Disney (DIS) reported another quarter of massive subscriber gains for Disney+ and steady growth for the Hulu and ESPN streaming services.  Subscribers for Disney+ came in at almost 74mm vs expectations of 65mm, growth of about 16mm subscribers since the end of last quarter.  About half the gain came from India, where DIS charges less than $2 for the rebranded Disney+ Hotstar service DIS acquired in the acquisition of Fox’s entertainment assets.  Some investors discounted the subscriber gain due to India but Northlake is OK with these gains as DIS likely has modest pricing power and India has been a tough market to crack even for Netflix (NFLX).

Another issue that held back DIS post-earnings was strong comments from management indicating an increased content spending forecast could be announced at the upcoming analyst meeting.  There has been a long-running debate at NFLX over whether the company could ever produce significant free cash flow given a need to spend ever more on content or risk subscribers plateauing or even declining.  A similar debate is underway at DIS.

Given the $212 billion market cap on NFLX against $255 billion for DIS, at Northlake we are not very concerned about the subscriber mix or content spending.  As we noted in last quarter’s DIS update, if you value the streaming services at 50% of NFLX, you get DIS theme parks, cable and broadcast networks, and film studio at just 10X EBITDA, a discount of roughly 1/3^rd to historical valuations.  While COVID has accelerated long-term challenges for cable and broadcast TV and created new challenges for theme parks and the film studio, we feel this discount is too large.  Furthermore, we think DIS streaming services have a chance to become more valuable than 50% of NFLX.  It is important to note that despite missing the huge NFLX stock gains, we do not think the stock is currently overvalued.

Independent of the earnings report, DIS is a big beneficiary of the positive vaccine news from Pfizer and Moderna.  This news takes on added importance given that DIS cut theme park losses by almost half in the latest quarter with the California park still closed and other parks operating at severely limited capacity.  Demand has been surprisingly strong even amid higher COVID case counts.  Perhaps theme parks can return to normal in 2022, providing valuation support to DIS.  EPSN also benefits from a vaccine as it insures that sports are back to normal which could boost recently weak sports ratings.  Finally, getting films back in theaters is important for DIS given the massive financial success for films from Marvel, Disney, Star Wars, and Pixar that benefit from a theatrical window.

Northlake continues to see DIS worth $150+ in the near-term with much more potential as the COVID skies clear and if a path to profitability in streaming becomes clear.  We should learn more about streaming at the upcoming analyst day in December.  There is some short-term risk to DIS if content spending is above current expectations, but we think investors will underwrite the spending given the rapid subscriber growth at Disney+ and the potential for the Star-branded general entertainment service yet to be unveiled.

DIS is widely held by clients of Northlake Capital Management, LLC, including in Steve Birenberg’s personal accounts.  Steve is sole proprietor of Northlake, a registered investment advisor.  Northlake’s regulatory filings can be found at www.sec.gov.  DIS is a net long position in the Entermedia Funds.  Steve is portfolio manager and managing partner of Entermedia, long/short equity hedge funds focused on media, entertainment, leisure, communications, and related technologies.