Is carnival stock too risky?

Carnival (CCL -0.16%) (CUK 0.06%) the stock is little changed this year despite phenomenal performances across the board. The market senses the risk here, but is the fear overblown? Let’s see if Carnival stock is really too risky or if the stock is undervalued.

High speed cruise

Carnival has made a fantastic comeback from what could be called rock bottom. It reports record levels in several areas of its business and continues to improve.

Revenue in the second quarter of fiscal 2024 (ended May 31) was a record $5.8 billion, with record operating income of $560 million. Operating margin was about the same as pre-pandemic levels.

CCL Operating Margin Data (Quarterly) by YCharts

He entered 2024 in the best-ever booked position and that continues into the second half of the year. In addition, its reserved position for 2025 is even better than 2024 so far, both in price and occupancy. It is taking steps to meet high demand and recently closed an Australian cruise line to create more availability on some of its most popular routes. It is already launching cruise dates on new lines until 2027.

It may seem like this has to end at some point, but it recently got a boost with the Federal Reserve cutting interest rates. This is a move that would benefit the economy in general and many companies, especially those that depend on consumer discretionary spending. Its impact is likely to be felt positively by Carnival. While some of its guests are regular travelers, many people save up for a cruise, a once-in-a-lifetime adventure that is a highlight of a lifetime. With easier access to the capital, more people will be able to afford their dream cruise trip.

If the increased demand eventually subsides, Carnival will likely be in a stable position and able to achieve a soft landing.

Carrying a heavy burden

Having no income meant a lot of borrowing to keep his doors open for the months he couldn’t sail during the blockades. Most of that debt is still on the books, at $29 billion.

Over the past 15 months, Carnival has paid down $6.6 billion in debt. This removes a significant part of the burden and also reduces debt service costs. Management aims to pay down the debt with growing cash from operations, which was $2 billion in the second quarter. It ended the quarter with $4.6 billion in cash, so it’s not under severe financial pressure right now while paying down debt.

Another way lower interest rates will benefit Carnival is that it will make it easier to pay off its debt. It is likely to refinance at lower rates, removing some of the advantage of its high debt. That could mean he’ll pay it off even faster.

Carrying a valuation that could be ridiculously cheap

The market values ​​Carnival’s debt to a great extent. Carnival stock trades at a forward P/E ratio of less than 12 and a price-to-sales ratio of just over 1. These are the types of valuations typically seen on low-potential or high-risk stocks.

Carnival, however, is an industry leader with plenty of money and an excellent business. It has a lot of long-term potential.

The worry is that demand slows before Carnival gets out of the deep-debt woods. He is then stuck in a difficult position with little means of getting out of it. There is little room for unpredictable disasters.

It already had a hiccup this year when it had to reroute some lines after the Baltimore bridge collapse. This was a good practice to see how well challenge management can do and how they could affect Carnival’s finances. The good news is that while there was an impact, it was minimal.

Is carnival stock too risky? For the extremely risk-averse investor, perhaps. But for most investors, it looks like an opportunity to buy on the decline.