royal caribbean cruise deck view

The price of Royal Caribbean stock dropped nearly 8% yesterday at $35.79 per share after the company announced that it would be selling $900 million in convertible notes due in 2025 to refinance other notes that are scheduled to mature in 2023.

In connection with this offering, the company stated that it will also give the initial purchases of the notes the option to buy another $135 million in principal. However, just this morning, the company stated that it upsized the offering to $1 billion while it also established the interest rate for the notes at 6%.

The option granted to initial investors was also increased to $150 million and the conversion factor for the notes was established. According to the press release, note holders can convert their notes into 19.9577 RCL shares for every $1,000 invested resulting in an initial conversion price of $50.11. This represents a 40% premium over yesterday’s closing price.

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“With the proceeds of this offering, our intention is to opportunistically repurchase the existing convertible notes, and we have the option to settle the remaining notes in cash to address our convertible debt maturities in a manner that is net neutral to our outstanding shares and share equivalents”, stated Naftali Holtz, the Chief Financial Officer of the Royal Caribbean Group in regards to the operation.

Royal Caribbean is Forced to Pay Higher Rates as the Macro Backdrop has Shifted

For Royal Caribbean, this refinancing represents an increase in its interest expenditures as the two notes that will be paid with the proceeds of this offering carried a 2.875% and 4.25% interest rate.

If the company allocates the $1.15 billion at that rate, it will pay nearly $70 million in interest compared to the $44 million it paid on the two notes that will be refinanced.

According to RCL’s annual report, a total of $2.24 billion of its long-term debt (including leases) will be maturing this year while another $5.38 billion is scheduled to mature in 2023. Therefore, this operation is effectively refinancing only a fraction of the firm’s upcoming financial commitments.

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For investors, the fact that the company was forced to increase the interest rate paid on its convertible notes to entice investors indicates that Royal Caribbean’s financial expenditures will rise significantly in the future as the company progressively secures the refinancing of the remaining instruments.

During the first six months of this year, Royal Caribbean spent $580.37 million in interest expenditures and experienced a net loss of $1.69 billion. In addition, the company burned around $2.36 billion in cash that was able to finance by raising a similar amount via the issuance of debt instruments. Meanwhile, by the end of that period, the firm had $2.1 billion in cash and equivalents.

Macroeconomic conditions across the world have shifted and interest rates are now significantly higher than they were a year or two ago. Therefore, financing costs are expected to rise for corporations including Royal Caribbean.

Royal Caribbean Stock Dives as Investors Adopt a Risk-Off Attitude

royal caribbean stock price chart
Royal Caribbean (RCL) price chart – Source: TradingView

So far this year, the price of this cruise line stock has declined 53.4% as investors have adjusted their risk premiums for all asset classes including equities. Companies with weak balance sheets have been the most severely hit as a result of this change in the macro backdrop.

In the specific case of Royal Caribbean, investors may fear that the firm will be forced to refinance its existing debt at higher and higher rates if conditions keep deteriorating.  This would increase in financing costs and will immediately hurt the firm’s bottom-line performance.

In 2019, the year before the pandemic, Royal Caribbean turned a net profit of $1.9 billion. However, interest expenditures back then were $409 million. This year, those same expenditures will likely exceed the $1 billion mark.

Therefore, even if Royal Caribbean sales recover to pre-pandemic levels, the firm’s profitability will be hurt by the higher interest rates that the business now has to pay as a result of a shift in the macroeconomic environment.

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