Shell Can Generate Strong Returns In A Transitioning Market

Shell plc (NYSE:SHEL) is one of the largest petroleum companies in the world, with a market capitalization of just under $200 billion. However, the company has also worked hard to respond to the potential impacts of climate change. As we'll see throughout this article, its unique and distributed assets should enable substantial shareholder returns.

Shell Results

The company achieved strong shareholder returns, taking advantage of higher prices in the most recent quarter.

The company earned $9.8 billion in adjusted earnings for the quarter and $22.4 billion in CFFO. For the year, the company had $25 billion in capital expenditures, or $43 billion in FCF after the $68 billion in CFFO. That's a more than 20% FCF yield, highlighting the strength of the company's balance sheet in a quarter with higher average prices.

The company achieved $26 billion in 2022 shareholder distributions, or a 13% shareholder yield. It increased its dividend by 15% and now yields almost 5%, highlighting the strength of its balance sheet. The company announced a $4 billion share buyback that it can comfortably afford, and we expect buybacks to remain strong.

Shell Value Creation

The company is focused on continuing to generate value to shareholders.

The company expects 2023 cash capital expenditures to be $25 billion. The company expects to generate AA credit metrics and with the recent announcement of a production cut, we expect prices to remain higher. The company expects minimum 4% annualized growth in its dividend going forward, highlighting its continued strength.

The company's largest source of spending remains its upstream business, and the company is continuing to target shareholder distributions 20-30% of CFFO. We expect the company will be able to generate returns for shareholders in a variety of pricing environments.

Shell Capital Expenditures

The company is investing heavily in a variety of businesses.

The company invested $8.1 billion in upstream in 2022 with record cash flow, but it also built out its transition businesses. It doubled renewable power transition and added 139 thousand EV charge points. Transition spending was at $8.1 billion while growth was at $8.3 billion. In 2023, the company expects spending to be roughly equivalent broken out versus 2022.

The potential rewards for shareholders are based on the company's pipeline of major projects. There are many of major upstream projects coming into service in 2023-2024. These projects will together result in hundreds of thousands of barrels/day attributable to the company, especially in Brazil and the USA.

Additionally, the company has a number of major renewable products, which will increase its attributable renewable production and earnings. The company is high-grading its portfolio, and we expect strong returns from invested capital.

Our View

As much as some oil companies like to deny it, the markets are changing. Even if you don't agree with the impacts of climate change, if it changes the demand business and enough research is done to lower the cost of alternatives, it still changes the market. We expect natural gas demand to remain strong for electricity, but crude oil demand to decrease.

However, the substantial decrease in the production of oil wells, means that only capital spending needs to decrease without companies losing money. Shell has done an impressive job of both maintaining strong production and investing in alternative fuel sources, and we expect that to result in strong and diversified shareholder returns.

The company has a more than manageable debt load, a strong and increasing dividend, and continued share buybacks. All of that means the company can generate double-digit shareholders, making it a valuable investment.

Thesis Risk

The largest risk to our thesis is crude oil prices. At Brent prices of more than $80/barrel, with OPEC+'s recently announced production cut, we expect Shell will be very profitable. As prices drop to less than $60/barrel, however, that story changes. Prices have dropped substantially before, and it could happen again.

Conclusion

Oil prices have slowly trended down since they peaked after Russia's invasion of Ukraine. However, they've started to recover recently, and OPEC+'s recent production cut is a major benefit for the market and shows an indication to want to support prices at $70-80 minimum. That's a level where Shell is very profitable.

Shell plc can continue to afford its dividend of more than 4%, which it intends to increase each year. At the same time, the company is continuing to commit to share buybacks. That combination could result in double-digit shareholder returns, making Shell plc a valuable investment. Let us know your thoughts in the comments below.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

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