Disney Beats Expectations But Watch for This Train Wreck
The House of Mouse turned heads with an encouraging Middle East expansion but a horrific balance sheet should scare investors.
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On Wednesday morning, The Walt Disney Company DIS released the firm's fiscal second quarter financial results. The numbers were solid, beating expectations, growing the all-important Direct-to-Consumer business. However, these numbers would not be making the headlines.
You see, after these numbers hit the tape, Disney announced that the company had reached an agreement with Miral, an immersive destination and experiences company, to develop a theme park and resort area on Yas Island in the United Arab Emirates. That's Abu Dhabi for those that may have not heard of Yas Island. This will be Disney's seventh theme park and resort area and will be built in full by Miral. Disney imagineers will lead creative design and will have overall operational oversight over the project.
Oh, and plans for this development are not part of the $60 billion investment that Disney had already pledged to upgrade and expand its current parks over the next decade. When can one go on a Disney vacation in the Middle East? In a TV interview, CEO Bob Iger said "It typically takes us between 18 months and two years to design and fully develop and approximately five years to build, but we're not making any commitments right now."
In other words... hold your horses.
On The Quarter
For the three-month period ended March 29, Disney posted an adjusted EPS of $1.45 (GAAP EPS: $1.81) on revenue of $23.621 billion. These top- and bottom-line results both beat expectations, while the revenue print reflected year-over-year growth of 6.8%. Adjustments were made for the resolution of a prior-year tax matter partially offset by the amortization of acquired intangible assets and to a lesser degree, restructuring and impairment charges.
Operations
As revenues generated increased 6.8% to $23.621 billion, costs and expenses grew 4.7% to $20.115 billion. Income before taxes grew to $3.087 billion (from $657 million), as total segment operating income expanded 15% to $4.436 billion.
After accounting for interest, taxes and other income/expenses, net income attributable to shareholders grew from -$20 million to $3.275 billion. The left GAAP EPS at $1.81, up from the year-ago comp of -$0.01. Once adjusted, EPS lands at $1.45, up from $1.21 a year ago for the same period.
Segment Performance
- Entertainment generated revenue of $10.682 billion (+9%), producing an operating income of $1.258 billion (+61%)
Linear Networks: revenue -13%, operating income +2%
Direct-to-Consumer: revenue +8%, operating income +615%
Content/Licensing: revenue +54%, operating income up to $153 million from -$18 million
- Sports generated revenue of $4.534 billion (+5%), producing an operating income of $687 million (-12%)
ESPN Domestic: revenue +7%, operating income -17%
ESPN International: revenue +11%, operating income +11%
- Experiences generated revenue of $8.889 billion (+6%), producing an operating income of $2.491 billion (+9%)
Domestic Parks & Experiences: revenue +9%, operating income +13%
International Parks & Experiences: revenue -5%, operating income -23%
Consumer Products: revenue +4%, operating income +14%
The CEO
CEO Bob Iger commented in the press release:
“Our outstanding performance this quarter — with adjusted EPS up 20% from the prior year driven by our Entertainment and Experiences businesses — underscores our continued success building for growth and executing across our strategic priorities. Following an excellent first half of the fiscal year, we have a lot more to look forward to, including our upcoming theatrical slate, the launch of ESPN’s new DTC offering, and an unprecedented number of expansion projects underway in our Experiences segment. Overall, we remain optimistic about the direction of the company and our outlook for the remainder of the fiscal year.”
Guidance
For the current quarter, the firm sees a modest increase in Disney+ subscribers sequentially.
For the fiscal full year, the firm is guiding investors and analysts towards an adjusted EPS of $5.75, which is well above consensus view for something more like $5.44. Additionally, Operating cash flow is seen at $17 billion, which is a $2 billion increase over previously issued guidance. This guidance is very strong.
Fundamentals
For the period, Disney generated operating cash flow of $6.753 billion. Out of that came $1.862B in capex spending and investments in the firm's properties. This left free cash flow of $4.891 billion, more than double the number for this same quarter a year ago. Out of this number, the firm repurchased $1.785 billion worth of common stock and paid out $905 million in cash dividends to shareholders. The rest went to the reduction of the firm's rather large debt load.
Glancing at the balance sheet, Disney ended the quarter with a cash position of $5.852 billion and inventories of $1.999 billion. This puts current assets at $22.735 billion. Current liabilities stand at $34.029 billion. That includes short-term debt of $6.446 billion and deferred revenue of $6.854 billion. The firm's headline and quick ratios ended the period at 0.67 and 0.61. Adjusted for deferred revenues, these ratios rise, but only to 0.84 and 0.76, respectively.
If you know how to find your way around a balance sheet, I don't have to tell you in un-sugar-coated terms that these ratios are awful. Running with more debt that matures in less than a year than having cash on hand is not so sweet either. The current portion of Disney's balance sheet is an absolute train wreck.
Total assets amount to $195.833 billion including $83.319 billion in goodwill and other intangibles. At 42% of total assets, given all of the content and characters that Disney does control, this is probably a legit number and might even be understated. Total liabilities less equity comes to $87.067 billion. This does include a total debt-load of $36.443 billion. While that's a mountain that must be tamed, there is evidence the firm is working on it. Repurchasing stock, however, probably is not the best use of free cash flow with a balance sheet like this.
My Thoughts
I am mildly surprised. The House of Mouse is executing at a higher level than I had thought. There have been some missteps, but the parks have carried the football. Disney+ is growing and ARPU for international Disney+ subscribers is growing nicely. The quarter was solid and the guidance was quite robust.
For me, despite strong operating and free cash flows, the horrific condition of the balance sheet makes Disney un-investable.
Wednesday morning's gap comes close to completing the head of what was a developing inverse head-and-shoulders pattern. While the stock is struggling on Wednesday morning to create the neckline which would become the pivot, the 200-day SMA has been taken out. If the 200-day line is held, that would force portfolio managers to increase their exposure. That said, it would not surprise to see DIS add a right shoulder to the pattern. That could drive the stock below the 200-day SMA and have it feeling around for the 50-day SMA for support.
My feeling is that DIS is probably a short-term bearish trading opportunity at these levels. I have laid out a bear put spread below that could work.
Trade Idea (Minimal Lots)
- Purchase one DIS May 16 $100 put for about $1.25
- Sell (write) one DIS May 16 $95 put for a rough $0.32
- Net Debit: $0.93
Note: The trader is risking $0.93 to try to win back up to $5.00.
At the time of publication, Guilfoyle had no positions in any securities mentioned.
