Without question, the COVID-19 pandemic impacted Carnival (CCL 2.57%) and its peers in ways they will feel for years to come. The cruise line and its competitors had to find a way to survive without revenue. But despite this challenge, passengers still want to take cruises, a factor that has helped Carnival's revenue sail higher again.
However, the pandemic exposed green flags and red flags for Carnival stock. Investors should weigh the benefits and challenges before considering a position in this stock.
Green flag: Market leadership
One factor that stayed in place was Carnival's market leadership among cruise line stocks. According to Cruise Market Watch, 42% of all cruise passengers sailed on a Carnival-owned ship. This was well ahead of Royal Caribbean at 24% and Norwegian, which claimed about 10%.
This lead has positioned Carnival well now that demand has returned. Carnival had placed more than 90% of its fleet back in service as of the end of fiscal Q2, which ended May 31. Additionally, occupancy rose to 69%.
That does not compare to fiscal 2019 (which ended Nov. 30 of that year), when occupancy could exceed 100% as it put more than two passengers in a room. Still, occupancy rose at a time when capacity surged 25%. Since Carnival operates the largest fleet, it positioned itself to accommodate rising demand.
That process has begun as it brought in more than $4 billion in revenue in the first half of fiscal 2022. While that is still well under the $9.5 billion generated in the first half of fiscal 2019, it is well on the way to recovery. But the loss in the first two quarters of 2022 of $3.7 billion indicates that the recovery process is ongoing.
Still, analysts forecast a 710% revenue increase for 2022 as Carnival transitions back to full operations. They also believe Carnival can increase revenue by an additional 61% and turn profitable in 2023. That growth could bring a return to full capacity in the foreseeable future.
Red flag: Massive debt
The problem that will probably plague Carnival for years is the debt it accumulated to keep the company seaworthy. Carnival held just over $11 billion in total debt at the end of fiscal 2019.
But at that time, Carnival held only $2 billion in liquidity on its balance sheet. That gave Carnival a modest cushion, but it was not enough to survive more than one year with its only significant revenue source gone.
Hence, Carnival had to take on massive additional debts. As of the end of fiscal Q2, total debt has ballooned to $35 billion. With shareholders' equity at just under $8.3 billion, Carnival's balance sheet is under tremendous strain.
Also, Carnival generated a negative cash flow of more than $4.4 billion in the first half of 2022. Interestingly, that comes in just above the same period of 2021 when negative free cash flow came to just under $5 billion. This means that even if analysts have correctly predicted that profitability will return in 2023, Carnival's debt situation could keep the company in rough waters for years.
Should I consider Carnival stock?
From an investor perspective, Carnival does not look like a winner. With cruise demand remaining strong, Carnival will probably survive and turn profitable again. However, its massive debt will limit the company's options for years to come, making it more challenging to attract investors. Thus, investors should probably consider companies and businesses with comparably smaller debt levels.