New retail investors are pouring into the stock market at an unprecedented rate, and the commission-free trading app Robinhood is at the forefront of this trend. The app has become highly popular among novice investors because of its low fees (if any) and user-friendly interface. And those relative newcomers often flock to the same subset of stocks.
But not every popular Robinhood stock is worth buying. Indeed, some of the companies in that list could drag down your portfolio. For example, the risks of investing in Carnival Corp. (CCL -0.28%) and Lyft (LYFT -2.66%) seem to outweigh the rewards because of their cash-burning business models and the headwinds they face from coronavirus-related challenges to the economy.
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Carnival Corporation: Sinking under a mountain of debt
With shares sitting around $16 as of this writing, Carnival is trading at a huge discount to its pre-coronavirus, year-to-date high of over $50. But even at that low price, it still may be overvalued. The embattled cruise line operator remains an extremely risky bet because of its heavily leveraged balance sheet, the failure of the U.S. to control its domestic coronavirus epidemic, and the resurgent COVID-19 outbreaks in other parts of the world.
Carnival has taken on significant debt to maintain its liquidity during the crisis, and this will be a long-term drag on earnings and cash flow due to the rising interest expenses.
In the second quarter, the company reported $20.82 billion in debt on its balance sheet compared to just $6.88 billion in cash and equivalents. The books will look even worse when the fiscal third-quarter report arrives: Management has estimated its cash burn in the second half of the year will average $650 million per month, and the company took on even more debt in July and August.
The good news is that Carnival plans to resume operations for its Italy-based Costa Cruises on Sept. 6 and Germany-based AIDA Cruises on Nov. 1. The bad news is that new diagnoses of COVID-19 are surging again in parts of Europe, and that could present some serious execution risk for that strategy. Moreover, it could influence both consumer behavior and government policy with regard to cruises, further hampering what is already expected to be a slow, gradual recovery for the industry.
The U.S. Centers for Disease Control and Prevention's no sail order for cruise ships is currently scheduled to expire on Sept. 30, but it could be extended further if public health considerations warrant it.
Lyft: Relentless cash burn and declining profitability
Unfortunately, a good product doesn't always equal a good stock. Despite the soaring popularity of ridesharing (the industry is projected to grow 20% annually through 2025), Lyft stock has consistently traded lower since its March 2019 IPO. Shares have fallen 30% year to date and are down nearly 60% from the original IPO price of $72 per share.
Lyft's weakening margins make it a bad bet for investors, because even as the top line grows, so do its losses. Take a look at the company's profitability over the last three years:
| Year | 2017 | 2018 | 2019 |
|---|---|---|---|
| Revenue | $1,059.9 | $2,156.6 | $3,616 |
| Gross margin | 37.8% | 42.3% | 39.8% |
| Operating margin | (66.8%) | (45.3%) | (74.7%) |
Data source: Lyft financial filings. Table by author.
The company reported a gross margin of 39.8% in 2019, which means that for every dollar it generated in sales, around 40 cents remained after paying out insurance costs, payment processing charges, and personnel-related compensation -- a burden that could increase due to political pressure to reclassify drivers as employees in the state of California.
Tack onto that the massive spending on research and development -- $1.51 billion in 2019, much of that related to its autonomous vehicle development program -- and profitability remains a far-off ideal rather than a near-term reality.
But investors want to see profits and value creation, and management is making big promises when it comes to its plans for delivering on the bottom line. During the second-quarter earnings call, founder and CEO Logan Green claimed that Lyft could attain adjusted EBITDA profitability by the fourth quarter of 2021. Keep in mind that challenges from COVID-19 sent revenue plummeting 61% year over year during the quarter.
As a result, the company reported an adjusted EBITDA loss of $280.3 million in the second quarter, down $76.2 million from the prior-year period. Investors should avoid Lyft stock until management can prove that the bottom line is truly turning around.
