At $7 per share, Carnival (CCL 1.13%) (CUK 0.88%) has fallen by an eye-watering 67% since the start of 2022. And that underperformance might be surprising to those who expected the cruise company to post a sustained rebound after the COVID-19 pandemic. Unfortunately, the pandemic left the company with some heavy baggage. And third-quarter earnings demonstrate the severity of the problem.
How did Carnival's mess start?
Starting in 2020, cruise ships were the site of massive COVID-19 outbreaks. This prompted health agencies like the Centers for Disease Control and Prevention to impose no-sail orders on the industry in March of that year. With its cruise ships parked and annual revenue falling to as low as $1.9 billion in 2021 (from $20.8 billion in 2019), Carnival sold 19 ships, tapped debt markets, and turned to equity dilution to raise the capital it needed to survive the crisis.
In 2020 and 2021, Carnival generated a combined net loss of $19.7 billion, saw its long-term debt balloon from $9.7 billion to $28.5 billion, and had its shares outstanding increase from 690 million to 1.12 billion (a jump of 62%). Now, the company will struggle to manage this baggage, even as operations normalize.
Image source: Getty Images.
Third-quarter earnings were disappointing
Carnival's third-quarter earnings were a mixed bag. Revenue skyrocketed by 688% year over year to $4.3 billion because of easy comps against the prior-year period. The company also saw its operating loss narrow from $2 billion to $279 million and reported positive adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) of over $300 million. That said, the results probably aren't enough to move the needle because of Carnival's disastrous balance sheet.
While Carnival's $28.5 billion in long-term debt would be a headache for any unprofitable company, the interest expense that comes with it is another huge problem. This outflow totaled $422 million in the third quarter and will be a long-term drag on cash flow and profitability. But it doesn't end there.
According to management, Carnival was using around 95% of its capacity to serve guests as of Sept. 30. And the company expects eight of its nine brands to utilize their entire fleet by the fourth quarter. While this shows strong consumer interest in cruising, it also suggests Carnival may be near the upper limit of its growth potential and may need to purchase additional ships if it wants to expand further. Such a move would put even more pressure on its already strained cash flow.
Cheap for a reason
Trading for just $7 per share, Carnival is far from its all-time high of $66 reached in 2018. But the low price doesn't make the shares a good deal. While the beleaguered company may eventually regain its pre-crisis revenue, profitability and cash flow will remain elusive because of its astronomical debt load and interest expense. Investors should give the stock a wide berth until these challenges are resolved.
