Disney And The Power Of Pricing Power

Jun. 4.12 | About: The Walt (DIS)

What defines a brand? Why are brands valuable? Brands are valuable because they allow you to sell something at a higher price and margin, and still keep the customers. Brands give you pricing power, something which companies selling fungible commodities don't have. A company selling a fungible commodity raises prices, and customers flock to the next door, where a competitor selling the same commodity is practicing a lower price.

People don't shift from Coca-Cola (NYSE:KO) to Pepsi (NYSE:PEP) if Coke's prices are a few cents higher. That's pricing power (and oddly enough, even Pepsi displays such power, when facing store brands). That's a valuable brand - something Warren Buffett has known for quite a while. A brand builds a moat. A moat keeps the competitors away from your juicy margins.

It is in this context that the news today, that Disney (NYSE:DIS) is increasing the prices on its theme parks, comes. These price increases won't drive customers away. Customers won't go comparing how much it costs to go to the other theme parks and suddenly switch because Disney increased prices. And that's what makes the Disney brand valuable. It clearly has pricing power. So its margins are, for the most part, defensible.

How does Disney stack up?

Once you've established that there is a fundamental moat to at least part of Disney's business (and arguably its Pixar movies share the same characteristic), you can then proceed towards looking at Disney's numbers. How do they stack up? Are they attractive?

Looking at Disney's EV/EBITDA, it comes in at 9.2. Not incredibly cheap on an absolute basis, but still within the range of "cheap" on an historical relative basis. You've rarely been able to get Disney this cheap, and it's raising prices. That's a reasonable combination. Looking at ROE, it stands at 12.9%. Again not extraordinary but climbing steadily. Disney trades at around 2 times book value, and carries a large book value, which might explain the mundane ROE.

DIS EV / EBITDA ChartClick to enlarge

DIS EV / EBITDA data by YCharts

Something else that makes Disney a bit less safe than other high-quality names is its dividend yield. This comes in at just 1.3%. Together with the price increase I wouldn't be surprised to see a dividend increase in short order. But still, it's a unattractive yield in a market chock-full of 2 and 3% high-quality yielders.

DIS Price / Book Value ChartClick to enlarge

DIS Price / Book Value data by YCharts

Conclusion

By being able to raise prices and predictably not losing customers to this action, Disney proves the value of its franchise and lays the law of its resulting pricing power. Disney thus makes it into the select group of high quality names that should be the backbone of a diversified long term investment portfolio. Its low dividend yield however is a potential risk, giving it less support on market downturns.

Weighting everything, I'd say Disney is a buy on dips, to make part of a long term portfolio. I'd like to see a higher dividend, though.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in DIS over the next 72 hours.