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EC221

Assignment 3

Individual Report

Royal Dutch Shell

Tutor: …………..

Course code: EC221

Student: ………….

Student No. ……….

Seminar group: …..

Word count: 1821

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Table of Contents

Introduction ............................................................................................................................................ 3

Finance Analysis ...................................................................................................................................... 3

Profitability ratios ............................................................................................................................... 3

ROCE ................................................................................................................................................ 3

Net Profit Margin ............................................................................................................................ 4

Efficiency ratios ................................................................................................................................... 4

Receivable Turnover ....................................................................................................................... 4

Payable Turnover ............................................................................................................................ 5

Gearing/ Financial Risk ratios .............................................................................................................. 6

Gearing ratios .................................................................................................................................. 6

Cash Interest Cover ......................................................................................................................... 7

Liquidity ratios .................................................................................................................................... 7

Current Ratio ................................................................................................................................... 7

Operating Cash Flow to Current Liabilities ..................................................................................... 8

Investor Ratios .................................................................................................................................... 9

Dividend per share .......................................................................................................................... 9

Dividend Cover .............................................................................................................................. 10

Conclusion ............................................................................................................................................. 11

References ............................................................................................................................................ 12

Appendices ............................................................................................................................................ 14

Appendix 1 ........................................................................................................................................ 14

Appendix 2 ........................................................................................................................................ 23

Appendix 3 ........................................................................................................................................ 26

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Introduction In this report I will examine the performance of one of the top oil and gas producers; Royal

Dutch Shell PLC. The selected ratios will be calculated (see app. 2) and compared with other

leaders in this industry, such as Exxon Mobil, British Petroleum (BP), Chevron Corp. and

Sinopec. This will provide an understanding of the company’s profitability, financial risk,

earnings and their cash flows over past 5 years using company’s financial statements (see

app.1). By comparing Royal Dutch Shell with other industry (see app.3) leaders the report

hopes to provide a balanced and transparent overview of the aforementioned ratios. This ratio

analysis and benchmarking will give us an informed insight into whether or not to acquire the

Royal Dutch Shell as a profitable and reliable investment in the future.

Finance Analysis

Profitability ratios ‘Profitability ratios indicate how successful the managers of a company have been in

generating profit’ (Watson and Head, p.48, 2010). Here we will be looking at Royal Dutch

Shell Return on Capital Employed (ROCE) and Net Profit Margin known also as Operating

Profit Margin ratios (calculations can be seen in app.2) over past 5 years.

ROCE is easy to calculate and interpreted as results are in percent. Therefore it is easy to

compare with different companies. This ratio looks at the company’s overall profitability.

Royal Dutch Shell has had a healthy increase in ROCE; from 15.9% in 2010 to a peak of

22.9% over the 5 year period, as shown in the above graph in 2011. This sharp increase could

be due to company’s strong performances and their share price increase. Industry average in

this time scale is also following the lead of growth ROCE between 2010 and 2011.

Starting from 2011 onwards there is a decrease in ROCE. This is due to generally weaker oil

prices.

0

5

10

15

20

25

2010 2011 2012 2013 2014

Return on Capital Employed (ROCE) %

Royal Dutch Shell Industry Average

4

‘Royal Dutch Shell Plc, Europe’s biggest oil company, reported a larger decline than expected

in second-quarter earnings as crude prices dropped and maintenance work on fields held back

production’ (Gismatullin and Lacqua , 2012).

The oil industries average decrease is more even than that reported by Shell. Shell’s ROCE is

steadily above industries average, only in 2013 it fell under industries average by 12.7%,

where the overall industry average was 13.76%.

Net Profit Margin is shown as percentage. This ratio measures how much the company earns

per each dollar spent.

In 2010 Shell had an income of 9.6 cents per every dollar they spent, where industry average

earned 7.74 cents per every dollar spent. Shell reached a peak high in 2011 with 11.8 percent

with the industry average just 1.52% below that.

‘Shell also said it had sold $4bn of non-core assets in the first six months of the year, which

was a "key driver" to reducing costs and improving its operating performance’ (bbc.co.uk,

2011).

Efficiency ratios

Receivable Turnover

Receivable turnover ratio monitors how well the company deals with their receivables.

‘The lower the amount of uncollected monies from its operations, the higher this ratio will be.

In contrast, if a company has more of its revenues awaiting receipt, the lower the ratio will be’

(financeformulas.net, 2012).

This ratio is also known as debtor’s turnover ratio. This looks at companies’ ability to issue

credit and collect the debt in sensible time.

0

2

4

6

8

10

12

14

2010 2011 2012 2013 2014

Net Profit Margin (Operating Profit Margin) %

Royal Dutch Shell Industries Average

5

Receivable Turnover (days)

Royal Dutch Shell Industry Average

2010 986 216

2011 14 20

2012 11 19

2013 13 20

2014 18 21

In 2010 Shell had a record high account receivable turnover, collecting payment from

customers every 986 days. However, this data seems unrealistic; with the average payment

schedules usually amounting to between 19 and 21 payments annually. One could argue this

anomaly a possible mistake in the account receivable data (see app. 1).

‘A very high accounts receivable turnover number can indicate an excessively restrictive credit

policy, where the credit manager is only allowing credit sales to the most credit-worthy

customers, and letting competitors with looser credit policies take away other sales’

(accountingtools.com, 2016).

Due to this high number of receivables, industry average was significantly influenced. For

the following 4 years there is a more reasonable time for accounting receivable turnover

which is between 11 and 18 days. Where industries average are between 19 and 21 day.

Payable Turnover

‘The accounts payable turnover ratio indicates how many times a company pays off its

suppliers during an accounting period’ (thestrategiccfo.com, 2015).

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According to the payable turnover Shell pays their payables only twice a year; in 2010, 2011

and 2013. In 2012 Shell received payables only once a year. In 2014 they made their

payments 4 times in a year. Where industry averages pays their payables as many as 26 times

a year.

Gearing/ Financial Risk ratios Gearing ratios look at debt and equity proportions in the company. Financial leverage or

capital structure looks at the mix and utilization of equity and debt capital. Royal Dutch Shell

adapt the traditional capital structure approach. This particular approach lends faith to an

optimal capital structure. ‘This approach very clearly implies that the cost of capital decreases

within the reasonable limit of debt and then increases with average’ (Chand, 2015).

Shell keeps their gearing ratio under 50% which helps them to reduce capital costs. Their

highest gearing appeared in 2010 with 29.5%. In 2010 the Shell may have needed to use more

debt financing due to high investments in explorations, plants etc. Industry average highest

gearing usage was in 2014 with 27.13%.

The company main objective should be shareholder wealth maximisation. They then should

keep the costs down to increase the revenues, which all 5 companies are doing by keeping

gearing under the 50% mark.

7

Cash Interest Cover shows how much cash is available to meet interest payments.

Interest Cover (times)

Royal Dutch Shell Industry Average

2010 1,676 362.88

2011 1,571.3 358.34

2012 330 100.03

2013 18.2 743.48

2014 2,437.6 513.56

Shell have a very high coverage for cash interest cover compared to industries average. This

could mean that they have a high number of cash unused sitting in the bank, which could be

reinvested back into the company or payed out as a dividends. Royal Dutch Shell and Exxon

Mobil should consider their opportunity costs related to this cash. The rest of industries taken

into account for this average have a reasonable amount of interest cover, using the available

money for better use.

Liquidity ratios Current Ratio measures the ability to pay its debt over the 12 month period. This ratio shows

how much protection they have over each $1 borrowed.

The Current Ratio shows that the debt level of Royal Dutch Shell is balanced and desirable

for investors. The above graph shows that Shell PLC has between1.1:1 and 1.2:1 ratios for

debt cover. This protection stays steady over the 5 year period, even though the company’s

revenue changes over these years, the debt is protected. However, as these ratios are based on

the balance sheet in the financial statement this data can be manipulated for the company’s

personal gain.

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Operating Cash Flow to Current Liabilities

‘Current liabilities are paid with cash so this ratio allows us to tell if a business is generating

enough cash from operations to meet these liabilities’ (accofina.com, 2013). If the operating

cash flow to current liabilities ratio is under 1 it means that they do not have generated cash

to pay off short term liabilities. It is interesting that both Shell and the industry average do not

have enough cash over this 5 year period, especially as all these 5 oil and gas companies are

considered as leaders in their field of business. This cash could have been re-invested back

into the company or have been tied up somewhere else. The above graph shows that

industries and Royal Dutch Shells cash flows are improving gradually over the years and

becoming healthier.

9

Investor Ratios Dividend per share is the total dividend paid for the share over the year, it can be made as one

or two payments. The above graph shows that dividends for Royal Dutch Shells shareholders

have been growing slowly but with a steady pace. Royal Dutch Shells dividend policy is to;

‘grow the US dollar dividend in line with our view of the underlying earnings and cash flow

of Shell’ (Shell.com, 2016).

Even though Shells revenue has decreased in 2012, 2013 and 2014 their dividend per share

has had a steady increase to keep their shareholders pleased. Stable dividend policy is

favourable in the shareholder view as they know their dividend is going to increase every

year.

Industry average also has a steady increase in dividend payments over these 5 years. Steady

growth in dividend payments send a positive signal to their existing and potential

shareholders.

In 2011 Shell had a massive increase in revenue but they decided not to increase dividends

and kept them the same as in 2011. ‘In 2010, the company spent some 1.02 billion U.S.

dollars on R&D’ (statista.com, 2016).

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Dividend Cover

Dividend Cover shows how many times the company can cover dividend payments. Dividend

cover of less than 1.5 is viewed as a threat to shareholders as this may impact their dividend

payments significantly. More than 2 times is viewed as strong.

Industry average is steadily above 2 in all 5 years consecutively, which is a good signal for

potential investors. Royal Dutch Shell have had ups and downs on their dividend coverage

but still they kept a steady increase on their dividend payments each year. Industry average

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also has a steady and very strong dividend cover, even though with each year the coverage

declines. ‘Investors use dividend cover ratio to gauge the level of risk associated with the

receipt of dividends on their investment’ (accounting-simplified.com, 2013). As the Royal

Dutch Shell’s dividend cover is under 1.50 for 2013 and 2014 this may suggest that the

company will not be able to cover dividend payment in the case of profitability falling in the

future and this may affect share valuation.

Conclusion In summary by looking at Royal Dutch Shell PLC’s annual report and financial statements

for the previous 5 year period from 2014 - 2010 we were able to draw conclusions concerning

profitability, financial risk, efficiency, liquidity and investment, and comparing them with

industry averages including; Sinopec, Exxon Mobil, British Petroleum and Chevron

Corporation.

Given the information examined, I would not give the recommendation to acquire the Royal

Dutch Shell. Even though it is the largest oil and gas company in Europe, with healthy

revenues and steady dividend payment increases, all the major ratios examined in the report

showed a steady decrease beginning at 2011 onwards. This may be due to the Middle East

financial crisis which led to a massive oil price drop per barrel and the current drive for

sustainable energy. I would advise to further analyse the most recent financial statements of

Royal Dutch Shell, as the significant research and development investment of the company

could lead to alternative energy sources in the future.

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References 1. Royal Dutch Shell (2015) Annual Report 2014, [Online]. Available at:

reports.shell.com/annual-report/2014/consolidated-financial-statements.php Royal

Dutch financial statements 2014 [accessed 15 March 2016]

2. Royal Dutch Shell (2014) Annual Report 2013, [Online]. Available at:

reports.shell.com/annual-report/2013/servicepages/welcome.php shell annual report

2013 [accessed 15 March 2016]

3. Royal Dutch Shell (2013) Annual Report 2012, [Online]. Available at:

reports.shell.com/annual-report/2012/servicepages/about_disclaimer.php shell annual

report 2012 [accessed 15 March 2016]

4. Royal Dutch Shell (2012) Annual Report 2011, [Online]. Available at:

reports.shell.com/annual-

report/2011/servicepages/downloads/files/entire_shell_20f_11.pdf shell annual report

2011 [accessed 15 March 2016]

5. Royal Dutch Shell (2011) Annual Report 2010, [Online]. Available at:

reports.shell.com/annual-

report/2010/servicepages/downloads/files/all_shell_20f_10.pdf shell annual report

2010 [accessed 15 March 2016]

6. Watson, D. and Head, A. (2010) Corporate Finance Principles & Practice, 4th edition.

Harlow: Pearson

7. Myaccountingcourse.com (2015) Efficiency Ratio, [Online]. Available at:

http://www.myaccountingcourse.com/financial-ratios/efficiency-ratios [accessed 10

May 2016]

8. Chand, S. (2015) Theories of Capital Structure | Financial Management, [Online].

Available at: http://www.yourarticlelibrary.com/financial-management/theories-of-

capital-structure-explained-with-examples-financial-management/29398/ [accessed 10

May 2016]

9. Gismatullin, E. and Lacqua, F. (2012) Shell Profit Falls More Than Expected as Oil

Prices Drop, [Online]. Available at: http://www.bloomberg.com/news/articles/2012-

07-26/shell-profit-drops-with-oil-as-maintenance-limits-production [accessed 11 May

2016]

10. BBC.co.uk (2011) Shell profits jump 77% on higher oil prices, [Online]. Available at:

http://www.bbc.co.uk/news/business-14321819 [accessed 12 May 2016]

11. Accountingtools.com (2016) Accounts Receivable Turnover Ratio, [Online].

Available at: http://www.accountingtools.com/accounts-receivable-turnover [accessed

12 May 2016]

12. Financeformulas.net (2012) Receivables Turnover Ratio, [Online]. Available at:

http://www.financeformulas.net/Receivables-Turnover-Ratio.html [accessed 12 May

2016]

13. The Strategic CFO (2015) Accounts Payable Turnover Analysis, [Online]. Available

at: http://strategiccfo.com/accounts-payable-turnover-analysis/ [accessed 12 May

2016]

14. Accofina.com (2013) Operating Cash Flow to Current Liabilities, [Online]. Available

at: http://accofina.com/calculators/liquidity-ratios/operating-cash-flow-to-current-

liabilities.html [accessed 12 May 2016]

13

15. Shell.com (2016) Dividend Policy, [Online]. Available at:

http://www.shell.com/investors/dividend-information/dividend-policy.html [accessed

12 May 2016]

16. Statista.com (2016) Royal Dutch Shell's expenditure on research and development

from 2010 to 2015 (in million U.S. dollars), [Online]. Available at:

http://www.statista.com/statistics/260315/spending-on-research-and-development-by-

royal-dutch-shell/ [accessed 13 May 2016]

17. Accounting-simplified.com (2013) Dividend Coverage Ratio, [Online]. Available at:

http://accounting-simplified.com/financial/ratio-analysis/dividend-coverage.html

[accessed 13 May 2016]

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Appendices

Appendix 1

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16

17

18

19

20

21

22

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Appendix 2

Profitability Ratios:

Net Profit Margin (Operating Profit Margin) = Net Profit BIT (Operating Profit)/ Sales x 100

2010 = 35,344 / 368,056 x 100 = 9.6%

2011 = 55,543 / 470,171 x 100 = 11.8%

2012 = 50,512 / 467,153 x 100 = 10.8%

2013 = 33,592 / 451,235 x 100 = 7.4%

2014 = 28,314 / 421,105 x 100 = 6.7%

Return on Capital Employed (ROCE) = Net Profit BIT (Operating Profit) / (Shareholders

funds+ Non-Current Liabilities (Capital Employed)) x 100

2010 = 35,344 / (149,780 + 72,228) x 100 = 15.9%

2011 = 55,543 / (171,003 + 71,595) x 100 = 22.9%

2012 = 50,512 / (189,927 + 73,419) x100 = 19.2%

2013 = 33,592 / (181,148 + 83,106) x 100 = 12.7%

2014 = 28,314 / (172,786 + 94,118) x 100 = 10.6%

Efficiency Ratios:

Receivable Turnover = Account Receivables/Sales x 365 (Days)

2010 = 1 / 368,056 x 365 = 985.5 = 986 days

2011 = 17,433 / 470,171 x 365 = 13.5 = 14 days

2012 = 12,902 / 467,153 x 365 = 10.08 = 11 days

2013 = 15,032 / 451,235 x 365 = 12.2 = 13 days

2014 = 20,652 / 421,105 x 365 = 17.9 = 18 days

Payable Turnover = Account Payables/Cost of Sales (Purchases + production and

manufacturing costs) x 365 (Days)

2010 = 927 / 307,634 x 365 = 1.10 = 2 days

2011 = 1,110 / 396,502 x 365 = 1.02 = 2 days

2012 = 1,015 / 396005 x 365 = 0.94 = 1 day

2013 = 1,647 / 381,585 x 365 = 1.58 = 2 days

2014 = 3,116 / 357,316 x 365 = 3.18 = 4 days

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Gearing Ratios:

Gearing Ratio = Total debt/Equity x 100

2010 = 35,344 / (149,780 + 72,228) x 100 = 15.9 %

2011 = 55,543 / (171,003 + 71,595) x 100 = 22.9%

2012 = 50,512 / (189,927 + 73,419) x 100 = 19.2%

2013 = 33,592 / (181,148 + 83,106) x 100 = 12.7%

2014 = 28,314 / (172,786 + 94,118) x 100 = 10.6%

Cash Interest Cover = (Cash flow generated from operations + dividends received + interest

received)/Interest

2010 = (14,127 + 14,345 + 20) / 14 = 1,676

2011 = (13,195 + 13,438 + 79) / 17 = 1,571.3

2012 = (4,086 + 3,807 + 26) / 24 = 330

2013 = (16,526 + 7,117 +175) / 1,307 = 18.2

2014 = (16,079 +18,031 + 7) / 14 = 2,437.6

Liquidity Ratios:

Current Ratio = Current Assets/Current Liabilities

2010 = 112,894 / 100,552 = 1.1

2011 = 119,777 / 102,659 = 1.2

2012 = 114,734 / 96,979 = 1.2

2013 = 103,343 / 93,258 = 1.1

2014 = 99,778 / 86,212 = 1.2

Operating Cash Flow to Current Liabilities = Net cash flow from operating activities/Current

Liabilities

2010 = 27,350 / 100, 552 = 0.27

2011 = 36,771 / 102,659 = 0.36

2012 = 46,140 / 96,979 = 0.48

2013 = 40,440 / 93,258 = 0.43

2014 = 45,044 / 86,212 = 0.52

25

Investor Ratios:

Dividend per share= Total dividends paid/No. of ordinary shares

2010 = 1.68

2011 = 1.68

2012 = 1.72

2013 = 1.80

2014 = 1.88

Dividend cover = EPS/Dividends per share

2010 = 3.28 / 1.68 = 1.95

2011 = 4.97 / 1.68 = 2.96

2012 = 4.27 / 1.72 = 2.48

2013 =2.60 / 1.80 = 1.44

2014 = 2.36 / 1.88 = 1.26

2010 2011 2012 2013 2014

Net Profit Margin (Operating Profit Margin)

9.6 11.8 10.8 7.4 6.7

ROCE 15.9 22.9 19.2 12.7 10.6

Receivable Turnover 986 14 11 13 18

Payable Turnover 2 2 1 2 4

Gearing Ratio

Interest Cover 1,676 1,571.3 330 18.2 2,437.6

Current Ratio

Operating Cash Flow to Current liabilities

0.27 0.36 0.48 0.43 0.52

Dividends per share 1.68 1.68 1.72 1.80 1.88

Dividend Cover 1.95 2.96 2.48 1.44 1.26

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Appendix 3

Net Profit

Margin (%)

Chevron

Corp. Sinopec

Royal

Dutch Shell

Exxon

Mobil BP

Industry

Average

2010 16.48 5.34 9.6 8.52 -1.25 7.74

2011 19.82 4.1 11.8 8.82 6.84 10.28

2012 20.66 3.23 10.8 10.1 3.08 9.57

2013 16.9 3.37 7.4 7.8 6.19 8.33

2014 16.1 2.35 6.7 8.4 1.07 6.92

Return on

Capital

employed (%)

2010 20.99 15.49 15.9 21.7 -1.97 14.42

2011 27.55 14.66 22.9 24.2 12.51 20.36

2012 23.97 11.96 19.2 25.4 5.2 17.15

2013 16.86 11.96 12.7 17.2 10.07 13.76

2014 13.83 7.85 10.6 16.2 1.17 9.93

Gearing Ratio

(%)

2010 10.85 34.03 29.6 9.83 48 26.46

2011 8.31 36.49 23.2 10.6 40 23.72

2012 8.85 36.05 21.4 6.75 41 22.81

2013 13.58 34.91 24.6 12.58 37 24.53

2014 17.81 28.34 26.4 16.08 47 27.13

Interest Cover

(times)

2010 4.48 15.16 1676 121.86 -3.12 362.88

2011 6.06 14.88 1571.3 167.27 32.17 358.34

2012 3.64 9.85 330 138.95 17.72 100.03

2013 2.83 11.65 18.2 3655.44 29.3 743.48

2014 2.78 6.79 2437.6 115.33 5.31 513.56

Current ratio

2010 1.68 0.77 1.1 0.94 1.17 1.13

2011 1.58 0.76 1.2 0.94 1.16 1.13

2012 1.63 0.7 1.2 1.01 1.43 1.19

2013 1.52 0.65 1.1 0.83 1.33 1.09

2014 1.32 0.6 1.2 0.82 1.37 1.06

Operating Cash

Flow to Current

Liabilities

2010 0.08 0.53 0.27 0.77 0.24 0.38

2011 1.22 0.35 0.36 0.71 0.17 0.56

2012 1.13 0.29 0.48 0.88 0.26 0.61

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2013 1.06 0.27 0.43 0.63 0.32 0.54

2014 0.99 0.25 0.52 0.7 0.47 0.59

Receivables

Turnover (days)

2010 38 8 986 32 12 216

2011 33 9 14 31 13 20

2012 32 11 11 29 14 19

2013 36 9 13 29 13 20

2014 30 12 18 26 18 21

Payables

Turnover (days)

2010 41 25 2 56 10 27

2011 39 26 2 51 10 26

2012 43 28 1 46 11 26

2013 43 26 2 47 11 26

2014 38 26 4 43 13 25

Dividends per

Share

2010 2.85 0.19 1.68 1.74 0.84 1.46

2011 3.72 0.22 1.68 1.85 1.68 1.83

2012 3.51 0.29 1.72 2.18 1.98 1.94

2013 3.9 0.24 1.80 2.46 2.14 2.11

2014 4.21 0.24 1.88 2.7 2.34 2.27

Dividend Cover

2010 3.34 4.29 1.26 3.58 -1.41 2.21

2011 3.64 3.76 1.44 4.55 4.7 3.62

2012 3.82 2.52 2.48 4.45 1.7 2.99

2013 2.87 2.41 2.96 3 3.37 2.92

2014 2.43 1.69 1.95 2.81 0.82 1.94