Quick note: It seems like it was a year ago when I wrote that the selloff in Carnival Cruise Line (NYSE: CCL) shares after the Costa Concordia ran aground was overdone. Looking back, it was actually 419 days. At the time the shares were trading at $31.56. The shares subsequently recovered to a high of $39.95. A solid 26.6% return. Today the shares closed at $34.95, still up 10.7%, but 12.5% off the highs.
Last time, I gave a number of reasons why I thought the shares were attractive. As the saying goes, this time, it’s different.
First, Carnival has been hit by a number of “unfortunate” events involving its aging fleet. To be sure, CCL has the largest fleet in the industry so it should have more incidents than its smaller competitors. However, the frequency of problems has increased of late. Just this week, two ships experienced malfunctions. One, the Carnival Dream, had to fly passengers home from St. Maarteen. Not to be outdone, Royal Caribbean, one of CCL’s largest competitors had 106 passengers fall ill with norovirus while on board last week. These incidents cause companies to issue refunds and discounts on future travel. These discounts add up, reducing margins.
Secondly, as the number of cruise related issues rises and remain in the spotlight of main stream media, Carnival will need to offer discounts to lure travelers. On the company’s earnings call, management stated that bookings have recovered “significantly in recent weeks” (after the recent Carnival Triumph incident which received considerable media coverage). However, the question is what did it cost to get those bookings? While some passengers will continue to vacation on cruises despite the mishaps, the marginal traveler will need an incentive. With Carnival being the elephant in the room, if it offers discounts, its competitors will be forced to follow or risk losing market share. This is a slippery slope. For CCL shares to recover, the discounting will need to slow/stop – not pick up.
Thirdly, with the increasing number of maintenance problems, the company be forced to spend more on CapEx. On the earnings call, the CFO stated that “the fleet has gotten a little bit older” and they will be “spending more” on upkeep. The CapEx number for this year is expected to be 33% more than last year and almost double that spent several years ago. These costs will cut into margins which will already be under pressure due to discounting.
Finally, despite the recent drop in price, investors appear to have been conditioned to expect these types of “headline” events. Following the Costa Concordia accident, the shares were 34% off the 52 week high. As noted above, the shares are now only 12% below the 52 week high.
I believe the shares are likely to languish for a time while investors and management determine the extent of work needed to get the fleet back in shape and bookings back to historic levels.
Full disclosure: I have no position in the stock but may purchase shares in the next 72 hours.
