Carnival – little change to guidance despite bumper first quarter

Carnival’s first-quarter revenue increased by 22% to $5.4bn, with continued strength in demand driving ticket prices higher.

Underlying cash profit (EBITDA) more than doubled to $871mn and was ahead of guidance.

Underlying free cash flow grew from $0.1bn to $1.4bn, largely driven by the improved operational performance. Net debt at the period end was $28.5bn.

First-quarter booking volumes reached record highs and pricing has also been strong. However, the re-routing of certain ships from the Red Sea has had an unfavourable impact on costs. Full-year guidance for underlying cash profit was broadly unchanged at just over $5.6bn.

The shares were down 3.3% in afternoon trading.

Our view

Passenger demand for Carnival’s ocean cruises has continued to boom in the first quarter of 2024. But the latest quarterly report was also a reminder of how susceptible the sector is to factors beyond its control. The conflict in the Red Sea and disruption to Carnival’s operations at its Maryland port following the collision of a cargo ship with a Baltimore bridge will both dent profits this year. However, unlike the pandemic, the impact should be relatively small. Fuel costs are another highly variable factor that can hurt the bottom line, but the business looks to be performing sufficiently strongly to absorb fluctuations in the oil price.

The key question for investors is how long will strong demand last? Much will depend on policy makers' ability to guide the economy towards a soft landing on both sides of the Atlantic as inflation starts to ebb. And here there's still a lot of uncertainty. But the demographics of cruise passengers may provide some shelter from the storm should we see an economic slowdown. The cruise industry’s customer base tends to be dominated by the over fifties. And there are some signs that consumer spending is holding up better amongst older generations.

Longer-term Carnival is expanding its fleet faster than its rivals which is all well and good whilst bookings are solid, but could make it even harder to react to a slowdown.

But our biggest concern is the balance sheet which is still feeling the after-effects of the COVID-19 pandemic. Net debt currently stands at $28.5bn, which is higher than Carnival's total market value, meaning that for now, it's very much debt holders who influence Carnival's course. Although the outlook for cash generation is encouraging, it could be a long while before that balance is redressed in shareholders' favour.

Despite the recent strong performance, the equity valuation remains a long way below the long-term average. Carnival is well-placed to have a good year, but it needs to have a few in a row to make a dent in its debt pile. And with consumers under pressure from all angles, that could still be a big ask. Net debt is sitting at about 5x this year's EBITDA guidance. That's very high. Until it returns towards a low single-digit figure, there's unlikely to be a return of dividend payments to smooth investment returns. The recovery in the valuation seen over 2023 means there's pressure for management to deliver, which increases the risk of ups and downs.

Environmental, social and governance (ESG) risk

Consumer services companies are medium-risk in terms of ESG, and very few companies are excelling at managing them. That leaves plenty of opportunity for forward-thinking firms. The primary risk-driver is product governance. The impact of their products on society, labour relations and environmental concerns are also key risks to monitor.

According to Sustainalytics, the company's overall management of material ESG issues is strong, with a robust governance structure and reporting framework in place. However, Carnival still faces significant exposure to risks linked to emissions, effluents and waste as well as quality and safety issues. Carnival has implemented carbon reduction programmes but shipping is likely to be one of the last forms of transport to be decarbonised.