Saturday, May 24, 2014

Cash-Rich Royal Dutch Shell Is Spending Wisely

This article was originally published by TheStreet on May 14, 2014
By Sarfaraz A. Khan. Research Asst Raza B.
NEW YORK (TheStreet) -- The return on average capital employed, which measures a company's ability to convert capital into profits, of the oil behemoth Royal Dutch Shell (RDS.A_) fell to 6.1% in the first quarter of 2014, down from 13% a year earlier. The company, however, appears to be going on a right track. Shell continues to reward shareholders through dividends and buybacks.

In its previous quarterly results, Shell's reported a rebound of its struggling upstream, or exploration and production, business in the Americas region. Downstream, or refining and distribution, earnings, on the other hand, were negatively influenced by lower refining margins, but even these more than doubled sequentially.
Although Shell has not seen any growth in production, in the previous quarter, the company reported its highest level of cash flows from operations over the last several years, some of which is due to the asset sales. The company intends to sell $15 billion of assets over the next two years.
As a result, despite sluggish growth, Shell continues to reward its shareholders through dividends and buybacks. Meanwhile, the company is spending heavily on its upstream projects but is staying away from risky ventures.
Shell's two American depository receipts, classed as A and B shares, have risen by more than 12% each year to date, currently around $80 and $87 respectively. Due to the Dutch dividend withholding tax rules, the company only repurchases B shares.
The company's net income, in terms of current cost of supplies, dropped to $4.5 billion from $8 billion in the corresponding quarter last year due to the impairment charges of $2.9 billion related to its refineries in Asia and Europe.
Adjusted earnings and revenues, on the other hand, dropped by 3% each from the same quarter last year to $7.3 billion and $109.66 billion respectively.
The company's output fell by 8.7% to 3.25 million barrels of oil equivalents per day. The warm weather in Europe and asset replacements and maintenance cost in Canadian oil sands, Asia Pacific and North America dragged production.
Shell got nearly 78% of its adjusted profits from upstream operations and 21% from downstream.
The highlight of the upstream segment was the Americas region where Shell reported adjusted profits of $686 million, after losing money in the last three consecutive quarters and up 89% year-over-year. This improvement has come thanks to the 41% increase in realized gas prices. The increase in output coming from the $2 billion acquisition of Repsol's LNG assets has also helped.
Shell's adjusted downstream profits on the other hand, fell nearly 15% year-over-year to $1.57 billion due to the drop in margins. These results, however, show considerable improvement from last year when is profits gradually fell from $1.17 billion in the second quarter to just $558 million in the fourth quarter of 2013.
The world's leading integrated oil companies, such as Shell, BP (BP_) and Exxon Mobil(XOM_), have struggled due to the declining output and uncertain fuel pricing environment amid the ever increasing production costs.
Shell, however, still generates billions in cash flow. In the previous quarter, Shell generated $14 billion in cash flows from operations, an increase from $11.6 billion in the same quarter last year. The company is keeping a strict check on its capital expenditure by delaying investments in some of its major projects, such as the construction of a $20 billion gas-to-liquid plant in Louisiana. Moreover, Shell said it will not make any new commitments in Russia due to the political tensions related to the Ukraine crisis.
Shell's cash position is also supported by its ongoing divestment programs. So far this year, Shell has announced asset sales of $4.5 billion. The company has recently entered into an agreement with Vitol who is buying Shell's downstream assets in Australia for $2.6 billion. Kuwait Petroleum has already purchased the company's downstream assets in Italy. Shell has also sold its 16.3% interest in Czech Republic's Ceska Rafinerska while Shell's downstream assets in Norway and Denmark are also on sale. So far this year, the company has collected proceeds worth nearly $200 million from downstream divestments.
Besides these, Shell has also collected $300 million from the sale of its upstream assets, including proceeds from the sale of its acreage in Mississippi Lime in Kansas. Shell will also collect $90 million in the current month from the sale of its 50% stake in 312,000 acres in the Niobrara and Sandwash basins. The company is working on a "fix or divest" strategy for its North American shale assets that have generated little returns.
These efforts have enabled Shell use its cash muscle to rewards its shareholders through dividends and buybacks. The company has recently announced dividend payment of 94 cents per American depository share for the previous quarter, up 4% from the prior year. In the last four quarters, the company spent $11 billion on dividends and repurchased more than $5 billion of its shares.
Meanwhile, the company continues to invest heavily in its upstream projects in an effort to increase its production. In the previous quarter, the company spent $10.1 billion as capital investments, of which $9.3 billion went towards upstream projects.
At the Gulf of Mexico, Shell is on track to begin production from Mars-B project which could boost the company's output by 100,000 barrels of oil equivalent per day by 2016. Furthermore, Shell is also working on the Appomattox deep-water project and the Vicksburg-A discovery that can increase Shell's production by 150,000 barrels of oil equivalents per day.
Outside of North America, Shell has reported initial production from its project in offshore Malaysia, in which Shell holds a minority interest of 21%. The project could produce 30,000 barrels of oil equivalents per day. The company is now exporting crude from the Majnoon oil field in Iraq, where production could cross 175,000 barrels per day. Moreover, the company would ramp up its liquefied petroleum gas (LPG) supply to Kuwait due to the new $12 billion six-year supply deal.