that BHP will maintain progressive dividend payments has allowed its shares to perform better than competitors, but that time may be coming to an end. BHP has long held two key metrics for management performance: progressive dividend payouts and the maintenance of an ‘A’ credit rating. However, maintaining both of these is coming to a head-on collision as credit rating agencies have said publically that the progressive dividends must be halted if BHP is to avoid a further cut to its credit rating.
Given this, and the expectation that BHP will post a significant loss in late February due to several billion dollars of writedowns related to the Brazilian Samarco Dam failure, I fully believe dividends will be cut or halted by full-year results in June. While BHP’s healthy balance sheet and diversified low-cost assets lead me to believe it may be a good long-term investment, the shares could fall by 25% in the short-to-medium term if dividend payments are indeed cut or halted completely.
