Shell Deepens Spending Cuts, Promises More Savings From BG

Shell Cuts Spending Plans Further
  • Company trims expected 2016 capex by $1 billion to $29 billion
  • Free cash flow, return on capital to rise at $60-a-barrel oil

Royal Dutch Shell Plc cut spending plans further and promised increased savings following its record purchase of BG Group Plc, as Europe’s largest oil company continues to adjust to the slump in energy prices.

Shell will spend $29 billion this year, it said Tuesday. That compares with a May forecast for capital expenditure “trending toward” $30 billion, which was itself down from an earlier projection of $33 billion. Synergies from the BG acquisition will provide $4.5 billion in savings in 2018, up from an earlier estimate of $3.5 billion.

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Chief Executive Officer Ben Van Beurden, who staked his reputation to buy BG as oil prices sank, is promising investors higher returns and cash flows at lower oil prices as he resets the company following the $54 billion acquisition. He has renegotiated contracts, eliminated thousands of jobs, maintained Shell’s asset-sale program and sought to improve efficiency to weather the oil-market slump.

“If we see oil price levels at a level where we have to go further, we will go further,” Van Beurden said in an interview with Bloomberg TV. “We still have more in our tank in terms of taking cost out. We have more in our tank in terms of deferring or canceling investment programs.”

To see Bloomberg’s TV interview with van Beurden, click here.

Stock Performance

Shell’s B shares, the most widely traded, rose as much as 3 percent and traded 2.9 percent higher at 1,761 pence as of 12:09 pm in London. The stock has increased 14 percent this year, outperforming European competitors BP Plc and Total SA.

Shell’s capital investment will be in the range of $25 billion to $30 billion a year to 2020. The company can reduce that further if required by low oil prices, even though it needs to spend about $25 billion a year to ensure future growth, Van Beurden said.

“Following the addition of BG we remain optimistic for deep value delivery given Shell’s shift in focus back to long term themes,” said Jason Kenney, an Edinburgh-based analyst at Banco Santander SA. “This is aimed at supporting sustainable free cash flow and attractive returns.”

The cost-cutting measures announced by Shell come as executives say that the oil industry could reduce spending in 2017 for a record third-consecutive year. Companies have already cut investment for two straight years in 2015 and 2016, the first time since 1986-87.

Brent crude, the international benchmark, has rallied about 80 percent from a 12-year low in January. Still, prices are less than half their level two years ago, meaning companies are having to borrow to maintain dividend payouts even after cutting billions of dollars of spending.

“We need to be roughly at the $25 billion level in order to sustain the company in the longer run,” Van Beurden said. “Of course, if we are in a tight situation from a financial framework perspective, we can go lower.”

While Shell is banking on BG’s assets to boost production and cash flow, the acquisition is driving up Shell’s debt gearing -- the ratio of net debt to total capital -- which has risen above 26 percent from 14 percent at the end of last year. Debt concerns resulted in a credit-rating cut by Fitch Ratings in February.

Reducing debt is Shell’s “first priority,” Van Beurden said in the interview.

Cash Outlook

Shell pledged to raise free cash flow from operations to $20 billion to $25 billion and boost the return on capital employed to 10 percent by 2020 at an oil price of $60 a barrel. That compares with an average $12 billion free cash flow and 8 percent return on capital at $90 oil from 2013 to 2015.

The free cash flow would be enough to cover Shell’s dividend payout, UBS AG analyst Jon Rigby wrote in a report. Shell is likely to pay $15 billion in dividend this year compared with $12 billion last year after it issued new shares to buy BG, Chief Financial Officer Simon Henry said last month.

How quickly Shell can balance its sources and uses of cash will depend on the success of its $30 billion asset-sale program. Crude’s slump has dimmed the appeal of oil fields. Still, Shell plans sales in the U.K. North Sea and Gabon.

The company expects to “make significant progress” on as much as $8 billion of its sale program this year. It has earmarked up to 10 percent of production for divestment, including exiting five to 10 countries.

Shell has deepened job cuts this year as it continues to adjust to the slump in oil prices. It announced last month 2,200 more jobs will be eliminated, taking the tally of losses to 12,500 from 2015 to 2016. About 40 percent of Shell’s operating expenses are staff costs, Van Beurden said. 

“We have to balance our financial framework at every oil-price level,” he said in the interview in London. Cutting costs is a lever and “we have been pulling that very hard. We will have to continue to pull that hard.”

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