When a craze washes across Wall Street, it does so in phases.
Take the current trend of big corporate breakups. The easy and obvious deals get done first, such as media companies shedding publishing operations or Pfizer Inc. (PFE) spinning off its animal-drug unit.
Then pushy investors start prodding companies to split apart to create a likely stock pop (see eBay Inc. [EBAY] and Dupont Co. [DD]), and unwieldy corporate giants - hello, Hewlett-Packard Corp. (HPQ) - concede an empire’s demise by cracking in two.
Eventually, people go from asking “Why?” to “Why not?” and before long some analyst is floating the idea that Walt Disney Co (DIS) should cast aside the happiest places on earth – all the Magic Kingdoms - by spinning off a theme-park division that could hardly be more intrinsic to the corporate brand and strategy.
This is where we are now.
Jim Osman is publisher of the Spinoff Report and founder of The Edge Consulting Group, a research firm focused on “special situation” stock ideas involving identifiable catalysts. In addition to tracking new spinoffs and searching for other value-liberating prospects, the firm handicaps possible breakup candidates and has had some luck predicting splits by Symantec Corp. (SYMC), Bayer AG (BAYRY) and others.
Now, Osman is suggesting that Disney should consider separating its huge theme-parks business, as a way to achieve higher stock valuations for each resulting company.
The standard logic behind doing a spinoff is to separate unrelated businesses that could benefit from greater management focus, produce enhanced efficiency and thereby win higher valuations from the market. Over time and on balance, spinoffs work – which has made them popular with hedge funds and activist investors.
Such deals always begin on paper, or rather spreadsheet, and on this basis there is some bare logic to the abstract notion of separating Disney’s parks.
Disney’s cable networks and movie studio are among the most valuable in the industry and yet Disney shares trade at a discount to pure cable networks. And Disney’s pristine and elaborate parks carry lower profit margins than do competing amusement parks, so arguably their profitability could be improved under separately incented management as an independent entity.
But a breakup of Disney seems far-fetched on so many levels that the suggestion says more about the lengths investment pros are now going to promote financial engineering than about any shortcoming of Disney itself.
To get specific:
-Most candidates for radical corporate splits have had weak stock performance or a depressed valuation. Disney’s the opposite; its shares are up more than 200% the past five years versus 84% for the S&P 500 index and the market places a higher value on its cash flow than any of its big integrated-media peers.
This means shareholders are quite happy, no activist gadflies are in the mix and it would be hard for one to argue that management has failed to do the right thing by investors.
-Splits work best for companies with muddled strategies and orphaned, underdeveloped business units. That’s also not Disney.
One could make the case that CEO Robert Iger, who has run Disney for nine years, is the best corporate leader of his generation. His defining strategy has been to promote Disney “franchises,” robust character sets and stories that can support products across the entire span of Disney, from movies to cable series to theme-park rides to consumer products to videogames.
Iger has acquired irreproducible content producers in Pixar, Marvel and Lucasfilm, and produced enormous value by pumping their unique content through the vast Disney customer-pleasing platform. These are among the reasons Disney earned Company of the Year honors from Yahoo Finance last year.
This is probably the most significant argument against a split. It’s true that Disney’s most profitable business, ESPN, operates mostly on its own. And some media analysts grumble over the capital intensity, cyclicality and lower profit margins at the parks business.
But the main thing that distinguishes a Disney park from any other is the pervasive use of intellectual property created by the Walt Disney Co. It would be fabulously complex and expensive to devise licensing arrangements if these entities were housed in different companies.
It could be argued that Disney might wish to spin off the ABC network, a viable but tough business that’s not intricately linked to the core cable-network operations. Seven years ago, Disney parted with its radio division under similar conditions.
But nearly everything Disney does aside from ESPN and the ABC network is weaved into the parks, resorts and cruise-ship operations.
The “Cars” franchise formed the centerpiece of a huge renovation of California’s Disneyland. A major “Frozen” attraction is planned for Florida’s Epcot, capitalizing on the massive enthusiasm for that hit animated film.
And the crowning achievements of Iger’s career and Disney’s global ambitions will be the opening next year of Shanghai Disneyland, and the release of the first “Star Wars” movie under Disney’s ownership – which itself will certainly be brought to life in the parks.
Nomura Securities analyst Anthony DiClemente sees no real chance of a theme-park spinoff, because of the tight integration of the parks with content franchises.
To be fair, Osman claims no special inside knowledge of a spinoff plan or outside campaign to press for one. The Disney idea surfaced as part of a project at his firm, whose clients are hedge funds and other institutional investors, to identify 100 big companies across the world that could benefit from a breakup.
The fact that Disney not only made the list but that such a split could be suggested in good faith by a research shop shows how far along we’ve come in the process of exploring for paper-shuffling transactions to coax value from stocks, five-and-a-half years into a strong bull market.
For sure, as the cycle goes on, the far-fetched deals start coming in for the “Why not?” treatment.
Didn’t eBay say it was better off keeping PayPal just months before agreeing to spin it off? How many people really thought Rupert Murdoch would make a run at Time Warner Inc. (TWX) before his 21st Century Fox Inc. (FOXA, FOX) lobbed a hostile bid at the company over the summer?
Still, the Disney split-up notion comes pretty close to spinoff mania “jumping the shark” – which is fitting in a twisted way, given that the original shark-jumping plot stunt came in a sitcom on Disney-owned ABC.