Shell in a surprising profit warning

By The Rainbow

Royal Dutch Shell said profit plunged because of deteriorating refining markets and mounting losses in the Americas, surprising investors with an early earnings report that wiped out $10 billion US in shareholder value. Europe’s biggest oil company, in its first profit warning since 2004, said adjusted earnings excluding one-time items and inventory changes were about $2.9 billion US in the fourth quarter.

That compares with $4.5 billion in the previous three months and an average fourth-quarter analyst estimate of $4.9 billion. “It’s a shock,” Jason Kenney, an analyst at Banco Santander SA in Edinburgh, said Friday.

Less than three weeks after taking charge at Europe's largest oil company, Ben van Beurden's challenge is already clear: get a grip on spending.

Royal Dutch Shell Plc (RDSA)'s surprise announcement yesterday that fourth-quarter earnings would fall to the lowest since 2009 showed the rising cost of developing new fields has cut into profit. While Brent oil prices have spent three straight years above $100 a barrel, getting crude out of the ground is only getting more expensive.

Shell, where the new chief executive officer needs to address expenditure that exceeded a record $44 billion last year, is the most acute case of a malaise affecting the whole exploration industry. At the same time, Schlumberger Ltd. (SLB:US), the largest oilfield-services provider, yesterday said profit rose 22 percent as customers spent more in the fourth quarter.

'Shell has realized that it can't keep throwing money at projects and saying it'll be OK in the long term,' said Iain Armstrong, an equity analyst at broker Brewin Dolphin Ltd. in London. 'In the past four to five years, we've seen higher finding costs and significant increases in expenditure. The whole sector has got to be worried that recent levels of dividend growth won't be sustainable.'

Shell saw the cost of finding and developing oil fields triple from 2003 to 2012, in line with the 12 largest European oil producers, data compiled by Bloomberg Industries show. The Hague-based company has ramped up spending to build liquefied natural gas plants in Australia and develop fields in Brazil and the U.S.

Van Beurden, a chemical engineer who joined Shell in 1983, headed the company's refining unit before succeeding Peter Voser at the start of year. He spent 10 years inside the LNG business, gaining experience of the multibillion-dollar gas-export projects that are a Shell specialism.

'Van Beurden has a tougher long term test ahead than just measuring what lies beneath but how to keep a thorough control on the costs of extracting what lies beneath,' said Neil Shah, an analyst at Edison Investment Research Ltd. 'If Shell catches a cold the rest of the oil sector will always wonder if they will catch flu.'

A Shell representative said the company wouldn't elaborate on the company's results beyond yesterday's statement.

Shell isn't the only top-five oil company fighting to maintain profitability. Chevron Corp., the second-largest U.S. oil producer, and France's Total SA have said fourth-quarter profit will drop. As well as higher costs, oil producers are grappling with weak profits from refining oil.

'No one was expecting stellar results' at Shell, said Nick McGregor, a fund manager who helps oversee $5.4 billion at Redmayne-Bentley LLP in England including Shell shares. 'The large capital expenditure bets they've made are going to have to pay off.'

American Losses
Shell, which has been losing money from production in the Americas, in July forecast a return to profitability in the region by the end of this year. The company earnings were also curbed by lower oil and natural gas prices in Canada and the U.S. compared with those in Europe.

The company wrote down the value of shale gas assets in the U.S. after natural gas prices slumped to a decade-low. In December, it halted plans to build a $20 billion gas-to-liquids plant in Louisiana. Still, Shell agreed to proceed with the Carmon Creek project in Alberta, Canada.

Sea and Nigeria. The company may report a fourth-quarter charge of about $1 billion partly because of dry exploration wells, according to estimates made by Peter Hutton, an analyst at RBC Capital Markets.

While Brent crude prices more than doubled to $105 a barrel since the start of 2009, the top five oil and gas companies have gained just 16 percent since then, compared with an 87 percent increase in the Dow Jones Industrial Average.

International oil companies have been trying to win investor support with a shift in strategy in pledging to create value rather than ramp up production volumes. Some dropped output targets. Total, based in Paris, was one of the first of the majors to promise a spending reduction. Shell is following.

Shell expects to sell about $15 billion in assets to offset record spending and meet the $130 billion net capital expenditure target for 2012-2015.

'Higher divestment levels than in the recent past should then generate further additional free cash flow, most of which we expect to be returned to shareholders,' said Lydia Rainforth, an analyst at Barclays Plc in London. 'We expect a sharp recovery in first-quarter profitability.'

Vancouver Sun/ Bloomberg