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Despite consistently delivering solid results quarter after quarter and returning billions of dollars to shareholders, Shell (LSE: SHEL) shares have been pretty flat over the past few years. With the company seemingly not too keen on moving its primary listing away from London, I keep asking myself just what it needs to do to close the valuation gap with its US peers.
H1 results
Today, 31 July, the oil major released its half-year results. The overall message I got was that despite lower realised prices for oil and gas, optimising shareholder returns remain the priority.
The declines on last quarter were quite hefty. Both income and adjusted earnings fell by a quarter. Net debt also was up to $43bn. Cash flows remain extremely strong at $6.5bn. This more than offset the $5.7bn returned via dividends and buyback. However, when one adds on lease liabilities and interest payments on its debt, that explains the increase in net debt.
It announced a dividend of $0.358, up 4% on the same period last year, and 25% higher than a few years back. That equates to a dividend yield of 3.9%. But it is share buybacks that continue to drive the bulk of shareholder returns.
Buybacks
Management remains convinced that its shares are undervalued. That explains its strategy of prioritising buybacks. Over the last three years, it has bought back more than a fifth of its entire stock.
At BP, a strategy of buybacks has been a major contributing factor for a deterioration in the health of the balance sheet. I don’t believe the case is the same for Shell.
I continue to believe that future cash flows remain robust. The company’s huge liquid natural gas portfolio should continue to be a winner well into the next decade. Natural gas is the key energy transition commodity and I expect growth to surge.
If the share price remains flat and based on projected future cash flows, management estimates the potential to repurchase up to another 40% of its shares by 2030. That’s sending the company private by stealth at that rate! But when I look over the past 20 years, the share count has remained fairly flat. Such a move represents a huge shift in capital allocation.
Risks
Outside of falling oil and gas prices, one of my major concerns for the stock is that despite seemingly doing everything right on the surface, the multiple placed on it by the market continues to disappoint.
Now, there are many ways to interpret this problem. The shares could be undervalued or maybe the market just doesn’t like, or is not convinced by, what it’s doing. In all honesty, though, I don’t really care.
Over the long arc of time, the only factor that drives a stock re-rating is improving fundamentals. As an integrated energy company, Shell enjoys exposure to the opportunity of rising oil and gas prices. But its downstream business supports earnings even during periods of sustained lower prices.
I’m not looking out to the next few years, but the next 15. Patient investors don’t look for a sugar rush from a short-term run on the share price. As long as the stock remains undervalued, I will continue to invest by means of dollar-cost averaging.
