BP is not a company that has needed to seek its problems over the past few years. Aside from the near-catastrophic experience of the Macondo incident, the Russian joint venture TNK-BP has been a thorn in the super-major’s side for the last five years.
Now it would seem that management have decided enough is enough and are seeking an exit having received a number of unsolicited approaches for BP’s 50% share in the venture.
Since 2003, when TNK-BP was established, the joint venture with a consortium consisting of Alpha Group, Access Industries and Renova (AAR), has been core to BP operations, generating huge returns on the initial $7billion investment, contributing 19% of net income and 29% of total production last year.
However, the partnership began to degenerate in 2008 when Russian police raided the offices of BP and TNK-BP in Moscow. AAR threatened BP with legal action designed to strip BP-nominated directors of their powers.
Current BP CEO Bob Dudley, the CEO of TNK-BP at the time, was then hounded out of Russia, denied a working visa, resulting in his ultimate resignation from the venture’s board.
Having conceded some influence in the joint venture to AAR to end hostilities, tensions flared up once more, when in 2011 a $16billion deal between BP and Rosneft to jointly explore for oil and gas in the Russian Arctic collapsed, after AAR won a court injunction against the deal.
Both partners now recognise the venture cannot continue in its current form and having rejected AAR’s offer to swap their holdings in TNK-BP for BP shares, it would appear the BP management have decided instead to simply “get out of Dodge”.
The unsolicited approaches are rumoured to have come from the state-backed Rosneft or Gazprom both of which have publicly shown interest, while China’s Sinopec and CNOOC are reportedly watching closely.
You can’t but think that the oligarchs involved in AAR may have scored a massive political own goal, potentially trading a fairly complicit western partner for a much more powerful Russian one, wielding more influence than they have in the higher echelons of Russian politics.
What now for BP and its shareholders?
The shares currently trade at around a 20% discount to the sector on 2013 price earnings forecasts, for reasons as much to do with the problems in Russia, as the potential liability of the Deepwater Horizon disaster. Although the disposal of the Russian assets is expected to be earnings dilutive, investors have long discounted the value of the Russian assets given the ongoing uncertainty and the market has reacted fairly positively to news of a potential sale.
If BP’s management can secure an attractive price, the sale of the Russian assets will both create value for shareholders and remove a tail that has too often wagged the dog.
While removing one major risk factor, a Russian exit could also afford BP the financial muscle to reach a settlement with the US Department of Justice by the end of the summer and still leave it in a far stronger financial position than many would have expected.
What then for the balance of proceeds?
Management are rumoured to have spoken with institutional shareholders over the prospect of returning the capital to shareholders after settling with US authorities and paying down some debt.
I would also expect the company to continue to realign its portfolio towards more value-creative and growth-orientated projects such as the Arctic or growing its footprint in core areas such as the US or Brazil and new frontiers such as East Africa.
This will most likely involve deals such as they had attempted with Rosneft in the Arctic. But with more flexibility in the balance sheet the management may also go on the acquisition trail and second-line oil stocks such as Tullow Oil, Cairn Energy, Afren and Premier Oil may come into the reckoning as BP look to rebuild acreage.
If BP management can manage their way out of Russia and consequently their potential liabilities in the US, there is little doubt a new slimmed-down and refocused company could prove to be a far more attractive investment proposition. The risk, however, is this not only attracts the attention of average investors, but also the larger predators in the sector and BP itself becomes vulnerable to a bid.
Steve McKay is divisional director at Brewin Dolphin, Aberdeen
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