Some may wince at The Walt Disney Company’s (DIS) forward PE ratio of 18.4 and avoid the stock because it trades higher than the S&P 500’s forward PE of 17. However, Disney is only trading 8.8% higher than the S&P 500 on a forward earnings basis. I think that Disney’s valuation is justified due to the company’s revenue and earnings growth consistency. This consistency gives the stock a high degree of predictability when looking forward. The consistency in revenue and earnings stems from Disney’s brand leadership in each segment.
Disney has increased revenue annually at single digit rates for at least the past five years. The company is expected to continue that growth for FY15 and FY16 according to analysts’ estimates. Even more impressive is Disney’s earnings growth which increased at an average annual rate of 18.8% for the past five years. Looking forward, analysts’ expect Disney to increase earnings at about 13% for both FY15 and FY16. Since the company typically exceeds its earnings estimates for most quarters, Disney could grow earnings at a slightly higher rate that what analysts’ are expecting.
Disney is valued about 8.8% higher than the S&P 500, but its earnings growth rate exceeds the market’s growth by a larger margin. For example, the S&P 500 is expected to average 8% annual earnings growth over the next five years, while Disney is expected to average about 16% annual earnings growth over the next five years. So, although Disney is only valued 8.8% higher than the S&P 500, the company’s earnings growth has the potential to approximately double the S&P 500’s earnings growth. Disney’s earnings growth is expected to be 100% higher than the earnings growth of the S&P 500. Even if Disney only achieves 10% annual earnings growth over the next five years, it would still be 25% higher than the S&P 500’s expected growth. Therefore, with Disney only valued 8.8% higher than the market, the stock still looks like a bargain.
When a company consistently achieves earnings growth that exceeds the broader market’s earnings growth, the stock typically outperforms the market. This is exactly what happened to Disney’s stock over the past five years. I would expect the same thing to continue as Disney continues to grow family oriented entertainment in all of its segments. The company’s consistency in growth leads to a high degree of predictability for the stock. Therefore, the higher than average valuation is justified because there is not much uncertainty to Disney’s core businesses.
Disney’s brand leadership is evident in the growth of its core businesses. There is plenty of advertising revenue strength in the broadcasting business with ABC and the Disney channel. Although ESPN showed some weakness last quarter, the company is confident that it will continue to grow over the long-term. ESPN is such a strong brand for sports fans that its continued growth is inevitable. There are repeating events such as March Madness, college football, fantasy football, baseball coverage, etc. that will have fans hooked for the future. This means that advertising revenue will always pour in.
The Parks and Resorts segment is likely to continue to grow as Disney’s parks, resorts, and cruises remain a top vacation choice for many young families. The Disney brand has been proven enough over time that parents have the confidence that the whole family will have a great time at the company’s destinations. To children, Disney vacations are like a ‘dream-come-true’ experience. Disney’s Parks and Resorts are likely to be enjoyed for future generations as well.
The company’s consumer products continue to show year-over-year revenue increases as Disney effectively ties in its entertainment characters to products that are demanded by children and their parents. Most children’s movies that Disney produces leads to sales of character-related items. This is a model that can easily be continued successfully. Little girls will never tire of wearing their favorite Disney princess dresses and the boys will never tire of having their own light saber battles while wearing Darth Vader masks.
So, to conclude, the company’s growth consistency for both revenue and earnings more than justify its slightly higher than average valuation. Disney is a brand that is likely to continue to live on for the long-term. Disney’s above average earnings growth is likely to lead to above average gains for the stock. I acknowledge that the stock currently looks temporarily overbought and due for a pullback. I also acknowledge that the stock is prone to sharp sell offs when the broader market sells off. However, my thesis for the stock is that it will continue to be a market outperformer over the long-term. This will be driven by consistent, above-average earnings growth, which leads to a high degree of predictability for stock growth.