Friday, February 27, 2015

Stock Analysis: Ensco PLC (ESV)

Notes:
Stock Ratings: 1 = buy at current stock prices, 2 = buy on a 5-10% dip in stock price, 3 = sell on a 5-10% increase in stock price, 4 = sell at current stock prices to raise cash.  Ratings are based upon 12-18 month outlook on stock direction and not necessarily related to moves I make due to financial positioning.

Ensco PLC announced their fourth quarter and fiscal year 2014 results on Thursday.  The Fourth quarter actually beat analyst estimates of $1.38 by coming in at $1.68 on in-line revenues of $1.16B.  Under normal circumstances or even just considering the difficulties the company faced, these might not be considered all that bad for results.  However, the saying goes it's not how things went in the past, it's what's going to happen in the future and, frankly, the future certainly isn't in need of shades right now.  

Now I'll be up front, it's not like it's a surprise that the industry is doing poorly.  Commodity prices were cut in half in a short period of time and the reaction from the producers, who are Ensco's customers, has been just as swift - especially since this turn of events aligned with budget seasons.  The known risks were how much that would impact the company, would they cut the dividend, and is there an over supply.  I'll say I've been a little naive in some of my projections.  While I frequently commented on how the company stated they could pay their dividend, even I expected a 50% cut after seeing competitors slash or remove their dividends.  That would've left the yield at about 5% and I would've felt OK with that.  Instead, the dividend was cut 80% and now the stock is sporting a 2.4% yield.  

In addition to the dividend cut, we also found out how drastic customers are cutting their budgets and the impact it is having on Ensco and the picture wasn't pretty.  More rigs are being cold stacked due to lack of contracts and some are being sold or scrapped due to age.  This is partly how earnings numbers are met.  Job and bonus cuts were announced as a part of this call to reduce expenditures and create more cash flow strength, which is aligned to help soften the blow to future earnings and better position the company for the future.  Revenue guidance was withheld due to lack of visibility the company has on its revenue streams.  Companies are trying to cancel rigs and/or restructure contracts, which are reducing the day rates for the rigs.  Finally, we get informed of how much glut still exists in the market not only for floaters, but for jackups too.  It seems rather obvious right now that despite the ability for jackups to provide some buoyancy it's not likely to last and they will have more rigs to stack/sell - while more are coming online as well.  There's a large number of new jackup builds expected and almost none of them are contracted.  A little better than 50% of newbuild floaters aren't contracted as well.  In the end, the company is clearly doing what they need to do to better position themselves.  They still have the best debt to capital ratio (42%) in the industry and will be the most likely to make strategic acquisitions when prices come to the right levels.  The problem is there's no visibility to when those levels will happen, much less any indication that commodity prices will significantly increase.

With all of this said, I'm finding this to be a hard stock to hold for at least 12 to 18 months.  That's my sense as to how long it will take before this industry has a chance to out perform the market again.  However, I don't think these are the right prices to get out.  Analysts expect earnings of $4.49 for 2015 and despite the fact that we're talking almost a 30% decrease from their earnings in 2014, I can't help but feel they're a little high.  Let's just use their number though.  Today's closing price of $24.47 puts the multiple at 5.4.  with projections of day rates on the decline, multi-year contracts will likely hurt the company to from making strong earnings as older, more lucrative contracts expire for cheaper ones.  I believe the stock can get up to around 27 or so, but that becomes more  your selling point than anything.  I actually can see this stock going down to 18 or so when you consider sliding earnings and an average analyst price target over $49 (much too high, they have to lower numbers and it's likely to take the stock down some more again.  While I know Ensco is positioning for the future, I really don't feel the stock is worth holding onto for that turn around.  We likely can pick it back up at a better time in the future.   I give the stock a ranking of 3 with a $27 price target.