The turmoil in global capital markets has not impacted every business sector to the same degree. For instance, companies that are facilitating the stay-at-home economy have enjoyed a nice run in the market since the United States went into lockdown in late March, whereas travel and leisure companies have been hit hard.
Now that a reopening of the economy is in the cards within the next couple of weeks, investors are once again beginning to search for companies that could gain traction once business activities return to their normal state.
Norwegian Cruise Line Holdings Ltd. (NCLH, Financial) is not a company that will immediately benefit from the reopening of the global economy, as the pandemic brings additional concerns for cruise companies. Shares are also trading at depressed valuation multiples, and the company recenlty warned investors that it could go bankrupt. However, a deeper dive into the fundamentals of the company reveals that Norwegian can survive this crisis and come out stronger, in my opinion.
Company profile
Norwegian Cruise Line operates cruise ships in many regions of the world, including North America, Europe and Asia-Pacific. It operates under the brand names Norwegian, Oceania Cruises and Regent Seven Seas. As of February 2020, the company owned 28 ships, making it the smallest publicly listed company in the cruise industry.
Since the fallout of the global financial crisis in 2008, Norwegian has grown its revenue each year through 2019. The favorable macro-economic conditions played a major role in this growth. The stellar economic growth in both developed and developing regions of the world boosted personal disposable income, leading to a surge in the demand for voyages.
The tailwinds that drove the company forward in the last 10 years, however, have suddenly ceased to exist.
Liquidity position
It would be a futile task to model the earnings of the company for the next couple of quarters. The business operations have come to a standstill, and Norwegian will certainly report disappointing numbers. However, this situation is a one-off adverse development, as new pandemics aren't exactly common.
The most important question is whether the company can survive the onslaught of this recession. If Norwegian can weather the storm and come out unscathed, investors can expect solid long-term returns from the company.
The key financial metric I seek to evaluate is the ability of the company to remain solvent until bookings for luxury cruises recover. Norwegian does not have any major debt maturities in 2020, as the company successfully refinanced a portion of its maturing debt at record-low interest rates in the fourth quarter of 2019.
Source: Form 10-K
However, the company has operating lease liabilities of $47 million for the year and finance lease payments due to the tune of $6 million. There are significant operating costs of running the company as well, often exceeding $100 million per month, according to the remarks made by the management in earnings conference calls. Taking these into account, in the last week of April, Norwegian executives issued a warning that the company would eventually have to file for bankruptcy in the coming weeks as the liquidity of the company is not sufficient to survive this year if its business operations remain inactive.
However, management pulled a save in the nick of time and secured more than $2 billion in funding on May 6. Below is a breakdown of the funds received by the company this week:
| Source | Amount |
| New equity offerings | $400 million |
| New debt offerings | $1.43 billion |
| Funding from private equity firm L Catterton | $400 million |
| Total | $2.23 billion |
Source: Company filings
This influx of capital will help Norwegian survive for more than 12 months with zero revenue, which was confirmed by the management in a statement released to the public:
“This significantly strengthens the company’s financial position and liquidity runway and it now expects to be positioned to withstand well over 12 months of voyage suspensions in a potential downside scenario.”
An increase in the debt level of a company is often considered a negative sign. However, given the adverse conditions facing Norwegian, the newly acquired debt is necessary to remain solvent. Capital raised by the company in the last week will help steady the ship until business activities return to normalcy, and the possibility of bankruptcy is now very low within the next couple of years, in my view.
The long-term outlook is positive
Ports remain closed, and we have no clue as to when Norwegian’s ships will start sailing once again. However, with liquidity temporarily abated, the company now has a chance to grow its revenue and earnings in the coming years.
It is not reasonable to expect cruise industry bookings to go back to pre-lockdown levels as soon as the economy reopens. The recovery will be slow and steady. According to the World Health Organization, social distancing rules are likely to continue through 2022, and cruise ships will most likely not be allowed to operate at maximum capacity. These are not encouraging signs to start with, but hopefully 2021 will seem some return to operations.
The true value of the shares, however, will unlock beyond 2021, when the cruise industry resumes its growth story. Over the last two decades, the industry survived economic downturns and adverse geopolitical developments better than some other business sectors, which is evident from the continued growth of cruise passengers from 2001 to 2018.
Source: Investor presentation
The International Monetary Fund projects the global economy to expand at a record pace of 5.8% in 2021 and continue the momentum in the following years due to trillion-dollar stimulus packages and lax monetary policy decisions. This is welcome news for the cruise industry, as its success is closely tied to the growth of personal disposable income.
Takeaway
Norwegian shares are trading at a price-earnings multiple of 2.89, which provides an indication of the sentiment of the market toward the company’s growth opportunities. However, the company has improved its liquidity position in the last week, and its long-term prospects are promising.
The short-termism in the market is presenting value investors an opportunity to invest in Norwegian shares at cheap prices, as long as they are confortable with a high level of risk.
Disclosure: I own shares of Norwegian Cruise Line Holdings.
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