A New Direction for Royal Dutch Shell

With a new CEO at the helm, cost reduction and capital efficiency will be the name of the game for Royal Dutch Shell.

Feb 8, 2014 at 12:00PM

Though Royal Dutch Shell's (NYSE:RDS-A) financial performance over the past few years has been quite disappointing, the company is eager to turn things around under the guidance of its new CEO, Ben van Beurden.

Targeting asset sales to the tune of $15 billion this year and next, Shell aims to significantly reduce its spending over the next few years. Will it be enough to boost cash flow and sustain its hefty dividend?

Shell's new direction
Over the past few years, Shell spent aggressively on megaprojects around the world in a desperate bid to boost its oil and gas production. But, recognizing the issues inherent with boosting output in a world where the costs of finding and developing new reserves have risen exponentially, the company has changed its game plan.

Speaking to investors last week, van Beurden outlined the company's new focus on cost reduction, reaffirming plans to accelerate the company's pace of divestments over the next two years. He also announced that executive compensation will now be partially tied to the company's returns on capital, which is encouraging.

Reflecting his hard stance on improving Shell's financial performance, van Beurden said he planned to carefully review all of the company's different businesses. Those deemed uncompetitive in terms of the returns they are expected to generate relative to their costs will be candidates for sale, he said.

"We haven't always made the right capital choices," he admitted. He identified Shell's North American shale gas and oil business and its global oil refining business as the two biggest businesses that will be restructured in coming years. This year, the company plans to reduce its capital spending to about $37 billion, down from a record $46 billion last year.

Capital efficiency needs to improve
But Shell's real problem isn't the level of its capital spending. Rather, it's the wholly unsatisfactory returns generated by that capital spending. Poorly timed investments in U.S. shale properties, continued disruptions to its operations in Nigeria, and a disastrous drilling campaign in Alaska's Chukchi sea are three of the best-known examples of the company's poor capital allocation decisions.

As a result, Shell has sorely lagged its peers in terms of return on capital employed -- one of the best measures of how effectively a company deploys its available capital. In the five years from 2008 to 2012, its return on capital employed averaged under 15%, compared with nearly 25% and just under 20%, respectively, for peers ExxonMobil (NYSE:XOM) and Chevron (NYSE:CVX). Only BP (NYSE:BP), which had a five-year ROCE of just over 10%, proved to be a worse capital allocator than Shell over the period.

To Shell's credit, though, it does appear to be serious about improving its return on capital judging by recent decisions. It has already put up for sale poor-performing U.S. shale properties, as well as oil blocks in the troubled Niger Delta region. It also announced that it would scrap an expensive $20 billion gas-to-liquids project in Louisiana and will hold back on drilling in the Alaskan Arctic this year.

The bottom line
With its departure from loss-making North American shale plays, an ongoing restructuring of its chronically underperforming refining business, and asset sales this year and in 2015 set to bring in $15 billion, Shell is zeroing in on high-margin oil projects and LNG projects to boost cash flow.

If the company can manage to keep its spending at around $35 billion a year while generating roughly $45 billion in annual cash flow, it should be able to sustain its hefty dividend. Indeed, Shell's recent decision to increase its dividend by 4% certainly seems to suggest confidence in its ability to grow free cash flow over the years. It will be interesting to see if the company can deliver on its promise.

OPEC's worst nightmare
While Shell and its integrated oil peers struggle to offset declining production from mature fields, one energy company continues to mint profits. Imagine a company that rents a very specific and valuable piece of machinery for $41,000 per hour. (That's almost as much as the average American makes in a year!) And Warren Buffett is so confident in this company's can't-live-without-it business model, he just loaded up on 8.8 million shares. An exclusive, brand-new Motley Fool report reveals the company we're calling OPEC's Worst Nightmare. Just click here to uncover the name of this industry-leading stock, and join Buffett in his quest for a veritable landslide of profits!

Arjun Sreekumar has no position in any stocks mentioned. The Motley Fool recommends Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

Don't let that happen again. This time, it should be your family telling you, "I can't believe you knew about and invested in that technology so early on."

That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

Click here to learn about this incredible technology before Buffett stops being scared and starts buying!

David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

©1995-2014 The Motley Fool. All rights reserved. | Privacy/Legal Information