Weekly readings – 12th February 2022

What I wrote last week

Thoughts on PayPal’s latest earnings

Apple’s next growth opportunity. Disney’s streamers showed resilience. ESPN+ achieved its FY2024 target

Business

Stream big: how Netflix changed the TV landscape in 10 years. I don’t deny that Netflix revolutionized the streaming industry or that it has the scale advantages. What I disagree with Netflix bulls or fans on is the alleged invincibility. The latest earnings call was a disappointment, sending the stock down by 20%. For the first time, the management team vaguely admitted competition which includes rivals with deep pockets and additional services that can help “subsidize” these rivals’ streamers. So far, Netflix has been successful, but it’s not a lock that they will continue to be the market leader in the near future.

‘Spider-Man: No Way Home’ could have hit $2 billion at the global box office if it were released in China. Movies without a release date in the most populous country in the world leave a lot of dollars on the table. It will be interesting to see producers strike a balance between freedom to cast whoever they want or craft whatever story they want to tell and the need to appease China. A big payday from a release in the country is something worth thinking about.

New Airline Bets You’ll Stop in Alaska for a Cheaper Flight to Asia. Personally, I look forward to the launch of Northern Pacific and flights to Asia through Alaska. I have never been there and tickets can be cheaper. So why not?

Deep Dive: Xiaomi. More than just cheap phones

How Alexandre Arnault Is Shaking Things Up at Tiffany & Co. An interesting profile of one of the Arnault children. He seems to have more than just the right last name

A $6 Billion Wipeout Was an Omen for Food Delivery Stocks. At this point, I feel like it’s irresponsible to invest in food delivery startups or publicly traded firms that do not have the scale. While it’s already tough for the established incumbents to run their business in the black, it’s an order of magnitude harder for those without scale. And if you haven’t noticed, the market isn’t looking kindly on unprofitable companies in a cut-throat market like food delivery.

Stuff I found interesting

Where Is There More Lithium to Power Cars and Phones? Beneath a California Lake. “In the U.S. hunt for lithium, an essential component of the batteries that power electric vehicles and cellphones, one big untapped source might be bubbling under a giant lake in Southern California. The U.S. currently imports almost all of its lithium, but research shows large reserves in underground geothermal brines—a scalding hot soup of minerals, metals and saltwater. The catch: Extracting lithium from such a source at commercial scale is untested.”

House Passes $350 Billion Competitiveness Bill, but Senate Fight Looms. Read this article and you’ll see how broken Washington is. The country really needs leadership, assistance and regulation to compete on strategic fronts. Yet, these lawmakers are prioritizing tribal politics instead of putting the country first.

EV Charging Network Will Target Interstate Highways. “Dotting the interstate-highway corridors with charging stations is considered a priority because it will give EV motorists confidence that they can take long-distance trips without trouble recharging. Stations will have to be installed every 50 miles, no more than one mile off the interstate, according to a guidance memo by the Federal Highway Administration. And stations will have to have at least 600 kilowatts of total capacity, with ports for at least four cars that can simultaneously deliver at least 150 kilowatts each. The stations also have to be accessible to the general public, or to fleet operators from more than one company. The locations can include privately owned parking lots if they are open to the general public.”

Germany’s Covid Boomtown Stumbles Over Its Newfound Riches. Progressive politicians want companies to pay more taxes; which companies do not want to do. Folks just want stable jobs and to be taken care of by the tax money they pay. Marburg is another example of how hard it is to strike a balance and keep everyone happy

Stats

International students earned nearly half of the master’s and PhD STEM degrees in the US in 2019

90% of Uber’s earners work fewer than 40 hours per week and 60% work fewer than 20 hours per week (Investor Day 2022)

46% of Uber’s gross bookings in Q4 2021 came from customers engaged both with Mobility and Delivery. These customers made up only 17% of Uber’s customers base (Investor Day 2022)

10% of all first time riders to Uber in 2021 came to a 2-wheeler or a 3-wheeler trip (Investor Day 2022)

Apple’s next growth opportunity. Disney+ added more subscribers while raising prices. ESPN+ achieved its FY2024 target

Corporate & Commercial – Apple’s next growth opportunity

Apple has always been a household consumer brand. There are still areas that the company can explore in the consumer space to fuel growth such as the global availability of their services, next generation chips, the AR glass or the long waited yet mysterious Apple Car. I remain excited about Apple’s growth prospect as a consumer staple, but Apple may be more than that in the future. There are signs lately that Apple may make a push into the corporate segment. First, it launched Apple Business Essentials, a device management service for small businesses with fewer than 500 employees. The program is still in early days, but the company already said that thousands of small businesses already participated in the program. That’s Apple’s style: choose to come to the market when a service or product is ready and deploy consistent incrementalism over time. Remember how some ridiculed their introduction of Wearables, which is now their 3rd largest business? And if they manage to build that muscle and processes to deal with small businesses, there is no reason not to think that they can expand their market and go further upstream.

Then on the earnings call, Luca Maestri (Apple’s CFO) revealed this anecdote:

Shopify, for example, is upgrading its entire global workforce to M1-powered MacBook Pro and MacBook Air. By standardizing on M1 Max, Shopify continues its commitment to providing the best tools to help its employees work productively and securely from anywhere. And Deloitte Consulting is expanding the deployment of the Mac Employee Choice program, including offering the new M1 MacBook Pro to empower their professionals to choose devices that work best for them in delivering consulting services.

Source: fool.com

I feel that M1 is the last puzzle piece that Apple needed to start making moves in the corporate market. The chip makes Apple devices more powerful and efficient, exactly what the white-collar folks like myself want and opposite of what we are used to (like all those bulky and burning Dell computers). As employees like Apple’s products, companies are more incentivized to offer such products as perks to retain talent; which plays into Apple’s hands. In the past, whether Apple’s products were the clear winners might be up for debate, but the introduction of their in-house chip put the question to rest.

This week, Apple revealed that future iOS updates would let merchants accept transactions with just a tap on their iPhones. The value chain analysis or how exactly this would benefit Apple are still question marks. I suspect Apple will take a small cut on every transaction like they do with Apple Pay transactions. Also, if merchants rely on an iPhone as a card reader, Apple Business Essentials will suddenly become an appeal so that they can manage their devices properly. These are just two early signs of what Apple can put together for businesses. I am eager to learn what they have in store because I am almost confident that they have a roadmap in mind already.

Disney+ and ESPN+ added more subscribers while raising prices. ESPN+ achieved its FY2024 target

The first quarter of FY2022 was a good one for Disney as the company continued to add more subscribers to its flagship streamer Disney+ outside of India and ESPN+ while increasing Average Revenue Per User (ARPU). The testament to the strength of a product or service lies in the ability to retain customers while raising prices. In that sense, Disney+ has so far defied critics and proven its mettle, showing that its streaming services are capable of challenging anyone else in this highly competitive market. The iconic company set the long term target of 230-260 million Disney+ subscribers by the end of FY2024. There are 8 more quarters to go. To attain that target, Disney needs to deliver a quarterly net add of at least 13 million subscribers. The company is on the right track to do so. In fact, the management said that even without the rights to Indian Premier League, the nation’s cricket competition that is arguably the biggest acquisition tool in the Indian market, it is still confident of meeting the FY2024 guide.

If you look at India, we’re certainly going to try to extend our rights on the IPL. But we’revery confident that even if we were not to go ahead and win that auction that we would still be able to achieve our 230 million to260 million. So it’s an important component for us around the world. Obviously, really important in India, but not critical to us achieving the 230 million to 260 million number that we’ve guided to.

Source: Walt Disney Q1 FY2022 Earnings Call

While Disney+ added more subscribers in the US and Canada than Netflix in the last few quarters, I don’t think that any comparison can be fair. The two streamers are operating at a different scale and life stages. Netflix is much more established and has a much bigger subscriber base. Hence, even though it added fewer customers, we shouldn’t draw any conclusion yet on either.

ESPN+ already achieved the FY2024 guide of 20-30 million subscribers. Its tally at the end of Q1 FY2022 is already 21.4 million. I am sure with an imminent international expansion and addition of rights to more sports, ESPN+ will attain the higher end of the guide range, if not exceed it.

Disney+ North America net add subscribers and ARPU
Disney+ excluding Hotstar net add subscribers and ARPU
ESPN+ net add subscribers and ARPU

Review of Walt Disney’s Q2 FY2021 results

There are two main stories regarding Disney: Disney+ as well as other streaming services and their non-streaming segment.

As more and more folks in the US are vaccinated and the CDC relaxed its guidelines, Disney reopened its theme parks and resorts in the last quarter. Traditionally, this segment is the key source of Disney’s profit, but was severely hit by Covid-19. Compared to the prior year quarter, Q2 FY2021 saw revenue from Parks, Resorts, Cruise and Merchandise drop by more than 50%.

Figure 1 – Breakdown of Disney’s Q2 FY2021 Revenue – Source: Disney

Hence, having their physical attractions open is definitely good news to investors. It’s also a testament to the resiliency and health of the business. Its cash cow was hit very hard by the catastrophe that is Covid-19, yet it pivoted successfully to Direct-to-Consumer while waiting for better days to come. In addition, Disney is going to launch an all-new Avengers campus in California on June 4 and allow bookings for its new cruise ship Disney Wish starting May 27th. The Avengers campus, I suspect, will be a big hit to consumers. Thousands, if not millions, love the 10 year story arc with about 23 Marvel movies. As the original cast such as Chris Evans or Robert Downey Jr is more or less out of the picture and the new generation of superheroes are slowly making their way to the scene, fans will cherish a chance to connect physically with their old and new heroes. That’s the power of Disney. They invest a lot of money in creating content and then luring consumers to visit their parks, resorts, cruise lines and buy merchandise. While other streamers can compete with this company on the content front, few, if not none, have the capability and resources to replicate what Disney has on the other part of the equation.

Disney’s Streaming Services

Because Disney+ is touted as the company’s single most important priority, all attention is fixated on the health of the service. At the end of Q2 FY2021, Disney+ has almost 104 million paid subscribers, up from 95 million in the previous quarter. The net add of 8.7 million paid subscribers is much lower than what Disney added in the previous three quarters during Covid. The executives blamed the following for the smaller add:

  • Covid pulled forward subscribers
  • A price increase in two main markets: EMEA and North America
  • No new market launch. The launch of STAR+ in Latin America is postponed to the end of August to leverage major sports events such as the new season of Premier League, La Liga & Copa Libertadores
  • A disrupted schedule of Indian Premier League, India’s national cricket league

On the earnings call, the company reaffirmed its target of 240-260 million paid subscribers on Disney+ at the end of fiscal year 2024. To meet the lower end of that target, by my calculation, Disney needs to have a net add of about 12.5 million subscribers every quarter between now and Q4 FY2024. As you can see above, there are quite a lot of factors that can affect the number of subscribers, but if I have to make a bet, I’ll say that they can do it. There are two reasons. The first one is that Disney+ right now is only available in 31 countries. It’s not even live yet in Asian or LATAM countries where there are a lot of folks. My country alone has 96 million people and 50% of those are between 18 and 54 years of age. There are a lot of spots on the world map where Disney+ can expand its presence. The second reason is that the company lowballed their subscriber target before. It’s likely that they may be doing it again with the current one.

The main criticism of Disney’s current growth strategy is that it relies too much on the low ARPU market in India. Hotstar makes up 1/3 of Disney+ total subscriber base, up from 25% two quarters ago. The low price in India suppressed ARPU of Disney+ from $5.61, excluding Hotstar, to just $3.99, including Hotstar. While ARPU is obviously an important part of a streaming business, it’s equally important to take into account where Disney+ is at the moment. Fans of Netflix usually cite its scale as the main competitive advantage. In other words, Netflix has a cost advantage because it can spread content expenses over many more subscribers (around 200+ million). To negate that advantage of Netflix, Disney+ has to grow its base, but it would need a magic wand to acquire more users and grow ARPU because that’d be virtually impossible.

Disney subscribers, net adds and ARPU
Figure 2 – Disney’s Subscribers, Net Adds and ARPU

Any comparison between Netflix and Disney+ at this stage is very challenging. First of all, Netflix is available in 190+ countries whereas Disney+ is only in 31. When Netflix started, the category didn’t exist and it had to be a trailblazer. But it also means that Netflix didn’t have a fierce competitor like its current version nowadays. Any price it set was essentially the best price at the moment. On the other hand, while Disney+ doesn’t have to create a whole new market like Netflix did, it has to compete against an established and experienced rival that has a major cost advantage. There is a vicious cycle at play here. Netflix’s competitors have a cost disadvantage because they have a smaller scale. The longer that disadvantage persists, the hard it is to plow billions of dollars a year into content. Without content, there wouldn’t be any subscribers, hence, Netflix’s advantage is reaffirmed. As a result, the likes of Disney+ have to prioritize scale over ARPU for the time being, to avoid being sucked into that vicious cycle. Another difficulty lies in the different operating models. Netflix’s content is rarely available in theaters. Its content library is available to all subscribers without restrictions. Meanwhile, Disney+ releases its content in different fashion:

  • Exclusively available to all subscribers without additional charge
  • Exclusively available to subscribers with Premier Access (about $30 per title) for a few weeks before being widely available to all
  • Available first in theaters for a period of time (45 to 90 days) before going to Disney+

The variety in the release strategy may affect the user acquisition to Disney+, compared to Netflix, but who is to say that it doesn’t help Disney generate more money or profit from taking a different path? Disney+ tried the Premier Access with Wulan and a couple of movies afterwards. I reckon that it must have yielded some success so that they decide to keep it moving forward. With an exclusive theater period, Disney is trying to see if the high margin revenue from theater owners are worth suppressing the subscriber base on its flagship streamer. Whether the flexible model employed by the iconic brand or the dedicated philosophy of Netflix will prevail remains to be seen.

Besides Disney+, I am excited about ESPN+. The service has been growing very nicely in terms of subscriber count and ARPU. At 13.8 million subscribers, there is still a lot of upside within the US to go. For sports fans, its content library is very appealing with Serie A, Bundesliga, UFC, Australian Open, US Open, Wimbledon, MLS & College Basketball. The new deals with Major League Baseball to stream 30 games per season till 2028 and with La Liga in an 8-year deal to stream 300+ matches per year in both English and Spanish will absolutely make it more attractive. Since streaming rights need to be negotiated for every geography, it remains to be seen how or if Disney is able to grow ESPN+ out of the US.

Notes from Disney’s Q1 2020 earnings call

Today, Disney announced its Q1 2020 results. There are a lot to unpack as the business is pretty diverse. I am just covering some of the stuff I mainly care about.

Overall, revenue increased 36% year over year. The effect from investments in Disney+ is reflected on operating income which increased only by 9% compared to last year

Parks made up 35% of Disney’s revenue, but more than 58% of its operating income. Parks also provided the largest margin at 32% among Disney’s segments, followed by Media Networks.

Subscribers

  • Disney+: 28.6 million paid subscribers as of 3rd February 2020 from US, Canada, Netherlands, Australia and New Zealand
  • ESPN+ 7.6 million paid subscribers as of 3rd February 2020
  • Hulu has 30.7 million paid subscribers as of 3rd February 2020

Given that Disney publicly set a target of 60-90 million paid subscribers worldwide and of profitability in 2024, it is a promising start to reach the 28-million mark already just a few months after launch. Bob Iger wisely tried to play down any enthusiasm from the figures by citing the inability to point out the reason for the growth and uncertainty in the key international markets where Disney+ will debut soon.

Average Revenue Per User

The dip in ESPN+ and Hulu SVOD APRU was attributed to the bundle that offers Disney+, ESPN+ and Hulu Ad Supported for $12.99/month. Regarding the Hulu APRU, it’s even higher the non-ads subscription of $11.99/month. Christine McCarthy, Disney’s CFO, had the following comment:

The ad supported, the product is priced at $5.99. And but the ad-supported part of the equation makes the ARPU come out even higher than the ad-free. Most of the subscribers subscribe to the ad-supported. So that’s a good balance of the ARPUs when you stack them up next to each other.

Source: Atom Finance

Regarding the APRU of Disney+, since the service is offered at different pricing tiers including the promotion with Verizon, the 3-year plan last year, the bundle and full price, it’s difficult as to what to make out of the figure. Below are a few things from the earnings call:

  • 50% subscribers came directly from disney.com
  • Bob Iger mentioned “20% of those subscribers” came from Verizon. The comment in the earnings call wasn’t clear, but he clarified it in this interview with CNBC
  • Most subscribers came from the US
  • Conversion from free-to-pay and churn rates were better than what Disney had expected
  • No significant churn after Mandalorian Season 1 ended

Other notes

  • “It was 65% of the people who watch Mandalorian watch at least 10 other things”
  • Each Disney+ subscriber spent 6-7 hours every week on the service
  • 18-22% guests to parks were international guests
  • “Attendance at our domestic parks was up 2% in the first quarter, and per capita guest spending was up 10% on higher admissions, merchandise and food and beverage spending. Per room spending at our domestic hotels was up 4%, and occupancy was 92%. So far this quarter, domestic resort reservations are pacing up 4% compared to this time last year, and booked rates at our domestic hotels are currently pacing up 10%.”
  • The fight between McGregor and Tyrone brough “1 million pay-per-view purchases and 0.5 million new subscribers”

Disclosure: I own Disney stocks in my personal portfolio

Notable notes from Disney’s earning call

Today, Disney released their 2019 Q3 result. Below are a few points that stood out for me

  • Hulu got 28 million paid subscribers while the figure for ESPN+ stood at 2.4 million
  • The integration of 21 Century Fox had negative impact on Disney’s earning, including the subpar performance of movies such as Dark Phoenix
  • Direct-to-Consumer & International segment expected to make $900 million loss in the next quarter, due to investment in the launch of Disney + and support for Hulu, ESPN+
  • Fantastic results for the studio as per Bob Iger

The studio has generated $8 billion in global Box Office in 2019, a new industry record. And we still have five months left in the calendar year with movies like Maleficent: Mistress of Evil, Frozen 2 and Star Wars: The Rise of Skywalker still to come. So far this year, we’ve released 5 of the top 6 movies including four that have generated more than $1 billion in global Box Office. Avengers: Endgame is now the highest grossing film in history with almost $2.8 billion worldwide. Captain Marvel, Aladdin and The Lion King have each surpassed $1 billion. And with more than $960 million in Box Office to date, Toy Story 4 will likely cross that threshold in the coming weeks. And all of these movies will be on Disney+ in the first year of launch.

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  • The leadership behind the studio will manage the film strategy for 21 CF as well
  • Deadpool, Fantastic 4 and X-Men will be part of Marvel Studios
  • Come this November, users can have access to Disney+, Hulu (ads-supported) and ESPN+ as a bundle for $12.99 a month, well below the total sum of all threes, if subscribed separately
  • “Hotstar had more than 300 million average monthly users, served an unprecedented 100 million daily users and delivered a high-quality streaming experience to 25.3 million simultaneous users, which is a new world record”
  • Disney is discussing deals with Apple, Amazon and Google as distribution partners, deals that are expected to close
  • Focus on marketing for Disney+, per Bob Iger

Disney+ marketing is going to start to hit in later this month, later in August. We’re actually going to allow members of D23 to be the first to subscribe. I’m actually going through a comprehensive marketing plan with the team next week. Comprehensive probably is an understatement. It is going to be treated as the most important product that the company has launched in, I don’t know, certainly during my tenure in the job, which is quite a long time. And you will see marketing both in traditional and nontraditional directions basically digital and analog also significant amount of support within the company on basically company platforms. And then of course all of the touch points that the company has, whether it’s people staying in our hotels, people that have our co-branded credit card, people who are members of D23, annual passholders, I could go on and on. But the opportunities are tremendous to market this. And I feel good about some of the creative that I’ve already seen. But you won’t start to see it until later this month.

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Quick Thoughts

I cannot wait to see the battle of the streamers and how well Disney+ will fare. As a student of business, I am fascinated to see the strategies and execution of Disney+ vs Netflix. Netflix has a huge subscriber base as advantage over Disney+, in addition to a household name (ever heard of “Netflix and chill”?) and some great original content. But Disney has its own strengths as well, including marketing expertise, household name, a great content library and additional revenue streams.

I am thrilled to see how fast Disney+ will be able to sign up folks. The emphasis on marketing, the aggressive pricing of the streaming service, the bundle and the focus on exclusive content in spite of loss from licensed deals show that Disney is dead serious. It will be interesting to see how viewers will react and whether there will be some market share loss by Netflix at the hands of Disney+ and other upcoming streamers.

I honestly don’t know how it will go. As a fan and a consumer, I cannot wait to see.

Disclaimer: I own Disney stocks in my portfolio.