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Why I’m buying Carnival shares after their recent slump

Rupert Hargreaves
A person suffering

Carnival (LSE: CCL) shares have been some of the worst-performing assets on the market this year. It’s no mystery why the stock has slumped over the past few weeks. The company owns the Princess Cruise brand, which operates Grand Princess and Diamond Princess, the cruise ships at the centre of the global coronavirus outbreak.

As of yet, we don’t know what impact this could have on Carnival shares in the long term. A week or two ago, management warned that if the company was forced to cancel all of its cruises across Asia, it could reduce earnings per share by more than 20%.

Unfortunately, it now looks as if the impact on the business could be much more significant. Reports suggest cruise bookings have fallen 50% over the past few weeks.

However, despite this uncertainty, Carnival shares could offer attractive returns for investors who are prepared to take a long-term view of the business.

Are Carnival shares worth buying?

It’s now clear that the virus outbreak will have a significant impact on the cruise operator. There’s a very high chance the operation will lose money this year, and there could be a hangover into 2021 as well.

This might force management to cut the company’s dividend. The cash for the payout, which costs the group around $1.3bn per annum, could be put to better use elsewhere. These short-term pressures are unlikely to leave a significant impact on the business. What’s more, it looks as if Carnival has plenty of financial firepower to weather the storm.

The most common reason why companies fail is debt. Indeed, businesses with a lot of debt look very intelligent in the good times but struggle in the bad. If the business falls out with its lenders, then it can quickly go under. This is the main reason why it looks as if Carnival can survive. The company’s balance sheet is relatively stable compared to its peers.

Net gearing — the ratio of debt minus cash to total shareholder equity — is less than 50%. What’s more, the company has lots of assets it can borrow against to unlock cash. This financial flexibility should help the business remain afloat through these tough times.

Upside of 100%?

As the risk of the company going bust is low, now could be the time to buy Carnival shares. The stock is trading at a price-to-book (P/B) value of just 0.5. This suggests the shares offer a wide margin of safety at current levels.

Further, while it might not make much sense to rely on the company’s dividend yield now, in the future, there’s no reason why the business cannot reinstate the payout at its current level. That suggests investors could receive a 10% dividend yield in future.

Considering all of the above, it might now be an excellent time to buy Carnival shares.

The post Why I’m buying Carnival shares after their recent slump appeared first on The Motley Fool UK.

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Rupert Hargreaves owns shares in Carnival. The Motley Fool UK has recommended Carnival. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

Motley Fool UK 2020