Do Bigger Ships Mean Larger Profits?

Cruise ships have been getting larger--in fact, the maximum capacity of the biggest cruise ships almost doubled from about 3,000 passengers to approximately 6,000 passengers within the past 10 years. While some like larger cruise ships for their wider offerings of activities and features, others are concerned with issues like safety and fuel efficiency.

I will be looking at listed cruise companies Carnival , Royal Caribbean , and Norwegian Cruise  to see how the increased sizes of cruise ships have affected these companies' operations and their attractiveness as investments.

Are bigger ships more dangerous?
The 2012 Costa Concordia accident, where 32 lives were lost in an accident on a cruise ship owned by Carnival, has raised doubts about the safety of larger cruise ships. Some are concerned that it takes more time to evacuate the passengers of a larger ship, potentially increasing the death rates for such unfortunate accidents. Others worry that it is also more difficult to do a thorough inspection of larger ships, increasing the probability of ship faults going undetected.


Although the French Association of Cruise Companies has claimed that the size of modern ships has no impact on their safety, cruise accidents have already had an impact on safety regulations and safety-related spending for cruise companies. Following the Costa Concordia accident, the Cruise Lines International Association introduced several new safety directives to tighten current regulations regarding cruise ship safety with respect to crew training and the recording of passenger information. Separately, Carnival also committed to $600-$700 million  on fire protection and backup systems in April 2013.

The extra costs of compliance with safety regulations and enhancing safety capabilities will affect both Carnival and its peers in the short term. However, Carnival has an advantage over its competitors by virtue of its market leadership. With close to half of the global market share, Carnival has the ability to spread safety-related spending and investments over a significantly larger revenue base. Historically, it has already delivered ROAs superior to that of its peers in every single year in the past decade thanks to economies of scale.

Can bigger ships deliver fuel savings?
While larger ships typically use more fuel than their smaller counterparts over the same distance, larger ships also give architects opportunities to incorporate more fuel saving features. For example, Royal Caribbean's new and larger ships, Oasis of the Seas and Allure of the Seas, use about 25% less fuel than the rest of its fleet. Larger ships like these are equipped with engines of different sizes, to cater to different energy usage needs under various conditions. This will enable operators to optimize fuel usage. 

In the long run, the increased sizes of cruise ships should spur cruise companies to work with their partners on more efficient fuel systems to minimize the impact of fuel volatility on operations. Unfortunately, this is not a sustainable competitive advantage for Royal Caribbean in the mid-to-long term. Nothing stops its peers from installing their own energy saving additions to drive greater cost efficiency.

Size gives you greater freedom
When I plan to travel overseas, I usually prefer to design my own itinerary instead of relying on organized tours by travel agencies. Freedom is all that matters in going for a vacation. A vacation is no longer a vacation if you have to eat at designated times and venues, or dress for the occasion. Norwegian Cruise's "freestyle cruising" concept is one such example. Passengers have a wider variety of dining options. You can sit down for a three-course meal at the main dining room if you are in the mood for a satisfying culinary experience. Alternatively, if you are rushing for time, you can grab some fast food like burgers at cafes.

Larger ships will allow Norwegian Cruise to push its "freestyle cruising" concept further. For example, its new ship Norwegian Breakaway will boast the first Aqua Park at sea, complete with water slides and rope courses. Although Norwegian Cruise's competitors don't use the term "freestyle cruising," they are certainly leveraging larger ships to offer more choices to passengers.

Come sail away
There is no conclusive evidence that larger cruise ships are any less safe than their smaller counterparts. In fact, cruise companies have capitalized on the sizes of their new ships to entice customers with more attractions and incorporate more fuel efficient features into the ships. However, larger ships, fuel efficient systems, and the range of attractions can be easily duplicated by competitors with time.

Hence, it is not the size of the ships that matter, but the size of the cruise companies' operations that confer them with significant cost advantages. Of the three listed cruise companies, Carnival is my top investment candidate. As the outright global market leader in the industry, I expect it to leverage its size advantage to cruise ahead of its competitors.

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The article Do Bigger Ships Mean Larger Profits? originally appeared on Fool.com.

Mark Lin has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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