Costs for Disney’s Shanghai Park a Concern
Disney (NYSE:DIS) recently signed an agreement with a Shanghai company named Shendi to build out Disneyland’s Shanghai theme park. The company is now waiting for the final approval from the Chinese government for incorporation of the related JV companies and conclusion of certain regulatory procedures.
Disney competes with media companies like Warner Bros. Pictures, owned by Time Warner (NYSE:TWX), 20th Century Fox, owned by News Corp (NASDAQ:NWS), and Paramount Pictures, owned by Viacom (NYSE:VIA). We estimate that parks only account for around 10% of Disney’s stock value.
While it comes as no surprise that Disney should want to have a theme park in China, the terms of the JV and Disney’s ability to profit from this move are unknown. Hong Kong Disneyland reported losses in 2009 and was not able to attract as many customers as Disney intended after opening to much fanfare. [1] While having a park in the mainland makes it much more accessible to Chinese visitors, we believe that the cost of setting this up and operating might exceed initial projections.
As a result of the expected high investment levels and potential lower gross margins of operating in China, we see some downside risk to our $37.44 price estimate which is in line with the market price.
High Investment and Lower Profitability a Risk
We currently forecast profit margins (EBITDA) that Disney’s parks and resorts business will gradually improve and reach close to 26% by end of our forecast period compared to current estimates of close to 24% for 2010. However, if Disney continues to suffer losses in its international locations like Hong Kong and its EBITDA margins drop to around around 20%, its price estimate drops by about 4%.
With new investments like Shanghai Disneyland and continued pressure on EBITDA margins, its international capital expenditures (as % of EBITDA) could increase more than we forecast. The initial estimates to build the park are around $3.5 billion. [2] While this is a huge sum on par with the Shanghai World Expo, this might prove to be conservative once the final bill is tallied at its expected opening in 2014. If investment (capital expenditures) to EBITDA increases to 50% compared to current forecasts of close to 40% in the coming years, it can add another 2-3% to the downside.
Although Disneyland Shanghai may turn out to be an attractive investment spot given the wealthy status of its residents, a growing middle class and high population of about 25+ million in Shanghai alone as well as access to the rest of China, undertaking the largest foreign investment in China might prove to be costly in the medium term. [3]
You can see the complete $37.44 Trefis price estimate of Disney’s stock here.
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