Carnival time or cruising for a bruising?

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It would be a brave investor who takes a punt on the shares of the cruise ship operators.

On the plus side, there is unquestionably pent-up demand from those besotted by life on the ocean wave. Without wishing to conform too much to ageist stereotypes, the vast majority of people who normally go on cruise ship holidays have probably had their first coronavirus (COVID019) jab and if they had not had the second already, it is probably imminent, at least for UK customers.

On the other hand, cruise ships were not referred to as “floating Petri dishes” for nothing at the height of the pandemic, and there exists an ever-present danger of an outbreak on one ship setting the whole industry back to “Go” (as opposed to Goa).

Putting the cess into Princess

Last year, the Diamond Princess, the Grand Princess, the Ruby Princess, the Oasis of the Seas and the Zaandam were among the cruise ships that suffered outbreaks of COVID-19.

At present, the guidance from the European Union on the gradual and safe resumption of operations of cruise ships in the European Union is that cruise operators need to ensure that cruises do not pose unacceptable health risks to passengers, staff and the general public, in particular when compared to other types of package holiday.

We’re not there yet.

As for England (as opposed to the UK), domestic cruises will be permitted in England under step 3 of the roadmap out of lockdown, which is scheduled to take place no sooner than May 17.

The eagerly awaited step 4 is scheduled to happen no sooner than June 21. By step 4, the government hopes to remove all legal limits on social contact, which includes lifting capacity limits for domestic cruises.

The Foreign Commonwealth and Development Office (FCDO) advises against international sea-going cruise travel with no sign of it changing that advice.

In the US, the Centers for Disease Control and Prevention (CDC) has effectively barred vessels with a capacity for more than 250 passengers from resuming operations until further notice.

For all the brave talk in the industry, many operators have given up the ghost altogether while even some of the deeper-pocketed operators have reduced their fleets.

Heading for the scrapyard

According to the site Cruisecritic.co.uk, even relatively modern vessels – cruise ships have service lives of 40 years or more – are heading for the scrapyard or are being sold to rivals.

For instance, the UK’s big beastie in the sector, Carnival PLC (LON:CCL) has announced the sale of 13 ships.

In the meantime, those ships that have been given a stay of execution are either in dry-dock for refitting or are reportedly moored miles off the coast of Bermuda (It’s a berth control problem, apparently).

German bank Berenberg thinks there is still good reason to be cautious about the timing and the pace of the resumption of services.

It recently grudgingly amended its earnings assumptions for cruise ship operators to take into account “a more rapid recovery both in terms of a return to full occupancy and a net yield recovery. This brings us into line with the current euphoria surrounding recovery plays; however, we would stress that, in our view, this is likely close to the blue-sky scenario,” it said.

“Euphoria” might be overdoing it a bit but the market has not been slow to recognise the cruise ship operators as recovery plays, as we can see from looking at the share prices of the two listed UK operators over three intervals.

Carnival

On January 25 of last year, when the viral outbreak was widely regarded as an Asian problem (like SARS before it), the shares traded at 3,118p.

By March 21, just before the UK abruptly went into lockdown and it was not just Carnival shareholders who were desperate to get hold of some toilet paper, the shares had slumped to 982p – a fall of 68%.

The shares now trade at 1,603p, up 63% since its March 21, 2020 low point.

Saga

Although not solely a cruise ship operator, Saga PLC (LON:SAGA) does have two ships – the Spirit of Adventure (set to resume operations on July 26) and the Spirit of Discovery (set to resume operations on June 27).

The company had troubles before the pandemic hit but the lockdowns made matters much worse.

On February 15, 2020, the shares were priced at 672p but by May 9 they had slumped 67% to 223p. Since then the shares have recovered to 384.2p, a rise of 72% since the May 9 nadir.

Saga vs the All-Share over five years

So, have investors missed the boat?

Well, the share prices have not recovered to pre-COVID levels but there are good reasons for this, not least the crippling amount of debt operators such as Carnival have taken on board to stay afloat during the lengthy period when it was all outgoings and precious few incomings.

The industry is set to remain highly geared for a few years yet, according to Berenberg, unless fresh equity is issued. An equity issue might spark an initial hit to the share price but could put a floor under the share price longer term.

“Given ship deliveries (albeit 80% financed), continued cash burn with services still suspended, and materially higher debt service costs, we see little prospect of the industry significantly reducing debt, which means that, despite the rapid recovery in EBITDA [underlying earnings] post-pandemic, leverage will be above 3x [annual EBITDA], in our view, until at least 2024,” Berenberg said.

As the adage has it, it is better to travel in hope than to arrive and Berenberg for one seems sceptical about the current valuations of cruise companies, even if it remains “firmly of the view that cruise guests love to cruise and will continue to go on cruises even after the negative headlines for the industry prompted by COVID-19”.

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