Ensco Stays Neutral

We maintain our Neutral recommendation for Ensco Plc (ESV) following lower-than-expected first quarter 2011 results. While new regulations in the Gulf of Mexico (GoM) have pressured offshore drillers, we appreciate Ensco’s financial discipline, organically developed asset base as well as robust deepwater outlook.

Ensco’s first quarter earnings experienced an approximately 60% drop, failing to meet our expectation mainly due to lower dayrates and utilization. Revenues in Jackup and Deepwater segments also registered a 17% and 25% year over year decline, respectively, mainly due to a fall in the average dayrate and lower utilization.

Uncertainties related to the impact that the new GoM regulations might have over Ensco and other offshore drillers are also looming large. Considering the company’s exposure to both deep and shallow water GoM, the continued strain on permit issuances could adversely affect the company’s operations.

However, management expects international deepwater market opportunities to be aided by new multi-year programs in West Africa, South East Asia, Brazil and the Mediterranean. The Deepwater segment is showing significant growth opportunities with contracts already in place and ongoing delivery of new rigs.

Notably, the contract signed by ENSCO 8504with Total SA (TOT) at a dayrate of $424,000 in Brunei is also a positive indicator for the surging deepwater demand in South East Asia.

Management also remains optimistic about broader recovery in jackup demand, particularly in North Sea and Mexico and expects average jackup utilization to increase to the mid 80% range in the second half of 2011 from 72% recorded in the first quarter of 2011.

Importantly, we foresee the proposed merger with Pride International (PDE) to be accretive to Ensco given the improving ultra-deepwater and high spec jackup markets, as well as cost synergies. This move will make Ensco the world’s second-largest offshore oil and gas driller behind Transocean Inc. (RIG) with significant presence in lucrative deepwater markets off Brazil and West Africa.

Given the above factors, we currently retain our long-term Neutral recommendation for the company. Ensco currently retains a Zacks #3 Rank, which translates into a short-term Hold rating.

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