Royal Caribbean Cruises Stock Lost 70% In 3 Months: Can It Recover?

by Trefis Team
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Considering how Covid-19 spread on cruise liner Diamond Princess, and the measures taken by governments all over the world, the entire cruise line industry is on its knees with no demand and high cash outflow. Royal Caribbean Cruises’ stock (NYSE:RCL) has sunk nearly 70% this year. However, there may be a huge investment opportunity if the stock can recover. This can only happen if (a) the company survives the existing cash outflow via financing, cost restructuring, and capital expenditure cuts until the demand recovers, and (b) the existing demand gap is filled and a pre-pandemic growth trajectory is re-attained. The good news is that from a liquidity and survival stand point, Royal Caribbean is safe! We think that even in a pessimistic scenario, the company may be able to generate $900 million in free cash flow if it can cut down its capital expenditure by 70% and does not spend any amount on share repurchases. The bad news – while survival probability is very high, the long term lingering effects of the current demand shock may make a pre-pandemic growth trajectory unattainable for the foreseeable future. Our dashboard Does Royal Caribbean Cruises Have Enough Liquidity To Survive Covid-19 Demand Shock examines the company’s cash flow generation ability and financing requirements in two different demand recovery scenarios.

Scenario One: Full COVID-19 Demand Shock Recovery By Q3/Q4

What happens in this case? We assume a 30% decline in Royal Caribbean’s annual revenue accompanied by 50% reduction in capital expenditures. This would imply revenue of $7.7 billion and net income of $650 million. In addition, this scenario will result in free cash flow from operations of $2.5 billion, leaving nearly $1 billion in cash after accounting for $1.5 billion in capital expenditure (50% lower than last year’s). This would be a happy scenario for investors as it also allows Royal Caribbean to maintain its 2019 dividend distribution levels.

Scenario Two: Covid-19 Demand Shock Recovery Is Incomplete Due To Spending Pullback

What happens if COVID-19 eventually fades but there is massive pull back in discretionary spending? In this scenario, we assume 50% decline in Royal Caribbean’s revenue and a 70% cut in capital expenditures. The good news is that even in this scenario, while net income could be negative, Royal Caribbean can still manage free cash flow north of $900 million, after accounting for capital expenditure (70% cut). This can allow it to maintain its dividend policy as well. The key message is that given the high fixed cost nature of the business, Royal Caribbean has capital expenditure as a key cost lever that it can adjust to remain liquid. It makes sense to do it considering the uncertainty around demand revival. Given the above, Royal Caribbean’s recent incremental financing of $1 billion in debt capital, after accounting for refinancing of existing debt, could give it sufficient room to navigate the crisis.

How Much Runway Does Royal Caribbean Have If Status Quo Is Maintained?

Royal Caribbean is burning $250 million in cash every month excluding customer refunds as it has suspended all sailing operations. What happens if this continues and there is no uptick in demand? Unlikely, but plausible. You’ll be surprised how well Royal Caribbean is prepared to face this disaster. Check out our dashboard to see how much operational runway Royal Caribbean has in absence of any demand. Want to explore Royal Caribbean even more? The same dashboard outlines how much revenue Royal Caribbean needs to lose before it hits break even point (no profit no loss).

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