Over the last month, BP (LSE:BP) shares have fallen by just over 10%. That’s not exactly a major crash when compared to other constituents of the FTSE 100. And over the last 12 months, investors have still enjoyed a respectable 18% return. But the stock remains firmly below pre-pandemic levels, despite oil prices being just under $120/barrel versus $65/barrel at the end of 2019. So, is this stock too cheap? Or is this a trap for my portfolio? Let’s explore.
Why BP shares are on a downward trajectory
Understanding the recent tumble of BP shares is hardly difficult. With the tragic geopolitical situation in Ukraine, the group’s Russian assets have become financially and morally compromised. Consequently, management has decided to sever ties with its Russian partners by selling its 19.75% stake in Rosneft. With emotions running high and a sudden asset disposal, I’m not surprised to see the stock take a hit. But is there a valid reason to be concerned? Maybe.
Trying to sell a stake in a Russian business is not exactly an easy thing to do currently. And consequently, BP is actually taking a $25bn hit for doing so, thanks to unfavourable foreign exchange rates as well as impairment charges.
As horrible as that deal sounds, it’s worth remembering this is a one-time expense. And if the situation in Ukraine continues to escalate, the cost of disposal could rise even higher in the future. So, management seems to be just tearing off the plaster, so to speak. But that doesn’t mean the bleeding has stopped.
Rosneft was responsible for around a third of the group’s production capacity. And that translated into 17% of BP’s underlying profits that have just evaporated after management’s decision. Needless to say, a shrinking bottom line is not good news for BP shares.
Taking a step back
Seeing production capacity take a hit when oil prices are at their highest point in years is not exactly an encouraging sight. But after doing some rough calculations, it may not ultimately matter.
Excluding the contributions from Rosneft, in 2019, BP’s upstream production hit 2.6 million barrels of oil equivalents per day. With a 94.4% facility uptime and an average oil price of $61, the upstream revenue can be estimated by simply multiplying these numbers together. In this case, the result is $54.6bn, which is pretty close to the reported value of $54.5bn.
Let’s assume that 2022 non-Rosneft production will return to pre-pandemic levels, upstream plant reliability stays at 94%, and oil prices remain stable at around $120/barrel. Using the same formula, that returns an estimated upstream revenue of $107bn.
I’ve made a lot of assumptions here, and none of this may come to pass. But as a ballpark figure for a best-case scenario, it suggests BP shares could be set to surge even without the contributions from Rosneft.
Time to buy?
As exciting as the chance of the firm’s upstream revenue doubling is, there remain plenty of unknowns. Therefore, even though BP shares might be currently cheap, I’m keeping it on my watchlist for now.
