Growth Stocks: Walt Disney

Although it will be one of the last companies to present its results, on August 8, The Walt Disney Company (DIS.US) remains in the focus of our interest because it continues to advance in the broadcasting business to capture new market niches. and consolidate your quota. It recently announced that one of its main affiliates, ESPN, would be considering the broadcast route for the future. And this actually makes a lot of sense, since streaming seems to be the way "all" audiovisual content will be directed.

So ESPN can join the crowd, too. If the streaming business is going to be the route to deliver content, then today's competition can expect many other companies to join an already diverse crowd. Will it end up marking a collapse trend? We'll see. But for now, those that are will need an edge to stay and Disney will likely have that edge to survive and thrive.

It seems that Disney has started to set things in motion in that direction. In fact, Disney is likely to kick things off in every possible direction (and then pick the most profitable businesses).

It is also likely that traditional television networks and groups will turn to streaming, since they are already doing it through video platforms where content can be watched free-to-air or exclusively to guess, that's the way it is with subscriptions. Now, it remains to be seen if they survive with a cable-like package or go it alone. But there's really no logical reason to assume that part of the industry will disappear when a switch to streaming becomes available, because they will need to transition to survive.

But if this happens, there will be much more available in the streaming market than anyone can now imagine. Technology keeps advancing, so it wouldn't be too far-fetched to predict a wireless future for many things that now require wires.

As a result, ESPN is likely to become a very valuable part of Disney. Well, it offers Disney an opportunity to participate in a part of the entertainment that is very different from the rest of the company's content. It is the only part of this family "mouse" that is not an important part of the division (even this mouse is not a necessary part of the success or failure of the business). As such, it could prove to be a very valuable diversification if its executives can "make it work" in the future. The failure of this division to be so different is also an investment risk.

Quarterly Evolution

The company is still reeling from the shutdown in fiscal 2020. The challenges of the coronavirus are still in that “fade away” process. Companies like this just don't pick up right away. They take time to go back to operating as before because they have fixed costs that their competitors do not have, simply because of their parks division.

Probably the biggest impact on the quarterly comparison was the early termination of a content license. This change in strategy effectively changed the way Disney delivers its content. No future quarter would benefit from what was previously income.
But more importantly, Disney intends to deliver its material itself through whatever divisions, including streaming, exist. Licensing to others will be restricted, if at all.

Despite the early termination of a content license, cash flow provided from operations (GAAP) improved markedly from the prior fiscal year. This continues the company's recovery from the covid shutdown.

Similarly, despite increased investment in various projects, free cash flow similarly improved in the six-month period from the prior period. This company frequently reports a strong second half when it comes to cash flow. So the outlook for the fiscal year right now looks particularly good.

Disney operating income by business segment (Disney, Q2 2023, results press release)

The Lineal Networks division continued the downward trend. But this quarter, the trend was compounded by a weak ad market and some timing issues. Therefore, the next quarter could show a "bounce" that will not change the general direction, but could provide a better comparison of what the market expects.

Probably the biggest market disappointment was the Direct-to-Consumer results shown above. The comparison turned out to be positive, as it happened with some competitors. But the progress was obviously not what the market expected. Since results like that are based on decisions made at least a year in advance, this could be one of the unstated elements that led to the change in Disney's CEO.

Another problem seems to be the focus on the movies. The market seems to expect every movie to be a blockbuster. Disney has had bombs in the past, as have every other movie producer in the business. What Disney has above the competition is more blockbusters. It remains to be seen how this year turns out since some recent blockbusters such as "The Little Mermaid" have been a failure and perhaps they can recover the investment in their recent addition to the Disney+ offer. But so far, the first two "Wakanda Forever" movies and the "Avatar" movie seem to set up the year 2023 to be better than the year before.

There will always be ways to improve on what actually happened. Hindsight will always be 2020. But this fiscal year for movies is turning out decently, despite some market concerns. What you probably don't notice is that just improving cash flow as the release schedule normalizes could well overwhelm investors, that's unlikely to happen now or in the future. Investors facing the challenges of 2023 will have to settle for proper management to consolidate the results and improve what can be improved in the future.

Disney Summary of Streaming Subscriber Results (Disney Q2 2023 Earnings Press Release)

Almost any time an investor sees a significant increase in average revenue per paying subscriber (top second table), like the one shown above, that same investor is likely to expect a lull in subscriber growth (top first table). . Still, the market has never been very patient with pauses in growth for whatever reason. Despite the rather small size of this division, it often has an outsized effect on how the results are received by the market.

What must be understood is that Disney is much more than this business unit. So if this division is not working, Disney can acquire one that is working (one way or another) and allow the acquired division to be the solution.

But more importantly, the streaming arena is a highly fractured area where no competitor has a large market share. As we can see in the graph below (US data at the end of the first quarter of 2023). That usually means there's plenty of time to "make things better and fix problems" and post investor-friendly results. Disney has a decent number of subscribers and many franchises with exclusive content. So, despite some market misgivings, the whole situation is likely to turn out to be something the market likes in the future.

Market share in the US at the end of the first quarter of 2023. Source: JustWatch

Although this percentage is not exact in global terms, because the presence of these services is not equivalent in other countries, the sample on the United States market is a reference. At present, after these latest data, Disney is the third platform by market share, that is, by number of users. However, when taking into account the price, and the new segmentation of what was until recently the leader Netflix (NFLX.US), it is the company that bills the most.

That the Amazon (AMZN.US) Prime Video platform has the most share is due, as we well know, to the fact that its subscription includes a spectrum of superior services for the main internet sales company, which only has an annual fee.
overall progress

The parks are basically back to normal and the cruise ships are operating. The movie business continues to grow this year, with more releases scheduled than in the previous fiscal year.

The good thing about more movies is that there will be more revenue to offset the movies being made for future revenue. During the ramp-up (after lockdown), there was an initial outlay of cash needed to make movies before they could be shown. So, there were costs without revenue. The future will be more like the past than the immediate past.

Similarly, the parks and cruises will operate as before the covid challenges appeared.

Management seems to be tackling the transmission losses, even if the progress was somewhat less than desirable for the market. For me growth is not as important (in the future) as profit is. So expect Disney to focus on streaming profits now (and worry about growth later). The streaming business is decently sized, so this new emphasis can probably be handled before growth resumes.

Disney has many franchises that many others don't. Even ESPN is well known in its field. So the integration of the acquisition from a few years ago will now resume (this probably happened more than last year). The coronavirus challenges were the worst thing that could happen right after an acquisition. It often takes twice as long to shut down an acquisition-related optimization process and then restart it as it does to run the process without interruption.

Make no mistake, the last few years have cost this company billions. But now, with many ramp-up operations due to be completed in the current fiscal year, the company may face the usual competitive challenges. This Disney executive still has a lot of work to do. But it seems to have handled the past few years better than many companies.

Price action

Although from the fundamental point of view, Disney is in a consolidation process to compensate for the lower business of parks. From the technical level and with respect to its streaming peers, it is in an extremely penalized position.

Chart comparison of Disney vs Netflix, Apple and Amazon. Source: xStation

The reification at the lows of 2023, where there have been practically no changes, is close to the lows of 2020 when its park activity was completely closed. For this reason, the stock market punishment from the price level is not justified compared to the fundamentals and it could be a company with great potential for revaluation.

Dario Garcia, EFA
XTB Spain