The City is getting excited about the much touted launch of Neil Woodford’s new CF Woodford Equity Income Fund, the initial offer period of which is open until 19 June. Indeed, investors have been desperate to hear Woodford’s take on the market and which companies he will be selecting for his fund.
However, to the surprise of many, Woodford has revealed that he will not be buying dividend giant Royal Dutch Shell (LSE: RDSB) for his new fund. The question is, should you take the same approach and exclude Shell from your portfolio?
Woodford is staying away
Woodford’s main concern is that Shell is funding its dividend with asset disposals, or as he puts it, “selling the family silver”. Woodford is also worried, and rightly so, that these asset disposals could hurt future growth.
As a result, Woodford has concluded that right now, there are better opportunities available within the market.
Short-term trend
Woodford’s view on Shell is correct: the company has been using asset sales to fund the dividend, although, this appears to be more of a short-term trend. Indeed, during two of the past five years, Shell’s payout has been covered by free cash flow, the cash generated from operations after deducting capital spending.
In addition, Shell’s management has stated that the company’s capital spending has gotten out of hand during the past few years. Management are now seeking to change this. Asset disposals are part of the company’s plan to boost returns, as well as funding the development of new projects, without taking on extra debt.
What’s more, I feel that Woodford is missing the fact that Shell has paid, and increased its dividend payout every year since the end of the Second World War. This is without a doubt, one of the best payout records you can find on the market today.
It’s unlikely that Shell will break this record any time soon.
Further, this impressive dividend track record is backed up with a relatively clean balance sheet. At the end of 2013, Shell reported a debt to equity ratio of just under 20% and the company’s debt to asset ratio stood at just under 10%.
A wider industry trend
Shell’s high level of capital spending is more of an industry-wide problem, rather than mistakes made on Shell’s part. For example, Shell’s larger peers, ExxonMobil and Chevron both spent more than they could afford during 2013, as they embarked on ambitious growth projects to jump-start falling output.
Moreover, as oil becomes harder to find, costs are rising and until the price of oil starts to rise in line with rising production costs, returns will fall.
Investors also need to consider the fact that Shell’s asset disposals are designed to increase performance and returns, which means that they are unlikely to hold back future performance as Woodford suggests.
Bearing these facts in mind, I don’t believe that the average Foolish investors should avoid Shell. Actually, the company’s dividend payout looks to be one of the most attractive around. It’s unlikely that this will change any time soon.
