Credit Suisse analyses the strategic and financial rationale of a potential acquisition by Walt Disney Company (NYSE:DIS) of Netflix Inc. (NASDAQ:NFLX). Credit Suisse concludes that (i) with industry trends improving, the strategic pressure to acquire a distributor near term is moderating, and (ii) the dilution to EPS/FCF and to returns at the current share price would be prohibitive. However, analysts also point out the T/TWX merger; continued growth from SVOD aggregators; and sports rights renewals in 2021/22 mean maintaining DIS current structure long term is not risk-free either, suggesting this debate is unlikely to go away. Credit Suisse reduces its 2017/18 EPS forecasts by 1% to $5.94/$6.76 (previously $6.00/$6.79), driven by Consumer Products, but reiterate its Outperform rating.
DIS organic strategy of distributing its cable networks via "virtual" MVPDs and slowing down the pace at which it licenses content to SVOD are now playing out. CS sees these having a positive impact on ESPN, and overall industry, subscribers, over the next 2-3 years which should reduce the strategic pressure to consider a NFLX deal.
Credit Suisse calculates that a 70% debt financed transaction at $160 per NFLX share would materially dilute DIS EPS/FCF (-11%/-10%), and modestly dilutive to CFROI®. At the $70bn price tag, DIS would need to deliver around $2bn of annual pre-tax synergies from the transaction to cover its cost of capital. While (i) gaining close to 90m global customer relationships years ahead of an organic strategy; (ii) having more monetisation options for sports rights; and (iii) removing the SVOD risk to its core cable networks are all reasons to consider a deal, it is hard to see them delivering the synergies that would be required to justify the cost.
Disney trades at a c20% premium to peers on '17 EV/EBITDA (11.2x vs 9.2x), but at a c50% premium on '17 P/E (18.4x vs 12.6x). At Credit Suisse $125 target, DIS would trade at 12.5x '17 EV/EBITDA, 21.1x '17 P/E.