[an error occurred while processing this directive]
BBC News
watch One-Minute World News
Last Updated: Thursday, 5 February, 2004, 11:27 GMT
Can we still be sure of Shell?

Analysis
By James Arnold
BBC News Online business reporter

Shell drilling platform
Shell's caution has cost it the support of investors

Some people would look at a half-drunk beer and call it half-full; for others, it would seem half-empty.

Shell's shareholders, it seems, are firmly in the latter camp.

On Wednesday, the oil firm unveiled what to most people looked like healthy results - net profits up 27% to $11.7bn, progress on cost-cutting and so on - and its miserable shares still fell.

Even Philip Watts, Shell's famously taciturn and defensive chairman, concedes it may have an image problem: "I know that there is significant concern and, in some quarters, outrage," he admitted three weeks ago, after revealing that the firm had overestimated its reserve base by one-fifth.

Category killers

And it is that overstatement that lies at the root of this week's disappointment.

Shell's fundamental performance, as measured in these latest results, only starts to look less than stellar when set against its slightly sharper rivals, BP and ExxonMobil.

Restating reserve levels, too, is nothing especially unusual, and in practice simply means moving oil - which certainly exists in the ground - from one accounting category to another, more speculative one.

But it was the size of the restatement, and the casual brutality of its announcement, that took investors' breath away.

Drying up

The news was doubly worrying.

Oil reserves
First, investors fretted that the company, which prides itself on probity and fair dealing, could have been effectively fiddling its books.

And second, it showed that Shell was falling behind its rivals in a key operating measure, the reserves replacement ratio, which shows how much new oil and gas a firm is discovering compared with the amount it is pumping out.

At the top of the heap is BP, which replaces 175% of the oil it pumps; Shell's ratio, by contrast, was just 98% in 2003, and may well have been far lower still over the past few years.

Double trouble

Shell insists that its replacement ratio will pick up, after some heavy investments in oilfield technology.

But the furore has nonetheless sparked calls for reform.

The key issue here is Shell's peculiar corporate structure, with control split 60:40 between Royal Dutch, based in the Hague, and London-based Shell Transport & Trading.

The two firms, which have been entwined since 1907, are still surprisingly separate.

Although there is a unified management board, most other functions are split between the Netherlands and UK, and day-to-day decision-making is snarled up in endless committees.

Financing, too, is tricky: the two constituent firms are separately listed, and issue their own debt - something that can pose a problem during acquisitions.

Worse, say shareholders, it pushes their interests to the back of a long queue, and makes the combined firm unusually opaque.

We like it this way

These grumbles have been around almost as long as Shell itself.

Philip Watts (right)
Mr Watts should do more listening, shareholders say
But the restatement issue looks likely to bring them to a head. Although there seems little that the malcontents can do to force change in Shell's structure, there is a push somehow to give shareholders more say in company strategy.

Shell, meanwhile, stoutly defends its position, arguing that the strategic time-horizon in the oil business can be 50 years and more.

The excitable demands of minority shareholders, Shell feels, run counter to the methodical approach oil companies bring to their decision-making; what appears sluggishly bureaucratic to outsiders is, in fact, prudence.

Numbers game

They may have a point, except that BP, for one, has been able successfully to reconcile long-term thinking with the short-term demands of the market.

Oil company shares

But there is another area where reform is more urgently demanded.

The restatement of Shell's oil reserves was the result of arcane rules drawn up by the Securities and Exchange Commission (SEC), the US stock market regulator.

In an effort to create transparency in a murky market, the SEC insists that oil firms can only book reserves when commercially viable oil is flowing; until then, fields must be categorised as "provable".

This can make a huge difference to a firm's portfolio. ExxonMobil, the biggest US oil firm, has 22bn barrels of proved reserves, but another 50bn barrels in the more speculative category.

Reservation on reserves

This system has crucial problems.

Seismic imaging technology, companies say, makes its perfectly easy to prove the existence of oil without having expensively to start drilling it.

It is only in the US that these rules apply, something that leaves whopping inconsistencies in companies' international reporting.

And the rule on economic viability means that oil can be erased from a company's books when global price changes make a particular field no longer profitable.

As a result, almost all analysts look at a company's total reserves, proved and provable, rather than the increasingly otiose SEC rule.

Half-full

So where does this leave Shell?

Probably not in such bad shape.

If the SEC, as many expect, takes a more liberal view of oil companies in its next guidance, Shell's reserves problem will be eliminated overnight.

Its image problem, too, could be helped when Mr Watts retires next year: the company's closed-mouthed reputation largely stems from his own prickly personality, rather than any broader failing.

After the reserves debacle, Shell's next boss will almost certainly have investor relations at the top of his or her agenda.

And although investors may not be able to force Shell to model itself on stylish BP, they can comfort themselves with the potential value in the company's shares - they trade at a 20%-plus discount to its peers, without any particularly tangible reason.

The glass may be half-full after all.


RELATED INTERNET LINKS:
The BBC is not responsible for the content of external internet sites


PRODUCTS AND SERVICES

News Front Page | Africa | Americas | Asia-Pacific | Europe | Middle East | South Asia
UK | Business | Entertainment | Science/Nature | Technology | Health
Have Your Say | In Pictures | Week at a Glance | Country Profiles | In Depth | Programmes
Americas Africa Europe Middle East South Asia Asia Pacific