Why A Theme Park Lull Complicates Disney Stock’s Recovery

Disney stock (NYSE:DIS) currently trades at $86 per share, about 57% below its pre-inflation shock high of about $200 seen on March 8, 2021. The sell-off has been driven by several factors. Disney’s streaming business has been witnessing slowing subscriber growth and mounting competition. The linear TV business has also seen a weak performance of late, due to lower advertising and a decline in affiliate revenues in the domestic market. Separately, while the theme park business has been a solid performer since the Covid-19 reopening, the near-term outlook looks mixed as Disney expects higher costs and normalization in attendance. Over Q3 FY’24, the parks business saw revenue rise by a mere 2% from a year ago, to $8.4 billion, while operating profit declined 3%. While Disney stock was trading at a low of about $80 back in October 2023, it has recovered marginally after seeing considerable volatility. 

Looking at a slightly longer period, DIS stock has suffered a sharp decline of 55% from levels of $180 in early January 2021 to around $85 now, vs. an increase of about 40% for the S&P 500 over this roughly 3-year period. Notably, DIS stock has underperformed the broader market in each of the last 3 years. Returns for the stock were -15% in 2021, -44% in 2022, and 4% in 2023. In comparison, returns for the S&P 500 have been 27% in 2021, -19% in 2022, and 24% in 2023 – indicating that DIS underperformed the S&P in 2021, 2022, and 2023. In fact, consistently beating the S&P 500 – in good times and bad – has been difficult over recent years for individual stocks; for heavyweights in the Communication Services sector including GOOG, META, and NFLX, and even for the mega-cap stars TSLA, MSFT, and AMZN.

In contrast, the Trefis High Quality (HQ) Portfolio, with a collection of 30 stocks, has outperformed the S&P 500 each year over the same period. Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride as evident in HQ Portfolio performance metrics. Given the current uncertain macroeconomic environment with high oil prices and elevated interest rates, could DIS face a similar situation as it did in 2021, 2022, and 2023 and underperform the S&P over the next 12 months – or will it see a recovery?

Now, the stock could have considerable potential for gains if it recovers to 2021 levels. Returning to the pre-inflation shock level means that Disney stock will have to gain about 133% if the stock recovers from $86 currently to its pre-shock highs of about $200 per share. A couple of factors could drive Disney stock higher. Disney has been increasingly focusing on boosting profitability for its streaming business. Over Q3, Disney’s three flagship streaming services Disney+, Hulu, and ESPN+ reported about $47 million in operating profits, versus a loss of $512 million in the year-ago period. Disney’s theatrical business is also seeing a revival, with the blockbuster success of the new animated movie Inside Out 2. However, we presently estimate Disney valuation to be around $137 per share, which is about 50% ahead of the current market price. While Disney stock is undervalued, we think that the upside for the company in the near term could be limited by a mixed economy and weaker consumer confidence which are likely to impact its parks business, which has been a cash cow of sorts in recent years. Disney’s Experiences reporting segment, which includes theme parks and cruise liners, accounted for about 70% of the company’s total operating profit last year.  Our detailed analysis of Disney’s upside post-inflation shock captures trends in the company’s stock during the turbulent market conditions seen recently. It compares these trends to the stock’s performance during the 2008 recession.

2022 Inflation Shock

Timeline of Inflation Shock So Far:

• 2020 – early 2021: An increase in money supply to cushion the impact of lockdowns led to high demand for goods; producers were unable to match up.
• Early 2021: Shipping snarls and worker shortages from the coronavirus pandemic continue to hurt the supply
• April 2021: Inflation rates cross 4% and increase rapidly
• Early 2022: Energy and food prices spike due to the Russian invasion of Ukraine. Fed begins its rate hike process
• June 2022: Inflation levels peak at 9% – the highest level in 40 years. S&P 500 index declined more than 20% from peak levels.
• July – September 2022: Fed hikes interest rates aggressively – resulting in an initial recovery in the S&P 500 followed by another sharp decline
• October 2022 – July 2023: Fed continues rate hike process; improving market sentiments help S&P500 recoup some of its losses
• Since August 2023: Fed has kept interest rates unchanged to quell fears of a recession, although rate cuts are expected in 2024.

In contrast, here’s how DIS stock and the broader market performed during the 2007/2008 crisis.

Timeline of 2007-08 Crisis

• 10/1/2007: Approximate pre-crisis peak in S&P 500 index
• 9/1/2008 – 10/1/2008: Accelerated market decline corresponding to Lehman bankruptcy filing (9/15/08)
• 3/1/2009: Approximate bottoming out of S&P 500 index
• 12/31/2009: Initial recovery to levels before accelerated decline (around 9/1/2008)

Disney and S&P 500 Performance During 2007-08 Crisis

DIS stock declined from nearly $29 in October 2007 to $17 in March 2009 (as the markets bottomed out), implying that the stock lost over 40% of its value through the drawdown. However, the stock rebounded strongly to over $32 by early 2010. The S&P 500 Index saw a decline of 51%, falling from levels of 1,540 in September 2007 to 757 in March 2009. It then rallied 48% between March 2009 and January 2010 to reach 1,124.

Disney Fundamentals Over Recent Years

Disney’s revenues have risen from around $65 billion in 2020 to about $89 billion over the last 12 months, as the company’s theme park business saw footfalls and average spending rebound as Covid-19 lockdowns were eased. Higher revenues from the streaming business have also contributed to top-line growth. While the company posted a net loss of about $2.9 billion in 2020, as the theme park operations struggled amid the Covid-19 surge, net income picked up to $2.35 billion by FY’23. 

Conclusion

With the Fed’s efforts to tame runaway inflation rates helping market sentiment, Disney (DIS) stock has the potential for gains once fears of a potential recession are allayed.

[1] Returns as of 8/9/2024
[2] Cumulative total returns since the end of 2016

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