Shell - Q2 2023

Transcript

Operator (participant)

Welcome to Shell's second quarter 2023 financial results announcement. Shell's CEO, Wael Sawan, and CFO, Sinead Gorman, will present the results, then host a Q&A session. If you would like to ask a question, please press star one. If you wish to be removed from the queue, please press star two. We will now begin the presentation.

Wael Sawan (CEO)

Welcome, everyone. Today, Sinead and I will be presenting our second quarter results for 2023. During Capital Markets Day, we reiterated our commitment to our Powering Progress strategy, including net-zero emissions by 2050. We also outlined our plans over the coming years to deliver more value with less emissions. I'm pleased with the progress that we are making on our journey. In the first half of this year, we delivered our second highest adjusted earnings in a decade, better than in the same period in 2014, when the average Brent oil price stood at some $110 per barrel, compared with $80 per barrel this year. We continue to help our customers cut their carbon emissions while reducing emissions from our own operations.

For instance, in the first half of this year, we removed 0.4 million tons of greenhouse gas emissions through abatement projects. This removal is equivalent to taking more than 160,000 cars off of Europe's roads for a year. Performance, discipline, and simplification continue to be our guiding principles, and in the second quarter, we demonstrated strong operational performance across our portfolio. Take Prelude, our floating LNG facility in Australia, which delivered its highest quarterly production since startup in 2018. In renewables and energy solutions, our CrossWind JV produced its first green electricity in June. This is an exciting ongoing project that, when completed, is expected to produce around 3% of the Netherlands' total demand for electricity. In the Gulf of Mexico, our turnaround operations at Appomattox, Perdido, and Olympus were safely completed ahead of schedule and below budget.

In Downstream, our improved Shell V-Power formulation, which can clean up to 100% of deposits on vital engine parts, delivered strong volume and margin growth. However, despite the strong operational performance, our financial results were impacted by lower commodity prices, planned maintenance, and the skew of our LNG portfolio towards a Northern Hemisphere winter. Our four-quarter business and financial delivery has been strong, enabling us to responsibly invest in our businesses, reduce debt, all while enhancing shareholder distributions. At our Capital Markets Day, we announced a 15% step-up in the dividend and a plan to buy back a minimum of $5 billion of shares in the second half of 2023, subject to board approval.

We continue to believe our shares represent significant value. Today, in addition to delivering on the dividend increase, we are commencing a buyback program of $3 billion for the next three months. With that, let me hand over to Sinead to tell us more about our financial results in the quarter.

Sinead Gorman (CFO)

Thank you, Wael. We delivered resilient financial results in the second quarter. Our adjusted earnings were $5.1 billion, and we delivered $15.1 billion of cash flow from operations, including a working capital inflow of $4.8 billion. The working capital inflow was mainly due to lower prices, inflows from initial margin, and a reduction in accounts receivable. In Integrated Gas and Upstream, we saw lower prices, fewer trading and optimization opportunities due to seasonality, and lower production due to planned maintenance, which included higher value barrels in the Gulf of Mexico. As Wael mentioned, and as we outlined during Capital Markets Day, our LNG portfolio is geared towards a Northern Hemisphere winter, making Q1 and Q4 typically stronger than Q2 and Q3.

In our Downstream and RES businesses, Mobility marketing achieved one of its highest unit margins in recent years, largely due to a combination of the driving season in the US and an improving macro environment. In Chemicals and Products, the products business was impacted by fewer trading and optimization opportunities than in the first quarter, whilst Chemicals margins remained below historical averages, despite a slight improvement quarter on quarter. Moving on to our financial framework. Today, we are lowering our 2023 cash CapEx outlook to $23 billion-$26 billion, as we continue to demonstrate discipline in our capital spend. We have brought down our net debt to around $40 billion, which is almost half of what it was in 2019.

Finally, we are delivering on the 15% dividend increase that we announced at Capital Markets Day, whilst also today announcing a $3 billion buyback program for the next three months. As we continue to believe our shares represent significant value, we will commence a program of at least $2.5 billion at the Q3 results, subject to board approval. Together, this means we are meeting our target shareholder distributions of 30%-40% of our CFFO through the cycle. With that, I'll hand back over to Wael.

Wael Sawan (CEO)

Thank you, Sinead. Looking ahead to Q3, the macro outlook continues to be uncertain, with mixed demand signals in China, healthy inventory levels in Europe and Asia, but with general tightness in the supply of oil and gas in the medium term. In our own operations, we will undertake considerable planned maintenance activities, including the Prelude and Trinidad and Tobago IG assets in the coming months. We will continue to deliver more value with less emissions, not through words, but through actions, remaining committed to our guiding principles of performance, discipline, and simplification, and aiming to be the investment case through the energy transition. Thank you.

Operator (participant)

We will now begin the question and answer session. People dialed in, if you have a question, please press star one. If you wish to be removed from the queue, please press star two. Phone callers are requested to mute the audio on their computer webcast and listen attentively to their telephone audio as we begin to progress through the telephone questions.

Wael Sawan (CEO)

Thank you all for joining us today on what is a busy day for results, I expect. We hope that after watching this presentation, you have seen how we have performed in the second quarter of 2023. Today, Sinead and I will be answering your questions. Now, please, could we just have the one or two questions per person, operator, to give everyone the opportunity? With that, Dan, can we have the first question, please?

Operator (participant)

The first question is from Oswald Clint at Bernstein. Please go ahead.

Oswald Clint (Senior Research Analyst)

Good afternoon, and thank you very much, both of you. Two questions really around the results here. Firstly, Upstream, you know, we had the $700 million volume and mixed negative impact in the quarter, and I think that's high-margin barrels, probably Gulf of Mexico. I mean, the question is: Does that all swing back now positively in the third quarter? How much would be offset now by Trinidad and kind of Prelude coming off in the Integrated Gas business?

You know, just extending that question is, I mean, how do you feel about your net lengths here in LNG in the third quarter, just given, you know, just not too long ago, third quarter last year, where we probably had perhaps one of the weakest trading and optimization quarters through probably, at least over the last 10 years anyway? That's the first one. Then secondly, I think Sinead just mentioned Mobility having. I see that. Gross margin's one of the highest you've had in the last actually five or six years, despite some of those concerns over the economy here. The question is, has that quarterly result surprised you?

Has it made you think about leaning back into this side of the portfolio, given that during Capital Markets Day, we've obviously, we're seeing the CapEx come down within that business from 2024 onwards? Thank you.

Wael Sawan (CEO)

Great. Thank you, Oswald. I'll take the first one if you want to take the next one.

Sinead Gorman (CFO)

Sure

Wael Sawan (CEO)

Sinead. I think on the first one, Oswald, just around this quarter first maybe, and maybe even backing out a bit, the Upstream business actually is delivering very strong operational performance overall, as is IG, actually. It's been a good quarter for both businesses. To give you an example, in Upstream, we have seen Bonga at a 5-year high on availability. The Gulf of Mexico is ramping up nicely on the Vito asset, up to north of 90% at the moment. And of course, we have indeed had 3 major turnarounds there this quarter, and all three were done safely, were done ahead of schedule, and were done below budget. Those are amongst the most valuable barrels we have in the portfolio.

Indeed, those come back into the portfolio going into the third quarter. A couple points, though, I would make. We have other maintenance and turnarounds going on in the third quarter in also high high-margin barrel locations, like, for example, the UK is one, Kazakhstan is another. We will have a bit more activity going into the next quarter. I won't give you numbers in terms of how that swing happens, but that gives you, hopefully, a feel. When it comes to upstream, the other thing to consider is it'll also depend, of course, on the weather and in particular, hurricane season in the Gulf of Mexico. Something to keep an eye on, which we also do.

On the IG side, TNT, Trinidad and Tobago, and Prelude indeed do go into turnaround season now, and that's why you see the lower guidance in terms of volumes. Typically, Q2 and Q3 are not too dissimilar in that we don't have a lot of length. Again, we are much more geared towards the Northern Hemisphere winter. If we can continue to make sure that the volumes are delivered, our traders will hopefully have opportunities, but it is not a high-optimization quarter. Typically, that comes in the fourth quarter and the first quarter, as you know well. I'll leave it there. Sinead?

Sinead Gorman (CFO)

Indeed. Thank you. Yes, great to see high numbers from Mobility. Indeed, $900 million coming through this quarter. We know that our marketing business is very robust coming into the season in the sense of that you've got driving season occurring, of course, you see that through the end of Q2 and into Q3. I think it's also fair to say that often with a lower price environment, we see our Downstream business, but particularly marketing, actually being quite resilient in this. When we talked about Capital Markets Day, we were very much talking about value over volume making sure that we focus on where we put capital. I don't think anything has changed from then.

You see the results coming through in terms of value from certain areas, and we will make sure that we continue to spend more of our money there and fundamentally believing in the future of that part of the business. You'll see us being very rigorous in terms of where we are.

Wael Sawan (CEO)

Thanks, Sinead. Oswald, thank you for the question. Dan, can we have the next question, please?

Operator (participant)

The next question is from Irene Himona at Societe Generale. Please go ahead.

Irene Himona (Equity Analyst)

Good afternoon. Thank you for taking my questions. My first question is on the second quarter group adjusted operating expenses.

... 3.6% year-on-year, I presume maintenance had a part to play. Obviously, you have a target for a $2 billion-$3 billion reduction by 2025, and you have, or you will have initiated actions. How long do you allow before we start seeing the benefits of those plans, please? My second question on Chemicals and the new plant in Pennsylvania, can you talk about where capacity utilization stands now, and how long do you anticipate to get up to norm? Is this slow ramp-up by design, or were there some startup snags perhaps? Thank you.

Wael Sawan (CEO)

Thank you. You wanna take the first one?

Sinead Gorman (CFO)

Sure.

Wael Sawan (CEO)

I can take the second one.

Sinead Gorman (CFO)

Indeed. Thanks, Irene. Indeed, we talked about it in Capital Markets Day, as you say, $2 billion-$3 billion in terms of reducing our structural OpEx there, and that was by the end of 2025. When I think of OpEx, I tend to think of it from two different points. One is where we play, and the second is how we play. In terms of the where we play, what we see there, of course, is very much around, that's very much top down. In terms of top down, that's about the decisions we make at the executive committee in terms of what our portfolio is.

That you'll see quicker, you'll see that much faster. Of course, you are seeing that already in terms of aspects where we've announced, you know, looking at Pakistan, hoping to get quite close to signing in terms of Shell, the UK, Shell Energy Retail, in homes for gas and power. Those are different examples, and that will be much, much faster, and you'll see that probably over the next 12 months, and you'll see us report out on that. The other side of things in terms of how we play, that's much more, of course, as you can imagine, building from the bottoms up, and that's very much around getting the grassroots together and ensuring that we have everyone working with us. That will take more time.

You'll see that play out over a period, and, yeah, we look forward to coming back to you with some real examples of that as it plays out, but assume that takes time.

Wael Sawan (CEO)

Thanks, Sinead. Irene Himona, to your second question, PennChem or what we call now Shell Polymers Monaca. Firstly, the strategic context of PennChem. It's an important, valuable asset for us. It sits in this catchment area where you have 70% of North American demand within a 700-mile radius. You are on a supply basis sitting right next to the Marcellus, that Marcellus gas doesn't have to cross all the way to the Gulf Coast to be able to be monetized. There's fiscal advantages being there with the support that the Pennsylvania government provides for economic development. The fundamentals of the project are sound. It's a project that we expect to deliver some $1 billion-$1.5 billion of EBITDA when all is said and done. Where is the project at the moment?

It has had a long ramp-up. This was not by design. There were elements of it, of course, that were by design, but there were a couple of equipment issues that we've had to work on, and we are in the process of repairing that equipment. No major issues, but it does mean that it has slowed down compared to what we would have wanted to be. Where are we at the moment? Two of the three polyethylene trains are up and running at or slightly above capacity at the moment, roughly two-thirds of the plant is up and running. The other third train is the one that's being worked on with one particular piece of equipment being repaired, and that's what the focus is on.

We're expecting to be at full throttle by the first quarter of next year. Importantly, as we go through that, we are looking to certify a whole bunch of our 40 grades of products that we have there to be able to achieve the premium valuation for those products. That will happen in stages, but that will take a bit more time, of course, once you have all three trains up and running. It's coming, but it's taking a bit longer than we would have liked. Thank you for the question. Can we have the next question, please, Dan?

Operator (participant)

The next question is from Lydia Rainforth at Barclays. Please go ahead.

Lydia Rainforth (Managing Director)

Thanks, good afternoon, both. 2 questions, if I could. The first, I guess it has been 6 weeks now since we met in New York, not that sort of a long time, lots of energy to get things done. Can you talk us through what reception you've had within the company? Clearly there were some highly publicized departures. How much do you think you can drive cultural change? Linked to that, Sinead, if I can come back to the OpEx side, thank you for the additional disclosure on the segment costs and the split between types of costs. What do you actually want us to track with this?

I'll come back to the idea of why, when you've got cost control, and you can see it in your Upstream business, the cost coming down, yet it is that marketing and Chemicals and Products businesses where the costs are going up. Is that culturally something different between the two businesses? Thanks.

Wael Sawan (CEO)

Great. Let me start with the reception of the company let you, Sinead, address the second one. Lydia, thank you for the question. You know, I think firstly, Capital Markets Day was received as a significant addition of clarity to the organization. The issue we have typically had is not what we do, it's what we stop doing. A lot of what we try to do with Capital Markets Day is to provide real clarity around a few things that we are doing. Let me just give you an example to be able to bring it to life. We had multiple, what we call sectoral organizations, many sector organizations trying to do their best to help that sector decarbonize. We had an oil and gas sector, for example.

We had an agricultural sector, and so on and so forth. Since Capital Markets Day, we have moved very quickly to be able to focus on the two sectors we said we want to really focus on, which is transportation, and industry. That's just an example of when we've made a choice, at least it helps the organization then really channel their collective energy into that space. By and large, of course, there's been a lot of positive feedback from the organization. I'd be lying to you if I said there weren't some who were also questioning, so what does that mean in terms of energy transition? Not because of what they heard or didn't hear in Capital Markets Day, of course, there's also the media and the press, which raises alarm bells in their minds.

The biggest reflection I've had is because our energy transition strategy is sitting in, in March to be published, it just does mean there's a bit of a gap. So there's less of an issue around the culture of driving the organization forward, but making sure the organization fully sees that we are doubling down on both purpose and profit, not one or the other, and our ability to be able to tell that through the energy transition strategy will be an important part, while holding absolutely true to the capital allocation and the Capital Markets Day messages, because that is going to underpin how we go from here. Sinead?

Sinead Gorman (CFO)

Yes. Thanks, Lydia, and glad you like the extra disclosures. What we're seeing here, two parts to your question really was: Why are we seeing the costs going up in certain parts of the business, and is it due to cultural change? On the first bit, in terms of why are we seeing the costs going up, it's very much just the differences of the underlying businesses. What you tend to see is, at the moment, what we're seeing is for the marketing business, as we go into driving season, you do see us spend more on advertising costs, you see the marketing costs going up as well. With respects to our Chemicals and Products business, what we've got there is twofold. One is, specifically, we of course, have some maintenance spend on Deer Park.

Of course, as you know, that went down with a fire. Secondly, we've got some restoration work going on in South Africa around a refinery that we have there. That's more DNR-type costs. On top of that, of course, you're also seeing now Nature Energy and Volta, the two acquisitions that we did in Q1, both of which actually sit in our marketing business playing through. That's part of the ramp-up that you're seeing there. It explains a little bit the $300 million difference that you're seeing between Q1 and Q2. In terms of the cultural differences, I think the bit I would probably come back to is that in our Downstream business, there is parts of the business have the opportunity to, of course, use OpEx to generate more yield, more returns that are out there.

You see that, particularly the example I just gave you, Lydia, in terms of driving season and more advertising costs. Those are the differences, rather than anything particularly cultural, I would say.

Wael Sawan (CEO)

Thanks, Sinead. Thanks, Lydia, for the questions. Can we have the next question, please, Dan?

Operator (participant)

The next question is from Biraj Borkhataria at RBC. Please go ahead.

Biraj Borkhataria (Global Head of Energy Transition Research)

Hi, thanks for taking my questions. The first one is just Q2 specific. The gas realization in the Upstream was much weaker than I had modeled. If I look at your gas realizations, you know, over time, you tend to track within the, you know, middle of the peer group or slightly above, and this is well below what we've seen from your peers so far. Could you just walk me through why were there such a significant drop quarter-on-quarter, and whether this is the sort of new normal relative to the benchmarks we can see out there? The second question is on LNG Canada. I believe you took a fairly sizable impairment this quarter.

I was a little bit surprised by the timing, because normally the major projects start up before the impairments come through. Could you just help me understand what's going on there, and also the remaining book value of that project after the impairment? Thank you.

Wael Sawan (CEO)

Thanks, Biraj. Both Dan, you're mine.

Sinead Gorman (CFO)

Yeah, absolutely. Thank you. Let me start with the second one first, LNG Canada. What occurred there, it is largely LNG Canada, as you say, Biraj, and as you know, when we look at impairments, we look at it from the point of view, typically off it's the wrong price, any portfolio change, and effectively, the third one is typically about accounting mechanics. This one was an accounting mechanics one, pure and simple discount rates. As you saw, risk-free rates changing, of course, that played into the WACC, and that's where we went up 1%. That's where it played in on this asset. Of course, when you look at this asset, you look at it across three elements again. Again, it's your Upstream, which we have good confidence in.

As you know, a large part of the gas that's coming from this is coming for us from our own assets, Groningen and otherwise. It's the midstream, which is an infrastructure play, not surprising that you would see on an infrastructure play with the rising interest rates, that you would have an impact. The third one is trading and optimization. Of course, under IFRS, we don't put trading and optimization in when we do the impairment. That's the thinking around that. It's, you know, a 40-year asset. This was accounting mechanics that came across. I don't think I have too much concern around that. It'll change every time as we play through, and of course, we're continuing to de-risk it.

The other one, I think, Biraj, I find quite useful when I, when I look at it as well, it is sizable, as you say, but we've got depreciation of some $5 billion-$6 billion, typically a quarter in Shell, and this is about, you know, the equivalent of about one month of that. It just helps me put it into context as we run through an asset of, of that long of 40 years. In terms of your second one, or your first one, actually, which was around, gas realization, I think there's a couple of things in there. Obviously, the weaker EU gas market, you alluded to that as well. A drop of some 33%, of course, in EU TTF.

Also, we had a bit of a change in some parts of the portfolio, where we went from term deals to spot deals, and that did play out here. The final part that's really there is, of course, with the closure of the Groningen field, we're beginning to see lower volumes coming through, and also then the weighting changes to other parts of the portfolio. That is why you saw a lower gas realization coming through in the second quarter. Hope that helps.

Wael Sawan (CEO)

Thanks, Sinead, and thanks, Biraj. Dan, can we get the next question, please?

Operator (participant)

The next question is from Peter Low at Redburn. Please go ahead.

Peter Low (Partner and Co-head of Energy Research)

Hi. Just hopefully quite a quick one. You've lowered the cash CapEx range slightly for the year. Can you kind of give some color as to what's driving that? Also, you kind of touched on kind of your efforts to reduce operating costs within the business, but can you comment at all just on the kind of the wider cost environment that you're seeing out there and whether you're still seeing kind of inflationary pressures come through?

Wael Sawan (CEO)

Let me start with the second one. I'll come back to you, Sinead, for the first one.

Sinead Gorman (CFO)

Sure.

Wael Sawan (CEO)

Inflationary pressure continues, Peter, of course. What we see at the moment is it's anywhere between 5% to 10%, and I'm talking here very generically and averaging, which is always risky. We are able to absorb around half of that, so potentially getting down to the 5% or so, and using our scale, our enterprise framework agreements, to be able to manage the other half. What you see is it's a mixed picture at the moment. You still have inflationary pressures on things like industrial gases, energy costs, any high voltage equipment, so transformers, for example, what was a 12-month lead time is now taking 36 months. Those are the sorts of things where we continue to see the pressures. If you flip to the other side, steel prices are down.

That helps, of course. There's other elements that we also see downward pressure on. By and large, there's a handful of categories that we are really trying to manage carefully.

Sinead Gorman (CFO)

Indeed. Cash CapEx, Peter, you're right, we brought it down from the $27 on the top to $26 billion. The range is $23 billion-$26 billion for this year. If you look at the context of where we are, we have spent around about $12 billion for the first half of the year so far. That gives you a bit of a feel. Of course, what we did coming out of Capital Markets Day, we were in the process of doing so, was taking the same framework that we'd used there. Where do we want to spend our money? A lot of that discipline is really showing through now. You're seeing us be able to reduce down for this year as well.

Wael Sawan (CEO)

Thank you, Sinead. Thanks for the question, Peter. Can we go to the next question, please, Dan?

Operator (participant)

The next question is from Roger Read at Wells Fargo. Please go ahead.

Roger Read (Senior Energy Analyst)

Yeah, good morning or good afternoon to you. Still morning over here in the States. Thanks for letting me on the call here. Just a couple questions for you. There's been, you know, some news during the last month or so since the Investor Day, kind of talking about Shell looking at certain businesses that it might be more interested in exiting. I was just wondering, Wael, as you look at it, what are the decisions to exit a business? Is it as simple as the returns you see that you're generating right now, or are there some strategy things we should be paying attention to as well?

Wael Sawan (CEO)

Super. Okay, thanks for the question, Roger. I don't know specifically what examples you're referencing, but let me sort of broaden maybe the response. I think what we tried to bring across in Capital Markets Day is that this is going to be a management team that is absolutely committed to delivering more value with less emissions. At the core of the choices we are making, we are looking at indeed value, and you can use returns as a good proxy for that as well as how we could potentially contribute to lowering the emissions of the portfolio, either on our scope 1 and 2, or potentially investing to support scope 3 reductions. That's a bit of the frame we use.

What we have done, if I just sort of play out some of the choices we've made, take the recent sale, for example, or the announced sale this week of the Masela block in Indonesia for up to $650 million, an asset we have been in for a while. We had made the decision to get out of that asset. It's an LNG, potential LNG asset, but we didn't feel that it would compete with some of the other capital choices that we had in the portfolio. We've made a very concrete decision on that one. Of course, in Capital Markets Day, we also announced things like the review of the assets in Singapore. We announced the sale of the Shell Pakistan asset.

Those were much more in the context of really high-grading the overall returns of the portfolio. Both of those assets were not contributing in the way that we would like from the productivity of the capital employed there. Other considerations for us will tend to be carbon. The carbon footprint of the asset will indeed tend to be like in our marketing business, is it a tail or is it a core part of the portfolio? As we do that across the portfolio, we're looking to just really go after the quality of the asset base that we have, high-grade the quality of the asset base, be disciplined in the way we allocate new capital, and over time, therefore, start to build the sort of competitive return that we would expect out of this business.

Thank you for the question. Operator Dan, can we have the next one, please?

Operator (participant)

The next question is from Henri Patricot at UBS. Please go ahead.

Henri Patricot (Research Analyst)

Yes, hello, everyone. Thank you for the update. Two questions, please. The first one, kind of like following up on that topic of disposals. There have been some reports recently that you could be considering selling a stake in the renewable power business. I was wondering if you can comment on that, whether that's something that you'd be considering, and if there's any implication in terms of the timing, the size of disposals in renewables that you mentioned last month. Secondly, just on the European gas market, we're seeing quite a bit of volatility in gas price at the moment. Looks like from a European gas storage situation, we should be refueled before the start of the winter.

Can you give us perhaps, you know, your view on possible scenarios for the next 3 to 6 months? Where you see the potential downside, upside risk for European gas prices? Thank you.

Wael Sawan (CEO)

Sure. Thank you, Henri. I'll take the first one if you wanna take the second one, Sinead.

Sinead Gorman (CFO)

Sure.

Wael Sawan (CEO)

On the media coverage of what we were looking at, what we are looking at, look, if I go back to what we said in Capital Markets Day. We continue to believe that there is an opportunity space for us in integrated power that allows us to be able to achieve differentiated returns, but it's a limited space, right? It's a space where we potentially have advantage trading capabilities in that market. It's where we have a customer reach, because we're not convinced that we have a differentiated capability in renewable generation.

Having said that, we have a 40-gigawatt funnel of opportunities in the renewable generation space. It's only natural that we would be looking to go out to the market, not necessarily with a, "Let's sell this or do this," but really looking at how do we attract partners, funding, to be able to continue to high-grade the potential returns that we can get from this portfolio. You would expect us, of course, to do that, just to make sure that if there are opportunities to attract lower-cost capital, higher competence in operating something, then we should be looking at how we monetize that. No decisions taken, and we don't have a narrow lens on this.

We are just really exploring what the potential options are so that we can follow through on what we have said we want to do. Sinead?

Sinead Gorman (CFO)

Henri, I think you're completely correct, that there is certainly sufficient supply of LNG and pipe gas at the moment in Europe. Without a doubt, you're seeing certainly quite weak demand, and that's of course, a combination of both weather at the moment and a recently slow ramp-up from China as well. If it continues as it is, yes, I think Europe will be in a good position out of the summer with heading towards certainly, hopefully towards 90% of storage full, but of course, it can play out very, very thinly. It can go in many, many different directions, and particularly, we will watch very closely to see what China does, because that thin balance could mean it changes very, very rapidly.

Wael Sawan (CEO)

Thank you, Sinead. Thank you, Henri. Dan, can we have the next questions, please?

Operator (participant)

The next question is from Christyan Malek at J.P. Morgan Securities. Please go ahead.

Christyan Malek (Head of EMEA Oil and Gas Equity Research)

Hi, thanks for taking my question. Just two, if I may. First, on just the recent German wind auction, 7 gigawatts. I'm not too sure whether you participated or you didn't, you lost, but we've just had, you know, one of your competition talk about how solid the returns are and, you know, in terms of potentially elevated power prices and being able to optimize. I wonder, what is it about that project that you decided not to participate in and how that sort of relates back to your agenda to be ruthless on returns, particularly as some of these big projects are coming in without subsidies? That's my first question. The second question is on Namibia.

I know the flow rates are very strong and we had lots of very good data points, I wonder, I mean, just listening, just talking to industry, I get the sense that it's not so clear how long these wells can flow for. I wonder whether you can talk a bit about the efficacy in terms of just duration of these wells, given we know a lot more about sort of the flow rates and how strong the potential is. Thank you.

Wael Sawan (CEO)

Thank you, Christyan. I'll take both. I think on the first one, on the German offshore wind, we did participate. We actually like that market. We have a strong trading position in that market. We have a very strong customer base in that market, so it was very natural for us to see that as one of the markets where if we could also get access to the green electrons, we could create real value. We competed hard within the range that we had guided in Capital Markets Day, within the 6%-8%. We lost, and we weren't willing to change our parameters around that. I can't speak for others. I think what...

Our focus was to make sure that we honor that return basis that we had committed to, and we couldn't even, despite our ability to be able to leverage trading and our customer base, we just couldn't compete. I, I leave it to others to, to benefit from that opportunity. On Namibia, I think, you know, just stepping back, I mean, Namibia, for us, continues to be a fantastic opportunity because it plays into the strength of our portfolio in deepwater, in particular, the Atlantic Margin portfolio. Brazil, Gulf of Mexico, Nigeria, and this is in another sweet spot for us to be able to leverage our capability. Here, in particular, you know, a shout-out to the team that we have in our, in our drilling organization.

They are drilling wells safely, faster and cheaper than any other competitor can do in the deepwater space, that gives us a real advantage as we go into Namibia. We've already drilled 4 exploration wells and 1 appraisal well in a very short period. I mean, this is a different pace of Shell than I think you have seen in the past, and it plays to that culture of performance, discipline, and simplification that we're trying to drive. What we see right now is encouraging, including all the data I talked about, including the flow test that we did in May, which produced. What we need to make sure is, this is a big area, we need to continue to de-risk it.

Even if the volumes are there, I think to your point, we just need to see how the subsurface is behaving in different parts of the field to make sure we understand the porosities and the permeabilities, so that we can assure ourselves that any development there, if we so proceed with one, is of an economic attractiveness that is meeting our thresholds and our expectations. More to come on that in the coming months as we de-risk it further, but of course, we have a lot of knowledge from many other parts of our deepwater portfolio that, trust me, we are putting it all into Namibia to make sure that we are in a position to get to that determination soon. Thank you for the questions, Christyan.

Dan, can we go to the next question, please?

Operator (participant)

The next question is from Martijn Rats at Morgan Stanley. Please go ahead.

Martijn Rats (Global Commodities Strategist)

Hi. I have two. I wanted to ask you about the balance sheet gearing because at the Capital Markets Day, I think there was a comment about targeting to pursue a double A, double A credit rating. Given that it's only sort of 6 weeks since, as Lydia pointed out, we now have half a billion dollars of incremental share buybacks, I was wondering how that jived with the target to get to double A. It sort of at least raises the question that that might not be quite such a priority.

If that is not quite such a priority and that has forward-looking implications, then maybe, well, maybe more of the free cash flows can be made available for distribution if less of the free cash flows need to be used to pursue that credit rating upgrade. In that sense, actually, the sort of targeted level of balance sheet gearing is quite an important one, and I was wondering if you could say a few words about that. Is the balance sheet already actually broadly fine for the long run at this level of gearing? The second question I briefly wanted to ask is a follow-up on Biraj's question about LNG Canada.

I can see if the discount rate changes, then, of course, the net present value of the project, sort of diminishes. The reason why we have higher interest rates is that also the inflation outlook has changed, and given that many commodity prices are effectively re-real assets, you can reasonably expect that we have higher inflations, that, of course, also future prices, future commodity prices should be higher. In that sense, I would've expected that even if you sort of changed the discount rate, you might have changed your price expectations, and impairment might not be necessary. Has this also fed through your sort of updated model for the project, or is it or has that not been done? Because frankly, the LNG price outlook looks different from...

It also looks different from the moment when the project was FID'd.

Wael Sawan (CEO)

Martijn, thank you for those two questions, which I'll pass on to Sinead.

Sinead Gorman (CFO)

Super, really good questions, Martijn. On the second one, because I'll just take it quickly, actually, what you see is when we do the impairments, we don't include much of the TNO, so the trading and optimization value in there. Your very point about prices and how that flows through. There's only a very small part of it that actually gets updated into the actual model, so you're seeing much heavier weight on the discount rate than you are actually on the optimization that we can do through moving cargo to different places. That explains. But yeah, you're spot on. There is a bit of a difference there. The first one was around the balance sheet.

Really, where we are there, as you say, we've reduced in terms of the gearing, we've reduced the debt piled on considerably over the period. We had a very good quarter, as you know, in terms of cash generation. Really, where my thinking goes to on this is simply, it's lesser around the metrics. It's more about thinking about how can I allocate the cash at the end of the day. In a stronger quarter or a good quarter from a cash point of view, I'll take that opportunity to reward both shareholders and to strengthen the balance sheet, and that's what you tend to see. In this case, you saw both happening.

You saw it hitting, in terms of bringing us down to just over $40 billion, and you also saw us being able to reward shareholders with some $3 billion in terms of the buyback. In terms of, you know, we'll have different quarters. We'll have different ones where we are higher on maintenance, where we have much more significant working capital moves, whether that's outflows or whatever. In that side of things, you'll see my thinking be much more about how do I smooth this? How do I make sure that I actually reward the shareholders at the same time? You'll probably see me lean more on the balance sheet at that point in time. Directionally, per your question, you know, do I want to go further on the balance sheet?

Yeah, directionally a little bit more in terms of there, but it's not significant to mine. It's given how far we've come so far. Hope that helps, Martijn.

Wael Sawan (CEO)

Thanks, Sinead, and thanks, Martijn, for the questions. Dan, can we go to the next questions, please?

Operator (participant)

The next question is from Christopher Kuplent at Bank of America. Please go ahead.

Christopher Kuplent (Head of European Energy Equity Research)

Thank you. Hi there. I think I've got two questions, Sinead. The first one, I apologize, just shows you how simplistic my brain works. If you add up the cost of your dividend, the buybacks that we now know across at least 3 quarters, plus the $2.5 floor for the 4th, is that a way of, I accept simplistic and stupidly, gauging at the high end of your 40% payout ratio, your view of CFFO this year? Just trying to really, without wanting to be stupid, getting to your definition of, "Hey, this is my through-the-cycle payout ratio." The number that I get to is not low in terms of the implied CFFO. Question number 1.

Question number two, following on from the net debt comment just now, these are round numbers, and I do like them. $65 billion was the target not so long ago, that was tied to a 20%-30% CFFO payout ratio. You're now at $40 billion net debt, you're happy with a 30%-40% payout ratio. Is there a number for net debt? As you just said, you'd like to see that go down further, where you would then be prepared to further increase the CFFO payout commitment. That's it. Thank you.

Wael Sawan (CEO)

Thanks, Chris, both of you.

Sinead Gorman (CFO)

I know, Chris, as usual, they are far from stupid questions, as you well know. On the first one, you're correct. When you start adding it up, you know, where are we sitting? We are sitting towards the high end. You're correct indeed. I will be. You know, at the moment, we're looking at, you know, over the year, where will we be? Probably above 35. That's very clear. You can see that. And in terms of this quarter, we're sitting at some 38%. You can see the high views on that, so that gives you a view of, certainly the strength of, our perceptions of the strength of the cash flow from the underlying business is correct. I would say, though.

The other thing I would comment on is, I've said this a few times, that I don't just look at it quarter on quarter. You're right, I do look at it across the year, and I also look at it beyond that. It's about the future cash flows of the business as well. It's not quite as narrowly just, you know, a calculation that I'm doing literally quarter by quarter, although I do watch those metrics, very carefully. In terms of the second one, in terms of net debt, I smile because you're trying to draw me into, am I going to reset CFFO, distributions or anything like that? Which I'm not, Chris, as you can imagine. You're correct that we have brought down the debt, considerably.

We've managed to strengthen the balance sheet as a result of that, and be able to push more towards our shareholders. Now, I'll say it again, the quarters move, so this is about us. You know, we're investing over, of course, you know, years upon years, and in cases of decades, so we're trying to be very pragmatic in the view as to how we do this. I will lean on the balance sheet from time to time to ensure that I can reward shareholders in a pragmatic manner as well. I won't go further than that, to be drawn into what happens if my debt goes down lower and whether I would increase. Thank you for the question.

Wael Sawan (CEO)

Thanks, Sinead. Good try, Chris. Dan, can we go to the next question, please?

Operator (participant)

The next question is from Kim Fustier at HSBC. Please go ahead.

Kim Fustier (Head of European Oil and Gas Research)

Hi, good afternoon, thanks for taking my questions. Firstly, could you talk about how a higher interest rate environment affects you in general, but particularly in renewables? Are you looking for higher target returns in order to maintain a decent spread over WACC? I know you talked about a 6%-8% target unlevered return in renewables, but don't risk-free rates of 5% or 6% make that look a little bit too low? My second question is on Integrated Gas. Beyond the seasonality effect that you've already outlined, how do we think about a new normal for LNG marketing and trading profits? I think at the CMD, you said the business makes money, broadly speaking, from three things: prices, spread, and volatility, and that it was unlikely that all three would be lower at the same time.

it seems to me that that's pretty much where we are today. Prices and spreads are lower, and volatility is also a lot lower than last year. I mean, despite some bouts of volatility. Any help around that would be great. Thank you.

Wael Sawan (CEO)

You want to take both?

Sinead Gorman (CFO)

Sure. In terms of... I'll start with the second one, actually, Kim, so thank you for that. In terms of LNG, what we saw is, the way I tend to look at the LNG market, as you say, is very much around seasonality, it's around the price, and it's around volatility. I can look at it in a different manner as well, which is really about access to access, so the volumes that we've got coming through, and then the opportunity for what we do with it, which is very much the same way, we're talking about... IG had a great quarter, to be frank, in terms of good operations. There was good volumes coming through, but it was about seasonality.

What we have said before is that we're very much focused on Northern Hemisphere, so we're very much set up for Q1 and Q4, so you see a split into that manner. That means that we have much less length in Q2 and Q3. If you were to look back at the previous year, you'd see pretty much the same thing coming through. Yes, price wasn't there, volatility wasn't there, but we didn't have the length anyway to take advantage of that. We had exactly what we would expect to have coming through in this quarter. Of course, what you see next quarter is very much, we have, as Wael alluded to, we have quite a bit of maintenance coming through in terms of our outlook.

You can see it in there, very much around Trinidad and Tobago, and also of course Prelude. You'll see some of the access to molecules coming out. In terms of the first one, in terms of higher interest rates and returns, you know, 6%-8%, it really is around the power side, as we've talked about before. We're very much looking at the integrated value, you're right, those interest rates, although they do make it. They're actually influencing quite interestingly in terms of the attractive opportunities and acquisitions we're not, you do see that coming through, but we do think about it long term as well.

For us, what we're looking at typically when we're looking at any of these, renewables plays, is about where can we do the uplift, and where we actually make the money is around the trading and optimization again. It'll be interesting to see how, with this level of interest rate, the market actually plays, which I think is where you're going to, Kim. Just what do we see? Do we see actually it start to stagnate? Do we see people with heavy borrowing start to have problems? That's gonna be an interesting one to watch.

Wael Sawan (CEO)

Thanks, Sinead. Thank you, Kim. Dan, can we have the next question, please?

Operator (participant)

The next question is from Lucas Herrmann at BNP Paribas. Please go ahead.

Lucas Herrmann (Managing Director and Senior Analyst)

Thanks very much, and thanks for the opportunity. Two, if I might. Just, I just wanted to go back to Peter Low's question on gas pricing, which I don't think you answered the second part of it, which was, you know, in essence, when we look at European prices, are what we're seeing or is what we saw through the second quarter a representation of change? Should we be expecting something, you know, nearer $4, $5, et cetera, rather than, you know, the numbers that we would have seen historically? I also am not quite sure how pricing could be that, you know, is quite as low as it is. The second question, I guess, stays with gas as well.

Sinead, last year, big build in working capital into the third quarter as you put gas into storage, you know, looking towards the winter season. Should we be expecting something similar this quarter? Can you give us any indications as to how we should be thinking about working capital moves from the underlying business, rather than necessarily price, over the course of the Q3 period? That's it. Thank you.

Wael Sawan (CEO)

Thanks, Lucas. I'll take the first one and, let you take the second one, Sinead.

Sinead Gorman (CFO)

Sure.

Wael Sawan (CEO)

Lucas, on, on the first one, so a couple of dynamics playing at the moment. If I start with the demand side firstly, what we see, in China, maybe start there, is softer demand than what we had anticipated coming out of the pandemic, in particular in industry. On the Mobility side, actually, we see strength, so we see quite a bit of activity in our marketing business in China. We see it on aviation, but we don't yet see it in industry, in particular, export-oriented industry. That means there isn't the same yet amount of pull, though there are signals that it is improving slowly.

you add to that, to the fact that your storage levels in North Asia are high, Japan and Korea both have relatively high storage levels, and in Europe are high, it does mean that the gas price and the prompt is weak. You had 2 wobbles over the last few months when there was questions around outages from the Norwegian pipelines and the like, but that was just noise and leveled back off.

That doesn't take away the reality that if you look a bit longer term into, in particular, going into this winter, and if you say, come end of this year, if there's pressure on the storage levels because of it being a colder winter than anticipated, or if you start to see a bit more buying by some of the more price-sensitive players like India and others, you can very quickly get into a tighter situation. How that plays out, there are just too many variables at this stage to be able to determine. I, I wouldn't want to give an indication of, of pricing other than to say softer in the prompt and potentially stronger as you go into the medium term.

Sinead?

Sinead Gorman (CFO)

Yep, Lucas, in terms of the second part to your question, which was really around inventory, excluding price, what can we expect to see? On this one, I would look at it first, much more in terms of structural versus non-structural. What you see is coming through into sort of Q3, a little bit of build, particularly around some of the driving season aspects, so there is a bit of structural there. You do see some come up because... Then that tails off into Q4 as we come out of that. In terms of the non-structural side of things, it's really what you were alluding to in terms of the gas injection.

That very much last year, when, of course, the market was tight and there was a real worry about a cold winter, we took quite a big opportunity to inject there. Given where the market is, I won't go into, you know, where I would speculate on the market and our strategy around that, but one could look at it now and say that, you know, there's not that much shortage in the market at the moment, but it will very much depend on what the opportunities are and what our views are in terms of the winter as it concludes.

Same thing to say on the oil supply, to be perfectly frank, in terms of, you know, you hear a lot in the market about a risk of sort of limited capacity or spare capacity in terms of where OPEC's going with its cuts, et cetera. In the same way, we would look to take storage opportunities or options at that point, but that will depend on different things that will come through. It's very much non-structural.

Wael Sawan (CEO)

Thanks, Sinead. Thanks, Lucas. Can we have the next question, please, Dan?

Operator (participant)

The next question is from Henry Tarr at Berenberg. Please go ahead.

Henry Tarr (Senior Equity Analyst)

Hi there, and thanks for taking my questions. Two quick ones. One on LNG Canada, again, posted this, the impairment. Does that have any implications for a second phase of that project, or not really, either from a returns perspective or anything else? Secondly, could you give a quick update on Pennsylvania and the cracker? That would be great. Thank you.

Wael Sawan (CEO)

Okay, I'm happy to cover both. Henry, I talked earlier about Pennsylvania, so maybe I'll just quickly connect that back up again. On the Pennsylvania one, I tried to reference the strategic advantage of our cracker there, multiple dimensions, supply, demand, as well as the fiscal advantage. Two of the three polyethylene trains up and running. The third one is has some technical issues, which we are working through and expect it to be up and running by the first quarter of next year. LNG Canada, I'll use the same frame. LNG Canada continues to be an advantaged asset, a really advantaged asset. You have, in essence, a captive export scheme for Western Canadian gas. You have a demand, a market, the Asian market, that is within proximity.

You have, in essence, the cleanest, the most, the lowest carbon intensity LNG out there in the market, all coming together at a good point in time for those volumes. All of which will be full flexibility portfolio volumes for us, something which we, of course, like a lot. All that coming together around middle of this year. That's a project that now is over 75% complete on the midstream, over 90% complete on the pipeline, so it's coming along nicely. All the major units are either at the plant or are en route to the plant, so, knock on wood, all seems to be going well. Phase II. The impairment itself does not impact at all our view on phase II.

Back to all the reasons that Sinead explained around this being more driven by accounting. Of course, while the asset itself is very attractive for us, a big part of the attraction is also the optimization opportunities that full flex LNG cargoes offers us in a portfolio like ours, and that doesn't change, of course. What we will do is we will wait for the joint venture to have put their best proposal forward, and with the other joint venture partners, we will assess it and make a decision at the time. Thank you for the question. Can we go to the next question, please, Dan?

Operator (participant)

Today's final question is from Paul Cheng at Scotiabank. Please go ahead.

Paul Cheng (Managing Director and Senior Analyst)

Thank you. Two questions. First, I don't know whether it's there a way, if we look at over the past eight quarters, your chemical operation lost money in six of them. We understand that you put Singapore up for review or maybe for sale. Other than that, I mean, is the rest of the portfolio is really performing according to your expectation, or that we have some structural issue with the whole organization? If they are some structural issue, what step that you are taking in order to maybe mediate on that?

Secondly, then, there's a Wall Street Journal article recently, on about the offshore wind project seems to be struggling, at least in the US, and including you and some of your competitor may be going back and trying to renegotiate on the prices. Maybe that you can give us some ideas then, I mean, how you look at the offshore wind, that market? Is it still considered as a reasonable market for you for meeting your criteria or targets? Thank you.

Wael Sawan (CEO)

Thank you, Paul. Do you wanna take the second question first? I'll come back to the first one.

Sinead Gorman (CFO)

Sure. I think, Paul, you know, offshore wind is a tough market, without a doubt. It's always been tough, and of course, you've got inflationary pressures. You've got a multitude of issues going through there at the same time. A lot of people are, as you say, looking at trying to renegotiate, looking at the terms and conditions there. Of course, we're no different than anyone else. We look at the value, and that's very much what we brought back in Capital Markets Day, very much a focus on driving the right returns for the risk that we take and getting the value that's there. Indeed, we will continue to do that. I think the market has a lot of work to do in that space to look at actually ensuring the right returns are there.

Wael Sawan (CEO)

Super. Thanks, Sinead. Let me take your first question there, Paul, then look to wrap up. If I reflect on it from a capital employed perspective, half of the capital employed in our Chemicals business sits in Shell Polymers Monaca, the Pennsylvania plant. The biggest thing we can do for that half of the capital employed is get the kit up and running and delivering at the premium levels that we need it to deliver, so that we can achieve that $1 billion-$1.5 billion of EBITDA that we expect to get out of the facility. All hands are on deck to make sure that we are ramping up, we are certifying the grades, and moving forward. That's how we want to handle the 50%.

It hurts from a returns profile when 50% of your capital employed is not yet productive to the extent that you want it. That's a key urgency for us. You've touched on Singapore. I would also add our review asset by asset of Europe, where we could potentially high-grade the returns on those specific assets. The rest of the portfolio is in good shape, the other 30%. What we're trying to do is to move quickly to be able to address the startup, the healthy startup and sustainable startup of Monaca, of Pennsylvania, to make sure that we move on the strategic reviews that are ongoing, to continue to do what we can to be able to move further and further towards top quartile when it comes to operations.

We're pulling every lever we can to give ourselves options to be able to really create value out of this portfolio. That's what I would say. I think just in closing, I know you didn't ask this, Paul, but I think given we're at the mid-year point, maybe just worth reflecting for a moment. I think firstly, thank you to all of you for the support over the last few weeks. We have taken up quite a bit of your time, I recognize between Capital Markets Day, the dinner, and all that, you spent a lot of time on Shell, so thank you for that. I can tell you coming back into the organization, we're excited to move from framing the opportunity to now delivering it. We have great opportunities.

This management team, we spent a few days together last week, really focused on now the how are we going to deliver these outcomes? How do we get performance, discipline, simplification to go to the next level in the organization? How do we frame more value, less emissions in the way we are making choices project by project? How do we make sure we over-deliver on the 6% free cash flow growth per annum to 2030, and the 10% free cash flow per share growth to 2025? You have a management team that's committed to be able to delivering that, and we're excited by the opportunities we see, and we'll make sure to keep you informed as we go through the coming months and years. As Sinead rightly said, this is not a quarter-by-quarter battle.

This is going to be one of every single day, getting to the quarters, and then getting to the year, and delivering on the promises that we have set out. Those of you who are taking some time off, I wish you a restful break. Thank you for joining us today, and look forward to catching up with you at the next occasion. Thank you all.