Bottom Fishing with Carnival

January 17th, 2012 by Potato

It’s perhaps far too early to speak of bottoms, but with the news full of stories of the recent Carnival cruise ship-wreck and subsequent 16% sinking in share prices, it may be worth doing a bit of work to see at what level buying in the face of panic may be warranted.

First up, before deciding how much to discount CCL, we should have an understanding of whether it was appropriately valued to start with. At 14X P/E for a discretionary vacation provider, it was perhaps a little rich going into the mess on an earnings basis, but pro-forma book value was $30/share, giving it some support. But if we say $29 would have been a more fair starting place before the ship got grounded, then it’s clearly not bottomed yet — a 16% drop only takes it to that price.

For the current circumstances, to be conservative we should assume no insurance coverage (due to the possibility that it was an at-fault accident) and that the ship will not be able to be repaired, representing a $500M loss. It’s tough to say what the liability will be for each of the passengers (~4000), but perhaps $50k each is a good upper bound, plus another $2k for the next group of ~4000 to compensate them for having to change their trip plans/flights at the last minute, plus $1M for each death (6 confirmed with ~20 missing, call it $25M). $733M immediate hit to book value, or about $1/share.

On top of that, it’s fair to assume that people will be less likely to book cruises for the next few years, so revenue may decline by say 10% for the next 3 years. If costs are fixed (assume that they are, again to be conservative), that goes straight to a decline in earnings. So I’ll plug into my little model $1/share in earnings for each of the next 3 years, returning to $2.40/share afterwards. In fact, that appears to be a much, much larger potential hit to the value than the loss of the ship and liability from the accident, which is a shame since it’s a lot harder to estimate. Add in a healthy fudge factor, and I wouldn’t be interested until it hit something like $21-25 – a 1/3 decline from Friday’s price. Until then I think I’ll just watch.

My record is fairly spotty with this sort of thing: 1-1-1 to date (BP a clear win, the Canadian banks w/ ABCP came out all-right, and TEPCO was a disaster).

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