Shell’s meaty profits more than cover its dividend and form the main plank of investment case
Investors who are prepared to focus on dollars and cents, rather than ESG issues, will be pleased to see the oil and gas giant pumping out cash
The bumper first-quarter profits published by Shell last week will upset environmental campaigners and many householders alike, especially those who are finding it hard to pay their bills or keep their car topped up.
Even global tax payments of $5.6bn (£4.5bn) in the first three months of the year – $2.1bn more than in the equivalent period in 2022 – may not assuage their fury. But those investors who desire reliable income and are prepared to focus purely on dollars and cents, nickels and dimes rather than debate environmental, social or governance (ESG) issues, will be pleased to see the oil and gas giant pumping out cash. Shell handed over $6.3bn via buybacks and dividends in the first quarter alone and annualising that equates to £20bn, or a cash yield in the double-digit percentage range.
That is probably the key number right now because Shell’s earnings do take some studying.
On the face of it, the business model of an oil major is easy enough to understand. They explore and drill for and then produce hydrocarbons; they ship and refine them; they trade them; and they sell refined product at petrol stations or end-products like chemicals. Simple. Quantifying how well they do this is a different matter and besides statutory measures such as pre-tax or net (after-tax) income, Shell also refers to earnings before interest, tax, depreciation and amortisation (Ebitda), adjusted Ebitda, adjusted earnings and earnings on a CCS (current cost of supply) basis, which excludes the effect of changes in the oil price.
To quote Ed Murrow, the late American broadcaster: “Anyone who isn’t confused really doesn’t understand the situation.”
To cut through all of that, it may be simplest to look at net, or after-tax, income. In the first quarter, Shell reported net profit of $8.7bn, compared with $7.1bn a year ago. That increase may seem odd, bearing in mind the average prices received by Shell for its oil and natural gas fell by a fifth and two fifths respectively from the first quarter of 2022 to the first quarter of this year. But Shell booked a $3.9bn writedown on its Russian assets in the first quarter of last year, so profits were down this time compared with a year ago once that is taken into account, thanks to lower hydrocarbon prices, no great change in output and higher taxes.
That meaty net profit figure more than covers the dividend, which equates to a 3.9pc forward dividend yield, according to analysts’ consensus estimates, and the buyback. As such, it forms the main plank of any investment case for the stock, even if any portfolio-builder who runs strict ESG screens is likely to be unmoved and stick to their own personal principles, especially if
‘Shell looks cheap on yield and relative to the company’s £155bn in net assets, but a fall in oil values is a key risk to its share price’
they believe oil firms to be profiteering. The sheer scale of the net profit number inevitably raises that issue.
This column, however, views commodity producers as price takers rather than price givers, by the very nature of their business – a commodity comes with little or no differentiation, by definition, so the supplier’s key tools to attract buyers are efficiency of production and price. And there are so many influences on the oil price, ranging from global economic growth to geopolitics and sanctions, environmental pressures, the role of Opec and more.
Shell probably has more influence on price for refined products, especially those for sale on petrol station forecourts, although drivers will do their best to shop around. The company’s acknowledgement that trading of crude oil, refined products and petrochemicals contributed strongly to first-quarter earnings is harder to defend against profiteering claims, and campaigners will be pleased, in this context, to see the increased tax charge.
The debate is unlikely to die down and may only recede if oil and gas prices go lower and drag Shell’s earnings with them. That remains a key risk to the share price and any falls here could offset the benefits of the income, if an investor is obliged to sell the paper at an inopportune moment and has to crystallise any losses.
Fears of a recession leave Brent crude back near $70 a barrel, so the effect of Opec’s April production cut is proving short-lived (to perhaps show how hard it is to profiteer and bend a global market like oil to anyone’s will). But analysts are already forecasting decreases in net income in 2023, 2024 and 2025, so this is hardly news. The shares look cheap on yield and relative to the company’s £155bn in net assets, while a forward price-earnings ratio of seven looks undemanding. Shell remains an income staple.