Shares of Norwegian Cruise Line Holdings (NCLH) jumped up on Tuesday after a rumored deal to acquire Prestige Cruises International turned out to be reality.
Investors like the deal very much as it occurs at quite a steep discount based on EBITDA metrics compared to its own valuation. After shares had a great run over the past eighteen months I am quite cautious going forwards.
Highlights Of The Deal
Norwegian Cruise announced that it has acquired Prestige Cruises in a $3.025 billion deal in a cash and stock deal.
Prestige is a leader in the upscale cruise segment being the parent company of subsidiaries Oceania Cruises and Regent Seven Seas Cruises.
The deal has unanimously been approved by the board of directors and could close in the fourth quarter of this year.
Operational Implications Of The Transaction
CEO Kevin Sheehan is very pleased with the acquisition of the company giving the company the ownership of two established and winning brands with a loyal customer base.
Sheehan sees opportunities for cross-selling, brand collaboration and business support sharing of services, generating real synergies to drive accretion and long term shareholder value.
Prestige currently owns 8 ships with some 6,500 berths, while taking another ship for delivery in the summer of 2016. With the addition, Norwegian is able to offer appealing holidays to every customers in their life cycle.
Norwegian will spend $3.025 billion to acquire the business which includes the assumption of debt. Another modest $50 million in additional contingent payments will be made if the company will achieve certain metrics for 2015.
The reported deal tag values the company at 11 times anticipated EBITDA for 2014. At the point of closing, Norwegian already anticipates to save $25 million in annual costs, with further synergies anticipated down the road. The $3.025 billion deal values Prestige at 2.4 times annual sales.
The deal will be accretive to 2015's earnings before the consideration of synergies, while earnings on a per share basis are expected to show accretion in the high-single digit percentages.
Norwegian Is An Excellent Operator
Amidst the deal, Norwegian commented on the steady improvements in profitability which the company has made in recent years. Since 2008 the company has demonstrated 24 consecutive quarters of sequential improvements in both EBITDA and EBITDA margins which rose from 11% to nearly 27% at the moment.
Prestige posted trailing EBITDA of some $282 million on $1.24 billion in sales, reporting EBITDA margins of close to 23%. While this is slightly below the margins reported by Norwegian, they remain quite high.
The combination has posted pro-forma trailing sales of $4.1 billion on which it has posted adjusted EBITDA of $1.0 billion.
The company will operate with a net leverage position of 5.3 times according to the company itself, a ratio expected to fall to 4 times within 18 months after closing the deal. To keep leverage in check, Norwegian anticipates to issue 20.3 million shares which will be transferred to the owners of Prestige being worth roughly $670 million before the news about the deal broke out. The outstanding share base will increase by some 10% following this deal.
At the presentation of the second quarter results Norwegian reported having $63 million in cash and equivalents, while having $3.5 billion in total debt. On a pro-forma basis this net debt position will increase towards $6.5 billion while combined EBITDA comes in just above the billion mark.
With shares advancing to $37 per share, 210 million existing shares outstanding and another 20 million shares used in the financing of the deal, equity in the business is valued at $8.5 billion. This values equity in the business at 2.1 times trailing combined revenues. Including the assumption of debt, the business is now valued at $15 billion, the equivalent of 14-15 times anticipated EBITDA.
Valuing cruise companies is difficult given the relatively low revenues and earnings on a huge capital base. As such leverage and EBITDA is relatively high compared to common metrics like sales and normal earnings. This makes the distinction between accounting earnings and real operational cash flows important to make.
Yet shareholders like the deal being valued at around 11 times EBITDA versus the combined valuation of both firms at 15 times EBITDA. Note that shareholders in Norwegian stand to benefit for about 90% of the anticipated initial synergies of $25 million per annum, a number which is anticipated to increase thereafter.
Norwegian is the third largest global cruise company operating with a much smaller fleet as it targets the higher end of the cruise market behind Carnival Corporation (NYSE:CCL) and Royal Caribbean Cruises (NYSE:RCL), which focus more on the mass consumer market.
The deal will results in anticipated accretion in the single-digit percentages in terms of earnings per share for the coming year. Operating these ships pays off enormously, with Norwegian posting sales of $2.6 billion operating just 13 ships, for average revenues of $200 million per annum.
Ever since the IPO which occurred at $19 per share in January of 2013, shares have traded in a $30-$35 trading range ever since, now having doubled to $38 per share. The continued improvements in earnings resulted in a targeted $2.20-$2.35 adjusted earnings per share for 2014, valuing the business at 16-17 times earnings.
While this appears appealing, the company employs quite some leverage and does not pay out dividends to its investors, while the earnings valuation is largely in line with the wider market. After the deal the focus will be on reducing the leverage position going forwards, which might limit the strategic options in the near to middle term.
As such I remain cautious amidst already really favorable operating conditions, a fair valuation based on adjusted earnings, the high leverage and lack of dividends. As such the risk-reward is not very appealing, despite an appealing deal which shareholders in Norwegian are rightfully applauding.
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