Shell cash flow gushes higher, shares not so much

Royal Dutch Shell’s operating cash flow continued to gush in the third quarter, offsetting somewhat disappointing profits.

Summary

Royal Dutch Shell’s operating cash flow continued to gush in the third quarter, offsetting somewhat disappointing profits.

Cash still key

Headline Shell earnings slightly missed market expectations, so the stock, which had been on its way back to positive territory for the year, will now wait a while longer to get there. For some time though, robust profits – a large chunk of which stem from lower costs—has not been the stock’s main attraction. Rather, cash is the key. The 51% surge to a four-year high in attributable earnings was impressive. But a near-60% bound in cash flow from operations to $12.1bn, and $14.7bn, ignoring one-offs, was more notable. The news feeds into anticipation that even after announcing a long-awaited $25bn share buyback programme in July, Shell could do more. Unlike BP, which resumed funding of project expenditure from cash in the most recently ended quarter, Shell was already covering capital investment and dividend payments from $9.5bn in cash generated in Q2. With a strong Q3 performance in the bag, the group looks on track to at least meet a 2020 goal of $25bn-$30bn in annual organic free cash flow, set in 2017. The goal was predicated on oil at $60 a barrel, but the upper end of the range may be in view with oil prices above $70/bbl. since March. Shell’s humongous cash return drive, which also has a 2020 end date, could yet step up a gear.

Uncertainties remain

To be sure, there is no direct hint of an upgrade in the quarterly report. The second tranche of the buyback programme—up to $2.5bn—was launched at a size in line with expectations. The quarterly dividend is as planned at $1.41 per share, with only a slim chance of a rise when Q4 results are announced on 31st January. Broader uncertainties that undermine the case for higher attributable cash flow also remain. For one, production is still throwing off negative surprises. There was a 2% shortfall relative to expectations in Q3. Output is expected to swing higher in Q4 as maintenance subsides, but investors might well wish they had a better handle on these probabilities. As well, as BP signalled earlier this week, weaker refining margins are setting in across the industry. These will drag profits, albeit the UK’s No. 2 oil giant suggested the phase would pass by no later than H2 2019. For Shell, gearing, which barely inched down to $23.1% with net debt at $60.5bn in Q3, is another not quite latent concern. Shell remains the most-geared of closely matched E&P groups with a net debt ratio that is around a third higher than last year’s core earnings. As international trade conditions get more restrictive, the global economy is on its way to an unmistakeable pause, at best. That could yet bring the end of the recent cycle demand cycle, putting higher shareholder returns further out of reach. This year, Shell shares have taken a round trip spanning an 11% loss by 19th March and a 12% rise by 21st May. With shares around 0.6% lower for the year on Thursday, a modest 2018 gain looks the best shareholders can hope for. If so, a lacklustre stock performance despite rude financial health suggests the shares could struggle to do better in 2019.

Thoughts on Shell’s technical analysis chart

Technical analysis chart: Royal Dutch Shell Plc. – weekly interval

Source: Refinitiv/City Index

The big picture for Shell shares is that they continue to extend the distinct rising trend that began in January 2016 and one that, since September 2016, has been underpinned by a well corroborated trendline. That is the longer-term backdrop against which to view shorter-term price action.

Technical analysis chart: Royal Dutch Shell Plc. – daily interval

Source: Refinitiv/City Index

In the daily view, the descending triangle retracement from the year’s 2755p highs in May remains present, albeit it looks messier. Nevertheless, the structure is valid. Hence, it’s therefore cogent to frame the stock as following a medium-term consolidation that will run its course at the apex. From a continuation perspective, at a minimum, a break out would happen to the higher side of the triangle if the gentle long-term rising trend continues. Backing the bigger motif, a large flag continuation pattern is also visible. Price has obediently followed the channel since April, again apart from a transgression topside in late-September-early-October. In order to invalidate prospects of a medium-term advance, not only would failure be required amid a triangle break out, but our hypothesis that the flag will eventually be bullish would also need to be disproved. Fair warning of such an eventually would be if 2338p support, where selling was sharply rejected last week, failed to withstand a further hit. Trade below 2338p would move the focus on to support created in March at 2166p.


Join our live webinars for the latest analysis and trading ideas. Register now

GAIN Capital UK Limited (trading as “City Index”) is an execution-only service provider. This material, whether or not it states any opinions, is for general information purposes only and it does not take into account your personal circumstances or objectives. This material has been prepared using the thoughts and opinions of the author and these may change. However, City Index does not plan to provide further updates to any material once published and it is not under any obligation to keep this material up to date. This material is short term in nature and may only relate to facts and circumstances existing at a specific time or day. Nothing in this material is (or should be considered to be) financial, investment, legal, tax or other advice and no reliance should be placed on it.

No opinion given in this material constitutes a recommendation by City Index or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person. The material has not been prepared in accordance with legal requirements designed to promote the independence of investment research. Although City Index is not specifically prevented from dealing before providing this material, City Index does not seek to take advantage of the material prior to its dissemination. This material is not intended for distribution to, or use by, any person in any country or jurisdiction where such distribution or use would be contrary to local law or regulation.

For further details see our full non-independent research disclaimer and quarterly summary.