Consumer Resurrection Bodes Well for Carnival Cruises

Recent booking trends support my view that demand should approach pre-Concordia disaster levels by the start of 2013’s wave season. Over the past few months, bookings have improved and based on my research, should continue to rise.

While prices remain lower for now due to a promotional environment, demand marks an improvement in consumer perception. Early indications of 2013 look encouraging. Despite a difficult comparison (1Q12 was already booked by the time Concordia sank), 1Q13 bookings appear to be flattish year-over-year and expect demand for 1H13 cruises to improve as the year progresses.

The company took FCF from flat to $450mn for 2012. It is clear there will be almost $2B of FCF in 2013. They have left room to easily do $2 in eps with $.20 beat in the back half of the year. Expectations are still too low and many have not properly accounted for the strong demand, visibilty and FCF generation.

Bull Case
1) Strong visibility into forward yields and bookings. Fleetwide bookings continue to improve and are well ahead of last year.
2) Strong FCF generation. CCL expects $300M-$400M of FCF in 2012, and with lower capex in 2013 and an expected increase in cash from operations, the company will have greater opportunity for cash return to shareholders. I expect to see $1.9-2.0B in FCF in 2013, and expect to see mgmt opportunistically buyback stock.
3) Further cost savings above expectations. CCL should be able to make up for the additional price promotions by accelerating cost cutting programs (corporate and onboard) into 2H13.
4) Very strong balance sheet. Currently net debt/EBITDA is ~3.7x and expected to decline to 2.1x in 2013.
5) Solid international expansion opportunity. CCL presently has a 45% market share position in Europe and has done a nice job targeting different demographic groups.

Bear Case
1) Global Macro Recession – a prolonged macro recession could have negative implications on consumer demand for cruising.
2) Seasonality of the Business – CCL generates the large majority of its revenue and earnings in Q3. Given that much of the booking for summer months typically occurs from January through March (typical booking window of 6 months), advanced bookings during this period (WAVE Period) are critical in shaping the
company’s annual sales and profitability outlook.
3) FX headwinds - 45% of CCL revenue is derived from Europe. Therefore, a strong dollar could have a negative impact of currency translation.

Valuation:
CCL is setting up to outperform. After the tragic Costa incident and as fuel cost pressures abate, CCL will deliver both growth in EPS and FCF into 2013. The company took FCF guidance from flat to $450mm in 2012 and we expect to see almost $2B in 2013. CCL has left significant room to do $2.00 in EPS in 2012 and EPS in 2013 should easily surpass $2.75 (street estimates are $1.84 in 2012 and $2.42 for 2013).

Assuming a 5% outlook on constant dollar yield growth and bunker fuel assumption of $650/pmt (5% above the current level) from $745 pmt. CCL currently trades at 12x 2013 EPS, a discount to target multiple of 15x. At 15x 2013 EPS estimate of $2.75, the stock upside target is $41-45. Downside target is 12x $2.70 = $32.