But the recent run-up in the stock price has also increased concerns around Disney’s valuation, especially given the turbulence around ESPN subscriber numbers, which have been consistently declining. ESPN contributes a major chunk of media segment’s revenues, which in turn made up around 42% of Disney’s total revenue in 2016. Concern around ESPN franchise has been the main reason why Walt Disney stock underperformed the market in 2016, in spite of strong performance on revenue and earnings front.
ESPN Worries Continue To Linger
Walt Disney Co (NYSE:DIS) stock was recently downgraded by BMO capital (1) analyst Daniel Salmon from market perform to underperform due to continuing decline in ESPN subscribers. BMO also reduced its price target for the stock from $90 to $88, indicating almost 20% downside from Friday’s close. BMO continues to see the number of subscribers declining for next two years, which will be partially offset by online distribution. To quote Daniel Salmon:
“Sentiment and stock performance has turned positive as investors: 1) feel better about ESPN sub trends after positive comments from management on the last earnings call; and 2) look ahead to a robust F2018 film slate. We think this positive turn comes too early and the risk/reward skews negatively (our target is $88, upside scenario $110, downside is $70). We still see more negative data points than positive for ESPN and believe consensus Studio estimates embed better performance per film, which is a key risk, in our opinion.”
The headwinds facing ESPN were one of the causes for a slight decline in Disney’s revenue growth in 2016. Revenue growth of media division declined from 10% in 2015 to 2% in 2016. However, the fact that media division reported a growth in spite of more than 2 million loss in subscriber base was itself a positive news. Disney was able to grow its media segment revenue by 2% due to higher affiliation fees and advertising. However, the headwinds facing ESPN franchise are likely to abate due to “a) stabilization in pay TV subs driven by new virtual MVPD services and/or (b) traction from the launch of the ESPN OTT service.”.
Very High Expectations From Studios
The sentiment around the House of mouse turned positive after CEO Bob Iger, during the Q4 conference call had stated that “the causes of those losses have abated, notably the migration to smaller packages” and felt “bullish about ESPN’s future”. This has led to investors focusing more on the brighter side of the story, namely, the studio and theme park divisions.
2016 was a great year for studio division. Disney released 13 films in fiscal 2016 for total revenue of about $3.7 billion, or $282 million a film, with four films released last year grossing more than $1 billion. The latest film to gross more than $1 billion was “Rogue One”, a spin-off of the Star Wars saga. Considering that, “Rogue One” was just a spin-off, many investors have higher expectations from the Start Wars Episode VIII.
In fact, investors are expecting the House of Mouse to even surpass last year’s record performance in 2018. Investors are now expecting Disney’s 11 films being released in 2018 to average more than $300 million a film. This high expectation is a potential source of risk for Walt Disney stock. A strong 2018 film lineup resulted in a price target upgrade (2) from Goldman analyst Drew Borst who raised his price target for Disney stock from $109 to $134, an upside of more than 22%.
