Shell Says Yes To Free Cash Flow, No To Debt

Callum Turcan: Nov 15, 2017

Summary

Royal Dutch Shell generates free cash flow in Q3.
Outlook for Q4, even in light of impending capex increase, looks bright due to Brent rallying.
Over $10 billion in net debt reduction since the end of Q3 2016.
Overview of Q3 results and what to expect going forward.

Royal Dutch Shell (NYSE:RDS.A) (NYSE:RDS.B) has come a long way since it bottomed out in early-2016. Its latest earnings report reinforced the notion that when Brent is trading in the $50s, Shell’s cash flow position becomes balanced. Cash flow neutrality is the key breakeven point for the industry in the current environment, as oil & gas giants need to show that they can cover capital expenditures and large dividends through organic means at realistic prices. Let’s check out how Royal Dutch Shell did in a low $50s Brent world, with an eye on organic cash inflows and outflows.

Real free cash flow generation

Some digging is usually required to figure out if an oil major is really free cash flow positive or not, largely due to changes in working capital and the need to factor out one-time and inorganic items (such as divestments).

During the second quarter of 2017, Shell generated $11.285 billion in net operating cash flow and posted $1.642 billion in net income. In Q3 2017, while the company posted $4.212 billion in net income, its net operating cash flow came in at only $7.582 billion. However, that is very misleading for one key reason, working capital changes. A $2.258 billion decrease in working capital in Q2 turned in a build in working capital of $2.467 billion in Q3. Non-controlling interest cash outlays are factored into financing cash flow activities and not subtracted from those net income figures.

Adjusting for both working capital changes and interest expenses (Shell adds its net interest expense back to its operating cash flow statements because it factors in cash interest paid as a financing cash flow activity), which came to $757 million in Q2 and $839 million in Q3, Shell generated $8.27 billion (Q2) and $9.21 billion (Q3) in operating cash flow over the past two quarters.

Shell spent $5.05 billion on capital expenditures and contributions to its joint ventures in Q3, on top of paying out $3 billion in dividends to Shell’s shareholders and $0.1 billion to non-controlling interests. Equal to organic cash outlays of $8.15 billion on a quarterly basis, implying the company was truly free cash flow positive during the third quarter of this year. An impressive achievement considering Brent and West Texas Intermediate averaged $52/barrel and $48/barrel in Q3, respectively.

The company also pocketed a tad over $1 billion in asset sale proceeds (from PP&E sales and JV/associate divestments), cash which ultimately will be used for debt reduction if Shell keeps its cash flow situation balanced.

I will caution that shareholders who opted for the scrip dividend (instead of getting cash, shareholders get additional Shell shares) helped make this possible. Shell’s quarterly dividend goes up to $3.875 billion assuming that were instead of be paid in all-cash, or $4 billion per quarter including non-controlling interests. The scrip program started up in 2015 as the downturn took hold.

Q4 outlook

As of this writing, Brent is trading at over $61/barrel and West Texas Intermediate is currently trading around $55/barrel, far above the Q3 average. So far the first half of Q4 indicates a sharp uplift in realized prices is on the way. Luckily for Shell, its upstream footprint is far more exposed to Brent which is fetching a nice premium to WTI currently.

Better liquids, namely oil, realizations should provide a very material uplift to Shell’s Upstream cash flow and net income generation this quarter. A trend that may carry into Q1 2018, we’ll have to see how the late-November OPEC+ meeting goes.

On a side note, Shell’s light sweet crude production in the Gulf of Mexico can fetch a premium to WTI by realizing Louisiana Light Sweet prices. LLS trades between $2-4/barrel higher than WTI (recently that has been at the upper end of that range).

However, investors should note that there will be a sharp increase in Shell’s Q4 capex versus Q1-Q3 levels. Shell’s capex is set to rise to at least $7 billion in Q4 after spending an average of $5 billion in the first three quarters ($15 billion plus $0.4 billion in investments in JVs) but that may end up even higher depending on where certain large items land. Management said capex shouldn’t exceed $25 billion this year, and that could be taken to mean Q4 capex could go up as high as $10 billion (which seems too large, most likely $8 billion is possible this quarter).

Efficiency gains, cost improvements, and solid operational execution (at least at the Shell-led projects) have helped Shell control its spending habits. Having a scrip dividend, which eventually needs to be dealt with in the long run, has made managing the medium term environment easier. Cash flow neutrality may be hard to achieve this quarter, but a strong upstream uplift means it is possible. Having major projects come online around the world will help out, especially as the Gorgon LNG venture (which Shell owns a quarter of) is now operational.

Farther out, Shell’s cash flow generation should be quite strong in a high $50s Brent world. The key is for its 2018 capex budget to remain closer to $20 billion than $25 billion.

Other considerations

After adjustments, all three of Shell’s divisions saw quarter-over-quarter improvements in income generation. Shell’s Downstream division (refineries and petrochemicals) accounted for ~60% of its operating income last quarter, versus 28% from its Integrated Gas division (liquefied natural gas and the related-midstream and upstream activities, and its gas-to-liquids fuels ventures), and 12% from its Upstream division (production of oil, natural gas liquids, and dry gas).

Keep in mind operating income and cash flow generation are two different beasts. As higher oil realizations start making Shell’s Upstream division the income generating giant it used to be, it will once again be a main contributor to its bottom line.

Something to keep in mind is that a higher Brent prices usually lead to better realizations for both contracted and spot LNG sales. Long term LNG deals usually are Brent-linked in some fashion or another. Spot liquefied natural gas prices have also firmed up quite a bit, with prices for Asian buyers trading at $8.50/Mcfas of October (significant improvement over Summer prices).

That will provide a major boon to Shell’s Integrated Gas division, especially as its Prelude floating LNG venture (off the coast of Australia) gets ready to begin operations within the next nine to twelve months.

Shell’s Downstream division is a juggernaut, with its 2017 results greatly exceeding its 2016 performance. A new petrochemical complex being built in Pennsylvania will help keep the momentum going over the long haul. The Pennsylvania Chemicals Project involves constructing a massive ethane cracker in the state capable of producing 3.3 billion pounds of ethylene a year alongside three polyethylene units with 3.5 billion pounds of production capacity per year. A lot of which will be exported to foreign markets.

Polyethylene is the most common type of plastic in the world. As American ethane production vastly outstrips steam cracking capacity (which is why a lot of ethane gets “rejected” back into dry gas streams), US ethane is significantly cheaper than in most other regions. By processing ethane into plastic, Shell hopes to generate strong margins through cheap feedstocks and strong global demand growth for plastic products. Two trends should be working in Shell’s favor, and construction has just begun.

In 2015 and 2016, Shell’s Q3 and Q4 Downstream performance was roughly flat indicating that historically speaking, this division should post a solid Q4. However, Shell’s refining margins broadly increased across the board in Q3 versus Q2 due to the impact of Hurricane Harvey. While Shell’s Deer Park refinery in Houston (with 340,000 bpd of capacity) was forced offline for some time, the margin boost realized at its other refineries appears to have offset those losses. Shell may see its Downstream income move a tad lower in Q4 as margins come back down.

Final thoughts

Royal Dutch Shell wants to push its gearing ratio down from 25.4% to 20%, a process that the firm has already been steadily working on as it has reduced its debt load by roughly $11 billion since the end of Q3 2016 (keeping in mind it issued out $0.8 billion in debt over that timeframe). Just over $10 billion in net debt reduction is a good start, with future proceeds and free cash flow generation enabling Royal Dutch Shell to keep the momentum going. Having a manageable cash flow situation is what made that possible.

Q3 was a solid quarter for Shell, and Q4 should be even better. If you want to read more about the firm, check out its FLNG Prelude development by clicking here.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

SOURCE

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NAZI HISTORY OF ROYAL DUTCH SHELL

Royal Dutch Shell conspired directly with Hitler, financed the Nazi Party, was anti-Semitic and sold out its own Dutch Jewish employees to the Nazis. Shell had a close relationship with the Nazis during and after the reign of Sir Henri Deterding, an ardent Nazi, and the founder and decades long leader of the Royal Dutch Shell Group. His burial ceremony, which had all the trappings of a state funeral, was held at his private estate in Mecklenburg, Germany. The spectacle (photographs below) included a funeral procession led by a horse drawn funeral hearse with senior Nazis officials and senior Royal Dutch Shell directors in attendance, Nazi salutes at the graveside, swastika banners on display and wreaths and personal tributes from Adolf Hitler and Reichsmarschall, Hermann Goring. Deterding was an honored associate and supporter of Hitler and a personal friend of Goring.

Deterding was the guest of Hitler during a four day summit meeting at Berchtesgaden. Sir Henri and Hitler both had ambitions on Russian oil fields. Only an honored personal guest would be rewarded with a private four day meeting at Hitler’s mountain top retreat.

MORE INFORMATION
Shell appeased and collaborated with the Nazis. The oil giant instructed its employees in the Netherlands to complete a form giving particulars about their descent, which for some, amounted to a self-declared death warrant. Shell used slave labor and was a close business partner in Germany of I.G. Farben, the notorious Nazi run chemical giant that also used slave labor and supplied the Zyklon-B gas used during the Holocaust to exterminate millions of people, including children. Shell continued the partnership with the Nazis in the years after the retirement of Sir Henri and even after his death. It was money generated on Shell forecourts around the world, profiteering from cartel oil prices, that funded the Nazi party and saved it from financial collapse. Evidence about Shell's Nazi connections can be found in extracts from "A History of Royal Dutch Shell" Volumes 1 and 2 authored by historians paid by Shell, who had unrestricted access to Shell archives. There are 67 pages in total, so takes some time to download.

Photograph (full size here) shows a Swastika flag flying at the head office of Royal Dutch Petroleum, 30 Carel van Bylandtlaan, The Hague, during the Nazi occupation of the in World War II (From Image Database Hague Municipal)

Sir Henri Deterding, the founder of the Royal Dutch Shell Group - known as "The Most Powerful Man in the World" - who became an ardent Nazi and financial supporter of Hitler and the Nazi party.

SHELL IP PIRACY

Reading between the lines in various legal documents, it seems that the allegations are that after the technology in question had been disclosed to a Shell company in the USA, the information was passed to Shell in the Netherlands in breach of confidentiality. And Royal Dutch Shell subsequently exploited the technology without payment or credit to the company holding the rights; Newton Research Partners. The inference seems to be that Twister B.V. was founded by Shell partly on trade secrets stolen from Bloom/Newton.

For more information read:

ARTICLE: Shell in the US courts again for alleged theft of trade secrets: 20 June 2014

ARTICLE: Twister B.V. by name, Twister by nature?: 09 August 2014

WEBSITE INFORMATION

DISCLAIMER: This is not a Shell website nor is it officially endorsed by or affiliated with Royal Dutch Shell Plc. Originally co-founded by the late Alfred Donovan and his son John, it is now operated by John, Shell's "No.1 Enemy", aided by an expert team, with invaluable support from retired Shell senior executives and officials as guest contributors and leaked information from Shell insiders.

(JOHN DONOVAN, WEBSITE OWNER)
For nearly a decade, we have operated globally under the Royal Dutch Shell Plc top level domain name, dealing on Shell’s reluctant behalf with job applications, business proposals, Shell pension enquiries, shareholder enquiries, complaints, invitations to speak at conferences, an approach from the Dutch Defence Ministry and even terrorist threats. All meant for Shell. Prospect magazine has aptly described this website as being:"An open wound for Shell":
WIPO proceedings by Shell to seize the domain name failed.
NO SUBSCRIPTION CHARGES: All of our watchdog activities monitoring Royal Dutch Shell, including operating this website, are carried out on a non-profit basis. Any advertising revenues generated are used to recover and/or defray operational costs. We are a news aggregator and original content website. All information is available free for educational and research purposes.
SHELL TACIT ENDORSEMENT: WHAT A WELL INFORMED SHELL OFFICIAL SAID ABOUT US: "John and Alfred Donovan well known in UK/Hague. They perceive Shell played them and so have made it their mission to embarrass, belittle and criticize Shell, which they do quite well. Their website, royaldutchshellplc.com is an excellent source of group news and comment and I recommend it far above what our own group internal comms puts out."
WARNING TO SHELL EMPLOYEES: Shell Global Affairs Security "CAS") is spying on Shell employees globally trying to trace who is visiting, posting, or leaking information to this website from Shell premises. Threats, including death threats, have allegedly been made against conscience driven Shell whistleblowers supplying us with information. The worlds biggest leak of employee details as part of a claimed corporate revolution by 116 Shell employees, suggest the espionage operation, threats and draconian litigation have not been entirely successful in cutting off the supply of information to this website. The insider leaks had already cost Shell billions on the Sakhalin Energy project and the loss of SEIC Deputy Chairman, David Greer.
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MEDIA COVERAGE: Prospect Magazine, The Sunday Times, and The Guardian, have all published major articles about us: "Rise of the Gripe Site";"Two men and a website mount vendetta against Shell' and "92-year-old's website leaves oil giant Shell-shocked”.
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COPYRIGHT NOTICE: Information on copyright issues here.
John Donovan can be contacted at [email protected]

BILL CAMPBELL WHISTLEBLOWER EMAIL TO MP’S

IN JULY 2007, MR BILL CAMPBELL (ABOVE, A RETIRED GROUP AUDITOR OF SHELL INTERNATIONAL SENT AN EMAIL TO EVERY UK MP AND MEMBER OF THE HOUSE OF LORDS:

THIS IS WHAT IT SAID:

Subject: This could be the most important whistleblower email you have ever received.

Some unfortunate Royal Dutch Shell workers have already lost their lives. More lives are at stake.

My name is Bill Campbell. I am a former Group Auditor of Shell International. I am writing to you on a matter of conscience in an effort to avert the inevitability of another major accident in the North Sea. The consequences could potentially impact on families in many constituencies, including your own.

As Royal Dutch Shell and the Health & Safety Executive would acknowledge, I am an expert on safety matters relating to offshore oil and gas platforms. In 1999, I was appointed by Shell to lead a safety audit on the Brent Bravo platform. The audit revealed a platform management culture that basically gave a higher priority to production than the safety of Shell employees. To our astonishment we discovered that a "Touch F*** All" policy was in place. Worse still, safety records were routinely falsified and repairs bodged.

I personally brought the shocking situation to the attention of senior management including Malcolm Brinded, the then Managing Director of Shell Exploration & Production. I revealed that ESDV leak-off tests were purposely falsified, not once but many times and that Brent Bravo platform management had admitted responsibility for the dangerous practices being followed. In response to my team ringing alarm bells, management pledged to rectify the serious problems which had been uncovered.

When I later complained that the pledges were not being kept, I was removed from my oversight function.

Four years later, a massive gas leak occurred on the platform. Two workers lost their lives. I have no doubt at all that the inaction of the relevant Asset Manager, the General Manager, the Oil Director and Malcolm Brinded, contributed in some part to the unlawful killing of two persons on Brent Bravo in September 2003.

Shell subsequently pleaded guilty to breaches of the HSE regulations and a record-breaking £900,000 fine was imposed. I thought this would bring about a real change in policy to put the emphasis on safety.

Unfortunately I was wrong. Although I supplied the evidence related to 1999, and the fact that there had been a collapse in controls of integrity from 1999 to 2003 on all 16 of Shell's North Sea offshore installations covered in a post fatality integrity review to the HSE for review by the Procurator Fiscal, none of this evidence was presented before the Sheriff at the subsequent Inquiry. The situation is explained in a letter to the Procurator Fiscal and the Sheriff (on 24th February 2007).

Shell management has engaged in spin to try to pretend that it is getting to grips with its safety problem. However, its atrocious safety record - the worst in the North Sea in terms of accidental deaths and absolute number of enforcement actions – tells a different story. This fact has resulted in a number of newspaper articles.

I have had meetings with senior Shell people including its CEO Mr. Jeroen van der Veer. I regret to say that I have found him to be economical with the truth. He prefers to support cover-up and deceit rather than confronting the underlying problems. Brinded is now Executive Director of Shell Exploration & Production. He believes in burying evidence.

My family and friends would probably prefer me to give up on this matter and enjoy my retirement after so many years working for Shell.

However, by writing to every MP in the UK, no one can ever say that I did not do my best to avert an inevitable further major accident event in the North Sea. When it happens (I pray that I am wrong) I will make this warning communication available to the media together with the vast amount of evidence in my possession.

At least my conscience is clear. I have done everything possible to ring the alarm bells about Shell management and its unscrupulous attitude to the safety of its employees.

Yours sincerely
Bill Campbell

ENDS

(Malcolm Brinded and Jeroen van der Veer are no longer with Shell. The Oil Director referred to in the email is Chris Finlayson, who left Shell to become Chief Executive of British Gas before being fired - his photo immediately below)

THE BRENT BRAVO SCANDAL
BRENT BRAVO: THE EVIDENCE ASSEMBLED BY BILL CAMPBELL

BILL CAMPBELL EVIDENCE BUNDLES A to F - June 2012

BILL CAMPBELL EVIDENCE BUNDLES A to F CONTINUED - June 2012

by John Donovan

Displayed below are some of the spectacular promotional campaigns my company Don Marketing created for Shell in the 1980s and 1990s. This was before the series of SIX high court actions we brought against Shell for stealing ideas (4) and for defamation (2) - all settled by Shell. This website is a permanent response by me to the malicious underhand tactics, including treachery, espionage and intimidation, used by Shell during and after the bouts of litigation. More information is printed at the foot of this column.

MORE DETAILS: After a solicitor acting for Shell threatened to make the litigation "drawn out and difficult" with the intention of draining the resources of a financially weaker opponent, my late father (Alfred Donovan) and I decided to mount a wide-ranging campaign as a counter-measure. We jointly founded the Shell Corporate Conscience Pressure Group, which nearly 15% of Shell UK retailers joined. We regularly conducted ethical surveys involving up to 1500 Shell petrol stations. All responses were opened and authenticated by an independent solicitor who supplied Affidavits confirming the results. In whole page announcements in trade magazines (examples above) we challenged Shell to commission and publish the resuits of independent research asking the same questions and offering respondents GUARANTEED anonymity. Shell never took up the invitation. Instead it asked the UK Advertising Standards Authority to investigate our Shell surveys. No problems were found. The head-cut image of Alfred Donovan appears courtesy of The Wall Street Journal.

SHELL CONTROVERSIES

selection of memorable warnings/articles/images associated with the controversial track record of Royal Dutch Shell.

WARNING: DO NOT DISCLOSE YOUR IDEAS TO SHELL GameChanger OR SHELL Ideas360 WITHOUT TAKING EVERY POSSIBLE PRECAUTION. Shell management has ample funds to pay for intellectual property but prefers to steal it from small businesses and in our experience, gives its full backing to dishonest managers willing to do its bidding. We have sued Shell repeatedly in the High Court for the theft of our Intellectual Property. It is doubtful if anyone can match our dire experience in dealing with this ruthless unscrupulous serial poacher of other parties ideas. Expect threats, legal machinations and sinister action from Shell and its spooks if you object to having your ideas stolen.

LINKS TO SOME RELATED ARTICLES:

ARTICLE: Shell in the US courts again for alleged theft of trade secrets: 20 June 2014

ARTICLE: Shell GameChanger - Scam, or Genuine Game Changer?: 10 June 2014

ARTICLE: Is it safe to disclose ideas to Shell GameChanger?: 7 June 2014

ARTICLE: Royal Dutch Shell plc Brings Crowdsourcing to the Energy Markets: 20 April 2014

ARTICLE: High Court papers unveil ‘secret’ Shell writ losses: 23 April 1998

ARTICLE: Another warning to inventors of the alleged dangers when dealing with Shell : 12 March 2008

ARTICLE: Shell in deepwater, accused of more IP theft: 13 August 2008

ARTICLE: ENERTAG PATENTS: MORE ROYAL DUTCH SHELL IP CHICANERY?: 4 November 2009

ARTICLE: Shell investigates alleged IP theft at Geelong Refinery: 21 April 2012

ARTICLE: Another alleged case of IP theft hits Royal Dutch Shell: 20 May 2012

ARTICLE: Shell Oil Must Pay $153.6 Mln Award to Union Carbide: 17 June 2012

Some years ago extensive documentary evidence was brought to the attention of Malcolm Brinded above, when he was Chairman of Shell UK, proving beyond any doubt that Shell executives had conspired to rig a tender for a major contract. A number of innocent firms were deliberately lured into signing confidentiality agreements and disclosing Intellectual Property to Shell under false pretences, in a carefully contrived plot. The firm which was awarded the contract never took part in the tender. One objective of the Machiavellian plan was to stop/delay IP trade secrets owned by the participants in the tender from being disclosed to Shell's rivals. This was achieved by outright deception, without paying a cent to the firms involved, who wrongly believed they were participating in an honest tender. Instead of sacking the ring leader, AJL - who had a personal relationship with the firm which miraculously won the race in which it never ran - Shell senior directors, including Brinded, gave AJL their full backing. Some of the Shell executives involved, including for example, Tim Hannagan, still hold high positions inside Shell - in his case, Global Brand and Visual Identity Manager. If Shell does not accept that this is a true, provable account of what happened, then it should sue for libel. How on earth is such predatory conduct compatible with Shell's claimed business principles?

FOR MORE INFORMATION, READ THIS ARTICLE:

ARTICLE: Irregularities in a Royal Dutch Shell tender process: 31 October 2011