Disney and ESPN: The king stay the king


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Julian Close 07/07/2014

I'd like to start this week's article by providing a rundown of Disney's major strengths, but that could take quite some time. Even a list all of the large former companies that are now a part of the massive entertainment behemoth would grow tediously long. When I have talked about Disney in the past, my focus has been on films, theme parks, and intellectual property development-there is quite a bit to talk about there, after all-but today, I'll be focusing on the other side of Disney, its Media Networks business which generates 45% of the company's revenues and an astonishing 64% of its profits.

The Media Networks division comprises 10 television stations, ABC, ABC Family, The Disney Channel, and an 80% stake in ESPN. ESPN has, in recent years, become Disney's most important asset, not merely because it just keeps bringing in more money, but because it has such a powerful stranglehold on sports, at a time when it has become clear, as never before, that sports are television's one remaining killer app.

The industry is rapidly moving away from traditional cable television packages and in the direction of content-on-demand, delivered in high-def and with high reliability, over high-speed internet connections. It is almost a no brainer for consumers, who are already paying for high speed Internet, as well as subscribing to content-over-the-internet services such as Netflix ( NFLX ), to stop paying for cable television entirely. But they can't, at least, not if they are sports fans, because those content-over-the-internet services aren't really up to snuff yet when it comes to live TV, and even if they were, ESPN is such a megalithic force in sports that for a sports fan, it just won't do to do without it.

ESPN has its own over-the-internet service of sorts, but its use is tied directly to a pay cable-TV package to prevent cannibalization. That's a very serious concern, considering that ESPN is part of the basic cable package almost everywhere, and almost everywhere, no basic cable channel receives more money from cable companies than ESPN, and therefore-minus 20% later-Disney.

Though it seems almost unfair, ESPN, the king of the old television content distribution system, is the one network that everyone attempting to master the new distribution system, from Apple ( AAPL ), to Microsoft ( MSFT ) to Amazon ( AMZN ) must reach agreement with first. The pay cable-TV package won't go away until ESPN figures it can make more money through another distribution system, at which point, ESPN will become the king of the new system as well.

The last two years have been good to Disney, but the rise in price (an enviable 78%) has been slow, deliberate and well grounded in the company's rising earnings. This is a big company (worth $150 billion) and about two thirds of the stock is institutionally held, a fact which tends increase all forms of inertia. Given how, with ESPN, Disney finds itself in a strong-even dictatorial -position as media distribution changes, and given that there's nothing visible on any horizon that looks to derail the company in the foreseeable future, the chance of any significant near-term drop in the price of DIS stock appears remote.

Chart courtesy of stockcharts.com

I seek to capitalize on this strength with a bull-put credit spread. Look at the September 77.5/80 bull-put credit spread for at least a $0.28 credit. You will need to use limit orders to place this trade, and you might be able to get as much as $0.30 if you push for it. This trade has a target return of 12.6% (13.6% if you get $0.30) over 75 days, which is an annualized return of 61.4% - 66.4%, (for comparison purposes only). DIS stock has to fall 7.9% to cause a problem. That's cutting it a little closer than I normally would, but that is to be expected since DIS stock is not usually volatile. Be aware that this is an aggressive trade, best undertaken by investors with diverse portfolios and high tolerance for risk.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

Originally published on InvestorsObserver.com

This article appears in: Investing , Options
More Headlines for: NFLX , AAPL , MSFT , AMZN , DIS

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