You'd think a massive company that hadn't cut its dividend since World War II would be a pretty safe bet for dividend investors. And Royal Dutch Shell (NYSE:RDS.A) (NYSE:RDS.B) was, in fact, a good dividend stock...for about 75 years. But in late April, facing the prospect of a prolonged oil price slump, the energy giant pulled the trigger and slashed its dividend by 66%.
Wall Street was stunned. Investors were outraged. And shares plummeted 17%, on top of the losses they'd already sustained. Shell's stock is now down by more than 50% in 2020. But could the company be ripe for a rebound?
Let's take a closer look to see if Shell looks like a buy, even without a best-in-class dividend yield.
Between a rock and a hard place
Among the five oil majors, Shell has consistently been a top dividend yielder for the last five years. From mid-2015 through the beginning of 2020, it traded the crown back and forth with BP (NYSE:BP), which has (so far) kept its dividend intact:
But when oil prices collapsed in March, shares of all the oil majors tumbled, briefly pushing Shell's yield above 19%. By the end of March, the yield was still in double-digit territory. Oil prices were so low that Shell would almost certainly need to take on significant additional debt to continue funding the dividend.
CEO Ben Van Beurden decided to yank off the Band-Aid, cutting the quarterly payout from $0.94 per American depository receipt (ADR) down to $0.32 per ADR. After the subsequent share price drop, that gives Shell a current yield of about 4.4%.
So, the highest yielder among the oil majors has now become the lowest. But that doesn't necessarily mean Shell isn't a buy.
Beyond the yield
A yield of 4.4% is still pretty sizable: It's higher than that of popular dividend stocks like Procter & Gamble (2.7%) and PepsiCo (2.9%). Of course, there's always the possibility that Shell's dividend could get cut again. So let's look beyond the yield and see what Shell's prospects look like.
In the near term? Not good. Brent crude prices are currently trading at about $32 per barrel, while U.S. benchmark WTI crude is trading at around $28 per barrel. Those are about the same levels as they were at the lowest point of the oil price downturn of 2014-2017, in Q1 2016. Also in Q1 2016, Shell's operating cash flow sank to its lowest level since 2005: just $661 million, a far cry from the $7.4 billion in operating cash flow the company reported in Q1 2020. It posted negative free cash flow for all of 2016. In other words, Shell hasn't historically been able to outperform at these prices.
Shell has reduced its 2020 capital expenses and dividend payments, of course, which should free up cash, but various analysts estimate Shell's breakeven -- the minimum oil price needed for the company to make money producing oil -- to be between $50 and $65 per barrel.
We're a far cry from those prices now, and they seem unlikely to come back anytime soon, with fuel demand still low and global supply still high. Meanwhile, prices for natural gas and refined products like gasoline and petrochemicals are also down, which means Shell won't be able to offset its production losses with big profits elsewhere in its portfolio.
The best-case scenario
Even Van Beurden was pretty bearish about Shell's outlook on the Q1 2020 earnings call. After outlining the challenges the company was facing in all of its business segments, he predicted "significant price and margin volatility in the short- and medium-term." He continued:
We're also seeing recessionary trends in many of the markets and countries that we operate in. ... We do not expect a recovery of oil prices or demand for our products in the medium term. Both will recover over time.
You can't fault Van Beurden for taking swift action to strengthen the company's balance sheet with that kind of outlook. But that still doesn't mean you have to stick around as an investor for years of stagnation. Shell is a big and strong enough company that it's not going to go bankrupt unless an extraordinary situation arises, and it has plenty of additional levers it can pull to ensure it makes it to the other side of the current crisis without an additional dividend cut. But investors can and should ask for more out of their investments.
Verdict: Look elsewhere
If you're a pure dividend investor looking for nothing more than a solid, secure payout, you could do worse than Royal Dutch Shell: Its 4.4% yield is decent, and having already cut its dividend, it seems unlikely to do so again (at least, not soon). However, the industry is in turmoil, and even Shell's CEO admits that years of underperformance are probably ahead.