Shell Petroleum, a major oil and gas conglomerate, has announced its intention to divest over 77% of shares of its subsidiary, Shell Pakistan. This move comes as part of the company's ongoing efforts to streamline its operations around the world. The decision marks the end of a 76-year partnership between Shell and Pakistan. Political instability has made operating in Pakistan increasingly difficult, impacting prices and supply chains. Moreover, the company's present financial instability and the low valuation prevailing in the PSX could possibly lead to a discounted sale. Due to the ongoing forex situation, it may prove challenging for a buyer to emerge as transactions are unlikely to receive approval from the State Bank of Pakistan until the necessary forex liquidity has been arranged.
Shell timeline
Shell’s Decision
“Board of Directors of Shell Pakistan Limited (SPL), in a meeting of its Board held on June 14, 2023, have been notified by The Shell Petroleum Company Limited (SPCO) of its intent to sell its shareholding in SPL. Any sale will be subject to a targeted sales process, the execution of binding documentation, and receipt of applicable regulatory approvals,” read the official announcement available on the PSX.
The company has been contemplating this move for years as it realigns its strategy to increase shareholder returns and divest from underperforming businesses worldwide.
The company's operations in Pakistan have faced several challenges, including highly fluctuating global prices caused by the pandemic and the Russia-Ukraine conflict. Additionally, the country's precarious economic condition and the rapid devaluation of the rupee have significantly impacted foreign investor returns, which are calculated in dollars. For instance, in 2022, PSX investors experienced a 29% loss on their investments in dollar terms, the second-worst since the beginning of the millennium, following only the global financial crisis in 2008.
Further, the competition in the market also posted mixed results last year. “OMCs reported earnings of Rs68bn up 11% in 2022 compared to earnings of Rs61bn in 2021. Pakistan State Oil (PSO) which is the market leader in OMCs sector, reported a decline in its profitability to Rs51bn in 2022, vs. profit of Rs52bn last year. However, Attock Petroleum (APL) reported increase in earnings of Rs17.5bn in 2022 vs. a profit of Rs4.9bn last year,” read a report by Topline Securities.
Yet some analysts are of the opinion that Shell Pakistan is itself to blame for the abysmal financial performance due to mismanagement over the past five years. The company's low net profit margin, poor cost structure, and poor cashflow positions have resulted in a significant decline in share price. Additionally, the high financial leverage and poor financials of the company make it an unattractive purchase for potential buyers. Unless the company merges with another company and create synergies, it is unlikely to be purchased by anyone in its current state.
Shell’s share price on the PSX
At the time of writing, the market capitalization of Shell Pakistan was approximately Rs. 19 billion. The foreign holding intends to sell its complete shareholding, equivalent to 77% or approximately Rs. 14.7 billion ($51 million). It's important to note that if a prospective foreign buyer emerges, they may account for country risk and small cap risk while evaluating the stake's value. This could potentially result in a negotiated value lower than the previously mentioned figure.
In addition, if the transaction is conducted within Pakistan, the State Bank may require the buyer to arrange the forex due to the country's liquidity crisis. Currently, many multinational companies operating in the country are unable to even repatriate their profits.
As per Mustafa Pasha, the CIO at Lakson Investments, “While Pakistan doesn't currently have capital controls in place, the current forex situation may present challenges for local companies seeking to purchase Shell's stake. These companies may need to make arrangements for the necessary forex or potentially face delays in completing the transaction.”
Further, if the transaction is settled outside of Pakistan, there are likely to be tax implications. As per section 101A of the Income Tax Ordinance 2001, if a non-resident company (Shell Plc) holds assets in Pakistan through a resident company (Shell Pakistan), the resident company must furnish relevant information and documents to the tax authorities and deduct a 10% tax from the gross amount paid and remit it to the tax authorities.
However, this is not an isolated incident of a multinational leaving Pakistan. Last year, Telenor Pakistan also decided to exit the market due to the bleak outlook for the industry's future.
In Shell's case, however, the transaction size is considerably smaller. Therefore, it will be interesting to see if the state bank allows the deal to take place or avoids setting a precedent for other multinational corporations to follow.
