Royal Dutch Shell Has Strong Cash Flow That Justifies Its Valuation (NYSE:SHEL)

Royal Dutch Shell (NYSE:SHEL) is one of the world’s largest oil companies with a market capitalization of approximately $225 billion. European oil companies are known to continue to trade at discounts, and Royal Dutch Shell is an example of this. As we’ll see throughout this article, Royal Dutch Shell has a low valuation and can generate substantial returns for shareholders.

Royal Dutch Shell Second Quarter Results

The company had a strong second quarter with a continued focus on generating earnings.

The company had $13.5 billion in CFFO with $6.3 billion in adjusted earnings, supported by continued leadership in its LNG portfolio. The company continues to invest nearly $20 billion annually in its businesses, in line with other major companies relative to its market capitalization. The company’s FCF for the quarter was $10 billion, an annualized return of more than 15%.

This shows the strong financial strength of the company. The company returned $6.1 billion to shareholders in the quarter with a dividend of nearly 4% and a strong buyback program within its FCF. That’s a double-digit annual return for a strong company.

The rise of Royal Dutch Shell

The company continues to pursue a number of new projects around the world that have the potential to generate more than 500 thousand barrels/day.

These projects are by and large all in reliable jurisdictions with reliable operations. They are also all in locations where the company already has strong operations and profits, which should help the company’s continued success and reduce risk around these projects. This growth should allow for continued cash flow and profitability.

Royal Dutch Shell LNG

The company remains one of the strongest LNG companies in the world, with a massive portfolio that will sustain returns.

The company continued to ramp up LNG production, and the company’s liquefaction along with purchased volumes are expected to help overall sales grow by 20-30% by the end of the decade. The company leverages its strong position in LNG following the acquisition of BG Group and remains the world’s largest LNG company.

LNG prices are not seeing as much strength as they did after Russia’s initial invasion of Ukraine. However, they remain high, being one of the best ways to provide energy to companies that do not have easy access to natural gas. Combined with the returned availability of the Prelude, the company posts billions in earnings for the division.

Capital Allocation Royal Dutch Shell

The company’s strong segments here continue to support strong shareholder returns as the company allocates capital intelligently.

The company plans to pay out ~35% of CFFO over the cycle and maintains a strong dividend while continuing to buy back shares. Its ability to do so even with natural gas prices recovering and crude oil prices near $80/barrel is interesting to note. The company continues to invest heavily in its businesses and its net debt is more than manageable.

Overall, the company’s capital allocation and lower valuation than its peers allow for stronger returns for shareholders, making it a value investment. ExxonMobil has a P/E of just under 14x and Chevron has a P/E of just under 15x. SHEL, by contrast, has a single-digit P/E based on last quarter’s earnings.

The thesis risk

The biggest risk to our thesis is that Royal Dutch Shell is an upstream company that is highly dependent on the price of crude oil. The company is profitable at current prices. However, crude oil has long-term risks, and these risks can affect the company’s ability to provide long-term returns to shareholders.

Conclusion

Royal Dutch Shell is an impressive company and one of the most powerful oil companies in the world. The company is particularly dominant in the LNG sector after the acquisition of the BG group. The company has continued to generate strong profits even as LNG prices have sunk to Earth and is focused on shareholder returns.

Combined with a European discount to oil companies, the company generates double-digit returns for shareholders. It can pay that back through both dividends and share buybacks. His debt is easily more than manageable. Regardless of how the company spends its cash, it’s a valuable long-term investment.