Lately, oil prices can't seem to decide whether they want to be above $40 per barrel or below it. And that uncertainty is bad news for oil companies.
But oil major BP (NYSE:BP) has made up its mind about one thing: It wants to get out of the oil business (or reduce its exposure to the oil industry, at least), and transition to renewables. With renewable energy stocks showing strength recently, and BP's big-oil peers like ExxonMobil (NYSE:XOM) running into trouble, it's worth wondering if an investment in BP is a good idea right now. Let's take a closer look.
A rough year
Like ExxonMobil and other oil companies, BP isn't having a good 2020. First the Saudi Arabia-Russia price war caused oil prices to crash, and then the pandemic destroyed demand for fuel, keeping global energy prices weak.
BP's third-quarter 2020 performance was better than it was in the first or second quarter, although that's not saying much. The company managed to eke out an underlying replacement-cost profit of just $100 million, compared to third-quarter 2019's $2.3 billion. Of course, it was still better than the multibillion-dollar losses in the first and second quarters of 2020.
But in its second-quarter earnings call, BP unveiled a new strategy to radically transform itself into a hybrid energy company, in which oil and gas investments are dialed back while funding new investments in renewable energy. So, to a certain extent, the oil-focused BP's recent performance doesn't tell investors a whole lot about whether the company is a good investment, although its high debt level of $72.8 billion (roughly equal to its current market cap) could hamper new investment efforts.
Or, as CEO Bernard Looney said in the third-quarter earnings release, "Having set out our new strategy in detail, our priority is execution." So, can BP execute?
Full steam ahead
BP has already begun its transition, although the effort currently seems a bit piecemeal.
Since Sept. 1, BP has announced a number of high-profile partnerships with various other companies, including:
- A letter of intent to collaborate with Danish company Oersted on a green-hydrogen production facility.
- The formation of the Northern Endurance Partnership with companies including oil majors Royal Dutch Shell and Total, which will develop offshore carbon dioxide transportation and storage infrastructure in the North Sea. BP will operate the project.
- The receipt of a contract worth 21 million British pounds (about $28.3 million) from Police Scotland to provide 1,000 electric vehicle charging points across Scotland through its BP Chargemaster subsidiary.
- A strategic collaboration with Microsoft to "develop new technology innovations and digital solutions to help meet their sustainability aims, including reducing energy use and carbon emissions." As part of the partnership, Microsoft will provide BP with Azure cloud services, and BP will provide Microsoft with clean energy.
- A $1.1 billion stake in offshore U.S. wind projects being developed by Norway's oil major Equinor.
While this is a substantial amount of investment in just three months, it seems a bit like BP is throwing a lot of stuff at the wall to see what sticks. This may ultimately be a sound strategy: Green energy is still very much in its infancy; an all-in bet on a single technology might not pan out. On the other hand, small investments may not move the needle in a substantial way for the energy giant.
BP only announced its new strategy in August, so it makes sense that its initial projects are smaller in scale. However, investors should expect to see more-substantial projects ahead. If they don't materialize, it will be cause for concern.
Down the road
Whatever you think of BP's plans to shift away from oil, you can't accuse it of not doing its research. In mid-September, BP released its 2020 Energy Outlook, which explored possible scenarios for energy markets over the coming 30 years. In all of the scenarios BP gamed out, demand for oil drops. The most optimistic scenario for oil consumption forecasts a 10% decline, while the least optimistic -- which assumes aggressive policy measures to combat climate change -- sees a decline of 80%.
In all of the scenarios, renewable energy consumption grows and diversifies, coal consumption declines, and natural gas consumption varies between one-third higher than in 2018 and one-third lower.
BP is quick to say that these aren't predictions of what will happen, but simply a "range of outcomes" of what could happen. Given that all of the outcomes indicate a decline in oil and growth in a diverse group of renewables, BP's strategy of pivoting to where the growth is makes sense.
Obviously, there are a lot of variables here. Oil prices, fuel demand, global energy policy, and even the resolve of BP's management team will determine whether this strategic shift pays off. As a smart colleague of mine put it, will BP have the stomach to stick with this plan if oil hits $80 a barrel?
Given current energy market conditions and outlook, I'd rather own shares in a renewable energy company right now than an oil company. While there's a lot of risk (and a lot of debt) involved here, BP's current 8.8% dividend yield makes it a worthwhile, if speculative, bet for long-term investors.
But this isn't one to buy and forget about: Smart shareholders will keep close tabs on BP to ensure that its plan stays on track.