Carnival Corporation: More Compelling, Still Not Getting Onboard
Contributor since 2011 / 24595 Followers
Summary:
- Carnival Corporation shares have fallen by a third since July despite delivering on promises and narrowing operating losses.
- Revenues have recovered, but the company has dug a huge hole in terms of massive shareholder dilution and leverage taken on the balance sheet in recent years.
- The risk-reward for Carnival shares is better now, but the company is still breaking even at best and faces potential challenges if demand retreats.
Joel Carillet
Early in July, I believed that shares of Carnival Corporation (NYSE:CCL) were on a cruise as break-even levels were in sight. This was a major achievement and made investors rightfully upbeat, and while I shared that takeaway, investors had to swallow a lot of dilution while the balance sheet torched along a great amount of debt.
Potential had to come from continued operating momentum, as I wondered if momentum got carried away a bit too much at the time. Fast forwarding a quarter in time, shares are down a third as the company largely delivered on its promises, making the situation a lot more compelling, as high debt and limited earnings power made me still cautious to get involved.
A Huge Roller Coaster Ride
Pre-pandemic, Carnival was a $21 billion business that posted operating profits in excess of $3 billion, resulting in earnings of around $4 per share based on a share count of 700 million shares. These shares traded at $50, granting the business a $35 billion equity valuation, or $47 billion enterprise valuation if one factors in the net debt load of the business. This was a substantial net debt load, but this of course relates to the asset-intensive nature of the activities.
Revenues fell to $5.6 billion in 2020 and to just $1.9 billion in 2021, with huge multi-billion operating losses reported of $9 billion and $7 billion, respectively. Sales recovered to $1.6 billion and $2.4 billion for the first two quarters of 2022, although the company still posted a loss of $3 billion over that six-month period.
Revenues recovered to $4.3 billion in the third quarter of 2022 but fell back to $3.8 billion in the final quarter of the year, a seasonally softer quarter. With revenues back to $12 billion, the company still posted a $4 billion loss in 2022.
These multibillion losses manifested themselves onto the balance sheet and in the form of serious dilution. The share count rose from about 700 million shares in 2019 to $1.26 billion by 2022, as net debt jumped to $30 billion.
Following a first quarter revenue number of $4.3 billion, Carnival saw operating losses narrow to $172 million. The company produced an EBITDA number of $382 million and guided for full-year EBITDA around $4 billion, making that realistic break-even levels were in sight. While break-even levels would mark a huge achievement, debt was high as interest expenses still resulted in realistic losses, as massive capital spending was forfeited, resulting in greater future capital spending to come.
In hindsight, I was too cautious as a high-single digit stock ran up to $18 in July as second quarter sales came in at $4.9 billion, and the company posted an operating profit of $120 million, with net losses reported at $407 million. The company hiked the full-year EBITDA guidance to $4.175 billion with third quarter EBITDA seen at $2.1 billion, being the seasonally strongest quarter of course.
With nearly $4.2 billion in EBITDA seen this year and D&A already trending at $2.4 billion, I was cautious as interest expenses ran around $2 billion per annum, leaving no realistic earnings. This made that I was not in a rush to chase the shares. In fact, I feared that the business would use the higher share price to tap the equity markets to cut back on debt a further here, a practice done at various occasions since the outbreak of the pandemic.
And Now?
Since the summer, shares of Carnival have seen a gradual setback, having fallen from $18 in July to $13 and change at this moment in time. In September, the company posted a spectacular 59% increase in third quarter sales to $6.9 billion with operating earnings reported at $1.6 billion. After a $518 million interest expense, the company posted net earnings of $1.07 billion, with reported earnings equal to $0.79 per share based on a share count of 1.40 billion shares as these earnings made that net debt fell a little bit to $28.5 billion.
For the quarter the company posted adjusted EBITDA of $2.2 billion, with EBITDA coming in at $3.3 billion year to date. For the year, the company now sees EBITDA between $4.1 and $4.2 billion (implicitly down a bit from a $4.175 billion guidance before) but this comes amidst a $125 million headwind from higher oil prices and unfavorable currency moves.
This means that the July outlook is still intact, as the business is breaking even at best, which is after accounting for interest expenses. While net debt comes in flattish, higher interest rates over time create tougher comparables for the coming year. Moreover, oil prices have recently seen another move leg higher, creating another headwind, and while bookings for 2024 appear to be very strong, there are certainly some signs of the economy cooling off.
Given all of this, I am a bit more upbeat on the shares, for the simple reason that shares are down a third from the levels in July, all while the results are largely in line with expectations. This makes the risk-reward quite a bit better, but I am mindful of the fact that the company is breaking even at best in a year in which demand is strong.
With interest expenses going higher and occupancy rates being already sky-high (over 100% this quarter), the potential to deleverage (while keeping the fleet up to date) is very modest, making shares still a risky play in case demand retreats.
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