No industry on Earth was hit harder by COVID-19 than the cruise business. Packing guests into an enclosed ecosystem on a ship was just not doable. Getting people to sign up for slimmed-down experiences and mask wearing was a tough sell once ships were again allowed to operate. Still, we didn't see any of the major operators enter bankruptcy protection, which is pretty incredible, all things considered.
Now that travelers are looking to put the pandemic in the rearview mirror, there is excitement in the air and investors could be tempted by "reopening" stocks like Carnival Corporation (CCL 1.58%). Unfortunately, there are sharks in the water that some investors may be overlooking.
The good news first
Carnival finally sees the light on the horizon after the worst period in its history. Revenue is gaining steam, and the company expects to be EBITDA positive by the summer of 2022. At the end of March, the company was operating at 54% occupancy, a slight dip from Q4 2021 but a massive increase year over year (YOY).
The first quarter of fiscal 2022 also saw sales of $1.6 billion. By contrast, Q1 of the prior year produced only $26 million in sales. Unfortunately, the increase in sales did little for operating profits as the company lost $1.49 billion in Q1 FY22, as shown below.
Data source: Carnival. Chart by author.
This is a common theme. Carnival produced $1.3 billion in sales in Q4 FY 2022 but still posted a larger operating loss than for the same period of 2021, when sales were just $34 million.
Image source: Getty Images.
Carnival is pursuing an optimization plan to trim the fleet by removing 22 of its less efficient ships. Hopefully, this will bolster the company's profitability in the long term.
Is the debt too much to overcome?
Sometimes, it is easy to push the balance sheet aside when the income statement shows improvement. However, Carnival has a mammoth problem that few may want to talk about. Many industries in the U.S. received immense government assistance in the pandemic. Carnival received none. The company is incorporated in Panama to avoid some U.S. taxes. This strategy backfired big-time during the pandemic. Without government help, Carnival took on a gargantuan debt load, as shown below.
CCL Financial Debt (Quarterly) data by YCharts
Shareholders must know that in the case of a reorganization, debt holders get paid first and stockholders last. Just how massive is the debt load? Let's look at some figures.
Carnival produced significant operating profits in each of the seven years before the pandemic, along with positive cash from operations (CFO). However, even if all seven years were combined, and each cent were used to pay off the debt, Carnival would still be underwater, as shown below.
Data source: Carnival. Chart by author. CFO=cash from operations.
Unfortunately, it gets worse. A cruise line also has significant capital expenditures (CAPEX) that must be made to keep up the fleet. Below is the result of subtracting capital expenditures from the cash provided by operations. As shown, the combined seven years is no match for the debt.
Data source: Carnival. Chart by author. CFO=cash from operations.
This is probably another reason Carnival is reducing its fleet. It simply cannot afford to keep it.
Long-term investors beware
Luckily, the debt is not all due at once. Between now and the end of calendar year 2025, $11.1 billion in principal is due. On the other hand, Carnival also has $16.9 billion in CAPEX commitments over this time. Carnival lost $1.2 billion in cash from operations last quarter, and another $2.7 billion went to CAPEX. Unless something changes drastically, there is a strong chance the debt will need to be refinanced at some point. This will put the company further behind as interest rates rise.
Stock traders may do well with Carnival. Some short-term investors could be enthused by rising occupancy numbers and positive news of increased bookings. Some will see the stock price and believe this company is a bargain with tailwinds to come as the pandemic wanes. Long-term investors should dig deeper. Storm clouds are still brewing, and Carnival may have already taken on too much water.
