I have written articles in the recent past where I have been bearish on offshore drillers such as Transocean (RIG, Financial), Diamond Offshore (DO, Financial) and Seadrill (SDRL, Financial). I maintain my bearish view for these drillers and my opinion is to avoid these names at least for the next 2 quarters.
However, I am not bearish on all offshore drillers and there are few stocks that look attractive at current levels and can be considered for exposure. I do advise gradual exposure to these stocks as I don’t expect a big rally to come in the sector soon. Atwood Oceanics (ATW, Financial) and Ensco (ESV, Financial) are among the stocks that I believe are attractive at current levels. I had discussed the reasons to be bullish on Atwood Oceanics in one of my recent articles. This article will discuss the reasons to be bullish on Ensco.
The first point for being bullish on Ensco is valuations. The stock is currently trading at an EV/EBITDA valuation of 4.6. This is inexpensive when compared with Seadrill, which is currently trading at an EV/EBITDA valuation of 12.1. Ensco is also trading at a very attractive price to book valuation of 0.55.
However, it is not just valuations that make me bullish on Ensco. As of September 30, 2014, Ensco had a leverage of 33% as compared to 56% for Seadrill and 41% for Transocean. A low leverage is a big positive in difficult times and Ensco is ahead of peers on that front. Ensco does have a capital expenditure of $2 billion in 2015.
However, the company’s investment cycle ends in 2015 as compared to Seadrill and Transocean. Both these companies have significant investments in 2015 and 2016 that ensure further increase in leverage in difficult times.
Another reason to be bullish on Ensco is the company contract coverage for 2015. As of September 2014, the company’s contract coverage for 2015 implied a contract backlog of $3.9 billion. The current contract backlog will ensure that Ensco has a relatively strong cash inflow even in 2015 that will help the company continue its dividends as well as take care of the $2 billion capital investment. Ensco does have a revolving credit facility of $2.25 billion that will also help the company finance the new rig program in 2015.
The important point to note here is that Ensco’s $11 billion order backlog of front-loaded and this implies significant revenue generation over the next 2-3 years from the current backlog. Even if the company’s leverage increases in 2015, the leverage is likely to decline in 2016 and 2017 with minimal capital expenditure during these years.
I must also add here that Ensco’s dividend payout (most recent declared quarterly dividend annualized divided by 2015 earnings per share mean estimate) is only 58% as compared to 116% for Transocean, 111% for Diamond Offshore and 70% for Noble Corporation. Therefore, the dividend payout has been kept conservative and certainly looks sustainable in the foreseeable future.
From a debt maturity profile perspective, Ensco is well positioned with the only major near-term maturity being $1 billion of debt in 2016. The next big maturity for the company comes only in 2019. Therefore, debt refinancing is not a concern and I believe that the company’s debt will decline significantly over the next 3-4 years through debt repayment from free cash flow.
In conclusion, Ensco is certainly well positioned in difficult times and I expect the company to sustain its current dividend payout of $3 per share through 2015. Investors can consider exposure to the stock at current levels with a long-term investment horizon.
