Shell's Valuation Premium Under Scrutiny Amid Rising Debt and Normalizing Energy Markets

In the evolving energy landscape of 2025, Shell (SHEL) stands at a crossroads. Its valuation premium—reflected in a P/E ratio of 9.9x and an EV/EBITDA of 4.2x—has outpaced peers like BP and even U.S. majors such as ExxonMobil. Yet, as energy markets normalize and the debt burden grows, investors must ask: Is Shell's premium justified, or is it a fragile illusion built on short-term shareholder returns?

The Numbers Behind the Premium

Shell's financials paint a mixed picture. Its Debt-to-EBITDA ratio of ~3.25 (as of Q2 2025) and gearing of 19.1% suggest a manageable balance sheet by industry standards. However, these metrics mask a critical trend: net debt has risen from $41.5 billion in Q1 to $43.2 billion in Q2, driven by aggressive buybacks ($3.5 billion) and dividends ($2.1 billion). While free cash flow of $6.5 billion in Q2 offset some of this, the company's capital return strategy—targeting 40–50% of CFFO—leaves little room for error in a volatile market.

The premium valuation also hinges on Shell's ability to sustain $11.9 billion in CFFO (Q2 2025) amid declining energy margins. This cash flow fuels a $3.5 billion buyback program and a 4% annual dividend increase, both of which have driven share price outperformance. Yet, with oil prices stabilizing and refining margins normalizing, the question is whether these returns can persist without compromising long-term investments.

Shareholder Returns vs. Long-Term Health

Shell's dual-track strategy—balancing hydrocarbon growth with low-carbon investments—has been a cornerstone of its premium. The company allocates $20–22 billion annually to hydrocarbon capex while committing $10–15 billion to low-carbon projects (2023–2025). This approach has allowed Shell to maintain a lower Debt-to-EBITDA ratio than the industry median, but it also raises concerns.

For instance, $3.9 billion in structural cost savings since 2022 has enabled higher returns, yet these savings come at the expense of asset divestitures (e.g., Nigeria, Singapore) and reduced flexibility in scaling low-carbon projects. Meanwhile, U.S. peers like ExxonMobil are prioritizing hydrocarbon growth, with $35 billion in 2025 capex, and are trading at lower valuations (EV/EBITDA ~6.5x). This divergence highlights a strategic divide: Shell's focus on returns may appeal to short-term investors, but its transition investments remain modest compared to its core operations (which account for 78% of adjusted EBITDA in Q1 2025).

The Risks of a Premium

The energy transition is maturing, and investors are increasingly demanding proof of long-term value creation. Shell's $10–15 billion in low-carbon spending is a start, but it pales against the scale of its hydrocarbon operations. If the market discounts these projects as speculative, the valuation premium could evaporate. Additionally, BP's recent retreat from renewables—cutting funding by £5 billion—signals that even peers are reevaluating transition strategies. Shell's ability to avoid a similar pivot will be critical.

Debt is another risk. While current leverage is low, the $3.5 billion buyback program and dividend hikes could strain the balance sheet if oil prices dip. BP's struggles—projected 70% buyback cuts by 2026—serve as a cautionary tale. Shell's interest coverage ratio of 5.68 is robust, but this metric could deteriorate if cash flows shrink.

Peer Comparison and Strategic Positioning

Shell's premium to BP is stark. BP's market cap is below 40% of Shell's, and its recent 20% increase in oil and gas investments—paired with reduced renewables funding—has drawn investor criticism. In contrast, Shell's disciplined cost discipline ($5–7 billion in savings by 2028) and asset sales ($3.9 billion since 2022) have insulated it from margin pressures. However, U.S. majors like Chevron are leveraging higher capex to boost growth, trading at a 20% discount to Shell's EV/EBITDA. This suggests that while Shell's returns are attractive, its premium may not be fully justified by growth potential.

Investment Implications

For investors, Shell's valuation premium is a double-edged sword. The company's strong cash flow generation, disciplined cost management, and aggressive shareholder returns make it a compelling short-to-medium-term play. However, the long-term sustainability of the premium depends on two factors:
1. Execution of low-carbon projects: Can Shell scale biofuels, hydrogen, and carbon capture without sacrificing profitability?
2. Balance sheet resilience: Will rising debt from buybacks and dividends remain manageable in a downturn?

If Shell can maintain its dual-track strategy—leveraging refining margin resilience while scaling low-carbon assets—it may justify its premium. But if energy markets normalize and transition projects underperform, the valuation could contract.

Conclusion

Shell's premium is built on a foundation of strong cash flow and disciplined returns, but it is not without risks. The company's ability to balance shareholder value with long-term transition goals will determine whether this premium holds. For now, Shell remains a top-tier energy stock, but investors should monitor its debt trajectory and the pace of its energy transition. In a maturing energy market, the line between a justified premium and a speculative bet is razor-thin—and Shell is walking it.