Royal Dutch Shell Essay Example

1. Introduction

1.1.

Overview of Accounting Course

The accounting course is taught in class of International Business School of UTM. The topics covered are: Introduction, Basic Accounting and Costing, Project Evaluation and Analysis, Project Planning and Budgeting, Costing for Decision and Control, Costing for Special Decision, Costing and Performance

Measurement, Performance Monitoring and Detection of Distress Signal, Corporate Governance and Value Based Management, and Recent Development in Accounting, Costing and Finance.

1.2.

Lesson from the Course

Lesson from the Course are: • Many things have to be considered in Accounting side from starting up a business, business planning, monitoring, evaluation, controlling and

forecasting. • Using different kind of perspective like variable costing, the impact will be huge on the business side.

1.3.

Lesson from the Project

Lesson from the Project are: • From financial statements, much things and information can be extracted out of them. • Comparing ratio could be done overtime, inter company or using industry average, if the information is available. Sometimes information of industry average is hard to retrieve since some of them are classified. 6

1.4.

Comment on the Course

Comment on the Course: • • Some materials of the course are not clear enough. Additional books, information must be searched to complement what have been taught in the class. • Dateline of the project should be given in more advances. The students predicted that the dateline was in Exam week while actually it wasn’t.

2. COMPANY BACKGROUND2.1. VISION

Vision of the Shell Group is: The objectives of the Shell Group are to engageefficiently, responsibly and profitably in oil, oil products, gas, chemicals and other selected businesses and to participate in the search for and development of other sources of energy to meet evolving customer needs and the world’s growing demand for energy.

2.2.

MISSION

The missions of Shell Group are: • We believe that oil and gas will be integral to the global energy needs for economic development for many decades to come. Our role is to ensure that we extract and deliver them profitably and in environmentally and socially responsible ways.

We seek a high standard of performance, maintaining a strong long-term and growing position in the competitive environments in which we choose to operate.

We aim to work closely with our customers, partners and policymakers to advance more efficient and sustainable use of energy and natural resources.

2.3.

BOARD OF DIRECTORS

Royal Dutch Shell has a single tier Board of Directors chaired by a Non-executive Chairman, Aad Jacobs. The executive management is led by, the Chief Executive, Jeroen van der Veer. The members of the Board of Royal Dutch Shell plc meet regularly to discuss reviews and reports on the business and plans of Royal Dutch Shell. 8

1 Aad Jacobs, Non-executive Chairman 2 Lord Kerr of Kinlochard GCMG, Deputy Chairman and Senior Independent Non-executive Director 3 Jeroen van der Veer, Chief Executive 4 Peter Voser, Chief Financial Officer 5 Malcolm Brinded CBE FREng, Executive Director, Exploration & Production 6 Linda Cook, Executive Director, Gas & Power 7 Rob Routs, Executive Director, Oil Products and Chemicals 8 Maarten van den Bergh, Non-executive Director 9 Sir Peter Burt FRSE, Non-executive Director 10 Mary R. (Nina) Henderson, Non-executive Director 11 Sir Peter Job KBE, Non-executive Director 12 Wim Kok, Non-executive Director 13 Jonkheer Aarnout Loudon, Non-executive Director 14 Christine Morin-Postel, Non-executive Director 15 Lawrence Ricciardi, Non-executive Director Beat Hess, Group Legal Director Michiel Brandjes, Company Secretary

2.4.2.4.1.

ROYAL DUTCH SHELL BUSINESS AND STRATEGYBusiness overview

Royal Dutch Shell business consists of: • • • • • Exploration & Production Gas & Power Oil Products Chemicals Renewables and Hydrogen.

Inside the Group, higher earnings and returns on investment in the upstream has been achieved compared with the other businesses. In the mean time, demand for natural gas has significant growth potential. The downstream businesses continue to offer attractive returns, cash flow and growth potential in Asia Pacific and Middle East. The business portfolio is being restructured to capture that growth market potential.

The Group’s core strengths include: • • • • Application of technology; Financial and project management skills to develop large oil and gas projects; Ability to develop and manage a diverse and international business portfolio; Development of customer-focused businesses built around thestrength of the Shell brand.

Shell Group strategy is: Our strategy of more upstream and profitable downstream aims to reinforce our position as a leader in the industry, which aims to provide investors with a competitive and sustained total shareholder return.

An increase in capital investment to support that strategy has been announced and in 2006 the Group plan to spend a total of $19 billion (excluding capital contribution of minority shareholders in Sakhalin), of which around $15 billion will be invested in upstream projects.

This increased investment will be used to: • • • Grow and mature hydrocarbons resource base; Increase production; Build on the Group strong position in integrated gas and unconventional energy; • Enhance Shell competitive leadership in the downstream.

2.4.2.

More upstream

Increased capital investment will enable more upstream oil and gas development. This will include a sustained high exploration activity level and significant projects such as Salym, Bonga, Erha, Kashagan, Sakhalin, Qatargas 4, Pearl GTL and Ormen Lange. Further work will continue to develop unconventional oil projects including the expansion of the Athabasca Oil Sands project and also to prolong profitable production from existing producing areas.

Included in the planned upstream investment are projects in Gas & Power, predominantly in liquefied natural gas (LNG) such as Sakhalin II, Qatargas 4 and expansions of LNG projects in Nigeria and Australia. These projects are part of the continued development of integrated gas business throughselective investment in opportunities across the value chain. That strength along the whole gas value chain from exploration to marketing will continue to be a key factor in Shell ability to maintain global leadership in natural gas. At the same time, the Group will continue to promote interests in Gas to Liquids (GTL), coal gasification and new opportunities in carbon management.

2.4.3.

Profitable downstream

The downstream strategy focuses on sustaining strong cash delivery while building profitable new positions in higher-growth markets, especially in Asia Pacific, and maintaining and strengthening established positions in attractive markets.

Shell continues to reshape the portfolio and, in 2005, generated proceeds from divestments from various markets of over $3 billion. Focus will be continued on differentiating business through the provision of premium fuels such as Optimax and V-Power as well as working to make cleaner fuels such as Biofuels more widely and competitively available. Capital investment in downstream in 2006 will

be over $4 billion and $1.7 billion of investment will include areas of strong growth potential to deliver competitive returns.

Meeting growing global demand for energy in ways that minimize the effect on the environment is a key challenge for Shell future business and the Group is pursuing a range of opportunities to develop alternative energy that will both complement today’s core businesses and establish major new income streams over the long term.

2.4.4.

Reshaping the portfolio

The target of raising $12–15 billion in divestment proceeds for the period 2004– 06 has been achieved one year ahead of schedule. The investment program is based on strategy of more upstream and profitable downstream and is intended to position the Group competitively in a future environment.

2.4.5.

Operational excellence

Improving operational performance across all of activities is a priority. This means operating in a safe, reliable and cost competitive way and ensuring that high standards of environmental and social performance are met. Performance is measured through comprehensive internal and external benchmarking to establish a measure of performance relative to competitors. The aim is to achieve top quartile performance across all of activities when measured against competitors.

Effective project delivery has become increasingly important, as project get larger and more complex. More resources have been allocated to improving project planning and delivery including setting up a Project Academy. The Project Academy will provide focused training and development on all aspects of project management to those working on projects across businesses.

2.4.6.

Technology and innovation

Developing and implementing new technology is important to Shell business activities and to be competitive in securing new business opportunities.

Technology plays a particularly important role in helping to access new resources, maximize the recovery of oil and gas from existing resources, develop the potential of unconventional hydrocarbons and alternative energy and find ways of reducing and managing the CO2 emissions related to energy production and use.

2.4.7.

Creating the culture and organization to deliver

Significant progress has been made in changing organization and shaping Shell culture to deliver its strategy and competitive returns to shareholders over time. The Unification Transaction of the former parent companies under Royal Dutch Shell in 2005 has provided a clearer, simpler, more efficient and accountable form of governance. The integration of the Oil Products and Chemicals businesses into one downstream organization has been successful in creating a more dynamic, responsive and competitive downstream organization.

2.5.

RECENT MERGER

In 2005, Royal Dutch Shell became the single 100% parent company of Royal Dutch Petroleum Company (Royal Dutch) and of Shell Transport and Trading Company Limited (Shell Transport) the two former public parent companies of the Group. These transactions include: • the scheme of arrangement of Shell Transport under the applicable laws of England and Wales (“the Scheme”) on July 20, 2005, pursuant to which Royal Dutch Shell acquired all the outstanding capital stock of Shell Transport; • the exchange offer for all of the ordinary shares of Royal Dutch, commenced on May 19, 2005, which became unconditional on July 20, 2005, and, including the subsequent offer acceptance period which expired on August 9, 13

2005, through which Royal Dutch Shell acquired a total of 98.49% of the outstanding capital stock of Royal Dutch; and • the series of restructuringtransactions of the Group, which included the merger under Dutch law of Royal Dutch with its wholly-owned subsidiary, Shell Petroleum N.V, which became effective on December 21, 2005. As a result of the Merger, Royal Dutch and the Royal Dutch shares have ceased to exist and Shell Petroleum, the surviving company in the Merger, became a 100% owned subsidiary of Royal Dutch Shell. The diagram at the bottom of this page illustrates the structure of the Group following completion of the Unification. Operating and service company subsidiaries are not shown.

Figure 1: Structure of the Group

Royal Dutch Shell Class A ordinary shares (“Class A shares”) and Royal Dutch Shell Class B ordinary shares (“Class B shares”) have identical rights as set out in the Royal Dutch Shell Articles, except in relation to the dividend access mechanism applicable to the Royal Dutch Shell Class B ordinary shares. 14

The Unification Transaction did not result in the formation of a new reporting entity. Accordingly, the Unification Transaction has been accounted for using a carry-over basis of the historical costs of the assets and liabilities of Royal Dutch, Shell Transport and the other companies comprising the Group.

Royal Dutch and Shell Transport entered into a scheme of amalgamation dated September 12, 1906 and agreements from 1907 by which the scheme of amalgamation was implemented. From that time until the Restructuring, Royal Dutch owned 60% of the other companies comprising the Group and Shell Transport owned 40% of the other companies comprising the Group. All operating activities have been conducted through the subsidiaries of Royal Dutch and Shell Transport that have operated as a single economic enterprise. Prior to the consummation of the Unification Transaction, economic interests of the Royal Dutch and Shell Transport shareholders in the other companies comprising the Group reflected the 60:40 economic interests of Royal Dutch and Shell Transport in these companies.

2.6.2.6.1.

INDUSTRY OUTLOOKMarket overview

Global economic output expanded by around 4.5% in 2005, supported by strong activity in the US and Asia, down from 5.1% in 2004. The two key drivers underpinning this growth were US consumer resilience to higher energy prices and interest rates, and generally moderate inflationary pressures in key industrialized economies. Economic expansion is expected to stay broadly on track for 2006, despite prospects of continued higher oil prices, monetary tightening and further easing of investment growth in China.

In the US, business investment, residential sector spending and robust manufacturing output all contributed to high economic growth levels in 2005. For 2006, the expected moderate slow down in personal consumption and easing of the housing market would bring GDP growth largely in line with potential output growth of around 3.4%. In Europe, economic growth in 2005 came from export growth, partially fuelled by a weaker than expected euro, and a moderate increase in personal consumption, leading to an expansion of roughly 1.4%. Assuming moderate monetary tightening, and a more substantial recovery in personal consumption, this could increase to 1.8% in 2006.

The Japanese economy is continuing on a path of gradual recovery with both private consumption and non-residential business investments generating substantial momentum during the first half of 2005. Whether such momentum can be maintained over the next year remains uncertain, but the structural factors are in place for the economy to grow at around 2% in 2006. In China, 2005 was characterized by a change in the structure of growth, with the economy relying increasingly on exports, and to a lesser extent on domestic demand. For 2006, domestic demand growth is expected to slow and net exports to make a smaller contribution. GDP growth is expected to reduce moderately to around 8% in 2006.

Risks are slanted to the downside with sustained higher energy prices, uncertainty linked to the US consumer, possible dollar depreciation, unusual trends in the bond markets, and the expected cooling of the housing market. Given the present forward momentum of the global economy, the probability of a severe slowdown in 2006 seems low.

2.6.2.

Oil and natural gas prices

Brent crude oil prices averaged $54.55 per barrel in 2005 compared with $38.30 in 2004, while West Texas Intermediate (WTI) averaged $56.60 per barrel compared with $41.50 a year earlier. 2005 saw a steady increase in 16

crude oil prices mainly driven by limited spare OPEC crude oil production capacity, weather related demand and supply effects and geopolitical tensions in the Middle East. WTI reached a new record high of just under $70 per barrel at hurricane Rita’s landfall at the end of August 2005, but prices were subsequently reduced by the International Energy Agency’s decision to release emergency stocks. Brent and WTI crude oil prices ended 2005 at $58 and $61 per barrel respectively.

Based on Shell Group analysis, oil prices are expected to remain strong in 2006 against ongoing supply concerns, the projection of low OPEC spare capacity and projected strong world economic growth, in particular the US and China. In the medium to longer term, the Group anticipates prices to moderate from present levels, as both supply and demand are expected to respond to the present higher price environment and stocks and OPEC spare capacity is being rebuilt.

The drivers of natural gas prices are more regionalized than the relatively global nature of crude oil pricing. While the Henry Hub price is a recognized price benchmark in North America, the Group also produces and sells natural gas in other areas that have significantly different supply, demand, regulatory circumstances and therefore pricing structure. Natural gas prices in continental Europe and Asia Pacific are predominantly indexed to oil prices. In Europe prices have also risen reflecting higher oil prices and strong demand.

In the UK prices at the National Balancing Point averaged $6.39 per million Btu versus $4.72 in 2004 and Germany border prices averaged around $5.81 per million Btu versus $4.30 in 2004.

2.6.3.

Oil and natural gas prices for investment evaluation

The range of possible future crude oil and natural gas prices to be used in project and portfolio evaluations within the Group are determined after assessment of short, medium and long-term price drivers under different sets of assumptions. 17

Historical analysis, trends and statistical volatility are part of this assessment, as well as analysis of global and regional economic conditions, geopolitics, OPEC actions, cost of future supply and the balance of supply and demand. Sensitivity analyses are used to test the impact of low price drivers, like economic weakness and high investment levels in new production, and high price drivers, like strong economic growth, and low investment levels in new production. Short-term events, such as relatively warm winters or cool summers, weather and (geo)-political related supply disruptions and the resulting effects on demand and inventory levels, contribute to price volatility.

During 2005, the Group used prices ranging from around $20 to the mid $30s per barrel to test the economic performance of long-term projects at different prices or margin levels. As part of normal business practice, the range of prices used for this purpose continues to be under review and may change.

3. FINANCIAL INFORMATIONIn 2005, as a result of the Unification Transaction, Royal Dutch Shell became the single 100% parent company of Royal Dutch Petroleum Company (Royal Dutch) and of Shell Transport and Trading Company Limited (previously known as The Shell Transport and Trading Company, plc (Shell Transport). Royal Dutch and Shell Transport are the two former public parent companies of the Group.

The Unification Transaction did not result in the formation of a new reporting entity. Immediately after the Unification Transaction each former Royal Dutch and Shell Transport shareholder who participated in the Unification Transaction held the same economic interest in Royal Dutch Shell as the shareholder held in the Group immediately prior to implementation of the Unification Transaction. Accordingly, the Unification Transaction has been accounted for using the carryover basis of the historical costs of the assets and liabilities of Royal Dutch, Shell Transport and the other companies comprising the Group.

3.1.

Financial Statements

The Consolidated Financial Statements include the accounts of Royal Dutch Shell and of those companies in which it, either directly or indirectly, has control either through a majority of the voting rights or the right to exercise a controlling influence or to obtain the majority of the benefits and be exposed to the majority of the risks. Investments in companies over which Shell Group companies have significant influence but not control are classified as associated companies and are accounted for on the equity basis.

Interests in jointly controlled entities are also recognized on the equity basis. Interests in jointly controlled assets are recognized by including the Shell Group share of assets, liabilities, income and expenses on a line-by-line basis.

The Consolidated Financial Statements have been prepared using the carryover basis to account for the Unification and on the basis that the resulting structure was in place throughout the periods presented. The 2005 and 2004 Financial Statements have been prepared in accordance with applicable laws in England and Wales and with International Financial Reporting Standards (IFRS) as adopted by the European Union. As applied to Royal Dutch Shell, there are no material differences with IFRS as issued by the International Accounting Standards Board. The 2003, 2002, 2001 and other years Financial Statements have been prepared in accordance with US Generally Accepted Accounting Principles (US GAAP), applied by the Group prior to its transition date to IFRS.

3.2.

Reconciliation from previous GAAP to IFRS

The Group adopted IFRS in 2005, which varies from US GAAP in certain respects, with a date of transition of January 1, 2004. The differences between IFRS and US GAAP are described below.

3.2.1.

Discontinued operations

The definition of activities classified as discontinued operations differs from that under US GAAP. Under IFRS the activity must be a separate major line of business or geographical area of operations. Equity accounted and other investments are included in this classification. Under US GAAP this definition is broadened to include a component of an entity (rather than as a separate major line of business or geographical area of operations) but equity accounted and other investments are excluded.

As a result, all of the items presented as discontinued operations in 2004 under US GAAP are included within continuing operations under IFRS. In 2004 the Shell Group’s equity accounted investment in Basell was classified under IFRS as a discontinued operation.

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3.2.2.

Reclassifications

Reclassifications are differences in line item allocation under IFRS that do not affect equity or income compared with that previously shown under US GAAP. They mainly comprise: • Incorporated joint ventures, in which the Group has a liability proportionate to its interest, are presented as equity accounted investments. For US GAAP purposes, the Shell Group proportionally consolidated these joint ventures until December 31, 2004. • The Group share of profit of equity accounted investments is reported on a single line (net of net finance costs and tax), which differs from the presentation under US GAAP until December 31, 2004.

• There is separate reporting of provisions under IFRS, which differs from the presentation under US GAAP until December 31, 2004. • Certain loans to equity accounted investments are classified as other noncurrent assets under IFRS and were reported under US GAAP until December 31, 2004 as equity accounted investments. • Research and development costs are included in cost of sales while these are separately disclosed under US GAAP. • Accretion expense for asset retirement obligations is reported as interest expense under IFRS and as cost of sales under US GAAP.

3.2.3.

Retirement benefits

Under IFRS, all gains and losses related to defined benefit pension arrangements and other post retirement benefits at the date of transition to IFRS have been recognized in the 2004 opening balance sheet, with a corresponding reduction in equity of $4,938 million. Under IFRS, the use of the fair value of pension plan assets (rather than market-related valueunder US GAAP) to calculate annual expected investment returns and the changed approach to amortization of investment gains/losses can be expected to increase volatility in income going forward as compared to past IFRS and US GAAP results. 21

3.2.4.

Share-based compensation

Under IFRS, share-based compensation awarded after November 7, 2002 and not vested at January 1, 2005 are recognized as an expense based on their fair value rather than recognizing the expense based on the intrinsic value method. This intrinsic value method was used by the Group until December 31, 2004, on a US GAAP basis and required no recognition of compensation expense for plans where the exercise price is not at a discount to the market value at the date of the grant, and the number of options is fixed on the grant date.

3.2.5.

Cumulative currency translation differences

Under IFRS at January 1, 2004, the balance of cumulative currency translation differences of $1,208 million was eliminated to increase retained earnings. There is no change under US GAAP. Equity in total under both IFRS and US GAAP was not impacted. Upon divestment or liquidation of an entity, cumulative currency translation differences related to that entity are taken to income under both IFRS and US GAAP. Due to the elimination of the opening balance as at January 1, 2004, the amounts of cumulative currency translation differences that are taken to income may differ between IFRS and US GAAP.

3.3.

Auditors

On May 12, 2005, PricewaterhouseCoopers LLP and KPMG were appointed as the auditors of Royal Dutch Shell. KPMG resigned from the position of joint auditors to Royal Dutch Shell on November 7, 2005, as a result of the Unification. PricewaterhouseCoopers LLP have signified their willingness to continue in office, and a resolution for their reappointment will be submitted to the AGM.

Prior to the Unification PricewaterhouseCoopers LLP acted as auditor to Shell Transport and KPMG acted as auditor for Royal Dutch. 22

3.4.

Currency translation

Assets and liabilities of non-US dollar Group companies are translated to US dollars at year-end rates of exchange, whilst their statements of income and cash flows are translated at quarterly average rates. Translation differences arising on consolidation are taken directly to a currency translation differences account within equity. Upon divestment or liquidation of an entity, cumulative currency translation differences related to that entity are taken to income.

3.5.

Directors’ InterestDirectors’ Name Maarten van den Berghd Malcolm Brinded Sir Peter Burt Linda Cook Nina Henderson Aad Jacobs Sir Peter Job Lord Kerr of Kinlochard Wim Kok Aarnout Loudon Christine Morin-Postel Lawrence Ricciardi Rob Routs Jeroen van der Veer Peter Voser Royal Dutch Shell Transport 4,000 – – 3,702 – – – – – 75,000 – 10,000 – 10,512 – – 77,948 10,000 – 9,000 – 3,570 10,000 – – – – – – –

Figure 2: Director’s Interest

3.6.

Substantial shareholdings

As at March 1, 2006, Royal Dutch Shell’s register of substantial shareholdings showed the following interests in 3% or more of Royal Dutch Shell’s shares:

23

Investor Barclays PLC Legal and General Group Plc The Capital Group Companies Inc UBS AG

Class A shares Class B shares 4.28% 3.08% 7.50% 3.16% 4.13% 3.94% 4.45% –

Figure 3: Major Shareholders

3.7.

Compensation structure

The Executive Directors’ compensation package is made up of: > base pay; > annual bonus; > long-term incentives: > Long-Term Incentive Plan; > Deferred Bonus Plan; > pension; and > other benefits.

Figure 4: 2005 Pay Mix for Executive Directors

3.8.

Base pay

Base pay is set at a competitive level, appropriate to the scope and complexity of the roles of Chief Executive and Executive Director, and reflecting the reporting structure in the Executive Committee. Base pay levels are set by reference to appropriate market levels benchmarked againstfour comparator groups: 24

> the major integrated oil companies (industry peers); and > the FTSE 20, the AEX 10 and the top 20 continental European companies in the FTSE Eurotop 100, based on market capitalization, (home market peers).

Major integrated oil companies (industry peers) are: BP, Chevron, Exxon Mobil and TOTAL.

3.9.

Conso