my take on Disney (DIS)

Post the Fox Studios acquisition, DIS remains in three businesses:  broadcasting, theme parks and movies.  December 2019 quarterly operating income from the three (ex direct to consumer) was roughly $5 billion.  Of that, just under half came from theme parks, a third came from broadcasting and the rest from movies.

All three business lines have their warts:

–ESPN, the largest part of broadcasting, has long since lost its allure as a growth vehicle; ABC is breakeven-ish; I think there’s some scope for boosting results from Fox.  Pencil in slow/no growth

–theme parks are (were?) booming, but they’re a highly business cycle sensitive business.  We’ll see that, I think, in March- and June-quarter results.  so even though it’s Disney we should apply a discount multiple to these earnings

–movies are traditionally a low multiple business because of the irregularity of new releases and their typical hit-and-miss nature.  DIS has been exceptionally good for a long time under Bob Iger (it was pretty awful before him), but this is still inherently a low multiple enterprise.

 

This is the main reason the stock spent years bouncing around the $110 level with flattish $10 billion, $6 a share, in earnings.  In the era of human analysts, it wasn’t just the earnings that held the company back.  It was also knowledge of the slow demise of ESPN, the (in hindsight too conservative) sense that theme parks were nearing a cyclical peak, and the idea that the company’s incredible movie hot streak might come to an end.

Then there’s the streaming business, where–to pluck a number out of the air, DIS is spending 10% of its operating income to develop.

 

A couple of months ago no price seemed too high for Wall Street to pay for Disney+, with the stock peaking at $153.    If we say $25 of the rise was due to streaming, at the top the market was valuing Disney+ at $40 billion+, or roughly a quarter of the value of Netflix.

The stock has fallen by about 40% since.

Now, hang onto your hat:

If we assume that the implied value of Disney+ has fallen in tandem with NFLX, it’s now valued at $32 billion.  This gives a residual value for the rest of DIS of about $140 billion.

That would imply a multiple of 13x current earnings–or, alternatively, an assumed 20% decline in profits.  The decline would likely be mostly (I’m assuming entirely) in the parks and movie divisions, implying that area’s income would fall by somewhere around 30%.

So–in this way of looking at things, we are assuming substantial success for Disney+ and a decline in the most cyclical businesses of roughly half what the market is assuming for companies like Marriott.  It would be cheaper to create a “synthetic” DIS out of NFLX + MAR shares, although what would be missing would be the Disney brand.

My conclusion:  Mickey and Minnie aren’t screaming “Buy me.”

 

 

 

 

Netflix and the art of raising prices

NFLIX, from  afar

I don’t know NFLX well, other than as a user of its products.  I’m still annoyed at myself for not having bought it two years ago.  But I haven’t been motivated to do the work I’d need to own it, so I mostly just watch the price as a barometer of the market’s feelings about growthy, techy consumer stocks.

Clearly, the recent plunge from the $300+ high to the current $130 runs sharply counter to the experience of most consumer-oriented secular growth names (more about this tomorrow).

the recent price increase…I know that the company has other issues.  I have no opinion, positive or negative, about the stock.  I just want to make a comment about the mess that the company made about the price increases it recently announced.  My take is that the move is actually a good thing.  The way NFLX went about it, however, shows a stunning lack of basic management skill.

…is a good thing…

Why good?  Yes, there are some cases where consumers actually want to pay more for an item–like buying an $8,000 Hermès handbag– to display their wealth or sophistication.  This isn’t one of them.  So for NFLX raising prices inevitably means losing customers.  There’s no way around that.

If the early returns are reliable, however, upping prices by 15% has lost the company 4% of its subscribers.  Revenues are still at least 10% higher than they would otherwise have been.  And NFLX can presumably build from there. Also, customer defections, relative to the company’s expectations, have been concentrated in users of DVDs only, the segment that NFLX wants to de-emphasize.

…done in awful fashion

Top management of most consumer companies spend a great deal of time thinking about prices.

They know that there are tipping points where regular customers of the products/services may dramatically slow down usage if the price exceeds a certain level.  They also know that these points are virtually impossible to predict in advance.  In the casual restaurant business, for example, a venue with a $17 per person average check may have diners lining up all around the block.  An $18 per person check-less than a 6% difference, on the other hand, may translate into lots of empty tables.

They also know that any really visible price rise–one that forces the consumer to think about how much he’s actually paying in total–is particularly perilous.  As NFLX has found out the hard way, $8-$10 a month isn’t that significant for its customers.  An extra $2, or the choice of remaining at the old price for a lower level of service, is.  It focuses attention on the fact that NFLX can cost $150 or more a year.  And, of course, there are probably a certain number of people who don’t use the service but have forgotten to remove the fee from the recurring payments on their credit cards.

As well, higher prices not only can spur customers to look for substitutes; they can provide a pricing umbrella under which rivals can prosper.

Also, techy things typically don’t go up in price.  They either stay the same for a new model that’s a lot better, or they go down.  As a result, for NFLX  any price rise comes as a shock.

NFLX appears to have been completely clueless.

what could NFLX have done instead?

Remember, I haven’t studied NFLX closely, but there are a at least a couple of tried-and-true marketing tactics that companies use to raise prices.  For example:

new and improved.  Companies often offer additional features–better content, preferred access, faster access, a wider selection, other stuff you may not need/want–as at least a psychological justification for customers paying more.

a program of small but steady price rises.  To eliminate sticker shock.

a public relations campaign in advance, interviews in the media, or communication with customers, to explain the economic necessity for raising prices.

–more conservative guidance.  This may simply have transferred the negative Wall Street reaction to the earlier point in time when NFLX gave guidance, rather than when the company lowered it.  But it would have suggested that NFLX has a better feel for its customer reaction to higher pricing.

where to from here?

The Wall Street analysts’ earnings consensus for NFLX for 2011 is about $4.50 a share, meaning that the stock is trading at slightly under 30x current profits.  While the stock doesn’t appear cheap to me, the company does appear to be growing at a pace much faster than 30%, even after its current stumble.

I think a buyer has to believe two things:

–that NFLX will continue to grow profits at 30%+ for as far as the eye can see, and

–either that management has made an isolated mistake, or that having sharp people at the top isn’t crucial to the company’s success.

The company is presenting at a conference today.  We may get more input from that.