All in all, last quarter was a pretty good one for entertainment giant Walt Disney (DIS -0.01%). Revenue was up 5% year over year, while per-share earnings of $0.82 topped estimates of $0.70. Its streaming business notched a bit of forward progress too, adding subscribers and reducing its losses. That's the victory responsible for most of the stock's post-earnings pop.
There's a nagging reality regarding Disney's entire streaming operation (Disney+, Hulu, and ESPN+) that's too troubling to ignore, however. That is, it's still losing lots of money at the same time subscriber growth is slowing down. The company's plans to continue culling costs might not be enough to push this arm out of the red and into the black.
Now all of a sudden Walt Disney's recent decision to acquire the remaining one-third of Hulu it doesn't already own makes sense. It's just not clear if the move will matter enough.
Disney's streaming growth wasn't as strong as suggested
The broad spin on Disney's third-quarter streaming results was encouraging. Disney+ picked up nearly 7 million paying customers during the quarter in question, while direct-to-consumer (or streaming) revenue improved 12% to a little over $5 billion. Streaming's operating losses were also dialed back from $1.4 billion in the same quarter a year ago to a loss of only $420 million for the three-month stretch ending in September, extending a four-quarter streak of profit progress.
Given CEO Bob Iger's plan to expand the company's previous cost-cutting target of $5.5 billion to $7.5 billion, it's conceivable that Disney's streaming operation could be en route to an actual profit.
Don't be too quick to jump to such a conclusion, though.
The graphic below puts things in perspective. Sure, direct-to-consumer revenue was up last fiscal quarter, but just barely. This business's sales growth is clearly slowing down, and arguably leveling off. In this same vein, the pace of shrinking losses is also slowing.
Data source: Walt Disney Company. Chart by author.
Given these numbers' trajectories, Walt Disney's streaming may never actually fight its way to an actual profit. That additional $2 billion in cost cuts Iger's talking about? Not all of it's aimed at lowering the company's direct-to-consumer arm's expenses. We don't know how much is! Even if all of the additional $2 billion worth of impending costs cuts came from Disney's direct-to-consumer arm, however, it's still not enough to push this arm decidedly into the black.
And don't count on subscriber growth doing the trick, either.
See, the headcount for Disney+ was actually contracting prior to last quarter. The bulk of last quarter's growth of 7 million paying customers reflected strong sign-ups for the international version of Disney+. The problem? This international growth was a bit "juiced," so to speak. As the quarterly report's fine print explains, "International Disney+ (excluding Disney+ Hotstar) average monthly revenue per paid subscriber increased from $6.01 to $6.10 due to an increase in average retail pricing, partially offset by a higher mix of subscribers to promotional offerings."
Data source: Walt Disney Company. Chart by author.
Many of these new promotional subscribers may not stick with their service once this promotional pricing ends, putting subscriber growth back on its original trajectory.
The plan for Hulu makes sense, but isn't guaranteed to work
There may be one lever Bob Iger can pull to get Disney's direct-to-consumer arm over the proverbial profit hump. And he's pulling it. Early this month Disney announced it would be proceeding with its option to acquire the one-third of Hulu that Comcast's NBCUniversal currently owns. (As a refresher, Hulu was originally co-launched by NBC and News Corp. back in 2008 as something of an experiment in the then-nascent ad-supported streaming space.) With this move, Disney will enjoy full control of Hulu and how it's marketed. This could be its much-needed game-changer.
And changes are already in the works. All the way back in May, Iger was "pleased to announce that we will soon begin offering a one-app experience domestically that incorporates our Hulu content via Disney+." This idea was reprised during last quarter's earnings call, with Iger suggesting a beta version of this combo would be unveiled in December with a full launch coming early next year. Although no specifics were offered, Iger believes combining Hulu and Disney Plus will "result in increased engagement, greater advertising opportunities, lower churn, and reduce customer acquisition costs."
The bundle may also be an eventual home for Disney's powerhouse sports-oriented cable channel ESPN, bolstering its marketability. That's a competitive and operational shift that just may not have been feasible as long as Comcast's NBCUniversal was in the picture.
The trouble is, there's no assurance being able to make these changes will actually allow Disney's direct-to-consumer operation to reach viability. The streaming business is very crowded, after all, and may even be fully saturated.
Take recent numbers from Hub Research for example. Hub says only 82% of U.S. households paid for at least one streaming service this year, down from 89% a year ago. The report adds that for the first time ever the number of different television sources consumers pay for fell, from last year's 7.4 to 6.4 now. Those numbers jibe with television technology outfit TiVo's second-quarter review of North America's streaming industry.
The rest of the world isn't likely to be too far behind.
Walt Disney stock is a cautious buy
Given all of this discussion it would be easy to fear the worst and subsequently steer clear of Disney stock. And, it would be misguided to ignore the potential risk of failure of Disney's streaming plans.
The thing is, with Disney shares just coming off of what was nearly a 10-year low, all of this risk is arguably already priced into the stock ... and then some. That's what makes this entertainment giant a cautious buy at this point.
Oh, it will take some time for Walt Disney to find the perfect balance of pricing, spending, marketing, and creativity, to be clear. The company's streaming losses could linger well beyond the official launch of a combined Hulu/Disney+ service. That's why its direct-to-consumer business will definitely be one to keep close tabs on for the foreseeable future while its film, sports, and theme park divisions -- which collectively account for three-fourths of Walt Disney's business -- continue their cash-driving growth.
On balance, though, there's still more potential reward than risk here for investors who know Disney's streaming numbers are going to keep things volatile.
