- We are fans of The Walt Disney Company and view the entertainment giant's capital appreciation upside potential quite favorably.
- The high end of our fair value estimate range for Disney sits at $216 per share under our bull case scenario.
- Disney's video streaming services business is growing like a weed at a time when its theme parks and resorts operations are staging an impressive recovery.
- The stock's recent technical action hasn't been great, but we think the market is overreacting to some growth hiccups in its streaming operations.
- Disney may be most attractive as a long-term idea. It's simply difficult to argue that the company is not a fantastic franchise.
By Valuentum Analysts
The coronavirus ('COVID-19') pandemic hit The Walt Disney Company (NYSE:DIS) quite hard. Disney suspended its dividend in the wake of the COVID-19 pandemic in May 2020. However, things are starting to look up for Disney as its theme parks and resorts operations are bouncing back at a robust pace while activities involving the production of TV shows and movies are recovering to more normalized levels at a time when its various video streaming services (such as Disney+, Hulu, and ESPN+) are growing like a weed. Disney is one of our favorite capital appreciation ideas.
Under our "bull" case scenario, we value Disney at $216 per share through our discounted free cash flow analysis process (defining traditional free cash flow as net operating cash flows less capital expenditures and enterprise free cash flow as earnings before interest less net new investment). In short, we forecast Disney's free cash flows out into perpetuity and discount those free cash flows at the appropriate rate while also taking its balance sheet considerations into account to arrive at our fair value estimate and to generate our fair value estimate range (with $216 per share of Disney representing the top end of that range).
Image Shown: Disney has historically been a strong free cash flow generator.
Disney is a diversified entertainment company with two main business operating segments after a corporate restructuring that was announced in October 2020: 'Disney Media and Entertainment Distribution' and 'Disney Parks, Experiences and Products.' Video streaming services are now a core part of Disney's business model, supported by its well-known brand. It was founded in 1923 and is headquartered in California. For reference, Disney's fiscal year has historically ended in late-September or early-October.
By the end of fiscal 2024, Disney aims to have around 300-350 million paid subscribers across its Disney+ (including Disney+ Hotstar), EPSN+, and Hulu video streaming services. This guidance was released during its big December 2020 investor day event, and was made in conjunction with Disney committing to invest heavily towards original content to support its growth efforts on this front. Disney also operates its Star video streaming service.
Image Shown: Disney aims to aggressively grow its video streaming subscriber base over the coming fiscal years. Image Source: Disney - December 2020 Investor Day Presentation
At the end of fiscal 2021 (period ended October 2, 2021), Disney+ had 118.1 million paid subscribers, ESPN+ had 17.1 million paid subscribers, and Hulu had 43.8 million paid subscribers (including 4.0 million paid subscribers to its Live TV and streaming video on demand offerings). That represents enormous growth over the figures Disney had at the end of the second quarter of fiscal 2020 (period ended March 28, 2020) during the early days of the pandemic.
Back on March 28, 2020, Disney+ had 33.5 million paid subscribers, ESPN+ had 7.9 million paid subscribers, and Hulu had 32.1 million paid subscribers (including 3.3 million paid subscribers to its Live TV and streaming video on demand offerings). Bundling its video streaming services together, investing heavily in original content, and expanding into overseas markets represents some of the key initiatives that enabled Disney to put up such stellar performance on this front.
Strong performance at Disney's video streaming services offset some of the headwinds created by COVID-19, which hit its 'Parks, Experiences and Products' segment particularly hard. With COVID-19 vaccine distribution efforts now well underway, the eventual reopening of the economy should help Disney get this segment back on track. In the fourth quarter of fiscal 2021, Disney's Disney Parks, Experiences and Products segment posted 99% year-over-year revenue growth and its segment-level operating income flipped to an operating profit during this period (as compared to a loss in the final quarter of fiscal 2020). The company's Disney Media and Entertainment Distribution segment posted 9% year-over-year revenue growth in the fourth quarter of fiscal 2021, though major investments in original content saw the segment-level operating profit of this unit shift lower by 39% year-over-year.
Disney acquired 21st Century Fox for ~$71 billion in cash and stock in March 2019 after 21st Century was spun off from Fox. Disney now owns Fox's film and TV studio, along with FX and National Geographic networks, highlighting the expansive nature of Disney's content library. This deal also gave Disney a majority stake in Hulu. Currently, Disney owns ~67% of Hulu's equity and Comcast Corporation (CMCSA) owns the remainder, though by January 2024, Disney could compel Comcast to sell that stake or Comcast can compel Disney to buy that stake through an existing put/call agreement.
The need to retain funds to cover such a purchase (of the remaining Hulu stake Disney does not already own) is likely why Disney will not reinstate its dividend for some time, in our view. At the end of fiscal 2021, Disney had $16.0 billion in cash and cash equivalents on hand (excluding long-term 'investments' line-item from this figure) versus $5.9 billion in short-term debt and $48.5 billion in long-term debt, equal to a net debt position of ~$38.4 billion. Disney needs to rebuild its financial strength, which took a beating from the COVID-19 pandemic, to fund its probable purchase of Comcast's stake in Hulu's equity in a few years' time.
We think Disney is worth $176 per share (under our "base" case scenario) with a fair value range of $136 - $216 (the lower rung represents our "bear" case scenario and the upper rung represents our "bull" case scenario). The near-term operating forecasts used within our enterprise cash flow model, including revenue and earnings forecasts, do not differ much from consensus estimates or management guidance. We highlight the key valuation assumptions used under our base case scenario within our enterprise cash flow models in the upcoming graphics down below. Please read our book Value Trap to learn more about our discounted free cash flow analysis process. While Disney generated "just" $2.0 billion in free cash flow in fiscal 2021, please note that we forecast the company's free cash flow generating abilities to rebound at a robust pace going forward.
Image Shown: A breakdown of how we calculated Disney's estimated WACC. Image Source: Valuentum
Our discounted cash flow process values each firm on the basis of the present value of all future free cash flows. Every company has a range of probable fair values that's created by the uncertainty of key valuation drivers (like future revenue or earnings, for example). After all, if the future were known with certainty, we wouldn't see much volatility in the markets as stocks would trade precisely at their known fair values.
In the upcoming graphic down below, we show this probable range of fair values for Disney. We think the firm is very attractive below $136 per share (the green line), but quite expensive above $216 per share (the red line). The prices that fall along the yellow line, which includes our fair value estimate, represent a reasonable valuation for the firm, in our opinion. At ~$155 each at the time of this writing, there's a lot more upside potential than downside risk at Disney, in our view.
Image Shown: The top end of our fair value estimate range sits at $216 per share of Disney under our bull case scenario. Image Source: Valuentum
Image: Shares of Disney have been under pressure of late due to concerns about the pace of its streaming business growth, but we think the market has overreacted.
We are fans of Disney. Due to the enormous sums Disney is investing in original content for its video streaming services, the company does not expect this part of its business to breakeven until around fiscal 2023 at the earliest (with robust profitability beginning in fiscal 2024 or a bit later). That said, as Disney's paying video streaming subscriber base continues to grow like a weed while growth in its original content spend eventually moderates, this unit should become another cash flow cow for the company. Combined with the ongoing recovery at its theme parks and resorts business as the global economy slowly puts the worst of the COVID-19 pandemic behind it, Disney's growth outlook is quite bright. We see Disney housing ample capital appreciation upside potential going forward.
This article was written by
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Callum Turcan does not own shares in any of the securities mentioned above. Ratings and data as of January 3. The Walt Disney Company (DIS) is included as an idea in Valuentum's simulated Best Ideas Newsletter portfolio. For updates, please visit us at www.valuentum.com. This article is for information purposes only and should not be considered a solicitation to buy or sell any security. Neither Valuentum nor any of its affiliates own any securities mentioned in this article. Contact Valuentum for more information about its editorial policies.
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