Royal Caribbean Cruise Lines 2004 Annual Report Download - page 19

approximately $9.4 million. At December 31, 2004, we have an
interest rate swap agreement that effectively changes $25 mil-
lion of LIBOR-based floating rate debt to fixed rate debt of
4.395% beginning January 2005.
Market risk associated with our operating lease for
Brilliance of the
Seas
is the potential increase in rent expense from an increase in
sterling LIBOR rates. As of January 2005, we have effectively
changed 58% of the operating lease obligation from a floating rate
to a fixed rate obligation with a weighted-average rate of 4.81%
through a combination of interest rate swap agreements and rate
fixings with the lessor. A hypothetical one percentage point
increase in sterling LIBOR rates would increase our 2005 rent
expense by approximately $2.0 million, based on the exchange rate
at December 31, 2004, net of the effect of interest rate swaps.
CONVERTIBLE NOTES
The estimated fair values of our Liquid Yield Option™ Notes
and zero coupon convertible notes fluctuate with the price of
our common stock and at December 31, 2004 were $962.8
million and $756.8 million, respectively. A hypothetical 10%
decrease or increase in our December 31, 2004 common
stock price would decrease or increase the value of our Liquid
Yield Option™ Notes and zerocoupon convertible notes by
approximately $96.1 million and $74.3 million, respectively.
FOREIGN CURRENCY EXCHANGE RATE RISK
Our primary exposure to foreign currency exchange rate risk
relates to our firm commitments under ship construction con-
tracts (including a ship lengthening contract), denominated in
euros. We entered into euro denominated forward contracts to
manage this risk. The estimated fair value of such eurodenomi-
nated forward contracts at December 31, 2004, was a net unre-
alized gain of approximately $110.9 million, based on quoted mar-
ket prices for equivalent instruments with the same remaining
maturities. These eurodenominated forwardcontracts mature
through 2007. At December 31, 2004, approximately 26% of the
cost of the ship construction contracts was exposed to fluctua-
tions in the euro exchange rate. A hypothetical 10% strengthen-
ing of the euroas of December 31, 2004, assuming no changes
in comparative interest rates, would result in a $140.6 million
increase in the United States dollar value of the foreign currency
denominated ship construction contracts. This increase would be
partially offset by an increase in the fair value of our eurodenom-
inated forward contracts of approximately $104.3 million.
We are also exposed to foreign currency exchange rate fluctua-
tions on the United States dollar value of our foreign currency
denominated forecasted transactions. To manage this exposure,
we take advantage of any natural offsets of our foreign currency
revenues and expenses and enter into foreign currency forward
contracts and/or option contracts for a portion of the remaining
exposure related to these forecasted transactions. Our principal
net foreign currency exposure relates to the euro, the Norwegian
kroner, British pound sterling and the Canadian dollar. At
December 31, 2004, the estimated fair value of such contracts
was an unrealized loss of approximately $6.0 million based on
quoted market prices for equivalent instruments with the same
remaining maturities. A hypothetical 10% strengthening of the
principal foreign currencies as of December 31, 2004, assuming
no changes in comparative interest rates, would result in a $5.8
million increase in the United States dollar value of the 2005 for-
eign currency denominated forecasted transactions. This increase
would be offset by a decrease in the fair value of our 2005 foreign
currency forward contracts of approximately $6.4 million.
FUEL PRICE RISK
Our exposure to market risk for changes in fuel prices relates to the
consumption of fuel on our ships. Fuel cost, as a percentage of our
total revenues, was approximately 5.5% in 2004, 5.2% in 2003 and
4.5% in 2002. Historically, we have used fuel swap agreements and
zerocost collars to mitigate the financial impact of fluctuations in
fuel prices. As of December 31, 2004, we had fuel swap agree-
ments to pay fixed prices for fuel with an aggregate notional amount
of approximately $35.4 million, maturing through 2005. The esti-
mated fair value of these contracts at December 31, 2004 was an
unrealized gain of $8.1 million. We estimate that a hypothetical 10%
increase in our weighted-average fuel price from that experienced
during the year ended December 31, 2004 would increase our
2005 fuel cost by approximately $28.2 million. This increase would
be partially offset by an increase in the fair value of our fuel swap
agreements of approximately $3.9 million.
MANAGEMENT’S REPORTON INTERNAL CONTROL
OVER FINANCIAL REPORTING
Our management is responsible for establishing and maintaining
adequate internal control over financial reporting, as such term is
defined in Exchange Act Rule 13a-15(f). Under the supervision
and with the participation of our management, including our
Chairman and Chief Executive Officer and Executive Vice
President and Chief Financial Officer, we conducted an evaluation
of the effectiveness of our internal control over financial reporting
based on the framework in
Internal Control-Integrated Framework
issued by the Committee of Sponsoring Organizations of the
Treadway Commission. Based on our evaluation under the frame-
work in Internal Control-Integrated Framework ,our management
concluded that our internal control over financial reporting was
effective as of December 31, 2004. Our management’s assess-
ment of the effectiveness of our internal control over financial
reporting as of December 31, 2004 has been audited by
PricewaterhouseCoopers LLP, an independent registered public
accounting firm, as stated in their reportwhich is included herein.
ROYAL CARIBBEAN CRUISES LTD. 17
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)