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Shell in worst profit slump for 10 years: profits have collapsed by 62% in the fourth quarter home

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  • The Observer, Sunday 25 January 2009

Shell will report the largest quarterly fall in profits for a decade this week because of the dramatic slump in oil prices. The Anglo-Dutch oil giant, announcing annual results, is forecast to report that profits have collapsed by 62% in the fourth quarter compared to the previous three months.

But analysts expect the company to increase its spending on projects this year in the belief that oil prices will not stay low for long. Prices are barely above $40 a barrel just six months after hitting a record high of $147.

This means that the per barrel costs to develop Shell’s more expensive production projects – for example oil sands in Canada or deep-water drilling – are higher than current prices. Nevertheless, analysts expect Shell to spend $33bn on projects this year, a 10% increase on last year’s budget.

BP reports its annual results next week and also faces a slump in profits.

Shell is still bruised by its experience in the late 1990s when the price of oil fell to a 25-year low. The company responded in 1999 by slicing $6.2bn off its $15.7bn capital expenditure programme, which included a $3bn reduction in its budget to explore for new sources of oil. This contributed to the reserves scandal of 2004, when the company had to downgrade a fifth of its reserves, resulting in the departure of chief executive Philip Watts.

Richard Griffith, analyst at Evolution Securities, said: “Shell does not want to make the same mistake as in the late 1990s, when it slashed spending in response to a fall in oil prices. The chickens came home to roost when it had to downgrade its reserves in 2004 – the company had not been spending enough money looking for oil.”

He expected Shell to forecast that oil prices will eventually rise once the global economy recovers because expected demand, over the long term, is strong and because it remains difficult to exploit much of the world’s oil reserves because they lie in unstable or hostile countries. This means that supply will struggle to keep pace with demand.

Shell may delay plans for more expensive projects because the low oil price currently makes them uneconomic. In October, the company said it was deferring a decision on the second expansion of its oil sands project near Fort McMurray, in northern Canada. Oil sands projects are expensive to develop and new fields require an oil price of at least $70 to make them economic.

Shell said it remained committed to the first expansion phase to increase production from its oil sands to 250,000 barrels per day by 2010. Analysts said oil companies commit to expenditure several years in advance and are unlikely to stop building a project halfway through even though it is uneconomic. If oil prices remain low through 2009, the company will have more flexibility to cut costs next year.


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