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S&P Cuts Shell Rating One Notch As Debt Builds: downgrade a blemish on Shell’s record


SEPTEMBER 3, 2009, 2.04 PM. ET

By James Herron


LONDON (Dow Jones)–Ratings agency Standard and Poor’s Thursday downgraded its rating on debt issued by Royal Dutch Shell PLC (RDSB.LN) one notch to AA from AA+, saying the company’s decision to maintain high capital expenditure and dividends despite pressures on cash flow is resulting in sizeable increases in debt.

S&P also expressed concern over the size of the deficit in Shell’s pension scheme, which stood at $25 billion at the end of 2008.

The agency expects Shell’s debt, excluding off balance sheet pension liabilities, to exceed $35 billion by the end of 2010, up from $19.5 billion in June. This would still put Shell at the lower end of its 20%-30% gearing range, which is the ratio of net debt to net debt plus equity.

S&P said the expected increase in Shell’s gearing is in line with most of its peers, but the company may see weaker cash flow than rivals because of its above average exposure to the lackluster refining and chemicals sector and its weaker-than-expected output growth.

Shell was not immediately available for comment.

The downgrade was a disappointment, not a surprise, said Oppenheimer analyst Fadel Gheit. “Shell has a very hefty capital spending program and until, or unless, the oil price rebounds and refining margins improve, they will be in cash flow deficit,” he said.

Shell is much more exposed in this regard than its peers, he added. Even if the oil price rose to $90 a barrel and the U.S. gas price to $8 per million British thermal units, Shell would still need to borrow $3 billion to cover its spending plans and dividends, he said. “BP would only need oil in the mid-70s to fully fund capex and pay dividends,” and U.S. rivals ConocoPhillips (COP), ExxonMobil Corp. (XOM) and Chevron Corp. (CVX) can go even lower, he said.

The downgrade is a blemish on Shell’s record and may nudge it to push harder for cost cuts, but it’s not going to imperil their ability to continue with their plans, Gheit said. Investors would tolerate it, provided it’s temporary, he added.

Shell’s gearing, excluding pension liabilities, has risen sharply to 12.6% at the end of the second quarter, compared with 5.0% a year earlier.

Shell has already taken action to plug the hole in its pension fund. In late July it said it had paid extra into the scheme and increased the ratio of assets to liabilities to 105%. This ratio fell to 80% in April after the slump in global stock markets.

The fund has also had its recovery plan, to return the funding ratio to 127% within 15 years, approved by regulator De Nederlandsche Bank.

In addition the company has begun a thorough restructuring program with the aim of reducing costs and increasing efficiency. Shell’s cash costs in the first half of 2009 were $2.7 billion lower than the same period in 2008 due to cost cutting and currency effects. The company also cut its 2010 capital expenditure forecast for 2010 by 10% to $28 billion.

The agency affirmed its stable outlook for Shell’s U.K. rival BP PLC (BP). Despite the downgrade, Shell still has a minimal financial risk profile, it said.

-By James Herron, Dow Jones Newswires; +44 (0)20 7842 9317; [email protected]

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