With shares down almost 80% over the previous five years, Carnival Corporation (CCL -0.66%) has been a punishing investment for many long-term shareholders as it has grappled with headwinds like the COVID-19 pandemic, inflation, and rising interest rates. Below is an exploration of Carnival's challenges and opportunities over the next half-decade to determine how they might impact the future performance of its stock.
The pandemic is over, but scars remain
The COVID-19 pandemic hit few industries harder than cruising, which saw operations suspended or restricted for much of 2020 and 2021. While Carnival has enjoyed an operational resurgence after this challenging period, the scars remain on its balance sheet. The company's most recent earnings report highlights this complicated situation.
Third-quarter revenue soared to an all-time high of $6.9 billion, a sharp increase from the $6.5 billion earned in the corresponding quarter of 2019, the last pre-pandemic year. Profitability is also rebounding, with Carnival generating third-quarter operating income of $1.62 billion, compared to $1.89 billion in 2019.
However, time has been less kind to the company's balance sheet, which is still saddled with the debt financing that management used to maintain operations during the pandemic crisis.
What could the next five years look like?
Carnival has $29.5 billion in long-term debt as of August, so deleveraging will be a make-or-break issue for the company. And its substantial interest expense can't be ignored. This outflow totaled $559 million in the third quarter and will likely exceed $2 billion annually until management meaningfully reduces the debt principal or manages to refinance its higher interest notes with lower rates.
To be fair, Carnival expects to generate adjusted earnings before interest, taxes, amortization, and depreciation (EBITDA) of $4.1 billion to $4.2 billion, which will help it comfortably manage its interest payments.
Image source: Getty Images.
But over the next few years, the size of Carnival's debt maturities will ramp up significantly from $2 billion in 2024 to $3.2 billion in 2026. The company also faces significant capital expenditures, which are necessary to maintain and grow its fleet of ships. Management expects this outflow to total a whopping $4.1 billion in 2024 alone.
When you combine that with the expected debt principal payments and interest expense, it's hard to see Carnival having much left over for investors. In a sense, Carnival's adjusted EBITDA gives a misleading impression of the company's real financial situation and ability to generate shareholder value after meeting its other obligations.
How about the valuation?
Adjusted EBITDA isn't the only misleading thing about Carnival. Its valuation is also much worse than it looks on the surface. The company's market capitalization is just $16 billion, so shares look extraordinarily cheap. That gives a trailing price-to-earnings (P/E) multiple of just 6, which pales in comparison to the S&P 500's average of 25.
But when you buy a company, you also buy its debt -- a fact best illustrated by a valuation metric called enterprise value, which adds long-term debt to market cap. Carnival's enterprise value of $45.8 billion looks like too much to pay, considering the cash-flow challenges it could face over the next five years and beyond.
