North America Region The Walt Disney Company

Stock Pitch

Bella Fantini

Will Galvin

Karl Arnold

Zoe Hutchinson

Mark Tighe

Tamas Bartha

Charlie Pardoe

James Wilson

Eric Maynard

Hamish Leckie

Anna Grosul

Felix Schlueter

Laureline Chatelain

Hashim Khan

Iain McComish

Bharat Batra

Svenja Grundmann

Siobhan Ordonez

Scott Robertson

DIS:NYSE 21.11.14

The Walt Disney Company

COMPANY OVERVIEW Domicile: Burbank, CA, USA MCAP: $152.69 bn (USD) 5Y Growth: 195.95%

Revenue Breakdown by Segments

The Walt Disney Company, together with its subsidiaries and affiliates, is a

8%

3%

Media Networks

leading diversified international family entertainment and media enterprise with five business segments, Media Networks, Parks & Resorts, Studio

Parks & Resorts 15%

Studio 43% Entertainment Consumer Products Interactive

Entertainment, Consumer Products, and Interactive Media. Depicted in the Graphs is the Revenue and Income Structure of the Walt Disney Company by segments. In Fiscal 2014, Studio achieved record operating income of $1.5 billion - a >100% increase from previous year - and a record increase in revenues increasing 22% from previous year 2013. These numbers were the

31%

result of Disney releasing four of the year’s biggest movies: Frozen, Guardians of the Galaxy, Maleficent and Captain America 2, most of which are franchise films. In addition, the five movies that Disney has released under Marvel have averaged over a billion dollars in global box office

Operating Income by Segment

sales, and the seven major animated films under Pixar and the Disney brand have 10% 1%

each averaged $750 million in global box office sales. Over the next three years, Disney is to release a total of 21 tentpole movies compared to 13 in the last three

Media Networks 12%

Parks & Resorts

years. The acquisitions of Pixar, Lucas films and Marvel have created great 56%

momentum and we expect this momentum to translate in enhanced overall performance as the company seeks to leverage their creative content of Studio Entertainment across all business units.

21%

Studio Entertainment Consumer Products Interactive

INVESTMENT RATIONALE Disney is coming off 4 consecutive years of record performance, culminating in record revenue ($48.8bn), operating income ($7.5bn) and EPS ($4.26) in FY2014. From a bottom-up perspective, Disney is poised to continue its sustained growth across business segments. Disney is the market leader in the entertainment industry and its unrivalled library of brands, franchises and characters has proven appeal. Disney plans to launch more studio releases and franchises in the next 3 years than in the past 3, and this creative content will be leveraged across all business divisions. Furthermore, Disney’s management has proven its ability to effectively integrate strategic acquisitions into the Disney brand, such as its 2009 acquisition of Marvel films: the five Marvel films distributed to date have averaged almost $1bn in the global box office and incorporated tie-in rides, merchandise and content. Disney’s recent $4bn acquisition of Lucasfilms (Star Wars) will be a significant revenue driver in the next 5 years, as well as other growth opportunities such as Disneyland Shanghai. Media Networks, the most important division by revenue generation, faces an evolving distribution landscape with consumer demand shifting towards online digital content. Yet with the strength of its television brands (ESPN, ABC, Disney Channel), its wide viewership and management’s industry expertise (33% stake in Hulu), Disney is in a prime position to thrive in the evolving distribution environment. From a top-down perspective, Disney will capitalize on predicted US economic growth and increasing US consumer confidence. Disney relies on discretionary spending across all business divisions, and consumer confidence and spending is currently at its highest point since 2007 and © University of St Andrews Investment Society

2

DIS:NYSE 21.11.14

The Walt Disney Company

increasing. For Media Networks, the increase in subscriptions and ad revenues due to these trends are expected to offset the increase in programming costs. And Parks & Resorts, which has already profited from increased attendance and guest spending in recent years, is expected to continue to profit from improvements in the economic landscape. With an operating margin of 12%, despite high investment in the Shanghai Theme Park and increased programming costs in Media Networks, Disney is expected to effectively monetize on these revenue drivers.

MARKET POSITION Disney has continued to perform well against its competitors, showing YOY growth in revenue and operating income since 2010 and 222.65% growth in stock price compared to the 87.76% shown by the S&P 500 over the last 5 years. A continued commitment to quality and innovation has encouraged the growth of the Disney Corporation. Its market share of the movie market has been increasing since 2008 and currently sits at 16.6% placing Disney at 3rd in the sector despite this only accounting for 14.5% of their revenue compared to Time Warner's 40% and21st Century Fox's 31% (1st and 2nd in the sector respectively).The strength of Disney's consumer products sector also places them as being the 3rd largest toy manufacturer in the world. Disney also has a 42% market share in Parks and Resorts, a 20% share in media networks and a 30% share in cable networks positioning them as first or second in each of these areas. Brand loyalty and recognition provides Disney with a wide economic moat that has allowed them to monetize on past brands as well as acquiring and creating new franchises such as Frozen, Toy Story, Marvel and most recently Lucas Films. This has helped Disney to continue to give Disney multigenerational appeal. They have shown in the past that they have been able to use box office successes to generate profitable new consumer products, park attractions, TV shows and interactive media products. Disney harnessed the success of Frozen in every sector of their business: a 10.2million viewer generating Frozen addition was made to Disney's ABC Family show Once Upon A Time, a sell-out Disney On Ice Show was created, 3 million Frozen dresses have been sold in North America alone, a hugely popular app has been made, etc. The unique nature of the Disney's brand also provides them with significant pricing power through their superior reputation and favoured position by children and adults alike. With 21 new movies set for release over the next five years, a solidification of the popularity of ESPN through the acquisition of major sports programming rights, key investments into their interactive media and a new theme park opening in Shanghai, Disney's position in the market seems relatively secure and likely to continue to expand.

GROWTH PROSPECTS AND RISK While the Walt Disney Company faces a number of market trends which create risk exposure, management has been effective at mitigating those risk through leveraging its industry expertise. Concerns stem from minimal decreases in operating income (OI) in Media Networks, the company’s largest segment accounting for half of total OI, driven by rising sports costs. Affiliate fee growth was only 4% vs. market expectations of 7%, held back by fewer ESPN subscribers and contractual agreements. However with contractual agreements in place for the NBA, MLB, FIFA World Cup, NFL, SEC Network, and BCS College Football Playoff, subscriptions are expected to accelerate in 2015. Disney is also adopting well to changes distribution channels and industry dynamics and anticipating shifts in consumer patterns, shown through its stake in Hulu and contractual agreements with Netflix. Another risk factor is the decreased Park & Resort attendance and consumer spending, the company’s segment with the least net profit margin. The 20% increase in OI over the last quarter was mainly due to the increased strength of domestic operations with increased attendance and spending at these parks. Results at the international parks were lower compared to last year (same quarter) driven by lower results at Disneyland Paris. This supports the hypothesis that earnings for Parks & Resorts is highly © University of St Andrews Investment Society

3

DIS:NYSE 21.11.14

The Walt Disney Company

correlated with economic performance of host countries. With the recapitalization of the Disneyland Paris operations, and further growth potential driven by MyMagic+, which early returns have shown encouraging results, leading to an overall increase in per capita spending up 6%, the company has taken measures to reverse these trends. Overall revenue for international Parks & Resorts will also pick up with the opening of Disneyworld Shanghai in early 2015. Lastly, the company is highly dependent on the success of its tentpole movies. The $4bn acquisition of Lucasfilms represents Disney’s greatest growth opportunity in Studio Entertainment, with another Star Wars trilogy in the works and huge potential for related rides, video games, consumer products and TV shows. While new franchises and upcoming movies could create immense momentum for revenue growth via the leveraging of such franchises throughout all business segments, underperformance might exert significant downward pressure on stock prices considering that the company is trading at a 2% P/E premium when compared to its closest competitors.

FINANCIAL POSITION For the last 5 years The Walt Disney Company has seen consistent strong growth in revenue, with a compound increase of 25.74% since 2011. This is a higher rate of growth than close competitor Time Warner Inc. (TWX) but not as high others, notably TwentyFirst Century Fox, Inc. (FOXA). In terms of revenue it remains the market leader with $41.81bn received in 2014. This figure is an impressive 49% higher than that of FOXA (32.69bn ttm). Gross Income has remained positive and growing for the past 5 years as well, with a compound increase of 60.06% over the since 2011. This trend suggests efficient management following the recent $4bn takeover of Lucasfilm in 2012. In evaluation of efficiency, DIS has a Cash Conversion Cycle of -0.83 (ttm). This compares favourably with the market average, falling well below competitors (TWX CCC: 123.10 ttm). The current ratio stands at 1.14, with a quick ratio of only 0.87. These figures although not high compare well with the industry averages and are indicative of the industry rather than inefficient or high risk structuring. Encouragingly, debt/equity ratio falls well below the industry average at 0.28 in the last quarter (stable since 2012), which suggests intelligent financing of recent takeovers and control of debt, along with explaining the stable growth in earnings. DIS ROE stands at 16.62% and has grown consistently for 5 years, mirroring the increase in profitability over the same period. Trailing P/E stands at 20.88, which stands fractionally above the market average. Uncertainty with regard to primary risks related to profitability, including changes in US, global or regional economic conditions and changes in technology and consumer consumption patterns cause the forward P/E to fall to 16.44.

PRICE FORECAST (5 year Investment Horizon) The price forecast in this section follows the sustainable growth rate framework. This is the rate at which equity, earnings, and dividends can continue to grow indefinitely assuming that ROE is constant, the dividend payout ratio is constant and outstanding equity remains constant. ROE = Net Margin x Asset Turnover x Financial Leverage (DuPont analysis) Sustainable growth rate = (1 – dividend payout ratio) x ROE, where (1 – payout ratio) is referred to as the retention rate, and hence the proportion of net income that is not paid out as dividend and thus increasing equity. Medium Growth Scenario: In the medium growth scenario, it is considered that status quo of key performance indicators remains constant. In the scenario, management holds its commitment to return 20% of earning to shareholder either via dividends or stock repurchases. Return on equity is also assumed to remain constant and the number of shares outstanding remains unchanged. This results in a constant sustainable growth rate of 13.365% and the following estimated 5 year share price forecast: Estimated 5-year share price increase (Medium): © University of St Andrews Investment Society

4

DIS:NYSE 21.11.14

The Walt Disney Company

Diseney

2014

2015

2016

2017

2018

2019

Share Price

89.26

101.19

114.71

130.05

147.43

167.13

Dividend

0.86

0.97

1.11

1.25

1.42

1.61

High Growth Scenario: The high growth scenario considers positive changes in key performance indicators. More specifically, it is assumed that both (1) asset turnover and (2) net margin increase over the next five years while the number of share outstanding is being reduced. Increases in asset turnover are justified by improving economic indicators, the number of new franchises and movies to be released by the company which will results in exponential revenue growth. Decreased capital expenditure will improve net margin as investments in Studio & Entertainment and Parks & Resorts are forecasted to decline. This increase in ROE is further backed by both technical analysis assessing historical values and multiple analysis in comparison with peer companies. Upside potential in ROE over this period as assumed to be 5%. This results in the following share price and dividend forecast: Estimated 5 year share price increase (High): Disney

2014

2015

2016

2017

2018

2019

Share Price

89.26

101.96

117.18

136.18

159.34

187.74

Dividend

0.86

0.98

1.13

1.32

1.54

1.81

Exit strategy: A low growth case scenario is detailed here with a consequent recommendation for exist strategy. This scenario takes the risks in consideration which Disney is exposed and namely: (1) inflated programming costs, (2) decreased park attendance and international performance and (3) poor film performance. Such a scenario would lead to a decrease in asset turnover and net profit margin. While such a scenario is unlikely according to our consensus, any position should be liquidated, as margins could be negatively impacted over an extended period. Exit should be executed should net margin fall below the 10% threshold excluding any non-reoccurring expenditures. As the company currently trades at a 2% P/E premium compared to closest competitors, downside potential is significant.

© University of St Andrews Investment Society

5

DIS:NYSE 21.11.14

The Walt Disney Company

Appendix: KEY MANAGEMENT & COMPENSATION Chairman and CEO is Robert A Iger, who began his career at ABC (Disney-owned) in 1974 as a Studio Supervisor. He has been with the Company ever since and became Chief Executive Officer and Member of Executive Committee at the Walt Disney Company in 2000. Since 2011, he also hold a position as Independent Director, Chairman of Nominating & Corporate Governance Committee and Member of Audit & Finance Committee at Apple Inc. Executive Management receives below 10% of total compensation in salary and are further incentivized through shareholding schemes. Degree shown in the table below: Major Direct Holders (reported in Feb 2014) Holder Shares 1 Robert A. Iger 2 Alan N. Braverman

1.258.882 216.271

3

James A. Rasulo

164.553

4

Christine M McCarthy

92.254

5

Judith Estrin

61.144

Additional Info Holder CEO & Chairman senior executive vice president, secretary and general counsel of The Walt Disney Company Chief Financial Officer and Senior Executive Vice President at Walt Disney Company Executive Vice President of Corporate Real Estate & Alliances at The Walt Disney Company and has been its Treasurer since January 2000 Former Director and Member of Governance & Nominating Committee

SHAREHOLDER STRUCTURE Top Institutional Holders Holder

Shares

% Out

Vanguard Group, Inc. (The)

81,062,324

4.72

7,216,978,705 Sep 30, 2014

State Street Corporation

67,567,547

3.94

6,015,538,709 Sep 30, 2014

FMR, LLC

50,753,341

2.96

4,518,569,949 Sep 30, 2014

Massachusetts Financial Services Co.

46,124,208

2.69

4,106,438,238 Sep 30, 2014

State Farm Mutual Automobile Insurance Co

42,206,018

2.46

3,757,601,782 Sep 30, 2014

BlackRock Institutional Trust Company, N.A.

42,220,811

2.46

3,758,918,803 Sep 30, 2014

Capital World Investors

31,453,705

1.83

2,800,323,356 Sep 30, 2014

Bank of New York Mellon Corporation

28,765,359

1.68

2,560,979,911 Sep 30, 2014

Northern Trust Corporation

24,279,627

1.41

2,161,615,191 Sep 30, 2014

Price (T.Rowe) Associates Inc

22,130,554

1.29

1,970,283,222 Sep 30, 2014

© University of St Andrews Investment Society

Value* Reported

6