Few industries have raised as much money during the pandemic as the cruise-line companies.
Facing a virtual shutdown and suffering heavy losses, the three dominant cruise-line operators—
Norwegian Cruise Line Holdings
Group (RCL)—have raised a total of about $40 billion through debt and equity sales.
Unlike the U.S. airline industry, cruise-line companies were pretty much on their own and received no financial help from the federal stimulus bills. Why? While the companies operate out of Florida, they are domiciled offshore in tax havens and pay no material U.S. income taxes.
The debt and equity sales have left the three companies with ample cash to ride out the downturn, but they have come at a price. They will cut into investor returns because of higher interest expenses and a sharp increase in shares outstanding.
Carnival’s debt, for instance, is expected to rise to about $23 billion by the end of its current fiscal year in November, up from $11 billion at the end of 2019. The company’s projected interest expense this year of $1.7 billion is up from $200 million in 2019, and its shares outstanding are up to 1.1 billion from about 700 million.
Dividends and share repurchases are probably off the table for several years as the companies focus on debt reduction. For industry leader Carnival, which has raised $23.6 billion since March 2020, that calls for caution on its stock.
The bull case is that the cruise lines will benefit from a huge pent-up demand as more people are vaccinated and the economy opens up. Investors have been willing to shrug off the losses—this past week, Carnival reported a $2 billion loss for the first quarter—and are looking ahead to a full return to voyages.
The shares of Carnival, Norwegian, and Royal Caribbean have rallied lately, along with other travel-related stocks.
“There’s definitely a reopening and momentum trade going on here,” says Patrick Scholes, an analyst at Truist Securities. “The market is baking in a full return to sailing by sometime early next year, which is questionable, and that 2023 not only will be a normal year but one that is better than 2019, which is also questionable.”
He has a Sell rating on Carnival’s shares and Hold ratings on Norwegian’s and Royal Caribbean’s.
Carnival, at about $29, trades for 17 times projected 2023 earnings per share of $1.67; Norwegian, at $31, fetches 13 times estimated 2023 earnings of $2.30 a share; and Royal Caribbean, at $90, trades for 15 times projected 2023 profits of $5.99 a share.
These are optimistic earnings estimates that assume higher operating profits in 2023 than in 2019. Morgan Stanley analyst Jamie Rollo, who has below-consensus industry earnings projections for 2023, wrote on Friday that “we doubt the industry will be larger or more profitable than it was pre-Covid.”
There may not be meaningful free cash flow until 2023 or 2024 because of interest expenses and still-lofty capital expenditure, as the industry seeks to refresh a fleet that has an average age of more than 10 years.
There are signs, to be sure, that vacationers are eager to resume travel and return to the seas.
Carnival highlighted that trend in a first-quarter update this past week. Booking volumes accelerated in the first quarter and were about 90% higher than in the fourth quarter, reflecting “significant pent-up demand,” Carnival said. It added that advance bookings for 2022 are running ahead of a “very strong” 2019.
In a conference call, Carnival CEO Arnold Donald said the company had enough liquidity to last well into next year without any revenue. Its financial priorities, once voyages begin, include regaining an investment-grade bond rating and cutting interest expense.
Royal Caribbean’s chief financial officer, Jason Liberty, said earlier this year that the company expected that the resumption of voyages would lead to “compelling returns and a strong balance sheet.”
Norwegian Cruise Line CFO Mark Kempa said in the company’s fourth-quarter earnings release that it remained “focused on our long-term strategic priorities and creating a clear path to financial recovery.”
Investors have gravitated to cruise lines, in part, says Truist’s Scholes, because they are among the few groups of stocks in the travel industry that are still appreciably below prepandemic levels.
Carnival, for instance, is 40% below a price of $50 at year-end 2019.
Yet the three cruise-line operators have projected year-end enterprise values (equity value plus net debt) that are above where they stood at the end of 2019 as a result of higher debt and more shares outstanding.
Much to the frustration of the industry, the U.S. Centers for Disease Control and Prevention hasn’t set a firm date for the resumption of voyages from U.S. ports, although the agency did say last week in an email to Barron’s that it desired a “resumption of passenger operations in the U.S., expressed by many major cruise ship operators and travelers, hopefully by midsummer.”
Norwegian Cruise Line recently offered to sail ships with fully vaccinated passengers and crew to break the logjam and restart U.S. voyages in July.
Norwegian’s CEO, Frank Del Rio, told CNBC that “it’s time to get back to cruising” and that fully vaccinated ships will be among the safest venues anywhere.
Scholes says that fully vaccinated ships may not be a long-term solution for the industry, given that a sizable percentage of Americans are vowing not to be vaccinated.
Note: Net debt is debt less cash and equivalents. Enterprise value is equity market value plus net debt *Nov. fiscal year end. E=estimate.
Sources: Morgan Stanley; J.P. Morgan; FactSet
Asked about fully vaccinated ships, Carnival’s Donald said this past week that the company would “have to see how that evolves.”
“The key thing is mitigating risk,” he said. “We can’t be—prefer not to be and hopefully won’t be—asked to stand up to a zero risk standard because, frankly, nowhere else in society is that being considered. We just like to be treated similar to the rest of travel and entertainment and tourism sector. And so if we do that, we’ll be fine.”
While bookings are strong, it is unclear whether travelers—and particularly older ones, an important demographic—will be as eager to go on cruises as they were before the pandemic.
Investors don’t appear to be reflecting those risks or the earnings dilution from the financing flood in their enthusiasm for the cruise-line stocks.
Write to Andrew Bary at [email protected]