BP steps up cost cutting as profits slide

BP reported 2025 profits of $7.5bn, down from $8.9bn a year earlier, with Q4 profits falling 30% to $1.54bn amid roughly a 20% decline in oil prices and Brent dipping below $60/bbl. Management suspended the share buyback, raised its structural cost‑savings target to $5.5bn–$6.5bn by end‑2027 (from up to $5bn), is cutting spending and pursuing non‑core disposals including a 65% Castrol stake sale to repair a roughly $22bn debt position. New CEO Meg O'Neill takes over in April as BP pivots back toward oil & gas from renewables, prompting shareholder scrutiny and a pension‑fund resolution challenging the upstream spending strategy.

Analysis

Market structure: The near-term winners are pure upstream and mid‑cycle E&P operators that can generate free cash at Brent <$60 (higher operating leverage), while integrated players with mixed portfolios (BP) face investor punishment for strategy churn and suspended buybacks. BP’s $22bn debt load and a $5.5–6.5bn cost‑save target to end‑2027 shift its capital allocation dynamics versus peers; lower oil (-20% last year, Brent < $60) compresses margins and raises the bar for return on new upstream capex. Renewables suppliers and low‑carbon contractors lose optionality as capital is redeployed to oil & gas, while consumer/importer countries benefit from softer fuel costs.

Risk assessment: Tail risks include a regulatory clampdown (accelerated policy restrictions or litigation) that could strand newly acquired upstream assets, or an oil spike (+$15–$25/bbl) that flip revenues but stresses capex discipline and hasty M&A. Immediate (days) risks: share volatility around April AGM and CEO transition; short term (weeks–months): realization risk of disposals and cost saves; long term (to 2027): execution of upstream strategy vs impairment history (75% of disposal losses since 2020). Hidden dependency: successful deleveraging hinges on getting market prices for non‑core sales and avoiding repeat impairments.

Trade implications: Tactical relative value is to underweight BP equity vs better‑capitalised peers (e.g., SHEL) over the next 6–12 months while funding the position with shorter duration exposure to oil prices. Use options to control risk: buy 6–12 month puts on BP (10–15% OTM) or set a pair trade long SHEL / short BP sized 2–3% NAV each, horizon 6–12 months, reviewing after Q2 results or once cost‑save run‑rate reaches $2–3bn. Consider a small convex commodity hedge: Jan‑2027 Brent call spread ($70/$85) sized 0.5–1% NAV to capture upside if supply tightens.

Contrarian angles: Consensus underestimates the possibility that disciplined upstream refocus plus $6bn+ structural savings could restore FCF and force buybacks/returns by 2028, creating asymmetric upside if Brent reclaims $75 for 90 days. The market may be over‑penalising BP for governance and short‑term earnings misses — set buy triggers (e.g., BP debt <= $18bn or announcement of restart of buybacks) to add exposure. Unintended consequence: cutting renewables could increase index outflows and ESG volatility, so liquidity and index‑tracking impacts can amplify moves independent of fundamentals.

Key Decisions for Investors

• Establish a 2.5% NAV pair trade: long SHEL (3%) financed by short BP (2.5%) — horizon 6–12 months — exit or rebalance after Q2 2026 results or if Brent > $75 for 30 consecutive days.
• Initiate a defensive hedge: buy 6–12 month BP puts ~10–15% OTM sized 1% NAV (or equivalent short equity) to protect against further downside into the April AGM and CEO transition; cut if BP announces restart of buybacks or net debt falls below $18bn.
• Allocate 0.5–1% NAV to a Jan‑2027 Brent call spread ($70/$85 strikes) to capture asymmetric upside if supply tightens; cap cost and time to 18+ months to align with cost‑save realization window to 2027.
• Purchase 0.5% NAV of BP 5‑year CDS protection (or long BP senior bonds insurance) as a tail hedge against governance/regulatory shocks; unwind if BP achieves targeted disposals raising >$5bn proceeds or net debt drops by >$4bn.