Shell – when size becomes a problem

Shell – when size becomes a problem

October 31, 2013 7:03 pmby Nick Butler

It seems bizarre to say that a company which will generate cash this year of between $40bn and $45bn has a fundamental structural problem. But the latest results from Royal Dutch Shell show just how weak the correlation between size and performance has proved to be. Capital expenditure is so high that even cash at that level may be insufficient to cover spending and dividends. The company looks lost – a lumbering dinosaur in a world where the prizes go to the quick and nimble. I know that is unfair to Shell’s excellent people and world-class technical skills. But to release the potential the Anglo-Dutch company needs to be broken up, allowing entrepreneurial talent to operate free from the cloying bureaucracy created decades ago to save the energy group from dangerously over powerful chief executives. Shell is a commercial enterprise not a nation state. The sooner it is run as such the better for all concerned, including the staff and the long suffering shareholders.At the heart of what has happened is the problem of size. Shell is too big to fail, or to be taken over or even threatened by activist shareholders. That leaves the company free to disappoint. Over the past decade Shell’s performance on every reasonable measure of shareholder value is poor. Money is wasted, as in North America over the past five years. The problem is not as dramatic and visual as BP’s difficulties in the Gulf of Mexico but the effect of the waste is cumulative and reflective of a culture in which money does not matter. There is something wrong with a company that can throw away $6bn of shareholder funds in exploring the Arctic – with nothing to show for it.

The most creative step now would be the adoption of a new business model in which each of the key units in Shell is run as a separate entity with a significant minority shareholding. That would impose some financial discipline. It would also expose the value hidden within what has become a huge conglomerate and incentivise the management of each unit to perform. At the moment the incentive is simply to grow.

There are many elements to this but one obvious starting point would be the upstream business. There is a strong case for selling mature or marginal assets which in a big company can be overwhelmed by heavy corporate overheads. But lots of companies, including BP, are selling assets and it would be easy to flood a limited market. Shell should set a new trend by breaking out some of its upstream assets into new standalone entities. The company could retain a majority stake for a while if necessary but the pieces would essentially be independent companies operating on their own terms.

This would achieve many objectives not the least of which would be the development of talent. Large companies contain within their ranks huge numbers of very able people. Not everyone can become chief executive. By breaking up the portfolio Shell could create a dozen or more new oil and gas companies and give a new generation the chance to prove themselves.

All this would, of course, alter the terms of Shell’s contest with ExxonMobil to be the largest company in the sector. Good. That competition is bad for shareholders and society as a whole. Empires never last, but in trying to last they lose their way and in the commercial world they destroy value. Shell should think radically and remember that what really matters is performance, not size.