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Royal Dutch Shell - More cash, less carbon, scrip gone

Nicholas Hyett | 28 November 2017 | A A A
Royal Dutch Shell - More cash, less carbon, scrip gone

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Royal Dutch Shell Plc B Shares EUR0.07

Sell: 1,627.40 | Buy: 1,627.80 | Change 49.60 (3.14%)
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Shell has increased its organic free cash flow guidance as part of a management update, while also announcing its intention to scrap the scrip dividend programme from the fourth quarter of 2017 and begin share buybacks.

The company also revealed new carbon footprint goals for its energy products.

The shares rose 2.3% on the news.

Our View

There's been a lot to like in Shell's recent results, with all the major metrics heading in the right direction. The strong free cash flow performance is particularly eye catching, more than covering the cash portion of the dividend and allowing the group to scrap the scrip dividend (where it pays its dividend in new shares) this year.

Achieving that while being paid less than $50 a barrel and integrating the major BG acquisition is undeniably impressive.

However, much of the improved performance is coming from the chemicals and refining businesses rather than the wellhead. That's a reflection of lower oil prices over the past 12 months, but if the recent price recovery proves sustainable then we should see meaningful progress in upstream from here.

If we had a concern it's that new investment remains at rock bottom, and well behind total asset depreciation. That's keeping costs low for now, but at some point Shell will have to fork out to replenish the oil it's currently pumping and selling.

The still significant debt pile may hamper investment in the near term and could continue to soak up cash, holding back dividend growth. However, asset sales and improving cash flow mean net debt is falling at an increasingly rapid pace. Shell has also taken $10bn of operating costs out of the combined BG/Shell business relative to two years ago, boosting profits.

Although planned asset sales are drawing to an end, the group expects disposals to tick along at a reasonable pace going forwards and that should provide a cash infusion which can fund the newly announced share buyback.

The prospective yield has come back a bit in recent months, a reflection of the group's improved cash position, and currently stands at 5.9%. This remains an attraction, but with plenty of other demands on the group's cash, growth might be a little thin on the ground in the near term.

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Trading Update

Annual organic cash flow guidance for 2020 has increased from $20-25bn to $25bn-$30bn (at $60 a barrel). This improved guidance reflects the strong cash flow Shell has generated over the past five quarters and continued progress on its asset disposal programme.

The company expects to continue to grow organic free cash flow throughout the 2020s at a more moderate rate. Increased distributions to shareholders in the form of share buybacks, at least $25bn up to 2020, is expected to support stronger growth in per share profits.

Shell remains on track to deliver 1m barrels of oil equivalent per day (boepd), and $10bn of cash flow from operations from new projects by 2018 (at $60 per barrel). The group expects to deliver incremental cash flow from operations of $5bn by 2020.

Annual capital investment is expected to remain between $25 and $30 billion. At current oil prices capital investment will be managed towards the bottom end of that range, or lower if needed. Annual underlying operational expenditure will remain below $38 billion until 2020, with efficiency gains expected to deliver further reductions.

Gearing stood at 25.4% at the end of Q3 2017 and more than $5bn of additional divestments since then mean gearing is now approaching 20%. The $30 billion divestment programme between 2016 and 2018 is almost complete, and Shell expects to continue divestments at an average rate of more than $5bn until at least 2020.

Shell has announced new plans to halve the net carbon footprint of its energy products by 2050, with a reduction of 20% by 2035. Linked to this, the group will increase investment in new energies to $1-$2bn a year until 2020.

Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.