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ROYAL CARIBBEAN CRUISES LTD - Quarter Report: 2013 September (Form 10-Q)

Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

x

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended September 30, 2013

 

OR

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from            to           

 

Commission File Number: 1-11884

 

ROYAL CARIBBEAN CRUISES LTD.

(Exact name of registrant as specified in its charter)

 

Republic of Liberia

 

98-0081645

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

 

1050 Caribbean Way, Miami, Florida 33132

(Address of principal executive offices) (zip code)

 

(305) 539-6000

(Registrant’s telephone number, including area code)

 

N/A

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes x  No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer x

 

Accelerated filer o

 

Non-accelerated filer o

 

Smaller reporting company o

(Do not check if a smaller reporting company)

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No x

 

There were 219,938,511 shares of common stock outstanding as of October 17, 2013.

 

 

 



Table of Contents

 

ROYAL CARIBBEAN CRUISES LTD.

 

TABLE OF CONTENTS

 

 

Page

 

 

PART I. FINANCIAL INFORMATION

 

 

 

Item 1. Financial Statements

1

 

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

27

 

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

49

 

 

Item 4. Controls and Procedures

50

 

 

PART II. OTHER INFORMATION

 

 

 

Item 1. Legal Proceedings

51

 

 

Item 1A. Risk Factors

51

 

 

Item 6. Exhibits

52

 

 

SIGNATURES

53

 



Table of Contents

 

PART I. FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

ROYAL CARIBBEAN CRUISES LTD.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(unaudited; in thousands, except per share data)

 

 

 

Quarter Ended

 

 

 

September 30,

 

 

 

2013

 

2012

 

Passenger ticket revenues

 

$

1,672,051

 

$

1,635,033

 

Onboard and other revenues

 

639,698

 

591,357

 

Total revenues

 

2,311,749

 

2,226,390

 

 

 

 

 

 

 

Cruise operating expenses:

 

 

 

 

 

Commissions, transportation and other

 

378,291

 

366,100

 

Onboard and other

 

178,269

 

166,356

 

Payroll and related

 

213,860

 

201,644

 

Food

 

119,104

 

111,315

 

Fuel

 

215,686

 

213,434

 

Other operating

 

311,591

 

289,476

 

Total cruise operating expenses

 

1,416,801

 

1,348,325

 

Marketing, selling and administrative expenses

 

249,954

 

243,877

 

Depreciation and amortization expenses

 

188,541

 

182,051

 

Restructuring and related charges

 

12,244

 

 

Operating Income

 

444,209

 

452,137

 

 

 

 

 

 

 

Other income (expense):

 

 

 

 

 

Interest income

 

3,299

 

4,744

 

Interest expense, net of interest capitalized

 

(79,654

)

(84,977

)

Extinguishment of unsecured senior notes

 

(4,206

)

(7,485

)

Other income

 

2,053

 

3,360

 

 

 

(78,508

)

(84,358

)

Net Income

 

$

365,701

 

$

367,779

 

 

 

 

 

 

 

Earnings per Share:

 

 

 

 

 

Basic

 

$

1.66

 

$

1.69

 

Diluted

 

$

1.65

 

$

1.68

 

 

 

 

 

 

 

Weighted-Average Shares Outstanding:

 

 

 

 

 

Basic

 

219,744

 

217,940

 

Diluted

 

221,004

 

219,296

 

 

 

 

 

 

 

Comprehensive Income (Loss)

 

 

 

 

 

Net Income

 

$

365,701

 

$

367,779

 

Other comprehensive income (loss):

 

 

 

 

 

Foreign currency translation adjustments

 

6,164

 

1,331

 

Change in defined benefit plans

 

5,423

 

 

Gain on cash flow derivative hedges

 

61,573

 

81,322

 

Total other comprehensive income

 

73,160

 

82,653

 

 

 

 

 

 

 

Comprehensive Income

 

$

438,861

 

$

450,432

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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Table of Contents

 

ROYAL CARIBBEAN CRUISES LTD.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(unaudited; in thousands, except per share data)

 

 

 

Nine Months Ended

 

 

 

September 30,

 

 

 

2013

 

2012

 

Passenger ticket revenues

 

$

4,432,542

 

$

4,319,478

 

Onboard and other revenues

 

1,673,194

 

1,562,396

 

Total revenues

 

6,105,736

 

5,881,874

 

 

 

 

 

 

 

Cruise operating expenses:

 

 

 

 

 

Commissions, transportation and other

 

1,017,734

 

994,535

 

Onboard and other

 

440,466

 

404,932

 

Payroll and related

 

632,758

 

618,277

 

Food

 

351,117

 

334,240

 

Fuel

 

689,809

 

680,389

 

Other operating

 

890,726

 

867,078

 

Total cruise operating expenses

 

4,022,610

 

3,899,451

 

Marketing, selling and administrative expenses

 

781,936

 

756,049

 

Depreciation and amortization expenses

 

564,089

 

541,957

 

Restructuring and related charges

 

13,922

 

 

Operating Income

 

723,179

 

684,417

 

 

 

 

 

 

 

Other income (expense):

 

 

 

 

 

Interest income

 

10,451

 

16,062

 

Interest expense, net of interest capitalized

 

(256,713

)

(266,749

)

Extinguishment of unsecured senior notes

 

(4,206

)

(7,485

)

Other expense

 

(6,037

)

(15,155

)

 

 

(256,505

)

(273,327

)

Net Income

 

$

466,674

 

$

411,090

 

 

 

 

 

 

 

Earnings per Share:

 

 

 

 

 

Basic

 

$

2.13

 

$

1.89

 

Diluted

 

$

2.11

 

$

1.87

 

 

 

 

 

 

 

Weighted-Average Shares Outstanding:

 

 

 

 

 

Basic

 

219,450

 

217,797

 

Diluted

 

220,744

 

219,263

 

 

 

 

 

 

 

Comprehensive Income (Loss)

 

 

 

 

 

Net Income

 

$

466,674

 

$

411,090

 

Other comprehensive income (loss):

 

 

 

 

 

Foreign currency translation adjustments

 

369

 

(7,690

)

Change in defined benefit plans

 

10,716

 

 

Gain (loss) on cash flow derivative hedges

 

56,515

 

(59,460

)

Total other comprehensive income (loss)

 

67,600

 

(67,150

)

 

 

 

 

 

 

Comprehensive Income

 

$

534,274

 

$

343,940

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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ROYAL CARIBBEAN CRUISES LTD.

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

 

 

 

As of

 

 

 

September 30,

 

December 31,

 

 

 

2013

 

2012

 

 

 

(unaudited)

 

 

 

Assets

 

 

 

 

 

Current assets

 

 

 

 

 

Cash and cash equivalents

 

$

209,567

 

$

194,855

 

Trade and other receivables, net

 

342,021

 

281,421

 

Inventories

 

160,225

 

146,295

 

Prepaid expenses and other assets

 

258,567

 

207,662

 

Derivative financial instruments

 

48,295

 

57,827

 

Total current assets

 

1,018,675

 

888,060

 

Property and equipment, net

 

17,494,039

 

17,451,034

 

Goodwill

 

436,647

 

432,975

 

Other assets

 

1,136,884

 

1,055,861

 

 

 

$

20,086,245

 

$

19,827,930

 

 

 

 

 

 

 

Liabilities and Shareholders’ Equity

 

 

 

 

 

Current liabilities

 

 

 

 

 

Current portion of long-term debt

 

$

1,942,849

 

$

1,519,483

 

Accounts payable

 

396,482

 

351,587

 

Accrued interest

 

120,585

 

106,366

 

Accrued expenses and other liabilities

 

623,664

 

541,722

 

Customer deposits

 

1,760,985

 

1,546,993

 

Total current liabilities

 

4,844,565

 

4,066,151

 

Long-term debt

 

5,980,912

 

6,970,464

 

Other long-term liabilities

 

498,684

 

482,566

 

 

 

 

 

 

 

Commitments and contingencies (Note 7)

 

 

 

 

 

 

 

 

 

 

 

Shareholders’ equity

 

 

 

 

 

Preferred stock ($0.01 par value; 20,000,000 shares authorized; none outstanding)

 

 

 

Common stock ($0.01 par value; 500,000,000 shares authorized; 230,223,320 and 229,080,109 shares issued, September 30, 2013 and December 31, 2012, respectively)

 

2,302

 

2,291

 

Paid-in capital

 

3,137,112

 

3,109,887

 

Retained earnings

 

6,103,290

 

5,744,791

 

Accumulated other comprehensive loss

 

(66,916

)

(134,516

)

Treasury stock (10,308,683 common shares at cost, September 30, 2013 and December 31, 2012)

 

(413,704

)

(413,704

)

Total shareholders’ equity

 

8,762,084

 

8,308,749

 

 

 

$

20,086,245

 

$

19,827,930

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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ROYAL CARIBBEAN CRUISES LTD.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited, in thousands)

 

 

 

Nine Months Ended

 

 

 

September 30,

 

 

 

2013

 

2012

 

Operating Activities

 

 

 

 

 

Net income

 

$

466,674

 

$

411,090

 

Adjustments:

 

 

 

 

 

Depreciation and amortization

 

564,089

 

541,957

 

Loss (gain) on derivative instruments not designated as hedges

 

8,634

 

(3,052

)

Loss on extinguishment of unsecured senior notes

 

4,206

 

7,485

 

Changes in operating assets and liabilities:

 

 

 

 

 

Decrease in trade and other receivables, net

 

14,278

 

42,484

 

(Increase) decrease in inventories

 

(13,541

)

423

 

Increase in prepaid expenses and other assets

 

(28,363

)

(39,410

)

Increase in accounts payable

 

43,415

 

46,836

 

Increase (decrease) in accrued interest

 

14,219

 

(2,305

)

Increase in accrued expenses and other liabilities

 

29,496

 

11,688

 

Increase in customer deposits

 

131,237

 

80,993

 

Cash received on settlement of derivative financial instruments

 

 

69,684

 

Other, net

 

(4,240

)

4,383

 

Net cash provided by operating activities

 

1,230,104

 

1,172,256

 

 

 

 

 

 

 

Investing Activities

 

 

 

 

 

Purchases of property and equipment

 

(534,046

)

(429,309

)

Cash (paid) received on settlement of derivative financial instruments

 

(8,451

)

19,058

 

Investments in unconsolidated affiliates

 

(60,426

)

 

Cash payments received on loan to unconsolidated affiliate

 

23,372

 

23,512

 

Proceeds from sale of ship

 

 

9,811

 

Other, net

 

1,147

 

(6,395

)

Net cash used in investing activities

 

(578,404

)

(383,323

)

 

 

 

 

 

 

Financing Activities

 

 

 

 

 

Debt proceeds

 

1,519,464

 

915,000

 

Debt issuance costs

 

(51,720

)

(48,190

)

Repayments of debt

 

(2,065,965

)

(1,607,919

)

Dividends paid

 

(54,159

)

(65,293

)

Proceeds from exercise of common stock options

 

13,626

 

3,703

 

Other, net

 

1,140

 

1,228

 

Net cash used in financing activities

 

(637,614

)

(801,471

)

 

 

 

 

 

 

Effect of exchange rate changes on cash

 

626

 

(8,411

)

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

14,712

 

(20,949

)

Cash and cash equivalents at beginning of period

 

194,855

 

262,186

 

Cash and cash equivalents at end of period

 

$

209,567

 

$

241,237

 

 

 

 

 

 

 

Supplemental Disclosure

 

 

 

 

 

Cash paid during the period for:

 

 

 

 

 

Interest, net of amount capitalized

 

$

232,769

 

$

242,680

 

Non cash Investing Activities

 

 

 

 

 

Purchase of property and equipment through asset trade in

 

$

46,375

 

$

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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Table of Contents

 

ROYAL CARIBBEAN CRUISES LTD.

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

 

As used in this Quarterly Report on Form 10-Q, the terms “Royal Caribbean,” the “Company,” “we,” “our” and “us” refer to Royal Caribbean Cruises Ltd. and, depending on the context, Royal Caribbean Cruises Ltd.’s consolidated subsidiaries and/or affiliates. The terms “Royal Caribbean International,” “Celebrity Cruises,” “Pullmantur,” “Azamara Club Cruises,” “CDF Croisières de France,” and “TUI Cruises” refer to our cruise brands. However, because TUI Cruises is an unconsolidated investment, our operating results and other disclosures herein do not include TUI Cruises unless otherwise specified.  In accordance with cruise vacation industry practice, the term “berths” is determined based on double occupancy per cabin even though many cabins can accommodate three or more passengers. This report should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2012, including the audited consolidated financial statements and related notes included therein.

 

This Quarterly Report on Form 10-Q also includes trademarks, trade names and service marks of other companies.  Use or display by us of other parties’ trademarks, trade names or service marks is not intended to and does not imply a relationship with, or endorsement or sponsorship of us by, these other parties other than as described herein.

 

Note 1. General

 

Description of Business

 

We are a global cruise company.  We own Royal Caribbean International, Celebrity Cruises, Pullmantur, Azamara Club Cruises, CDF Croisières de France and a 50% joint venture interest in TUI Cruises.

 

Basis for Preparation of Consolidated Financial Statements

 

The unaudited consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).  Estimates are required for the preparation of financial statements in accordance with these principles.  Actual results could differ from these estimates.  See Note 2. Summary of Significant Accounting Policies in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the year ended December 31, 2012 for a discussion of our significant accounting policies.

 

All significant intercompany accounts and transactions are eliminated in consolidation. We consolidate entities over which we have control, usually evidenced by a direct ownership interest of greater than 50%, and variable interest entities where we are determined to be the primary beneficiary. See Note 6. Goodwill and Other Assets for further information regarding our variable interest entities. For affiliates we do not control but over which we have significant influence on financial and operating policies, usually evidenced by a direct ownership interest from 20% to 50%, the investment is accounted for using the equity method.  We consolidate the operating results of Pullmantur and CDF Croisières de France on a two-month lag to allow for more timely preparation of our consolidated financial statements. No material events or transactions affecting Pullmantur or CDF Croisières de France have occurred during the two-month lag period of August and September 2013 that would require disclosure or adjustment to our consolidated financial statements as of and for the quarter ended September 30, 2013.

 

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We believe the accompanying unaudited consolidated financial statements contain all normal recurring accruals necessary for a fair statement.  Our revenues are seasonal and results for interim periods are not necessarily indicative of results for the entire year.

 

Note 2. Summary of Significant Accounting Policies

 

Property and Equipment

 

During the first quarter of 2013, we performed a review of the estimated useful lives and associated residual values of ships in our fleet approaching the last third of their estimated useful lives.  As a result, effective January 1, 2013, we revised the estimated useful lives of five ships from 30 years with a 15% associated residual value, to 35 years with a 10% associated residual value.  The change in the estimated useful lives and associated residual value was accounted for prospectively as a change in accounting estimate.  The 35-year useful life with a 10% associated residual value is based on revised estimates of the weighted-average useful life of all major ship components for these ships.  The change in estimate is consistent with our recent investments in and future plans to continue to invest in the revitalization of these ships and the use of certain ship components longer than originally estimated. The change allows us to better match depreciation expense with the periods these assets are expected to be in use.  For the third quarter of 2013, this change increased operating income and net income by $3.4 million and increased earnings per share by $0.02 per share on a basic and diluted basis.  For the nine months ended September 30, 2013, this change increased operating income and net income by $7.2 million and increased earnings per share by $0.03 per share on a basic and diluted basis.  For the full year 2013, this change is estimated to increase operating income and net income by approximately $11.0 million and earnings per share by $0.05 per share on a basic and diluted basis.  For further information on our significant accounting policies, refer to Note 2. Summary of Significant Accounting Policies in our Annual Report on Form 10-K for the year ended December 31, 2012.

 

Recently Adopted Accounting Standards

 

In January 2013, we adopted authoritative guidance regarding the periodic impairment testing of indefinite-lived intangible assets.  The new guidance allows an entity to assess qualitative factors to determine if it is more-likely-than-not that indefinite-lived intangible assets might be impaired and, based on this assessment, to determine whether it is necessary to perform the quantitative impairment tests.  The adoption of this guidance did not have an impact on our consolidated financial statements.

 

In March 2013, we adopted authoritative guidance regarding the presentation of amounts reclassified from accumulated other comprehensive income to net income.  The new guidance requires an entity to present, either in a single note or parenthetically on the face of the financial statements, the effect of significant amounts reclassified from each component of accumulated other comprehensive income based on its source (e.g., the release due to cash flow hedges from interest rate contracts) and the income statement line items affected by the reclassification (e.g., interest income or interest expense).  We elected to present this information in a single note. See Note 9. Changes in Accumulated Other Comprehensive Income (Loss) for our disclosures required under this guidance.

 

In July 2013, we adopted authoritative guidance regarding the inclusion of the Fed Funds Effective Swap Rate, or Overnight Index Swap rate (“OIS”), as a benchmark interest rate for hedge accounting purposes. The new guidance permits the use of the OIS to be included as an acceptable U.S. benchmark and removes the restriction on using different benchmark rates for similar hedges. The guidance is effective prospectively for qualifying new or redesignated hedging relationships entered into on or after

 

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July 17, 2013.  The adoption of this guidance did not have an impact on our consolidated financial statements.

 

Recent Accounting Pronouncements

 

In March 2013, amended guidance was issued regarding the release of cumulative translation adjustments into net income.  The new guidance provides clarification of when to release the cumulative translation adjustment into net income when a parent either sells a part or all of its investment in a foreign entity or no longer holds a controlling financial interest in a subsidiary or group of assets within a foreign entity.  This guidance will be effective for our interim and annual reporting periods beginning after December 15, 2013.  The adoption of this newly issued guidance is not expected to have a material impact on our consolidated financial statements, but will have an impact on the accounting for future sales of investments or changes in control of foreign entities.

 

Reclassifications

 

For the nine months ended September 30, 2012, $8.7 million has been reclassified in the consolidated statements of cash flows from other, net to loss (gain) on derivative instruments not designated as hedges within net cash flows provided by operating activities in order to conform to the current year presentation.

 

Other

 

Revenues and expenses include port costs that vary with guest head counts.  The amounts of such port costs included in passenger ticket revenues on a gross basis were $135.8 million and $128.8 million for the third quarters of 2013 and 2012, respectively, and $368.5 million and $345.7 million for the nine months ended September 30, 2013 and 2012, respectively.

 

Note 3. Earnings Per Share

 

A reconciliation between basic and diluted earnings per share is as follows (in thousands, except per share data):

 

 

 

Quarter Ended

 

Nine Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2013

 

2012

 

2013

 

2012

 

Net income for basic and diluted earnings per share

 

$

365,701

 

$

367,779

 

$

466,674

 

$

411,090

 

 

 

 

 

 

 

 

 

 

 

Weighted-average common shares outstanding

 

219,744

 

217,940

 

219,450

 

217,797

 

Dilutive effect of stock options, performance share awards and restricted stock awards

 

1,260

 

1,356

 

1,294

 

1,466

 

Diluted weighted-average shares outstanding

 

221,004

 

219,296

 

220,744

 

219,263

 

 

 

 

 

 

 

 

 

 

 

Basic earnings per share

 

$

1.66

 

$

1.69

 

$

2.13

 

$

1.89

 

Diluted earnings per share

 

$

1.65

 

$

1.68

 

$

2.11

 

$

1.87

 

 

Diluted earnings per share for the quarter and nine months ended September 30, 2013 did not reflect options to purchase an aggregate of 2.2 million shares because the effect of including them would have been antidilutive.  Diluted earnings per share for the quarter and nine months ended September 30, 2012

 

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did not reflect options to purchase an aggregate of 3.3 million shares because the effect of including them would have been antidilutive.

 

Note 4. Long-Term Debt

 

In June 2013, we borrowed €365.0 million, or approximately $494.1 million based on the exchange rate at September 30, 2013, under a previously committed unsecured term loan facility.  The loan is due and payable at maturity in July 2017.  Interest on the loan accrues at a floating rate based on EURIBOR plus the applicable margin.  The applicable margin varies with our debt rating and was 3.0% as of September 30, 2013.  The proceeds of this loan were used to repay amounts outstanding under our unsecured revolving credit facilities.

 

In August 2013, we amended and restated our $525.0 million unsecured revolving credit facility due November 2014.  The amendment increased capacity under this facility to $850.0 million, reduced the applicable margin and fees and extended the termination date to August 2018.  Interest on the amended facility accrues at a floating rate based on LIBOR plus the applicable margin.  The applicable margin varies with our debt rating and was 1.75% as of September 30, 2013.  In addition, we are subject to a facility fee which varies with our debt rating and was 0.37% as of September 30, 2013.  Under the amended facility, we have the ability to increase the capacity of the facility by an additional $300.0 million from time to time subject to the receipt of additional or increased lender commitments.  In addition, we increased the capacity of our unsecured revolving credit facility due July 2016 by $20.0 million in March 2013, bringing our total capacity under this facility to $1.1 billion.  Accordingly, as of September 30, 2013, we have an aggregate revolving borrowing capacity of $2.0 billion.

 

In August 2013, we entered into a credit agreement which provides an unsecured term loan facility in an amount up to $380.0 million.  We have the ability to draw on this facility at anytime on or prior to January 20, 2014.  As of the date of this filing, we have not drawn on this facility.  All amounts borrowed under the facility will be due and payable at maturity in August 2018.  Interest on the loan accrues at a floating rate based on LIBOR plus the applicable margin.  The applicable margin varies with our debt rating and would have been 2.12% as of September 30, 2013.  In addition, we are subject to a commitment fee of 0.37% per annum of the undrawn amount.

 

We anticipate the proceeds from the agreements noted above will be used primarily as part of our refinancing strategy for our remaining maturities in 2013 and 2014.

 

In September 2013, we repurchased $21.0 million of our 11.875% unsecured senior notes due 2015. Total consideration paid in connection with the repurchase, including premium and related fees and expenses, was $24.9 million resulting in a loss on the early extinguishment of debt of approximately $4.2 million which was immediately recognized in earnings.

 

In July 2013, we entered into a credit agreement for the financing of the third Oasis-class ship, which is scheduled for delivery in the second quarter of 2016.  The credit agreement makes available to us an unsecured term loan in an amount of €892.2 million, or approximately $1.2 billion, based on the exchange rate at September 30, 2013.  Compagnie Francaise d’Assurance pour le Commerce Extérieur (“COFACE”), the official export credit agency of France, has agreed to guarantee to the lenders payment of 100% of the financing.  The loan amortizes semi-annually and will mature 12 years following delivery of the ship.  Interest on the loan will accrue at our election at either a fixed rate of 2.6% or a floating rate at EURIBOR plus a margin of 1.15%.

 

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Note 5.  Property and Equipment

 

In March 2013, our conditional agreement with STX France S.A. to build the third Oasis-class ship for Royal Caribbean International became effective.  Refer to Note 7. Commitments and Contingencies for further information.  Pullmantur’s Atlantic Star, which has been out of operation since 2009, was transferred in the first quarter of 2013 to an affiliate of STX France S.A. as part of the consideration for the third Oasis-class ship.  The Atlantic Star was transferred at carrying value, which approximated its fair value on the date of its transfer.  The transfer did not result in a gain or a loss.

 

Note 6. Goodwill and Other Assets

 

During the fourth quarter of 2012, we performed the annual impairment evaluation of our goodwill and trademarks and trade names and we recognized total impairment related charges of $413.9 million associated with our Pullmantur brand.  As of September 30, 2013, the carrying amounts of goodwill and trademarks and trade names attributable to our Pullmantur reporting unit were $149.4 million and $210.4 million, respectively.  Pullmantur is a brand targeted primarily at the Spanish, Portuguese and Latin American markets.  The persistent economic instability in these markets has created significant uncertainties in forecasting operating results and future cash flows used in our impairment analyses.  We continue to monitor economic events in these markets for their potential impact on Pullmantur’s business and valuation. However, based on our most recent projections we do not believe an interim impairment evaluation of Pullmantur’s goodwill or trademarks and trade names is warranted as of September 30, 2013.

 

If there are material changes to the projected future cash flows used in the impairment analyses, especially in Net Yields, an additional impairment charge with respect to the Pullmantur reporting unit’s goodwill and trademarks and trade names may be required.  We will evaluate these intangible assets for potential impairment during our annual impairment test scheduled for the fourth quarter of 2013.

 

Variable Interest Entities

 

A Variable Interest Entity (“VIE”) is an entity in which the equity investors have not provided enough equity to finance the entity’s activities or the equity investors (1) cannot directly or indirectly make decisions about the entity’s activities through their voting rights or similar rights; (2) do not have the obligation to absorb the expected losses of the entity; (3) do not have the right to receive the expected residual returns of the entity; or (4) have voting rights that are not proportionate to their economic interests and the entity’s activities involve or are conducted on behalf of an investor with a disproportionately small voting interest.

 

We have determined that Grand Bahama Shipyard Ltd. (“Grand Bahama”), a ship repair and maintenance facility in which we have a 40% noncontrolling interest, is a VIE. The facility serves cruise and cargo ships, oil and gas tankers, and offshore units.  We utilize this facility, among other ship repair facilities, for our regularly scheduled drydocks and certain emergency repairs as may be required.  We have determined that we are not the primary beneficiary of this facility, as we do not have the power to direct the activities that most significantly impact the facility’s economic performance. Accordingly, we do not consolidate this entity and we account for this investment under the equity method of accounting. As of September 30, 2013 and December 31, 2012, the net book value of our investment in Grand Bahama, including equity and loans, was approximately $58.9 million and $59.3 million, respectively, which is also our maximum exposure to loss as we are not contractually required to provide any

 

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financial or other support to the facility. The majority of our loans to Grand Bahama are in non-accrual status and the majority of this amount is included within other assets in our consolidated balance sheets. During the first nine months of 2013, we received approximately $3.3 million in principal and interest payments related to loans that are in accrual status from Grand Bahama and recorded income associated with our investment in Grand Bahama.  We monitor credit risk associated with these loans through our participation on Grand Bahama’s board of directors along with our review of Grand Bahama’s financial statements and projected cash flows.  Based on this review, we believe the risk of loss associated with these loans was not probable as of September 30, 2013.

 

In conjunction with our acquisition of Pullmantur in 2006, we obtained a 49% noncontrolling interest in Pullmantur Air, S.A. (“Pullmantur Air”), a small air business that operates four aircraft in support of Pullmantur’s operations. We have determined Pullmantur Air is a VIE for which we are the primary beneficiary as we have the power to direct the activities that most significantly impact its economic performance and we are obligated to absorb its losses. In accordance with authoritative guidance, we have consolidated the assets and liabilities of Pullmantur Air.  We do not separately disclose the assets and liabilities of Pullmantur Air as they are immaterial to our September 30, 2013 and December 31, 2012 consolidated financial statements.

 

We have determined that TUI Cruises GmbH, our 50%-owned joint venture, which operates the brand TUI Cruises, is a VIE. As of September 30, 2013 and December 31, 2012, our investment in TUI Cruises, including equity and loans, was approximately $344.4 million and $287.0 million, respectively, and the majority of this amount was included within other assets in our consolidated balance sheets.  In addition, we and TUI AG, our joint venture partner, have each guaranteed the repayment of 50% of an €180.0 million bank loan provided to TUI Cruises and due in 2016 (refer to further details below).  Our investment amount and the potential obligations under this guarantee are substantially our maximum exposure to loss.  We have determined that we are not the primary beneficiary of TUI Cruises.  We believe that the power to direct the activities that most significantly impact TUI Cruises’ economic performance are shared between ourselves and TUI AG.  All the significant operating and financial decisions of TUI Cruises require the consent of both parties which we believe creates shared power over TUI Cruises.  Accordingly, we do not consolidate this entity and account for this investment under the equity method of accounting.

 

In connection with our sale of Celebrity Mercury to TUI Cruises in 2011, we provided a debt facility to TUI Cruises in the amount of up to €90.0 million.  The outstanding principal amount of the facility as of September 30, 2013 was €57.1 million, or $77.3 million based on the exchange rate at September 30, 2013.  This facility bears interest at the rate of 9.54% per annum, is payable over seven years, is 50% guaranteed by TUI AG and is secured by second mortgages on both of TUI Cruises’ ships, Mein Schiff 1 and Mein Schiff 2.  As of September 30, 2013, TUI Cruises’ bank loan discussed above had a remaining balance of €139.5 million, or approximately $188.8 million based on the exchange rate at September 30, 2013.  The bank loan amortizes quarterly and is secured by first mortgages on both Mein Schiff 1 and Mein Schiff 2. Based on current facts and circumstances, we do not believe potential obligations under our guarantee of TUI Cruises’ bank loan are probable.

 

During 2011 and 2012, TUI Cruises entered into construction agreements with STX Finland to build its first and second newbuild ships, scheduled for delivery in the second quarter of 2014 and the second quarter of 2015, respectively.  TUI Cruises has entered into credit agreements for the financing of up to 80% of the contract price of each ship. The remaining portion of the contract price of the ships will be funded through either TUI Cruises’ cash flows from operations and/or loans and/or equity contributions from us and TUI AG.  The construction agreements for the ships include certain restrictions on each of

 

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our and TUI AG’s ability to reduce our current ownership interest in TUI Cruises below 37.5% through the construction periods.  In addition, the credit agreements extend this restriction through 2019.

 

Note 7. Commitments and Contingencies

 

Capital Expenditures

 

In September 2013, our agreement with Meyer Werft to build the third Quantum-class ship for Royal Caribbean International became effective.  We received a commitment for the unsecured financing of the ship for up to 80% of the ship’s contract price.  Euler Hermes Deutschland AG (“Hermes”), the official export credit agency of Germany, has agreed to guarantee to the lenders payment of 95% of the financing.  The ship will have a capacity of approximately 4,150 berths and is expected to enter service in the second quarter of 2016.

 

As of September 30, 2013, the aggregate cost of our ships on order was approximately $4.7 billion, of which we had deposited $335.7 million as of such date. Approximately 45.0% of the aggregate cost was exposed to fluctuations in the euro exchange rate at September 30, 2013.  (See Note 10. Fair Value Measurements and Derivative Instruments). In October 2013, we entered into foreign currency forward contracts to hedge additional amounts related to the cost of our ships on order denominated in euros. As of the date of this filing, approximately 36.7% of the aggregate cost was exposed to fluctuations in the euro exchange rate.

 

Our brands, including our 50% joint venture, TUI Cruises, have six ships on order.  As of September 30, 2013, the expected dates that our ships on order will enter service and their approximate berths are as follows:

 

Ship

 

Expected to Enter
Service

 

Approximate
Berths

 

Royal Caribbean International —

 

 

 

 

 

Quantum-class:

 

 

 

 

 

Quantum of the Seas

 

4th Quarter 2014

 

4,150

 

Anthem of the Seas

 

2nd Quarter 2015

 

4,150

 

Unnamed

 

2nd Quarter 2016

 

4,150

 

Oasis-class:

 

 

 

 

 

Unnamed

 

2nd Quarter 2016

 

5,400

 

TUI Cruises —

 

 

 

 

 

Mein Schiff 3

 

2nd Quarter 2014

 

2,500

 

Mein Schiff 4

 

2nd Quarter 2015

 

2,500

 

 

 

Total Berths

 

22,850

 

 

Litigation

 

Between August 1, 2011 and September 8, 2011, three similar purported class action lawsuits were filed against us and certain of our current and former officers in the United States District Court of the Southern District of Florida.  The cases were consolidated and a consolidated amended complaint was filed on February 17, 2012.  The consolidated amended complaint was filed on behalf of a purported class of purchasers of our common stock during the period from October 26, 2010 through July 27, 2011 and named the Company, our Chairman and CEO, our Vice Chairman, the President and CEO of our Royal Caribbean International brand and the former President and CEO of our Celebrity Cruises brand as defendants.  The consolidated amended complaint alleged violations of Section 10(b) of the Securities

 

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Exchange Act of 1934 and SEC Rule 10b-5 as well as, in the case of the individual defendants, the control person provisions of the Securities Exchange Act.  The complaint principally alleged that the defendants knowingly made incorrect statements concerning the Company’s outlook.  The consolidated amended complaint sought unspecified damages, interest, and attorneys’ fees. We filed a motion to dismiss the complaint for failure to state a claim on April 9, 2012.  On April 18, 2013, the district judge granted our motion and ordered the case dismissed with prejudice.  Plaintiffs did not appeal this order and the case is now closed.

 

A class action complaint was filed in June 2011 against Royal Caribbean Cruises Ltd. in the United States District Court for the Southern District of Florida on behalf of a purported class of stateroom attendants employed onboard Royal Caribbean International cruise vessels alleging that they were required to pay other crew members to help with their duties in violation of the U.S. Seaman’s Wage Act. The lawsuit also alleges that certain stateroom attendants were required to work back of house assignments without the ability to earn gratuities in violation of the U.S. Seaman’s Wage Act. Plaintiffs seek judgment for damages, wage penalties and interest in an indeterminate amount. In May 2012, the Court granted our motion to dismiss the complaint on the basis that the applicable collective bargaining agreement requires any such claims to be arbitrated. Plaintiffs have appealed this decision to the United States Court of Appeals, 11th Circuit. We believe the appeal is without merit as are the underlying claims made against us and we intend to vigorously defend ourselves against them. Because of the inherent uncertainty as to the outcome of the proceeding described above, we are unable at this time to estimate the possible impact of this matter on us.

 

We are routinely involved in other claims typical within the cruise vacation industry. The majority of these claims are covered by insurance. We believe the outcome of such claims, net of expected insurance recoveries, will not have a material adverse impact on our financial condition or results of operations and cash flows.

 

Other

 

In July 2002, we entered into an operating lease denominated in British pound sterling for the Brilliance of the Seas.  The lease payments vary based on sterling LIBOR and are included in other operating expenses in our consolidated statements of comprehensive income (loss). Brilliance of the Seas lease expense amounts were approximately ₤3.1 million and ₤3.5 million, or approximately $4.8 million and $5.5 million, for the quarter ended September 30, 2013 and September 30, 2012, respectively, and were approximately ₤9.2 million and ₤11.5 million, or approximately $14.1 million and $18.3 million for the nine months ended September 30, 2013 and September 30, 2012, respectively.  The lease has a contractual life of 25 years; however, both the lessor and we have certain rights to cancel the lease at year 18 (i.e. 2020) upon advance notice given approximately one year prior to cancellation.  In the event of early termination at year 18, we have the option to cause the sale of the vessel at its fair value and to use the proceeds towards the applicable termination payment.  Alternatively, we could opt at such time to make a termination payment of approximately ₤65.4 million, or approximately $105.9 million based on the exchange rate at September 30, 2013, and relinquish our right to cause the sale of the vessel. Under current circumstances we do not believe early termination of this lease is probable.

 

Under the Brilliance of the Seas operating lease, we have agreed to indemnify the lessor to the extent its after-tax return is negatively impacted by unfavorable changes in corporate tax rates, capital allowance deductions and certain unfavorable determinations which may be made by the United

 

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Kingdom tax authorities. These indemnifications could result in an increase in our lease payments.  We are unable to estimate the maximum potential increase in our lease payments due to the various circumstances, timing or a combination of events that could trigger such indemnifications. The United Kingdom tax authorities are disputing the lessor’s accounting treatment of the lease and the lessor and tax authorities are in discussions on the matter.  If the characterization of the lease by the lessor is ultimately determined to be incorrect, we could be required to indemnify the lessor under certain circumstances.  The lessor has advised us that they believe their characterization of the lease is correct. Based on the foregoing and our review of available information, we do not believe an indemnification payment is probable.  However, if the lessor loses its dispute and we are required to indemnify the lessor, we cannot at this time predict the impact that such an occurrence would have on our financial condition and results of operations.

 

Some of the contracts that we enter into include indemnification provisions that obligate us to make payments to the counterparty if certain events occur.  These contingencies generally relate to changes in taxes, increased lender capital costs and other similar costs.  The indemnification clauses are often standard contractual terms and are entered into in the normal course of business.  There are no stated or notional amounts included in the indemnification clauses and we are not able to estimate the maximum potential amount of future payments, if any, under these indemnification clauses.  We have not been required to make any payments under such indemnification clauses in the past and, under current circumstances, we do not believe an indemnification in any material amount is probable.

 

If (i) any person other than A. Wilhelmsen AS. and Cruise Associates and their respective affiliates (the “Applicable Group”) acquires ownership of more than 33% of our common stock and the Applicable Group owns less of our common stock than such person, or (ii) subject to certain exceptions, during any 24-month period, a majority of the Board is no longer comprised of individuals who were members of the Board on the first day of such period, we may be obligated to prepay indebtedness outstanding under the majority of our credit facilities, which we may be unable to replace on similar terms.  Certain of our outstanding debt securities also contain change of control provisions that would be triggered by the acquisition of greater than 50% of our common stock by a person other than a member of the Applicable Group coupled with a ratings downgrade. If this were to occur, it would have an adverse impact on our liquidity and operations.

 

Note 8. Shareholders’ Equity

 

In September 2013, we declared a cash dividend on our common stock of $0.25 per share which was paid in the fourth quarter of 2013.  We declared and paid a cash dividend on our common stock of $0.12 per share during the first and second quarters of 2013.

 

During the third quarter of 2012, we declared a cash dividend on our common stock of $0.12 per share which was paid in the fourth quarter of 2012.  We declared and paid a cash dividend on our common stock of $0.10 per share during the first and second quarters of 2012. During the first quarter of 2012, we also paid a cash dividend on our common stock of $0.10 per share which was declared during the fourth quarter of 2011.

 

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Note 9. Changes in Accumulated Other Comprehensive Income (Loss)

 

The following table presents the changes in accumulated other comprehensive income (loss) by component for the nine months ended September 30, 2013 (in thousands):

 

 

 

Changes
related to
cash flow
derivative
hedges

 

Changes in
defined
benefit plans

 

Foreign
currency
translation
adjustments

 

Accumulated other
comprehensive loss

 

 

 

 

 

 

 

 

 

 

 

Accumulated comprehensive loss at beginning of the year

 

$

(84,505

)

$

(34,823

)

$

(15,188

)

$

(134,516

)

Other comprehensive income before reclassifications

 

109,154

 

8,774

 

369

 

118,297

 

Amounts reclassified from accumulated other comprehensive loss

 

(52,639

)

1,942

 

 

(50,697

)

Net current-period other comprehensive income

 

56,515

 

10,716

 

369

 

67,600

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending balance

 

$

(27,990

)

$

(24,107

)

$

(14,819

)

$

(66,916

)

 

The following table presents reclassifications out of accumulated other comprehensive income (loss) for the quarter and nine months ended September 30, 2013 (in thousands):

 

 

 

Amount of Gain (Loss) Reclassified from
Accumulated Other Comprehensive Loss into
Income

 

 

 

Details about Accumulated Other
Comprehensive Income (Loss)
Components

 

Quarter Ended
September 30, 2013

 

Nine Months Ended
September 30, 2013

 

Affected Line Item in Statements of
Comprehensive Income (Loss)

 

 

 

 

 

 

 

 

 

Gain (loss) on cash flow derivative hedges:

 

 

 

 

 

 

 

Cross currency swaps

 

$

(890

)

$

(2,641

)

Interest expense, net of interest capitalized

 

Foreign currency forward contracts

 

(449

)

(1,348

)

Depreciation and amortization expenses

 

Foreign currency forward contracts

 

19,089

 

18,612

 

Other income (expense)

 

Foreign currency forward contracts

 

(217

)

(222

)

Interest expense, net of interest capitalized

 

Fuel swaps

 

12,002

 

38,238

 

Fuel

 

 

 

29,535

 

52,639

 

 

 

Amortization of defined benefit plans:

 

 

 

 

 

 

 

Actuarial loss

 

(438

)

(1,315

)

Payroll and related

 

Prior service costs

 

(209

)

(627

)

Payroll and related

 

 

 

(647

)

(1,942

)

 

 

 

 

 

 

 

 

 

 

Total reclassifications for the period

 

$

28,888

 

$

50,697

 

 

 

 

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Note 10. Fair Value Measurements and Derivative Instruments

 

Fair Value Measurements

 

The estimated fair value of our financial instruments that are not measured at fair value on a recurring basis, categorized based upon the fair value hierarchy, are as follows (in thousands):

 

 

 

Fair Value Measurements
at September 30, 2013 Using

 

Fair Value Measurements
at December 31, 2012 Using

 

Description

 

Total

 

Level 1(1)

 

Level 2(2)

 

Level 3(3)

 

Total

 

Level 1(1)

 

Level 2(2)

 

Level 3(3)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents(4)

 

$

209,567

 

209,567

 

 

 

$

194,855

 

194,855

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total Assets

 

$

209,567

 

$

209,567

 

$

 

$

 

$

194,855

 

$

194,855

 

$

 

$

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt (including current portion of long-term debt)(5)

 

$

8,225,926

 

3,212,399

 

5,013,527

 

 

$

8,859,310

 

3,917,398

 

4,941,912

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total Liabilities

 

$

8,225,926

 

$

3,212,399

 

$

5,013,527

 

$

 

$

8,859,310

 

$

3,917,398

 

$

4,941,912

 

$

 

 


(1)                   Inputs based on quoted prices (unadjusted) in active markets for identical assets or liabilities that we have the ability to access.  Valuation of these items does not entail a significant amount of judgment.

(2)                   Inputs other than quoted prices included within Level 1 that are observable for the liability, either directly or indirectly.  For unsecured revolving credit facilities and unsecured term loans, fair value is determined utilizing the income valuation approach.  This valuation model takes into account the contract terms of our debt such as the debt maturity and the interest rate on the debt.  The valuation model also takes into account our creditworthiness based on publicly available credit default swap rates.

(3)                   Inputs that are unobservable.  The Company did not use any Level 3 inputs as of September 30, 2013 and December 31, 2012.

(4)                   Consists of cash and marketable securities with original maturities of less than 90 days.

(5)                   Consists of unsecured revolving credit facilities, unsecured senior notes, senior debentures and unsecured term loans.  Does not include our capital lease obligations.

 

Other Financial Instruments

 

The carrying amounts of accounts receivable, accounts payable, accrued interest and accrued expenses approximate fair value at September 30, 2013 and December 31, 2012.

 

Assets and liabilities that are recorded at fair value have been categorized based upon the fair value hierarchy.  The following table presents information about the Company’s financial instruments recorded at fair value on a recurring basis (in thousands):

 

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Fair Value Measurements
At September 30, 2013 Using

 

Fair Value Measurements
at December 31, 2012 Using

 

Description

 

Total

 

Level 1(1)

 

Level 2(2)

 

Level 3(3)

 

Total

 

Level 1(1)

 

Level 2(2)

 

Level 3(3)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative financial instruments(4)

 

$

128,484

 

 

128,484

 

 

$

96,489

 

 

96,489

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investments(5)

 

$

5,985

 

5,985

 

 

 

$

6,231

 

6,231

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total Assets

 

$

134,469

 

$

5,985

 

$

128,484

 

$

 

$

102,720

 

$

6,231

 

$

96,489

 

$

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative financial instruments(6)

 

$

106,262

 

 

106,262

 

 

$

85,119

 

 

85,119

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total Liabilities

 

$

106,262

 

$

 

$

106,262

 

$

 

$

85,119

 

$

 

$

85,119

 

$

 

 


(1)                   Inputs based on quoted prices (unadjusted) in active markets for identical assets or liabilities that we have the ability to access.  Valuation of these items does not entail a significant amount of judgment.

(2)                   Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.  For foreign currency forward contracts, interest rate swaps, cross currency swaps and fuel swaps, fair value is derived using valuation models that utilize the income valuation approach.  These valuation models take into account the contract terms, such as maturity, as well as other inputs, such as foreign exchange rates and curves, fuel types, fuel curves and interest rate yield curves.  For fuel call options, fair value is determined by using the prevailing market price for the instruments consisting of published price quotes for similar assets based on recent transactions in an active market. Fair value for foreign currency collar options is determined by using standard option pricing models with inputs based on the options’ contract terms, such as exercise price and maturity, and readily available public market data, such as foreign exchange curves, foreign exchange volatility levels and discount rates. All derivative instrument fair values take into account the creditworthiness of the counterparty and the Company.

(3)                   Inputs that are unobservable.  The Company did not use any Level 3 inputs as of September 30, 2013 and December 31, 2012.

(4)                   Consists of foreign currency forward contracts, foreign currency collar options, interest rate swaps, fuel swaps and purchased fuel call options.  Please refer to the “Fair Value of Derivative Instruments” table for breakdown by instrument type.

(5)                   Consists of exchange-traded equity securities and mutual funds.

(6)                   Consists of interest rate swaps, fuel swaps, foreign currency forward contracts, foreign currency collar options, and sold fuel call options.  Please refer to the “Fair Value of Derivative Instruments” table for breakdown by instrument type.

 

The reported fair values are based on a variety of factors and assumptions.  Accordingly, the fair values may not represent actual values of the financial instruments that could have been realized as of September 30, 2013 or December 31, 2012, or that will be realized in the future, and do not include expenses that could be incurred in an actual sale or settlement.

 

Concentrations of Credit Risk

 

We monitor our credit risk associated with financial and other institutions with which we conduct significant business and, to minimize these risks, we select counterparties with credit risks acceptable to us and we seek to limit our exposure to an individual counterparty.  Credit risk, including but not limited to counterparty nonperformance under derivative instruments, our credit facilities and new ship progress payment guarantees, is not considered significant, as we primarily conduct business with large, well-established financial institutions, insurance companies and export credit agencies many of which we have long-term relationships and which have credit risks acceptable to us or where the credit risk is spread out among a large number of counterparties. In addition, our exposure under foreign currency

 

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forward contracts, foreign currency collar options, fuel call options, interest rate and fuel swap agreements was approximately $48.7 million and $60.8 million as of September 30, 2013 and December 31, 2012, respectively, and was limited to the cost of replacing the contracts in the event of non-performance by the counterparties to the contracts, all of which are currently our lending banks.  We do not anticipate nonperformance by any of our significant counterparties. In addition, we have established guidelines regarding credit ratings and instrument maturities that we follow to maintain safety and liquidity. We do not normally require collateral or other security to support credit relationships; however, in certain circumstances this option is available to us.

 

Derivative Instruments

 

We are exposed to market risk attributable to changes in interest rates, foreign currency exchange rates and fuel prices.  We manage these risks through a combination of our normal operating and financing activities and through the use of derivative financial instruments pursuant to our hedging practices and policies.  The financial impact of these hedging instruments is primarily offset by corresponding changes in the underlying exposures being hedged.  We achieve this by closely matching the amount, term and conditions of the derivative instrument with the underlying risk being hedged.  Although certain of our derivative financial instruments do not qualify or are not accounted for under hedge accounting, we do not hold or issue derivative financial instruments for trading or other speculative purposes.  We monitor our derivative positions using techniques including market valuations and sensitivity analyses.

 

We enter into various forward, swap and option contracts to manage our interest rate exposure and to limit our exposure to fluctuations in foreign currency exchange rates and fuel prices. These instruments are recorded on the balance sheet at their fair value and the vast majority are designated as hedges.  We also have non-derivative financial instruments designated as hedges of our net investment in our foreign operations and investments.

 

At inception of the hedge relationship, a derivative instrument that hedges the exposure to changes in the fair value of a firm commitment or a recognized asset or liability is designated as a fair value hedge.  A derivative instrument that hedges a forecasted transaction or the variability of cash flows related to a recognized asset or liability is designated as a cash flow hedge.

 

Changes in the fair value of derivatives that are designated as fair value hedges are offset against changes in the fair value of the underlying hedged assets, liabilities or firm commitments.  Gains and losses on derivatives that are designated as cash flow hedges are recorded as a component of accumulated other comprehensive income (loss) until the underlying hedged transactions are recognized in earnings.  The foreign currency transaction gain or loss of our non-derivative financial instruments designated as hedges of our net investment in foreign operations and investments are recognized as a component of accumulated other comprehensive income (loss) along with the associated foreign currency translation adjustment of the foreign operation.

 

On an ongoing basis, we assess whether derivatives used in hedging transactions are “highly effective” in offsetting changes in the fair value or cash flow of hedged items.  We use the long-haul method to assess hedge effectiveness using regression analysis for each hedge relationship under our interest rate, foreign currency and fuel hedging programs.  We apply the same methodology on a consistent basis for assessing hedge effectiveness to all hedges within each hedging program (i.e. interest rate, foreign currency and fuel). We perform regression analyses over an observation period of up to three years, utilizing market data relevant to the hedge horizon of each hedge relationship. High

 

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effectiveness is achieved when a statistically valid relationship reflects a high degree of offset and correlation between the changes in the fair values of the derivative instrument and the hedged item. The determination of ineffectiveness is based on the amount of dollar offset between the change in fair value of the derivative instrument and the change in fair value of the hedged item at the end of the reporting period.  If it is determined that a derivative is not highly effective as a hedge or hedge accounting is discontinued, any change in fair value of the derivative since the last date at which it was determined to be effective is recognized in earnings. In addition, the ineffective portion of our highly effective hedges is immediately recognized in earnings and reported in other income (expense) in our consolidated statements of comprehensive income (loss).

 

Cash flows from derivative instruments that are designated as fair value or cash flow hedges are classified in the same category as the cash flows from the underlying hedged items. In the event that hedge accounting is discontinued, cash flows subsequent to the date of discontinuance are classified within investing activities.  Cash flows from derivative instruments not designated as hedging instruments are classified as investing activities.

 

We consider the classification of the underlying hedged item’s cash flows in determining the classification for the designated derivative instrument’s cash flows. We classify derivative instrument cash flows from hedges of benchmark interest rate or hedges of fuel expense as operating activities due to the nature of the hedged item. Likewise, we classify derivative instrument cash flows from hedges of foreign currency risk on our newbuild ship payments as investing activities. Cash flows from derivative instruments not designated under hedge accounting, such as our fuel call options, are classified as investing activities.

 

Interest Rate Risk

 

Our exposure to market risk for changes in interest rates relates to our long-term debt obligations including future interest payments.  At September 30, 2013, approximately 40.4% of our long-term debt was effectively fixed as compared to 45.8% as of December 31, 2012.  We use interest rate swap agreements to modify our exposure to interest rate movements and to manage our interest expense.

 

Market risk associated with our long-term fixed rate debt is the potential increase in fair value resulting from a decrease in interest rates.  We use interest rate swap agreements that effectively convert a portion of our fixed-rate debt to a floating-rate basis to manage this risk.  At September 30, 2013 and December 31, 2012, we maintained interest rate swap agreements on the $420.0 million fixed rate portion of our Oasis of the Seas unsecured amortizing term loan.  The interest rate swap agreements effectively changed the interest rate on the balance of the unsecured term loan, which was $297.5 million as of September 30, 2013, from a fixed rate of 5.41% to a LIBOR-based floating rate equal to LIBOR plus 3.87%, currently approximately 4.30%. These interest rate swap agreements are accounted for as fair value hedges.

 

During the second quarter of 2013, we entered into interest rate swap agreements that effectively changed the interest rate on the $650.0 million unsecured senior notes due 2022, from a fixed rate of 5.25% to a LIBOR-based floating rate equal to LIBOR plus 3.63%, currently approximately 3.90%.  These interest rate swap agreements are accounted for as fair value hedges.

 

Market risk associated with our long-term floating rate debt is the potential increase in interest expense from an increase in interest rates.  We use interest rate swap agreements that effectively convert a portion of our floating-rate debt to a fixed-rate basis to manage this risk.  At September 30, 2013 and

 

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December 31, 2012, we maintained forward-starting interest rate swap agreements that hedge the anticipated unsecured amortizing term loans that will finance our purchase of Quantum of the Seas and Anthem of the Seas. Forward-starting interest rate swaps hedging the Quantum of the Seas loan will effectively convert the interest rate for $735.0 million of the anticipated loan balance from LIBOR plus 1.30% to a fixed rate of 3.74% (inclusive of margin) beginning in October 2014. Forward-starting interest rate swaps hedging the Anthem of the Seas loan will effectively convert the interest rate for $725.0 million of the anticipated loan balance from LIBOR plus 1.30% to a fixed rate of 3.86% (inclusive of margin) beginning in April 2015.  These interest rate swap agreements are accounted for as cash flow hedges.

 

In addition, at September 30, 2013 and December 31, 2012, we maintained interest rate swap agreements that effectively converted the interest rate on a portion of the Celebrity Reflection unsecured amortizing term loan balance of approximately $627.2 million from LIBOR plus 0.40% to a fixed rate (including applicable margin) of 2.85% through the term of the loan.  These interest rate swap agreements are accounted for as cash flow hedges.

 

The notional amount of interest rate swap agreements related to outstanding debt and on our current unfunded financing arrangements as of September 30, 2013 and December 31, 2012 was $3.0 billion and $2.4 billion, respectively.

 

Foreign Currency Exchange Rate Risk

 

Derivative Instruments

 

Our primary exposure to foreign currency exchange rate risk relates to our ship construction contracts denominated in euros, our foreign currency denominated debt and our international business operations.  We enter into foreign currency forward contracts, collar options and cross currency swap agreements to manage portions of the exposure to movements in foreign currency exchange rates.  As of September 30, 2013, the aggregate cost of our ships on order was approximately $4.7 billion, of which we had deposited $335.7 million as of such date.  Approximately 45.0% and 49.7% of the aggregate cost of the ships under construction was exposed to fluctuations in the euro exchange rate at September 30, 2013 and December 31, 2012, respectively.  In October 2013, we entered into foreign currency forward contracts to hedge additional amounts related to the cost of our ships on order denominated in euros. As of the date of this filing, approximately 36.7% of the aggregate cost was exposed to fluctuations in the euro exchange rate.  The majority of our foreign currency forward contracts, collar options and cross currency swap agreements are accounted for as cash flow or fair value hedges depending on the designation of the related hedge.

 

During the second quarter of 2013, we entered into foreign currency forward contracts to hedge €365.0 million of our €745.0 million 5.625% unsecured senior notes due January 2014. These foreign currency forward contracts are accounted for as cash flow hedges and mature January 2014.

 

On a regular basis, we enter into foreign currency forward contracts to minimize the volatility resulting from the remeasurement of net monetary assets and liabilities denominated in a currency other than our functional currency or the functional currencies of our foreign subsidiaries. During the third quarter of 2013, we maintained an average of approximately $436.4 million of these foreign currency forward contracts.  These instruments are not designated as hedging instruments.  Changes in the fair value of the foreign currency forward contracts, of approximately $16.9 million and $4.5 million, during the quarter ended September 30, 2013 and September 30, 2012, respectively, and approximately $(8.6)

 

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million and $8.7 million, during the nine months ended September 30, 2013 and September 30, 2012, respectively, were recognized in earnings within other income (expense) in our consolidated statements of comprehensive income (loss).

 

The notional amount of outstanding foreign exchange contracts including our forward contracts and collar options as of September 30, 2013 and December 31, 2012 was $2.1 billion and $1.2 billion, respectively.

 

Non-Derivative Instruments

 

We consider our investments in our foreign operations to be denominated in relatively stable currencies and of a long-term nature.  We partially address the exposure of our investments in foreign operations by denominating a portion of our debt in our subsidiaries’ and investments’ functional currencies and designating it as a hedge of these subsidiaries and investments.  We had designated debt as a hedge of our net investments in Pullmantur and TUI Cruises of approximately €488.3 million and €481.7 million, or approximately $661.0 million and $635.1 million, as of September 30, 2013 and December 31, 2012, respectively.

 

Fuel Price Risk

 

Our exposure to market risk for changes in fuel prices relates primarily to the consumption of fuel on our ships.  We use fuel swap agreements and fuel call options to mitigate the financial impact of fluctuations in fuel prices.

 

Our fuel swap agreements are accounted for as cash flow hedges.  At September 30, 2013, we have hedged the variability in future cash flows for certain forecasted fuel transactions occurring through 2017.  As of September 30, 2013 and December 31, 2012, we had the following outstanding fuel swap agreements:

 

 

 

Fuel Swap Agreements

 

 

 

As of
September 30,
2013

 

As of
December 31,
2012

 

 

 

(metric tons)

 

2013

 

214,000

 

755,000

 

2014

 

762,000

 

635,000

 

2015

 

590,000

 

363,000

 

2016

 

298,000

 

104,000

 

2017

 

74,000

 

 

 

 

 

Fuel Swap Agreements

 

 

 

As of
September 30,
2013

 

As of
December 31,
2012

 

 

 

(% hedged)

 

Projected fuel purchases for year:

 

 

 

 

 

2013

 

63

%

55

%

2014

 

56

%

45

%

2015

 

40

%

25

%

2016

 

20

%

7

%

2017

 

5

%

 

 

At September 30, 2013 and December 31, 2012, $10.6 million and $47.2 million, respectively, of estimated unrealized net gains associated with our cash flow hedges pertaining to fuel swap agreements were expected to be reclassified to earnings from accumulated other comprehensive income (loss) within

 

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the next twelve months.  Reclassification is expected to occur as a result of fuel consumption associated with our hedged forecasted fuel purchases.

 

The fair value and line item caption of derivative instruments recorded within our consolidated balance sheets were as follows:

 

 

 

Fair Value of Derivative Instruments

 

 

 

Asset Derivatives

 

Liability Derivatives

 

 

 

 

 

As of
September 30,
2013

 

As of
December 31,
2012

 

 

 

As of
September 30,
2013

 

As of
December 31,
2012

 

 

 

Balance Sheet
Location

 

Fair Value

 

Fair Value

 

Balance Sheet
Location

 

Fair Value

 

Fair Value

 

In thousands

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives designated as hedging instruments under ASC 815-20(1)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest rate swaps

 

Other assets

 

$

39,974

 

$

5,099

 

Other long-term liabilities

 

$

60,541

 

$

55,471

 

Foreign currency forward contracts

 

Derivative financial instruments

 

23,474

 

951

 

Accrued expenses and other liabilities

 

 

338

 

Foreign currency forward contracts

 

Other assets

 

24,494

 

11,564

 

Other long-term liabilities

 

 

1,000

 

Foreign currency collar options

 

Other assets

 

14,529

 

8,974

 

Other long-term liabilities

 

 

 

Fuel swaps

 

Derivative financial instruments

 

13,855

 

48,624

 

Accrued expenses and other liabilities

 

4,261

 

1,761

 

Fuel swaps

 

Other assets

 

1,094

 

8,585

 

Other long-term liabilities

 

23,367

 

6,369

 

Total derivatives designated as hedging instruments under 815-20

 

 

 

$

117,420

 

$

83,797

 

 

 

$

88,169

 

$

64,939

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives not designated as hedging instruments under ASC 815-20

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign currency forward contracts

 

Derivative financial instruments

 

$

8,162

 

$

 

Accrued expenses and other liabilities

 

$

5,208

 

$

 

Foreign currency forward contracts

 

Other assets

 

98

 

4,440

 

Other long-term liabilities

 

10,242

 

11,475

 

Fuel swaps

 

Derivative financial instruments

 

138

 

 

Accrued expenses and other liabilities

 

 

475

 

Fuel call options

 

Derivative financial instruments

 

2,666

 

8,252

 

Accrued expenses and other liabilities

 

2,643

 

8,230

 

Total derivatives not designated as hedging instruments under 815-20

 

 

 

11,064

 

12,692

 

 

 

18,093

 

20,180

 

Total derivatives

 

 

 

$

128,484

 

$

96,489

 

 

 

$

106,262

 

$

85,119

 

 

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(1) Accounting Standard Codification 815-20 “Derivatives and Hedging”.

 

The carrying value and line item caption of non-derivative instruments designated as hedging instruments recorded within our consolidated balance sheets were as follows:

 

Non-derivative instrument
designated as hedging

 

 

 

Carrying Value

 

instrument under ASC
815-20

 

Balance Sheet Location

 

As of September 30,
2013

 

As of December 31,
2012

 

In thousands

 

 

 

 

 

 

 

Foreign currency debt

 

Current portion of long-term debt

 

$

526,123

 

$

17,516

 

Foreign currency debt

 

Long-term debt

 

134,887

 

617,593

 

 

 

 

 

$

661,010

 

$

635,109

 

 

The effect of derivative instruments qualifying and designated as hedging instruments and the related hedged items in fair value hedges on the consolidated statements of comprehensive income (loss) was as follows:

 

Derivatives and

 

 

 

Amount of Gain (Loss) Recognized in Income on

 

Amount of Gain (Loss) Recognized in Income on

 

related Hedged

 

Location of

 

Derivative

 

Hedged Item

 

Items under
ASC 815-20
Fair Value
Hedging
Relationships

 

Gain (Loss)
Recognized in
Income on
Derivative and
Hedged Item

 

Quarter
Ended
September
30, 2013

 

Quarter
Ended
September
30, 2012

 

Nine
Months
Ended
September
30, 2013

 

Nine
Months
Ended
September
30, 2012

 

Quarter
Ended
September
30, 2013

 

Quarter
Ended
September
30, 2012

 

Nine
Months
Ended
September
30, 2013

 

Nine
Months
Ended
September
30, 2012

 

In thousands

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest rate swaps

 

Interest expense, net of interest capitalized

 

$

3,022

 

$

3,054

 

$

6,299

 

$

12,916

 

$

9,503

 

$

8,634

 

$

28,102

 

$

23,001

 

Interest rate swaps

 

Other income (expense)

 

958

 

(2,300

)

(58,286

)

(884

)

(620

)

2,863

 

55,553

 

961

 

Interest rate swaps

 

Extinguishment of unsecured senior notes

 

 

 

 

 

 

9,698

 

 

9,698

 

 

 

 

 

$

3,980

 

$

754

 

$

(51,987

)

$

12,032

 

$

8,883

 

$

21,195

 

$

83,655

 

$

33,660

 

 

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The effect of derivative instruments qualifying and designated as cash flow hedging instruments on the consolidated financial statements was as follows:

 

 

 

Amount of Gain (Loss) Recognized in
Accumulated Other
Comprehensive Income on Derivative (Effective
Portion)

 

Location of
Gain (Loss)
Reclassified
from
Accumulated
Other

 

Amount of Gain (Loss) Reclassified from
Accumulated Other Comprehensive Income into
Income (Effective Portion)

 

Derivatives
under ASC 815-
20 Cash Flow
Hedging
Relationships

 

Quarter
Ended
September
30, 2013

 

Quarter
Ended
September
30, 2012

 

Nine
Months
Ended
September
30, 2013

 

Nine
Months
Ended
September
 30, 2012

 

Comprehensive
Income
into Income
(Effective
Portion)

 

Quarter
Ended
September
30, 2013

 

Quarter
Ended
September
30, 2012

 

Nine
Months
Ended
September
30, 2013

 

Nine
Months
Ended
September
30, 2012

 

In thousands

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cross currency swaps

 

$

 

$

13,221

 

$

 

$

851

 

Other income (expense)

 

$

 

$

14,405

 

$

 

$

2,505

 

Cross currency swaps

 

 

 

 

 

Interest expense, net of interest capitalized

 

(890

)

(498

)

(2,641

)

(1,319

)

Interest rate swaps

 

(5,816

)

(19,146

)

87,672

 

(50,070

)

Other income (expense)

 

 

 

 

 

Foreign currency forward contracts

 

47,338

 

19,881

 

38,343

 

(10,169

)

Depreciation and amortization expenses

 

(449

)

(196

)

(1,348

)

(588

)

Foreign currency forward contracts

 

 

 

 

 

Other income (expense)

 

19,089

 

(238

)

18,612

 

(715

)

Foreign currency forward contracts

 

 

 

 

 

Interest expense, net of interest capitalized

 

(217

)

 

(222

)

 

Foreign currency collar options

 

16,801

 

4,229

 

5,554

 

(8,335

)

Depreciation and amortization expenses

 

 

 

 

 

Fuel swaps

 

32,785

 

100,942

 

(22,415

)

96,463

 

Fuel

 

12,002

 

24,332

 

38,238

 

88,317

 

 

 

$

91,108

 

$

119,127

 

$

109,154

 

$

28,740

 

 

 

$

29,535

 

$

37,805

 

$

52,639

 

$

88,200

 

 

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Table of Contents

 

 

 

Location of Gain (Loss)
Recognized in Income

 

Amount of Gain (Loss) Recognized in Income on Derivative
(Ineffective Portion and Amount Excluded from Effectiveness testing)

 

Derivatives under ASC
815-20 Cash Flow
Hedging Relationships

 

on Derivative
(Ineffective Portion and
Amount Excluded from
Effectiveness Testing)

 

Quarter Ended
September 30,
2013

 

Quarter Ended
September 30,
2012

 

Nine Months
Ended
September 30,
2013

 

Nine Months
Ended
September 30,
2012

 

In thousands

 

 

 

 

 

 

 

 

 

 

 

Cross currency swaps

 

Other income (expense)

 

$

 

$

234

 

$

 

$

 

Cross currency swaps

 

Other income (expense)

 

 

 

 

 

Interest rate swaps

 

Other income (expense)

 

(7

)

(277

)

420

 

(347

)

Foreign currency forward contracts

 

Other income (expense)

 

15

 

(173

)

5

 

(182

)

Foreign currency forward contracts

 

Other income (expense)

 

 

 

 

 

Foreign currency forward contracts

 

Other income (expense)

 

 

 

 

 

Foreign currency collar options

 

Other income (expense)

 

 

 

 

 

Fuel swaps

 

Other income (expense)

 

(953

)

3,325

 

(5,322

)

(564

)

 

 

 

 

$

(945

)

$

3,109

 

$

(4,897

)

$

(1,093

)

 

The effect of non-derivative instruments qualifying and designated as net investment hedging instruments on the consolidated financial statements was as follows:

 

Non-derivative 
instruments

 

Amount of Gain (Loss) Recognized in Other
Comprehensive Income (Effective Portion)

 

Location of
Gain (Loss)
in Income
(Ineffective
Portion and

 

Amount of Gain (Loss) Recognized in Income
(Ineffective Portion and Amount Excluded from
Effectiveness Testing)

 

under ASC 815-
20 Net
Investment
Hedging
Relationships

 

Quarter
Ended
September
30, 2013

 

Quarter
Ended
September
30, 2012

 

Nine
Months
Ended
September
30, 2013

 

Nine
Months
Ended
September
30, 2012

 

Amount
Excluded
from
Effectiveness
Testing)

 

Quarter
Ended
September
30, 2013

 

Quarter
Ended
September
30, 2012

 

Nine
Months
Ended
September
30, 2013

 

Nine
Months
Ended
September
30, 2012

 

In thousands

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign Currency Debt

 

$

(26,347

)

$

(19,915

)

$

(21,593

)

$

(4,797

)

Other income (expense)

 

$

 

$

 

$

 

$

 

 

 

$

(26,347

)

$

(19,915

)

$

(21,593

)

$

(4,797

)

 

 

$

 

$

 

$

 

$

 

 

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Table of Contents

 

The effect of derivatives not designated as hedging instruments on the consolidated financial statements was as follows:

 

 

 

 

 

Amount of Gain (Loss) Recognized in Income on Derivatives

 

Derivatives Not
Designated as Hedging
Instruments under ASC
815-20

 

Location of Gain
(Loss) Recognized in
Income on Derivatives

 

Quarter
Ended
September 30,
2013

 

Quarter
Ended
September 30,
2012

 

Nine Months
Ended
September 30,
2013

 

Nine Months
Ended
September 30,
2012

 

In thousands

 

 

 

 

 

 

 

 

 

 

 

Foreign currency forward contracts

 

Other income (expense)

 

$

16,789

 

$

4,793

 

$

(10,491

)

$

9,290

 

Fuel swaps

 

Other income (expense)

 

220

 

(1,112

)

268

 

(2,875

)

Fuel call options

 

Other income (expense)

 

(38

)

1,799

 

(1

)

(5,671

)

 

 

 

 

$

16,971

 

$

5,480

 

$

(10,224

)

$

744

 

 

Credit Related Contingent Features

 

Our current interest rate derivative instruments may require us to post collateral if our Standard & Poor’s and Moody’s credit ratings remain below specified levels. Specifically, if on the fifth anniversary of entering into a derivative transaction or on any succeeding fifth-year anniversary our credit ratings for our senior unsecured debt were to be below BBB- by Standard & Poor’s and Baa3 by Moody’s, then each counterparty to such derivative transaction with whom we are in a net liability position that exceeds the applicable minimum call amount may demand that we post collateral in an amount equal to the net liability position.  The amount of collateral required to be posted following such event will change each time our net liability position increases or decreases by more than the applicable minimum call amount.  If our credit rating for our senior unsecured debt is subsequently equal to, or above BBB- by Standard & Poor’s or Baa3 by Moody’s, then any collateral posted at such time will be released to us and we will no longer be required to post collateral unless we meet the collateral trigger requirement at the next fifth-year anniversary.  Currently, our senior unsecured debt credit rating is BB with a stable outlook by Standard & Poor’s and Ba1 with a stable outlook by Moody’s.  We currently have five interest rate derivative hedges that have a term of at least five years.  The aggregate fair values of all derivative instruments with such credit-related contingent features in net liability positions as of September 30, 2013 and December 31, 2012 were $60.5 million and $55.5 million, respectively, which do not include the impact of any such derivatives in net asset positions.  The earliest that any of the five interest rate derivative hedges will reach their fifth anniversary is November 2016.  Therefore, as of September 30, 2013, we were not required to post collateral for any of our derivative transactions.

 

Note 11.  Restructuring and Related Charges

 

We are in the process of implementing a broad profitability improvement program aimed at improving our returns on invested capital by increasing revenues and reducing expenses.

 

There are numerous initiatives in connection with this program that are at different stages of implementation.

 

One of those initiatives relates to realizing economies of scale and improving service delivery to our travel partners and guests by restructuring and consolidating our global sales, marketing and general and

 

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administrative structure.  During the third quarter of 2013, we moved forward with activities related to this initiative. The activities include the consolidation of most of our call centers located outside of the United States and the establishment of brand dedicated sales, marketing and revenue management teams in key priority markets. This resulted in the elimination of approximately 500 shore-side positions, primarily from our international markets, and recognition of a liability for one-time termination benefits during the third quarter of 2013.  Additionally, we incurred contract termination costs and other related costs consisting of legal and consulting fees to implement this initiative.

 

As a result of these actions, we incurred charges of $12.2 million in the third quarter of 2013 and $13.9 million for the nine months ended September 30, 2013 which are classified as Restructuring and related charges in our consolidated statements of comprehensive income (loss). We expect to incur additional restructuring and related charges of approximately $8.6 million, through the end of 2014, to complete this initiative.

 

The following table summarizes our restructuring and related charges related to the above initiative (in thousands):

 

 

 

Beginning
Balance
July 1,
2013

 

Accruals

 

Payments

 

Ending
Balance
September
30, 2013

 

Cumulative
Charges
Incurred

 

Expected
Additional
Expenses
to be
Incurred
(1)

 

Termination benefits

 

$

 

$

10,004

 

$

387

 

$

9,617

 

$

10,004

 

$

1,687

 

Contract termination costs

 

 

 

200

 

 

$

200

 

 

200

 

 

3,761

 

Other related costs

 

 

796

 

2,040

 

675

 

$

2,161

 

 

3,718

 

 

3,167

 

Total

 

$

796

 

$

12,244

 

$

1,062

 

$

11,978

 

$

13,922

 

$

8,615

 

 


(1)         These amounts relate to restructuring and related costs associated with our Global Sales, Marketing and General and Administrative restructuring and consolidation efforts. It does not include any charges related to other initiatives which are being evaluated.

 

In connection with this initiative, we expect to incur approximately $8 million of costs through the end of 2014, incremental to the amounts reported in the table above. These costs will primarily consist of call center transition costs and accelerated depreciation on leasehold improvements and will be classified in Marketing, selling and administrative expenses and Depreciation and amortization expenses, respectively, in our consolidated statements of comprehensive income (loss).

 

In addition, we continue to evaluate various other initiatives in furtherance of our profitability improvement program. If we elect to move forward with one or more of these initiatives, we may incur additional charges, some of which may be material.

 

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Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Cautionary Note Concerning Forward-Looking Statements

 

The discussion under this caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this document includes “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995.  All statements other than statements of historical fact, including statements regarding guidance (including our expectations for the fourth quarter and full year of 2013 set forth under the heading “Outlook” below), business and industry prospects or future results of operations or financial position, made in this Quarterly Report on Form 10-Q are forward-looking.  Words such as “anticipate,” “believe,” “could,” “estimate,” “expect,” “goal,” “intend,” “may,” “plan,” “project,” “seek,” “should,” “will,” and similar expressions are intended to further identify any of these forward-looking statements.  Forward-looking statements reflect management’s current expectations but they are based on judgments and are inherently uncertain.  Furthermore, they are subject to risks, uncertainties and other factors, that could cause our actual results, performance or achievements to differ materially from the future results, performance or achievements expressed or implied in those forward-looking statements.  Examples of these risks, uncertainties and other factors include, but are not limited to, the following:

 

·                  the impact of the worldwide economic and geopolitical environment or other conditions on the demand for cruises;

 

·                  the impact of the worldwide economic environment on our ability to generate cash flows from operations, satisfy the financial covenants required by our credit facilities, or obtain new borrowings from the credit or capital markets;

 

·                  the impact of disruptions in the global financial markets on the ability of our counterparties and others to perform their obligations to us including those associated with our loan agreements and derivative contracts;

 

·                  negative incidents concerning the Company and the cruise vacation industry, or adverse publicity, including those involving the health, safety and security of guests, accidents, unusual weather conditions or natural disasters or disruptions;

 

·                  our ability to appropriately balance our cost management strategy with our goal of satisfying guest expectations;

 

·                  failure to keep pace with developments in technology which could impair our operations or competitive position;

 

·                  our ability to successfully manage the increased costs and risks of conducting business globally and to realize the intended benefits of our investments in new markets;

 

·                  changes in operating and financing costs, including changes in foreign exchange rates, interest rates, fuel, food, payroll, airfare, insurance and security costs;

 

·                  vacation industry competition and industry overcapacity in certain markets;

 

·                  the cost of or changes in tax, environmental, labor, health, safety, security and other laws and regulations affecting our business;

 

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·                  pending or threatened litigation, enforcement actions, fines or penalties;

 

·                  emergency ship repairs, including the related lost revenue;

 

·                  the impact of ship construction, repair or refurbishment delays, ship cancellations or ship construction price increases brought about by construction faults, mechanical problems or financial difficulties encountered by shipyards or their subcontractors;

 

·                  the global political climate, fears of terrorist and pirate attacks, armed conflict, the unavailability or cost of air service and the resulting concerns over safety and security aspects of traveling;

 

·                  the spread of contagious diseases;

 

·                  disruptions to our shoreside business related to actual or threatened natural disasters, information systems failure or similar events;

 

·                  our ability to differentiate our products;

 

·                  our ability to manage our business activities that involve our co-investment with third parties;

 

·                  our inability to adequately incentivize our travel agents or changes and/or disruptions to the travel agency industry;

 

·                  the loss of key personnel, strained employee relations and/or our inability to retain or recruit qualified personnel;

 

·                  changes in our principal shareholders;

 

·                  uncertainties of a foreign legal system as we are not incorporated in the United States;

 

·                  the unavailability of ports of call; and

 

·                  weather.

 

The above examples are not exhaustive and, in addition, new risks emerge from time to time.  All forward-looking statements made in this Quarterly Report on Form 10-Q speak only as of the date of this document.  Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. You should consider the areas of risk described above, as well as set forth under the heading “Risk Factors” in Part I, Item 1A. Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2012.

 

Overview

 

The discussion and analysis of our financial condition and results of operations has been organized to present the following:

 

·                  a review of our financial presentation, including discussion of certain operational and financial metrics we utilize to assist us in managing our business;

 

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·                  a discussion of our results of operations for the quarter and nine months ended September 30, 2013 compared to the same period in 2012;

 

·                  a discussion of our business outlook, including our expectations for selected financial items for the fourth quarter and full year of 2013; and

 

·                  a discussion of our liquidity and capital resources, including our future capital and contractual commitments and potential funding sources.

 

Critical Accounting Policies

 

Ship Accounting

 

During the first quarter of 2013, we performed a review of the estimated useful lives and associated residual values of ships in our fleet approaching the last third of their estimated useful lives.  As a result, effective January 1, 2013, we revised the estimated useful lives of five ships from 30 years with a 15% associated residual value, to 35 years with a 10% associated residual value.  The change in the estimated useful lives and associated residual value was accounted for prospectively as a change in accounting estimate.  The 35-year useful life with a 10% associated residual value is based on revised estimates of the weighted-average useful life of all major ship components for these ships.  The change in estimate is consistent with our recent investments in and future plans to continue to invest in the revitalization of these ships and the use of certain ship components longer than originally estimated. The change allows us to better match depreciation expense with the periods these assets are expected to be in use.  Refer to Note 2. Summary of Significant Accounting Policies to our consolidated financial statements for further information.

 

Valuation of Goodwill, Indefinite-Lived Intangible Assets and Long-Lived Assets

 

During the fourth quarter of 2012, we performed the annual impairment evaluation of our goodwill and trademarks and trade names and we recognized total impairment related charges of $413.9 million associated with our Pullmantur brand.  As of September 30, 2013, the carrying amounts of goodwill and trademarks and trade names attributable to our Pullmantur reporting unit were $149.4 million and $210.4 million, respectively.  Pullmantur is a brand targeted primarily at the Spanish, Portuguese and Latin American markets.  The persistent economic instability in these markets has created significant uncertainties in forecasting operating results and future cash flows used in our impairment analyses.  We continue to monitor economic events in these markets for their potential impact on Pullmantur’s business and valuation. However, based on our most recent projections we do not believe an interim impairment evaluation of Pullmantur’s goodwill or trademarks and trade names is warranted as of September 30, 2013.

 

If there are material changes to the projected future cash flows used in the impairment analyses, especially in Net Yields, an additional impairment charge of the Pullmantur reporting unit’s goodwill and trademarks and trade names may be required.  We will evaluate these intangible assets for potential impairment during our annual impairment test scheduled for the fourth quarter of 2013.

 

For a discussion of our critical accounting policies, refer to Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations within our Annual Report on Form 10-K for the year ended December 31, 2012.

 

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Seasonality

 

Our revenues are seasonal based on demand for cruises.  Demand is strongest for cruises during the Northern Hemisphere’s summer months and holidays. In order to mitigate the impact of the winter weather in the Northern Hemisphere and to capitalize on the summer season in the Southern Hemisphere, our brands have increased deployment to South America and Australia during the Northern Hemisphere winter months.

 

Financial Presentation

 

Description of Certain Line Items

 

Revenues

 

Our revenues are comprised of the following:

 

·                  Passenger ticket revenues, which consist of revenue recognized from the sale of passenger tickets and the sale of air transportation to and from our ships; and

 

·                  Onboard and other revenues, which consist primarily of revenues from the sale of goods and/or services onboard our ships not included in passenger ticket prices, cancellation fees, sales of vacation protection insurance, pre- and post-cruise tours, Pullmantur’s travel agency network, land-based tours and air charter business to third parties.

 

Onboard and other revenues also include revenues we receive from independent third party concessionaires that pay us a percentage of their revenues in exchange for the right to provide selected goods and/or services onboard our ships.

 

Cruise Operating Expenses

 

Our cruise operating expenses are comprised of the following:

 

·                  Commissions, transportation and other expenses, which consist of those costs directly associated with passenger ticket revenues, including travel agent commissions, air and other transportation expenses, port costs that vary with passenger head counts and related credit card fees;

 

·                  Onboard and other expenses, which consist of the direct costs associated with onboard and other revenues, including the costs of products sold onboard our ships, vacation protection insurance premiums, costs associated with pre- and post-cruise tours and related credit card fees as well as the minimal costs associated with concession revenues, as the costs are mostly incurred by third-party concessionaires;

 

·                  Payroll and related expenses, which consist of costs for shipboard personnel (costs associated with our shoreside personnel are included in marketing, selling and administrative expenses);

 

·                  Food expenses, which include food costs for both guests and crew;

 

·                  Fuel expenses, which include fuel and related delivery and storage costs, including the financial impact of fuel swap agreements; and

 

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·                  Other operating expenses, which consist primarily of operating costs such as repairs and maintenance, port costs that do not vary with passenger head counts, vessel operating lease costs, costs associated with Pullmantur’s travel agency network, land-based tours and air charter business to third parties, vessel related insurance and entertainment.

 

We do not allocate payroll and related expenses, food expenses, fuel expenses or other operating expenses to the expense categories attributable to passenger ticket revenues or onboard and other revenues since they are incurred to provide the total cruise vacation experience.

 

Selected Operational and Financial Metrics

 

We utilize a variety of operational and financial metrics which are defined below to evaluate our performance and financial condition.  As discussed in more detail herein, certain of these metrics are non-GAAP financial measures, which we believe provide useful information to investors as a supplement to our consolidated financial statements, which are prepared and presented in accordance with GAAP.  The presentation of non-GAAP financial information is not intended to be considered in isolation or as a substitute for, or superior to, the financial information prepared and presented in accordance with GAAP.

 

Adjusted Earnings per Share represents Adjusted Net Income divided by weighted average shares outstanding or by diluted weighted average shares outstanding, as applicable. We believe that this non-GAAP measure is meaningful when assessing our performance on a comparative basis.

 

Adjusted Net Income represents net income excluding restructuring and related charges.  We believe that this non-GAAP measure is meaningful when assessing our performance on a comparative basis.

 

Available Passenger Cruise Days (“APCD”) is our measurement of capacity and represents double occupancy per cabin multiplied by the number of cruise days for the period.  We use this measure to perform capacity and rate analysis to identify our main non-capacity drivers that cause our cruise revenue and expenses to vary.

 

Gross Cruise Costs represent the sum of total cruise operating expenses plus marketing, selling and administrative expenses.

 

Gross Yields represent total revenues per APCD.

 

Net Cruise Costs and Net Cruise Costs Excluding Fuel represent Gross Cruise Costs excluding commissions, transportation and other expenses and onboard and other expenses and, in the case of Net Cruise Costs Excluding Fuel, fuel expenses (each of which is described above under the Description of Certain Line Items heading).  In measuring our ability to control costs in a manner that positively impacts net income, we believe changes in Net Cruise Costs and Net Cruise Costs Excluding Fuel to be the most relevant indicators of our performance.  A reconciliation of historical Gross Cruise Costs to Net Cruise Costs and Net Cruise Costs Excluding Fuel is provided below under Results of Operations.  We have not provided a quantitative reconciliation of projected Gross Cruise Costs to projected Net Cruise Costs and projected Net Cruise Costs Excluding Fuel due to the significant uncertainty in projecting the costs deducted to arrive at these measures.  Accordingly, we do not believe that reconciling information for such projected figures would be meaningful.

 

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Net Debt-to-Capital is a ratio which represents total long-term debt, including the current portion of long-term debt, less cash and cash equivalents (“Net Debt”) divided by the sum of Net Debt and total shareholders’ equity.  We believe Net Debt and Net Debt-to-Capital, along with total long-term debt and shareholders’ equity are useful measures of our capital structure.  A reconciliation of historical Debt-to-Capital to Net Debt-to-Capital is provided below under Results of Operations.

 

Net Revenues represent total revenues less commissions, transportation and other expenses and onboard and other expenses (each of which is described above under the Description of Certain Line Items heading).

 

Net Yields represent Net Revenues per APCD.  We utilize Net Revenues and Net Yields to manage our business on a day-to-day basis as we believe that it is the most relevant measure of our pricing performance because it reflects the cruise revenues earned by us net of our most significant variable costs, which are commissions, transportation and other expenses and onboard and other expenses.  A reconciliation of historical Gross Yields to Net Yields is provided below under Results of Operations.  We have not provided a quantitative reconciliation of projected Gross Yields to projected Net Yields due to the significant uncertainty in projecting the costs deducted to arrive at this measure.  Accordingly, we do not believe that reconciling information for such projected figures would be meaningful.

 

Occupancy, in accordance with cruise vacation industry practice, is calculated by dividing Passenger Cruise Days by APCD.  A percentage in excess of 100% indicates that three or more passengers occupied some cabins.

 

Passenger Cruise Days represent the number of passengers carried for the period multiplied by the number of days of their respective cruises.

 

We believe Net Yields, Net Cruise Costs and Net Cruise Costs Excluding Fuel are our most relevant non-GAAP financial measures. However, a significant portion of our revenue and expenses are denominated in currencies other than the United States dollar. Because our reporting currency is the United States dollar, the value of these revenues and expenses can be affected by changes in currency exchange rates.  Although such changes in local currency prices is just one of many elements impacting our revenues and expenses, it can be an important element.  For this reason, we also monitor Net Yields, Net Cruise Costs and Net Cruise Costs Excluding Fuel as if the current periods’ currency exchange rates had remained constant with the comparable prior periods’ rates, or on a “Constant Currency” basis.

 

It should be emphasized that Constant Currency is primarily used for comparing short-term changes and/or projections.  Over the longer term, changes in guest sourcing and shifting the amount of purchases between currencies can significantly change the impact of the purely currency-based fluctuations.

 

The use of certain significant non-GAAP measures, such as Net Yields, Net Cruise Costs and Net Cruise Costs Excluding Fuel, allow us to perform capacity and rate analysis to separate the impact of known capacity changes from other less predictable changes which affect our business.  We believe these non-GAAP measures provide expanded insight to measure revenue and cost performance in addition to the standard United States GAAP based financial measures.  There are no specific rules or regulations for determining non-GAAP and Constant Currency measures, and as such, there exists the possibility that they may not be comparable to other companies within the industry.

 

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Results of Operations

 

Summary

 

Our net income and Adjusted Net Income for the third quarter of 2013 was $365.7 million and $377.9 million or $1.65 and $1.71 per share on a diluted basis, respectively, as compared to net income of $367.8 million or $1.68 per share on a diluted basis for the third quarter of 2012.

 

Our net income and Adjusted Net Income for the nine months ended September 30, 2013 was $466.7 million and $480.6 million or $2.11 and $2.18 per share on a diluted basis, respectively, as compared to net income of $411.1 million or $1.87 per share on a diluted basis for the nine months ended September 30, 2012.

 

We are in the process of implementing a broad profitability improvement program aimed at improving our returns on invested capital by increasing revenues and reducing expenses. There are numerous initiatives in connection with this program that are at different stages of implementation. One of those initiatives relates to realizing economies of scale and improving service delivery to our travel partners and guests by restructuring and consolidating our global sales, marketing and general and administrative structure.  During the third quarter of 2013, we moved forward with activities related to this initiative.  As a result of these actions, we incurred charges of $12.2 million in the third quarter of 2013 and $13.9 million for the nine months ended September 30, 2013 which are classified as Restructuring and related charges in our consolidated statements of comprehensive income (loss). Refer to Note 11. Restructuring and Related Charges to our consolidated financial statements for further information on the broad profitability improvement program.

 

Other significant items for the quarter and nine months ended September 30, 2013 include:

 

·                  Total revenues increased 3.8% for the quarter and nine months ended September 30, 2013 compared to the same periods in 2012.  These increases were primarily due to an increase in ticket prices, onboard spending, capacity and revenue related to Pullmantur’s travel agency network and air charter business.

 

·                  Cruise operating expenses increased 5.1% and 3.2% for the quarter and nine months ended September 30, 2013 compared to the same periods in 2012, respectively.  These increases were primarily due to an increase in crew expenses, onboard and other expenses, capacity and expenses related to Pullmantur’s travel agency network and air charter business.

 

·                  Since the beginning of the year, as part of our refinancing strategy, we have raised $345.0 million in additional revolving capacity; entered into a term loan facility which allows us to draw an amount up to $380.0 million through January 20th, 2014 and is due August 2018; and repurchased $21.0 million of 11.875% unsecured senior notes for which we recorded a loss on early extinguishment of debt of approximately $4.2 million. Refer to Note 4. Long-Term Debt in our consolidated financial statements for further information regarding our refinancing strategy.

 

·                  Our agreement with Meyer Werft to build the third Quantum-class ship for Royal Caribbean International became effective during the third quarter of 2013.  The ship will have a capacity of approximately 4,150 berths and is expected to enter service in the second quarter of 2016.

 

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·                  In September 2013, our board of directors declared a cash dividend on our common stock of $0.25 per share, which was paid in the fourth quarter of 2013. During each of the first and second quarters of 2013, we declared and paid a cash dividend on our common stock of $0.12 per share.

 

Operating results for the quarter and nine months ended September 30, 2013 compared to the same period in 2012 are shown in the following table (in thousands, except per share data):

 

 

 

Quarter Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2013

 

2012

 

2013

 

2012

 

 

 

 

 

% of Total
Revenues

 

 

 

% of Total
Revenues

 

 

 

% of Total
Revenues

 

 

 

% of Total
Revenues

 

Passenger ticket revenues

 

$

1,672,051

 

72.3

%

$

1,635,033

 

73.4

%

$

4,432,542

 

72.6

%

$

4,319,478

 

73.4

%

Onboard and other revenues

 

639,698

 

27.7

%

591,357

 

26.6

%

1,673,194

 

27.4

%

1,562,396

 

26.6

%

Total revenues

 

2,311,749

 

100.0

%

2,226,390

 

100.0

%

6,105,736

 

100.0

%

5,881,874

 

100.0

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cruise operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commissions, transportation and other

 

378,291

 

16.4

%

366,100

 

16.4

%

1,017,734

 

16.7

%

994,535

 

16.9

%

Onboard and other

 

178,269

 

7.7

%

166,356

 

7.5

%

440,466

 

7.2

%

404,932

 

6.9

%

Payroll and related

 

213,860

 

9.3

%

201,644

 

9.1

%

632,758

 

10.4

%

618,277

 

10.5

%

Food

 

119,104

 

5.2

%

111,315

 

5.0

%

351,117

 

5.8

%

334,240

 

5.7

%

Fuel

 

215,686

 

9.3

%

213,434

 

9.6

%

689,809

 

11.3

%

680,389

 

11.6

%

Other operating

 

311,591

 

13.5

%

289,476

 

13.0

%

890,726

 

14.6

%

867,078

 

14.7

%

Total cruise operating expenses

 

1,416,801

 

61.3

%

1,348,325

 

60.6

%

4,022,610

 

65.9

%

3,899,451

 

66.3

%

Marketing, selling and administrative expenses

 

249,954

 

10.8

%

243,877

 

11.0

%

781,936

 

12.8

%

756,049

 

12.9

%

Depreciation and amortization expenses

 

188,541

 

8.2

%

182,051

 

8.2

%

564,089

 

9.2

%

541,957

 

9.2

%

Restructuring and related charges

 

12,244

 

0.5

%

 

 

13,922

 

0.2

%

 

 

Operating Income

 

444,209

 

19.2

%

452,137

 

20.3

%

723,179

 

11.8

%

684,417

 

11.6

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other income (expense):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest income

 

3,299

 

0.1

%

4,744

 

0.2

%

10,451

 

0.2

%

16,062

 

0.3

%

Interest expense, net of interest capitalized

 

(79,654

)

(3.4

)%

(84,977

)

(3.8

)%

(256,713

)

(4.2

)%

(266,749

)

(4.5

)%

Extinguishment of unsecured senior notes

 

(4,206

)

(0.2

)%

(7,485

)

(0.3

)%

(4,206

)

(0.1

)%

(7,485

)

(0.1

)%

Other income (expense)

 

2,053

 

0.1

%

3,360

 

0.2

%

(6,037

)

(0.1

)%

(15,155

)

(0.3

)%

 

 

(78,508

)

(3.4

)%

(84,358

)

(3.8

)%

(256,505

)

(4.2

)%

(273,327

)

(4.6

)%

Net Income

 

$

365,701

 

15.8

%

$

367,779

 

16.6

%

$

466,674

 

7.6

%

$

411,090

 

7.0

%

Diluted Earnings per Share

 

$

1.65

 

 

 

$

1.68

 

 

 

$

2.11

 

 

 

$

1.87

 

 

 

 

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Adjusted Net Income and Adjusted Earnings per Share were calculated as follows (in thousands, except per share data):

 

 

 

Quarter Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2013

 

2012

 

2013

 

2012

 

 

 

 

 

 

 

 

 

 

 

Net Income

 

$

365,701

 

$

367,779

 

$

466,674

 

$

411,090

 

 

 

 

 

 

 

 

 

 

 

Restructuring and related charges

 

12,244

 

 

13,922

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted Net Income

 

$

377,945

 

$

367,779

 

$

480,596

 

$

411,090

 

 

 

 

 

 

 

 

 

 

 

Weighted-Average Shares Outstanding:

 

 

 

 

 

 

 

 

 

Basic

 

219,744

 

217,940

 

219,450

 

217,797

 

Diluted

 

221,004

 

219,296

 

220,744

 

219,263

 

 

 

 

 

 

 

 

 

 

 

Earnings per Share:

 

 

 

 

 

 

 

 

 

Basic

 

$

1.66

 

$

1.69

 

$

2.13

 

$

1.89

 

Diluted

 

$

1.65

 

$

1.68

 

$

2.11

 

$

1.87

 

 

 

 

 

 

 

 

 

 

 

Adjusted Earnings per Share:

 

 

 

 

 

 

 

 

 

Basic

 

$

1.72

 

$

1.69

 

$

2.19

 

$

1.89

 

Diluted

 

$

1.71

 

$

1.68

 

$

2.18

 

$

1.87

 

 

Selected statistical information is shown in the following table:

 

 

 

Quarter Ended
September 30,

 

Nine Months Ended
September 30,

 

 

 

2013

 

2012

 

2013

 

2012

 

Passengers Carried

 

1,259,204

 

1,246,730

 

3,694,893

 

3,707,423

 

Passenger Cruise Days

 

9,302,555

 

9,203,801

 

26,633,114

 

26,401,129

 

APCD

 

8,667,948

 

8,581,222

 

25,334,240

 

25,061,920

 

Occupancy

 

107.3

%

107.3

%

105.1

%

105.3

%

 

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Table of Contents

 

Gross Yields and Net Yields were calculated as follows (in thousands, except APCD and Yields):

 

 

 

Quarter Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2013

 

2013
On a
Constant
Currency
basis

 

2012

 

2013

 

2013
On a
Constant
Currency
basis

 

2012

 

Passenger ticket revenues

 

$

1,672,051

 

$

1,672,634

 

$

1,635,033

 

$

4,432,542

 

$

4,455,851

 

$

4,319,478

 

Onboard and other revenues

 

639,698

 

636,837

 

591,357

 

1,673,194

 

1,670,598

 

1,562,396

 

Total revenues

 

2,311,749

 

2,309,471

 

2,226,390

 

6,105,736

 

6,126,449

 

5,881,874

 

Less:

 

 

 

 

 

 

 

 

 

 

 

 

 

Commissions, transportation and other

 

378,291

 

377,123

 

366,100

 

1,017,734

 

1,022,147

 

994,535

 

Onboard and other

 

178,269

 

177,402

 

166,356

 

440,466

 

439,687

 

404,932

 

Net revenues

 

$

1,755,189

 

$

1,754,946

 

$

1,693,934

 

$

4,647,536

 

$

4,664,615

 

$

4,482,407

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

APCD

 

8,667,948

 

8,667,948

 

8,581,222

 

25,334,240

 

25,334,240

 

25,061,920

 

Gross Yields

 

$

266.70

 

$

266.44

 

$

259.45

 

$

241.01

 

$

241.82

 

$

234.69

 

Net Yields

 

$

202.49

 

$

202.46

 

$

197.40

 

$

183.45

 

$

184.12

 

$

178.85

 

 

Gross Cruise Costs, Net Cruise Costs and Net Cruise Costs Excluding Fuel were calculated as follows (in thousands, except APCD and costs per APCD):

 

 

 

Quarter Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2013

 

2013
On a
Constant
Currency
basis

 

2012

 

2013

 

2013
On a
Constant
Currency
basis

 

2012

 

Total cruise operating expenses

 

$

1,416,801

 

$

1,410,101

 

$

1,348,325

 

$

4,022,610

 

$

4,024,843

 

$

3,899,451

 

Marketing, selling and administrative expenses

 

249,954

 

249,314

 

243,877

 

781,936

 

781,244

 

756,049

 

Gross Cruise Costs

 

1,666,755

 

1,659,415

 

1,592,202

 

4,804,546

 

4,806,087

 

4,655,500

 

Less:

 

 

 

 

 

 

 

 

 

 

 

 

 

Commissions, transportation and other

 

378,291

 

377,123

 

366,100

 

1,017,734

 

1,022,147

 

994,535

 

Onboard and other

 

178,269

 

177,402

 

166,356

 

440,466

 

439,687

 

404,932

 

Net Cruise Costs

 

1,110,195

 

1,104,890

 

1,059,746

 

3,346,346

 

3,344,253

 

3,256,033

 

Less:

 

 

 

 

 

 

 

 

 

 

 

 

 

Fuel

 

215,686

 

216,316

 

213,434

 

689,809

 

692,925

 

680,389

 

Net Cruise Costs Excluding Fuel

 

$

894,509

 

$

888,574

 

$

846,312

 

$

2,656,537

 

$

2,651,328

 

$

2,575,644

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

APCD

 

8,667,948

 

8,667,948

 

8,581,222

 

25,334,240

 

25,334,240

 

25,061,920

 

Gross Cruise Costs per APCD

 

$

192.29

 

$

191.44

 

$

185.54

 

$

189.65

 

$

189.71

 

$

185.76

 

Net Cruise Costs per APCD

 

$

128.08

 

$

127.47

 

$

123.50

 

$

132.09

 

$

132.01

 

$

129.92

 

Net Cruise Costs Excluding Fuel per APCD

 

$

103.20

 

$

102.51

 

$

98.62

 

$

104.86

 

$

104.65

 

$

102.77

 

 

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Table of Contents

 

Net Debt-to-Capital was calculated as follows (in thousands):

 

 

 

As of

 

 

 

September 30,

 

December 31,

 

 

 

2013

 

2012

 

Long-term debt, net of current portion

 

$

5,980,912

 

$

6,970,464

 

Current portion of long-term debt

 

1,942,849

 

1,519,483

 

Total debt

 

7,923,761

 

8,489,947

 

Less: Cash and cash equivalents

 

209,567

 

194,855

 

Net Debt

 

$

7,714,194

 

$

8,295,092

 

 

 

 

 

 

 

Total shareholders’ equity

 

$

8,762,084

 

$

8,308,749

 

Total debt

 

7,923,761

 

8,489,947

 

Total debt and shareholders’ equity

 

$

16,685,845

 

$

16,798,696

 

Debt-to-Capital

 

47.5

%

50.5

%

Net Debt

 

$

7,714,194

 

$

8,295,092

 

Net Debt and shareholders’ equity

 

$

16,476,278

 

$

16,603,841

 

Net Debt-to-Capital

 

46.8

%

50.0

%

 

Outlook

 

Full Year 2013

 

 

As Reported

Constant Currency

Net Yields

2% to 3%

Approx. 3%

Net Cruise Costs per APCD

1% to 2%

1% to 2%

Net Cruise Costs per APCD, excluding Fuel

Approx. 2%

1% to 2%

Capacity Increase

0.8%

 

Depreciation and Amortization

$750 to $760 million

 

Interest Expense, net

$310 to $320 million

 

Fuel Consumption (metric tons)

1,340,400

 

Fuel Expenses

$920 million

 

Percent Hedged (fwd consumption)

63%

 

Impact of 10% change in fuel prices

$8 million

 

Adjusted Earnings per Share-Diluted*

$2.30 to $2.35

 

 

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Table of Contents

 

Fourth Quarter 2013

 

 

As Reported

Constant Currency

Net Yields

Approx. 2%

2% to 3%

Net Cruise Costs per APCD

1% to 2%

1% to 2%

Net Cruise Costs per APCD, excluding Fuel

Approx. 2%

1% to 2%

Capacity Increase

Flat

 

Depreciation and Amortization

$185 to $195 million

 

Interest Expense, net

$65 to $75 million

 

Fuel Consumption (metric tons)

337,900

 

Fuel Expenses

$230 million

 

Percent Hedged (fwd consumption)

63%

 

Impact of 10% change in fuel prices

$8 million

 

Adjusted Earnings per Share-Diluted*

$0.15 to $0.20

 

 

*         Adjusted Earnings per Share estimates for the Full Year and Fourth Quarter of 2013 are presented in lieu of earnings per share estimates due to the uncertainty of costs to be incurred for the remainder of 2013 in connection with initiatives being evaluated as part of our broad profitability improvement program.   Refer to Note 11. Restructuring and Related Charges in our consolidated financial statements for further information on the broad profitability improvement program and to the definition for Adjusted Earnings per Share herein. For the nine months ended September 30, 2013, we incurred restructuring and related charges of $13.9 million, or $0.07 per share on a diluted basis.

 

Full Year 2014

 

The order book for 2014 remains ahead on both load factor and rate.  Most markets and products are showing year-over-year improvement, including Europe, Alaska and Asia, while advanced bookings for the Caribbean are somewhat weaker.  We believe 2014 should be the fifth consecutive year for yield growth.  Current earnings estimates are consistent with Street consensus of $3.06 on an Adjusted Earnings per Share basis.

 

Quarter Ended September 30, 2013 Compared to Quarter Ended September 30, 2012

 

In this section, references to 2013 refer to the quarter ended September 30, 2013 and references to 2012 refer to the quarter ended September 30, 2012.

 

Revenues

 

Total revenues for 2013 increased $85.4 million, or 3.8%, to $2.3 billion from $2.2 billion in 2012.

 

Passenger ticket revenues comprised 72.3% of our 2013 total revenues.  Passenger ticket revenues increased by $37.0 million, or 2.3%, to $1.7 billion in 2013 from $1.6 billion in 2012.  The increase was primarily due to:

 

·                  an increase in ticket prices driven by greater demand for European sailings, which was partially offset by the impact of unscheduled drydocks for Celebrity Millennium and Grandeur of the Seas; all of which resulted in a $21.1 million increase in passenger ticket revenues; and

 

·                  a 1.0% increase in capacity, which increased passenger ticket revenues by $16.5 million.

 

The remaining 27.7% of 2013 total revenues was comprised of onboard and other revenues, which increased $48.3 million, or 8.2%, to $639.7 million in 2013 from $591.4 million in 2012.    The increase was primarily due to:

 

·                  a $23.1 million increase in onboard revenue attributable to higher spending on a per passenger basis and additional revenue generating opportunitites as a result of our ship revitalization projects.  Onboard and other revenues included concession revenues of $81.4 million in 2013 and $72.9 million in 2012; and

 

·                  a $16.4 million increase in revenues related to Pullmantur’s travel agency network and air charter business primarily due to the launch of new tour packages and an increase in air charters.

 

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Table of Contents

 

Cruise Operating Expenses

 

Total cruise operating expenses increased $68.5 million, or 5.1%, to $1.4 billion from $1.3 billion in 2012.  The increase was primarily due to:

 

·                  a $15.0 million increase in expenses related to Pullmantur’s travel agency network and air charter business noted above;

 

·                  a $9.6 million increase in crew expenses related to higher medical expenses and, to a lesser extent, an increase in crew movement related to deployment changes;

 

·                  a $7.2 million increase in per passenger food expenses due to our new culinary initiatives and itinerary changes; and

 

·                  a $12.9 million increase attributable to the 1.0% increase in capacity noted above.

 

The increase in total cruise operating expenses includes the unfavorable effect of changes in foreign currency exchange rates related to our cruise operating expenses denominated in currencies other than the United States dollar of approximately $6.7 million.

 

Marketing, Selling and Administrative Expenses

 

Marketing, selling and administrative expenses for 2013 of $250.0 million was comparable to $243.9 million for the same period in 2012.

 

Depreciation and Amortization Expenses

 

Depreciation and amortization expenses for 2013 increased $6.5 million, or 3.6%, to $188.5 million from $182.1 million in 2012.  The increase was primarily due to the addition of Celebrity Reflection which entered service in October 2012.  The increase was partially offset by the favorable effect of changes made in the first quarter of 2013 to the estimated useful lives and associated residual values for five ships of approximately $3.4 million.

 

Restructuring and related charges

 

During the third quarter of 2013, we implemented initiatives, related to a broad profitability improvement program.  As a result of these initiatives, we incurred charges of approximately $12.2 million in the third quarter of 2013.

 

Other Income (Expense)

 

Interest expense, net of interest capitalized, decreased $5.3 million, or 6.3%, to $79.7 million in 2013 compared to $85.0 million in 2012.  The decrease was due to lower interest rates partially offset by a higher average debt level.

 

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Table of Contents

 

Extinguishment of unsecured senior notes, decreased $3.3 million, or 43.8%, to $4.2 million in 2013 compared to $7.5 million in 2012.  The decrease is due to a lower amount of notes repurchased during 2013 partially offset by a higher premium paid in connection with the 2013 repurchases.

 

Net Yields

 

Net Yields increased 2.6% in 2013 compared to 2012 primarily due to an increase in ticket prices, onboard revenue and the increase in Pullmantur’s travel agency network and air charter business noted above.  Net Yields increased 2.6% in 2013 compared to 2012 on a Constant Currency basis.

 

Net Cruise Costs

 

Net Cruise Costs increased 4.8% in 2013 compared to 2012 primarily due to the increase in expenses related to Pullmantur’s travel agency network and air charter business, crew expenses and food expenses noted above.  Net Cruise Costs per APCD increased 3.7% in 2013 compared to 2012 and increased 3.2% in 2013 compared to 2012 on a Constant Currency basis.

 

Net Cruise Costs Excluding Fuel

 

Net Cruise Costs Excluding Fuel per APCD increased 4.6% in 2013 compared to 2012 and increased 3.9% in 2013 compared to 2012 on a Constant Currency basis.

 

Nine Months Ended September 30, 2013 Compared to Nine Months Ended September 30, 2012

 

In this section, references to 2013 refer to the nine months ended September 30, 2013 and references to 2012 refer to the nine months ended September 30, 2012.

 

Revenues

 

Total revenues for 2013 increased $223.9 million, or 3.8%, to $6.1 billion from $5.9 billion in 2012.

 

Passenger ticket revenues comprised 72.6% of our 2013 total revenues.  Passenger ticket revenues increased by $113.1 million, or 2.6%, to $4.4 billion in 2013 from $4.3 billion in 2012.  The increase was primarily due to:

 

·                  an increase in ticket prices driven by greater demand for European sailings, which was partially offset by the impact of the unscheduled drydocks for Celebrity Millennium and Grandeur of the Seas, all of which resulted in a $89.4 million increase in passenger ticket revenues; and

 

·                  a 1.1% increase in capacity, which increased passenger ticket revenues by $46.9 million.

 

The increase was partially offset by:

 

·                  the unfavorable effect of changes in foreign currency exchange rates related to our revenue transactions denominated in currencies other than the United States dollar of approximately $23.3 million.

 

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Table of Contents

 

The remaining 27.4% of 2013 total revenues was comprised of onboard and other revenues, which increased $110.8 million, or 7.1%, to $1.7 billion in 2013 from $1.6 billion in 2012.  The increase was primarily due to:

 

·                  a $79.9 million increase in onboard revenue primarily due to higher spending on a per passenger basis, additional revenue generating opportunities as a result of our ship revitalization projects and itinerary changes. Onboard and other revenues included concession revenues of $233.1 million in 2013 and $213.3 million in 2012;

 

·                  a $17.9 million increase in revenues related to Pullmantur’s travel agency network and air charter business due to an increase in air and cruise charters and the addition of new tour packages; and

 

·                  a $14.9 million increase attributable to the 1.1% increase in capacity noted above.

 

Cruise Operating Expenses

 

Total cruise operating expenses increased $123.2 million, or 3.2%, to $4.0 billion from $3.9 billion in 2012.  The increase was primarily due to:

 

·                  a $18.6 million increase in crew expenses related to higher medical expenses and, to a lesser extent, an increase in crew movement related to deployment changes;

 

·                  a $12.8 million increase in per passenger food expenses due to our new culinary initiatives and itinerary changes;

 

·                  a $11.6 million increase in shore excursion expenses attributable to itinerary changes;

 

·                  a $11.5 million increase in indirect operating expenses mainly due to the 2012 gain from the sale of Oceanic which did not recur in 2013;

 

·                  a $8.9 million increase in expenses related to Pullmantur’s travel agency network and air charter business noted above; and

 

·                  a $40.6 million increase attributable to the 1.1% increase in capacity noted above.

 

Marketing, Selling and Administrative Expenses

 

Marketing, selling and administrative expenses for 2013 increased $25.9 million, or 3.4%, to $781.9 million in 2013 from $756.0 million in 2012.  The increase was primarily due to an increase in advertising expenses and in costs associated with technological innovations.

 

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Table of Contents

 

Depreciation and Amortization Expenses

 

Depreciation and amortization expenses for 2013 increased $22.1 million or 4.1% to $564.1 million from $542.0 million in 2012.  The increase was primarily due to the addition of Celebrity Reflection which entered service in October 2012.  The increase was partially offset by the favorable effect of changes made in the first quarter of 2013 to the estimated useful lives and associated residual values for five ships of approximately $7.2 million.

 

Restructuring and related charges

 

We incurred charges of approximately $13.9 million in the nine months ended September 30, 2013, as a result of the initiatives we implemented related to a broad profitability improvement program.

 

Other Income (Expense)

 

Interest expense, net of interest capitalized, decreased $10.0 million, or 3.8%, to $256.7 million in 2013 from $266.7 million in 2012.  The decrease was due to lower interest rates partially offset by a higher average debt level.

 

Extinguishment of unsecured senior notes, decreased $3.3 million, or 43.8%, to $4.2 million in 2013 compared to $7.5 million in 2012.  The decrease is due to a lower amount of notes repurchased during 2013 partially offset by a higher premium paid in connection with the 2013 repurchases.

 

Other expense decreased $9.1 million, or 60.2%, to $6.0 million in 2013 compared to $15.2 million for the same period in 2012.  This change was primarily due to income of $25.3 million from our equity method investments in 2013 as compared to income of $15.8 million in 2012.

 

Net Yields

 

Net Yields increased 2.6% in 2013 compared to 2012 primarily due to an increase in ticket prices, onboard revenue and Pullmantur’s travel agency network and air charter business noted above.  Net Yields increased 2.9% in 2013 compared to 2012 on a Constant Currency basis.

 

Net Cruise Costs

 

Net Cruise Costs increased 2.8% in 2013 compared to 2012 primarily due to the increase in crew expenses, food expenses, indirect operating expenses and expenses related to Pullmantur’s travel agency network and air charter business, noted above.  Net Cruise Costs per APCD increased 1.7% in 2013 compared to 2012.  Net Cruise Costs per APCD on a Constant Currency basis increased 1.6% in 2013 compared to 2012.

 

Net Cruise Costs Excluding Fuel

 

Net Cruise Costs Excluding Fuel per APCD increased 2.0% in 2013 compared to 2012 and increased 1.8% in 2013 compared to 2012 on a Constant Currency basis.

 

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Table of Contents

 

Recently Adopted, and Future Application of, Accounting Standards

 

Refer to Note 2. Summary of Significant Accounting Policies to our consolidated financial statements for further information on Recently Adopted Accounting Standards and Recent Accounting Pronouncements.

 

Liquidity and Capital Resources

 

Sources and Uses of Cash

 

Cash flow generated from operations provides us with a significant source of liquidity. Net cash provided by operating activities remained consistent at $1.2 billion. The primary drivers for the first nine months of 2013 include cash provided by operating activities primarily attributable to a $327.3 million increase in cash receipts from customer deposits and an increase of approximately $67.3 million in cash receipts from onboard spending, mostly offset by $69.7 million of cash received on the settlement of derivative financial instruments in 2012 which did not recur in 2013 and the timing of payments to vendors in 2013 as compared to 2012.

 

Net cash used in investing activities was $578.4 million for the first nine months of 2013 compared to $383.3 million for the same period in 2012. During the first nine months of 2013, our use of cash was primarily related to capital expenditures of $534.0 million, up from $429.3 million for the same period in 2012. We also invested $60.4 million in unconsolidated affiliates during 2013. In addition, during 2013 we paid $8.5 million on settlements on our foreign currency forward contracts, compared to proceeds of $19.1 million during 2012.

 

Net cash used in financing activities was $637.6 million for the first nine months of 2013 compared to $801.5 million for the same period in 2012. This change was primarily due to an increase of $604.5 million in debt proceeds, partially offset by an increase of $458.0 million in repayments of debt. The increase in debt proceeds was primarily due to borrowings of $1.0 billion on our revolving credit facilities during the first nine months of 2013 as compared to $625.0 million in the same period in 2012. In addition, we borrowed $476.0 million from an unsecured term loan facility during the nine months ended September 30, 2013 as compared to $290.0 million borrowed in the same period in 2012. The increase in repayments of debt was primarily due to the payment at maturity of $550.0 million of unsecured senior notes due 2013 and an increase of $330.0 million in repayments on unsecured revolving credit facilities, partially offset by the decrease in the amount paid related to the extinguishments of unsecured senior notes.

 

Future Capital Commitments

 

Our future capital commitments consist primarily of new ship orders.  As of September 30, 2013, we had three Quantum-class ships and one Oasis-class ship on order for our Royal Caribbean International brand with an aggregate capacity of approximately 17,850 berths.

 

As of September 30, 2013, the aggregate cost of our ships on order was approximately $4.7 billion, of which we had deposited $335.7 million as of such date.  Approximately 45.0% of the aggregate cost was exposed to fluctuations in the euro exchange rate at September 30, 2013.  In October 2013, we entered into foreign currency forward contracts to hedge additional amounts related to the cost of our ships on order denominated in euros. As of the date of this filing, approximately 36.7% of the aggregate cost was exposed to fluctuations in the euro exchange rate.  (See Note 7. Commitments and Contingencies and Note 10. Fair Value Measurements and Derivative Instruments to our consolidated financial statements under Item 1. Financial Statements).

 

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Table of Contents

 

As of September 30, 2013, we anticipate overall full year capital expenditures will be approximately $0.7 billion for 2013, $1.2 billion for 2014, $1.2 billion for 2015 and $2.0 billion for 2016.

 

Contractual Obligations

 

As of September 30, 2013, our contractual obligations were as follows (in thousands):

 

 

 

Payments due by period

 

 

 

 

 

Less than

 

1-3

 

3-5

 

More than

 

 

 

Total

 

1 year

 

years

 

years

 

5 years

 

Operating Activities:

 

 

 

 

 

 

 

 

 

 

 

Operating lease obligations(1)(2)

 

$

602,470

 

$

63,874

 

$

117,887

 

$

105,242

 

$

315,467

 

Interest on long-term debt(3)

 

1,116,091

 

234,085

 

337,024

 

186,696

 

358,286

 

Other(4)

 

728,183

 

177,780

 

256,873

 

193,728

 

99,802

 

Investing Activities:

 

 

 

 

 

 

 

 

 

 

 

Ship purchase obligations(5)

 

3,744,364

 

240,113

 

3,504,251

 

 

 

Financing Activities:

 

 

 

 

 

 

 

 

 

 

 

Long-term debt obligations (6)

 

7,870,896

 

1,935,154

 

2,146,811

 

1,703,946

 

2,084,985

 

Capital lease obligations (7)

 

52,865

 

7,695

 

10,430

 

5,642

 

29,098

 

Other (8)

 

93,094

 

29,230

 

44,013

 

17,092

 

2,759

 

Total

 

$

14,207,963

 

$

2,687,931

 

$

6,417,289

 

$

2,212,346

 

$

2,890,397

 

 


(1)         We are obligated under noncancelable operating leases primarily for a ship, offices, warehouses and motor vehicles. Amounts represent contractual obligations with initial terms in excess of one year.

(2)         Under the Brilliance of the Seas lease agreement, we may be required to make a termination payment of approximately £65.4 million, or approximately $105.9 million based on the exchange rate at September 30, 2013, if the lease is canceled in 2020.  This amount is included in the more than 5 years column.

(3)         Long-term debt obligations mature at various dates through fiscal year 2027 and bear interest at fixed and variable rates. Interest on variable-rate debt is calculated based on forecasted debt balances, including interest swapped using the applicable rate at September 30, 2013.  Debt denominated in other currencies is calculated based on the applicable exchange rate at September 30, 2013.

(4)         Amounts represent future commitments with remaining terms in excess of one year to pay for our usage of certain port facilities, marine consumables, services and maintenance contracts.

(5)         Amounts do not include potential obligations which remain subject to cancellation at our sole discretion.

(6)         Amounts represent debt obligations with initial terms in excess of one year.

(7)         Amounts represent capital lease obligations with initial terms in excess of one year.

(8)         Amounts represent fees payable to sovereign guarantors in connection with certain of our export credit debt facilities and facility fees on our revolving credit facilities.

 

As a normal part of our business, depending on market conditions, pricing and our overall growth strategy, we continuously consider opportunities to enter into contracts for the building of additional ships.  We may also consider the sale of ships or the purchase of existing ships.  We continuously consider potential acquisitions and strategic alliances.  If any of these were to occur, they would be financed through the incurrence of additional indebtedness, the issuance of additional shares of equity securities or through cash flows from operations.

 

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Off-Balance Sheet Arrangements

 

In July 2002, we entered into an operating lease denominated in British pound sterling for the Brilliance of the Seas.  The lease payments vary based on sterling LIBOR and are included in other operating expenses in our consolidated statements of comprehensive income (loss). Brilliance of the Seas lease expense amounts were approximately ₤3.1 million and ₤3.5 million, or approximately $4.8 million and $5.5 million, for the quarter ended September 30, 2013 and September 30, 2012, respectively, and were approximately ₤9.2 million and ₤11.5 million, or approximately $14.1 million and $18.3 million for the nine months ended September 30, 2013 and September 30, 2012, respectively. The lease has a contractual life of 25 years; however, both the lessor and we have certain rights to cancel the lease at year 18 (i.e. 2020) upon advance notice given approximately one year prior to cancellation.  In the event of early termination at year 18, we have the option to cause the sale of the vessel at its fair value and to use the proceeds towards the applicable termination payment.  Alternatively, we could opt at such time to make a termination payment of approximately ₤65.4 million, or approximately $105.9 million based on the exchange rate at September 30, 2013 and relinquish our right to cause the sale of the vessel.  Under current circumstances we do not believe early termination of this lease is probable.

 

Under the Brilliance of the Seas operating lease, we have agreed to indemnify the lessor to the extent its after-tax return is negatively impacted by unfavorable changes in corporate tax rates, capital allowance deductions and certain unfavorable determinations which may be made by United Kingdom tax authorities. These indemnifications could result in an increase in our lease payments.  We are unable to estimate the maximum potential increase in our lease payments due to the various circumstances, timing or a combination of events that could trigger such indemnifications. The United Kingdom tax authorities are disputing the lessor’s accounting treatment of the lease and the lessor and tax authorities are in discussions on the matter.  If the characterization of the lease is ultimately determined to be incorrect, we could be required to indemnify the lessor under certain circumstances.  The lessor has advised us that they believe their characterization of the lease is correct. Based on the foregoing and our review of available information, we do not believe an indemnification payment is probable.  However, if the lessor loses its dispute and we are required to indemnify the lessor, we cannot at this time predict the impact that such an occurrence would have on our financial condition and results of operations.

 

In connection with the sale of Celebrity Mercury in February 2011, we and TUI AG have each guaranteed repayment of 50% of an €180.0 million amortizing bank loan provided to TUI Cruises which is due 2016.  As of September 30, 2013, €139.5 million, or approximately $188.8 million based on the exchange rate at September 30, 2013, remains outstanding.  Based on current facts and circumstances, we do not believe potential obligations under this guarantee are probable.

 

TUI Cruises entered into construction agreements with STX Finland that include certain restrictions on each of our and TUI AG’s ability to reduce our current ownership interest in TUI Cruises below 37.5% through the construction periods for the first and second TUI newbuild vessels.  In addition, the credit agreements for the financing of the ships extend this restriction through 2019.

 

Some of the contracts that we enter into include indemnification provisions that obligate us to make payments to the counterparty if certain events occur.  These contingencies generally relate to changes in taxes, increased lender capital costs and other similar costs.  The indemnification clauses are often standard contractual terms and are entered into in the normal course of business.  There are no stated or notional amounts included in the indemnification clauses and we are not able to estimate the maximum potential amount of future payments, if any, under these indemnification clauses.  We have not been required to make any payments under such indemnification clauses in the past and, under current

 

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circumstances, we do not believe an indemnification obligation is probable.

 

Other than the items described above, we are not party to any other off-balance sheet arrangements, including guarantee contracts, retained or contingent interest, certain derivative instruments and variable interest entities, that either have, or are reasonably likely to have, a current or future material effect on our financial position.

 

Funding Needs and Sources

 

We have significant contractual obligations of which the capital expenditures associated with our ship purchases and our debt service obligations represent our largest funding needs.  We have historically relied on a combination of cash flows provided by operations, drawdowns under our available credit facilities, the incurrence of additional debt and/or the refinancing of our existing debt and the issuance of additional shares of equity securities to fund these obligations.

 

We had a working capital deficit of $3.8 billion as of September 30, 2013 as compared to a working capital deficit of $3.2 billion as of December 31, 2012.  Included within our working capital deficit is $1.9 billion and $1.5 billion of current portion of long-term debt as of September 30, 2013 and December 31, 2012, respectively.  The increase in working capital deficit was primarily due to the increase in current maturities of long-term debt.  Similar to others in our industry, we operate with a substantial working capital deficit.  This deficit is mainly attributable to the fact that, under our business model, a vast majority of our passenger ticket receipts are collected in advance of the applicable sailing date. These advance passenger receipts remain a current liability until the sailing date. The cash generated from these advance receipts is used interchangeably with cash on hand from other sources, such as our revolving credit facilities and other cash from operations. The cash received as advanced receipts can be used to fund operating expenses for the applicable future sailing or otherwise, pay down our revolving credit facilities, invest in long term investments or any other use of cash. In addition, we have a relatively low-level of accounts receivable and rapid turnover results in a limited investment in inventories.  We generate substantial cash flows from operations and our business model, along with our unsecured revolving credit facilities, has historically allowed us to maintain this working capital deficit and still meet our operating, investing and financing needs. We expect that we will continue to have working capital deficits in the future.

 

As of September 30, 2013, we have approximately $7.9 billion in long-term debt obligations, of which approximately $1.9 billion is due through September 30, 2014.  Also, we have approximately $745.1 million in contractual obligations, other than long-term debt, due through September 30, 2014.  We expect to fund these obligations through our existing liquidity and cash flows from operations.

 

As of September 30, 2013, we have on order three Quantum-class ships and one Oasis-class ship each of which has committed unsecured bank financing arrangements which include sovereign financing guarantees. Refer to Note 7. Commitments and Contingencies for further information.

 

In order to ensure that we have adequate liquidity over the next twelve months, we have entered into a series of refinancing transactions. During the third quarter of 2013, we entered into a credit agreement, which provides an unsecured term loan facility in an amount up to $380.0 million due August 2018. Additionally, since the beginning of the year, we have raised $345.0 million in additional revolving capacity, as follows. We amended and restated our $525.0 million unsecured revolving credit facility to $850.0 million and extended the termination date to August 2018.  In addition, we increased the capacity of our revolving credit facility due July 2016 by $20.0 million, bringing our total capacity under this facility to $1.1 billion.  As of September 30, 2013, we have an aggregate revolving borrowing capacity of $2.0 billion.  Refer to Note 4. Long-Term Debt for further information.

 

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As of September 30, 2013, our liquidity was $2.6 billion, consisting of approximately $209.6 million in cash and cash equivalents and $2.4 billion available under our unsecured credit facilities. We anticipate that our cash flows from operations and our current financing arrangements, as described above, will be adequate to meet our capital expenditures and debt repayments over the next twelve-month period.

 

In September 2013, we repurchased $21.0 million of our 11.875% unsecured senior notes due 2015. Total consideration paid in connection with these repurchases, including premium and related fees and expenses, was $24.9 million resulting in a loss on the early extinguishment of debt of approximately $4.2 million which was immediately recognized in earnings. We may from time to time repurchase our debt in the open market, through debt tender offers, exchanges of debt securities, by exercising redemption rights or in privately negotiated transactions.  We may also refinance existing debt or exchange existing debt for newly issued debt obligations.

 

We are in the process of implementing a broad profitability improvement program aimed at increasing revenues and reducing expenses with a goal of further improving our returns on invested capital. There are numerous initiatives in connection with this program that are at different stages of implementation. One of those initiatives relates to realizing economies of scale and improving service delivery to our travel partners and guests by restructuring and consolidating our global sales, marketing and general and administrative structure.  During the third quarter of 2013, we moved forward with activities related to this initiative.  We expect to incur an estimated remaining amount of $26 million of cash outlays, mostly through the end of 2014, to complete this initiative.  We believe the cash outlays will be offset by increased cash inflows from the expected cost savings.

 

We also continue to implement a number of initiatives to reduce energy consumption and, by extension, fuel costs.  These include the design of more fuel efficient ships and the implementation of other hardware and energy efficiencies.

 

If (i) any person other than A. Wilhelmsen AS. and Cruise Associates and their respective affiliates (the “Applicable Group”) acquires ownership of more than 33% of our common stock and the Applicable Group owns less of our common stock than such person, or (ii) subject to certain exceptions, during any 24-month period, a majority of the Board is no longer comprised of individuals who were members of the Board on the first day of such period, we may be obligated to prepay indebtedness outstanding under the majority of our credit facilities, which we may be unable to replace on similar terms.  Certain of our outstanding debt securities also contain change of control provisions that would be triggered by the acquisition of greater than 50% of our common stock by a person other than a member of the Applicable Group coupled with a ratings downgrade.  If this were to occur, it would have an adverse impact on our liquidity and operations.

 

Debt Covenants

 

Certain of our financing agreements contain covenants that require us, among other things, to maintain minimum net worth of at least $5.9 billion, a fixed charge coverage ratio of at least 1.25x and limit our net debt-to-capital ratio to no more than 62.5%.  The fixed charge coverage ratio is calculated

 

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by dividing net cash from operations for the past four quarters by the sum of dividend payments plus scheduled principal debt payments in excess of any new financings for the past four quarters.  Our minimum net worth and maximum net debt-to-capital calculations exclude the impact of accumulated other comprehensive income (loss) on total shareholders’ equity. We are well in excess of all debt covenant requirements as of September 30, 2013.  The specific covenants and related definitions can be found in the applicable debt agreements, the majority of which have been previously filed with the Securities and Exchange Commission.

 

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Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

Interest Rate Risk

 

During the second quarter of 2013, we entered into interest rate swap agreements that effectively changed the interest rate on the $650.0 million unsecured senior notes due 2022, from a fixed rate of 5.25% to a LIBOR-based floating rate equal to LIBOR plus 3.63%, currently approximately 3.90%.  These interest rate swap agreements are accounted for as fair value hedges.

 

The notional amount of interest rate swap agreements related to outstanding debt and on our current unfunded financing arrangements as of September 30, 2013 and December 31, 2012 was $3.0 billion and $2.4 billion, respectively.

 

Foreign Currency Exchange Rate Risk

 

During the second quarter of 2013, we entered into foreign currency forward contracts to hedge €365.0 million of our €745.0 million 5.625% unsecured senior notes due January 2014. These foreign currency forward contracts are accounted for as cash flow hedges and mature in January 2014.

 

The notional amount of outstanding foreign exchange contracts including our forward contracts and collar options as of September 30, 2013 and December 31, 2012 was $2.1 billion and $1.2 billion, respectively.

 

Other than the aforementioned changes, there have been no significant developments or material changes with respect to our exposure to market risks previously reported in our Annual Report on Form 10-K for the year ended December 31, 2012.  For a further discussion of our market risks, refer to Part II, Item 7A. Quantitative and Qualitative Disclosures About Market Risk in our Annual Report on Form 10-K for the year ended December 31, 2012.

 

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Item 4. Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

Our management, with the participation of our Chairman and Chief Executive Officer and Senior Vice President, Chief Financial Officer, conducted an evaluation of the effectiveness of our disclosure controls and procedures, as such term is defined in Exchange Act Rule 13a-15(e), as of the end of the period covered by this report.  Based upon such evaluation, our Chairman and Chief Executive Officer and Senior Vice President, Chief Financial Officer concluded that those controls and procedures are effective to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to management, including our Chairman and Chief Executive Officer and our Senior Vice President, Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure and are effective to provide reasonable assurance that such information is recorded, processed, summarized and reported within the time periods specified by the SEC’s rules and forms.

 

Changes in Internal Control Over Financial Reporting

 

There were no changes in our internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Exchange Act Rule 13a-15 during the quarter ended September 30, 2013 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

Inherent Limitations on Effectiveness of Controls

 

It should be noted that any system of controls, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system will be met. In addition, the design of any control system is based in part upon certain assumptions about the likelihood of future events. Because of these and other inherent limitations of control systems, there is only reasonable assurance that our controls will succeed in achieving their goals under all potential future conditions.

 

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PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings

 

As previously reported in our Annual Report on Form 10-K for the year ended December 31, 2012, a consolidated amended complaint was filed in the U.S. District Court of the Southern District of Florida on behalf of a purported class of purchasers of our common stock during the period from October 26, 2010 through July 27, 2011 against the Company and certain of our current and former officers.  The complaint alleged violations of Section 10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b-5 as well as, in the case of the individual defendants, the control person provisions of the Securities Exchange Act.  We filed a motion to dismiss the complaint for failure to state a claim on April 9, 2012.  On April 18, 2013, the district judge granted our motion and ordered the case dismissed with prejudice.  Plaintiffs did not appeal this order and the case is now closed.

 

As previously reported in our Annual Report on Form 10-K for the year ended December 31, 2012, a class action complaint was filed in June 2011 against Royal Caribbean Cruises Ltd. in the United States District Court for the Southern District of Florida on behalf of a purported class of stateroom attendants employed onboard Royal Caribbean International cruise vessels alleging that they were required to pay other crew members to help with their duties in violation of the U.S. Seaman’s Wage Act.  In May 2012, the Court granted our motion to dismiss the complaint on the basis that the applicable collective bargaining agreement requires any such claims to be arbitrated. Plaintiffs have appealed this decision to the United States Court of Appeals, 11th Circuit. We believe the appeal is without merit as are the underlying claims made against us and we intend to vigorously defend ourselves against them.

 

Item 1A. Risk Factors

 

The risk factors that affect our business and financial results are discussed in “Item 1A. Risk Factors” in the 2012 Annual Report on Form 10-K and there has been no material change to these risk factors since previously disclosed.  We wish to caution the reader that the risk factors discussed in “Item 1A. Risk Factors” in our 2012 Annual Report on Form 10-K, and those described elsewhere in this report or other Securities and Exchange Commission filings, could cause future results to differ materially from those stated in any forward-looking statements.

 

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Item 6. Exhibits

 

3.1

 

Amended and Restated Bylaws (incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on September 11, 2013).

 

 

 

10.1

 

Assignment and Amendment to the Credit Agreement, dated as of August 23, 2013, among the Company, the various financial institutions as are or shall become parties thereto and Nordea Bank Finland plc, New York Branch, as administrative agent for the lender parties Arranger (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on August 26, 2013).

 

 

 

10.2

 

Facility Agreement, dated as of July 9, 2013, between Royal Caribbean Cruises Ltd., as the Borrower, the Lenders from time to time party thereto, Société Générale, as Facility Agent and Mandated Lead Arranger, BNP Paribas, as Documentation Bank and Mandated Lead Arranger, and HSBC France, as Mandated Lead Arranger (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on July 12, 2013).

 

 

 

10.3

 

Summary of Board of Directors Compensation*

 

 

 

31.1

 

Certification of the Chairman and Chief Executive Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934*

 

 

 

31.2

 

Certification of the Senior Vice President, Chief Financial Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934*

 

 

 

32.1

 

Certifications of the Chairman and Chief Executive Officer and the Senior Vice President, Chief Financial Officer pursuant to Rule 13a-14(b) of the Securities Exchange Act of 1934 and Section 1350 of Chapter 63 of Title 18 of the United States Code**

 


*

 

Filed herewith

**

 

Furnished herewith

 

Interactive Data File

 

101                          The following financial statements from Royal Caribbean Cruises Ltd.’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2013, as filed with the SEC on October 24, 2013, formatted in XBRL, as follows:

 

(i)                        the Consolidated Statements of Comprehensive Income (Loss) for the quarter ended September 30, 2013 and 2012;

 

(ii)                     the Consolidated Statements of Comprehensive Income (Loss) for the nine months ended September 30, 2013 and 2012;

 

(iii)                  the Consolidated Balance Sheets at September 30, 2013 and December 31, 2012;

 

(iv)                 the Consolidated Statements of Cash Flows for the nine months ended September 30, 2013 and 2012; and

 

(v)                    the Notes to the Consolidated Financial Statements, tagged in summary and detail.

 

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SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

ROYAL CARIBBEAN CRUISES LTD.

 

(Registrant)

 

 

 

 

 

/s/ JASON T. LIBERTY

 

 

Jason T. Liberty

 

 

Senior Vice President,

 

 

Chief Financial Officer

Date:  October 24, 2013

 

(Principal Financial Officer and duly authorized signatory)

 

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