This Cruise Stock Is Still Afloat and Might Get Better

Ben is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Royal Caribbean (NYSE: RCL) might have experienced trouble on the high seas last week, but that has not stopped the leisure company from announcing its plans to construct a third quantum ship. This new mega-ship will have more high-priced state rooms and some of the best energy efficiency in the open ocean. But should Royal Caribbean plan such large investments on the heels of its recent misfortune?

Fire on the water

Before the fire aboard Grandeur of the Seas, all negative cruise attention was focused on Carnival (NYSE: CCL). The extensive technical problems have led to price reductions, hurting Carnival’s margins. Carnival reduced its earnings per share estimate by $0.35 to $1.95, and its share price has dropped from $39 in February to around $32. In its most recent quarter, Carnival had a revenue growth of only 0.30% and saw net income decline.

It is clear that its operational problems have had a severe negative impact on the stock price. It has also drawn negative press for the industry as a whole. Carnival was the kid with lice on the playground that everyone wanted to stay away from. But since Royal Caribbean has had an incident, it’s now apparent that bad things can happen regardless of the cruise line. The fire is expected to cost Royal Caribbean $0.10 per share.

While this is no doubt a hit to Royal Caribbean’s credibility, it also gives it an opportunity to show how well it can handle a crisis. When the fire broke out, the systems designed to keep the fire from spreading worked and the ship was able to dock safely in the Bahamas. Royal Caribbean executives were waiting for the troubled passengers at the port to offer apologies. All passengers received a full refund, transportation to Baltimore, and a voucher good for a future cruise. Overall, I think this shows how well Royal Caribbean can handle a sticky situation. The earnings drop will hurt, but I think consumers will eventually return to the cruise liner.

The China situation

China doesn’t seem like a country that spends much time on leisure, but it actually spends 20% more on overseas tourism than the United States. Spending $100 billion a year on tourism, China is a market that Royal Caribbean is trying to infiltrate. This is no easy task when China shares a sea with Japan. Tension has risen between the two countries surrounding disputed islands in the East China sea. Royal Caribbean has been forced to remove all Japanese ports of call, shortening cruise itineraries.

This problem is hurting cruise growth in China, but if the two countries could come to an agreement, then China could be a huge source of revenue for Royal Caribbean. Until then, China will still be a growing revenue source with massive potential.

Quantum leap

Royal Caribbean just signed a contract with Meyer Werft shipyard to build its third quantum ship. A “quantum ship” is a luxurious mega-ship that seems more like a moving island than a boat. With bumper cars, a sky diving simulator, and a look-out pod, quantum ships are pushing cruise ships to another level. A quantum ship is yet to take a voyage, but Quantum of the Seas is primed to set sail in 2014 followed by Anthem of the Seas in 2015.

With projected capital expenditures of $700 million in 2013, $1.2 billion in both 2014 and 2015, and $2.1 billion for 2016, these jaw dropping ships won't come cheap. Royal Caribbean sees it as a necessary expense and expects its capacity to expand 4% annually from 2012 to 2017.

Norwegian Cruise Line (NASDAQ: NCLH) is also making new ships to compete with Royal Caribbean. Set to release in 2013 and 2014, Norwegian Breakaway and Norwegian Getaway are being advertised as "Miami's newest ships."  While they will be new, they don't look nearly as impressive as the quantum ships. Promotional videos for the 2013 ships can be seen on YouTube if you're interested.    

Conclusion

When you look at Royal Caribbean as a whole, it looks like it will be able to overcome the bad press and enjoy success with its itineraries and quantum ships in the coming years. Currently trading at $35.78, the stock price has already bounced back from the dip following the recent fire. With a forward P/E ratio of 11.62 and a PEG ratio of 0.84 I believe this stock is currently undervalued.

Norwegian Cruise Line could look like a tempting buy in the wake of Royal Caribbean's recent ship problems, but I would stay away from this investment. Norwegian has had revenue growth of only 2.40% and no earnings growth. They have nice ships, but the quantum ships being released in the future will draw consumers from Norwegian. Royal Caribbean is also a strong brand with plenty of customer loyalty that will keep it at the helm of the cruising industry for years to come.

The best investing approach is to choose great companies and stick with them for the long term. The Motley Fool's free report "3 Stocks That Will Help You Retire Rich" names stocks that could help you build long-term wealth and retire well, along with some winning wealth-building strategies that every investor should be aware of. Click here now to keep reading.


Ben Popkin has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus