Trading recently for $43 per share, Royal Caribbean (RCL 0.06%) was down a staggering 46% year to date -- despite a booming sales recovery in the wake of the COVID-19 pandemic. While the cruise company is quickly returning to normal operations, its mountain of debt remains a challenge.
A battered industry
Few industries faced the negative effects of the pandemic as much as cruising. With their tight spaces and often poor ventilation, passenger ships became ideal incubators for the fast-spreading virus. And in March 2020, the U.S. Centers for Disease Control imposed a seven-month no-sail order on the industry, preventing these companies from operating in their most crucial market.
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The dramatic drop in income (Royal Caribbean generated an operating loss of $4.6 billion in 2020 and $3.87 billion in 2021) forced the company to sell some of its older ships, issue new shares, and tap the debt markets to raise the capital it needed to survive.
That said, it seems to be enjoying a booming recovery in the wake of the crisis.
An impressive recovery
Royal Caribbean's second-quarter earnings reveal how quickly it is bouncing back from the pandemic. Total revenue skyrocketed from $50.9 million to $2.18 billion year over year as the company returned its entire global fleet to operation. Nevertheless, operating costs remain elevated due to challenges such as inflation and rising energy costs, which helped contribute to an operating loss of $218.6 million in the period.
The bottom line weakness is a major challenge because Royal Caribbean's balance sheet deteriorated over the past few years. The company reports long-term debt of $17.74 billion, which it expects to correspond to interest expense of between $310 million to $320 million in the third quarter. That said, management seems optimistic about the future.
About 70% of the debt is tied to fixed interest rates, limiting the negative effects of the Fed's rate hikes on its solvency. And management expects a swing to GAAP profitability in the third quarter with earnings per share of $0.05 to $0.25. They also expect adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) of $700 million to $750 million, putting the company in a good spot to potentially start handling its substantial debt load.
The best of a bad bunch?
Royal Caribbean's biggest rival, Carnival Corporation, released its third-quarter earnings this month. The company reported significantly more long-term debt ($28.5 billion compared to Royal Caribbean's $17.74 billion), and significantly less adjusted EBITDA -- $300 million compared to Royal Caribbean's expected $700 million to $750 million in the period. Between the two, Royal Caribbean seems to be in a much better position to handle its debt and eventually start creating value for shareholders.
That said, the cruise industry as a whole remains risky. Both companies are ill-prepared to handle macroeconomic challenges like rising interest rates and the possibility of global recession presenting another crisis before they have fully recovered from the last one. Investors should tread with caution until some of these issues are resolved.
