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Disney's new magic makes stock a bargain
Uncertainty has kept the price low, but Disney is accelerating its turnaround with TV hits, swelling crowds at theme parks and a pile of potential hits in the movie pipeline.
By Michael Brush
Investors may not have noticed, but the House of Mouse is back.
While the suits at Walt Disney spent the last year bickering over who will succeed chief Michael Eisner, the rest of us returned to the company's theme parks, loaded up on Disney DVDs and tuned in to popular ABC hit shows like "Desperate Housewives."
The net result: Disney (DIS, news, msgs) earnings were up 23% in the most recent quarter on 9% revenue growth -- in a turnaround that looks set to reward shareholders for several quarters to come.
All the cylinders are starting to fire, says Malcolm Polley, the chief investment officer at S&T Wealth Management, whose $1.3 billion in assets include a position in Disney.
Not everyone seems convinced -- but thats the good news for any investors who dont yet own Disney shares.
What's keeping shares cheap
Despite clear signs of a turnaround across Disney's divisions, more than a few in the investing world are worried about how incoming Chief Executive Robert Iger will do when he takes the reins from Eisner in September. Theyre also concerned about the possible end of Disney's movie-making collaboration with the animation wizards at Pixar (PIXR, news, msgs) and the departure of creative talent at Miramax Films.
All this Goofy-ness means Disney shares are still cheap at around $27.40. So you have time to pick up shares for a move to the low- to mid-$30 range in a year -- for profits of 20% or more.
The reason: On a valuation basis, Disney trades near five-year lows and in line with other major diversified media companies.
Yet the outlook at Disney is better than at its peers.
There is plenty going on that is healthy for the company, and I dont think they will have any problems exceeding guidance put out to Wall Street, says Larry Haverty, a media analyst and money manager at Gabelli Asset Management, which holds Disney shares.
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In addition to a solid turnaround in its ABC television division -- confirmed by strong upfront ad sales last week -- Disney has a slate of potential movie hits like "The Chronicles of Narnia: The Lion, the Witch and the Wardrobe," due out in December. Meanwhile, the 50-year anniversary celebration of Disneyland and the opening of Hong Kong Disneyland in September will boost theme park business.
Underneath it all, a menagerie of characters -- led by Mickey, Winnie and Kermit -- populate a large and profitable film library and keep Disney fans returning for toys, T-shirts and the like year in, year out.
We believe the market is underestimating growth prospects, agrees Deutsche Bank Securities analyst Douglas Mitchelson. We continue to see strong momentum across all Disney operations.
No reason to despair
For years, ABC's prime-time TV lineup was, well, desperate and lost.
Then came two wildly popular new series: "Desperate Housewives," with its suburban angst and intrigue, and "Lost," with its equally desperate plane-crash survivors. The network also has done a nice job of filling in the scheduling blanks around its new hits, with shows such as "Greys Anatomy," "Extreme Makeover: Home Edition" and "Alias."
Thanks to the new shows -- and interest in new series this fall like "Commander-In-Chief" and "Invasion" -- ABC was the first network to complete upfront ad sales last week, enjoying price hikes of 4% to 6% for the coming season.
The profits from hits such as "Desperate Housewives" will continue to multiply for years as the series work their way through foreign markets and the home-theater channels, says Haverty.
This will be a big source of future cash flow for the company, he says. There is an enormous financial turnaround at ABC, and it hasnt appeared in the income statement yet.
The lion, the witch and the box office
Several potential hits are on the horizon. Haverty holds out the biggest hopes for "The Chronicles of Narnia," which will be in theaters this December. Based on the C.S. Lewis novel, the action movie takes its characters through a battle between good and evil in the mythical land of Narnia. I saw the trailer, and the crowd loved it, says Haverty. Narnia could be another franchise like 'Lord of the Rings.' I think this is one that could be very strong.
Later this month, "Herbie: Fully Loaded" should post decent numbers, predicts analyst Jeffrey Thomison at J.J.B. Hilliard, W.L. Lyons. The animated "Chicken Little," out in November, is Disney's bid for holiday traffic. And analysts expect two big hits in summer 2006. Thats when the final collaboration with Pixar -- "Cars" -- will be in theaters. Disney will also release "Pirates of the Caribbean: Dead Man's Chest" next summer, a sequel to the profitable 2003 swashbuckler.
A big new park in a small world
Business at Disney theme parks perked up last quarter, and revenue increased 26% in the quarter compared to the year before. Analysts expect decent growth over the next 12 months, particularly since next year is the 50th anniversary of Disneyland. In Florida's Walt Disney World, attendance should get a boost from the new Expedition Everest ride.
Disney also is launching a new park in Hong Kong. The Hong Kong Disney will be off the charts, predicts Haverty. The Hong Kong economy is very strong. It also raises the flag for the brand." Chinese consumer, meet Piglet, Miss Piggy and the gang.
Disneys movie business is about to suffer two blows. First, Disneys collaboration with Pixar expires next year. The joint venture saw Disney reap big profits as distributor of hugely successful Pixar films like "Toy Story," "Monsters, Inc.," "Finding Nemo" and "The Incredibles."
Next, the departure of top management at Miramax Films has some analysts worried. Disney will keep the brand, but Miramax creative talent Bob and Harvey Weinstein are moving on.
Both of these problems, however, may not be as bad as they seem.
First, negotiations are on to redo a deal with Pixar. While outgoing Disney boss Eisner and Pixar chief Steven Jobs had a frosty relationship, things could improve with Iger in command. One real plus with Iger is that the channels of communication have been opened again between Disney and Pixar, says Polley, noting that Pixar has plenty of reasons to want to continue the relationship. Whats more, Disney may actually be able to cook up huge animation hits on its own. For clues, watch how "Chicken Little" does.
As for Miramax, while it has been a significant player in the independent film world, it was profitable in only two of the last five years, points out CIBC World Markets analyst Michael Gallant.
Besides, Disney has such a deep library of films that will continue to produce profits in the home theater market -- and so many other lines of business that are doing well -- it doesnt necessarily need hit movies each season for shareholders to win, says Polley. What the bears dont understand is that the movie business can do so-so and the company can still do well, he says.
Disney generates plenty of cash, which supports an ongoing share buyback program -- another positive. Disney has so much cash coming in that it could repurchase 40% of its shares over next two and a half years (at current prices) and still keep an investment grade debt rating, calculates Deutsche Banks Mitchelson.
All that said, doubts about Disney have the stock trading for about 20 times forward earnings, or around the low end of its trading range for the past five years.
It's a small stock price, after all.
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