Several months ago, I wrote about the possibility of investing in the blue-chip entertainment company Disney (DIS) . The idea was that short-term distractions would cause the stock price to drop, but the long-term story would remain intact.
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The fiscal Q3 results the company released on Tuesday had their fair share of disappointments. Revenue and non-GAAP EPS of $20.24 billion and $1.35, respectively, missed the guidance. And the acquisition of 21st Century Fox (21CF) had a dilutive impact on fiscal Q3 EPS of about $0.60 compared to the $0.35 forecast.
Thus, despite the positive results with the studio entertainment business and the announcement of an attractively-priced Direct-to-Consumer (DTC) bundle, the stock price fell in after-hours trading Tuesday and were down close to 6% on Wednesday morning.
The decline in the stock price isn't strong enough to make the investment proposition more attractive, though. On Monday, the stock price increased by 2.58%. And Disney's market capitalization is still close to all-time highs.
But management forecast a challenging fiscal Q4. I still expect a volatile stock price over the next few quarters with the ramp-up of the DTC offer. With this context, let's see if Disney's fiscal Q3 earnings impaired its long-term story.
The Tailwind of the Studio Entertainment Business
Over the last few weeks, the media reported at length the recent stellar performance of Disney's movies. For instance, The Hollywood Reporter highlighted Disney's annual box office record. The performance is even more impressive when taking into account the remaining five months left in the year. And Disney has yet to release Frozen 2 and Star Wars: The Rise of Skywalker.
Thus, the 33% year-over-year revenue increase of the "Studio Entertainment" segment wasn't surprising. But more importantly, the timing of these successes fits the DTC story. During the earnings call, management confirmed the recent blockbusters would be part of the Disney+ portfolio in the first year of launch. And the "Parks, Experiences and Products" segment will also profit from these positive results.
A Walk in the Park
Despite the lower attendance in Disney's parks, the revenue and operating income from the "Parks, Experiences and Products" segment increased by 7% and 4%, respectively. Guests are willing to spend more. Besides the higher entry tickets, Toy Story's merchandising contributed to the growth.
And management expects a strong fiscal Q4 thanks to the full quarter contribution of the recently-opened Star Wars: Galaxy's Edge park. And the benefits of the next Star Wars movie, to be released by the end of the calendar year, will reinforce the synergies and drive higher attendance and merchandising revenue.
Disney+ vs. the Legacy Media Businesses
The most important development to consider is the secular decline of Disney's legacy "Media Networks" segment against the growing streaming video services.
The year-over-year comparison of the "Media Networks" segment is disturbed by the integration of 21CF and Hulu businesses. But the trend previously observed continue. The "Media Networks" segment is still a cash cow for the company. Operating income represented 53.9% of the total operating income during fiscal Q3. Increased advertising and affiliate revenue offset the lower viewership. But the regular decline of viewers doesn't correspond to a sustainable long-term business. And management expects the next quarter to be more challenging. Also, the launch of Disney+ and the bundle that will include ESPN+ and Hulu will also impact Disney's legacy assets.
Thus, the performance of the DTC business will be a key parameter to watch. The company is ramping up its efforts before launching Disney+ by November. As a logical consequence, and with the integration of the 21CF and Hulu assets, operating losses exceeded $550 million during fiscal Q3. And management announced these losses would reach about $900 million during the next quarter. As the company doesn't expect the DTC segment to be profitable before 2024, the uncertainties remain important.
With some challenges during this fiscal Q3, the stock price has dropped rather sharply. But the market still values the company at relatively close to all-time highs. Despite the short-term distractions, the long-term story remains intact.
Disney will take advantage of its strong assets to develop an attractive and profitable DTC offering. But, considering the multi-year transformation and the potential short-term distractions, I still expect the stock price to provide investment opportunities over the next few quarters.