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Royal Dutch Shell at the crossroads

“No attempts are currently being made to rectify under-performance in either the refining or the marketing sectors. Refiners, like Stanlow, will be disposed of to others who, if they keep them operating, will have the energy and the skill to make them profitable. Shell doesn’t want to do this.”

Posting on Shell Blog by Wilt Staph on Apr 20th, 2010 at 10:06 am

There is a palpable sense that Shell is at the crossroads in so many ways at the moment. The broad strategy, “More Upstream, Profitable Downstream” reveals more, to insiders, than the bare words may suggest. The truth is that Shell is increasingly an upstream company – for many years this business segment has been the primary focus but over the past year or so, and especially under Voser, this has accelerated. Almost any upstream is good – one is reminded of George Orwell’s Animal Farm where the rather similar mantra was “Four legs good, two legs bad!”. The upstream has four legs and the downstream only two but, reluctantly it seems, “bad” though it is, some downstream assets and businesses will be held onto so long as they are “profitable”. No such requirement seems to apply to the upstream!

Many of Shell’s new upstream projects have been dogged by immense complications. From Sakhalin to Corrib in Ireland to Tar Sands in Canada these projects are controversial for a whole range of environmental, political and social reasons. But they will continue to be pursued, despite the difficulties, because they are “good”. No such luxury applies to the downstream. No attempts are currently being made to rectify under-performance in either the refining or the marketing sectors. Refiners, like Stanlow, will be disposed of to others who, if they keep them operating, will have the energy and the skill to make them profitable. Shell doesn’t want to do this. Similarly downstream marketing businesses, like Shell New Zealand, are deemed surplus to requirements. Once again the purchaser will make them work (or they wouldn’t buy them). Shell would prefer to walk away rather than allocate resources to the radical restructuring of such apparently underperforming assets.

In the downstream especially Shell is cherry-picking what it does. The pretence that refining and marketing are core businesses has now disappeared. The Boston Consulting Group matrix is useful to summarize what is underway. The “Stars” are all in the upstream and investment will take place in them. The “Question Marks” are in the downstream, and to some extent in the upstream, and there has been a steady divestment from those that are not perceived as core for the future. The “Cash Cows” are both in the upstream (Brunei, Oman…) and the downstream and they will be milked as long as possible. Finally the “Dogs” are almost exclusively in the downstream – refineries and low return marketing businesses – and they are being disposed of at a swift rate. What is missing from this strategy is any real understanding of where Shell wants to be in the future. The evidence is that Shell will, in say ten years time, be an exclusively upstream business. If that is acknowledged now then the sensible thing to do with the two downstream businesses (refining and marketing) would be to sell them as going concerns rather than let them gradually wither away from lack of investment and lack of top management focus. Many years ago British Gas successfully divided itself into two very different businesses – one “upstream” in construct and the other a predominantly consumer business. Shell has the option of doing the same and creating a separately traded marketing business which would be similarly focused on the customer. The alternative is simply to dispose of this business in its entirety to one of the many willing buyers who regularly knock on doors in London and The Hague.

The Downstream review team currently at work should take a step back from their spreadsheets and consider the alternative of keeping the marketing business together as a whole and either creating a brand new Shell-branded company to run it in a focused way – or of selling it off in its entirety. And they should reminder that there is no synergy between refining and marketing any more and that these two wholly different businesses require separate treatment.

Related posting on Shell Blog by “Outsider” on Apr 20th, 2010 at 2:59 pm

The cost of capital for manufacturing/petrochemicals will always be lower than for E&P simply because the market perceives the risks to be lower. Burdening downstream operations with Upstream’s cost of capital guarantees that downstream will not be able to compete with their specialist peers. For gas utilities the cost of capital is even lower than for manufacturing, justifying BG’s break-up.

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