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The Guardian: Shell posts record European profit but doubts linger

Reuters
Thursday January 31 2008
(Adds closing shares, share comparison)

By Tom Bergin

LONDON, Jan 31 (Reuters) – Royal Dutch Shell notched up the biggest ever profit of a European company of $27.6 billion in 2007, but lower production and indications of disappointing reserves suggest future earnings growth will rely on oil price rises.

The world’s second-largest non-government controlled oil company by market value said on Thursday its fourth-quarter current cost of supply (CCS) net income rose 11 percent to $6.7 billion. Excluding one-off items, the result was in the lower end of analysts’ range of forecasts.

CCS earnings strip out the impact from changes in the value of fuel inventories, and the figure is comparable to U.S. oil companies’ net income.

The rise in Shell’s profits was driven by its core upstream oil and gas production division.
Following a trend seen at Shell and peers such as BP Plc in recent years, the Anglo-Dutch company needed the big jump in oil prices to make up for a 6 percent drop in oil and gas production and a rise of over 10 percent in costs.

“(The results) will do little to assuage concerns that large integrateds are unable to capture record prices,” Peter Hutton at NCB brokers said in a note to clients.
Analysts at JP Morgan said earlier this month that the oil majors need prices above $85/barrel to sustain earnings growth.

U.S. crude prices averaged over $90 per barrel in the final quarter of 2007, before hitting a record above $100 in January.

Shell’s production was hit by the reduction of its stake in the Sakhalin gas project in Russia following government pressure, and technical problems at Shell’s unit in Canada which squeezes crude from bitumen-drenched sands.

Shell rowed back from targets to expand production in coming years, with Chief Financial Officer Peter Voser refusing to restate a plan for 1-2 percent growth to 2010 and saying output was likely to fall “slightly” in 2008.

Shell will have to pay more to achieve even this modest aim, with capital expenditure for 2008 now seen by the company growing around 7 percent to $28-29 billion after a 15 percent rise in 2007.

Although analysts had expected a capex rise, James Neale, oil analyst at Citgroup, said investors may wonder what they are getting in return for the higher spending.
Shell’s London-listed “A” shares closed up 0.11 percent at 1791 pence, lagging a 0.7 percent rise in the DJ Stoxx European oil and gas sector index.

RESERVES WORRIES

Shell did not, as in previous years, publish its reserves replacement ratio — the rate at which it matched production with new finds, instead delaying the release until later in the year.

However, the company indicated its end of 2007 reserves figures may disappoint, saying at least 1 billion barrels of resources were added in the year, compared with well over 2 billion in 2006.

The Hague-based company also took a $716 million charge related to its Nigerian operations, where violence has shut down fields. Analysts said this may lead to a cut in Nigerian reserves and the reduction of its stake in Sakhalin is also expected to weigh on reserves.

Shell has been struggling to rebuild investor confidence since admitting in 2004 that it had overstated its reserves by around a third.

A new management team was brought in and in the past two years the group has posted a strong financial performance, helped by record oil prices.

However, the oil price environment has made an operational turnaround tougher, shifting the balance of power away from international oil companies such as Shell and Exxon Mobil Corp to the governments of resource-holding nations.

Increasingly these governments prefer to have their state oil companies develop reserves, making it hard for the western majors to grow output and reserves.

Shell is finding it especially hard to grow production and reserves, and so its shares trade at a discount to peers.

Shell stock trades on a price-earnings ratio, using 2008 forecasts, of 8.71 times, according to Reuters data. BP trades at a p/e of 9.04 times, while Exxon trades at 11.2 times.

“We think that Royal Dutch Shell’s re-rating is a long-term story,” Alexandre Weinberg, analyst at Petercam, said.

REFINING WOES

A resurgence in the refining business also helped Shell and its peers in recent years but margins deteriorated sharply in the fourth quarter, as refiners found it hard to pass high crude prices onto motorists.

Analysts fear this business may be reverting to the low margins it endured for much of the 20 years to 2004 and may not in future be able to compensate for any upstream weakness.

Excluding a non-operating gain of $963 million largely from field sales, Shell’s CCS net income was $5.74 billion, compared with an average forecast of $6.1 billion in a Reuters poll of nine analysts.

(Additional reporting by Mark Potter; Editing by Quentin Bryar/Elaine Hardcastle)

http://www.guardian.co.uk/feedarticle?id=7270555

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