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August 08, 2006

Disney 3Q06 Earnings Preview

The real excitement surrounding 3Q06 earnings from Disney (DIS) will concern how it impacts the outlook for FY07. Despite strong fundamentals and consistent double-digit growth, DIS shares have stalled over concerns about 2007. Recently, estimates have been falling and now reflect just over 10% EPS growth. Concerns surround tough comps for the theme parks, slowing affiliate fee growth at ESPN, and a plateau for the turnaround at ABC. On the flip side, the Studio is performing very well which is setting up big home video profits, cost cutting at the Studio will be significant, and the outlook for ESPN and Theme Parks is just for modestly lower growth. I remain on the bull side of this debate and expect 3Q06 results and commentary to support my view.

For 3Q, DIS is expected to report EPS of 44 cents on revenues of $8.61 billion. EPS should grow over 10%, revenues over 11%, and operating income about 25%. Operating income is benefiting from favorable timing on revenue recognition at EPSN that has penalized results year-to-date and a huge turn at the Studio which posted a loss a year ago....

Broadcasting is expected to show double digit revenue growth but incur a double digit decline in operating profits. The quarter witnessed good ratings and scatter pricing for ABC but the company spent heavily on pilots for the upcoming season where 10 new shows are on the schedule.

Over 75% of revenue at Cable Networks comes from ESPN. ESPN has enjoyed strong ratings and will recognize an extra $50 million in deferred revenue this quarter. The Disney Channel also could provide a boost this quarter due to the phenomenal success of High School Musical. Look for a 15% gain in revenues and a 25-30% gain in operating income.

Theme Parks are expected to show revenue and operating income growth of 10%. I think there could be some upside to the operating income estimates as margin expansion has been a hallmark of recent parks performance. The big question in Theme Parks is whether the tough comparisons against the 50th Anniversary fueled attendance growth will put a big dent in FY07 growth. The parks in Europe and Hong Kong are expected to at least breakeven this quarter.

The Studio will witness a big turnaround against a year ago when large write-offs for Miramax pushed the segment to a loss. This year the box office comparison is easy while the home video comparison is tough. Revenues are expected to rise 9-10% with operating profits of $100 to $125 million. Studio results can be very volatile relative to current estimates. Marketing spend for Cars and Pirates of the Caribbean: Dead Man’s Chest will hold back the quarter but the December quarter should be enormous when DVDs for both films hit store shelves.

Consumer Products is the smallest division by far but it could produce a big gain as apparently merchandise sales for Cars were among the best ever for a DIS film.

A couple of other things to be looking for on the conference call are the size of the losses for the Disney and ESPN wireless MVNOs, the magnitude and timing of savings on the cost cutting at the Studio, and an update on the sale of the company’s radio operations. With the Emmis Communications deal falling apart, there are probably fears that DIS’ deal to sell radio could be in jeopardy – that would be a definitive negative.

Posted by Steve Birenberg at August 8, 2006 09:27 AM in DIS