I don’t think it’s too surprising that a lot of publicly traded companies have begun suspending their guidance forecasts over the last few weeks. The truth is that the extended, global economic shutdown due to the COVID-19 pandemic is likely to see an even more extended effect, even as countries, states and municipalities begin taking cautious steps towards restarting economic activity. That means big challenges for businesses, not only from the immediate impact from shutdowns and shelter-in-place orders that began a couple of months ago, but also in being able to navigate the balance between getting back to business while keeping workers and customers safe.
Don’t underestimate the complexity of that question. Big portions of the global economy naturally are tied to manufacturing, of all types. Manufacturing companies rely on operating efficiencies to minimize costs; a practical example of that is the assembly line. Being able to put workers closer together means being able to assemble more goods and products at a time. But in today’s world, social distancing requirements aren’t going to go away even as national parks and businesses reopen, simply because there is no effective treatment as of yet for COVID-19. That means that manufacturing processes are going to have to accept and figure out how to adjust to distancing requirements in their manufacturing processes. And that’s just one example – think of other measures, such as at-the-door screening that could provide additional bottlenecks.
Manufacturing isn’t the only place where continued social distancing requirements are going to continue complicating business operations. Restaurants, theaters, and resorts – places we as consumers love to go to be with friends and family to engage with each other – are all going to have to rethink the way they work to keep customers safe. In the most general sense, that means accepting – and enforcing – lower customer volumes in order to keep everybody involved safe. How this will work, and how it will truly impact business operations and profitability is a question that is difficult, if not impossible to forecast.
As I’ve paid attention to market analysts and experts talking about the best places to put investing dollars to work in these curious times, I’ve heard a lot of them talk about buying the stocks that you and I already know and trust, with balance sheets that will enable them to come out on the other side of the economic downturn. I think that makes sense; but it doesn’t necessarily mean that just because you’re familiar with a stock or its brands, that timing doesn’t matter.
Walt Disney Company (DIS) is an interesting example. The company’s latest earnings report is due today after the market closes, with no previous indication of what the numbers will look like, except for a very broad statement that said it has been significantly affected across multiple aspects of its enterprise. Not only are its parks shut down, and could remain closed for the foreseeable future, it has also experienced severe declines in advertising revenue, its film and television studios have been forced to essentially shut down production, and sports are essentially nonexistent right now. I don’t think DIS will be likely to give any kind of future guidance, simply because the complexity of getting all of the different portions of its business going again is likely to be a very extended process. Even when Disneyland or Disney World are allowed to reopen, for example, to what extent will they have to enforce new measures to keep visitors and workers safe? I don’t know what that looks like; but I don’t see the kinds of massive throngs of consumers during peak seasons, with long lines at the most-popular attractions as being part of the equation.
The truth is that, no matter how long it takes, DIS is a multimedia conglomerate that is going to be one of the companies in its industry that weathers this current and ongoing storm better than most. The stock is already down about -30% from its December 2019 high a little above $150 per share, and has managed to rebound from a March low at nearly $79 to reach its current level a little above $100 per share. Even so, the company was showing some cracks in its fundamental profile even before the pandemic started wreaking havoc. That could mean that despite the stock’s discount, it is still neither a good value, nor a smart defensive stock to own right now, even with a long-term perspective in place. Let’s check it out.
Fundamental and Value Profile
The Walt Disney Company is an entertainment company. The Company operates in four business segments: Media Networks, Parks and Resorts, Studio Entertainment, and Consumer Products & Interactive Media. The media networks segment includes cable and broadcast television networks, television production and distribution operations, domestic television stations, and radio networks and stations. Under the Parks and Resorts segment, the Company’s Walt Disney Imagineering unit designs and develops new theme park concepts and attractions, as well as resort properties. The studio entertainment segment produces and acquires live-action and animated motion pictures, direct-to-video content, musical recordings and live stage plays. It also develops and publishes games, primarily for mobile platforms, books, magazines and comic books. The Company distributes merchandise directly through retail, online and wholesale businesses. Its cable networks consist of ESPN, the Disney Channels and Freeform. DIS has a current market cap of $187.2 billion.
Earnings and Sales Growth: As of their last earnings report, earnings declined by almost -17% over the last twelve months, while sales grew about 36%. In the last quarter of 2019, earnings increased about 43%, while sales were 9.2% higher. Expect both of these metrics to show significant reversals in their next report. DIS began showing signs of deterioration in its operating margins, with Net Income as a percentage of Revenues dropping from 13.8% on a trailing twelve month basis to a little over 10% as of the end of 2019. Expect these measurements to show even more drastic declines in the current quarter.
Free Cash Flow: Free Cash Flow in the second troubling sign in the company’s profile in advance of any pandemic effect. In 2018, free cash flow was very healthy, at more than $10.6 billion on a trailing twelve month basis. As of the last quarter of 2019, this number was just $496 million – marking a steady, major drawdown in each quarter of 2019. That also translates to a marginal Free Cash Flow Yield of just 0.27%.
Debt to Equity: the company’s debt to equity ratio is .41, which is a very low number. Their balance sheet report about $6.8 billion in cash and liquid assets against $38 billion in long-term debt. The company should still have enough liquidity to service its debt, but keep in mind DIS bought a lot of debt when it acquired Twenty-First Century Fox in March 2019. That acquisition can account for much of the decline in Net Income and Free Cash Flow, as the company works to integrate those businesses into its own, but it does represent another in a growing list of challenges that are likely to extend through 2020 and into 2021. Even the company’s biggest bright sport – direct-to-consumer, which includes its Disney+ streaming service – isn’t likely to be profitable until 2024.
Dividend: DIS pays an annual dividend of $1.76 per share, which translates to an annual yield of 1.71% at the stock’s current price.
Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but I like to work with a combination of Price/Book and Price/Cash Flow analysis. Together, these measurements provide a long-term, fair value target around $95.74 per share. That means that DIS is overvalued by about -8%, with its bargain price actually down at around $76.50 per share.
Technical Profile
Here’s a look at the stock’s latest technical chart.
Current Price Action: The red diagonal line follows the stock’s decline from late December 2019 to its low point at around $79 in mid-March. It also provides the baseline for the Fibonacci retracement lines shown on the right side of the chart. In April, the stock pushed all the way to the 38.2% retracement line at about $107.50, and even pushed a bit above it before dropping back in the last week. The stock is currently near support at about $100. A sustained break above resistance at $107.50 – meaning that it moves above, and continues to stay above and rise for a day or more – could offer upside to between $116 to $125, where the 61.8% retracement line sits. However, if the stocks drops below $100, it could fall to between $96 and $90 in short order, with additional downside to between $79 and $84 if bearish momentum really picks up.
Near-term Keys: On a strictly long-term perspective, I like DIS – but I don’t like it at its current price, especially under current market conditions and persistent questions about any kind of sustainable recovery from the pandemic. That means the best probabilities lie in short-term trades right now. If the stock can stage a strong rally and push above $107.50, you could consider buying the stock or working with call options, with an eye on $116 as a useful bullish profit target. Watch for a drop below $100, however – I would take that as a strong signal to consider shorting the stock or working with put options, using $96 as a first, quick-hit target, and $90 below that as a more useful bearish profit target.