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Dividend Hikes in Vogue: Will Shell (RDS.A) Follow the Trend?

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Oil has rebounded from multi-year lows and the energy sector is shining bright after recording impressive year-over-year earnings growth of 123.1% in the second quarter of 2018, driven by 22.7% higher revenues. Recovering commodity price and successful cost-cut strategies adopted during the slump period are aiding supermajors like Royal Dutch Shell plc (RDS.A - Free Report) in delivering stellar results. Shell currently carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Crude has been in the midst of a revival since last year, with U.S. West Texas Intermediate (WTI) seen trading in the $65-$75 range over the last few months on the back of tightening supplies, rising demand and geopolitical concerns. The improving energy landscape has massively boosted Shell’s fundamentals and share price movement.

What’s surprising though is the fact that the European oil giant has not hiked its dividend since the onset of the oil slump in 2014. With all its peers raising payouts amid improving results, the big question here is: Is a dividend hike around the corner for Shell as well?

Let’s delve deeper to analyze the overall scenario of the company.

Encouraging Second-Quarter Results

With commodity prices on their way up, Shell generated income of around $6 billion in the second quarter of 2018, up 290% from the year-ago quarter. In the first six months of 2018, the company’s income totaled $11.9 billion, reflecting 139% increase from the corresponding period of 2017.

Notably, the Integrated Gas unit reported adjusted income of $2.3 billion, almost doubling from $1.2 billion recorded in the April-June quarter of 2017. What’s more, Shell generated cash flow from operations of $9.5 billion, returning $3.9 billion to its shareholders through dividends and spending $5.8 billion on capital projects.

Courtesy of rebounding oil prices and strategic initiatives, Shell has successfully come out of the slump. The company has benefited from its integrated model, and generated enough cash for paying off debt, along with funding capex and dividend payments. Notably, it has reduced its break-even level to $47 a barrel currently, reflecting a 60% decline from $120 per barrel threshold in 2013.

Importantly, investors who had been looking for clarity on Shell’s promised share buybacks were also in for some good news, as the company announced to initiate its repurchase program. Shell plans to buyback at least $25 billion of common stock in the 2018-2020 time frame.

Shell’s Strong Dividend History and Above-Average Yield

While Shell is not a dividend aristocrat, it is definitely one of the most attractive dividend stocks in the energy sector and the second-highest dividend-yielding stock among the Big Five Oil companies. With an attractive yield of 4.82%, it is only second to BP plc (BP - Free Report) , which flaunts an impressive 5.62% yield. Notably, Shell has never resorted to dividend cut since the World War II.

Even during the crude slump, Shell did not reduce its dividend. It rather started offering scrip dividends to its shareholders, instead of full-cash dividends, to ward off cash flow problems. However, crude rally and Shell’s strategic initiatives enabled it to strengthen its financials and cash flow generation. With the company’s resilient cash generation helping it to cover cash dividend payments and interest, Shell has already aborted its two-and-a half-year long scrip dividend program from the fourth quarter of 2017.

However, something that’s worth noting here is that the company has actually kept its dividend flat since the past 18 quarters. With cash flow rolling in for the company and all its peers having hiked their dividends of late, is this strategy of keeping its dividend frozen for so long prudent for Shell?

Let’s have a look at its peers who have raised dividends amid increasing cash flow generation.

Oil Supermajors Boosting Dividends

Investors love dividends and seek high-yielding, dividend growth stocks. Oil supermajors are set for more cash generation and the top priority of most of the CEOs have seamlessly shifted from cost-containment efforts to boosting shareholder value through dividend hikes and share buybacks.

In this regard, four of the big five oil companies, namely Chevron Corp. (CVX - Free Report) , Exxon Mobil Corp. (XOM - Free Report) , TOTAL S.A. and BP, have rewarded investors with dividend hikes.

Chevron raised its quarterly dividend from $1.08 to $1.12 in January 2018, marking the 31st consecutive year to increase its annual dividend payout.

TOTAL S.A. hiked its 2018 interim dividend by 3.2% this February, also pledging to increase its payout by 10% over the next three years.  

ExxonMobil hiked its dividend by 6.5% in April 2018, raising its payout for the 36th consecutive year.

Shell’s close rival BP also increased its dividend by 2.5% in July 2018, hiking its payout for the first time since 2014.

Shell remains the only one of the big five oil companies to have kept its dividend unchanged even amid soaring income and cash flow generation. This brings us to the question whether Shell will follow the others or will it find it more practical to keep its dividend unchanged in the near term?

An Imminent Payout Hike Looks Unlikely for Shell

We don’t necessarily believe that the company requires to hike its dividend at least this year, just for the sake of pleasing the investors or following peers. The company has already announced the big buyback program of at least $25 billion, giving its shareholders a reason to cheer.

Also, even though the company has not hiked dividend, it has one of the best dividend yields and also fares well on the reliability factor, which is particularly important for dividend stocks.

In fact, it would be judicious for Shell to reinvest its cash in lucrative growth opportunities, which would result in stronger returns in the future. Particularly, while divestment strategies of the firm have definitely led to debt reduction and boosted cash flow, these have also reduced Shell’s oil and gas production.

The company’s upstream volumes averaged 2,488 thousand oil-equivalent barrels per day (MBOE/d) in the second quarter of 2018, 7% lower than the year-ago period. Using its excess cash in project ramp-ups and tapping into new opportunities in the upstream segment will aid the company in growing its output, which has been on the fall since several quarters.  

Also, even though the company’s cash flow generation has been commendable, easily covering up capex and dividends, the year-over-year figure is not very encouraging. Notably, Shell raked in free cash flow of 14.7 billion in the first half of 2018 versus 17.3 billion in the corresponding period of 2017.

Hence, a dividend hike should not be one of the top priorities for the company at the moment. Instead, it is advisable for the company to reinvest in growth opportunities, making it stronger, financially healthier and possibly a better income investment for the future.

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