Can Disney+ Rescue The Walt Disney Empire From Coronavirus?
Have you ever watched a movie by Marvel?
Like… Avengers? Iron Man? Captain America?
Or a movie made by Pixar?
Like… Cars, Up, Monsters, Wall-E, or Toy Story?
Marvel and Pixar were film businesses acquired by Disney under Bob Iger’s leadership.
Along with these two business acquisitions, Bob Iger also bought Lucasfilm and 20th Century Fox. These were incredible businesses. Their intellectual properties are second to none. All of us literally grew up with Disney’s characters.
With these four acquisitions, Bob Iger built Disney into a powerhouse with almost a 40% market share of the US box office.
Apart from movie making, they do have other segments which are highly complementary. For example, when Avengers attracted a large fan base, their characters could be used in Disney’s theme parks and later packaged for licensing deals with numerous third parties. It generates revenue across theme parks, movie studios, licensed merchandise, music albums, television networks, etc.
Before we move on any further, I will explain what Disney’s business segments are, and how it affects Revenue and Operating Profit Contribution.
Revenue Contribution (The Four Segments of Disney’s Empire)
Figure 1: Business Segments
(Note: My data may not be 100% accurate because I did not include the eliminations by inter-company transactions.)
I will break down for you how each of these segments affect Disney’s revenue:
Parks, Experiences
This is the largest revenue generating segment for Disney, as they own both a cruise line and multiple theme parks. The earnings from Tokyo, Paris, Hong Kong, and America side are recognized here.
With the Covid-19 breakout, it is going to be very hard on them because people are not allowed to visit the theme parks. Click to view the news here.
Media Networks
Other than its own channel, Disney owns ABC, ESPN, National Geographic among others. ESPN in particular should be very familiar to us, as it owns NBA and NFL seasons.
As you can see from Figure 1, it is the second largest revenue generating segment for Disney. This means that Disney would take a big hit if football season (showed on ESPN) is cancelled.
Studio Entertainment
In 2019, movies such as Avengers, The Lion King, Toy Story 4 and Captain Marvel performed well. Even with the line-up prepared for 2020, I am not sure whether the segment would see strong performance because the production of Disney’s movies are being pushed back and movie theaters are closed. Despite the possibility that there may be a decline in the amount of Covid-19 cases later in the year, I am not sure people would flock back to theaters as there might be the psychology of wanting to be safe rather than sorry.
As you can see here, even AMC, the biggest movie theater company in America has requested for financial aid from the government. This shows that the movie business in America is really suffering.
Direct-to-Consumer
For those unaware of this new segment, Disney+ is essentially the Netflix for Disney productions.
This slide is taken from Disney’s Investor Day – Page 202.
I believe that Covid-19 will not be a big issue for the company because it is a streaming service. In fact, with the increasing number of cases and a long quarantine period imposed on citizens, I expect that more people would subscribe for streaming services.
In addition, although as of now Disney+ is newly launched only in a few countries, it has 28.6M subscribers already. Looking at the slide above, we know that Disney+ is still loss making. However, with more subscribers, it will accelerate the profitability timeline for Disney+. Also, apart from Disney+, they also own ESPN+, Hotstar and Hulu. If you are a Disney shareholder, this news would be reassuring to you.
Operating Profit Contribution
This was the overall picture for Disney for their financial year 2019. You could see that media studios (ESPN, etc) and Parks are very important pieces to the overall empire.
Since media networks and parks segments are highly profitable, they contribute to the group’s operating profits heavily.
Unfortunately, they happened to be two segments which are currently badly hit during this Covid-19 situation. To me, these are very high risks because Disney is still paying their employees in those segments while earning zero revenues.
Should Covid-19 persist for a long time, the damages could be financially painful for Walt Disney and its shareholders. Whether Covid-19 would go away or not, it is a question that no one has an accurate answer.
If you want to invest in Disney right now, I would see it as a bet that Covid-19 would disappear by June.
Guidance from Management
The guidance given from the Management also seem to indicate that the business is badly affected by the Covid-19 situation and that there is a lot of uncertainty over when they can resume parts of their business operations.
The Walt Disney’s Valuations
Legend: Blue line = Share price, Green line = P/E ratio
Source: Capital IQ
Using data from Capital IQ, the lowest P/E ratio back in 2008/09 for Disney was roughly 8-9x. From this, you may think that we should pay 8-9x earnings for Disney right now.
Why I do not think 8-9x earnings may not be relevant? Back then, there was true fear in the stock market and people were terrified. For Covid-19, it is not an economy issue, it is a healthcare issue that is preventing people from spending money.
Today, we are in the Covid-19 situation. This impacted Disney on every level except for their Disney+ service. Currently, the price to diluted earnings (P/E) ratio was around 17x and closed at US$96.6 on 31 March 2020. From there we can imply that investors are not predicting a doomsday scenario. Rather, they are expecting a short interruption in Disney’s earnings.
To that effect, Disney’s executive chairman (Bob Iger) decided to forgo his salary while other top executives took pay cuts.
Next, how would we decide how much to pay for a Disney share? There are 2 things that we need:
- Earnings per share
- A reasonable P/E ratio
Gurufocus puts the trailing twelve months of Disney’s Earnings Per Share (EPS) at USD $5.92.
While we can never predict how affected Disney will be, we can do a rough estimate and see if Disney is still considered undervalued. One should estimate a decline of 20% of EPS conservatively and I believe Disney deserves a P/E ratio of 15x.
The math goes like this… USD $5.92 * 0.8 * 15 = US $71.04.
As of December 2019, Disney had $41.24B of net debt against equity of $94.78B. The net debt over equity is around 43.5%. It is a bit high but not extremely worrying.
Currently, Disney does not shout to me as a screaming buy, but it is certainly in the watch lists of my friends. I just think Disney is an incredible powerhouse. Despite its size, it had navigated the limitations of their size to seek for new areas of growth. They may still continue to grow for the foreseeable future.
You may want to keep a lookout for Disney’s share price!
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