The market didn't really want to listen, but the ending of most Covid restrictions over the last couple of months finally fully reopened up the cruise line industry. Royal Caribbean Cruises (NYSE:RCL) continues to reinforce 2023 as a record-setting year while the stock trades close to recent lows. My investment thesis remains ultra-Bullish on the cruise line stock and the sector in general.
Royal Caribbean reported their first quarterly profit since pre-Covid during Q3'22. Even better, the cruise line easily beat analyst estimates at $0.17 by a big $0.09.
The September quarter results had limited benefits from the removal of Covid restrictions that were holding down bookings in the prior quarter. Despite Covid restrictions not coming off until September 5, Royal Caribbean reported load factors of 96% in the quarter, with Caribbean sailing hitting 105%.
As highlighted in previous research, the cruise sector saw a huge boost to bookings at record prices when restrictions were removed requiring Covid vaccinations and negative tests for all passengers. As the company highlighted, bookings volume for 2023 doubled during Q3 compared to the prior quarter and at record prices.
With the addition of new ships, Royal Caribbean will have far higher capacity in 2023 to feed the surging travel demand, unlike the airlines that spent this year struggling to return to 2019 capacity levels, much less grow capacity above those levels. On the Q3'22 earnings call, the CFO highlighted this following capacity growth targets in the years ahead:
By 2025, our capacity is expected to grow by 6% on an annual basis compared to 2019 with the introduction of 17 new ships across our brands and markets. We expect new ships as well as our relentless focus on the customer to drive additional yield benefits, cost efficiencies and profitability of at least triple-digit EBITDA per APCD by '25.
As the market continues to struggle with any concept that the cruise lines would top 2019 financials, Royal Caribbean introduced the Trifecta program. The key to this program is the intention to return to an ROIC in excess of the 2019 record of 10.5%.
In 2019, Royal Caribbean only generated an adjusted EBITDA per APCD of $87. The new $100+ target by 2025 amounts to a 15% growth in average profits per passenger cruise days.
The biggest reasons investors use excuses to bypass investing in the cruise lines are the higher outstanding share counts and debt levels. What any investor needs to understand is that these amounts are factored into the analyst EPS targets that Royal Caribbean just crushed during Q3.
The second goal of the Trifecta program is the intent to reach a $10+ EPS by 2025. While the market was busy questioning bankruptcy, management was charting a path to record profits due to a strong customer base once Covid restrictions were removed.
Before the earnings report, the consensus estimates were for the 2023 EPS to reach nearly $4 and 2024 EPS to approach $7. The 2024 EPS target was far closer to $8 or $9 earlier in the year before Covid restrictions slowed the rebound in the sector.
Remember, Royal Caribbean does have 255 million shares outstanding now compared to 210 million at the end of Q3'19. Investors can't really focus on how earnings would hit $8.50 without the higher share count, but they most definitely need to focus on the reality of a business capable of generating tons of cash flow and profits going forward.
The debt situation is similarly bad, but again the Q3 results highlight how it's more than accounted for in the EPS targets. The net debt position sits at ~$22 billion while the company has $28 billion in PP&E. The debt situation isn't ideal, having increased by over $11 billion in three years, but the company isn't in a horrible position considering the large cruise ship assets.
The key investor takeaway is that Royal Caribbean is extremely cheap for the profit picture ahead. The stock sits at $55 following the quarterly earnings beat and easily trades below the logical value with more normalized profits ahead in 2024 that could easily be pulled forward into 2023.
Investors are right to question whether the cruise line can actually top the record EPS level from 2019 by 2025. If Royal Caribbean appears on pace to hit a $10+ EPS in 2025, the stock could easily trade at 15x those estimates for a $150 stock price in just a couple of years.
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Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock, you should do your own research and reach your own conclusion or consult a financial advisor. Investing includes risks, including loss of principal.