Q1 results, which left the price little changed, show low energy prices continuing to take their toll on Shell. The numbers include two months contribution from BG, but even so, profits are sharply down on the year. Strip out the one-off items to get a better view of the underlying picture, and Shell's earnings for the quarter fell by 58% to $1.6bn (Q1 2015: $3.7bn). The damage was inflicted by weak refining margins and lower oil, gas and LNG prices; Shell's own cost cutting efforts meant that BG's cost base was absorbed with no rise in overall operating expenses.
As expected, the dividend was held flat at 47c, in line with a previous commitment to pay at least $1.88 this year. Given underlying earnings per share of just 22c (Q1 2015: 59c) Shell is currently paying out more than $2 for every $1 it earns.
Upstream, Shell lost $1.4bn in the quarter, after losing $0.2bn in Q1 2015. The Integrated Gas business earned $1.0bn, compared to $1.5bn a year ago, whilst Downstream earnings fell 24% to $2.0bn (Q1 2015: $2.65bn).
Cash flow collapsed by 91% to just $661m, but this was largely due to a big swing in working capital of $3.9bn. Gearing rose to 26.1%, largely due to the cash paid as part of the BG deal costs.
Shell say that they face a unique opportunity to simplify and reshape the company as they integrate BG and rebase their spending plans. They now expect to end the year with operating expenses at a run rate of $40bn p.a. compared to $53bn spent at BG and Shell in 2014.
Capex plans are falling further, with the 2016 total trending toward $30bn and Shell now predict that the enlarged group will spend 36% less than the 2014 equivalent.
In total, Shell reckon that they will have absorbed BG, but still end the year having spent less on capex and opex than Shell spent on its own in 2015. Spend will continue to be managed lower, taking advantage of the deflationary conditions in the industry and the cost saving opportunities presented by the merger.
The benefit of the merger in terms of production volumes was shown in a 16% increase to 3.661m barrels of oil equivalent per day (boe/d), an increase that would have been higher, had BG been included for the full three months. BG's own production averaged 0.8m boe/d. LNG production rose 14%, benefiting from BG's 1.58m tonnes of production. Downstream volumes, unaffected by the BG deal, were fractionally lower.
Shell, in common with other oil companies, has been enjoying some respite so far this year, as oil prices have bounced from their lows. Not far enough to give much support to profits, but enough to push some of the Armageddon scenarios off the table.
The company is sticking by its promise to pay $1.88 as a minimum dividend for the year. But presently, this seems unlikely to be covered. Shell would argue that at current prices, the industry will invest so little, that future production will fall, creating a global shortage of oil that will ensure a price recovery. In the meantime, Shell is prepared to let its balance sheet take the strain.
A reduction of $13bn in operating expenses is almost unfathomable and there have clearly been no sacred cows left to graze undisturbed. Capex plans are similarly pole-axed and the group is clearly going to emerge as a leaner and fitter animal at the end of it all.
Post-BG, Shell is now the global leader in LNG, with a strong presence in deep-water oil and gas production. That is all well and good, but the flip side of these strong positions is that both LNG and deep fields tend to be relatively expensive sources of oil and gas. So Shell is strongly positioned in a high cost energy world, but we are less sure about its standing if there is little further recovery in oil and gas prices.
Investors have to hope that yield support works for them in the meantime. At the current price of around 1750p, and an exchange rate of $1.45 the dividend commitment of $1.88 per share works out at a yield of around 7.4%. That level indicates a degree of worry that the dividend may prove unsustainable.
Shareholders should not doubt Shell's intention to pay. The company's commitment to the dividend is legendary, indeed half of Holland would keel over in apoplectic horror if Royal Dutch Shell ever cut the payout. The question is whether the company will have the choice. Even after cutting anything that moves, (apart from the dividend), Shell's spending plans outstrip its likely cash flows. That means gearing will continue to rise, a process that can only go so far.
So think of Shell as a hedge on your petrol bill. If you own the stock, and notice that your cost of filling up keeps falling further, you should probably expect bad news from your investment. On the other hand, if the cost of the fill-up is starting to hurt, the chances are that your dividends have become more secure.
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