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The Times: Despite the profits, you can’t be totally sure of Shell shares

February 2, 2008

ROYAL DUTCH SHELL, the oil leviathan, has spent most of its life grappling with a split personality. In the beginning, Shell was not an oil company at all. Marcus Samuel, a London shopkeeper, started by importing exotic shells from the Far East. Those 1833 beginnings live on today only in the name and logo. By 1907 the business was importing oil rather than shells. Then it merged with the Royal Dutch company that found and pumped the black stuff out of the ground.

The newly merged company, 1907-style, was split between transportation and production. It also had a split nationality, which persisted until 2005. Stock market investors regained confidence as the corporate structure unified. It was a sound step in itself. It also drew a line under the tumult that dogged the leadership of Sir Phil Watts, the former chief. For a time, thanks to accounting and reporting kerfuffles, no one seemed at all sure how much oil Shell could claim to have, how effectively it was being managed and where it was going.

It will be a long time before people stop thinking about Royal Dutch Shell as an Anglo-Dutch combination. The company is still grappling with division in other ways. Up to a point, all companies are obliged to manage contradictions, but Shell’s priorities appear unusually ambiguous.

Three examples spring to mind. First is the uncertainty over Shell’s access to oil. It has long been dangerous to assume that Shell, in common with other oil companies, actually owns oilfields. Nations, by and large, own the assets. Companies find the oil and pump it.

Governmental relationships differ from place to place. Politics allows the State to have its tax take in some parts of the world. In other parts, nation states demand full control. Managing the relationships may not be an insurmountable problem, but it is tricky – Shell shareholders may have to get used to earning lower ultimate returns as nations demand a larger slice of the action.

This is not a new problem. BP was stricken when Iran nationalised its oil industry in 1951. Arab states have made the most of the wealth sloshing beneath their feet, but President Putin’s Russia has been keen to assert itself. Ditto for Venezuela, Nigeria and most other places. Oilies have an unfortunate reputation for being big and bad even in developed Western economies, such as Britain and the US.

Secondly, there is the environment. Oil groups have tried for years to clean up their image and reinvent themselves as “energy” companies – sensible, given widespread fears over climate change and oil’s ever-dwindling supply. Shell has taken strides towards the nirvana of corporate responsibility. Gas, a cleaner hydrocarbon, makes a noticeable contribution, but Thursday’s full-year results show that Shell’s business is still dominated by oil. Renewables barely feature.

In share-price terms, the company is also pulled in different directions, as the graph, top left, suggests. On one hand, the soaring oil price has helped to haul the shares upwards. But as one of the largest constituents of the FTSE 100, it has been held back by the subdued stock market conditions of the past year.

Shell shares could march on impressively if the oil price continues to rise and stock market investors rediscover their faith in equities. The obverse is also true, of course. And the two forces could cancel each other out by moving in different directions. But oil prices should continue to help Shell. It made about $68 a barrel on average last year, but $83 in the fourth quarter. If oil remains in the $90 to $100 range of recent weeks, Shell’s average price for this year will move upwards. History tells us that stock market slumps bark worse than they bite, too. The sensible tactic is to assume that markets will recover.

The shares give a prospective dividend yield of 4.4 per cent and trade at the equivalent of seven times analysts’ estimates of future earnings. That makes them cheap enough to buy in the hope of a short-term gain. They could rise by up to 15 per cent over the next three months, but holders should review the stock regularly. Thursday’s enormous profits – it made £1.5 million an hour last year – also remind investors that Shell is not growing across the board. It produced 7 per cent less oil than in 2006. Oil prices have helped profits, but volumes are critical and are moving against the company.

There was a time when the likes of Shell were the stocks to buy and then forget about. No longer. Investors well now need to adopt a more attentive approach.

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2 Comments on “The Times: Despite the profits, you can’t be totally sure of Shell shares”

  1. #1 Bill Campbell
    on Feb 2nd, 2008 at 13:55

    My regards to Ian Percival and his points are balanced and well made. However you cannot help but looking at the disparities in what Shell does and says.

    In better times I was employed in RTS at Rijswijk and worked with some of the best minds in any Industry (so called Gamechangers) never mind the oil industry. Shell had a leading edge certainly in the analysis of the natural assets they either owned or operated and as exampled by expanding tubulars et al were not bad at the development of practical tools as well.

    Shell also spend a lot of $’s in rightly publishing its added value, the obsure sucking at straws advert might not be the best example but in general in the oil village of the World Shell is recognised for its innovation and the quality of its Engineers.

    I thus find it difficult to imagine that the (I make this comment as a generalism always a hazardous thing to do) leading oil Company in the world with some of the best people and best applied technology are finding it too difficult to safely and profitably extract oil and gas from the peripheries of it very expensive to install and strategically placed North Sea assets.

    Indecent haste in the transfer of the intrinsic risks of operating these assets to others seems the prognosis for the future. If Shell cannot operate some of the most complex and inherently risky installations in the World safely, if they cannot do this, then how can, with all due respect, this be done better by some Mammy and Pappa outfit from Canada or elswhere?

    Perhaps it says more for the quality of its current EP managers both in Aberdeen and Den Haag, perhaps a lack of imagination and drive and what the old Shell used to have in abundance, pioneering spirit. There is no doubt that brownfield management is tough, needs special skills, especially when the brown is due to various shades of corrosion by products on the surface of pipework, primary and secondary structure.

    But remind me – what is the saying on the street about when the going gets tough?

  2. #2 Iain Percival
    on Feb 2nd, 2008 at 07:30

    I am a relatively recently retired Shell EP professional and although no longer in service wish to make some points.
    – there is still huge misunderstanding about hydrocarbon reserves “out there” and in particular amongst the pundits contributing to newspaper and media reports.
    – the myopic focus on Proved Reserves as dictated by the US SEC misses the point; oil companies plan and invest on what they expect to produce. They do not plan and invest on proved reserves. If they did, every production facility and infrastructure would be undersized.
    – Yes, the future for companies such as Shell is becoming more complicated as the NOCs throw their weight around, but the easy oil will soon be a feature of history.
    – The future of energy supplies from infinitely more complicated sources will depend on leading edge technology and first class minds both of which Shell (and some of its peer group) have or is developing.
    – The performance of some of the NOCs in finding, developing and producing hydrocarbons is derisory and will require the assistance of Shell and peer group to make good the promises made. Yes, there will have to be alternative commercial arrangements – but everything is possible.
    – Do not derive so much pleasure in rubbishing the future of “Big Oil”. All of us will require a significant contribution from such for many, many years to come.
    – Do not write off the future prospects of Shell. A long game is being played and with the technological and intellectual capital owned by the company, the game will be won.
    – Most of the commentators writing in the media (and on this site) on oil companies and associated reserves related issues should take the trouble to first develop a modicum of understanding of the subject.

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