Is the Disney Magic Gone?

How about our investment's happily ever after? More on this story below.

• Will Bob Iger’s return jump start the company’s recovery?
  
• Analysts expect the company to earn $4.14 per share in 2023
• Below $100 per share makes it available at a modest value vs. projections

The entertainment titan, long known for high-quality, family-friendly entertainment is showing significant signs of struggling. First, it eliminated its dividend when COVID hit — a seemingly prudent move at the time from a business so reliant on entertainment-related spending. Yet even after the theme parks reopened and people rushed back to vacations, the company’s dividend remains at $0, an ominous warning sign of the continuing problems at the entertainment titan.

As if to confirm the company’s continuing problems, Disney recently announced a plan that included a hiring freeze and cost cuts.  And then, it announced the biggest bombshell of all -- its former CEO Bob Chapek would be stepping down shortly after getting a three-year contract extension, to be replaced by his predecessor Bob Iger. 

Walt Disney Co

A mess to be sure -- but is it fatal?
Leadership turmoil, dividend cuts, and a heavy emphasis on cost containment rather than return on investment all are clear signs of a business in crisis. On top of that, Disney’s stock has dropped from its 2021 year-end closing price of $154.98 to a recent price of $95.93 — a fall of over 36%.  That’s farther than the market as a whole, which is sign that investors are concerned about its prospects as well.

Still, the decline in Disney’s stock price does make it a more attractive value than it was before. After all, you can estimate a fair value for any given business based on the amount of cash it’s expected to generate in the future. If you discount those future cash flows to what they’re worth today, then you end up with an educated estimate of what the business is worth right now.

When it comes to Disney, analysts expect the company to earn $4.14 per share in 2023 and $5.35 per share in 2024, with a whopping 25% annualized earnings growth rate over the next five years.  For a large and mature company like Disney, that’s an exceptionally fast growth rate. Yet given the very real challenges the company is facing at the moment, it’s also a sign that the people that follow Disney the closest expect that the business will recover relatively quickly.

And that potential recovery is where the opportunity sits for investors. If you take those earnings estimates and discount them at a 10% annualized rate, it’s fairly straightforward to get to a fair value estimate of around $115 per share for the company. 

While the future is never known until it takes place, Disney’s recent market price below $100 per share makes it available at a modest value vs. those projections. As a result, if you believe that returning Bob Iger to the helm is the catalyst that will spark a strong recovery for the company, then the current market price looks like a reasonable one to pay.

But what if the company doesn’t recover quite as quickly?

Of course, those analyst estimates are just that — estimates. There’s no guarantee that Disney will recover as quickly as it would need to in order to be worth the $115 from this discounted cash flow model. That’s where its recent price of $98.87 comes in handy. As a price below that fair value estimate, it represents a modest discount -- what value investors call a margin of safety  -- vs. fair value price. 

That’s the amount that an investor’s assessment of the future can be wrong by, while the investor should still be able to wind up reasonably alright over time. So that raises the real question you should ask yourself if you’re considering an investment in Disney: is today’s price a “good enough” deal? If you believe that Bob Iger’s return will jump start the company’s recovery, it just might be. 

At the time of publication, Chuck Saletta did not own shares of any company mentioned in this article.