Disney's Second and Third Quarter 2001 Results

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Internet Group

Last time, I said that the pieces of the former Disney Internet Group were going to be divided among Disney's other business units. Well, I was mostly right. Some parts, like ABC.com, ABCNews.com and ESPN.com, will indeed be managed by the Media Networks group. However there still is an Internet Group, but it is now just another business unit within Disney and not a separate company. This unit will run sites such as Disney.com and Family.com, and will do all the back-end work for the entire company, such as online product development, online consumer marketing, and any broadband initiatives.

Of course, bringing the group back inside the Walt Disney Company didn't insulate the Internet Group from this year's turmoil in the dot-com industry. While revenues for this group had been growing, its revenue in Q2 leveled off to $49 million, up 2 percent from Q2 2000's $48 million. However, operating loss significantly improved by 42 percent, from a loss of $85 million in 2000 to a loss of only $49 million in Q2 2001. Revenues dove in Q3 to $38 million, down 42 percent from $65 million in 2000, but once again the operating loss continued to narrow, to a loss of only $31 million, down an impressive 56 percent from a loss of $70 million in Q3 2000.

This improved operating performance likely comes from the better focus and cost controls that came with the reintegration back into the Disney corporate fold, as well as the closure of Disney's money-losing Toysmart.com Web site. And while the Internet Group's losses are getting much smaller, the company does not predict the group will become profitable for at least another year, in FY 2003, at the earliest.

Totals

Overall, revenues dropped 3 percent in Q2 2001 to $6.049 billion from $6.276 billion the year before, but operating income increased 6 percent to $1.025 billion from $955 million. This is because the smaller parts of Disney such as the Studio Entertainment, the Consumer Products, and Internet Group units, were more profitable, while the Media Networks performance dropped and the Parks & Resorts group stayed flat. But bottom-line number, net income -- the operating income after taxes, one-time charges and other adjustments -- was actually a net loss of $567 million for the quarter.

Disney lost money in Q2? This may not sound familiar. You might instead recall that Disney had improved profits. Well, sort of. This is all in the way Disney presented its earnings to the public. While the company did indeed lose over a half billion dollars for the quarter, Disney's earnings release to the public was titled, The Walt Disney Company Reports Higher Earnings Before Restructuring and Impairment Charges for the Quarter and Six Months Ended March 31, 2001. And this is, in fact, true if you subtract the $996 million in restructuring and impairment charges. The company earned $366 million in profit, up for $161 million in Q2 2000.

Disney's argument is that the $996 million were one-time charges, $862 million of which came from closing down Go.com, and mostly non-cash, that is, accounting losses only. Therefore, the logic goes, this loss doesn't reflect the future state of the ongoing operations. Again, while this is true, it also downplays that the company is writing off things that did not go well. Of course, presentation means nothing to the government's Securities and Exchange Commission, which wants the full accounting numbers; that is, the net loss.

Q3's earning release statement was titled a more subdued, The Walt Disney Company Reports Earnings for the Quarter and Nine Months Ended June 30, 2001. Total revenue was $5.975 billion, down from $6.053 billion in Q2 2000, and operating income was $1.122 billion, down from $1.212 billion. Net income was actually up in Q3 to $392 million, compared to $361 million a year ago. This improvement is due to lower interest payments on the corporate debt, and smaller write-offs for acquisitions. For example, Go.com's acquisition costs were being written off over time until the remainder was written off in Q2. Hence, the one-time write-offs were much smaller in Q3 at $138 million for the quarter, $95 million of which went for severance payments and other costs associated with the recent layoffs.

What's In Store for Q4

My guess is that the fourth quarter -- July through September -- will be fairly similar to the third. After all, the economic slump does not seem to be going away anytime soon.

The best performing business unit will likely be the Studio Entertainment group. For one thing, overseas sales for Pearl Harbor, as well as its U.S. broadcast rights -- which should be sold around September -- will add a big boost. I also suspect that The Princess Dairies may be a surprise hit for Disney; maybe not a huge smash, but I think it will hang out at theaters for quite some time. There have been few movies this summer suitable for younger children, except perhaps for Shrek, Atlantis and Cats and Dogs. I think there's some pent-up demand in the Sesame Street demographic.

The Consumer Products group will likely continue in the same pattern as its last two quarters: flat sales with slightly better profits due to cost savings. The Internet Group will also continue its trend as well, with dropping revenue and smaller losses as this group further narrows its focus.

For Parks and Resorts, I think we will see a small drop in both revenue and profit from last year, as opposed to the usual growth we see here. While the economic slump has somewhat affected the summer family vacation season, it will also hit Walt Disney World's fall convention season much harder. Corporate travel budgets are the first items to get cut during a slowdown -- even before advertising -- and they have been cut heavily this time around. These cutbacks, incidentally, explain why there have been so many good airfare bargains: business travel has dropped heavily. In addition, DCA will likely continue to underperform as the summer promotions expire and the novelty of the return of the Electric Parade wears off.

Hardest hit, however, will be the Media Networks group. Not only does ABC have a continuing weak advertising market and falling ratings, but the new TV season starts in September with new advertising rates negotiated and locked in over the summer. These rates will be as much as 10% lower than those sold for last season, because those rates were locked in last summer when Who Wants To Be A Millionaire? was riding high in the ratings. Expect to see falling revenue and plunging profit for this unit.

So, all in all, Q4 looks like it could turn out to be yet another weak and disappointing quarter for the Disney business empire.

Next Time: Is the Fox Family Channel really worth $5 billion?

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