Walt Disney Company (NYSE: DIS), the media giant and famous operator of Walt Disney theme parks, has experienced some softness in its media programming line of business, as consumers in the United States increasingly cut their cable TV subscriptions. Despite these fears, Disney remains a formidable force on the media horizon, and its premium sports channel ESPN is likely to continue generating significant operating profits for the company. With business pressures looming, there is a renewed focus on the company's operating and net margins. Also, financial analysts are watching closely to see if Disney's return on invested capital (ROIC) and return on equity (ROE) will drop as a result of business headwinds.
Disney's media business is heavily dependent on the production and distribution of media content across multiple channels, including its own networks ESPN and ABC. Programming and production are the largest cost components for Disney, and they may fluctuate from year to year depending on the amount of movies and other video content in the company's production pipeline. Also, Disney's operating margin depends, to a large extent, on the success and popularity of its movies and other programming content among consumers. Based on the 2015 fiscal year ending on Oct. 3, 2015, Disney has demonstrated an operating margin of 25.21%, which represents the company's 10-year high.
Consumers cutting their cable TV subscriptions and the rising cost of programming can exert short-term pressures on Disney's operating margins. Analysts forecast the company's operating margin will likely decrease within the next one or two years and later stabilize. Because Disney's management showed shrewd capital allocation and ability to keep costs down, it is highly unlikely the company will see a dramatic drop in its operating profits.
Disney is very careful with its borrowings and kept its debt-to-equity (D/E) ratio more or less constant from 2010 to 2015, which resulted in a relatively stable net margin. Net margin is an important metric since it shows how much profit attributable to common shareholders a company earns for every dollar of sales. While tax rates remain relatively constant for the company, Disney's net margin tends to fluctuate as a result of nonrecurring charges, changes in interest expenses and operating leverage. From 2006 to 2015, Disney's net margin ranged between 9.15% in 2009 to 15.98% in 2015, and the average net margin was 12.44%.
Return on Equity
A company's ROE is an important metric as it conveys the idea of how much the company earns per dollar of common equity. Besides increasing earnings, ROE can be affected by changes in shareholders' equity as a result of stock buybacks and significant dividend payouts, which lower equity and increase ROE. Disney's ROE peaked in 2015, at 18.73%, over the last 10 years. The company achieved this high ROE by engaging in massive stock repurchases and significantly improving its profitability. From 2011 to 2015, Disney repurchased common stock worth $24.7 billion, which was partially counteracted by an issuance of various stock-based compensation. Repurchasing their own stocks is especially attractive for companies, whose executives think companies' stocks are undervalued.
Return on Invested Capital
While ROE can give an idea about a company's ability to generate profit for every dollar of equity capital, it is always worthwhile to look at the return on all capital employed by a firm. This is especially true for companies that are heavily leveraged and employ very small amounts of equity capital. Disney managed to keep its debt relatively stable from 2010 to 2015, with the D/E ratio standing at 0.29 in 2015. However, prior to 2010, the debt-to-equity ratio was higher than 0.3 and averaged at 0.35.
The ROIC ratio is calculated by taking the after-tax operating income and dividing it by the total amount of capital, which includes debt and equity. ROIC shows how effective a company is in deploying total capital it acquired from equity shareholders and creditors. Disney's ROIC more or less trailed its ROE due to stable debt ratios, and it stands at 13.9% in 2015. ROIC higher than a company's cost of capital indicates management uses its resources effectively. With its low cost of debt, Walt Disney's cost of capital is likely way below 10%, which indicates the company is capable of creating value for its shareholders.