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Why I’d Keep Selling Royal Dutch Shell Despite Q1 Profits Bounce

Royston Wild , CONTRIBUTOR: 4 May 2017

Royal Dutch Shell moved away from multi-month lows in Thursday business after announcing a sharp earnings bounceback during the first quarter of the year. The stock was last 1% higher from the midweek close.

Shell — which moved to its cheapest since late November in recent sessions — reported that earnings on a constant cost of supplies (or CCS) basis leapt 315% during January-March, to $3.4bn thanks to a steady recovery in the oil price.

In particular, Shell chief executive Ben van Beurden noted that ‘we saw notable improvements in Upstream and Chemicals, which benefited from improved operational performance and better market conditions.’

Fuelled by OPEC’s supply freeze instigated in late 2016, crude values ranged above the $50 per barrel marker during the first quarter. By comparison, black gold prices toiled during the corresponding period last year, the benchmark hitting its cheapest since the start of the millennium below $30 at one stage.

A Well-Oiled Machine

This hearty uptick in oil values helped cash flow from operating activities at Shell surge to $9.5bn from $661m in the same quarter last year.

But a recovering crude price is only part of the story as massive cost-cutting and asset sales continued to repair Shell’s balance sheet. The business saw debt stabilise around $83bn as of March, an eye-watering figure but arresting the sharp debt acceleration seen over the past year (total debt shot to just shy of $83bn as of December from $52.8bn a year earlier).

And van Beurden is confident that the driller’s transformation package has much more to come, commenting that ‘the strategy we have outlined to deliver a world-class investment case is taking shape.’

Shell has racked up divestments totalling $20bn so far, including the sale of assets in the UK, Canada and Gabon in the last quarter. And the business plans to spend $25bn on projects this year, the impact of which should boost cash flow to the tune of $10bn by 2018.

Stubborn Supply

While Shell’s streamlining package certainly deserves the plaudits, I for one would remain reluctant to invest in the fossil fuel goliath as the market still swims in excess supply.

Just today Brent values reversed back through the psychologically-critical $50 barrier for the first time since November following a smaller-than-expected decline in US inventories. Latest EIA data this week showed 930,000 barrels of material chipped out of the country’s stockpiles, far less than the anticipated 2.3m barrels and keeping total levels locked near record highs.

At the same time US shale drillers show no signs of letting up in their quest to hike production. Baker Hughes’ recent rig report, for example, showed nine units added in the last seven-day period, to 697. This marks the 15th consecutive weekly rise.

Hopes are high that OPEC will this month extend the production accord hammered out last autumn but, with output shooting higher in other regions, it is unlikely that crude prices will receive the same sort of boost that followed November’s agreement. Instead, increasing signs of packed stockpiles persisting much longer than expected could push oil prices firmly lower again.

So while Shell remains attractive value on paper (the company sports a P/E ratio of 15.1 times for 2017, as well as a 7.2% dividend yield), I reckon the firm’s still-uncertain medium-to-long-term revenues outlook still makes it a risk too far right now.

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