Shell maintains dividend as earnings slump, but analysts ask for how long?

28th July 2016

Royal Dutch Shell has held its interim dividend steady, at 47 cents, despite underlying earnings for the quarter falling 72% to $1.0bn.

The group saw a positive contribution to earnings from the Integrated Gas ($982m) and Downstream ($1.7bn) divisions, more than outweighing a $2bn loss in the Upstream division, which saw exceptional charges of $649m.

Oil and gas production for the second quarter was up 28% versus a year earlier, to 3,508 thousand barrels of oil equivalent a day (kboe/d).

The group continues to cut costs. Underlying operating costs, excluding identified items, fell $0.9bn. Organic capital investment is expected to be $29bn for FY16 compared to a combined $47bn across Shell and BG in FY14.

Gearing hit 28.1% at the end of the second quarter versus 12.7% a year earlier, with the increase largely attributable to the BG acquisition.

Nicholas Hyett, equity analyst, Hargreaves Lansdown said: “Shell’s commitment to the dividend is legendary, and half of Holland would keel over in apoplectic horror if Royal Dutch Shell ever cut the payout, however the question is whether the company will have ultimately have any choice in the matter. Even after dramatic cuts, Shell’s spending plans still outstrip its likely cash flows, and with the dividend yield now over 7%,  investors seem to be questioning whether the current rate of pay-out can continue.

“For the time being the company is sticking to its previous dividend commitments. Despite around a third being paid in shares rather than cash, earnings cover for the dividend is becoming increasingly sparse. Shell would argue that at current prices, the industry will invest so little that future production will fall, creating a global shortage of oil that will ensure a price recovery. In the meantime, the company seems prepared to let its balance sheet take the strain.

“But that balance sheet is looking increasingly stressed. Even ignoring working cash changes, free cash from operating activities in the quarter amounted to just $4.8bn. By comparison the cash dividend cost the group around $4.5bn, with capex for the year expected to be around $14.5bn. That means gearing will continue to rise, a process that can only go so far.

“The vast scale of planned reductions in operating expenses is mind-boggling, as the group tries to preserve cash flow in the face a stubbornly low oil price. Capex plans have been similarly pole-axed, and so the group hopes to emerge from its current soul-searching as a leaner and fitter animal.

“Post-BG, Shell is now the global leader in LNG, with a strong presence in deep-water oil and gas production. That is all well and good, but the flip side of these strong positions is that both LNG and deep fields tend to be relatively expensive sources of oil and gas. So Shell is strongly positioned in a high cost energy world, but we are less sure about its standing if there is little further recovery in oil and gas prices.”

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