The Walt Disney Company is a giant in the entertainment industry, worth some $64bn in market capitalisation. Its largest unit, contributing 55% of operating profits, is its TV networks division, incorporating the ABC, ESPN and the Disney channels, along with the popular children’s internet site Club Penguin. The rest of the firm’s income is generated from its theme parks in Florida, California, Paris and Hong Kong (22%), its film studios (15%) and merchandise (8%).
Walt Disney (NYSE:DIS), rated OVERWEIGHT by JP Morgan
Undoubtedly, Disney is a fantastic brand. But great firms don’t always translate into great investments for the simple reason that such ‘safe-haven’ stocks tend to be overbought in times of financial distress.
And what’s more, if there’s a prolonged downturn, Disney is likely to struggle to meet Wall Street’s earnings targets. Firstly, as consumers pull back corporate marketers will reign in their promotional budgets. Not immediately – TV advertising dollars are largely nailed-down for the rest of 2008 and revenues will be artificially boosted by the American presidential election. But next year will be different. With traditional big spenders such as the car manufacturers on their knees, networks are likely to see air-time rates for TV commercials take a hammering when the 2009 contracts come up for renegotiation.
Next, with fuel prices sky-high and consumer sentiment weak in Europe, the number of foreign visitors to Disney’s parks is likely to fall in 2009. Worse still, domestic tourists from North America are feeling even worse than Europeans, and could also choose to save their nickels and opt for a cheaper holiday elsewhere.
If that was not enough, the group’s retail stores and consumer products units could come under attack, as thrifty families trade-down and select non-branded memorabilia rather than official Disney merchandise. The bulls argue that in a more austere climate, people will decide to watch films at home rather than dining out or going to the theatre. I agree – yet this potential boost is relatively small compared to the dark storm clouds hanging over the company’s other three units.
Lastly, the stock looks vulnerable. Wall Street expects 2008 sales and underlying earnings per share (EPS) of $37.8bn and $2.33, rising to $39.0bn and $2.47 in 2009. That puts the stock on unattractive corresponding p/e ratios of 14.3 and 13.6. During the last recession and following the September 2001 terrorist attacks, visitor attendance figures to Disney parks nose-dived in 2003, with earnings per share plunging to 65 cents. I would rate the stock on a multiple of nine times through-cycle operating profits, which, after deducting net debt of $11bn, translates into a value of about $27 per share – or roughly 20% less than today.
Recommendation: SELL at $32.20
Paul Hill also writes a weekly share-tipping newsletter, Precision Guided Investments. Phone 020-7633 3634 for more information.