The dust has settled after two years of tit-for-tat tariffs and incendiary accusations. At least for now. On 15th January 2020, the USA and China signed a landmark trade deal. Landmark because it extracts some concessions from China to redress the trade imbalance between the world’s two economic superpowers, and also because it halts the escalation of the trade war. Call it a trade truce, but the Phase 1 trade deal – as it has been called – also does not undo the previous two years of tariffs. In fact, it enshrines them at least until a Phase 2 deal is agreed.
But that’s very far away. For now, the headlines are all about the US getting China to buy almost US$200 billion more of US products over 2020 and 2021 across four key industries, in exchange for not raising tariffs on Chinese imports even further, including energy. Those are lofty promises. Verging on the unrealistic. But they make for great headlines, and good rhetoric for the White House. For energy, China has agreed to increase its buying of US energy products – including crude oil, LNG, refined products and coal – by US$18.5 billion in 2020 and US$33.9 billion in 2021, relative to the 2017 levels. That’s the promise. Can it be achieved?
Let’s take the base year. In 2017, the US exported some US$9 billion of energy products to China. On the oil side, this translated into 450,000 b/d of products – half of which was crude, another third was natural gas liquids (ethane and butane) and the remainder refined products. On the natural gas side, the US is estimated to have shipped 103 billion cubic feet of LNG to China in 2017. Across 2018 and 2019, exports of both oil and gas fell – and in the case of 2019, drastically as China slapped import tariffs of 5% on US crude and 25% on US LNG and NGLs. Which is why 2017 was chosen as the base year, representing a normal market before trade barriers kicked in. On a surface level, this would means that China would need to triple its purchases of US oil and gas to meet its Phase 1 trade pledges.
Is that realistic? US crude represented only 3% of Chinese crude imports in 2017, with LNG representing roughly the same portion. For LNG, China enjoys good relations with Australia, Qatar, Malaysia and Indonesia – all of which provide more competitive pricing given their proximity. For crude, it isn’t just volumes but also quality. Most Chinese refineries are designed around Middle Eastern and Russian crude – heavier and sourer than US crude. US crude could supplant existing volumes taken by China from West Africa and North Sea, but the Gulf of Mexico is once again at a distance disadvantage. A supply glut means China is awash with refined oil products, which leaves NGLs – which could be a bright spark as feedstock for Chinese petrochemicals producers. There is definitely room to grow, but expecting a tripling of volumes over two years seems highly unlikely unless strictly enforced.
Crucially, China has provided itself a safety clause. Buried in the text of the trade deal, is that these purchases – while representing minimum purchase requirements – are subject to ‘market conditions’ in China. These ‘market conditions’ are then further defined as being influenced by actual domestic Chinese demand, relative pricing of US goods vs comparable goods from other nations or supply availability, or all of the above. This crucial clause takes the purchase pledges by China from the realm of optimistic promises to fantasy. Emphasised throughout the trade deal document – and repeated again in the energy section – this essentially means that China’s pledge is not mandatory. China will continue to source its commodities based on ‘market conditions’ at the best availability and price; and if those suppliers happen to be American, good. US energy producers won’t be able to depend on a guaranteed deposit of demand from China – and they wouldn’t be able to produce all those required volumes anyway – but must continue to compete with established energy powerhouses like Russia, Saudi Arabia, Qatar, Australia, Iraq, Malaysia and more… just like they do now.
To expect China to be able to meet its pledges to increase US energy purchases by the required amounts is a fool’s game. Increases will happen, but even then, not by as much as expected given that the existing tariffs are still in place. The Phase 1 trade deal seems to be full of hot air. It will make the negotiations for a broader Phase 2 trade deal tougher – given that progress on the targets will be expected – but that’s a question for the future, and possibly a different government. For now, not much has changed. Don’t call it a trade deal, call it what it is, which is a stalemate.
Phase 1 Trade Deal in Summary:
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On 10 December 2021, if all goes to plan Royal Dutch Shell will become just Shell. The energy supermajor will move its headquarters from The Hague in The Netherlands to London, UK. At least three-quarters of the company’s shareholders must vote in favour of the change at the upcoming general meeting, which has been sold by Shell as a means of simplifying its corporate structure and better return value to shareholders, as well as be ‘better positioned to seize opportunities and play a leading role in the energy transition’. In doing so, it will no longer meet Dutch conditions for ‘royal’ designation, dropping a moniker that has defined the company through decades of evolution since 1907.
But why this and why now?
There is a complex web of reasons why, some internal and some external but the ultimate reason boils down to improving growth sustainability. Royal Dutch Shell was born through the merger of Shell Transport and Trading Company (based in the UK) and Royal Dutch (based in The Netherlands) in 1907, with both companies engaging in exploration activities ranging from seashells to crude oil. Unified across international borders, Royal Dutch Shell emerged as Europe’s answer to John D Rockefeller’s Standard Oil empire, as the race to exploit oil (and later natural gas) reserves spilled out over the world. Along the way, Royal Dutch Shell chalked up a number of achievements including establishing the iconic Brent field in the North Sea to striking the first commercial oil in Nigeria. Unlike Standard Oil which was dissolved into 34 smaller companies in 1911, Royal Dutch Shell remained intact, operating as two entities until 2005, when they were finally combined in a dual-nationality structure: incorporated in the UK, but residing in the Netherlands. This managed to satisfy the national claims both countries make on the supermajor, second only to ExxonMobil in revenue and profits but proved to be costly to maintain. In 2020, fellow Anglo-Dutch conglomerate Unilever also ditched its dual structure, opting to be based fully out of the City of London. In that sense, Shell is following the direction of the wind, as forces in its (soon to be former) home country turn sour.
There is a specific grievance that Royal Dutch Shell has with the Dutch government, the 15% dividend tax collected for Dutch-domiciled companies. It is the reason why Unilever abandoned Rotterdam and is now the reason why Shell is abandoning The Hague. And this point is particularly existentialist for Shell, since its share prices has been battered in recent years following the industry downturn since 2015, the global pandemic and being in the crosshairs of climate change activists as an emblem of why the world’s average temperatures are going haywire. The latter has already caused the largest Dutch state pension fund ABP to stop investing in fossil fuels, thereby divesting itself of Royal Dutch Shell. This was largely a symbolic move, but as religious figures will know, symbols themselves carry much power. To combat this, Shell has done two things. First, it has positioned itself to be at the forefront of energy transition, announcing ambitious emissions reductions plans in line with its European counterparts to become carbon neutral by 2050. Second, it is looking to bump up its dividend payouts after slashing them through the depths of the Covid-19 pandemic and accelerating share buybacks to remain the bluest of blue-chip stocks. But then, earlier this year, a Dutch court ruled that Shell’s emissions targets were ‘not ambitious enough’, ordering a stricter aim within a tighter timeframe. And the 15% dividend tax remains – even though Prime Minister Mark Rutte’s coalition government has been attempting to scrap it, with (it is presumed) some lobbying from Royal Dutch Shell and Unilever.
As simplistic it is to think that Shell is leaving for London believes the citizens of the Netherlands has turned its back on the company, the ultimate reason was the dividend tax. Reportedly, CEO Ben van Buerden called up Mark Rutte on Sunday informing him of the planned move. Rutte’s reaction, it is said was of dismay. And he embarked on a last-ditch effort to persuade Royal Dutch Shell to change its mind, by immediately lobbying his government’s coalition partners to back an abolition of the dividend tax. The reaction was perhaps not what he expected, with left-wing and green parties calling Shell’s threat ‘blackmail’. With democracy drawing a line, Shell decided to walk; or at least present an exit plan endorsed by its Board to be voted by shareholders. Many in the Netherlands see Shell’s exit and the loss of the moniker Royal Dutch – as a blow to national pride, especially since the country has been basking in the glow of expanded reputation as a result of post-Brexit migration of financial activities to Amsterdam from London. The UK, on the other hand, sees Shell’s decision and Unilever’s – as an endorsement of the country’s post-Brexit potential.
The move, if passed and in its initial stages, will be mainly structural, transferring the tax residence of Shell to London. Just ten top executives including van Buerden and CFO Jessica Uhl will be making the move to London. Three major arms – Projects and Technology, Global Upstream and Integrated Gas and Renewable Energies – will remain in The Hague. As will Shell’s massive physical reach on Dutch soil: the huge integrated refinery in Pernis, the biofuels hub in Rotterdam, the country’s first offshore wind farm and the mammoth Porthos carbon capture project that will funnel emissions from Rotterdam to be stored in empty North Sea gas fields. And Shell’s troubles with activists will still continue. British climate change activists are as, if not more aggressive as their Dutch counterpart, this being the country where Extinction Rebellion was born. Perhaps more of a threat is activist investor Third Point, which recently acquired a chunk of Shell shares and has been advocating splitting the company into two – a legacy business for fossil fuels and a futures-focused business for renewables.
So Shell’s business remains, even though its address has changed. In the grand scheme of things, never mind the small matter of Dutch national pride – Royal Dutch Shell’s roadmap to remain an investment icon and a major driver of energy transition will continue in its current form. This is a quibble about money or rather, tax – that will have little to no impact on Shell’s operations or on its ambitions. Royal Dutch Shell is poised to become just Shell. Different name and a different house, but the same contents. Unless, of course, Queen Elizabeth II decides to provide royal assent, in which case, Shell might one day become Royal British Shell.
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