Norwegian Cruise Line Holdings Ltd. annual report, FY2016

Business context and reporting period

Norwegian Cruise Line Holdings Ltd. (NCLH) operates Norwegian Cruise Line, Oceania Cruises and Regent Seven Seas Cruises. This Form 10-K covers the fiscal year ended December 31, 2016; fourth-quarter figures are unaudited. The company operated 24 ships with approximately 46,500 berths and reported one aggregated segment.

Financial performance and liquidity

Net Revenue, a non-GAAP measure, rose 13.8% to $3.762 billion. Capacity Days increased 11.4%, while Net Yield increased 2.1% (2.8% on a constant-currency basis). Occupancy was 107.4%, versus 109.0% in 2015. Adjusted EBITDA increased 17.7% to $1.444 billion; Adjusted Net Income was $776.3 million and Adjusted EPS was $3.41. These adjusted measures exclude specified items and are not GAAP substitutes.

Fourth-quarter revenue was $1.125 billion, compared with $1.037 billion a year earlier; operating income was $153.6 million versus $117.9 million, and net income was $72.2 million versus $38.3 million. Fourth-quarter diluted EPS was $0.32 versus $0.17.

At year-end, cash and cash equivalents were $128.3 million and available borrowing under the revolving facility was $621.0 million, for reported liquidity of $749.3 million. Working capital deficit was $1.9 billion, including $1.173 billion of advance ticket sales. Total debt, including current portion, was $6.399 billion, compared with $6.398 billion in 2015; shareholders’ equity was $4.538 billion. Interest expense, net rose to $276.9 million from $221.9 million. Operating cash flow was $1.240 billion; investing cash outflow was $1.129 billion and financing cash outflow was $98.3 million.

Material changes versus prior year

• Revenue and operating results benefited from higher capacity, improved pricing and new ships: Norwegian Escape entered service in late 2015, Sirena joined the fleet in April 2016 and Seven Seas Explorer was delivered in June 2016.
• Fuel expense declined to $335.2 million from $358.7 million; average fuel price fell 13.5% to $466 per metric ton. Fuel represented 11.8% of cruise operating expense, down from 13.5%.
• Marketing, general and administrative expense increased to $666.2 million from $555.0 million, including higher marketing and share-based compensation expense. Adjusted Net Cruise Cost Excluding Fuel per Capacity Day increased 1.5%.
• Cash investment in property and equipment was $1.092 billion. Contractual ship-construction obligations were $3.154 billion at year-end; the filing separately estimated capital expenditures of $1.3 billion in each of 2017 and 2018 and $1.2 billion in 2019.

Outlook, risks and unusual items

The filing provides no specific financial guidance. Management described continued fleet expansion and international growth as strategic priorities. Ships then on order included Norwegian Joy (spring 2017), Norwegian Bliss (spring 2018), another Breakaway Plus ship (fall 2019) and an Explorer Class ship (winter 2020). In February 2017, NCLH announced four additional ships for delivery through 2025 and options for two more in 2026 and 2027. Export-credit financing was expected to cover approximately 80% of qualifying newbuild contract prices.

Key risks include substantial debt and secured collateral, variable interest rates, fuel and foreign-exchange exposure, consumer-discretionary demand, geopolitical or health events, shipbuilding delays, industry overcapacity, cybersecurity, environmental regulation and the ability to retain Section 883 U.S. tax benefits. Debt agreements impose financial and operating covenants and restrict dividends; management reported covenant compliance at year-end. The New Revolving Loan Facility and term loan have a potential springing maturity 91 days before the 2020 notes mature if specified refinancing and liquidity conditions are not met.

2016 included $39.2 million of losses on debt extinguishment and debt modification costs associated with refinancing, and $11.2 million of deferred financing-fee and other write-offs. NCLH issued $700 million of 4.750% notes due 2021 to refinance $680 million of 5.25% notes due 2019; redemption of the latter was completed in January 2017. Goodwill impairment testing found no impairment, including an interim review of Oceania. The company stated that pending litigation was not expected, based on current knowledge, to be material, but it could not estimate potential losses beyond amounts accrued. Management and the auditor reported effective internal control over financial reporting as of year-end.

Important facts for investors to verify

• Reconcile reported and adjusted earnings, including the $143.2 million of adjustments to 2016 Adjusted Net Income, and assess recurring share-based compensation and refinancing costs.
• Review the debt maturity schedule, interest-rate sensitivity, covenant headroom and the springing-maturity conditions; scheduled principal repayments include $2.194 billion in 2021.
• Assess funding and returns for the large shipbuilding program against operating cash generation, export-credit financing assumptions and delivery risks.
• Monitor booking trends, pricing, occupancy and capacity growth, particularly as additional industry capacity enters service.
• Check fuel and euro-hedge coverage and the potential effects of higher fuel prices, currency movements and changes in tax or environmental rules.