BP
Shares in BP (LSE: BP) have long been a favourite for income-seeking investors, but investors seem to be increasingly sceptical over whether the oil giant can afford its dividends ascommodity prices slump. Underlying earnings have fallen by 42% in the first nine months of 2015, but BP is holding its dividend steady.
BP is working hard to adapt to lower oil prices, and has plans to lower its break-even oil price to around $60 per barrel. But currently, the price of Brent crude oil is just $44 per barrel, well below its targeted break-even point. So unless oil prices recover to at least $60 per barrel, BP would need to fund its dividend by selling assets and raising debt. Although doing this would be sustainable in the short term, neither is a viable long-term strategy.
However, analysts dont expect oil prices will remain below $60 per barrel indefinitely, and so it would seem that BPs 6.9% dividend yield should be sustainable. But even though BPs dividend seems safe, I would prefer to stay out of its shares for now.
Commodity prices are unlikely to bounce back straight away and trading conditions remain uncertain. Most importantly, though, BPs valuations are not cheap enough. Its shares trade at 15.4 times its expected 2015 earnings, compared to Shells forward P/E of 13.3.
Centrica
Centricas (LSE: CNA) prospective dividend yield of 5.1% may look tempting too, but the outlook on its earnings remains unappealing. Being an integrated energy company was supposed to help itmaintain a steady stream of cash flows, which would enable the companyto pay handsome dividends to shareholders. Recently, though, Centricas upstream business has only been a drag on its earnings.
Lower oil prices are largely to blame for the collapse in earnings from its exploration and production business, but it is the companys focus on regions of high costs of production which has made matters much worse. Adjusted earnings from upstream have fallen some 78% in its latest interim results, and has more than offset all of the improvement to the supply side of Centricas business. So, unless we expect oil prices to recover soon, I would prefer to stay out of Centricas shares.
SSE
Lower energy prices and weakness in consumer demand is hurting SSE (LSE: SSE), too. And to make matters worse, uncertainty continues to overhang its share price. Investors are remaining on the sidelines as they await the conclusion of the Competition and Markets Authority investigation. Although unlikely, the CMA couldsee a new regulatory framework being drawn up, and this could potentially see the margins of utility companies squeezed further. Its shares have lost 10% of its value since the start of the year, and now offer a prospective dividend yield of 6.3%.
But there is an important upcoming catalyst that should help its share price. The introduction of a capacity market in 2018, which will see energy companies get paid for keeping their power plants available during periods of peak demand and to back up intermittent renewable generation, shouldprovide a significant boost to SSEs earnings in the longer run.
Centrica will benefit as wellfrom the introduction of a capacity market, but its smaller electricity generation capacitymeans it has less to gain. As it stands, SSE would see a boost to its earnings of around 7-9p per share annually, which is worth roughly 6-8% of its underlying earnings. With such an upside to earnings, this seems to be a good enough reason to buy SSE.
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Jack Tang has aposition inRoyal Dutch Shell plc. The Motley Fool UK has recommended Centrica. We Fools don’t all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.