Full Transcript
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Jack Hough: Hi, it's Jack Hough and this is the Barron's Streetwise Podcast. We're taking a break for Thanksgiving, kind of. Disney made a surprise announcement that Bob Chapek is stepping down after just two years as CEO. Bob Iger has returned to replace him. We've had both Bobs on this podcast. Our audio producer Jackson Cantrell, who's definitely filling in as host this week, called me for some thoughts, which is why I'm talking now, even though I'm not podcasting. I'm just doing some casual talking into this microphone. Coming up, Disney's latest Bob swap and what it means for the stock.
Jackson Cantrell: Welcome to the Barron's Streetwise Podcast.
Jack Hough: We already did that part. We're up to the part where you play some news clips.
Jackson Cantrell: You didn't let me finish. Welcome to the Barron's Streetwise Podcast where we're up to the news clips part.
Speaker 1: When Bob Iger sent the email to employees overnight, apparently many were at an Elton John concert where Bob Chapek was supposed to be introducing Elton John.
Speaker 2: Meet the new boss, same as the old boss, okay? I love the who, but our investor's going to love the fact that Iger is back.
Jackson Cantrell: I called Jack at home to get some quick thoughts. Here's vacation Jack.
Jack Hough: Everybody knew there were some problems at Disney. I mean, obviously the stock had fallen by half, so that's a bad sign. There were criticisms here and there about Chapek up through this past summer, but there was no sign of a major catastrophe for the company. I mean, the earnings at the park had bounced right back. The parks department was earning basically where it was earning before the pandemic. If you're a park visitor, you might complain about rising prices. You might complain about some of the services that you used to enjoy having gone away.But for investors, there was no question that the margins at the park were riding high. At the streaming service, the profits just weren't there, but that's the nature of streaming still is people are saying, "Well, we're spending money now on content because we want to gain a lot of subscribers. The profitability will come." That's what the story looked like this summer, and then you got to the fourth quarter earnings call in early November and that was a disaster.
Speaker 3: This was somewhat of a shocking quarter from Disney. Three months ago, we were here talking about a comeback quarter from Disney. Now, here is Disney today missing on the top and bottom lines.
Jackson Cantrell: Was anything particularly bad, or was it just slowing consumer spending?
Jack Hough: There were some weakening at the parks. That's not a great sign. Disney's line has been, "Hey, nobody minds the price hikes. Nobody minds the missing services. Customer sentiment is riding high." But the big issue in the fourth quarter results was a monster loss for the streaming division, DTC or direct-to-consumer. What Disney has said up until now is that Disney+, its flagship streaming service, would break even in fiscal 2024. We're already in fiscal 2023, so that means next year we break even. I just don't see any sign that that's going to happen. Because if you go back to this fourth quarter result, which is also the full year result for fiscal 2022, it's a $4 billion loss for the direct-to-consumer business.We're already a couple of months to fiscal 2023, the estimate there is that they're going to lose another $3 billion. How do you get to break even from numbers like that? I'm not so sure. If you go back a year ago when the stock price was riding high, Wall Street said, "Hey, that's easily beatable guidance, that guidance to break even by fiscal 2024. Disney will have no trouble." In fact, they were projecting a tidy little profit there for the current fiscal year, but it's just not happening. Here's what it gets me thinking, television used to be lousy. When you had your cable bundle, you paid a fortune for these thousand channels.You only wanted a handful. Most of them you never watched. You didn't see a lot of movie quality TV series. I mean, you saw some good shows, but a lot of lousy ones. You watch shows when the programming directors said to watch them and you watch what they said to watch, and then you had to sit through endless commercials.
Jackson Cantrell: Hey, this commercials have turned into a number of Streetwise references. It wasn't all lost. '.
Jack Hough: What's that?
Jackson Cantrell: Hubba Bubba. New York City. They come up pretty frequently.
Jack Hough: The commercials are content is what you're saying on this podcast.
Jackson Cantrell: Yeah, yeah, we've gotten some mileage out of them.
Jack Hough: What do you have today? Endless choices for consumers. The shows are great. They're not all winners, I get it, but there are movie quality TV series pretty much on every platform. You have your choice. You can start and stop subscriptions over here and over there. You can watch whenever you want. It's a golden age for television viewing, but it's just not profitable yet for the companies. Look at Netflix, they started streaming in 2007 when the iPhone 1 came out. This is not a new business.By now, this business should be financially mature. The cash flow should be ramping up. Netflix is expected to clear just over a billion dollars in free cash this year. That's not a lot, considering the vast billions they've burned to get to this point. We keep pushing back these forecasts for when the profitability is going to come. I'm starting to think that maybe streaming is just never going to be as profitable as legacy television.
Jackson Cantrell: How are the projections so far off? Did they just end up spending more money than they thought? I heard their subscribers are... The numbers are beating expectations. Are the subscribers paying less money?
Jack Hough: Yeah, it's just you don't get the combined profitability that you got when you were getting paid a bunch of different ways, including from advertising. We'll see what happens when you introduce more advertising on streaming. But what you don't change is the amount of consumer choice. Before, consumers with a cable bundle, they couldn't just say, "Hey, I'm going to cancel this, this, and that channel because I don't really want them." But now they can do exactly that with their array of streaming services. Something has to change. I hate to say it, but if you want to get the television world more profitable again, it has to get a little bit lousier for consumers.You need consolidation, right? You need consolidation. Now, companies will say, "We're doing this to reign in our content spending," but really there's so much choice out there for consumers that it's hard to keep them pinned down to one service and keep earning on them. They can go anywhere they want. It forces these companies to race against each other and spend a ton on content to try to attract the subscribers. I don't blame these companies. They had to come up with something. They were losing legacy cable subscribers. By the way, let's not pretend that that business goes to nothing overnight.That business still makes a ton of money and it will for years to come, but it's eroding. They had to come up with an answer because their stock valuations were in the trash. The answer they came up with was, "We'll just migrate everything over to streaming and it'll be great. It'll be just like it was before. We'll make tons of money. In fact, we'll make it all around the world. We'll take the same content spending and we'll get better leverage on it because we'll have a bigger consumer base." It just hasn't become reality yet. They're spending too much relative to the money they're bringing in.
Jackson Cantrell: You can argue whether that was a good or bad decision from all these companies, but for a while it seemed like that was what investors wanted. When interest rates were low, they were rewarding these huge subscriber gains. Is that really Bob Chapek's fault here? Why is he out? All these other streamer stocks are way down too.
Jack Hough: It's a good question. I don't think streaming as being a good or a bad choice. I think it's what everyone had to do. You're right, interest rates have a lot to do with this. Because when they were near zero for the better part of a decade, investors got chased into anything growthy. They didn't mind if you told them the story, "Hey, the profits will come seven years, eight years down the road." That's fine. They just wanted to see that you were bringing customers in. That's what streaming was doing, and now the world has really changed. Now, investors can get a few percent on their savings. They have no patience for story stocks.They want companies where all the big divisions are making money right now. And that is the situation that Bob Chapek stepped into. He can't reinvent the television business overnight. He's a guy with deep experience in the parks. He has used his experience there to make more money from the parks for Disney to help offset these big losses and the streaming investment. What were the missteps? Here's one thing I'm wondering. Based on what we know about Disney, you say, "Wow, this seems really sudden. Disney didn't give any kind of an indication over summer that they were thinking about making a big change at the top."You look at the suddenness of this change and you say, "Okay, maybe everyone just lost confidence overnight with Chapek as a result of that fourth quarter earnings call, or maybe there's something else that we're going to learn." That's what concerns me a little bit. I don't know what that could be. I mean, my main thought is maybe there's just a worse deterioration at the parks than we would expect.
Jackson Cantrell: More Streetwise after this quick break.
Jack Hough: Job number one for Bob Iger, I would think, he has to do a lot of things. He has to figure out ESPN, which doesn't quite fit with the rest of Disney and some people want him to sell it, so that ESPN could maybe become more valuable if they had a big gambling component because sports gambling is taking off. They'll either have to make the case that that belongs in the Disney world or that they could make better money by selling it. They'll have to figure out what to do about the one-third of Hulu that Disney doesn't own.That's owned by Comcast. But the one thing that I think he has to do right away is he's got to allay concerns that are out there about, is there something that we're not seeing? Is there another shoe to drop? Is there something that caused this sudden change that investors don't yet know about? If there's bad news out there, I want all of it now. And if there's not, I'd like to know that there's not. I'm hoping that he will become visible pretty soon about that.
Jackson Cantrell: You mentioned the parks experience. You've recently been to Disney Parks. Do you want to elaborate on that? What was it like?
Jack Hough: Well, look, I'm careful not to become one of these people who say, "Well, in the good old days when I was young," blah, blah, blah, blah, blah, that's usually misguided thinking. Things usually get better over time. We went to Disney a lot. We loved it. We had loads of fun. We stopped going during the pandemic, and we just made our first trip back. I have to say, I'm trying to think about this with as little bias as possible, but the prices were way up. And not just way up, you felt like you were paying two and three times for the same thing. You have to pay a lot for the tickets to go into the parks. Then you have to pay extra for these passes that lets you go on the fast line instead of the slow line for most of the rides.Then you have to pay a third time for that same privilege, but for the really good rides, because the other one doesn't include the really good rides. Now you've paid three times for the same thing, which is going to the parks and getting on some rides, which it kind of feels a little bit insulting after a while. You can't not pay because what has happened is all these systems that allow you to take the fast line, they blow out the wait times in the slow line. They created a problem, and then they are charging to solve it.
Jackson Cantrell: It's a race to the bottom.
Jack Hough: There's little things that we liked. When we first started going to Disney, we would give over our luggage at the airport in New York with these special Mickey Mouse tags, and the next time we would see our bags would be in the hotel room down at Disney World. Now, it sounds like a little thing, but if you have little kids in carriages, it's a big deal not to have to grab bags going through the airport. Then we would get down to the airport in Florida. You go right on the Mickey Mouse bus that would take you right over there. You didn't have to worry about renting a car. You didn't have to get an Uber. Now, both of those things are gone.Is that a price hike? Well, I don't know. I have to pay to get my own transportation now from the airport, so that's a price hike. It's just a little bit more of a pest to have to handle my bags. I get that those things were expensive for Disney. I get that they had to make some tough choices during the pandemic. Let's remember how difficult the pandemic was on that parks business. But boy, everything just feels a lot more expensive, a lot more work, and a little less fun.
Jackson Cantrell: They got to have a new name for services, shrinkflation. I went to a brunch the other day and it was like you get your own water. You bust your own plates. There's no menus. You got to use the QR code on your phone so everyone looks like they're just on Instagram or something when they're ordering. The prices weren't too bad, but everything was just worse.
Jack Hough: What's next? I got to go into the kitchen. I got to fry up my own fajitas. Where do we go from there at some point?
Jackson Cantrell: I'd wash my own plates for 15% discount at some of these.
Jack Hough: You might be onto a new opportunity there.
Jackson Cantrell: All right, so what's next for Disney? Chapek's out. Iger's coming in. Can these problems be fixed?
Jack Hough: Well, it's a good question, but what are the problems? This is my concern. Obviously the one problem is the stocks down. It lost half of its value from the top. Okay, so you got to get that working again. How do you do that? Well, free cash flow is half what it was at the peak before the pandemic. Okay, so now we have to fix that. How do you do that? Well, you're not going to ring any more money out of the parks, not right away I don't think. There's room to bounce back into theaters, but the main thing you have to do is you have to get streaming earning.If Bob Iger knows how to do that, I can think of a half dozen other streaming platforms that would love to hear about it, because everyone is trying to figure it out, and it's just not happening. Netflix has been around for so long. I feel like if there were a point of financial maturity, it would've hit for them already, and it hasn't hit. There's no one out there with more talent in that business than Bob Iger. If anyone could figure it out and fix it, it's him. But the question of, can Bob Iger fix Disney, I don't know. Is it broken, or is it just structurally less profitable than show business has been in the past?
Jackson Cantrell: What if they just make more sequels?
Jack Hough: The sequels are doing just fine. They had the Black Panther sequel. I think it's called Wakanda Forever. I hope I'm getting that right. It did $540 something million in the first 10 days. It was a solid number. There's no problem with superhero sequels, and there are plenty of those to come. They're going to do a Guardians of the Galaxy. They're going to do a Captain America and Ant-Man, and then they've got some reboots. They've got this a new deal for Avatar movies, and they've got an Indiana Jones reboot, which I'm intrigued by. The film slate looks better going forward than it has for about the past four or five months.I think the studio business will bounce back to better economic productivity. I should tell you this, there is room to cut cost in streaming without dialing back on content too much. You can look at the non-content spending for Disney in streaming and it is too high relative to the revenue. It's higher than it is for Netflix by a couple billion dollars. Netflix has a lot more streaming revenue than Disney. There's something going on in non-content spending where you can save some money, but you're just limited to how much you could pull back on the content spending, I think.
Jackson Cantrell: Non-content spending, is that like the data storage, the technology behind their streaming platform, that kind of thing, the algorithms?
Jack Hough: I think it's that and a lot of other stuff. But all of it is stuff where you say, "Wait a second, if we're not spending on the things that customers are buying, is there any room here to make cuts?" No one out there has better assets in entertainment than Disney does, so they have a lot to work with. If Disney can't make it work, I don't know who can. But I don't really know if anyone can make it work to the degree that they made it work during the age of lousy television, because lousy television was a huge money maker.
Jackson Cantrell: Oh man, maybe I'm going to have to start reading books.
Jack Hough: Well, don't let it come to that. Come on! Don't fall into despair. Reading? Come on!
Jackson Cantrell: I guess last question, are there any signals that would convince you that Disney stock is now a buy? What are you looking out for?
Jack Hough: Let me pull it up on the old machine here. You're over 30 times free cash flow, which is not obviously cheap. And then you say, "Well, wait a second, free cash flow is only half what it was at the peak. If you get back to peak numbers, now you've got a decent price stock. Your mid to high teens multiple of free cash flow." But A, I don't know how you intend to get back to peak free cash flow when you've got this streaming beast that you have to spend to support at a time of incredible competition, so that's not going to happen. I don't want to sound flippant, but the stock is certainly a better deal than it was now that it's fallen by half.There is room for Bob Iger to make more money from Disney in the near term by cutting down on some of that non-content spending going on in the streaming side. That could boost free cash flow pretty quickly. I think that the starting point for the stock, if you get free cash flow moving again, you could probably get a decent return out of Disney stock. I don't think it's going to race ahead or race back to where it was in a hurry. I actually think it's more challenging for Bob Iger now than it has been in the past.A lot of his past success, he did many good things at Disney, but he made three transformative deals at the company, buying Pixar and buying Marvel and buying Lucasfilm, which gave Disney most of the big entertainment properties that you see in the movies today. And then he layered those properties on the parks so that you have this really cohesive storytelling company. That's what he has always said, is that storytelling is at the center of the company. But I don't know. Are there more transformative deals to be done? Every step of the way there has been people who are saying, "You're paying too much for Marvel. You're paying too much for Lucas."It turns out he wasn't paying too much because he knew what they didn't know, which was that he could make money on those properties in 12 different ways. Not just movies, but like I said, things at the parks, consumer merchandise, and so on. As impressive as he has been at Disney, I think the job for him is much tougher today.
Jackson Cantrell: All right. Well, thank you so much for that summary. What are you doing for Thanksgiving? Are you cooking?
Jack Hough: I just like to get every holiday catered now, so that we can just relax and focus on fun. We have some family coming over. It's going to be a nice time. We're going to relax from not having to do any cooking, and then we're going to argue about politics.
Jackson Cantrell: That sounds very fun and relaxing. Happy Thanksgiving, Jack.
Jack Hough: Same to you. Talk to you soon.
Jackson Cantrell: Thank you, Jack. Thank all of you for listening. If you have a question for the show, please tape on your phone. Use the voice memo app and send it to Jack.Hough@Barrons.com. That's H-O-U-G-H. Happy Thanksgiving and see you next week.
