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3 Unexpected Reasons for Investors to Buy Carnival Stock

Motley Fool - Tue Apr 23, 6:30AM CDT

Carnival Corp (NYSE: CCL), with 43% of all world cruise passenger traffic, is the market leader, well ahead of cruise line companies like Royal Caribbean and Norwegian Cruise Line Holdings.

Given the company's shutdown during the pandemic and its struggles to return to full capacity and profitability since then, investors may wonder whether industry leadership is enough to make the stock a buy. Nonetheless, three unexpected factors could position Carnival Cruise stock to drive investor returns.

1. Passenger traffic

One bright spot for the company is the record number of passenger bookings. Although Carnival's recovery isn't a surprise, some of the results may not have been expected.

In the first quarter of fiscal 2024 (ended Feb. 29), occupancy returned to 102%. The cruise industry defines 100% occupancy as having two passengers in every cabin, so the fact that average occupancy per cabin exceeds two bodes well for the company.

Moreover, it wasn't just its customers from before the pandemic who returned to cruising. In 2023, the cruise line attracted 3.5 million passengers who had not previously taken a cruise. Hence, the industry seems to have become more competitive than ever, compared to companies offering land-based vacations.

Additionally, health experts blamed the close quarters within cruise ships for the rapid spread of COVID-19 during the beginning of the pandemic. That led to the shutdowns in early 2020 that persisted for more than a year. Still, the fact that the industry didn't suffer permanent reputational damage from such health concerns augurs well for the stock.

2. Debt management

The shutdowns forced Carnival (and its peers) to accumulate tens of billions in new debt to remain in business and prevented it from earning significant revenue. At the end of fiscal 2022, Carnival had almost $36 billion in total debt, compared to just $7 billion in shareholders' equity. This led to questions about whether investors would buy a stock burdened with such heavy debt obligations.

Nonetheless, one year later, the company had reduced total debt to just over $31 billion, so it had repaid an amount exceeding its short-term debt and the current portion of the long-term debt from the previous year. This is critical since any matured debt that could not be repaid would have to be reissued, most likely at higher interest rates.

Additionally, the cruise line has also invested in its expansion. To that end, it plans to increase capacity by 5% in fiscal 2024. Given that the company has returned to an operating profit, the additional available cabins should further improve its financials.

That isn't to say its financial struggles have ended. The company was profitable in just one quarter in fiscal 2023 and reported a $74 million net loss for that year. It also reported a $214 million operating loss because of high interest expenses.

Still, with the company steadily repairing its balance sheet, the stock should become more attractive to investors over time.

3. The stock's valuation

Moreover, with the company's continuing struggles and growth set to level off as it returns to full capacity, Carnival's stock has fallen by nearly 23% this year.

However, the valuation indicates the pessimism is overdone. With the net losses, it does not have a price-to-earnings (P/E) ratio, and its price-to-sales (P/S) ratio is 0.8. Since the beginning of the pandemic, the sales multiple has never fallen below 0.7.

Analysts forecast a 14% yearly increase in revenue for the current fiscal year, making it unlikely the sales multiple will fall significantly further. Also, during the past year, the average P/S is about 1, suggesting the stock's valuation should improve over time.

Making sense of Carnival stock

Although investors have soured on Carnival stock, it looks increasingly like it has positioned itself for a comeback. The company's business seems to have bounced back from the pandemic, and that should translate into stock gains over time.

Ultimately, increased interest from first-time cruisers and an improving financial situation should make Carnival a more appealing stock to own. Additionally, the discounted valuation should limit the downside. Although the company's struggles aren't over, record passenger counts and falling debt levels should make this a stock worth owning.

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Will Healy has no position in any of the stocks mentioned. The Motley Fool recommends Carnival Corp. The Motley Fool has a disclosure policy.

Paid Post: Content produced by Motley Fool. The Globe and Mail was not involved, and material was not reviewed prior to publication.

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