At its close last week, the FTSE 100 cruise company Carnival (LSE: CCL) had already gained 60% from the lowest level it hit during the stock market crash. But that doesn’t mean the stock, or indeed the company, is out of the woods.
Challenges for Carnival
First, consider the stock price. Even now it’s trading at a fraction of the highs it saw in January this year. Its recovery so far is more a sign of how sharply it had fallen, and less of how much it has actually bounced back. Second, CCL has been hit particularly hard by the coronavirus crisis. With countries in lockdown, the leisure travel business has come to a halt. It could be over a month before lockdowns are lifted and even longer before it’s back to business as usual.
But overcoming the health crisis is just one part of the story. It has also impacted the economy negatively. According to the Office of Budget Responsibility, the economy could shrink by as much as 35% in this quarter. I suspect it’s going to be a long way to recovery and then to growth. Cyclical businesses like that of Carnival’s tend to benefit richly from periods of high growth and vice versa.
If a boom is now a long way off, we can reasonably expect that it will be a while before CCL’s business finds its footing again as well. Carnival underlines the effect of Covid-19 on its business in a recent update. It says “COVID-19 has had, and will continue to have, a materially adverse impact on our financial condition and operations, which impacts our ability to obtain acceptable financing to fund any resulting shortfalls in cash from operations.”
How’s it placed for the long term?
I’m not entirely pessimistic about Carnival’s long-term prospects though. For one, it’s a financially healthy company, which has reported growing revenues and positive earnings in the past years. There may well be potential for it to bounce back over time. As a global company, CCL derives its revenue from across geographies, which can be a good hedge in case of concentrated economic downturns in specific countries.
The real question concerning me is whether it can see itself through in the interim. In particular, I’m concerned about whether it will be able to finance itself when there are no incoming revenues. This is the red flag raised in the update I referred to above.
How the health crisis unfolds and how deep an impact it has on the global economy is still a matter of speculation. I reckon it could be a few months before we get a clearer picture. If there’s widespread economic damage, it could put CCL in an even more vulnerable position. I would rather go for safer stocks while waiting to see how the Carnival story goes.
