In early August 2015, Walt Disney (NYSE:DIS) stock touched an all-time high just about $120. In the three and a half years since, Disney stock hasn’t been able to return those highs. Indeed, since the beginning of 2017, DIS stock has been basically stuck, trading with limited exception between $100 and $115.
This performance has to be considered disappointing. Including dividends, and depending on timing, owners of DIS stock perhaps have scratched out some upside in recent years. But the S&P 500 has gained 33% since August 2015; without question, Disney stock has underperformed in a bull market.
At the moment, I don’t see much reason for that to change. I’ve been a skeptic toward DIS for some time, in large part due to concerns at its key ESPN unit. Those problems aren’t going anywhere, as I detailed late last year. As a result, earnings growth is likely to be minimal in the near term. And the key catalyst for Disney stock still looks to be at least two years off.
Patient investors may see DIS as worth the wait, particularly with a seemingly attractive valuation. From here, however, the next year – at least – for Disney stock is likely to look a lot like the last three.
An Almost 50/50 Split
Fiscal 2018 results highlight the core problem for Disney at the moment. Disney breaks out four reporting segments: Media Networks, Parks and Resorts, Studio Entertainment, and Consumer Products & Interactive Media. Two of those segments are growing; two are not.
In fiscal 2018 (ending September 29), the weaker segments (Media Networks and CP&IM) generated 52.6% of segment-level operating profit. Earnings at both businesses declined for a second straight year. Cable Networks margins continue to fall, driven by concerns at ESPN and to a lesser extent the Disney Channel. Lower licensing revenues continue to pressure the Consumer Products segment.
At the moment, it’s difficult to see those trends materially changing. In turn, it’s too much to ask of the studio and parks businesses to offset those pressures. Both businesses certainly are performing well, admittedly. But total segment-level operating income in fiscal 2018 was modestly below FY16 levels. And the trend continued in Q1 earnings, despite a strong beat relative to analyst consensus. Segment-level operating income declined 8% year-over-year in the quarter.
Flattish earnings simply aren’t good enough. And they are a key reason – and likely the key reason – why DIS stock hasn’t been able to break higher over the past three-plus years.
DIS Stock Looking Forward
Past performance doesn’t guarantee future results, of course. But at the moment, there’s little reason to see those trends changing. If anything, the risks appear to be mounting.
In the Media Networks space, ABC actually is performing rather well at the moment. The Cable Networks businesses are benefiting from higher per-subscriber affiliate fees (charged to cable operators like Comcast (NASDAQ:CMCSA)).
Neither tailwind is likely to last. Affiliate fee contracts will be renegotiated and ESPN’s enormous pricing power, a key driver of cord-cutting for consumers uninterested in sports, may not hold. Broadcast TV ratings are declining quickly across the board.
Meanwhile, the Consumer Products business is in multi-year decline, despite the addition of valuable properties in Star Wars and Marvel. Disney perhaps can turn around that segment – but it will take time.
In Parks & Resorts, Disney obviously has enormous strength. But any macro worries could pressure revenue and earnings, given the impressive and steady rise in ticket prices. And the studio business, as successful as it has been, could face the same worries about movie theater attendance that have hit stocks like AMC Entertainment (NYSE:AMC), which trades not far from all-time lows.
As is, Disney’s growth prospects look modest at best. That puts a ton of pressure on two key catalysts going forward.
The Catalysts for Disney Stock
Obviously, Disney has two key, and related, initiatives that could change that trajectory. The first is the pending acquisition of Twenty-First Century Fox (NASDAQ:FOX,FOXA), which adds valuable content to Disney’s portfolio. The second is the launch of Disney’s streaming service later this year.
The trends in the legacy business mean that both efforts need to be a hit. Will Healy wrote this month that Disney’s streaming service is enormous for DIS stock, and he’s right. The added content from Fox should beef up the offering and drive better competition with behemoth Netflix (NASDAQ:NFLX) and other rivals like Amazon (NASDAQ:AMZN), AT&T (NYSE:T) and Hulu (of which Disney will be a majority owner once the deal closes).
There are two concerns with the reliance on streaming, however. The first is that success isn’t guaranteed by any means. Netflix has a huge head start. Competition is going to be intense, and Disney is going to lose its traditional pricing power. Note that ESPN’s affiliate fees are over $8 per month yet it’s charging just $4.99 for ESPN+. Disney’s streaming service has to be at worst a close second to Netflix to drive profit growth and that remains a big ask.
The more immediate concern is that even success is going to take time. In the meantime, Disney earnings are likely to stay flat. Analysts see EPS of $7.05 this year down modestly from FY18 levels (even with a lower tax rate). In FY20, consensus expectations are for 2% growth.
Barring huge, immediate success with streaming, there doesn’t seem to be an upside catalyst for Disney stock on the horizon. That in turn suggests the recent range will hold at best. If near-term worries about ESPN, in particular, return, DIS stock could get even cheaper.
Longer-term, success may come. But it’s going to take some time. While investors wait, DIS stock could again underperform.
As of this writing, Vince Martin has no positions in any securities mentioned.
