Let's SWOT This Big OiL Player

Margie is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Oil companies have been very strong for the last several years as crude prices have generally stayed steady and trended higher. They are excellent income plays, as they normally pay good dividends, so I thought it would be good to do an analysis of Royal Dutch Shell for investors to gain a better understanding of the company.

Strengths

1. Oil is of course a capital intensive industry which is an economic moat of its own. Very difficult to imagine a major oil player coming out of nowhere as happens in tech quite often.

2. Higher extraction costs of new oil finds (mostly deep water) will help keep the price of oil elevated.

3. With all those $$ being printed by governments around the world, Shell has a commodity whose price will rise with inflation.

4. Trades at a price to earnings of 8, which certainly doesn’t make the company expensive.

5. The dividend has been paid out from free cash flow (on average) for the last 5 years.

6. Has recently been repurchasing its own shares, which amounts to an extra dividend for shareholders.

7. Has large natural gas holdings, which per BTU produced is cheaper than just about any other form of energy, leaving room for prices to rise, and thus profits.

8. Solid balance sheet.

Weaknesses

1. Has spent $110 billion in capital investments over the last 5 years, but only $60 billion charged against earnings.

2. The dividend was not been raised for several years until it was recently upped by 2%. However, the dividend remains a healthy 5.3%.

3. Quoting this fool.com column, John Hofmeister, former CEO of Shell Oil, is “convinced that the energy industry is overly optimistic vis-a-vis the decline rates for shale fields. If he's right, our newly heightened unconventional oil and gas production will fall off faster than is expected.” 

4. Earnings forecast to fall to $4.20

Opportunities

1. Recently gave a 10 year contract to Transocean (NYSE: RIG) to provide 4 ultra-deep-water drill ships, the first of which is to be delivered in 2015. This is an expensive operation, and the deep water drilling is a high risk/ high reward scenario, though recent technology improvements have mitigated risk to some degree.

2. Exploring offshore in Ghana and other areas of West Africa, where there have been deep water finds.

3. Chaos in the Middle East has more potential than usual to vault oil prices into the stratosphere, specifically Iran.

4. Invested 10 billion to develop Natural Gas off 120 miles off the coast of Western Australia. FLNG (Floating Liquefied Natural Gas)

Threats

1. Natural gas prices remain low due to mass extraction of US resources.

2. While very very unlikely, the development of cold fusion would essentially put energy companies out of business. Laugh if you must for me mentioning this possibility, the finite possibility must be considered.

3. Global economic slowdown as countries deal with debt issues slows demand for oil.

4. With all the new deep-water-drilling projects, a major oil spill along the lines of BP’s (NYSE: BP) in the Gulf of Mexico would destroy the balance sheet and stock price.

5. As with all oil companies, Shell is forced to invest billions in capital equipment for projects that will take years to come to fruition. The era of cheap, easy to recover oil is over.

6. Higher taxes on dividends might make the shares less appetizing/ perhaps the company will start buying back more shares instead.

Bottom Line

Shell has a strong balance sheet, and will continue to pay a dividend for the foreseeable future. While the amount of capital and time needed to replenish supplies is very high, as most of new finds are in deep water, the company is fairly cheap, and should be considered to be a part of the portfolio of any yield seeker. 


margiecfl has long positions in BP and Transocean. The Motley Fool owns shares of Transocean. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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