On Tuesday, May 10, Walt Disney Co (DIS) will report its second-quarter earnings for 2016, and it’s going to be a little bit tricky. In Q1, Disney stock earnings were driven by the release of the motion picture Star Wars Awakens, while Q3 earnings will almost certainly be driven by the debut of the Disneyland theme park in Shanghai, China.
That leaves us with no “big news” either in the Parks and Resort segment or the Studio Entertainment segment. Thus we’re left to focus on the company’s media segment, which is, unfortunately, Disney stock’s Achilles’ heel.
What makes the media segment so weak?
Why ESPN Could Weigh Down Disney Earnings
ESPN sports broadcasting, which is 80% owned by DIS and the biggest subsidiary under Disney’s media segment.
At first glance, consider that the ESPN is a 24/7 sports and sport-related news network, holding broadcasting rights for the NFL, NBA, MLB and much more. Given that, it may be puzzling — especially for sport fans — that such a network is experiencing a decline in revenues and profit. In fact, according to Disney CEO Bob Iger, in the past two years, ESPN subscribers fell by 7 million. This leaves ESPN with roughly 92 million subscribers.
Back in the day, cable TV was the dominant medium for consuming content. Under cable TV, you had to purchase packages that often times included channels you were less likely to watch. But now, cable’s dominance is quickly being replaced by streaming services like Netflix and Hulu.
Subscribers can choose the exact content they want — on demand. And since not all cable subscribers are ESPN viewers, many don’t purchase ESPN content via on demand. This process creates a gap in revenues. Lost subscribers on cable TV are not subscribing to ESPN on other platforms. All the while, Disney reports that the cost of ensuring it retains broadcasting rights for the NBA and NFL leagues is now higher.
This deadly combination leaves ESPN with lower revenues and higher costs. And it leaves us, the investors, with one question to focus on: When will ESPN’s business stabilize?
Coming into Q2 Disney earnings, the focus then will be on revenues from the Disney Media Networks segment. If year-over-year revenues are flat at $5.8 billion in this segment, it will be taken as a sign of stability, and even more so if revenues are higher.
The second focus will be on operating income. Since expenses are higher than they were a year ago, it’s hard to see operating income above $1.3 billion, which is in line with the Media Networks segment’s 22% margin and a good sign of stability. If we get stability on both revenue and income, fears over ESPN will ease and the focus will be on the better-performing segments.
Disney Stock: The Big Picture
The good news is that if pressure from ESPN eases, we can focus on the big picture. And the big picture for Disney stock is pretty bright with an annualized growth rate of 19% in earnings per share for the last 5 years.
Disney could see expansion in profit margins and more importantly, showcase an impressive lineup of releases. These releases include Disneyland Shanghai, the first Disney theme park in mainland China, 1,000 acres in size with 1,220 rooms for rent.
DIS also has several new movie releases to add to its arsenal. For example, Captain America: Civil War, which was released earlier this month, is already setting records as the film with fifth-largest opening weekend. Then, the new Star Wars movie, Rogue One: A Star Wars Story, which is set to be released in December 2016, is bound to be a record breaker as well.
If investors keep all of these releases in mind, and if ESPN doesn’t weigh down DIS earnings, Disney stock could sustain its bullish run.
As of this writing, Lior Alkalay did not hold a position in any of the aforementioned securities.
