RCL

Business Context and Reporting Period

Company: Royal Caribbean Cruises Ltd.
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2007
Business Overview: The Company is the world's second-largest cruise operator, managing five brands (Royal Caribbean International, Celebrity Cruises, Pullmantur Cruises, Azamara Cruises, and CDF Croisières de France) with 35 ships and approximately 71,200 berths as of year-end 2007. The Company serves contemporary, premium, and deluxe market segments globally, with a strategic focus on expanding international passenger sourcing outside of North America.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 17.6% to $6.1 billion, driven by a 12.3% increase in capacity (primarily from the Pullmantur acquisition and new ships) and a 4.7% increase in Gross Yields.
• Profitability Decline: Despite revenue growth, Net Income decreased 4.8% to $603.4 million. This was primarily due to increased operating expenses (fuel, payroll, and other costs) and higher interest expense ($333.8 million vs. $267.9 million in 2006).
• Fuel Costs: Fuel expenses rose significantly, with the cost per metric ton increasing 123% from 2003 levels to $455 in 2007. Fuel represented 8.9% of total revenues in 2007.
• Acquisition Impact: The full-year impact of the Pullmantur Cruises acquisition (completed Nov 2006) contributed to capacity growth and revenue diversification, with international passenger ticket revenues rising to 30% of the total.
• One-Time Items: 2006 included a $36.0 million gain from a lawsuit settlement with Alstom Power Conversion that did not recur in 2007.

Guidance, Outlook, and Risks

2008 Outlook

As of February 2008, management provided the following guidance for the full year 2008:

• Earnings Per Share: Expected to be in the range of $3.20 to $3.40.
• Net Yields: Expected to increase approximately 4% compared to 2007.
• Net Cruise Costs: Expected to increase approximately 2% per APCD (1% to 2% excluding fuel).
• Capacity: Expected to increase 5.1%, driven by new ships including Independence of the Seas and Celebrity Solstice.
• Fuel: Expenses estimated at $595.0 million assuming prices remain at January 30, 2008 levels; 45% of fuel costs are hedged.

Risks and Contingencies

• Regulatory/Litigation: The Florida Attorney General is reviewing the Company's fuel supplement implementation and investigating potential anti-trust violations regarding fuel pricing among cruise lines. A class-action lawsuit regarding fuel supplements was filed in February 2008.
• Shipyard Risks: Aker Yards Oy, the builder of the Project Genesis class ships, reported profit warnings and delays. While management does not currently expect a material impact, further deterioration could affect delivery and costs.
• Market Risks: Exposure to fuel price volatility, foreign currency fluctuations (specifically the Euro for ship construction), and potential overcapacity in the global cruise market.
• Taxation: Reliance on Section 883 of the U.S. Internal Revenue Code for tax exemption on shipping income; changes in this status could materially increase tax liabilities.

Investor Verification Checklist

• Fuel Hedging Effectiveness: Verify the extent of fuel price hedging and the impact of the temporary fuel supplement on future demand and regulatory compliance.
• Shipyard Delivery Schedule: Monitor the status of Aker Yards Oy and Meyer Werft to ensure timely delivery of the seven ships on order, which are critical to the 2008-2011 capacity growth plan.
• Regulatory Outcomes: Track the resolution of the Florida Attorney General's investigation into fuel supplements and the pending anti-trust class-action lawsuit.
• International Growth: Assess the success of international passenger sourcing initiatives, which now account for 30% of ticket revenues, to mitigate North American economic sensitivity.
• Debt Servicing: Review the Company's ability to service $5.7 billion in debt while funding $1.9 billion in capital expenditures for 2008.