After several months of uncertainty, we now have some idea of what BP's
I have previously described BP as a relatively high-risk share for the FTSE 100 (UKX), due to uncertainty over its Russian joint venture TNK-BP and the as-yet unquantified settlement for the Deepwater Horizon disaster.
The new deal lowers its risk in Russia, and provides it with plenty of cash to cover its U.S. liabilities. It suggests the possibility that, as the consequences of the transaction become clearer, the risk discount that has been weighing on BP's shares will start to unwind.
The deal
BP is selling its 50% stake in TNK-BP to state-owned oil company Rosneft for cash and shares, using some of the cash to buy further shares in Rosneft from the Russian government. Together with its existing 1.25% stake in Rosneft, BP will have a 19.75% shareholding and cash of $12.3 billion.
The oligarchs who own the other half of TNK-BP are selling their stake to Rosneft for $28 billion in cash. That equates to over $1 billion more than BP is receiving, but foreigners cannot expect equal treatment in Russia.
Effectively, BP swaps a 50% interest in TNK-BP for a near 20% interest in a much larger entity, which includes all of the TNK-BP assets, in partnership with a Russian state-owned organization rather than independent oligarchs. It will get two seats on Rosneft's board, enabling it to equity account its interest.
Dilutive
The transaction is dilutive. Initial estimates suggest that BP's share of production from Russia will drop from around one million barrels per day to 900,000, while its share of earnings will drop from some $4 billion to $3 billion. Dividends that were running close to $2 billion a year will be slashed by more than half.
Together with proceeds from other asset sales, BP should have more than enough cash to settle its U.S. liabilities. What it does with the surplus, how much is returned to shareholders, and how much is reinvested, is the next strategic question facing the company, which may have a significant bearing on the share price.
The deal cements a strong long-term position for BP in Russia. The acquisition of TNK-BP will make Rosneft the world's largest oil producer in terms of volume, and BP's share of Russian oil and gas reserves will rise from $4.8 billion to $5.4 billion.
The state-owned company should also be a safer partner. The high court case earlier this year between Roman Abramovich and Boris Berezovsky introduced westerners to the Russian word krysha, literally meaning "roof" but carrying the uglier connotation of protection. Nobody provides better krysha than the state.
Risk
The flipside is that there is no one to protect you if you have a disagreement with the state. The rule of law is still weak in Russia, and BP's board members are unlikely to have much influence over Rosneft's direction. Remember that TNK-BP's board withheld the dividend to put pressure on BP.
There is little doubt that Rosneft's coup in taking TNK-BP's assets back into state ownership owes much to the close relationship between its CEO Igor Sechin and president Vladimir Putin. Sechin is a former deputy prime minister and was a leading member of the Siloviki, the group of former FSB agents gathered around Putin. The successful outcome of the TNK-BP situation is due as much to it being convenient for the state as to any actions on BP's part.
But factions change and governments change. BP still has a lot of embedded Russian risk.
Rosneft itself is slated for privatization in 2013 or 2014, and is not immune to market forces. The acquisition of TNK-BP will strain its balance sheet, prompting Moody's to put the company's rating on review for downgrade.
But there is no reward without risk in the oil and gas business. BP invested $8 billion into TNK-BP in 2003, and is now selling its stake for some $27 billion, having taken $19 billion out in dividends. It was a big bet that paid off.
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