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Posts Tagged ‘BP’
Sunday, April 24th, 2011 by Tim Delaney
When the Deepwater Horizon blew up in April of 2010 and the Macondo well started spilling thousands of barrels of oil a day into the Gulf of Mexico, BP’s management had to deal with massive human, environmental, operational, and financial challenges. The controversy over how well BP handled the disaster will take years to resolve. But BP’s response to the financial aspects of the crisis is beginning to come into focus.
This post is about how BP met the financial challenges that flowed from the Macondo well spill. Although the company may not be a model for safety management or environmental stewardship, BP is a surprisingly good model for liquidity management under stress.
Operating Results Suffer
The financial impact on BP was sudden and severe. Although BP’s revenue was scarcely affected, there was a massive operating loss in the second quarter of 2010; and the company barely broke even in the third quarter.
Spill Costs Soar Then Plummet
Costs for the spill were $32.1 billion in the second quarter, but then fell to $7.7 billion in the third and to only $1.0 billion in the fourth. The expense in the second quarter was a special charge to create a reserve for oil spill costs. Adjusted for spill costs, BP’s operating margins fell only slightly — from 12.9% in the first quarter to 11.8% in the fourth.
Spill Expenses Exceed Spill Spending
The cash outlays for the spill followed a different pattern from the expenses. BP accrued $40.9 billion in spill expenses in 2010 but made only $17.7 billion in cash payments related to the spill.
Rising Liquidity Position
Still, coming up with $17.7 billion in a hurry was a problem for BP, as it would be for any company caught in a costly, fast-growing crisis. Yet BP was able to improve its liquidity in the face of those extraordinary demands on its cash by adding $7.6 billion in new revolving credit commitments and $20.0 billion to its cash reserves.
Sources and Uses of Cash
With so much money pouring into the Gulf oil spill, how was BP able to add so much to its cash reserves? The company cut uses – mainly shareholder payouts (dividends and share repurchases), which fell from $2.5 billion in the first quarter to under $100 million in each of the last three. It also boosted sources – mainly $16.4 billion in asset sales and $10.8 billion in borrowings in the last two quarters. That drove cash flow to $10.2 billion for the year, in spite of outlays for the spill.
How to Handle a Liquidity Crisis
What made BP’s response so effective? Is what BP did a good model for evaluating companies facing liquidity problems? We think so. Companies struggling with liquidity problems need to:
- React quickly
BP recognized the severity of the problem right away. In financial terms, that meant taking a big charge in the same period as the Deepwater Horizon disaster.
- Reduce discretionary spending
BP stopped share repurchases and cut most of the dividend in the second quarter. It had less flexibility with capital spending, which remained at pre-spill levels or more throughout the year.
- Increase cash from operations
In the second quarter, BP was able to generate only slightly less cash flow from operations than in the first, thanks to a $13.5 billion inflow from working capital. Big gains in working capital efficiency are difficult to sustain, and BP’s cash flows from operations went negative in the following two quarters.
- Exploit other internal sources
What BP couldn’t get from operations it generated from asset sales. The company sold gas and oil fields, pipelines, and retail operations to strategic buyers.
- Tap external sources
BP turned to the financial markets for funding. It raised $4.6 billion in bank loans backed by crude oil sales from fields in Angola and Azerbaijan. It raised another $6.2 billion from bond issues in Europe and the United States.
It’s not over for BP: costs and cash outlays are likely to rise. But the worst of the crisis is behind them. Today, Tokyo Electric Power Company is struggling with an even greater problem. The challenges they are facing are likely to dwarf BP’s. It will be interesting to see how well they cope with them, and, financially at least, whether they are as effective as BP.
Tags: BP, Liquidity, Management
Posted in Uncategorized | 1 Comment »
Sunday, October 10th, 2010 by Tim Delaney
Back in July, we discussed how much progress BP seemed to be making with safety (See “BP’s Safety Warning Signs,” July 11). From 2005 through 2009, the company went from the worst record among the majors to about the best in terms of injuries, deaths, and spills. But, of course, those measures didn’t capture the grave risks hidden below the surface at BP (See “Why, Tony, why?” August 8).
The Macondo well disaster in April 2010 was the shocking result, but since then BP has stopped the leak and made a lot of progress cleaning up the damage, paying claims, and strengthening its finances. Between the end of December 2009 and June 2010, it built up reserves of cash and un-borrowed revolving credits from $13.3 billion to $24.3 billion. From the first half of 2009 to the first half of 2010, it cut capital spending and dividends from $15.3 billion to $11.2 billion.
And it improved cash flow from operating activities from $12.3 billion to $14.4 billion, in spite of $12.5 billion in payments for the Gulf of Mexico oil spill. We don’t question BP’s gains in liquidity or its cash savings from capital spending and dividend cuts. But we think the reported improvement in cash flow from operations is misleading.
For BP, a big source of cash in the first half of 2010 was a $10.3 billion increase in “trade and other payables.” Some $8.3 billion of that is related to the oil spill, but that means $2.0 billion probably is from an increase trade payables. Almost all of BP’s operating cash flow gains were from delaying payments to suppliers, and that’s not a sustainable source of cash.
Once again, the progress in a key measure at BP is more apparent than real. We think the lesson for risk analysts is, as always, not to take things at face value. The trend may seem to be improving, but unless you understand what’s driving the trend you can never really be sure.
Tags: BP, Cash Flow, Risk Management
Posted in Uncategorized | 3 Comments »
Sunday, August 8th, 2010 by Tim Delaney
 When Tony Hayward took over as Group CEO of BP in May of 2007, he acknowledged BP’s past failings and promised to correct them. He continued plans to make $7 billion in safety improvements. He took personal charge of BP’s group operations risk committee. He expanded the safety audit group and increased safety training.
Much good it did BP or him. When BP’s Macondo well blew, eleven men died, and in the aftermath as much as 7.8 million barrels of oil spewed into the Gulf of Mexico. The disaster will cost BP $32 billion by its own estimate. Hayward lost his job as CEO.
How could this happen? Where did he go wrong? What were the warning signs of problems in risk management at BP?
Hayward brought BP’s accident rate from the worst of the big three oil companies in 2007 to the best in 2009. But there were signs of deep troubles beneath the statistical surface. In 2009, U.S. safety regulators assessed the largest safety fine in U.S. history against BP for “willful and egregious” violations of safety controls and failure to fix hazards at the Texas City refinery dating back to 2005.
BP ended 2009 with the best net margins among the big three as well, but Hayward wanted more. As he said about his company’s results, “BP is performing okay now. We are back in the pack and doing fine. But there is still a gap between us and the best in the industry…So we think there is a long way to run in terms of overall efficiency that we can drive into BP.”
There were strong incentives for Hayward to think that way. Under BP’s bonus plan, top executives received no share awards unless BP ranked at least third place among the oil majors. BP finished last in shareholder returns for 2005 – 2007, and Hayward failed to get a share bonus in 2007.
BP took great pride in being a leader in deepwater drilling. As its head of exploration and production put it, “We don’t do simple things. We are prepared to work at the frontier and manage the risks.” Yet Thunder Horse, the company’s showcase deep field in the Gulf, was delayed for years by a flood of blunders, including faulty welds and improperly installed valves.
Whatever gains BP made against risk at the top, they did not penetrate down to the deepest levels of the company, where simple safety violations get corrected and basic quality checks take place. The pressure to keep up with Exxon and the rest of the majors meant line managers at BP had to make trade-offs between key measures like accident rates and new reserves and “overall efficiency.” They made them poorly at Texas City and Thunder Horse and disastrously at Macondo.
The risk management lesson? It’s hard to make deep, company-wide changes in risk management. It takes more than just a few years. It’s an even harder and longer job when incentives focus on returns and ignore risk.
Tags: BP, Risk Management, Tony Hayward
Posted in Uncategorized | 1 Comment »
Sunday, July 11th, 2010 by Tim Delaney
It’s tragically obvious now that BP has deep problems with operational risk management, but it’s no challenge to identify risks after the fact. For credit analysts the challenge is evaluating risks before they occur and to do it with limited information. Using publicly available information, what could a credit analyst have learned about safety at BP before the April 2010 Deepwater Horizon disaster?
We’ve been studying the safety data that all the major oil companies use to report on safety, and we think you may find it surprising. By most measures, BP has made great progress since an explosion and fire killed 15 people and injured 180 others at its Texas City refinery in 2005. By 2009, BP arguably had become the safest major oil company in the world.
You can see from the first chart how BP’s accident rate fell between 2005 and 2009 and how BP went from being the worst in the industry to closing the gap with long-time safety leader, Exxon.
The next chart shows how BP cut fatalities down to the lowest among the top three oil majors.
The third chart shows how BP reduced spills, an important indicator of process safety, to the lowest level among the industry leaders.
Before the terrible facts of the Deepwater Horizon explosion and the Macondo well spill, BP appeared to be in good control of its operational risks, but of course it wasn’t. So what’s the risk management lesson here? It’s that the conventional measures don’t always capture the complete risks.
That’s true not just for operational risk but for credit and market risk as well. Were there any signs of weakness in risk management at BP? We think there were, and we’ll talk more about it in our next blog post.
Tags: BP, Oil Spill, Operational Risk, Risk Management, Safety
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