Carnival (CCL +0.21%) (CUK 0.21%) shares plummeted during the early days of the pandemic for a very obvious reason. The world's biggest cruise operator was forced to anchor its ships. But the stock started to recover early last year as Carnival prepared to begin cruising again.
Since then, Carnival has lost about 70% from the high it reached last June -- even as most of its fleet returned to the seas and future bookings have climbed. Does this equal a buying opportunity, or should you avoid this beaten-down stock? Let's take a closer look and find out.
A mixed bag
Carnival's situation is a mixed bag of positive and negative points at the moment. We'll start with the positive.
The cruise giant reported an 80% increase in revenue in the third quarter of this year, compared with the second quarter. Carnival's adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) turned positive for the first time since sailing resumed.
The company also said booking volumes for future sailings are topping the already strong levels of 2019. And Carnival predicts occupancy will return to historical levels as soon as next year.
Carnival has also made efforts to streamline its business. And these efforts should help reduce costs and increase revenue over time. For example, it's replaced more than 20 smaller ships with nine larger, more efficient ships.
These changes equal a 10% increase in fuel efficiency and 6% more efficiency when it comes to operating costs. The new ships also offer opportunities to generate more revenue, thanks to their mix of cabins and their variety of onboard experiences. These efforts could boost return on invested capital -- a metric that's suffering right now.
CCL Return on Invested Capital data by YCharts
All this sounds great. But there are reasons to worry about Carnival too. And that starts with debt. The company's debt levels have soared since the start of the pandemic.
CCL Total Long Term Debt (Annual) data by YCharts
The interest rate environment
Today's environment of interest rate hikes isn't good news for variable rate borrowings. Carnival's total interest expenses could climb more than 12% this year, according to EuroFinance estimates.
The problem of rising interest rates may also weigh on bookings. Consumers, too, are feeling the effect of higher prices on basics like food and gas. They have to buy those essentials. So, they may have less money left over to spend on vacations such as cruises. This means today's environment isn't very supportive of Carnival's business.
Carnival's net loss year over year has narrowed. That's positive. But a net loss of $770 million in the third quarter still indicates the company has a long way to go to reach recovery.
NYSE: CCL
Key Data Points
Now, let's take a look at valuation. Today, Carnival shares are trading at 1 times sales. In the three years prior to the pandemic, they traded as high as 3 times sales. This looks like a reasonable price -- if Carnival's revenue growth and cost efforts can eventually unlock profitability. Prior to the pandemic, Carnival reported billion-dollar profit over nearly two decades.
Time to buy?
So, considering all of these points, is it time to buy? That depends on your comfort with risk. If you're a cautious investor, you may want to wait for a couple more earnings reports from Carnival to monitor the company's progress. You might want to keep an eye on whether inflation truly does affect future bookings, for example.
If you're comfortable with risk, though, you may want to pick up a few shares of Carnival at this level. The company still faces choppy waters ahead. But some of the positive points I've mentioned here could lead to growth over the long term -- and that may spark share price gains over time, too.
