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Royal Dutch Shell - updates guidance, starts next phase of return

Sophie Lund-Yates, Equity Analyst | 7 July 2021 | A A A
Royal Dutch Shell - updates guidance, starts next phase of return

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Shell has updated guidance for the second quarter.

In Integrated Oil and Gas, the group expects to produce between 900 and 960 thousand barrels of oil equivalent per day (BOE), and LNG liquefaction volumes of 7.1 - 7.7 million tonnes, reflecting ''additional unplanned maintenance activities''. Operating expenses should be $400 - $500m lower than the first quarter.

The Upstream division expects 2,225 - 2,300 BOE, and higher spending will offset positive currency fluctuations. Marketing margins in Oil Products are expected to be higher than last quarter, and Chemical margins should be in-line.

The ''strong'' performance means Shell will increase total shareholder distributions to 20-30% of cash flow from operations, in line with the next phase of the capital returns programme. Including these higher returns and the effects of working capital, the group's retired its specific net debt target of $65bn.

The shares fell 2.0% following the announcement.

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Our view

The biggest news is that shareholder returns are being upped. After previously cutting the dividend to keep operating expenses under control, this will surely be welcome news. But it's important not be blinded by the positive sounding headlines.

The bigger picture is still murky.

Shell was hit hard by the complete collapse of oil prices last year and the subsequent fall in global demand as economies round the world went into lockdown.

Oil majors like Shell are better placed than smaller arivals, but this was still cripplingly bad news for profits. Underscoring the severity of the situation, management cut the dividend for the first time since WWII. The dividend has grown in the most recent quarter - but it's from a far lower base. And while things are moving in the right direction, investors will need to wait for debt to come down before seeing more meaningful growth. The speed at which this happens is more unclear now the group's retiring its previous net debt target. Remember, dividends are not guaranteed.

The oil price has recovered more recently - taking some of the pressure off the group. Shell reckons $60 a barrel as a long-term average, but the oil price has been below that for large parts of the last 5 years, although it's ahead at the moment.

Given the backdrop it's no surprise Shell is taking a hatchet to the cost base. Aside from cutting the dividend, the group is on track to take $3-4bn off operating costs over 12 months and 20% off planned capital investment. Despite those efforts, impairments to asset values have been pushing up gearing (debt as a percentage of total assets) in the short term, and restoring the balance sheet to good health is likely to soak up more cash going forwards.

The other major demand on the group's cash flow is a transition away from carbon intensive fossil fuels. However, the transition is slow, and we're not yet clear on the likely returns on investment. Profits will continue to be driven by oil & gas for years and perhaps decades to come.

Overall Shell has a tough time ahead. The group's resources are immense but not infinite, and it needs higher oil prices to be sustained before it can get back onto the front foot. While we think demand for oil will continue to strengthen as the world economy recovers from COVID-19, how long that takes and what scars Shell is left with remain to be seen.

Shell key facts

  • Price/earnings ratio: 8.4
  • Ten year average Price/earnings ratio: 11.3
  • Prospective dividend yield (next 12 months): 3.5%

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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First quarter results (29 April 2021)

Royal Dutch Shell reported underlying first quarter profits of $3.2bn, up from $2.9bn last year and $393m last quarter. The improvement on Q4 2020 reflects higher prices, stronger margins and lower depreciation.

The Shell board announced a dividend of $0.1735 per share for the quarter, a 4% increase on last year. Shell will increase shareholder returns when net debt is below $65bn. Net debt currently stands at $71.3bn, down from $75.4bn at the end of Q4 2020, primarily due to an increase in free cash generation.

Shell's Integrated Gas business reported a 28% increase in underlying profits to $1.4bn since Q4 2020, but a 34% fall compared with Q1 2020. The fall is primarily due to higher costs relating to credit provisions and lower contributions from marketing and trading.

In Upstream Shell's underlying profits were $963m, compared with $291m in Q1 2020 and a $748m loss in Q4 2020. The improvement primarily reflects higher realised oil prices, lower depreciation and the absence of unfavourable tax movements.

The Oil Products division reported $877m in underlying profits, up from $540m last quarter but down from $1.4bn a year ago. These results represent an improvement in refining margins, increased contributions from trading & optimisation and lower costs when compared to Q4 2020.

Profits in the Chemicals division rose from $148m a year ago to $730m, which is also an improvement on the $381m in Q4 2020. The improvements reflect stronger prices and, consequently, stronger margins.

Shell reported an underlying loss of $666m in its Corporate centre.

Free cash for the quarter came in at $7.7bn, down from $12.1bn a year ago, but up from $882m last quarter. Cash capital expenditure was $4.0bn, down from $5.0bn last year.

Find out more about Royal Dutch Shell shares including how to invest

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. 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.

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