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Stocks  | January 22, 2019

Walt Disney (DIS) stock has not performed well lately, the shares have still outperformed the broader market over the last year.

Investors have been concerned about Disney's future, and rightfully so, as the company tries to position itself in a changing media environment. It was recently reported that Disney is "losing over $1 billion in streaming", which is a topic that the bears are running with. I, however, believe that this company is making necessary investments that will put it in a better position for the years ahead. Simply put, Disney shareholders should ignore the noise and focus on importance of this company getting it right in the streaming space.

When "Losing" Is The Right Thing To Do

Disney is indeed losing money while the company builds out its streaming service, but I believe that these investments are a necessary evil. Consider the following investments:

  • Invested in HULU (owns 30% interest)
  • Invested in Vice Group (owns 21% interest)
  • Invested in BAMTech (owns 75% of the company)
  • Launched ESPN+ in early 2018
  • Investing in the upcoming launch of Disney+, which is expected to be rolled out in late 2019

In my mind, these investments are the future for Disney, as I believe that a material portion of the business will eventually revolve around the company distributing its own content. With this, Disney is making changes to how it reports results to better capture how the business will be managed/run in the future. The company is combining its international media business and streaming operations into one unit, and creating a new operating unit for consumer products and Parks & Resorts. It will have the following operating units:

  1. Media Networks
  2. Parks, Experiences & Consumer Products
  3. Studio Entertainment
  4. Direct-to-Consumer & International ("DTCI")

Makes sense, right? Mr. Bob Iger, CEO, is on record for saying that the restructuring efforts will position the company "for the future, creating a more effective, global framework to serve consumers worldwide, increase growth and maximize shareholder value.”

My thoughts: this change makes a ton of sense, especially since Disney is putting great effort in positioning the company in the changing streaming landscape. Additionally, Consumer Products and Parks & Resorts seems like a logical fit.

Due to this restructure, Disney recasted its prior period results to reflect the company's new structure. Below are two excerpts from the 8-K:

Source: Exhibit 99.1

This table shows what results would have been for fiscal year ending September 29, 2018, under the new reporting structure. The DTCI segment would have had reported an operating loss of $738 million on $3.4 billion in revenue. For comparison purposes, the next table shows the recasted results for the last three fiscal years.

Source: Exhibit 99.1

The main takeaway - Disney's operating income has been steady over the last three years, with a minor dip in fiscal 2017, which is encouraging given the fact that the company is heavily investing in the future. In my opinion, Disney losing money in streaming is the right thing to do.

And let's remember that the company has other businesses that will give management the necessary time to get it right in the streaming space.

The Other Businesses Will Buy Management Some Time

On November 8, 2018, Disney reported Q4 2018 results that beat on the top and bottom lines. The company reported adjusted Q4 2018 EPS of $1.48 on revenue of $14.31 billion.

Source: Q4 2018 Earnings Presentation

For full-year 2018, Disney's top line and adjusted EPS grew by 8% and 24%, respectively. The Studio Entertainment segment was the real standout for the quarter/year.

Source: Q4 2018 Earnings Presentation

As I described in late 2015, I believe that the Studio division will buy Mr. Iger some time to get it right in the streaming space. This has played out as I originally anticipated, and looking out, I believe that investors should expect more of the same for 2019.

Source: MovieWeb

This lineup puts Disney's Studio division in a great position for 2019, which is especially important for this company as it heavily invests in streaming. Therefore, I believe that the other divisions (Studio and Parks & Resorts) will buy management some time to get it right.

Risks

Disney will be heavily investing in its streaming business, which will require a significant amount of capital. As such, a lot is riding on Mr. Iger properly positioning the company for the future. If its streaming service is a flop, I believe that DIS shares will be under significant pressure over the next five-plus years.

Moreover, the Fox acquisition is not a surefire win, so investors should closely monitor how these assets are integrated over the next two years.

Bottom Line

Disney is a buy-to-hold stock, so I believe that long-term investors should feel comfortable "parking" their money in DIS shares. The current market concerns are legitimate, but I believe this company is heading in the right direction.

I am on record for saying that the Fox acquisition is likely game-changer for Disney, so I fully expect for the stock to perform well over at least the next two years. Disney is paying a healthy dividend (recently increased by 4.8%), and the company is making the necessary investments, so my money is on Mr. Iger getting it right. As such, any pullbacks should be considered long-term buying opportunities.


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