We grow to simplify

In Shell’s (Ticker: RDSA) management day meeting Nov. 3, 2015, the executive team discussed the current state of the oil and gas industry, commodity prices, the BG acquisition and Shell’s plans upcoming. Some comments from CEO Ben van Beurden on the call today appear below:

Ben van Buerden, Shell CEO

Ben van Buerden, Shell CEO

“I’m determined that Shell will be at the forefront … and will emerge from this difficult period as a more focused and a more competitive company as a result.

“BG of course rejuvenates Shell’s upstream by adding deepwater and integrated cash positions that offer attractive returns and cash flow, but also growth potential. And these are of course the industries where you know that we have capabilities and technologies already.

“With larger positions in both of these themes, we can focus on the best positions. We can drive a more structured and more predictable investment program. We are reshaping the company and this of course will accelerate once the whole transaction is complete.


“Shell is becoming a company that is more focused on its core strengths, a company that is more resilient and competitive at all points in the price cycle and it has a more predictable development pipeline, and with the BG combination rolled out for growth.

“The oil price downturn that began in late 2014 is triggering significant changes in our industry. We’re planning on a prolonged downturn and we’re responding with urgency and with determination. This is all about making sure, of course, we can continue to pay attractive dividends for shareholders, but at the same time maintaining a sensible investment program for the medium term, and of course, we’re using today’s environment also as an opportunity to further reduce Shell’s cost structure and to make fundamental changes in the way we’re working in areas such as the supply chain.

“So we’re pulling on powerful levers in this oil price downturn to protect our ability to pay dividends and to keep this what I call sensible and high value investment program and the way for the future and this is a substantial packets of measures, maintaining a flexible balance sheet, reducing capital and operating costs by a total of $11 billion in 2015 and more to come in 2016 and of course continuing with asset sales and project growth, and let me update you on the delivery in some of these things that I just mentioned here. So we’re on track for a full $1 billion reduction in operating costs, which is a 10% reduction in 2015. Operating costs fell by 11% for the first nine months of 2015, as our sustainable cost reduction programs are gathering pace. Costs should reduce further in 2016, as we continue to work on the supply chain on our overhead such as IT, and on the targeted programs we have in different parts of the business.

“We have announced that some 7,500 staff, contractors are leaving Shell as part of this cost drive. On the capital side, we’re on track to deliver 2015 capital investments at around $30 billion. And this is a 20% or $7 billion reduction from 2014. And it’s 35% less than the recent peak that we had in 2013. And that reflects a measured and a pragmatic approach to managing the financial framework in a lower price environment such as the FID pace and the cost opportunities that we have acted on in the supply chain.

Shell Management Day - Growth to Simplify“Now looking at 2016, we can give some more details on this when the BG combination and transaction is closed. We are expecting the combined spending to be lower again next year around $35 billion. And that’s of course, if we assume that the current macro conditions prevail. Tough decisions on capital investments, but they are driving the right outcomes here.

“Only the most competitive projects are going ahead. Just two major final investment decisions so far in 2015. And many potential projects have been purposely delayed or they have been rephased or they have been cancelled all together. And this is all to manage affordability, and get better value for the supply chain in the downturn.

“So you’ll have heard last week that, we have held work on Carmon Creek, which was an in situ heavy oil project in Canada. Completing this project didn’t rank anymore in our portfolio. Carmon Creek would have been several billion dollars spending, more to come in 2016 to 2020, and we will be winding that down now. Difficult decisions, I can tell you. All leading to a much healthy attention in the company, in our supply chain, all around capital allocation.

“We’re looking at a low NPV breakeven for projects here, so typically or certainly rather, less than $70 a barrel and typically we find these numbers closer to $50 a barrel, and managing the base of FIDs is of course a very powerful tool to drive for lower costs. So, also allowing us to plan our capital spending better, making sure that only the most attractive and the most affordable projects can go ahead.

“In North America shales, we expect to reduce capital and operating costs by another 35% this year. We are also making significant progress on unit costs, which are almost 40% lower in 2015 than in 2013 and much of this is due to cuts in overheads and support structure that we have for these businesses as we right sized the organization for our restructured portfolio. And of course, we have reduced our organic capital expenditure by 55% since 2013, yet continue at the same time to grow production and resources through enhanced efficiency.

“For 2014 and 2015 combined, we are expecting some $20 billion of asset sales of which $19 billion were completed to the end of the third quarter of this year. And of course, we have put deals in the pipeline that just show a headline value of $1.4 billion. And we have plans in place for $30 billion divestments for 2016 to 2018 as we consolidate BG in the portfolio.

“I’m determined that Shell will emerge as a more focused and a more competitive company as a result of the recommended combination with BG. BG rejuvenates our upstream portfolio, deepwater, integrated gas possessions that offer attractive returns and attractive cash flows, and have growth potential. These are industries where we already do have a leading capability and leading technologies. We are reshaping the company and this will accelerate once the transaction is done.

“So, with a BG combination, we grow to simplify.

LNG Plans

Simon P. Henry discussed the company’s LNG business in detail:

“The global LNG market is strong, it is broad, and it is growing. The demand has risen by around 8 percentage points per annum, since 2000, over 15 years, to the current level of some 240 million tons per annum. And we expect that growth to continue to around 460 million tons per annum by 2030, that’s equivalent effective rate to 5% per annum going forward, assuming that we can find sufficient supply as an industry.

Shell Management Day - LNG Plans

“In recent years, both the LNG demand, and supply of substantially diversified, were are currently 30 importing countries, and 20 exporting countries, and this is expected to grow to as many as 50 countries and 25 countries respectively, by early next decade. Now those are the long-term trends. In the shorter-term, it is important to remember that demand is always going to be broadly the same as supply. There has been very little supply growth in the last five years. That is such a change right now with more than a 100 million tons per annum of new LNG supplies coming on stream through to the end of the decade.

“Now most of this gas coming from Australia and North America primarily, has largely already been contracted out. However, such rapid growth may well lead to weaker spot [indiscernible] prices, and I think the industry is expecting that. For us, we’ve contracted out almost all of the LNG that we have on stream and that which we have under construction. I am more investing to develop new LNG demand through update contracts and new regasification projects. We’re in advanced discussions from new market access positions in China, in the Philippines and in India. And we are exploring operations in Myanmar, in Vietnam, in South Africa and Brazil amongst others.

“Now 85% to 90% of our LNG is sold on longer-term contract, somewhere between 2 years and 20 years. It’s typically linked to ore prices or gas hub prices. Between 10% and 15% of our LNG today is sold on a short-term basis also known as spot sales but please do remember these are not deep-water liquid market, so as you see in oil or other commodities, in fact it’s not that deep-water liquid in oil but that’s a different story. So really in LNG, spot means LNG that’s ordered for the next quarter.

“The LNG buyers typically look for security of supply; LNG producers generally need an off-take contract to finance new LNG projects given the scale of investment. Now that all changes in the supply mix. For example the new Australia or American volumes, but the fundamentals of this market, supply-demand they look as robust now as they did in the past, as we built the scale of business we have today.

“So existing LNG contractual terms, particularly the price format, they can be reopened and reviewed and generally that’s in cycle of three years to six years. And that doesn’t happen for all contracts. And while they do get reviewed, our experience is the outcomes are incremental adjustments to traditional terms and indexation, not dramatic shifts. They preserve the intent on the sanctity of the contract and we don’t expect that later point to change at all.

“Turning now to the profitability of the integrated gas business. In 2014, the underlying earnings for IG were $10.4 billion, that’s 470% increase, as nearly five times since 2009. That’s with the return of the capital employed average of 18%, but this year of course earnings and royalty have fallen with the low oil and LNG prices. And we’ve had a one-off it takes such as lower dividends and exchange rate effects, particularly in Australia. But integrated gas is still being some 41% of Shell’s [indiscernible] earnings and 21% of the cash flow over the last 12 months.

“So, BG is a great fit for Shell and LNG. BG’s equity LNG production including Trinidad and Tobago were already a partner. Together with Queensland in Australia of course and our own growth plans, they will add around 73% to Shell 2014 equity LNG capacity.

“Now both companies play what we call an LNG aggregator role, where we buy third party LNG often from other JV partners to trade this gas on a worldwide customer base and this is a business built on scale. Clearly, there is potential to add more value here and that’s in addition to the cost synergies from the combined shipping operations and the two trading platforms.

“Our LNG sales have grown substantially in recent years, that’s up 40% since 2010, over five years. And we see strong potential in Australia from our share in [indiscernible] BG’s Queensland’s LNG. That total should be around 44 million tons per annum of equity liquefaction capacity by 2018 and that’s the projects under construction today. That’s an increase of around 70% in the equity liquefaction capacity compared to our standalone number of 25.6 million tons at the end of last year.

“This is a snapshot of how the two portfolios would look together. Essentially it’s the funnel of project development at different stages of maturity. Now this clearly is going to be a world-class, highly competitive and profitable LNG business. So, we both have substantial capacity on stream today and growth projects and the development.

“BG has lifting rights in Sabine Pass in the United States, soon to start up and ourselves with the two greenfields in the Australia are an additional lifting right in those projects. Looking beyond the post-FID flow, there’s clear opportunity to review all the opportunities that we’re not yet investing out in the large scale. But also therefore to invest in the most structured and political – predictable growth funnel, there’s a better politics involved here clearly. And that would now allow us to enjoy the cash flows from the portfolio today but better manage the affordability and in particular and crucially the costs cycles in the new LNG projects looking forward.”

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