Is Carnival the Ultimate Retirement Share?

LONDON -- The last five years have been tough for those in retirement. Portfolio valuations have been hammered and annuity rates have plunged. There's no sign of things improving anytime soon, either, as the eurozone and the U.K. economy look set to muddle through at best for some years to come.

A great way of protecting yourself from the downturn, however, is by building your retirement fund with shares of large, well-run companies that should grow their earnings steadily over the coming decades. Over time, such investments ought to result in rising dividends and inflation-beating capital growth.

In this series, I'm tracking down the U.K. large caps that have the potential to beat the FTSE 100 over the long term and support a lower-risk income-generating retirement fund (you can see the companies I've covered so far on this page).

Today, I'm going to take a look at Carnival  (LSE: CCL  ) (NYSE: CCL  ) , the cruise ship operator whose brands include P&O Cruises, Cunard, and Costa Cruises.

Carnival vs. FTSE 100
Let's start with a look at how Carnival has performed against the FTSE 100 over the last 10 years:

Total Returns

2007

2008

2009

2010

2011

10-Yr. Trailing Avg.

Carnival

(11.6%)

(28%)

41.5%

40.8%

(26.6%)

6.9%

FTSE 100

7.4%

28.3%

27.3%

12.6%

(2.2%)

8.1%

Source: Morningstar. (Total return includes both changes to the share price and reinvested dividends. These two ingredients combined are what make it possible for equity portfolios to regularly outperform cash and bonds over the long term.)

Carnival's 10-year average trailing total return suggests that its performance has been quite closely matched to the FTSE 100 over the longer term -- and the 21.8% total return the firm has delivered so far in 2012 is all the more impressive when you remember that the year got off to a bad start, with the high-profile shipwreck of Carnival's Costa Concordia cruise ship in January.

What's the score?
To help me pinpoint suitable investments, I like to score companies on key financial metrics that highlight the characteristics I look for in a retirement share. Let's see how Carnival shapes up:

Item

Value

Year founded

1972

Market cap (billion pounds)

5.3

Net debt (billion pounds)

5.7

Dividend Yield

2.5%

5-Year Average Financials

Operating margin

17.3%

Interest cover

6.5 times

EPS growth

(2.6%)

Dividend growth

(0.5%)

Dividend cover

4.1 times

Sources: Morningstar, Reuters, Carnival.

Here's how I've scored Carnival on each of these criteria:

Criteria

Comment

Score

Longevity

Carnival is still quite young.

2/5

Performance vs. FTSE

Fairly respectable, although not quite index-beating.

3/5

Financial strength

Somewhat reliant on debt -- negative cash flow for four of the last five years.

3/5

EPS growth

Adjusted earnings remain lower than in 2007.

2/5

Dividend growth

Cuts in 2009 and 2010 mean that this year's dividend is lower than in 2007.

3/5

Total: 13/25

Carnival's score of 13/25 is pretty bad and suggests that the cruise ship company would not make a good retirement share. So what are the problems?

Firstly, Carnival's dividend history was sabotaged when it slashed the total dividend during the financial crisis. This year's dividend is roughly at 2006 levels and is 40% lower than it was in 2007, but I scored Carnival 3/5 in the dividend growth category because until 2007, it had increased its dividend every year since 1989 -- a good record. Carnival's lack of earnings growth and reliance on debt funding is more of a concern to me, suggesting that the business struggles to generate enough cash and could easily be forced to cancel its dividends once more, in the event of another sharp downturn.

What's more, although Carnival's share price has recovered strongly this year, brokers' pre-tax profit forecasts for 2012 and 2013 are lower than the company's pre-tax profits in 2011, suggesting they expect the cost pressures and decline in ticket pricing that has been experienced this year to continue into 2013. Unsurprisingly, Carnival's Chairman and CEO, Micky Arison, disagrees with this assessment and in the company's third-quarter trading update, he told investors that he expected to see "a recovery in cruise ticket prices beginning in the second quarter of 2013." Arison also said that "a measured pace of new builds" would enable the company to generate "significant excess free cash flow," which would be returned to shareholders.

I do not think that Carnival is a good buy for a retirement portfolio at present -- its short-term outlook is uncertain and its 2.5% yield is below the FTSE 100 average, while its shares look expensive to me. What's more, I am confident that there are far more attractive FTSE 100 shares available for retirement investors, some of which feature in the report I mention below.

Top income picks
Doing your own research is important, but another good way of identifying great dividend-paying shares is to study the choices of successful professional investors.

One of the most successful income investors currently working in the City is fund manager Neil Woodford, who manages more money for private investors than any other City manager. Neil Woodford's High Income fund grew by 342% in the 15 years to June 2012, during which time the FTSE All-Share index managed a gain of only 125%.

You can learn about Neil Woodford's top holdings and how he generates such fantastic returns in this free Motley Fool report. Many of Woodford's choices look like excellent retirement shares to me and the report explains how he chose some of his biggest holdings.

This report is completely free and I strongly recommend you download "8 Shares Held By Britain's Super Investor" today, as it is available for a limited time only.

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