Royal Dutch Shell Cheapest in a Year: Should You Buy Now?

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Shares of Royal Dutch Shell plcRDS.A hit a 52-week low of $46.63 on Thursday, Sep 24. For more than a year, Europe's largest energy producer has seen its stock price decline precipitously, as the commodity downturn has taken a toll on the entire industry. Since July last year, shares of Shell have dived around 45% - a significant fall considering its status as a 'traditionally defensive stock'.

What Ails Shell?

Similar to other companies exploring for and producing oil and gas, the results of Shell's upstream division are directly exposed to commodity prices. Consequently, with oil price collapsing to its lowest level in six and a half years and natural gas unable to break the $3 barrier, the second-largest oil company by market value after Exxon Mobil Corp. XOM has seen its revenues, earnings and cash flows hit hard.

However, it must be glad it did not let go of its refineries when many others did. The group has been benefitting from strong downstream performance. But even that has been not enough to counter the faltering sales of its exploration and production business.

In order to survive the cataclysmic energy-price scenario, the integrated major - long considered a safe harbor with a strong balance sheet and substantial dividend - is being forced to offload assets.

Shell is expected to make some of the biggest announcements, as it tries to create a leaner structure following the $70 billion acquisition of BG Group. In fact, The Hague-based group will look to liquidate $30 billion worth of assets once the megadeal is finalized. So far in 2015, Shell has sold properties of around $2 billion, mostly in troubled Nigeria. Its part of the company's efforts to strengthen its financial position and earn considerable cash flow for the shareholders in the years to come. Toward this goal, Shell has also announced plans to cut 6,500 jobs (or 7% of its global workforce).

As it is, Shell is suffering from marginal or falling returns, reflecting its struggle to replace reserves, as access to new energy resources becomes more difficult. Given the large base, achieving growth in oil and natural gas production has anyways been a challenge for the company over the last many years.

If that was not enough, it has been left bleeding by skyrocketing capital expenses. Shell has pegged its 2015 capital budget at around $30 billion. But it continues to struggle to grow production despite spending billions in capital expenditures. Last year, the Anglo-Dutch powerhouse said its total volume of crude oil and natural gas averaged 3,080 thousand oil-equivalent barrels per day (MBOE/d), down 4% from 2013.

Therefore, the energy company's huge exploration and drilling expenditure has failed to augment output. With fewer oil and gas to sell, the firm is not being able to generate enough cash from operations to take care of its rising spending and shareholder payouts. This has forced the likes of Shell to take more debt in the face of slipping cash balance.

Add to this the slump in oil prices , and it does raise some questions regarding the group's ability to finance shareholder returns. Notwithstanding the fact that Shell has maintained its dividend at $3.76 per ADS, there is no doubt that its balance sheet is under pressure from spiraling capital spending and shareholder distributions.

Bottom Line

Now that Royal Dutch Shell - which was joined by Petrobras PBR and Kinder Morgan Inc. KMI in making new 52-week lows Thursday - is hitting its lowest mark in a year, is it time to buy its shares?

As of now, the answer is no.

With Shell's performance this year and next likely to be restricted by the slow oil price recovery, the group's eroding profits and price realizations are set to continue for some time. That's the reason we are predicting a 43% drop in Shell's EPS this year.

Moreover, uncertainty exists regarding Shell's proposed BG acquisition, especially after Australia's consumer watchdog delayed granting approval on the deal on grounds of competition concerns. On the other hand, if the transaction goes through, the group's debt will rise considerably, together with a reduction in liquidity.

Therefore, we would advise investors to wait for a better entry point before accumulating shares. Our Zacks Rank #3 (Hold) seems to suggest the same.

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ROYAL DTCH SH-A (RDS.A): Free Stock Analysis Report

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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