Profit from the City’s short-termism - buy Shell

By Phil Oakley Feb 02, 2012

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Oil giant Royal Dutch Shell (LSE: RDSB) saw its shares fall by 2% this morning, as its 2011 results failed to impress the City. That’s great news, because it gives you a chance to buy the shares cheaper.

Shell’s results look good – and frankly, they are. Higher oil and gas prices saw net profits rise by 36% to $24.7bn. Post-tax operating cashflow grew by 34% to $36.8bn.

Better yet, for the first time in three years, Shell said that it plans to raise its quarterly dividend from $0.42 per share to $0.43. That's nothing to get carried away with, but it’s better than nothing.

So why have the shares dipped? What worried the City is that fourth-quarter profits were lower than they’d expected. Shell’s refining business lost money, and US natural gas prices fell sharply. As a result, analysts are now worried that 2012 profits will also miss expectations.

The long-term fundamentals still look good

But they’re missing the long-term picture. Shell is becoming increasingly more focused on gas, which will be the focus of a new growth initiative between now and 2015. This matters, because gas is going to become ever more important as a fuel, due to America’s huge reserves and the high price of oil.

Royal Dutch Shell share price

Shell has a leading position in the liquefied natural gas (LNG) sector, which means it can increasingly sell its gas to the highest bidder – with Asia a particularly promising market. Its gas-to-liquids investment in Qatar also looks promising, as it should allow Shell to make money by exploiting the price differentials between oil (very expensive) and gas (very cheap). Throw in Shell’s pipeline of maturing assets, then unless there’s a total collapse in world oil prices, it should be able to keep growing its profits.

If this investment in gas pays off, then Shell could increase its operating cash flow by between 30% and 50% from recent levels. Worried analysts point out that the $30bn of annual investment needed to produce this means that returns on investment may fall.

That’s fair enough, but should oil prices remain around the $100 level, Shell could end up generating lots of surplus cash, which means shareholders could see more generous dividend increases in the future.

A good share for the long-term

At 2,273p, Shell trades at 8.1 times consensus earnings forecasts for 2012 while offering a prospective dividend yield of 4.8%. That looks good value to us, given the promising fundamentals of gas.

It is also worth bearing in mind the importance of dividends in contributing to investment returns, especially in a bearish environment for equities. By reinvesting the dividends you receive, you will compound your returns. If the dividend grows as well, then so much the better – (see my colleague Tim Bennett’s video: Compound Interest – the lazy way to get rich).

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Published in Share tips | More articles by Phil Oakley

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  • 1. alex

    (02 February 2012, 05:27PM)  Complain about this comment

    Aren't you far better off buying Chesapeake at rock bottom if you believe the US gas renaisance story than buying Shell.

  • 2. Hugh

    (03 February 2012, 11:46AM)  Complain about this comment

    Hi Alex,

    They do look cheap. I am going to keep a watch on them - thanks. I read this and its worth investigating, although I take anything JPM say with a pinch of salt :)

    http://www.cbsnews.com/8301-505245_162-57366895/chesapeake-shares-fall-as-jp-morgan-downgrades/

    Thanks Hugh

  • 3. JGH

    (04 February 2012, 02:27PM)  Complain about this comment

    Three months ago MoneyWeek suggested that it was worth waiting for pullback before buying Shell, targetting the range 1,800 p to 1,950 p. The share price is currently pretty much the same now as it was then - have you given up hope of a pullback ?

    http://www.moneyweek.com/investment-advice/share-tips/share-tips-european-oil-company-omv-14900

  • 4. David

    (06 February 2012, 10:16AM)  Complain about this comment

    There is a growing consensus that we are entering a "liquid fuels" crisis. more than a general energy crunch. This presumably refers to the decline in easy to get oil and over the long term, the decline in total petroleum reserves.

    In this scenario gas will take far greater prominence and so any technology which addresses this serious shortfall will be in high demand.

    As mentioned above, Shell has a major investment in the Pearl project in Qatar which is a Gas-to-Liquids operation. So the intetrnal combustion engine can continue for the forseeable future using this GtL technology, in which Shell is a clear leader.

    So Shell is a very good long term buy.

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