Cruise Industry - Research Paper Example

Introduction This paper will discuss about the potential investment prospect in Carnival Cruise Lines (CCL) and Royal Caribbean (RCL)- two of the major players in the Cruise Industry. Industry is growing and is considered as stable despite the recession. Both these companies are considered as the significant and important players in the industry and with the investment fund of $100 m to be invested, this report will actually provide an analysis of how this investment fund can be split and invested in any or both of these firms. This investment amount is drawn from a total fund size of $48 billion out of which this amount will be invested. The analysis and recommendations in this report are based upon following important assumptions: 1. GDP Growth is expected to be at the rate of 3.5% with discretionary spending by consumers in the range of 3.5% - 4.00%. 2. The persistent economic downturn may remain extended for next 3 quarters. Conclusion & Recommendations The available data and analysis suggests that CCL hold more promise to invest and hence it is recommended that 100% of the amount to be invested into CCL. These recommendations are based upon the assumptions and facts that CCL has been able to reinitiate its quarterly dividends. Since dividends serve as the best signal to the market therefore firm paying the dividend may be preferred over the firm not paying the dividends. Cash flows of CCL are healthy and its ROE is also better than RCL thus making it a more desirable option for investment as compared to RCL. Cruise Industry & Economy Global economy is passing through recession with high levels of unemployment as well as fluctuating oil prices. Though the traditional market for the cruise industry i.e. North America is making an economic recovery however, conditions in Europe are relatively discouraging due to sovereign debt issues as well as low economic growth. Thus the strategy of developing long term sustainability of the industry may face setbacks as it may fail to find lucrative and profitable alternative destinations. (Ebersold) Source: http://www.freebalance.com/blog/?p=1889 Overall international political environment is relatively volatile too with potential threats of terrorism as well as pirates. There has been an increasing activity of pirates especially in Somalia region with the possibility that such activities may be started in other areas too. Since both the cruise liners i.e. CCL and RCL also operate in non-US areas also therefore the fluctuations in the foreign currency values can also adversely affect the revenue of both the cruise liners. There have been concerns over the environment protection and the potential role of cruisers in disturbing the eco system of the sea. It is also because of this reason that the overall regulatory environment for cruise liners may become tough. It is also because of this link between environment and cruise industry that it has been attracting negative publicity. Various environmentalist groups are advocating against the industry due to potential damage that could be done to environment. Industry Review Cruise Industry is relatively young and faced consolidation as a result of its inherent business dynamics. Started in 1970s’, this industry started to become dominating industry in 1980s with higher consumer discretionary spending being done in this industry.1 The relative level of luxury involved in this industry therefore give consumers an added level of motivation to spend and consume on the luxury cruises. It is also important to note that this industry is typically divided into three important segments of luxury, premium and contemporary. The overall dynamics of each category however are relatively different and cater to the different needs and requirements of the customers according to their budget and financial preferences. These different segments of the business therefore are targeted at different segments of the market and are priced differently to suit the needs of the consumers pertaining to each category. Over the period of last 40 years, North America and Caribbean remained preferred destinations for the Cruise companies however the industry is actually experiencing a fundamental shift. It has been suggested that in order to survive for long term, cruise industry has to find new destinations and new alternative markets in order to help themselves to grow and develop long term sustainable business prospects. (Topham) It has been estimated that over 15 million people used the cruise ships all over the world however, majority of the travelers are still coming from North American market. With major concentration in one single market, industry may face fluctuations and saturate itself in this market. It is because of this reason that it has been suggested that the long term survival of the industry in the development of alternative markets as Caribbean remains the preferred destination. It is suggested that most of the growth of the industry may also come from this destination thus increasing the overall concentration risk for the industry. 2 Segmentation of the Market As discussed above that there are three important niches or segments to which industry basically serves. The overall fares as well as the pricing are therefore based upon the overall services offered to each segment of the business. Budget Passengers Passengers cruising through are mostly those customers who don’t want any frills and rely more on the budget travel. Ships operated for such customers are relatively older and small in nature. It is however, important to understand the industry almost ended this segment of the market due to high operating costs as well as discounts and deals offered on other packages. Contemporary This segment of the market mostly serves the first timers and is relatively low priced in order to attract new customers and retain them. The overall average journey is less than equal to 7 days and is mostly focused upon catering to the needs of low budget passengers looking for cheaper alternatives. However, this segment of the market also seems to be attractive for passengers of all ages and income levels. Premium This segment caters to the regular passengers and is experienced in using cruises for various entertainment purposes. This segment also tends to cater to the needs of relatively higher income level customers. Luxury Small to medium ships are offered to luxury travelers with more focus on the foods and services to cater to the exact requirements of the luxury customers. The overall revenue for the industry during 2011 was over $29 Bn showing an increase of more than 9% from 2010. Such large growth has however, remained limited to the Caribbean as well as North American market with more customers from North American countries. Porter Five Forces Analysis Threats of New Entrants Due to high capital expenditure involved in the buying and maintaining of the cruise lines, this industry has witnessed consolidation. This high cost of entry as well as higher operating costs therefore serves as one of the important natural entry barriers for new entrants. Due to this, a threat of new entrants is low. Bargaining Power of Buyers The overall bargaining power of buyers is relatively low despite the fact that cruise travel is considered as discretionary spending by the consumers. Low bargaining power of buyers can also be attributed to psychological factors wherein particular attitudes and preferences of the consumers make them less reliant on the pricing factors thus giving cruise liners an opportunity to dominate the price side of the market also. Suppliers’ Powers Due to high cost and specialized nature of the ship manufacturing, suppliers tend to hold higher bargaining power. Ships as well as fuel serve as the two of the important sources for cruise industry therefore suppliers of both tend to have high bargaining power over the cruiser liners. Threats of New Substitutes Cruise industry is unique in the sense that no alternative can replace the sea travel for entertainment purposes. Though airliners as well as road and train travel can replace this however, due to the unique nature of the business overall threat of substitutes is low. Competitive Rivalry Due to concentrated nature of the industry, there is a relatively low level of rivalry among the leading players in the industry. With industry dynamics shifting towards Europe and other markets, this rivalry can intensified at the global level. Financial Highlights Industry as a whole witnessed drop in overall revenue however, firms tend to recover from this and have posted positive growth in revenue during 2010 and 2012. Most of the recovery in the market has been due to improve consumer confidence and increase in discretionary spending by the consumers. More demand has been driven from the older consumers who prefer to go for vacations. It is also critical to note that the overall awareness about the cruises as an alternative mean of spending vacations is on the rise too. More and more customers are now becoming aware of potential benefits and utility of the cruise travel. This awareness therefore is actually transferring into higher demand for the services especially from older population. It is also important to note that the revenue growth has been mostly attributed to higher level of customer growth as cruise liners have been able to improve upon the overall standards of quality and services. The luxury segment of the business is mostly dependent upon the higher quality of food and services therefore consumers relatively feel more satisfied when vacationing through the cruise rather than on the other alternative means. The overall level of debt is relatively low and the cash flows of the firms are positive. The low of debt of CCL particular offers the firm a clear opportunity to actually reduce their risks and focus more on the development of service and quality. Risks Involved Fuel remains one of the basic and most demanded commodities in the cruise industry and with the global fluctuations into the fuel prices, this factor may be one of the riskiest ones. Firms will therefore have to adapt financial policies which can effectively allow them to hedge against the fluctuations in the prices of oil. Upward revision in the oil prices will effectively reduce margins for both CCL and RCL and resultantly firm will have to raise the prices which can prove detrimental in a market which is still facing difficulties due to tough economic conditions. Both the firms and specially CCL conducts most of its business in currencies other than US $ also. With the higher level of fluctuation in exchange rates in the global markets, this change in the prices can adversely affect the overseas operations of the firm. Both the firms will therefore have to hedge not only against the oil prices but also against the exchange rates. It is important to understand that despite such inherent weaknesses in the business of both the firms, there is higher level of growth chances in the future. With increasing market in Europe and North American markets, CCL specially can capitalize on this growing market. RCL however, need to diversify its activities in order to ensure that it caters to the needs of a diversified base of customers to generate more sources of revenue and achieve the relative degree of growth in its revenue and profitability by increasing its market size. What Future holds? There seems to be higher growth chances for CCL however, RCL tend to have relatively limited scope of growth. CCL specially need to engage into important strategic drive to implement growth based strategies to expand in non-conventional markets in order to increase its market size. Both the firms can focus on expanding their global reach as well as increase their penetration into the existing market. This could be achieved through better and more adaptive pricing as well as expanding the base of consumers which can be catered. The overall revenue can also be increased by improving the ticketing as well as booking system. By developing improved online and direct booking channels, both the firms and specially CCL can improve its profitability and reduce the costs. Overall, future is good and markets are expanding therefore firms require more strategic orientation and bring fundamental changes in the way industry operates. Source: http://finance.yahoo.com/q/bc?s=CCL+Basic+Chart Price movements Valuation Measures   Market Cap (intraday)5: 26.81B Enterprise Value (Jul 3, 2012)3: 35.91B Trailing P/E (ttm, intraday): 18.84 Forward P/E (fye Nov 30, 2013)1: 13.82 PEG Ratio (5 yr expected)1: 1.61 Price/Sales (ttm): 1.69 Price/Book (mrq): 1.16 Enterprise Value/Revenue (ttm)3: 2.26 Enterprise Value/EBITDA (ttm)6: 10.21 Source: http://finance.yahoo.com/q/ks?s=CCL+Key+Statistics Carnival Cruise Lines (CCL) ($ in millions) Actual Projection   2006 2007 2008 2009 2010 2011 2012E 2013E 2014E 2015E EBIT 2,610 2,725 2,729 2,154 2,347 2,255 3,262 3,517 3,791 4,084 + Depreciation and Amortization 988 1,101 1,249 1,309 1,416 1,522 1,581 1,649 1,720 1,794 EBITDA 3,598 3,826 3,978 3,463 3,763 3,777 4,843 5,166 5,511 5,878 - Cash Taxes -39 -16 -47 -16 -1 -22 -26 -28 -30 -32 - CAPEX -2,480 -3,312 -3,353 -3,380 -3,579 1,087 -2,314 -1,693 -1,569 -1,469 Net Working Capital -3,420 -5,284 -4,131 -3,449 -4,511 -4,793 -4,926 -5,104 -5,290 -5,484 - Change in Net Working Capital -356 -1,864 1,153 682 -1,062 -418 -191 -178 -186 -194 FCF 3,053 -1,366 1,731 749 -879 1,542 2,312 3,267 3,726 4,183 Terminal Value Assumptions CPI/Inflation 2% Perpetual Growth 3.60% EBITDA Multiple 20% PV of Terminal Value 34,166 WACC 9.24% Present Value of FCF 8,147 Total EV 35,910 - Debt 8,700 + Cash 450 Total Equity Value 27,660 Total shares (in Million) 461 Intrinsic stock price 60.00 Weight TV of Perpetual Growth: 49,434 50% TV of EBITDA Multiple: 18,897 50% Beta 1.54 Rf 3% Rm 5% CAPM 10.70% Rc 10.70% Rd 5.20% D/E+D 20% Tc 35% WACC 9.24% Carnival Cruise Lines (CCL) ($ millions) 2006 2007 2008 2009 2010 2011 2012E 2013E 2014E 2015E Gross passenger ticket revenue 8,903 9,792 11,210 10,288 11,084 12,158 13,293 14,102 14,960 15,871 Onboard & other revenues 2,514 2,846 3,044 2,885 3,104 3,357 3,520 3,702 3,893 4,095 Other non-cruise revenues 422 395 392 287 281 278 292 298 304 310 Total Revenues 11,839 13,033 14,646 13,460 14,469 15,793 17,105 18,102 19,158 20,276 Passenger tickets (air fare + comm.) 1,749 1,941 2,232 2,220 2,272 2,461 2,705 2,870 3,045 3,231 Onboard and other 453 495 501 461 474 506 486 484 482 480 Payroll and related 1,158 1,336 1,470 1,498 1,611 1,723 1,759 1,855 1,956 2,063 Stock based compensation 57 62 63 65 67 - 71 74 77 80 Food 644 747 856 839 869 965 973 1,027 1,084 1,144 Fuel 935 1,096 1,774 1,156 1,622 2,193 2,055 2,201 2,357 2,525 Other ship operating 1,484 1,655 1,850 1,932 1,965 2,247 2,205 2,327 2,456 2,592 Other 314 296 293 236 212 204 213 216 219 222 Total Operating Costs 6,794 7,628 9,039 8,407 9,092 10,299 10,467 11,054 11,674 12,329 Gross Income 5,045 5,405 5,607 5,053 5,377 5,494 6,638 7,048 7,484 7,947 Total SG&A 1,447 1,579 1,629 1,590 1,614 1,717 1,795 1,882 1,973 2,069 EBITDA 3,598 3,826 3,978 3,463 3,763 3,777 4,843 5,166 5,511 5,878     Depreciation and amortization 988 1,101 1,249 1,309 1,416 1,522 1,581 1,649 1,720 1,794 Operating Income 2,610 2,725 2,729 2,154 2,347 2,255 3,262 3,517 3,791 4,084     Interest income 25 67 35 14 12 11 11 11 11 11 Net Interest expense -312 -367 -414 -380 -378 -365 -356 -289 -235 -190 Other Income 9 1 27 18 -2 10 0 0 0 0 Exceptionals -17 -2 0 0 0 1 0 0 0 0 Profit Before Tax 2,315 2,424 2,377 1,806 1,979 1,912 2,917 3,239 3,567 3,905     Tax benefit/(expense) -39 -16 -47 -16 -1 0 -26 -28 -30 -32 Net Income 2,276 2,408 2,330 1,790 1,978 1,912 2,891 3,211 3,537 3,873     ModelWare EPS (US cents) 2.79 2.95 2.9 2.24 2.47 2.42 3.6 4 4.44 4.94 ModelWare EPS (GB pence) 1.4 1.43 1.88 1.45 1.6 - 2.32 2.69 3.12 3.62 Dividend Per Share 1.03 1.38 1.6 0 0.4 1 1.6 1.7 1.81 1.92 Carnival Cruise Lines (CCL) ($ millions) 2006 2007 2008 2009 2010 2011 2012E 2013E 2014E 2015E ASSETS                     Current Assets   Cash and Cash Equivalents 1,163 943 650 538 429 450 429 429 429 429 Short-term Investments 0 0 0 0 0 0 0 0 0 0 Accounts Receivable, net 280 436 418 362 248 263 293 310 328 347 Inventories 263 331 315 320 320 374 368 389 412 435 Prepaid Expenses and Other 289 266 267 298 247 225 292 309 327 346 Fair Value of Derivative Contracts 0 0 0 0 0 0 0 0 0 0 Fair Value of Hedged Firm Commitments 0 0 0 0 0 0 0 0 0 0 Total Current Assets 1,995 1,976 1,650 1,518 1,244 1,312 1,383 1,437 1,495 1,557     Property and Equipment, Net 23,458 26,639 26,457 29,870 30,967 32,055 32,788 32,832 33,583 34,351 Goodwill 3,313 3,610 3,266 3,451 3,320 3,322 3,320 3320 3,320 3,320 Trademarks 1,321 1,393 1,294 1,346 1,320 1,330 1,320 1,320 1,320 1,320 Other Assets 465 563 733 650 639 619 654 664 664 664 Fair Value of Derivative Contracts 0 0 0 0 0 0 0 0 0 0 Fair Value of Hedged Firm Commitments 0 0 0 0 0 0 0 0 0 0 Total Fixed Asset 28,557 32,205 31,750 35,317 36,246 37,326 38,082 38,137 38,887 39,655 Total Assets 30,552 34,181 33,400 36,835 37,490 38,638 39,465 39,574 40,382 41,212 Current Liabilities   Short-term Borrowings 438 115 256 135 740 281 740 740 740 740 Current Portion of Long-term Debt 1054 1028 1081 815 613 1019 613 613 613 613 Convertible Debt subject to put option 0 1396 271 0 0 0 0 0 0 0 Accounts Payable 438 561 512 568 503 576 579 611 645 680 Accrued Liabilities 1149 1,353 1,142 874 1,094 1,123 1,293 1,369 1,449 1,535 Customer Deposits 2,336 2,807 2,519 2,575 2,805 3,106 3,083 3,208 3,338 3,473 Total Current Liabilities 5,415 7,260 5,781 4,967 5,755 3,106 6,309 6,541 6,785 7,041 Long-Term Debt 6,355 6,313 7,735 9,097 8,011 8,053 6,039 4,053 2,720 1,826 Other Non-Current Liabilities 572 645 786 732 693 647 764 802 842 884 Total Long Term Liabilities 6,927 6,958 8,521 9,829 8,704 8,700 6,803 4,855 3,562 2,709 Common Stock of Carnival Corp. 6 6 6 6 6 6 6 6 6 6 Ordinary Shares of Carnival plc 354 354 354 354 355 357 355 355 355 355 Additional Paid-in Capital 7,479 7,599 7,677 7,920 8,094 8,180 8,094 8,094 8,094 8,094 Retained Earnings 11,600 12,921 13,980 15,561 17,224 18,349 20,547 22,371 24,357 26,519 Unearned Stock Compensation 0 0 0 0 0 0 0 0 0 0 Accumulated other Income 661 1,296 -623 462 -254 -209 -254 -254 -254 -254 Treasury Stock -1890 -2213 -2296 -2264 -2394 -2851 -2394 -2394 -2394 -2394 Total Shareholders Equity 18,210 19,963 19,098 22,039 23,031 23,832 26,354 28,178 30,164 32,326 Total Liability & Equity 30,552 34,181 33,400 36,835 37,490 35,638 39,465 39,574 40,511 42,077 CCL RCL 2010 2009 2008 2010 2009 2008 Valuation Measures         Market Cap 36,426.90 24,940.00 19,091.20 10,147.40 5,408.60 2,926.30 Net Sales 14,469.00 13,460.00 14,646.00 6,752.50 5,889.80 6,532.50 Total Debt 9,364.00 10,047.00 9,343.00 9,150.10 7,718.20 7,011.40 Net Assets 37,490.00 36,835.00 33,400.00 19,694.90 18,233.50 16,463.30 Enterprise Value 41,569.90 34,716.60 25,178.00 18,821.10 12,842.30 9,534.80 EBITDA 3,773.00 3,495.00 4,040.00 1,530.60 1,080.50 1,421.40 EBIT 2,357.00 2,186.00 2,791.00 886.9 512.3 901 Capital Expenditure 3,579.00 3,380.00 3,353.00 2,187.20 2,477.50 2,223.50 Valuation       Price/Earnings 16.2 14.3 7.2 17.3 33.7 5.1 Price/Cash Flow 9.3 9.4 4.8 7.8 7.4 2.7 Price/Book Value 0.8 1.1 0.9 0.5 0.7 0.4 Price/Tangible BV 1.8 0.91 1.1 1.4 0.8 0.5 Enterprise Value       Enterprise Value / Sales 2.9 2.6 1.7 2.8 2.2 1.5 Enterprise Value/ EBITDA 11 9.9 6.2 12.3 11.9 6.7 Enterprise Value / EBIT 17.6 15.9 9 21.2 25.1 10.6 Enterprise Value / Cash Flow 12.1 10.9 7 15.8 23.2 8.7 Credit Statistics       Total Debt/ Enterprise Value 0.2 0.3 0.4 0.5 0.6 0.7 Net Debt / Enterprise Value 0.2 0.3 0.3 0.5 0.6 0.7 Total Debt / EBITDA 2.5 2.9 2.3 6 7.1 4.9 Net Debt / EBITDA 2.4 2.7 2.2 5.7 6.9 4.6 EBITDA / Interest Expense 9.3 8.4 8.7 4.5 2.8 3.8 EBIT/ Interest Expense 5.8 5.2 6 2.6 1.3 2.4 Liquidity Leverage       Quick Ratio 0.1 0.2 0.2 0.3 0.3 0.3 Current Ratio 0.2 0.3 0.3 0.3 0.4 0.4 Cash Flow/Current Liabilities 0.7 0.7 0.6 0.5 0.3 0.4 Long Term Debt / Equity 34.8 41.3 40.5 100.1 92.8 96.1 Total Debt / Equity 40.7 45.6 48.9 115.2 102.9 103.1 Long Term Debt / Total Capital 25.8 29.2 28.8 46.5 48.1 49 Total Debt / Total Capital 28.9 31.3 32.9 53.7 50.7 50.8 Working Capital / Total Capital -14.5 -11.1 -15.4 -15.3 -11.9 -12.7 Profitability Ratios       Gross Margin 26.95% 27.82% 29.76% 24.45% 21.23% 24.62% EBITDA Margin 26.08% 25.97% 27.58% 22.67% 18.35% 21.76% EBIT Margin 16.29% 16.24% 19.06% 13.13% 8.70% 13.79% Net Margin 13.67% 13.30% 15.91% 8.11% 2.76% 8.78% Management Effectiveness       Return on Equity 8.78% 8.70% 11.93% 7.09% 2.27% 8.46% Return On Assets 5.98% 5.80% 7.69% 4.05% 2.25% 5.00% Return On Invested Capital 6.90% 6.73% 9.08% 4.80% 2.69% 5.99% CCL RCL 2010 2009 2008 2010 2009 2008 Dividend Ratios         Dividend Per Share 0.4 0 1.6 0 0 0.5 Dividend Yield 0.97% 0.00% 7.62% 0.00% 0.00% 3.27% Dividend Payout Ratio 16.19% 0.00% 55.17% 0.00% 0.00% 16.79% Growth Rates       Sales 7.50% -10.17% 12.38% 14.65% -9.84% 6.23% EBITDA 7.95% -13.49% 3.80% 41.65% -23.98% 0.08% Net Income 10.50% -23.18% -3.24% 237.07% -71.69% -4.92% EPS 10.27% -22.76% -1.69% 234.67% -72.01% -4.96% Capital Expenditure 5.89% 0.81% 1.24% -11.72% 11.42% 68.78% Stock Performance       Price Close 41.3 32 21 47 25.3 13.8 % Change 28.97% 52.52% -53.46% 85.92% 83.85% -67.60% Works Cited Bebersol D. Cruise Industry in Figures. 2004. 03 July 2012 . Topham, Gwyn. European cruise industry buoyant despite recession and Costa Concordia. 25 June 2012. 03 July 2012 . Read More