BP Executive Earnings Insights: Cost Evolution in E&P, TNK-BP Reporting

On Tuesday, BP (NYSE:BP) reported its first quarter earnings and discussed the following topics in its earnings conference call. Here’s what executives shared with analysts and investors.

Cost Evolution in E&P

Theepan Jothilingam – Nomura: Three questions please. Firstly just in the downstream, thank you very much for the increased visibility there. I was just wondering though, the rule of thumb as you mentioned does breakdown a little bit in the fuels business. I was wondering, if you could talk more especially in terms of the delta versus Q1 last year, Cherry Point, the crude differentials in Europe and also supply and trading? The second question related to the upstream, could you just talk a little bit about cost evolution in E&P? I have looked the past (indiscernible) on data? I was just wondering, how you see cost inflation relative to Q1 last year, the impact of low volumes and also in particular to the high integrity costs? Lastly, just coming back to Macondo, your discussions with the DOJ, in February Bob Dudley talked about BP being ready to settle on fair and reasonable terms, is that still the case and do you hope you can draw a line perhaps with the DOJ before year end? Thank you.

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Brian Gilvary – CFO: Thanks Theepan. Let me take the first question on downstream. The three major component factors of 1Q versus 1Q in downstream, which is where the rules of thumb might work, is the biggest and largest component is the delta on the supply and trading result. We had a very strong quarter in the first quarter of last year and we had a very weak quarter in the first quarter of this year. So that’s the biggest component in the delta between the two quarters. The next biggest component is petrochemical result which I think you can see from the RCOP results that were published and then Cherry Point was a circa over $100 million effect if you look at the 1Q versus 1Q. So, biggest effect on fuels was trading. You also see the petchem effects in the overall downstream results. On the upstream in terms of cost inflation what we are seeing the first priority we have is around obviously delivering safe compliant and reliable operations. Over the last five years if you look the sector inflation we’ve seen it roundabout 10% to 15% growth in sector inflation and if you then look at BP competitively we remain in the middle of the pack in terms of the industry. The sector inflation is continuing to run roundabout 5% to 10% per annum both for CapEx and operating costs, across a number of different categories, which we try to mitigate through our supply chain procurement activities. We’ve seen increased investments in the upstream activity, a lot of the cost inflation we are seeing is around activity driven and there are three key areas where we are building capabilities, both in engineering and technical capabilities, safety and operational risk and over the last year we’ve hired over 2,000 engineers in 2011. So we are seeing some inflation costs, a lot of that is driven by activity, then on DOJ, really nothing to update today. We are continuing to cooperate with the DOJ and we continue to hold the stance that we are prepared to settle all outstanding claims to Department of Justice but only on reasonable terms. Thanks Theepan.

Jessica Mitchell – Head of IR: Jason Kenney, Santander.

Jason Kenney – Santander: I’m just trying to pinpoint a bit of the timing for cash flow delivery over the period of 2014. I know one quarter is only a snapshot. It looks like you got $3.4 billion reported cash. You got the U.S. GOM 1.2, your working capital movement is quite large, so 7.6 is generated cash. This could imply nearly $30 billion annually. Is this the kind of run rate we could anticipate this year or is it too early to look for that kind of upside versus 2011 under a common environment? And bearing in mind obviously divestments still to come, a new downstream support as well, maybe just a bit of insight on how you see cash progressing over the next few months.

Brian Gilvary – CFO: Thanks Jason and it’d be premature to sort of book those sort of numbers at this point in the process. We typically see build in stocks in the first quarter of circa 20 million barrels and we saw the same effect in the first quarter of last year. So if you look at the delta year-on-year, you’ll see that there is some underlying improvement coming through, but we do typically build stocks for the first quarter, coupled that with the higher oil price that we’ve seen come through. The overall effect is a net $3 billion building working capital that will unwind as the year progresses as the stocks restart to build ahead for the gasoline season as that throughput starts to work its way through the system, you’ll see it correct. So, it’s better to look at the operating cash over a typical four quarter average in terms of the trajectory. We put the targets out in 2014 at $100 a barrel, so it’s sort of a clean comparison ’11 out to ’14. We are still confident that those targets underpinned and those targets will come from the big new projects that we’ve got coming on stream, six projects this year, two this quarter and 15 over out to 2014 that will be the big driver of the cash flow and of course also the Whiting refinery which is well progressed over 60% completed, will be a big piece in the second half of 2013. So I think it will be premature to read too much into this quarter’s operating cash flow but the major impact here was actually building working capital.

Jessica Mitchell – Head of IR: Irene Himona, SocGen.

Irene Himona – Societe Generale: One question on gearing where you – it has remained at the top of your targeted 10% to 20% range, despite oil at a $120, you are indicating that it will decline over time with new upstream production and so on. What needs to happen to the balance sheet before investors can anticipate any further improvement in the dividend payout, please?

Brian Gilvary – CFO: So the financial frame, we described to you back in February and we sort of segued in October of last year, was that we were looking to get the gearing down to the 10% to 15% range. I think that’s a prudent thing to do given the current economic climate and we’ll certainly do that over time, but certainly by 2014 it should be in the bottom half of that new range of 10% to 20%. I think it’s important that we do that because it shows that the balance sheet given the number of uncertainties out there both in terms of the economic outlook but also in terms of the U.S. situation, specifically the situation over in the U.S. We’ve highlighted again in February a progressive dividend policy as the underlying performance of the firm comes through, the new projects come on-stream and the Board will come back and revisit this each quarter, but typically on an annual basis. So we signaled an increase in dividend back in February of $0.08 which was a signal of confidence in the underlying cash flow coming through, but we need to balance that with the various other uncertainties that we have out there.

Jessica Mitchell – Head of IR: Doug Terreson, ISI.

Doug Terreson – ISI: Brian, my question has to do with the consolidation adjustment which you mentioned a few minutes ago, I mean it lowered your profits by about 5% in Q1 just like it did last year, but it almost fully reversed in the next quarter. So I want to see if there were any non-timing related factors that might preclude this item from gravitating towards zero on an annual basis as it has during most of the past five years, which I think you implied? And may be is there anything unusual about this item in the current period that might prevent that from happening?

Brian Gilvary – CFO: Doug, I mean the thing that happened this quarter is it’s the increase in the old piece itself, the absolute flat prices increases and an increased number of equity barrels we are holding in our refining system. As we proceed with the disposals of Texas City and Carson that will take a big chunk of those equity barrels out of our system. And so therefore I think this will become less volatile and dampened over time. But it just simply reflects that we have chosen to put an equity barrel into our refining system and therefore we are not allowed to book those profits for that barrels being run through the refinery. If they had been third-party barrels clearly they would have been booked as profits.

Doug Terreson – ISI: Also, just thinking on the Gulf of Mexico liability. It appears that you guys are following a kind of parallel track in selling the clients, with the governments meeting, while you talked about your negotiations with the DOJ a minute ago. You have also settled with several of the more important municipalities on the Gulf Coast and during the past several months too. My question is whether or not this is an accurate description of the approach you guys are taking and whether it is or not – is it possible that these three categories will be settled separately or necessarily at the same time? Can you just comment on that Brian?

Brian Gilvary – CFO: Yes, sure, Doug. I mean, I think as I said on the call that we had with Rupert Bondy when we had the original PSC settlement. What that settlement did was take the vast number of personal and business claims out of the equation, which is to say – what is probably one of the most complex class action lawsuits that the U.S. would ever had to oversee or view and that’s we are still waiting for the Judge Barbier his opine on the specifics of that settlement, but it did take away the vast amounts of outstanding claims, that leaves the issue of NRDA, Clean Water Act, DOJ and the separate settlements with the (upstream) to stake claims themselves. We would like to get a global settlement around all of those things, but we will again as Bob reiterated back in February only if we can do so on fair and reasonable terms.

Jessica Mitchell – Head of IR: Peter Hutton, RBC.

Peter Hutton – RBC: Can I just ask if there is any more clarity around the movement that you describe in getting from the absolutely declining production from 6% to you see the excluding divestments and price effects it would have been marginally positive. Is it possible to give a little bit more specificity on how much was divestments how much was price effects and also how much is production coming on in India. I think that would be particularly useful the second I think is a follow-up on a question that was asked by Theepan in terms of the cost progression and I see that costs were sort of up 18% year-on-year. Is it possible to give a feel as to how much of that is underlying sort of the asset integrity and because you’re still not at full kind of activity levels that you would want to be in the U.S. at least in terms of being reflected in volume how much you think there is to go out on that kind of increase.

Brian Gilvary – CFO: So Peter on the first question. The delta 1Q, 1Q, is 113,000 barrels a day, is disposals. On India specifically the new production coming on from India in the first quarter is 68,000 barrels a day, some offsets that tend to decline elsewhere in the portfolio, but overall if you take out PSCs, you take you disposal effects. It’s slightly increased to 1Q-1Q and it’s a slight increase 4Q-1Q. So hopefully that answers the production question. Then on the second question around the ramp up, actually, we are back to – we will be by the end of this year back to higher levels of activity in the Gulf of Mexico than we have pre the Deepwater Horizon incident, so we are back to eight rigs which will be the most number of rigs we will run in the Gulf of Mexico and we’ve got five active today. So we are actually ramping up activity, we are hiring people. Most of the projects are on track for this year. So a lot of the activity and the costs are coming through, and that’s where we are seeing some inflation. Cash costs actually – in terms of cash costs we monitor, the first quarter, they are high in the first quarter last year, but they are actually below the fourth quarter and third quarter of last year.

TNK-BP Reporting

Jessica Mitchell – Head of IR: Robert Kessler, Tudor, Pickering.

Robert Kessler – Tudor, Pickering: Brian, I might be probably splitting hairs a little bit on semantics, but just on the new TNK-BP reporting which I would say is not so new but more of a promotion from the footnotes to the summary financials. In your press release, you highlighted the new reporting reflects the way your investment in TNK-BP is now managed implying it’s somewhat different than before. I always thought of it as a separate entity managed on its own, one that you get dividends from. What exactly – is there anything that I should be reading between the lines there in terms of maybe divesting your interest more quickly than you otherwise would or something else there?

Brian Gilvary – CFO: No. Robert, actually it’s a good point. There isn’t that much new disclosure here, but the reason why we – and you shouldn’t read anything into why we split it out this way. The simple reason we have broken it out, so you can get line of sight of the underlying upstream business that excludes TNK-BP. Remember the 10 point plan, we laid out that we will be bringing on these extra projects which would be double the margin of the existing portfolio. You wouldn’t have been able to see that, if we continue to consolidate in here. So what we are trying to give you a sense of is something that you can measure in terms of the improvements of the upstream as it comes – as these new projects come on stream with double the margin of the existing footprints excluding TNK-BP. So this is really just to give you a line of sight on the promises that we laid out there in February and October of last year.

Jessica Mitchell – Head of IR: Hootan Yazhari, Bank of America.

Hootan Yazhari – Bank of America: I just wanted to refer to your disposals program. Of course, you’ve indicated that you are looking to put two of the U.S. refineries on the block. Given the increasing demands for working capital coming from the downstream business, I wanted to see, how much has the divestment program started veering towards more downstream disposals, whether it be the marketing assets or chemical assets or anything that does have a quite a big draw on your working capital?