Disney falls on concerns about its theme parks. Why we’d buy the stock

Shares of Disney fell Wednesday as concerns about attendance at its theme parks overshadowed streaming profits and better-than-expected headline results. However, the quarter checked the boxes that matter most to us, making the stock decline a buying opportunity. Revenue in the fiscal third quarter totaled $23.16 billion, topping the $23.07 billion expected by analysts, according to estimates compiled by LSEG. On an annual basis, revenue rose 3.7%. Adjusted earnings per share (EPS) rose 35% year over year to $1.39, solidly ahead of the $1.19 estimate, LSEG data showed. Disney Why we own it: We value Disney for its best-in-class theme-park business, which has immense pricing power. We also believe there’s more upside as management cuts costs, expands profit margins through its direct-to-consumer (DTC) products and finds new ways to monetize ESPN. Competitors: Comcast, Netflix, Warner Bros Discovery and Paramount Global Last buy: July 29, 2024 Initiation: Sept. 21, 2021 Bottom line Disney’s streaming results give us the confidence to view Wednesday’s stock decline as one worth buying. The combined streaming business — encompassing Disney+, Hulu and ESPN+ — turned in its first-ever quarterly profit slightly ahead of schedule. And executives expect the business to make more money in the quarters ahead on its way to achieving its previously stated goal of double-digit operating margins. The subscription price hikes announced Tuesday will help, as will the full-scale crackdown on password sharing set to begin next month. “Streaming had been a black hole,” Jim Cramer said Wednesday. “Suddenly, streaming has come bouncing back. And that’s really what matters. I think Disney is a point-blank buy here,” he added, though Club restrictions prohibit us from trading the stock for at least the next 72 hours because Jim discussed the company on CNBC TV Wednesday morning. A big concern among the sellers is Disney’s theme park unit, which missed revenue expectations in the quarter due to a moderation in demand that management expects to last a few quarters. This led to flattish revenue growth for its experiences segment. It’s certainly not ideal to see the company’s profit engine start to misfire, but we’re not alarmed for a few reasons. CFO Hugh Johnston indicated on the company’s May earnings call that park demand was normalizing from its post-pandemic boom, which investors understandably didn’t love at the time. Then, about two weeks ago, CNBC parent Comcast issued weak April-to-June results for its Universal theme parks business, which weighed on Disney’s stock in that session . Now also layer in big picture worries about the health of the U.S. economy and consumer spending, which have grown more pronounced in recent weeks. That murky backdrop for the parks unit is part of the reason Disney closed Tuesday’s session just under $90 a share. It would be a different story if Disney offered these results and measured outlook on the parks business with the stock trading at, say, $110 a share. If that was the case, we’d be looking at a more dangerous situation. Instead, with shares now trading near their lowest levels of the year — and having offloaded stock in April around the highs of the year — we’re able to view Wednesday’s decline opportunistically. We’re reiterating our buy-equivalent 1 rating on the stock. DIS YTD mountain Disney’s year-to-date stock performance. Looking ahead After generating robust third-quarter profits, Disney raised its full-year adjusted EPS growth target to 30%, up from 25% previously. The company’s free cash flow guidance of $8 billion in fiscal 2024 remains unchanged, Johnston said on the earnings call. The finance chief also said Disney continues to look for ways to reduce costs, which helps support earnings growth. Disney has been targeting annualized cost savings of at least $7.5 billion by the end of fiscal 2024. “In big companies, my world view is there’s always opportunity to do more with less,” said Johnston, who joined Disney as CFO in December 2023. He served in the same role at PepsiCo for more than a decade. “So, we’re going to continue to go after it aggressively as we can to both deliver the bottom line and to invest back in the business with all the great opportunities we have.” Now that the major hurdle for combined streaming profits has been cleared a quarter ahead of schedule, Disney expects the profitability to improve in the fourth quarter. Combined operating income was $47 million in the third quarter compared with a loss of $512 million in the year-ago period. Currently, Wall Street expects DTC operating income of $86 million in the three months ending in September. While Johnston reiterated that Disney is striving to reach double-digit margins with “urgency,” he did not offer any additional details on the timeline. At some level, we understand the hesitancy to commit to a specific target, but nevertheless, it would be nice to get a little more color on it. Perhaps a silver lining for now: Johnston said the long-term goal is to “well surpass” double digits. That would be more in line with the kind of margins that streaming pioneer Netflix has been able to achieve. Quarterly commentary Disney’s entertainment business turned in a better-than-expected quarter thanks to revenue and operating income outperformance in all three units: Linear networks, which consists of channels such as ABC Network, FX, Freeform and National Geographic. Direct-to-consumer, which covers Disney+, Hulu and its streaming service in India called Disney+ Hotstar. Content sales and licensing, which includes theatrical distributions and licensing content to third-party platforms, among others. The most important, of course, is DTC, which saw 15% year-over-year revenue growth in the quarter. That’s a slight increase from the 13.2% expansion in the second quarter and matches the first-quarter growth rate. The results were helped by a 20% increase in advertising revenue compared with the year-ago period. Another positive sign: Disney+ subscribers in the U.S. and overseas combined ticked up to 118.3 million as of June 29, up from 117.6 at the end of March. Operating income for the entertainment-focused streaming services was slightly negative, at a loss of $19 million after being positive in the second quarter. But that’s hardly a concern. Management warned in May about the quarter-to-quarter flip, attributing it to the cost of cricket streaming rights for Disney+ Hotstar. And, at this point, getting to profitability in the combined streaming business, which adds ESPN+ into the mix, was the biggest focus. A non-streaming bright spot in the report: Disney’s recent box office success, which helped drive the better-than-expected performance for the content sales and licensing unit. We had been worried that Disney’s movie business had lost its way, but the popularity of “Inside Out 2” and “Deadpool & Wolverine” have proven otherwise. “Inside Out 2” was only in theaters for a few weeks during the reported quarter, while “Deadpool & Wolverine” hit the big screen in late July. While the box office contribution to the financials is important, the success of these movies helps strengthen all parts of the company with its “flywheel” of businesses. For example, CEO Bob Iger mentioned on the earnings call that the first “Inside Out” has seen an increase in viewership on Disney+ thanks to the sequel. Disney’s experiences segment — consisting of theme parks, cruises and consumer products, such as merchandise sales and intellectual property licensing — came up short on both revenues of $8.39 billion and operating income of $2.22 billion. The weakening demand that impacted third-quarter performance is expected to continue for the next few periods. Johnston said revenues for the experiences segment should be flattish in the fourth quarter, while operating income will be down year over year. However, Johnston tried to assuage concerns about a dramatic slowdown. “Obviously, the U.S. consumer is a little bit soft,” Johnston said in a CNBC interview earlier Wednesday. “You’ve seen it from a whole variety of consumer companies reporting. But in reality, people will tend to hang onto their vacations quite strongly because it’s important piece to the family unit.” “One of the things about this business — and it’s a great business because it has such terrific IP [intellectual property] — is it tends to get hit late, it gets hit less and it recovers early relative to the other theme parks that are out there,” he added. “So, I do believe the parks business is in fundamentally good shape. It’s just a little bit softer than it was before.” (Jim Cramer’s Charitable Trust is long DIS. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. 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People watch Walt Disney’s Carousel of Progress attraction at the Magic Kingdom Park at Walt Disney World on May 31, 2024, in Orlando, Florida. 

Gary Hershorn | Corbis News | Getty Images

Shares of Disney fell Wednesday as concerns about attendance at its theme parks overshadowed streaming profits and better-than-expected headline results. However, the quarter checked the boxes that matter most to us, making the stock decline a buying opportunity.

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