Most analysts expect the second half of the year to be quite strong as the economy gradually returns to normal. The biggest beneficiary will be the travel and tourism sector which has been offline for much of the past 15 months. Companies in these sectors will certainly benefit from pent-up demand over the next few quarters which should lead to higher revenues and more pricing power.
However, these companies do face a notable challenge. In order to meet this demand, they will need to aggressively hire workers which is proving to be difficult for many businesses especially without meaningfully raising wages. Many workers left the industry to pursue work in other sectors which were hiring over the last year. Many older workers seem to have permanently left the workforce.
Most likely, these companies will have to significantly raise wages and offer additional benefits to attract workers. This will inevitably eat into margins. I don’t expect this to matter in the near term given the surge in demand, but I do think on a longer-term basis, it will lead to lower multiples. Of course, the same circumstances are playing out with other costs such as food and energy. Therefore, investors should be wary of the following stocks: Shake Shack (SHAK), Carnival Cruises (CCL), and Hyatt Hotels (H).
Shake Shack (SHAK)
Shake Shack is one of the most popular and fastest-growing restaurant brands in the country. The company was founded by famous restaurateur Danny Meyer with a single location in NYC. Its simple menu of burgers and milkshakes resulted in a cult following that led to long lines. Today, the company has over 300 locations with aggressive expansion plans.
Therefore, it’s clear that Shake Shack is going to have to hire aggressively to meet this demand. Further, the company is known for already offering its workers above-average wages and better benefits than most eating establishments.
Shake Shack is currently priced like a growth stock given that its market cap is $4 billion with only $535 million in sales. Therefore, if the company’s costs are going to increase, then it will negatively impact future projections of cash flow which should lead to lower multiples.
The POWR Ratings are also bearish on SHAK as it has a D rating which translates to a Sell. D-rated stocks have posted an average annual return of -2.3% which compares unfavorably to the S&P 500’s 7.1% annual return.
The POWR Ratings also evaluates stocks by various components. It’s not surprising that SHAK has a Value grade of D given its steep multiples especially when most restaurant stocks have low multiples. Further, the gourmet burger concept is increasing in popularity as fast-food restaurants are introducing their own versions, while there are several startups and private companies also competing in the space.
Carnival Cruises (CCL)
CCL is one of the world’s leading cruise ship operators and has routes all around the world. Of course, the coronavirus has put their business on hold due to health concerns. Further, the company may have increased costs due to higher hygeine standards and limits on the number of people on the boat. While, there are signs of strong bookings among cruise loyalists in the near term, many might be dissuaded from taking cruises due to the potential for outbreaks.
Like many travel and tourism stocks, CCL has had an impressive recovery off the lows. However, it’s even more impressive when you look at the company’s enterprise value as it’s higher than it was before the coronavirus. This is because the company has had to take on significant debt to get through the crisis.
So, higher interest rate payments are certainly a cost that will erode EPS. Operating cruise ships is quite expensive, and the company is likely to face higher food, labor, and energy prices as well. For these reasons, CCL’s multiples should be lower than before the coronavirus.
The POWR Ratings agrees with this assessment as shares are rated an F which translates to a Strong Sell. F-rated stocks have an average annual performance of -19.4%, while the S&P 500 has an average annual return of 7.1%. CCL also has an F for Industry Grade as all cruise companies are facing similar challenges.
Hyatt Hotels (H)
H is one of the largest hotel companies in the world with over 1,000 properties around the world. It’s another stock that has made an impressive recovery. Recently, it has stalled just under its pre-coronavirus highs. Certainly, its short-term momentum could take it past these levels.
But, I think once this short-term bump fades, the company is going to face challenges in terms of hiring and retaining workers. Ultimately, it will lead to higher costs that will erode margins. Over the last 35 years, one inexorable trend has been capital taking a greater share of gains than labor. In part, it was due to trends like technology, unions losing bargaining power, and the financialization of the economy.
However, these trends are reversing. Based on the last time that workers’ wages significantly rose, we might see companies struggle to increase profitability. And, I believe hotel companies will be particularly liable as they are reliant on low-cost labor to run and operate their hotels.
The POWR Ratings is also negative on H as it has a D rating, translating to a Sell. The POWR Ratings also evaluates stocks by various components, and H has poor grades across the board including Ds for Growth, Value, Sentiment, Stability, and Quality. To see more of H’s POWR Ratings, click here.
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CCL shares were trading at $28.22 per share on Friday morning, down $0.20 (-0.70%). Year-to-date, CCL has gained 30.29%, versus a 11.71% rise in the benchmark S&P 500 index during the same period.
About the Author: Jaimini Desai
Jaimini Desai has been a financial writer and reporter for nearly a decade. His goal is to help readers identify risks and opportunities in the markets. He is the Chief Growth Strategist for StockNews.com and the editor of POWR Growth newsletter. Learn more about Jaimini’s background, along with links to his most recent articles.
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