The Royal Caribbean stock is booming. Is it a purchase or a sunken ship?

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After a long and painful pandemic for the cruise industry, the recovery of Royal Caribbean (RCL -7.91%) keep on going. More than a year has passed since the COVID-19 pandemic kept it docked for 16 months.

And amid that return, revenues continue to grow as more and more passengers return to the seas. Additionally, its stock rebounded significantly from June lows and maintained some of its gains even when the market turned negative. Still, the question for investors is whether that means they should buy the cruise line’s stock or stay away.

The state of Royal Caribbean

In the post-pandemic cruise industry, Royal Caribbean maintains a stranglehold on the cruise ship market. At the end of 2021, 24% of all cruise passengers sailed on a Royal Caribbean ship. It was right after Carnival Cruise Lineswhich claimed 42% of passenger volume.

Moreover, the financial statements show rapid improvement. Royal Caribbean generated $3.2 billion in revenue in the first half, compared to $92 million in the same period last year amid the pandemic. It also pared its losses, losing $1.7 billion in the first two quarters of 2022 from $2.5 billion in the first half of 2021.

Additionally, load factors, a measure of vessel occupancy levels, continue to rise. These reached 82% in the second quarter and reached 90% in June. Royal Caribbean expects load factors to exceed 100% by the fourth quarter, meaning three or more people occupy some of the rooms.

Royal Caribbean’s ongoing challenges

Nevertheless, the company is far from a full recovery. While the numbers for the first half of 2022 are cause for optimism, investors should note that the company reported revenue of $5.2 billion in the first two quarters of 2019. This means revenue is still on the rise. down 38% from 2019 levels.

However, revenues are expected to recover by next year. Analysts forecast $12.6 billion in revenue in 2023, well ahead of the $11.0 billion in revenue for 2019. That should also bring Royal Caribbean back to profitability.

Unfortunately for the cruise line, a balance sheet turnaround will likely take much longer. Due to the closures, Royal Caribbean brought in little revenue during the pandemic while its fleet imposed high fixed costs on the business. Given that its 255 million share count is only up about 23% since the end of 2019, Royal Caribbean has primarily turned to debt to stay afloat, a factor that weighs heavily on the balance sheet. .

Total debt stood at $11 billion at the end of 2019. By the second quarter of 2022, this debt had more than doubled to $23.6 billion. By comparison, shareholders’ equity is only $3.4 billion. This means that even if Royal Caribbean becomes profitable, it will have to use its profits to pay down its debt rather than reinvesting in the business. And since it is still losing money, it may have to further increase its debt or issue more shares.

In fairness, Royal Caribbean is holding up relatively well compared to Carnival, especially given Carnival’s higher debt levels. Yet such financial strains make it less likely that investors will take interest in the stock.

Avoid Royal Caribbean stocks

Royal Caribbean’s likely return to profitability next year likely means it will survive and remain a force in its industry. Unfortunately for investors, the massive debt burden makes it less likely that its stock will enjoy lasting and meaningful gains in the near future.

Under current conditions, debt service will likely consume most of its profits. Also, issuing additional shares to pay off debt will dilute shareholders. While that won’t sink Royal Caribbean, the title may do little more than stay afloat for some time to come.

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

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