New Deliveries, Consolidation Drive Cruise Industry

As the world's two major cruise lines, Carnival and Royal Caribbean International, wage a continual battle to increase market share and draw additional passengers, the real war is waged in the board rooms of these and all other major cruise companies to increase revenue per passenger and decrease discounting. A record number of new ships and a sluggish North American economy prompting fare cutting, and cruise lines are fighting to maintain buoyant bottom lines. A recent report from Lazard Frères helps to shed some light on the economic strength of the cruise majors. While Lazard Frères is revising its fourth quarter EPS estimate for Carnival Corp. (CCL) to $0.38 from $0.42, the downgrade takes into account weaker operating results at Airtours and the benefit of a lower tax rate for Costa Cruises. CCL recently purchased Italy-based Costa.

The low Airtours returns, combined with restructuring charges have Lazard's analysts predicting that CCL's 4Q EPS is expected to hit $0.05. In more certain terms, Airtours specified that its German tour operator, Frosch Touristick (FTi) would incur losses during the fourth quarter that would be $28.7 million higher than anticipated. The company also expressed that it plans to take a $129.3 reorganization charge. Airtours will also recognize a $337.6 million gain on the sale of its remaining interest in Costa to CCL. Despite this, CCL reported that it would take into consideration this gain in its equity accounting of Airtours' fourth quarter earnings. It is estimated that these unfavorable variants at Airtours are to have an impact of $0.09 per share to Carnival in the fourth quarter. However, the cruise line decided that it would recognize a non-cash gain of approximately $0.04 per share due to the reduction of Costa's net deferred tax liabilities, resulting from the reduced tax rate that went into effect upon registering Costa's fleet within the Italian International Ship Registry.

With a reported F2000 EPS Estimate Cut to $1.63 from $1.67, Lazard reports that CCL remains a sound investment in the midst of a rocky industry environment. While analysts do not foresee signs of improved pricing (the company's stock has see-sawed between $20 and $25 three times in the past six months), it is believed that increasing pressure on smaller competitors could continue the ongoing spurt of industry consolidation, which would benefit CCL's advantage on a long-term basis. This prediction, coupled with the company's F2001 estimate currently standing at $1.73, has led Lazard to maintain its Outperform rating for CCL.

Royal Caribbean (RCL) reported, on October 18, its third quarter EPS at $1.04 — up 13 percent from $.92 one year ago. This growth is driven by an 18 percent increase in capacity, subsequent to the line's premiere vessel of the new Eagle Class series, Voyager of the Seas, which was introduced last November. A firm contributor to the company's growth is its subsidiary company, Celebrity Cruise Lines, which has come through with the successful debut of Millennium, the first member of the line's new ships series that bears the same name. Introduced this past summer, the vessel is a firm contributor in the company's 109.7 percent capacity increase — up approximately one percent from last year.

Despite these positive returns, RCL's yield has dipped slightly with a net decline of one percent in the third quarter, and its air/sea mixture lowered to 23 percent from 27 percent this time last year. Lazard has predicted that there is no relief for the yield decline in the near future, with fourth quarter yields expected to be down four to five percent — due to lower pricing in newly introduced short itineraries.

While its yields may be diving, RCL should concentrate its sights on the coming year, as analysts have predicted that it will be an important one for the cruise company. It plans to expand its fleet by 20 percent and will implement a $2.1 billion Capex program.

On a quarterly basis, RCL is expected to grow by 14 percent, 30 percent, 20 percent and 18 percent in the first through fourth, respectively. Despite Lazard's yield predictions for 2001, RCL's management noted that it was too premature to comment on yield outlook for the coming year, they did however indicate the persistence of pricing pressure during the first quarter 2001. The company expects that yields will be down six percent in that period, specifically due to difficult comps with first quarter 2000, which benefited from Millennium's sailings. Booking levels for 2001 have remained at the same level they were in 1999. Management noted that it was holding back some capacity on the much-in-demand new releases, such as Voyager, Explorer and Millennium. Lazard has lowered RCL's EPS estimate to $2.30 from $2.47, most likely taking into consideration that higher fuels costs are expected to have a $0.01-$0.02 per quarter impact — assuming that bunker prices remain at current levels. Analysts have therefore rated RCL as Hold.