Ensco's Next Significant Debt Maturity Offers 8.1% Yield

Summary

• Ensco's first quarter saw further declines in revenue, operating income, and operating cash flow.
• Ensco is currently working to bring rigs online and increase production.
• Ensco's use of its recent debt issuance should give fixed income owners some relief.

Ensco (ESV) reported its first quarter earnings a couple of weeks ago. The company missed earnings and revenue expectations. By all accounts, the company continued its operational struggle as it tries to rebound with the increase in energy prices. The company's 2024 bonds remain priced under par and combined with an 8% coupon, currently offer investors 8.1% yield to maturity. A deeper dive into the company's financials shows progress towards the company's ability to service its debt.

Source: FINRA

Ensco's financial weakness in the first quarter was driven by two forces. First, the company's revenue declined by more than $50 million or 12% from the prior year. Second, the company's contract drilling expenses increased by nearly $50 million. This expense increase was mainly due to the addition of new rigs into service, according to the conference call. Ultimately, Ensco's operating income finished the quarter $122 million lower than the first quarter of 2017.

Source: 10-Q

Ensco's balance sheet continued to look strong in the first quarter. The company continued to hold in between $800 and $900 million in cash and short-term investments. Additionally, the company did increase its long-term debt by nearly $250 million. Overall, at the end of the quarter, Ensco had $8.5 billion in shareholder equity.

Source: 10-Q

Ensco's first quarter cash flow also underperformed the first quarter of 2017. The company's operating cash flow for the quarter was $60 million lower, and its free cash flow deficit grew from $178 to $230 million. The company covered this gap by issuing $1 billion in new senior notes maturing in 2026. After the free cash flow deficit, the remaining cash proceeds were used to pay down debt.

Source: 10-Q

In terms of debt repayment, Ensco used its additional cash from note issuance to pay down its nearest maturing notes. According to the debt section of the company's 10-Q filing, Ensco paid down $721 million in bonds maturing over the next three years. The move did cost the company a slight premium, totaling $771 million.

Source: 10-Q

Ultimately, Ensco's financial moves created a debt structure that should make fixed income investors more confident in the company's 2024 maturing bonds. According to the earnings presentation, the company now only has $236 million in debt maturities to address between now and the end of 2023. In addition to its cash and short-term investments, Ensco has a $2 billion untapped credit revolver, which brings its liquidity position to $2.9 billion.

Source: Company Earnings Presentation, Slide 20

Ensco's business is going to require investors to be patient. Ensco may need to tap into its credit revolver later this year to cover the cash needs required to increase production. The fixed income investment route will allow investors to buy bonds and in the case of the 2024 maturities, collect an 8% income payment while waiting for the company to turnaround.

CUSIP: 29358QAG4

Price: $99.55

Coupon: 8%

Yield to Maturity: 8.095%

Date of Maturity: 1/31/2024

Credit Rating (S&P): BB-

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

I am long 2024 maturing bonds and may acquire 2026 or 2027 maturing bonds within the next week.