Legendary return, Disney begins to change, change, change

Hello everyone, I am Dolphin Analyst!

On February 8th, Disney.US released its CY22Q4 earnings report after the US stock market closed. Despite the pressure on revenue due to high base effect, the EPS, which Disney shareholders care most about, has obviously improved this quarter and significantly exceeded market expectations.

However, as long as there are no significant operational problems in the first quarter, the quarterly performance is not a focus of the market's attention. Because the management is still in turmoil for less than 3 months and has not made any public speeches since taking office, the company's future operational guidance is the focus of the current market, which is also a bigger focus on stock prices. Especially, will legendary CEO Iger bring unexpected growth strategies?

Profits have improved significantly and exceeded expectations: The most criticized profitability situation in the previous quarter by the market has greatly improved in the first quarter, and the operating profit margin has increased by 5% QoQ. "Streaming media reducing losses + theme park profits hitting new highs" is the main driving force for the improvement of the profitability situation. Dolphin expects that continuing to improve profits will still be the key business goal of Disney this year.
Disney+ pursues "quality" growth more: Streaming media users lost 1 million subscribers QoQ in the first quarter, which is significantly weaker than the consensus expectation, but similar to the expectation of some core investment banks. Among them, the situation of Disney+ loss is the worst, mainly because Disney did not continue to acquire the five-year exclusive broadcasting rights of India IPL2023-2027. In addition, the growth in North America has weakened significantly, which is basically consistent with the trend of third-party app active data.

However, in terms of ARPU, ESPN and Hulu's increase in QoQ are related to price increases. Although Disney+ also raised prices in December, the impact on the quarter was not significant. In addition, with the launch of low-priced advertising services, ARPU decreased slightly QoQ.

The poor growth of streaming media users in the first quarter, especially Disney+, undoubtedly brought great pressure to the original goal (reaching 215-235 million users by 2024) (net increase of 50-70 million users in less than 2 years).

But Dolphin believes that this trend may continue. That is, the new management may prioritize "profit" targets over "user expansion" targets. Under this adjustment of business strategy, compared with last year, Disney may put out more content for external authorization to obtain income, digest high production costs, rather than hiding exclusively in Disney+ to obtain more paid users.

Theme parks are still the "leader" in profit contribution: The profitability of theme parks has once again increased under the peak season effect in the first quarter, and the operating profit margin has even reached a historically high level, which is also the largest business that contributes to the group's profitability this quarter.

However, Dolphin believes that the trend of short-term profitability improvement may not be sustainable. Iger also specifically mentioned the need to adjust the theme parks upon his return. Otherwise, the current high consumption burden will suppress long-term demand after the travel enthusiasm fades. 4. "Avatar 2" box office is high but lower than expected, high costs drag down profitability of film business: In the first quarter, there were several high-grossing films but with slim profits. The highly anticipated "Avatar 2" managed to rank top of the global box office but the actual revenue was lower than expected due to high production costs and channel revenue sharing, resulting in less than ideal profits.

Furthermore, income from external content licensing was affected by Disney's exclusive distribution of Disney+. However, the Dolphin Analyst believes that under the group's pursuit of profit growth as the primary objective, this strategy may have significant adjustment in the future. For example, after the release of "Avatar 2", it may choose to license it to multiple platforms in order to receive more licensing income.

4. More "trouble" for cable TV is yet to come: In the first quarter, cable TV revenue dropped by 5.4% year-on-year. Although the details were not disclosed in the performance report, the Dolphin Analyst expects that the main decline is in advertising revenue, which is more closely related to user viewing time. Subscription fees and copyright fees are less affected by streaming services due to their habitual payments.

According to Nielsen data, the share of TV users' viewing time spent on cable TV channels continued to decline last year. In the medium to long term, cable TV's advertising revenue will continue to be under pressure, and future profit margins will gradually weaken, making it difficult to return to levels above 30%.

5. Free cash flow continues to deteriorate year-on-year, and it is urgent to improve profitability: This quarter's free cash flow net outflow was 2.16 billion yuan, breaking the two-year record low. Among them, the net outflow of cash from operating activities was 970 million yuan, the weakest since the same period in the past two years.

As of the end of December, the company's cash balance was 8.5 billion yuan, with a faster decline compared to the previous period. It is necessary to improve the operating conditions and control investment budgets as soon as possible.

Dolphin Analyst will share a summary of the conference call with Dolphin users through the Longbridge App. Interested users are welcome to add the WeChat account "dolphinR123" and join the Dolphin research group to receive the conference call summary as soon as possible.

Dolphin's Perspective

After submitting the worst EPS since the outbreak of the epidemic in the previous quarter, the market turned its back on Disney mercilessly and the company's market value was once on the verge of the 2020 epidemic low. At this critical moment, legendary CEO Iger's return to the helm can be said to have restored Disney's "faith value" from a spiritual perspective.

In Iger's return letter, he specifically mentioned that he would help Disney "return to growth". The Dolphin Analyst believes that the anchor point for this "growth" is not "revenue" but "profit". After all, even though traditional business income reached a new high in the full year of 2022, the group's operating profit was only 80% of a normal year before the epidemic, and net profit was only 40%.

Although no specific measures were discussed in the return letter, we can guess that Iger's first cut will likely be aimed at the continuous high losses of Disney+, such as reducing ineffective investments in content and opening up the external licensing of self-made content. In addition, although the revenue and profits of traditional theme parks have been increasing season by season, there is actually no sustainability. Incrementally pricing up tickets and various "money-making tools" that have been greedy to exploit have left many tourists dissatisfied. As the "popularity" of offline entertainment during the post-epidemic period dissipates, this year's theme park traffic is bound to be affected. Therefore, in order to ensure the basic popularity of the park, although there are centennial celebration activities, it is still necessary to reduce the burden of visitors' park consumption.

From the perspective of absolute profit value recovery alone, Disney still has a lot of room for improvement, and the main gap lies in the streaming media business, which is also the core logic of the current market transactions. At present, EV/EBITDA is about 15x, which is lower than the pre-epidemic level but higher than before Disney+. The guidance provided by the company before was that Disney+ is expected to reach a single-quarter break-even point in 2024, so the market expects that Disney's EBITDA for the 2024 fiscal year can return to the level of 2018 to 2019 (approximately 18 billion +), corresponding to a current equity value of approximately 12x, which can basically be regarded as a safety valuation line after removing the "streaming media premium".

If this financial report call can release more information about the "profit ahead of schedule" of Disney+, it will also provide Disney with more upward momentum. Generally speaking, the information disclosed by Disney management during the conference call is quite rich, and it happens to be the first public appearance after the management turmoil, which is bound to reveal more information about Disney's future development strategy. Dolphin Analyst especially recommends that everyone pay attention to the content of the conference call later.

Detailed interpretation of this quarter's financial report

Understanding Disney

As an entertainment kingdom that has been around for nearly a century, Disney's business structure has undergone several adjustments. Dolphin Analyst has provided a detailed introduction in "Disney: The "Anti-Aging Secret" of the Centenarian Princess". Here is the latest business structure information, which is convenient for investors to have a preliminary understanding of the financial report before reading it.

Disney's business structure mainly includes four parts: film and television entertainment, cable television, streaming media, and theme parks and merchandise retail.
[Theme parks and merchandise retail] has been developed for many years and is relatively mature. With the addition of the first IP reserve, Disney's theme park business has a leading position and is more affected by overall consumption. Under normal circumstances, it can be regarded as a stable cash flow.
[Film and television entertainment], [cable television], and [streaming media] are essentially producing and distributing Disney films, so revenue changes are mainly related to Disney's film screenings and overall movie market consumption.

Source: Disney Financial Report, Dolphin Investment Research

Revenue: Growth under high base has pressure

This quarter, Disney achieved a total revenue of USD 23.5 billion, an increase of 7.8% year-on-year. Although the growth rate has not improved on a month-on-month basis and remained at a single-digit level, it is more due to the pressure of high base during the same period.

As for the detailed business segment:

1. The streaming business has improved somewhat under the effect of price increase;

2. The growth of traditional businesses has continued to slow down under high base.

a. The theme park is relatively stable;

b. The box office contribution from hot films such as "Black Panther 2" and "Avatar 2" has improved significantly on a month-on-month basis;

c. However, cable TV continues to decline. In addition to a significant decline in overseas channels due to the absence of IPL matches and exchange rate fluctuations, local channels have also experienced a decline in advertising revenue due to fewer sports programs during the quarter.

Detailed data of business segments:

1. Streaming Business (DTC)

Although the streaming business does not contribute much to the company's current revenue and profit, it is indeed the main logic supporting the company's growth and the main driving force for the market to increase Disney's future valuation.

This quarter achieved a revenue of CNY 5.3 billion, a year-on-year increase of 13%, mainly driven by the price increase of ESPN and Hulu. The core streaming platform Disney+ lost 2.4 million users, which was worse than the market expected. Among them, the Indian market Disney+Hotstar lost 3.8 million users in a quarter due to Viacom obtaining the copyright of IPL 2023-2027. In addition, the growth performance of the North American local market is average.

As of December, the total number of Disney+ users fell to 162 million, and the total number of platform users reached 235 million, which is far from the pressure of the 2024 fiscal year target.

The user growth of ESPN+ this quarter has started to show the impact of price increase, and the net increase of users is weaker than in the same period in the past. In October and December, Hulu and Disney+ also raised their prices significantly. However, at present, the price increase effect of Disney+ is not obvious, perhaps because the increase in price occurred at the end of the quarter.

In December, Disney+ launched its advertising service, but expects short-term performance to be mediocre, judging from Netflix's advertising situation. However, due to Disney's operational experience with Hulu's advertising package, Dolphin Analyst is not pessimistic about the mid-to-long-term development of the advertising service. In order to better integrate the group's streaming platform resources, the market also expects Disney to speed up the acquisition of the remaining Hulu equity from Comcast, providing overall advertising and subscription services.

Theme Parks and Consumer Products

The theme parks performed well again in the peak season, with steady growth and significantly better-than-expected operating profit margins. However, Dolphin believes that this is still due to the effects of Disney's frequent ticket price hikes and the launching of paid park products under the "surge in travel demand + constant anniversary celebrations" over the past year, and some visitors have begun to complain about the rising costs. Therefore, it is expected that Iger's return will also lead to adjustments in the theme park business to ease negative consumer experiences.

The combined revenue from theme parks and consumer products in this quarter was USD 8.74 billion, a year-on-year increase of 21%, with strong growth technology, reflecting strong demand over the past year. The revenue from park experience was USD 7.2 billion, with a year-on-year growth rate of 27%, while the revenue from consumer products remained flat year-on-year.

Segment market analysis:

(1) The North American market is still driven mainly by price increases, with little change in park attendance compared to 2021.

(2) The international market growth has slowed down more significantly due to exchange rate reasons, as well as Shanghai Disneyland's prolonged closure at the end of last year. However, since December 8, Shanghai Disneyland has been fully operational again, and with the explosive demand during the Spring Festival, it is expected to make a significant contribution to Disney's park performance next quarter. From the perspective of inbound visitors from North America, the first quarter attendance at Florida's Disney theme parks has declined slightly compared to the same period in 2022, while demand for California's Disney parks has increased due to discounted tickets offered to Southern California. However, the post-pandemic travel boom is fading away, and this cannot be ignored. Although there is a time difference between the travel boom in the international and local markets, the impact on the overall performance of the group's theme parks is greater due to the higher revenue proportion of local theme parks. It is expected that Iger will also make adjustments to the theme park business by providing more discounts and reducing users' pressures to spend money in the park, in order to continue to meet the demand for travel, just like the special ticket promotion at California theme parks this time.

The revenue from content sales is primarily related to the performance of Disney's movie releases during the season, as well as the distribution authorization of other TV program content and related home TV pay-per-view fees.

This quarter, Disney released several blockbusters such as "Black Panther 2" and "Avatar 2". Although the box office performance was not bad compared to its peers, the high production costs greatly reduced the profit contribution.

In addition, due to the exclusive supply to Disney +, revenue from external content licensing is likely to continue to be negatively affected. The revenue from film and television business in the first quarter reached 2.46 billion, a year-on-year growth of 1%, but still incurred an operating loss of 220 million.

However, Dolphin Analyst believes that after Iger expresses the urgent need for group profit improvement, the operating strategy for self-produced content exclusive to Disney+ may also be adjusted. In this way, there will be significant improvement in the profit of film and television content sales, at least in the next season when blockbusters such as "Avatar 2" are authorized for release.

In the 2023 fiscal year, Disney's film and television content is still heavily concentrated, with Marvel IP and Star Wars IP being the main highlights.

Traditional broadcast and television media continued to decline by 5% year-on-year this quarter, with fewer sports contents and a continuing trend of user viewing migration from cable TV to streaming media, significantly affecting the advertising revenue of cable TV. This is not just a problem that will occur in the next two quarters, but a medium- to long-term trend.

3. Profit End: The QoQ Repair Indicates Even Higher Market Expectations in the Future.

The company achieved an operating profit of 3 billion in the first quarter, a YoY decrease of 6.6%, but exceeded market expectations of 2.5 billion.

This quarter saw a significant improvement in streaming media losses MoM, coupled with a new high in theme park profits, leading to an overall improvement in operating profits. Although the profits of film and television content and cable TV are under pressure due to poor returns, the pressure on film and television content will likely be temporary, but cable TV is a relatively long-term trend, with expected downward momentum in profitability despite short term fluctuations.

As for investors' foremost concern which is future profit guidance, Dolphin Analyst (菜比君) suggests paying attention to the explanations given by the management during conference calls. We will release the minutes of the conference call in the Longbridge app or investment research group as soon as possible. You can also add our WeChat account 'dolphinR123' if you're interested.

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Articles related to "Disney" by Dolphin:

Quarterly Reports:

2022 November 9th conference call: "Disney: Focusing on Profit, Open-Source and Cost-Cutting Measures (4Q22 Conference Call Minutes)"

2022 November 9th earnings analysis: "Is the Century-old Disney Collapsing Due to the Rotation of Giants Hammering Each Other?"

2022 August 11th conference call: "Disney: High Demand for Offline Services, Lowering Mid-to-Long-Term Streaming User Guidance (3Q22 Conference Call Minutes)" 2022 August 15th "Disney: The 'High Heat' of Theme Parks Continues, Streaming Expansion Running"

May 12th, 2022 Teleconference "Disney: Strong Content in the Second Half of the Year, Park Business Continues, Reducing Content Licensing, and Asia Park Closures are Unfavorable Factors (2Q22 Teleconference Minutes)"

May 12th, 2022 Financial Report Review "Disney: Traditional Business Accelerates Profit Release, Striving to Inject Blood into Streaming"

February 10th, 2022 Teleconference "Gradually Entering Content Cycle, Management is Confident in Growth Targets (Disney Teleconference Minutes)"

February 10th, 2022 Financial Report Review "Disney: Streaming Growth Restores Glory, and Theme Parks are Even More Beautiful"

November 11th, 2021 Teleconference "Pandemic Disruptions, Disney's Content Cycle to Look at the Second Half of 2022 Fiscal Year (Teleconference Minutes)"

November 11th, 2021 Financial Report Review "Streaming Growth Collapses, Disney's Long Transformation Road is Difficult to Travel?"

In-depth

June 1st, 2022 "Disney: Streaming Bubble Burst, Returning to the Roots of Theme Parks"

October 10th, 2021 "Disney: The "Yankee Magic" of a Hundred-Year-Old Princess"

October 15th, 2021 "Disney Keeps "Dreaming", Can it have a "Dream-like Valuation"?"

**Risk Disclosure and Statement of this Article: **Dolphin Analyst Disclaimer and General Disclosure