Could Royal Dutch Shell Go Bust?

LONDON -- You don't need me to tell you how the banking crash and recession have pushed many companies to the brink of bankruptcy. Shares such as the Barclays, HMV Group, and MAN Group have collapsed 80% or more since the credit crunch erupted, and with the future in Europe and the banking sector still far from certain, many more companies could be at risk of going the same way.

Like you, no doubt, I'm always keen to ensure my potential investments aren't about to go bust! Indeed, I'm convinced avoiding losers is just as important as picking winners in today's choppy market.

With all that in mind, I use something called a "Z-Score" to help me sidestep portfolio disasters. This Z-Score was developed in the 1960s and evaluates various financial ratios to provide an overall verdict on a company's strength. Effectively, the higher the number, the less likely the company is to go bust -- although, of course, this is best considered in the context of the Z-Score of its industry as a whole.

Generally speaking, a score greater than three suggests the company is in very good health, while a score below 1.8 indicates the possibility of the firm going under. The Z-Score is not perfect, and I would encourage you to read more details.

Today I'm assessing Royal Dutch Shell (LSE: RDSA.L  ) . Here are my Z-Score calculations:

Ratio

Royal Dutch Shell

Industry Average

Z-Score

3.15

3.57

Working capital/total assets

0.05

0.02

Retained earnings/total assets

0.47

0.62

EBIT/total assets

0.17

0.17

Market value of equity/total liabilities

0.88

1.26

Turnover/total assets

1.36

1.35

This comparison looked at the full-year results for Shell ending Dec. 31, 2011, and compares the figures with the same reports for a number of rival firms, including BP and ExxonMobil.

Shell's Z-Score comes in slightly below the industry average but still well into "safe" territory, and it actually grew at a higher rate than that of the industry between 2010 and 2011, up 20% compared with an 18% industrywide improvement.

The majority of the difference between Shell and the average comes from the market-value-to-liabilities ratio, which is less than three-quarters of the industry's as a whole. This is on the back of a relatively low market value compared to some of its larger rivals, plus a similar level of liability to others in the sector, which may give cause for concern.

The company's best ratio is turnover to assets, showing that the firm is making good use of its assets to generate revenue. Again, this ratio actually grew at a higher rate for Shell than the industry, jumping 20% between 2010 and 2011, indicating the company has been outperforming the sector on this front.

So is Shell on the cusp of bankruptcy? It compares well to the industry average in almost all areas. It does have a similar level of liability to even some of the largest firms in the sector, which could be a problem over the long term. On the other hand, its market value is probably underpriced compared to some of its peers, which may offer a decent buying opportunity.

Importantly, the company has been able to make good use of its assets where it counts: generating revenue. It has even been able to improve on its efforts in this area, which is key for a company in a sector that is highly dependent on its physical assets, such as a diversified oil and gas producer and explorer. This may be another sign that Shell is doing something right, even if the market hasn't fully noticed it.

To answer the question of whether Shell could go bust: I seriously doubt it!

Share ideas from a proven recession-beater
Finally, if you are looking for share ideas from somebody who has avoided the worst of the recession, you must read this special free report about Neil Woodford.

You see, Woodford runs portfolios that total a staggering 20 billion pounds and famously sold out of banking shares well before the credit crunch. Right now he's focusing on a small collection of defensive, dividend-paying shares, the full details of which can be found in "8 Income Shares Held By Britain's Super Investor." I urge you to download this Neil Woodford report while it is still free and available.

Are you looking to profit from this uncertain economy? "10 Steps To Making A Million In The Market" is the very latest Motley Fool guide to help Britain invest. Better. We urge you to read the report today -- it's free.

Further Motley Fool investment opportunities:

Karl does not own any of the shares mentioned in this article. The Motley Fool owns shares of ExxonMobil. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


Read/Post Comments (0) | Recommend This Article (1)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

Be the first one to comment on this article.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 1957708, ~/Articles/ArticleHandler.aspx, 12/20/2014 1:33:48 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement