The management of Royal Dutch Shell (LSE: RDSB) held a capital markets day this week. The update offered up detailed news on the BG merger integration as well as targets for production, capex and divestments. And it was well accepted by the market with the result that shares are up nearly 5% since.
Reshaping Shell
In response to the changing oil and gas landscape CEO Ben Van Beurden has decided to reshape Shell. Currently the company has too many assets and debt. He said: “By capping our capital spending in the period to 2020, investing in compelling projects, driving down costs and selling non-core positions, we can reshape Shell into a more focused and more resilient company, with better returns and growing free cash flow per share“. By selling all non-core assets and only developing the highest quality assets the company will become a more efficient and profitable business. If it can do this effectively then I believe Shell will reach all-time highs.
Agenda to 2020
The agenda for the next four years is very interesting. The company sees deep-water projects as a focus and is expecting increased levels of production that will mainly be driven by these deep-water developments. Much of this increased production will come from BG’s high quality Brazilian positions. The company has also increased expected synergies from the BG deal and now expect to create over $4.5bn of synergies by 2018. In the next two years, Shell is also focusing on divestments and hopes to sell over $30bn of upstream assets.
Cash machine
Shell also outlined its priorities for cash flow: 1) reduce debt, 2) pay dividends, and 3) a balance between capital investment and share buybacks. These priorities should ensure its gearing falls back to a more acceptable level and that the dividend is increased over time. The company is aiming for $25bn of organic free cash flow in 2020 at a $60 oil price. Cash flow is incredibly important for Shell so the company can pay the dividend, invest in new projects and pay down debt. So creating more cash flow from production is key as it relies too much on divestments at the moment.
$60 oil
Shell’s targets and projections are all based on a $60 oil price. This is a realistic target for the next year and I actually think the oil price will go much higher. If it does continue to rise then Shell will obviously benefit hugely and the company could beat its targets by some distance. Ben van Beurden said he sees “robust demand for oil and gas for decades to come,” which is encouraging for long-term oil bulls.
I think Shell offers a compelling investment case. The company took advantage of the lower oil price by purchasing BG and now its focus is turning to synergies and growth. Over the long term I believe the shares will seriously outperform.
