Ariel Funds Comments on Royal Caribbean Cruises, Ltd.
Royal Caribbean Cruises, Ltd., is the second-largest cruise operator in the world with 25% of the global market. Royal operates under the Royal Caribbean International, Celebrity Cruises, Pullmantur, Azamara Club Cruises and CDF Croisieres de France brands. Altogether, Royal has 40 ships with total passenger capacity of approximately 92,300. Royal ships cruise globally with approximately 400 destinations available on its various itineraries. Royal’s international presence will continue to grow with two additional ships joining the fleet before the end of 2012.
In 2009, Royal’s stock experienced its highest level of volatility since going public two decades ago. The unprecedented economic collapse drove consumers to temporarily curtail spending, especially around discretionary expenses like vacations. The result was the worst pricing environment we have seen in decades for the cruiselines—with rates declining more than 14%. Adding to the difficulty of the economic environment, Royal was taking possession of its largest total ship orders in company history. With the economic uncertainty and difficult credit markets, some investors believed the company would be unable to finance the purchase of these vessels. However, management battened down the financial hatches to navigate the turbulent economic waters—they suspended the dividend, held back on building new ships and raised a small amount of long-term debt to use in case of emergencies.
Best Ships in Cruising
With its significant capital spending in 2009 and 2010, Royal has assembled an impressive fleet of ships. Its two Oasis class ships are the largest in the industry with capacity for nearly 5,400 guests. These ships offer 24 dining options, onboard parades, aqua shows, Broadway shows, ice skating, shopping, 3-D movies and many other features. Customers have been willing to pay higher prices to cruise on these vessels as they offer unique experiences unavailable anywhere else. Royal has a sustainable advantage with these ships since it would take three years for a competitor to order and build a comparable vessel. Over the next few years, we believe this advantage will help Royal continue to differentiate itself from the competition.
Smooth Sailing Ahead
The early success of Royal’s Oasis class ships and a recovering economy has helped to improve the pricing of its cruises. Additionally, the company’s focus on streamlining its cost structure during the economic downturn will help Royal post strong earnings in the future. Management now expects 2011 earnings per share to exceed their previous record earnings of $3.26 per share.
With clouds continuing to hang over the stock, Royal Caribbean remains an intriguing investment opportunity. The market is valuing the company as if it will recover at a modest rate and will not improve upon its historical return on capital levels. We believe management has righted the ship and is back on a course to record profitability.
As of December 31, 2010, shares traded at $47.00, a 11.3% discount to our steadily growing private market value of $52.97.