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June 2, 2009

Dahlman Rose upgrades outlook for offshore drillers

Dahlman Rose is upgrading its outlook for offshore drilling stocks based on expected increased E&P spending.

"The combination of reduced OPEC production and decreased drilling activity has led to a much stronger oil price environment than we had anticipated and, in our view," says the firm," underscores the long-term trend of substantially more difficult drilling programs requiring higher oil prices. Offshore drilling demand has been under pressure this year, particularly for non-deepwater assets; however we are seeing signs of a reversal later this year. Several smaller E&Ps have announced increased capex spending plans in recent weeks which we point to as a strong signal that others will follow. Typically smaller E&Ps adjust spending first, followed by the larger companies."

While utilization remains an issue across the jack-up segment, with currently just 76% of the worldwide fleet employed, Dahlman Rose expects increased E&P demand later this year to support dayrates and higher utilization levels. It is raising its 2010 premium jack-up forecast to $120,000/day from $100,000/day. "There still remains just over 100 jack-ups available for new contract through the end of the year and the current pace of new fixtures implies global utilization will fall to below 70% by year-end," says the firm. "While this may still be the case we expect dayrates to hold firmer than historical norms due to increased stacking of rigs as well as higher oil prices."

Deepwater dayrates are expected to hold steady in the coming years. "We had previously cautioned that deepwater demand can remain strong but that lower oil prices would eventually lead to lower dayrates,"comments Dahlman Rose. "However with oil showing signs of a much higher support level than in past cycles we believe dayrates can hold steady at over $500,000/day versus our prior expectation of falling to $400,000/day once more rigs became available for contract after 2010."

Dahlman Rose sees jack-ups as currently having the most upside based on an increase in spending. "As expected the jack-up segment has been hit hard the most with dayrates and utilization levels substantially underperforming deepwater assets. Also public jack-up equities have traded at big discounts to NAV this year while deepwater players have held mostly to premiums. With smaller E&P spending on the rise, we expect jack-up equities to outperform. We believe Ensco (ESV) is best-positioned for such a rebound.

On a fully-invested enterprise value basis, offshore drilling stocks are trading at just 6-6.5x 2010-2012 EBITDA. "We believe this represents attractive entry points for the offshore drilling stocks even after the strong run several have had in recent weeks."

Dahlman Rose has made the following changes to its ratings:

Diamond Offshore: Reiterate Buy; Raise Target to $108 from $80 based on 7x 2010 EBITDA

Noble Corp: Reiterate Buy; Raise Target to $48 from $32 based on 6x 2010 EBITDA

Transocean:Upgrade to Buy from Hold; Target $100 based on 7x EBITDA

Atwood Oceanics: Upgrade to Buy from Hold; Target $37 based on 7x EBITDA

Ensco International: Upgrade to Buy from Hold; Target $60 based on 6x EBITDA

Pride International: Maintain Hold

Seadrill:Maintain Hold

Rowan Companies:Upgrade to Hold from Sell


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