Cruise stocks were left for dead during the pandemic, but the industry has mounted an impressive comeback in the years since the economy reopened. All three major cruise lines have delivered multibagging returns off of their post-pandemic bottoms, showing demand is strong and the industry has moved past the biggest shock in its history.
However, Carnival (CCL -2.52%) remains the biggest cruise operator in the world, and it still has substantial room for recovery as its stock is still down 66% from its pre-pandemic level in early 2018.
Carnival has been building momentum since the reopening, and the stock looks like a good bet to keep climbing. Let's take a look at three reasons why.
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Demand remains strong
Cruise operators like Carnival have high fixed costs and therefore high operating leverage. When business is good, profit margins can soar, as the company can charge full price for its berths, and its marginal profit is high due to relatively low variable costs.
The opposite is true in challenging economic environments like recessions, but that hasn't been a problem for Carnival recently.
In its fiscal third quarter, which it reported on Sept. 30, the company turned in record results in several categories. Revenue rose 14% year over year to $7.9 billion, which edged past estimates at $7.83 billion. However, that relatively modest improvement in the top line translated into big gains on the bottom line as operating income jumped roughly 33% to $2.2 billion, while net income surged 60% to $1.7 billion. Adjusted net income was also $170 million better than its guidance.
Carnival's performance was paced by strong price growth leading to record net yields, or gross profit per passenger. Strong demand is creating a tailwind for the business that's expected to last into 2025, and the company raised its guidance for the year again. It now expects adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) of $6 billion, up 40% from 2023 and up from its Q2 guidance of $5.8 billion. Management also said its booked position for 2025 is ahead of 2024 and with record prices in 2025.
While other travel businesses, like online travel agencies, have reported slowing growth, Carnival's momentum remains solid, putting the stock in a position to keep gaining.
Macro factors favor a recovery
Carnival's biggest challenge is that the company is still carrying a large debt burden, as it needed to borrow billions to survive the pandemic.
However, a number of factors could help support further debt repayments. First, the Federal Reserve has begun cutting interest rates and is expected to continue lowering them through next year. That should help the company refinance its fixed-rated debt at a lower rate, and it will pay less on its variable-rate debt. Currently, the company is paying close to $2 billion a year in interest expenses, so cutting those payments would be a significant benefit to the business.
Lower rates should also encourage consumer spending and increased economic growth, and investors also seem optimistic that the Trump administration will pass an economic stimulus act, like one that supports tax cuts, that could also help fuel demand for cruises.
The risk/reward is favorable
Based on its guidance of adjusted earnings per share of $1.33, Carnival is trading at a price-to-earnings (P/E) ratio of 18, and profits look set to jump next year as pricing and booking trends are strong, and the economy remains healthy. Meanwhile, the company has several new ships coming online with plans to add one to two ships per year on average, which will expand capacity and grow the business on the top and bottom lines. The opening of Celebration Key next year, a new destination in the Bahamas, should also help drive demand, and its peers also see a rising tide ahead as the industry tends to rise and fall together.
Net income should move higher as the company continues to pay down debt and lower its interest expense. With a modest valuation, improving financials, and macroeconomic tailwinds picking up, Carnival stock looks well-positioned for future gains.
