Disney (NYSE:DIS) will report its Q2 fiscal 2013 earnings on May 7, and the focus will be on the impact of ratings pressures on broadcasting business against the growth in licensing and affiliate fee. Close to 55% of Disney’s value comes from cable networks and another 10% from its broadcasting network. The company has thrived on ESPN’s success, and we expect it to continue to do so in the absence of strong competitors. For the last couple of quarters, the sports programming giant has faced pressure on its ratings, but has managed to offset it with higher ad pricing. Overall, we feel that given Disney’s brand strength, successful franchises and market presence, its growth will find support from higher affiliate fees, licensing and syndication. Additionally, we expect the parks & resorts business to do well on the back of an improving economy.
ESPN Will Continue To Fuel The Growth
Disney will continue to see support from growth in ESPN’s revenues. The sports network constitutes roughly 40% to the company’s value, according to our estimates.
We estimate that the network brought close to $11 billion in revenues for Disney in 2012. These include revenues from primary ESPN channel as well as its other sister channels, such as ESPN2, ESPNU, ESPNEWS, ESPN Classic and ESPN Deportes. ESPN has close to 100 million subscribers in the U.S., which is the case for many of the big cable networks. However, ESPN’s true value lies in the high fee per subscriber that it charges for its sports programming. This amount has increased from an estimated $3.65 in 2008 to $5.05 in 2012. The historical growth has resulted from multi-year programming contracts that specify annual fee increase, sustained high demand for sports programming, rising sports programming costs and ESPN’s market leading position. Going forward, the growth in the subscription fee is likely to slow due to pressure from pay-TV service providers and expected competition from NBC and Fox who are planning to launch nationwide sports networks to compete with ESPN.
Ratings Pressure On Broadcasting Will Act As Offsetting Factor
The viewership for the U.S. broadcasting networks is declining and Disney’s ABC is no different. This secular decline is being fueled by the popularity of cable programming and increased competition from alternative video platforms such as Netflix (NASDA:NFLX), Amazon (NASDAQ:AMZN) and others. Unlike broadcasting networks, a lot of cable networks focus on particular genre, thus creating a loyal viewer base. We expect this trend to continue and act as a key offsetting factor for CBS’ broadcasting revenue growth. According to research firm Magna Global, the overall ad commitments for TV’s upfront market for the current year could increase by 2%.  While the ad sales for the broadcasting networks will decline by 2%, cable networks will see a growth of 5% in their ad related revenues. 
The table below shows the viewership change for the biggest broadcasting networks in the U.S. for the current season. 
We estimate that ABC Network’s average viewership has declined from 3.7 million in 2007 to little under 3 million in 2012. This is not something that ABC cannot repair. Disney has made some acquisitions in recent years, primarily catering to its movie business. However, the company could potentially leverage these acquired franchises or take inspiration from them and introduce well-scripted programs on ABC Network. The network seems to be doing well among women aged between 18 and 34, but it could expand its appeal to other demographics by introducing relevant programs.
Parks & Resorts Will Show Strength
We expect continued improvement in Disney’s theme parks & resorts business segment driven by the improving economy, population growth and Disney’s investments.
Theme parks are considered as a destination for leisure activity, and therefore the attendance is somewhat tied to the state of the economy and travel & tourism. Consumers are more likely to travel when the economy is in a better state and discretionary spending is more viable. Even though the U.S. economic recovery has remained sluggish, the improvement is still there and that bodes well for the company.
One of the important trends influencing the growth of theme parks industry is the concept of park-within-a-park. Disney and its competitors have been investing to create multiple themes inside their parks. In addition to this, Disney has also invested in technology upgrade and other services to improve visitor experience. Last year, Disney expanded and made some changes to its Magic Kingdom theme park in Florida that were aimed at reducing the wait time for customers and increasing overall sales. According to an estimate, Disney might have spent close to $300 million on this makeover. ((Disney World’s $300 Million Makeover Means No Waiting for Dumbo, Bloomberg, Dec 6 2012)) Such investments are necessary to drive attendance growth. They also provide Disney an opportunity to connect with consumers in a better way and cross-market other company products. Disney can promote movies, sell consumer goods, promote TV programming as well as online and other games through its theme parks.
Our price estimate for Disney stands at $56.50, implying a discount of 10% to the market price.Notes: