ESPN Issues Weigh On Disney’s Q4 Earnings

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Disney (NYSE:DIS) reported weak fourth quarter results, as both its revenues and earnings per share fell short of market expectations. The company’s revenue decreased 3% year-over-year (y-o-y) to $13.1 billion, primarily due to a disappointing performance by Disney’s media networks, where revenues fell 3% y-o-y and operating income declined 8% y-o-y. The company posted earnings of $1.10 per share, compared to 96 cents per share in the prior year.

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Disney has been witnessing a slowdown in its media networks division of late, of which ESPN forms an integral part. As expected, issues at ESPN weighed heavily on fourth quarter earnings at Disney. ESPN’s weak results were driven by a decline in advertising and affiliate revenue compared to the fourth quarter last year.

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ESPN’s ad revenue declined 13% y-o-y in the quarter due to a significant decrease in daily fantasy advertising, an additional week of ad revenue in Q4 2015, and the impact of ad dollars being diverted to Olympics programming. Moreover, ESPN’s affiliate revenue was lower in the quarter owing to a decrease in its subscribers partially offset by contractual rate increases. ESPN’s ad sales in fiscal Q1 are pacing down compared to last year, mostly reflecting the timing of key college football games. [1].

         

Media Networks Disappoints In Q4

Disney’s Media Networks revenue for the quarter decreased 3% y-o-y to $5.7 billion. Its segment operating income decreased 8% y-o-y to $1.7 billion primarily due to declines at cable networks (ESPN, Disney channels), partially offset by higher income from program sales, increased affiliate revenue and a decrease in compensation related costs at the broadcasting division. ESPN continues to face headwinds amid lower television ratings since its ratings declined 10% y-o-y for prime time and 6% y-o-y in total day for the September quarter. [2] Moreover, ABC’s C3 average for premiere week was down 26% from the comparable week in 2015. [3]

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Lower results at the Disney channels were primarily due to decreased affiliate revenue and program sales. On the other hand, the segment’s affiliate revenue grew due to higher contractual rates and the success of Luke Cage and Quantico in the fourth quarter.

However, the company is known for its strong content and can also deliver that content through an over-the-top (OTT) service with its recent BAMTech investment going forward. Therefore, even if company’s media networks continue to decline in the near term, its long term growth prospects can be attractive.

Parks And Resorts – Strong Growth Driver

Disney’s Parks and Resorts revenue increased by 1% y-o-y to 4.3 billion in fourth quarter. However, its operating income fell by 5% y-o-y due to a revenue decline at Disneyland Paris, partially offset by an increase at its domestic operations and benefit of the first full quarter of operations for Shanghai Disney Resort. The segment’s per capita spending was up 7% y-o-y on higher admissions and food and beverage spending.

Theme parks, which currently account for 30% of the valuation of the company per our estimates, will be an important driver for Disney’s long term growth due to the ongoing international expansion. The launch of Disney’s Shanghai theme park has been a success, as the park saw 86% occupancy in the quarter and more than 1 million guests during its first month.

Moderate Performance Of Studio Division

Disney’s studio entertainment revenues increased 2% y-o-y to $1.8 billion but its operating income declined 28% y-o-y to $381 million, due to lower worldwide theatrical results partially offset by higher operating income from television distribution. Lower theatrical results reflect the performance of Pete’s Dragon and Queen of Katwe in this quarter compared to Ant-Man in Q4 last year as well as higher marketing spending for films yet to be released.

In addition, Disney’s products business saw revenue drop of 17% y-o-y due to discontinuing Disney Infinity (console game), and its overall operating income was hurt by decrease in the merchandise licensing. While the company continued to see strong sales of Finding Dory merchandise in the fourth quarter, it was more than offset by strong sales of Frozen merchandise in Q4 2015.

Fiscal 2017 Guidance

In fiscal 2017, Disney expects to deliver modest EPS growth for the year due to comparability factors.

In Cable Networks, the company expects its programming costs to be up about 8% versus fiscal 2016, driven primarily by the new NBA contract, which accounts for $600 million of that increase. For the Parks and Resorts segment, the company expects continued growth in 2017 due in part to the opening of Avatar Land at Walt Disney World and a full year of results from Shanghai Disney Resort. In the studio segment, the company has a strong slate of films to be released which include Beauty and the Beast, Guardians of the Galaxy Vol. 2, the fifth installment of Pirates of the Caribbean, and Cars 3 during the year. In the Consumer Products segment, while the company expects operating income growth for the full year, it also expects more than a 20% y-o-y decline in its operating income in Q1 2017 due to a difficult comparison from the strength of Star Wars and Frozen merchandise licensing in Q1 last year.

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Notes:
  1. The Walt Disney (DIS) Q4 2016 Results – Earnings Call Transcript, SeekingAlpha, Nov 10 2015 []
  2. TV Ad Spending Fell 5.8% in September, broadcastingcable.com, Oct 2016 []
  3. Premiere Week C3 Ratings: The Numbers That Matter Most to the Networks, variety.com, Oct 2016 []