It explores for crude oil and natural gas around the world, both in conventional fields and from sources such as tight rock, shale and coal formations. Through its subsidiaries, the company also performs activities related to chemicals, power generation and renewable resources.
Although dependent on the oil price, Shell’s exposure to falling oil prices has been significantly reduced following major cost optimisations, divesting of non-core assets and the acquisition of the BG Group in early 2016.
Operationally, conventional oil and gas will continue to play a major role for Shell, but its integrated gas segment is where the real growth is to be found with more than fifteen major products.
Further growth in global liquefied natural gas (LNG) demand, particularly in emerging markets presents significant opportunity.
The company has entered a harvesting phase after years of exploration investment. It plans to pay out at least $125billion (R1.9trillion) to shareholders in dividends and share buybacks from 2021 to 2025. That is approximately half of its current market capitalisation. It has also been reducing is net debt since the oil price glut in 2016 and aims to further reduce its gearing to about 20percent over the next five years.
Shell remains the strongest free cash flow generator among the major oil and gas companies and has never cut its dividend, even during times when oil prices were below $40. A stable and predictable dividend yield of about 6.5percent and recently authorised share repurchase programme worth $25bn make it an attractive opportunity for income-seeking investors.
Based on the company’s new projections for 2025, it is evident that Shell will be able to fund capital expenditure and current dividends even at oil prices below $40. Although difficult to forecast, consensus oil price forecasts over the next five years gradually trend upwards towards $70 per barrel, which would give Shell a significant safety margin.
Oil prices have, however, been very volatile over the past five years and are no longer as predictable due to an oil industry fundamentally changed by the US oil production boom, uncertainty over Opec's clout, the fluctuating value of the US dollar and shifts in oil demand.
A tailwind for Shell is the distinct possibility of interest rate cuts by the US Federal Reserve. In such an environment companies with high income distributions to shareholders are often preferred over lower-yielding bonds.
Trading at 2020 forward price-to-earnings multiples below 10 times, with a free cash flow yield of 10percent and a dividend yield of 6.5percent, its valuation is undemanding compared to its own history and peers. Shell is well-positioned to benefit investors who prioritise income from their portfolios.
Frants Preis, CFA is a portfolio manager at Vega Asset Management based in Pretoria. Shell shares are owned on behalf of clients.