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Announcement on 05 December, 2024
Executing On Cost Savings And A Return To Quality Content Is Driving Investor Enthusiasm
- Disney is slowly growing its core experience segment, but surprised on the upside with growth in entertainment.
- The titles Inside Out 2 and Deadpool & Wolverine, as well as results from Disney’s cost-cutting efforts drove the rise in profitability.
- The company is setting out to post double-digit adj. EPS growth in the next 3 years, signaling a return to the double-digit profitability margins it had in the previous decade.
- I am maintaining my forward value of $279B or $152 per share, and a present value of $104 per share.
Disney reported Q4 revenues of $22.6B up by 6.6%, and full-year revenues of $91.4B, up 2.8%. This is an improvement in the right direction but somewhat shy of my 4.3% CAGR estimate. Experiences drove the bulk of the annual growth, which was up 5% annually.
In the entertainment segment, annual direct-to-consumer (DTC) revenues grew 15% to $22.8B. The rise in DTC revenues is mostly due to an increase in Disney+ subscriptions that reached 56M subscribers domestically, up 20% YoY, and 66.7M subscribers internationally - flat YoY. The company is reinvigorating its content approach and has released some popular titles like "Inside Out 2", Deadpool & Wolverine, as well as Emmy awarded shows like "Shogun", and "The Bear".
The Numbers: Box Office Performance For Disney Movies In 2024
In my view, the success of the top two titles that contributed to Disney's $4B box office gross is due to engaging a quality-starved audience. Investors seemed to react positively to the earnings report, and are likely switching the pricing from considering the company as a hard-asset parks business to acknowledging a viable income from entertainment as well.
In 2024 total Disney+ subscribers reached 122.7M, while total Hulu subscribers reached 52M. Linear networks and content licenses decreased by 9% and 15% respectively.
Disney’s theme park segment (experiences) is keeping up performance and grew 5% to $34.1B.
Disney: Q4 and FY 2024 Earnings Results Table
On an aggregate basis, it seems that the largest contribution to operating profits was the Q4 entertainment segment driven by the successful efforts to make Disney+ profitable (p. 5), and the results from content sales.
Putting Management’s Guidance Into Perspective
In my original narrative I assumed that investors are mostly pricing-in the experience/parks segment in the stock, and had little faith that Disney will choose to produce quality content. After the activist issues and considerable market pressure, it seems that the company is improving its content strategy, which can be seen in their forecasted improvements in the bottom line, CFO commentary, and the markets renewed optimism for the company's success.
The combination of improved content and cost-cutting efforts in the past year seems to be starting to pay off for Disney. Management now forecasts single-digit adjusted EPS growth for 2025, and double-digit growth for the two years after that.
Disney's adjusted EPS tends to be variable as it includes restructuring charges, TFCT & Hulu adjustments, and some other minor items. In order to get a sense how this may translate to income I'm going to assume that adj. EPS converges from 55% of GaaP EPS in 2024 to 80% of GaaP EPS reflecting cleaning up some of the adjustments but leaving room for future changes. With this in-mind, by applying management’s forecasts using a subjective midpoint of 9%, 13%, and 13% for the following three fiscal years, I get adjusted EPS midpoints of $5.4, $6.1, $6.9 respectively.
By 2027, using my 80% conversion rate, the ajd. EPS would translate into a GaaP EPS of $5.5 or a 2027 net income of around $10B assuming 1.8B diluted shares. This estimate is close to my net income forecasts of $9.7B, which is why I think that the company is largely performing within my narrative expectations.
Valuation Implications
Despite revenues coming shy of my estimates, I am maintaining my 2029 revenue target for Disney at $113B. I expect the company to gradually improve profitability and progress towards my estimated $13.5B in net income for 2029.
I am retaining my estimated 2029 forward value of $279B or $164 per share. Using a 7.9% discount rate, the present value comes up to $112 per share.
Key Takeaways
- Disney will transform to a tourism-centered company focusing on parks and resorts, a space lacking any serious competition.
- I expect sales to grow 4.3% over the next 5 years, primarily driven by Parks.
- Streaming business will struggle to produce profits, despite over 200 million subscribers.
- Post-transformation, Disney will revert to a stable company with 18% operating margins and $13B profits in 2028.
Catalysts
Disney Reorganizing Around Parks Is The Right Move For The Long-Term
Disney is undergoing a restructuring plan and recorded a $2.44B charge related to the removal of content to their direct to consumer service, cutting of 3rd party licenses, and $210M in severance fees.
The goal is to reorganize the business, cut $5.5B in costs, and terminate 7000 jobs. The new business consists of Entertainment (streaming), ESPN, and Parks. The new structure will be reported in the annual 2023 report, and while expensive in the short term, these changes should see margins improve.
Investing $60bn In A 29% Operating Profit Segment Should Transform Company Wide Margins
Disney plans to double its investment in its Parks segment over the next 10 years, from $30 billion to $60 billion. This investment will focus on expanding domestic and international parks, and cruise lines.
Disney's Parks business is a key value driver, and the company sees significant room for further expansion. Disney has over 1,000 acres of land for possible development to expand theme park space across its existing sites, and it is also planning to add three new cruise ships over the next two years.
The transformation is underway as the company is reporting sales growth by 13% YoY, primarily driven by the Shanghai and Hong Kong Disney resorts.
Disney Presentation: Parks Fundamental Performance
Disney also has the largest physical footprint of any global theme park travel business, with 12 parks across six sites around the world. Finally, Disney has seven of the top ten most attended theme parks in the world, and it is looking to reach more of its existing fans and create new fans.
Disney Presentation: Park Locations
Disney is in a unique position to capitalize on its physical assets as key peers compete-out streaming profits. While Disney is having difficulties producing returns on its digital assets, the company is close to a monopoly for its experiences and has a strong value proposition for parents wanting to give their kids quality time.
Streaming Will Have Challenges Providing Value Due To High Levels Of Competition
In Q3’23 streaming revenues increased by 9% to $5.5B and operating loss decreased from $-1.1B to $-0.5B. The segment will likely break even by the end of 2024, but is far from the anticipated performance when Disney+ launched in 2019. Streaming is set in a highly competitive space with Netflix, Warner Bros, Amazon Prime, etc. However, despite gaining 219.6 million subscribers, 105.7 million ex. Hotstar, the company is having difficulties producing a profit.
Disney Press Release: Number of Paid Subscribers
Disney is increasing the pricing of their ad-free tier by October and will crack-down on password sharing. This may provide a one-time benefit but reduce the potential for subscriber growth.
Assumptions
Strategizing Around Parks Will Help Disney Retain Market Leadership
I estimate that Disney will undergo a change in trajectory, maintaining a positive present value on its entertainment segment, somewhat capitalizing on ESPN, and converting Parks to a key profit center. The company has substantial competition in media both from streaming and alternative media platforms like YouTube. This is prompting Disney to focus on its Parks where it holds market leadership for the parents of young children, who feel compelled to take their kids at least once to a Disney park.
Revenue From Parks Will Almost Double Over The Next Five Years
I see Disney growing by 4.3% on average, and may have turbulent revenues until the new business model settles around $110B in sales in 2028. I estimate Parks to make up most of the future revenues and grow by 90% from $32B to $61B, this includes my assumption that Parks reach 90%+ occupancy levels within the next 5 years and that demand for Disney Cruises stays strong, continuing at the 98% booking rate we see now. The remaining revenue sources consist of ESPN with $30B, and Entertainment with $19B in five years.
Cost Cutting Measures And A Focus On Parks Will Give An Uplift To Operating profit
I assume that Disney will retain a high 25% operating margin for Parks, while the combined operating margin will be 18% due to cost cutting efforts in the Entertainment segment. This yields an operating profit of $20B in five years.
Disney’s Choice To Focus On Hard Assets Like Parks Will Improve Earnings Stability And Reduce Risks
Disney will revert to a stable company and derive revenues from hard assets like parks, resorts and cruises. This will result in a lower required return of around 8%. Simply Wall St’s current discount rate is 7.9% (3rd October), which I think is fair, so I’ll use that.
Disney Will Not Need To Reinvest As Much To Drive Growth, Improving The Bottom Line
As a stable company, Disney will have to reinvest a lower portion of its operating profit into driving growth (10%), along with a 25% tax rate, I estimate that the company will convert 65% of the operating profits to net profit, resulting in $13B in 2028.
Disney’s Earnings Multiple Will Converge At A Point Between The Hotel Industry And The Entertainment Industry
I assume that Disney will converge on a 20.6x PE ratio based on a weighted average for the Hotel & Resorts industry (55% x 21.4 median PE), and the Entertainment industry (45% x 19.5x median).
Risks
A Focus On Tourism Could See Performance Become Cyclical And Sensitive To Economic Downturns
While I assume stabilization from pivoting to Parks, Disney may be trading one set of risks for another as the tourism industry is cyclical and subject to a number of risks, such as economic downturns.
Competition Looms From Other Large Theme Park Operators
Disney is also facing increasing competition from other theme park operators, such as Universal Studios and Six Flags.
Pivoting Away From Entertainment Could Be Risky As It May Be A Transformative And Innovative Industry
The entertainment & media industry may transform faster than I anticipate, with distributed networks, creator marketplaces and smaller studios being able to leverage novel (possibly AI) technology to create content.
How well do narratives help inform your perspective?
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