The Times: How Shell blew a hole in a 100-year reputationBy Carl Mortished, International Business Editor January 10, 2004
IN the space of a few minutes on a dull January morning, one of Britain’s biggest and most respected companies ruined a reputation that had been built up over a century.
Shell was at pains yesterday to insist that the removal of 3.9 billion barrels of oil and gas from its balance sheet would not have significant financial consequences. The oil and gas would be reinstated in due course as “proven reserves”, the oil company said.
But it was the implications for Shell’s reputation, not its cashflow, that were of concern to analysts yesterday. By erasing 20 per cent of the oil and gas that was deemed to be of commercial worth, and therefore “proven”, from its books, Shell has done more than create a temporary hole in its balance sheet.
A key decision to book reserves from Gorgon, a giant Australian gasfield, without having secured a buyer for the gas, is being seen as rash and over-optimistic. As much as one billion of the barrels were “lost” in Nigeria, a massive reduction in reserves at one of Shell’s core and long-established oil operations.
Serious questions about the company’s hard-won reputation for conservative financial management are being raised. Shell insisted yesterday that it had “letters of intent” from buyers of the Gorgon gas, but industry analysts rejected the justification. “Everyone has letters of intent; it just means they are willing to discuss terms,” said one.
Of equal concern to investors is the implication that Shell has been unable fully to replace the oil and gas it produces over the past five years.
According to analysts at Wood Mackenzie, Shell’s ratio of reserve replacement was 111 per cent for the period from 1997 to 2002. In other words, Shell had been able to add 1.1 barrels to its bottom drawer for each one taken out and sold over that period, ensuring that the company had the resources to grow.
Those resources must now be in some doubt. By removing a fifth of the barrels, Shell’s reserve replacement ratio shrinks to 63 per cent, says Wood Mackenzie. “They are finding less than two thirds of what they produce,” said Derek Butter, an analyst with the Edinburgh oil consultancy.
And each barrel is becoming more expensive. Because fewer barrels reached the status of proven reserves, Shell’s average cost of finding and producing a barrel of oil has soared from previous estimates of $4.27 per barrel to $7.90.
These will be important concerns for investors seeking evidence that Shell can raise its game at a time when all major oil companies are struggling to increase oil output. Like many of its peers, the company is overflowing with cash generated from past investments and a high oil price, but Shell is suffering from cuts made in its upstream business three years ago and the company has already warned that production will not increase in the next couple of years.
In Nigeria, where the company has deleted more than one billion barrels in reserves, Shell may have come up against Opec restraints. No one doubts the existence of massive oil deposits in the Niger Delta, but Shell has to comply with Nigeria’s Opec quota and the company should not have booked reserves of oil that Nigeria was unable to export.
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