Key Takeaways From Disney’s Fiscal Q1 Earnings

Disney (NYSE:DIS) reported disappointing first quarter results, as its earnings per share came in ahead of market expectations but revenue missed. The company’s revenue decreased 3% year-over-year (y-o-y) to $14.8 billion, primarily due to weak performance by Disney’s media networks, where revenues fell 2% y-o-y and operating income declined 4% y-o-y, due to higher programming costs and fewer subscribers of the media networks. The company also posted diluted earnings of $1.55 per share, compared to 1.73 cents per share in the prior year. This 10% y-o-y decline in the first quarter earnings were due to a difficult y-o-y comparison, particularly in the company’s Studio and Consumer Products segments, due to the strength of Star Wars: The Force Awakens. In addition, Disney’s free cash flow declined 79% y-o-y due to a decrease in higher pension and post-retirement medical plan contributions in the quarter.

As expected, issues at ESPN weighed heavily on first quarter earnings at Disney. ESPN’s weak results were driven by a 7% decline in its advertising revenue compared to the first quarter last year. The NFL saw consistent declines in viewership this season in the first quarter, with NFL Nielsen ratings down 8% for the 2016 season. ESPN also saw a double-digit ratings drop for Saturday games, which averaged only a 10.4 rating from the 15.4 rating just two years ago. In addition, ESPN aired only three of the New Year’s Six bowl games during fiscal Q1, whereas all six games were aired during the first fiscal quarter last year. As a result, ESPN continued to face headwinds amid lower television ratings.

Media Networks Disappoints In Q1

Disney’s Media Networks revenue for the quarter decreased 2% y-o-y to $6.2 billion. Its segment operating income decreased 4% y-o-y to $1.4 billion, primarily due to declines in Cable Networks, partially offset by growth in Broadcasting. The segment’s lower Cable results were driven by a decline at ESPN where higher affiliate revenue was more than offset by an increase in programming and production expenses and a decrease in advertising revenue. Moreover, the growth in ESPN’s programming costs was due to its new NBA agreement and contractual rate increases for NFL programming, partially offset by lower programming costs for College Football. The segment’s Broadcasting operating income grew 28% y-o-y in the quarter due to higher affiliation revenue and lower programming costs at ABC.

Parks And Resorts – Strong Growth Driver

Disney’s Theme Parks revenue grew 6% y-o-y and operating income increased 13% y-o-y, driven by growth in its domestic and international businesses. However, the segment’s overall revenue was partially offset by unfavorable impact of $70 million due to Hurricane Matthew in early October, which resulted in the closure of many parks for about a day and a half.

The segment’s growth in domestic operations was primarily driven by higher guest spending across its businesses, partially offset by lower attendance, which declined 5% y-o-y in the quarter. Theme Parks per capita spending was up 7% y-o-y on higher admissions and food and beverage spending, while per room spending at domestic hotels was up 3% y-o-y. However, the segment’s hotel occupancy was down modestly to 91% y-o-y. ^[1] On the international front, the company benefited from the opening of Shanghai Disney Resort and improved results at both Disneyland Paris and Hong Kong Disneyland in the first quarter. Additionally, the launch of Disney’s Shanghai theme park has been a success, as the park has welcomed more than 7 million guests to date. We expect Disney’s theme parks to be an important driver for Disney’s long-term growth due to its international expansion.

Relatively Weak Performance Of Studio Division

Despite benefiting from the success of Rogue One: A Star Wars Story at the global box-office, which grossed more than $1 billion in the quarter, Disney witnessed a difficult y-o-y comparison in the first quarter. The company’s Studio Entertainment revenues decreased 7% y-o-y to $2.5 billion and its operating income declined 17% y-o-y to $842 million, due to lower results in the home entertainment and theatrical businesses.

In the Consumer Products and Interactive Media segment, the company’s operating income declined 25% y-o-y due to a record-breaking first quarter the segment delivered last year. The decline in operating income was driven by lower results at its merchandise licensing business, as sales of Rogue One, Finding Dory, and Moana merchandise was more than offset by very strong sales of Star Wars and Frozen merchandise in Q1 last year.

Q2 Guidance

In Q2, Disney expects an increase in ESPN’s programming costs compared to Q2 last year based on the shift of three College Football Playoff games into Q2. The company also expects its cable programming and production costs to increase 16% y-o-y in the second quarter. At Parks and Resorts, the company is expected to benefit from one week of the winter holiday shifting into the second quarter. However, there will likely be a net adverse impact of $50 million due to the shift of Easter holidays in Q3 entirely, which were reported in Q2 last year. Meanwhile, the Studio business is expected to face a tough comparison to a very strong second quarter last year, which benefited from the strength of Star Wars and the release of Zootopia. Disney will release the much-anticipated Beauty and The Beast in the second quarter.

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1. The Walt Disney (DIS) Q1 2017 Results – Earnings Call Transcript, SeekingAlpha, Feb 7 2017 [↩]