2009 | 2010 | ||||||
Price: | 19.00 | EPS | $0.80 | $1.80 | |||
Shares Out. (in M): | 214 | P/E | 25.3x | 10.4x | |||
Market Cap (in $M): | 4,066 | P/FCF | neg | neg | |||
Net Debt (in $M): | 6,458 | EBIT | 509 | 797 | |||
TEV (in $M): | 10,524 | TEV/EBIT | 20.7x | 16.5x | |||
Borrow Cost: | NA |
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As a result of massive indebtedness, the cruise operator RCL has become a form of a Ponzi scheme:
It needs an ever larger fleet to service its ever growing mountain of debt. For this purpose, it needs ever increasing access to cheap financing to pay for its larger fleet and refinance upcoming maturities. However, it seems like lenders are not as enthusiastic as they once were...
The macro themes of this idea are similar to todd1123's posting of CCL on 11/3/08. The reader is advised to review that idea as I have chosen not to repeat what was well written there. I believe, however, that RCL is a weaker player, with a much weaker financial position.
Thesis
-RCL is priced for more than perfection
-The dynamics of the market are such that it will not be able to fill large capacity increases without sacrificing margins
-It is highly levered with $6.5b of net debt, growing to $9b by the end of 2010; even under generous assumptions
-RCL will not generate positive free cash flow until 2011 at the earliest
-Its cost of debt is and will most likely continue to increase as it has to refinance substantial amounts of debt
-Insiders at CCL are selling stock
-Any threat of a flu or similar event could put a lot of pressure
The industry is plagued by overcapacity and getting worse
Cruise operators serving the mass market seem to be engaged in an expensive and ever increasing "arms race". Over the past few years, these operators have grown capacity in the high single digits, on average. Going forward, RCL is growing capacity by 7% in '09. 13% in '10, and 9% in '11. Concurrently, CCL is growing capacity by 5.5% in '09, 8% in '10, and 6% in '11. RCL and CCL are simply adding too much capacity. Their model seems to be: build it and they'll come. This does not make sense.
Given the long lead times for delivery of new vessels, it seems to me that cruise operators got too far ahead of themselves when they committed to their new build schedule. As we know now, throughout the rest of the travel industry (and many others) too much capacity was added and excessive future commitments were made. As the economy soured, cruise operators were left deep in debt and with few alternatives but to put a brave face.
It is well known that airlines continue to cut capacity and postpone/cancel deliveries for fleet additions. This is a clear sign that demand is simply not there; let alone huge additional demand to fill up the new RCL and CCL vessels. Is one expected to believe that cruise operators have "THE crystal ball" and everyone else in the industry has made the wrong forecast? More plausibly, cruise operators can not get out of their commitments to increase capacity. Further, to survive, they need their lenders and the market to believe that demand will be there to fill their new vessels.
The new vessels will save the day, or so they hope
I understand that the bull thesis revolves around growth coming from additional capacity and margin expansion from more efficient vessels. RCL clearly committed to the new vessels under a very different consumer environment. If all it takes to grow the top line is to bring new capacity to the market, then we would be witnessing all leisure travel providers adding capacity. As mentioned above, this simply not the case. Actually, leisure operators are cutting everywhere they can.
Let's first examine how much margin expansion RCL can derive from more efficient vessels. The answer is: very little. RCL is adding 7% capacity in 2009 and 13% in 2010. It claims that these vessels are up to 40% more fuel efficient. Current net cost per APCD is $122.5: fuel $21, payroll $25, food $13, other op $36, sg&a $27.5. A 40% more fuel efficient would have a total net cost per APCD of $114. Thus, for the year 2010 the mix would be close to 90% existing fleet and 10% new more efficient vessels. Assuming occupancy remains north of 105%, the weighted average net cost per APCD would be $121.65; a decrease of less than 1% on the total.
It seems pretty heroic to assume that occupancy will remain at these levels; especially in the context of flat to increasing revenue yields. This seems almost impossible to happen in a depressed consumer environment.
Reason points to pressure on revenue yield and margins
How can one believe that revenue yield will increase at the same time that massive amounts of capacity are coming on line and the consumer has not only lost substantial purchasing power but also has learnt that cruises are now on sale? Is there anyone who really thinks that consumers will be outbidding each other to get on these boats? Doesn't the fact that there has been huge compression in the booking to sailing lead time say anything about the dynamics of this market? Cruise operators are heavily discounting their prices to avoid a collapse in occupancy. In recent reports, both RCL and CCL show a drop in revenue yield, occupancy, and lead time. Think about it, consumers are now aware that cruises are on sale; just like very much every other travel alternative. Thus, those who booked a long time ago and paid non-sale prices hate the idea that others who waited got much better deals. Those who waited, and got a good deal, will wait again for a bargain. This dynamic is here to stay; especially in the face of huge additional capacity that has to be filled.
My guess is that, ceteris paribus, cruise aficionados will desert the old boats in favor of the new, more exciting vessels. This will necessarily put pressure on industry pricing; as operators further discount old vessels.
I can not see a reasonable scenario where pricing and occupancy recover in the foreseeable future. Cruise operators will have to be very aggressive to fill massive amounts of additional capacity. Even absent brutal competition within the sector, discounts throughout the rest of the leisure sector will have a substantial negative effect on it. Although cruise companies would probably want you to believe that they are not just one more vacation option, this is precisely the case. Consumers considering a vacation are finding huge discounts across the whole spectrum; and it does not seem like this will change in the foreseeable future.
Even under assumptions favorable to RCL, it will consume $2.5 billion
RCL has guided net revenue yield to decrease by 14% and capacity to increase by 6.7% in 2009. Thus, $6b in 09 revenue looks reasonable. For 2010, capacity is scheduled to increase by 12.7%. Assuming a modest net revenue yield decrease of 3%, revenue would be close to $6.65b. It is difficult to see how there could be a rebound in margins under these circumstances. However, to be conservative in the analysis, let's assume favorable conditions for the operator allowing for a 21% ebitda margin:
Millions of US$ |
2008a |
2009e |
2010e |
Revenue |
6,533 |
6,050 |
6,650 |
Ebit |
832 |
509 |
797 |
Ebitda |
1,352 |
1,059 |
1,397 |
Ebitda margin |
20.7% |
17.5% |
21.0% |
Capex |
(2,224) |
(2,100) |
(2,200) |
Ebitda-Capex |
(872) |
(1,041) |
(804) |
Cash from ops |
1,071 |
711 |
991 |
FCF* |
(906) |
(1,240) |
(1,209) |
Net debt |
6,608 |
7,848 |
9,056 |
*FCF=cash from ops-capex+net proceeds from disposals ($247 in '08, and $150 in '09)
RCL is priced for more than perfection
At $19/shr one will be paying $13.1b for $800m of Ebit; a multiple of 16.5x on 2010 figures (Ebit and debt). Even with the nearly 0% income tax rate that it has, such a rich valuation does not make sense for a business with very poor ROIC.
RCL has a poor ROIC profile both in absolute and relative terms. Over the last three years, when operating metrics were much stronger than they currently are, the company's average ROIC was below 8%. Over the same period, CCL had an average ROIC of 12%. Further, the cash flow profile of RCL is much weaker than that of CCL. Over the last five years, RCL shows ($242) of cumulative negative FCF. During the same period, CCL generated a cumulative $3b of FCF. Despite consuming a lot more cash, RCL has not much to show for it; as it did not grow faster or became more profitable than CCL. Going forward, while CCL will probably be cash flow break even in 2009-2010, RCL will consume no less than $2.45b.
The above estimates do not include an increase in the average interest rate RCL has to pay on its debt. It looks very likely, however, that its cost of borrowing will significantly increase. For example, the interest rate on it most recent ship financing by an export financing bank was well above previous levels (variable portion @ LIBOR+300 vs LIBOR +100 or less previously). Similarly, in July RCL issued $300 million of 11.875% senior unsecured notes due 2015 at a price of 97.399% of par; an effective interest rate of 12.2%.
RCL has a mountain of debt to refinance over the next few years. This last senior notes transaction serves as an indication of the company's real cost of capital. Isn't it reasonable to see this last transaction as the new standard for RCL? Would you lend to this company at a lower rate just after it agreed to pay someone else 12%? As RCL refinances sub 5% debt with ~12% debt, its cash flow profile will deteriorate in tandem.
It is interesting to note that for at least one of its new vessels, the financing (for 80% of the vessel price) will be secured by the vessel if the credit rating of senior debt falls below BB-, its current rating. This is a new development, and a clear indicator that lenders are not as bullish on the company.
In a nutshell, RCL is a:
-consumer discretionary,
-low ROIC,
-high capital intensity,
-highly levered,
-cash flow negative,
-priced for perfection stock, trading at a wild absolute and relative multiple.
Further deterioration in occupancy, revenue yield
Additional debt re-financings at 10%+
show sort by |
# | AUTHOR DATE SUBJECT |
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28 | |
Sure, FCF and ROIC matters for the business itself, and I would be looking at it if I was contemplating a long position. But when I am considering a short, I am trying to understand how the stock trades, which in this case is clearly on the EPS, and get into the minds of the buyers and understand how they think about it.
On CCL vs RCL, again, I am having a hard time understanding the argument in favor of CCL. Yes, it is a better run company, but it is also priced as such. Its cost structure is very lean and ROIC is higher, and yes they pay dividend, and because of all this there's very little incremental upside.
RCL can (at least in theory) achieve results similar to CCL, but for CCL to get better than they already are is nearly impossible. This is how buyers of RCL think, and this is why RCL is outperforming CCL. | |
26 | |
I have no idea why so many people seem to think that FCF matters for this stock. Sector specialists (leisure) have been in love with this stock as it offers the most upside in their sector and it clearly trades on the EPS, which is going to grow over 50% in 2011 and another 25% in 2012. On 2012 numbers the stock trades at just 11x P/E and I would not be surprised to see it go to $60 once people start applying higher multiple to 2012 earnings as the year progresses.
The argument about 9bn of debt is also baffling. High level of debt would only be a problem if either (1) they wouldn't be able to refinance upcoming maturities or (2) interest rates move up. Otherwise, it provides substantial financial leverage to the upside. Now, RCL doesn't have any substantial maturity until 2013 and the Fed just made it clear that the interest rates are to remain low. So what is the catalyst here exactly?
I think RCL will be a fine short one day.. when we get to the point where the EPS growth hits the tough comps phase, the market applies top multiple on top earnings and interest rates begin to rise putting upwards pressure on their cost of debt. This day is yet to come. | |
24 | |
I agree. I have no idea how can Mr Mkt justify a $20b valuation (current TEV $18.5b +1.5b negative FCF in 4q). If everything goes well it will generate $500 million of FCF in 2011. There you have it, a 40x multiple for a sub 10% ROIC biz. (There are tons of great companies trading at a fraction of the multiple: GOOG 20x '10 FCF, MFE being acqd at a huge premium at 14.5x '10 FCF...) | |
21 | |
My take is that RCL is an excellent vehicle to express a short consumer, long oil, and short the credit markets for round two of the next impending debacle which will start as investors take note that not only is Greece unsolved, it is a sign of future soverign complications that have yet to rear their heads. Real job creation ? I don't think so. Borrowing costs will start to rise and that should weaken any real recovery. Home prices won't appreciate when the same mortgage payment buys a less expensive house. Sorry for not getting more technical on RCL's business but I don't feel that I have to in this case. There is excess capacity in the business and they launched their 10,000 lb gorilla at exactly the wrong time. My target is $20.00 | |
19 | |
Looks like fuel costs ate into Carnival's profits, but not enough to offset their pricing power. RCL shares followed. Any update from you on how you see the lay of the land...(or sea for this matter)...? | |
18 | |
I'll post a more extensive analysis tonight. For the time being, it is quite clear to me that RCL is dramatically overpriced. Results for 2009 were mostly in-line with my estimates (as per the write up). The guidance for 2010 implies results below my estimates. This means that by the end of 2010 RCL will have $9.2b+ of net debt. If all goes well for RCL in 2011, it may generate a couple hundred million of FCF (defined as Cash from ops - Capex). Thus, for all practical purposes, RCL will have to carry a huge debt load indefinetly. At $26/shr a year from now, RCL would have a TEV of aprox. $14.9b. It is hard to justify paying $14.9b for an entity that yields a few hundred million of free cash flow. vL | |
17 | |
I am neither short nor long, but have been following the name. My reaction is that ex legal settlement the stock is trading bet 14 and 16x next year's earnings. While this is not terribly expensive, the next 3 years will result in a net - net zero to negative free cash flow. Thus, you either have to think that - a) fuel prices are set to plummet (they are 50% hedged this yr and next) b) the economy gets really robust really fast, or c) management are geniuses at further expense cutting - in order to like this name. We know that capacity is growing and while pricing has recovered off of the lows, RCL's market share (ex the hyped up Oasis) likely force it to be a price taker in a prolonged sluggish environment. I would short this stock in the high 20's low 30's as the downside far outweighs the upside. I hope my thoughts are helpful, though I would also like to see what the original author of the idea thinks. mrSOX | |
15 | |
As far as I can tell, CCL's results were slightly better than expectations due to lower opex. Management commented that the majority of the costs that can be taken out without major restructuring have been taken out. Fuel will be the wild card going forward. Cruise demand seems to be pretty elastic; although on-board spending is weak. North and Southamerican markets are weaker than Europe. Further, CCL is not planning to reinstate the fuel surcharge. Guidance continues to call for revenue yield compression; despite mgmt comments on how volume is recovering. I find it noteworthy that management mentioned something along the lines of "we just hope that demand will grow in excess of schedule capacity increases." Management also mentioned that recovery will likely take longer than the two years it took last time. It is unclear how exactly they are defining recovery. CCL mentioned that they completed two (or three?) financing transactions during the quarter; but did not disclose the terms. We'll have to wait for the 10q. Something tells me that if the terms were favorable, the company would have mentioned it. Also, the 10q will provide clarity on the company leasing instead of buying new ships. A caller asked a question about the effect on earnings. The answer seemed deliberately confusing. The valuation discrepancy between CCL and RCL is remarkable; even without adjusting for CCL having better financial metrics (including much healthier cash flow). It is also noteworthy that CCL advanced 3% (from $32 to $33) on the two trading sessions following its earnings release. In contrast, RCL advanced 10%. However, it is not advancing on particularly strong volume. CCL seems fully valued at more than 15x earnings that do not fully account for "economic" interest expense. Further, it does not seem likely that the dividend will be restated in the foreseeable future. And management does not expect meaningful cash flow until 2011 or 2012. For its part, RCL is trading at over 30x earnings that likewise do not reflect true economics. With CCL committed to sailing full, RCL seems quite vulnerable due to its negative cash flow profile and huge debt pile. Further, RCL is adding capacity to the weaker Northamerican market... I would be very interested in the details of the bull case. | |
14 | |
Any thoughts on CCL's results and the move up in RCL? Thanks | |
13 | |
"Friday, September 11, 2009 - The number of scheduled domestic and international passengers on U.S. airlines in June 2009 declined by 6.2 percent from June 2008, the Department of Transportation's Bureau of Transportation Statistics today reported. June was the 15th consecutive month with a decrease in passengers from the prior year. For the first six months of 2009, the number of scheduled domestic and international passengers on U.S. airlines declined by 8.9 percent from the same period in 2008"
| |
11 | |
is anyone hearing anything on the name today up 11% on no news? | |
10 | |
Thanks for sharing the highlights of the report. I guess you are not necessarily interested in my refuting the report's arguments or numbers. In any event, I would just add to what I have mentioned (in the write up and discussion) that job creation is still negative and pricing could not be firm as mgmt has guided to -14% change in net revenue yield. Lastly, as the company refinances upcoming maturities at higher interest rates, it will be hard to justify prospective eps north of $1.50.
| |
9 | |
It is hard to come up with an "average year" CFFO-Maintenance Capex. The main reason is overcapacity (current and committed) and over-indebtedness. Thus, I don't think it is realistic to assume historic averages. In the write-up I included what I believe to be conservative (from the short side) cash flow projections. Now, if I had to, my CFFO-Maintenance Capex estimate would be $250 ($750-$500) or $1.15/shr. This estimate provides for a huge rebound in margins. It also assumes a higher interest rate, but definitely not quite the 12% on their recent bond issue. To do steady state on the existing fleet, one has to consider a market interest rate; as the subsidized rate was only available on new ships. | |
8 | |
You are right, pretty much all the loans and bonds are unsecured. Their current cost of the debt on the b/s (pre 12% bond recently issued) is around 5%. The L+300 is not a market rate, and is not available to refinance existing debt. If RCL could have obtained a low interest loan, it would not have issued bonds at 12%. Rather, these loans are a form of government subsidies to shipyards. These financing arrangements will most likely not continue going forward; as they are only available for new builds. With the amount of excess capacity in the sector, RCL will not be ordering new ships anytime soon. Further, even these subsidized loans require RCL to come up with 20% of the purchase price. I would like to answer your question regarding occupancy. Could you tell me why it is important to figure out the mix of empty berths vs those with more than 2 passengers? For what it is worth, there seems to be a good correlation between margins and occupancy (as reported).
| |
6 | |
Any idea what maintenance capex is ? If they never bought another vessel and just maintained the current fleet, and occupancy/pricing remained at historic averages, what sort of CFFO-Maintenance Capex would they generate in an 'average' year? Thanks. I enjoyed the post. | |
4 | |
swine flu will be very nasty this fall in all likelihood...cant imagine many folks wanting to take cruises....this will deal a real blow to the debt-laden cruise lines among others...and yes, i am short this and carnival | |
3 | |
Raises price target from 18 to 23. Cites continued demand for North American and European sourced cruises and strong value proposition. Expects improved 2010 and 2011 numbers stemming from new hardware. Says Oasis pricing trending 20-25% above older hardware. Says pricing remains solid except for Alaska and certain parts of Europe. Believes "close-in pricing" will exceed expectations. Uses 12 multiple on 2011 EPS of 1.90 (has 2009 eps of .75 and 2010 of 1.68). | |
1 | |
who is buying this at 20$ per share...what is the bull case here? |
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