Wachovia analysts advise going long Royal Caribbean stock, short Starwood

By Ronda Fears

Nashville, March 25 - With the belief that cruise bookings will recover faster than hotel reservations, Wachovia Securities, Inc. convertible analysts Sri Nadesan and Steve Jones recommend pairing a long Royal Caribbean Cruises Ltd. stock position with a short position in Starwood Hotels & Resorts Worldwide Inc. shares.

On Monday, Royal Caribbean closed at $15.55 and Starwood closed at $24.11.

"We would suggest an equal dollar long/short trade. That is, we suggest going long 1.55 Royal Caribbean shares for every Starwood share. Therefore, the current spread is zero," the analysts said in a report Tuesday.

"We recommend closing out the position when the spread reaches $4 on the upside. And, on the downside, we would put in a stop-loss at a spread of negative $2.

"This translates to about one standard deviation on the upside and 0.5 standard deviation on the downside. We would set up the initial trade for three weeks unless our upside target or stop-loss is reached."

With the fog of war appearing to lift, the analysts said, they believe leisure and lodging common stocks will likely recover somewhat from current depressed valuations, which have been rising the past two weeks but are still near the lows hit in November 2002.

"We think a quick resolution of the war situation will likely lead leisure and lodging stocks higher," the analysts said.

And, they added, "We think Royal Caribbean's stock price will likely recover faster in the current environment than Starwood Hotels & Resorts' stock price."

Cruise line stock prices had been punished more than upper upscale lodging stock prices leading up to the current Iraq war, the analysts noted.

Cruise line stocks declined 33% from the third week of November to March 12, whereas the upper upscale lodging stock prices declined 18% during the same period.

Although both sectors' stock prices have risen since March 12, the cruise line stock prices are still 19% below their November 2002 level, and the upper upscale lodging stock prices are now 10% below their November 2002 level, they said.

"We think cruise passengers have headed back to the seas faster after short-term exogenous shocks, such as the current geopolitical worries, than guests in upper upscale hotels."

"Despite current worries about the consumers' ability and willingness to continue to spend, we think a resolution to the war will likely lift consumer confidence faster than it will likely lift the current anemic level of corporate travel," the analysts said.

"Therefore, we believe cruise liner bookings will likely recover faster."

Also they said current equity and enterprise valuations in the cruise line sector are more appealing than in the upper upscale lodging sector.

Royal Caribbean's stock currently trades at 9.7x estimated 2003 earnings and 8.0x estimated 2004 earnings. The analysts think a 12x-15x price earnings multiple is a reasonable price for Royal Caribbean's common stock.

On a total enterprise value to EBITDA multiple basis, Royal Caribbean is also more attractive, too. Royal Caribbean now trades at 8.5x actual 2002 EBITDA and 8.2x estimated 2003 EBITDA. The analysts think a TEV/EBITDA multiple of 10x-12x is more reasonable, which would still be below normal historical multiples.

On the other hand, Starwood trades at a TEV/EBITDA multiple of 9.5x actual 2002 EBITDA and 9.3x estimated 2003 EBITDA. Starwood's normalized period TEV/EBITDA multiple ranges between 8x and 10x. P/E multiples are not as meaningful for lodging companies with high depreciation expenses. But, for the record, the analysts noted that Starwood trades at an estimated 2003 P/E of 24.9x and estimated 2004 P/E of 20.8x.

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