Why Disney's a Winner, But This Stock May Not Be

David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The best media companies make strategic acquisitions that diversify across multiple mediums and target multiple demographics. And no media firm, in my view, is as successful in doing this as is Disney. Below, I review why Disney's acquisition of Lucasfilm made sense from a value perspective. I also provide my more negative take on competitor CBS.

Walt Disney (NYSE: DIS)

Disney's acquisition of Lucasfilm made headlines across all of the major entertainment and financial journals. While anyone can go out an make an acquisition, when a company does it, it should help unlock synergistic value. Fortunately, Disney has a history of developing brands and successful marketing them in films, toys, theme parks, and television shows. With such a large distributional reach, Disney has more to gain from Lucasfilm than just the addition of market power. It is not just a "tack-on" buy; it is a value-enhancing integration that will greatly expand the reach of Lucasfilm products.

To see how Disney can create value from integrating Lucasfilm, consider this: Disney recently entered a partnership with Hasbro to create an Angry Birds version based on Star Wars. And on CNBC, Disney's CEO, Bob Iger, revealed that the company will launch standalone films involving Star Wars characters. Fortunately, Disney has a history of executing on executions from Pixar to Marvel. 

It also has a history of executing. In the fourth quarter, it beat expectations on both the top- and bottom-lines. Revenue grew 5% year-over-year and came out $130 million ahead of consensus. Momentum was felt across nearly all sectors. The company's weakest point has come from interactive division, which is losing hundreds of millions. The release of Disney Infinity is aimed at turning the tide. This is a video game launch that makes use of Pixar characters. One can only imagine what the introduction of Star Wars characters, which have a history of making for popular video games, will have on the Interactive division.

CBS (NYSE: CBS)

Despite getting top ratings during the Super Bowl, CBS has left many wondering whether the entertainment company made the most of its ad time. Some felt that it spent too much time advertising its own programs instead of putting in ads that would have gone for $3.5 to $4 million per placement.

The Street has also had a relatively tepid outlook on CBS. Zacks lists the broadcasting company as “neutral” with a price target of $42. Other research companies also didn’t raise their ratings. Barclays and UBS are the two biggest exceptions, which have raised their price targets to $46 and $45 with an equivalent "buy" rating. But the stock is already at around $43, so there is not much upside at this point. The stock is also at its 52-week high after rising 53.8% from the 52-week low.

With a free cash flow yield of less than 4% and a PE multiple of 18.5, I find CBS relatively expensive. I encourage avoiding the stock, especially since 5-year has been in the low single-digits and the return on invested capital is 100 basis points below the industry average.

Closing thoughts & stock fundamentals

Disney has compelling stock fundamentals. Despite being at its 52-week high, it is reasonably priced at 18.6 times past earnings versus an industry average of 19.5. In addition, it is generating a decent amount of return on invested capital at 10.9%. 17 out of 25 reporting analysts rate the stock a "buy" or better, and no analyst rates it a "sell." Despite my criticism of CBS, it should be noted that it is generating an even higher return on invested capital at 11.5% for an even cheaper 18.2x multiple.

For a risky value play, I would consider also adding Time Warner (NYSE: TWC) into the mix. The firm only trades at 13 times past earnings but still has strong trends. EPS grew by a rate of more than 13% over the past 5 years, and it is expected to grow by a rate of over 11% over the next 5 years. If these estimates prove accurate, the multiple will either have to expand right away to generate significant annualized returns, or the stock will produce, on average, 10%+ annual returns. The consensus price target is at around a 15% premium to the prevailing price.


David Gould has no position in any stocks mentioned. The Motley Fool recommends Walt Disney. The Motley Fool owns shares of Walt Disney. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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