Add Disney to Cash-King?
by Phil Weiss
Towaco, NJ (July 8, 1998) -- It's Wednesday, so that means it's Q&A day.
Today's question relates to something that I've been debating myself lately. You see, my son will be celebrating his first birthday on Saturday, and I've finally started buying him some stocks. My plan is to purchase shares of companies for him that sell products that he'll be familiar with as he grows up. I think that'll help him get interested in the subject and improve his chances of knowing what it took to build his college nest egg. Important stuff.
Besides finding companies that interest him, I also want to add stocks to his portfolio that generally meet our Cash-King criteria. The earliest that he could possibly need the money is when it's time to start college. That's about 17 years away. If I can find companies to hold for 17 years, I can deflect commissions and taxes, letting compounding work its truest magic.
Which all leads me to today's question.
Recently aDeadFool (I hope he explains that name) asked this question on the Web Cash-King Strategies Board. He wrote:
I'm a relatively new Fool. I've put some money
in the Foolish Four and have bought a number
of the CK stocks ï¿½ Pfizer, Gap, Microsoft. I've
also owned Disney for awhile and I'm now
wondering whether it's a Cash-King or not. I'm
committed to this philosophy, but I don't know
whether it would be better to hold onto Disney
or sell it, and put the money into one of the
clear Cash-Kings. Any thoughts?
Funny you should ask that question. One of the first stocks that came to mind for my son was Disney (NYSE: DIS). In his series of articles last week (C-K Past Reports), Tom discussed the value of branding. To me, Disney is one of the top consumer brands in the world. I figured it might be the perfect Cash-King to add to my son's portfolio. So I decided to take a closer look, applying the criteria outlined in Step 6 of the 11 Steps to Cash-King Investing. Here's what I found:
1. Is it a repeat purchase business?
No problems there at all. From Mickey ballcaps to ESPN, we repeatedly go back to their stuff.
2. Is it a global consumer brand?
Another easy one. Disney is everywhere.
3. Does the company sport strong historical stock performance?
Disney has created a lot of wealth for its shareholders. Both revenue per share and earnings per share have grown at a compound annual rate of approximately 20% over the last 10 years. The stock price has risen from $15 to $106 over that period, far outpacing the S&P 500.
4. Is the company a giant, with more than $1 billion in sales and $5 billion market cap?
Yep. $22 billion in sales. $71.5 billion market capitalization.
5. Is Disney's direction more attractive than its present location?
This is pretty subjective. But I'll say that given a new medium to explore and in a democratizing world, Disney has terrific potential going forward.
6. Do Disney's gross margins exceed 50%?
It's a hassle that Disney doesn't break out its gross margins for investors, lumping all costs together and leaving us with just operating income. I'm going to assume, given Disney's 18% operating margins, that gross margins are between 35-45%. I'll put a call into them to see if they break out the costs of revenues for us.
7. Net Margins of at least 7%
No problem here. Disney has net margins of 9%. But its margins were as high as 11% two years ago, so this isn't the direction we'd hope for.
8. Does Disney have cash & marketable securities of no less than 1.5x its long-term debt?
This one is a hindrance. Disney has loads of debt. As of March 31, Disney's ratio of cash-to-debt was 0.05, well below our ideal of 1.5x debt. Disney did incur a lot of debt as a result of the acquisition of Cap Cities/ABC -- which isn't as bad as operational debt, but still not desirable. I decided to go back and look at this criterion before the ABC acquisition took place. I clicked open an old 10-Q at www.freeedgar.com, and for the quarter ended September 1995, Disney's cash-to-debt ratio was 0.89. This still falls short of our C-K target.
9. Does Disney efficiently manage its cash and product flow -- is its Foolish Flow Ratio below 1.25?
Disney has been rock-solid in managing its Flow Ratio, keeping it down between 0.6 and 0.9. In its most recent quarters, Disney's Flow Ratio sat at 0.77.
Let me start by saying that Disney is an outstanding company, with leading brands, loyal customers, and great worldwide business opportunities.
But for me, the bottom line is that Disney just has too much debt on its balance sheet to pass muster as a Cash-King. If its business suffered over an intermediate-term period, with all the debt and the lower margins, the stock could get hurt. I'm also a little worried about the direction of margins -- something to definitely keep your eye on.
Now, to the question that was asked. Were I you, would I sell Disney and move the money into a truer Cash-King? That really comes down to personal preference. Personally, I wouldn't add Disney as a Cash-King, buy-and-hold-for-a-decade stock. But I can certainly see holding this company in my portfolio. I'd just be watching it more carefully from one quarter to the next, following the Flow and the direction of margins.
So yes, I may actually put Disney into my son's portfolio. After all, what a great company for him to follow growing up. But since this is his college fund, if I do add Disney, it won't sit in my Cash-King class. I'll monitor its business direction more closely than I would a company like Gap, Coke, or Microsoft. And if I don't like what I see, I won't hesitate to sell all or parts of the position.
That's it for tonight. Thanks for a great question, aDeadFool -- now tell us about the name!
Stock Change Bid ---------------- AXP + 1/2 114.50 CHV + 11/16 83.19 CSCO +1 1/2 94.19 KO +1 5/16 87.25 GPS +1 7/16 66.00 EK +1 74.31 XON + 7/16 73.19 GM +3 1/2 73.19 INTC +3 3/16 78.25 MSFT +1 15/16 109.88 PFE +2 3/8 113.50 TROW + 7/8 39.38
Day Month Year History C-K +1.94% 3.56% 18.11% 18.11% S&P: +1.01% 2.87% 16.49% 16.49% NASDAQ: +1.43% 2.15% 17.09% 17.09% Cash-King Stocks Rec'd # Security In At Now Change 2/3/98 24 Microsoft 78.27 109.88 40.38% 2/3/98 22 Pfizer 82.30 113.50 37.91% 5/1/98 37 Gap Inc. 51.09 66.00 29.18% 2/27/98 27 Coca-Cola 69.11 87.25 26.25% 2/6/98 56 T. Rowe Pr 33.67 39.38 16.93% 5/26/98 18 American E 104.07 114.50 10.03% 6/23/98 23 Cisco Syst 86.35 94.19 9.08% 2/13/98 22 Intel 84.67 78.25 -7.59% Foolish Four Stocks Rec'd # Security In At Value Change 3/12/98 20 Eastman Ko 63.15 74.31 17.68% 3/12/98 20 Exxon 64.34 73.19 13.76% 3/12/98 17 General Mo 72.41 73.19 1.08% 3/12/98 15 Chevron 83.34 83.19 -0.19% Cash-King Stocks Rec'd # Security In At Value Change 5/26/98 18 American E 1873.20 2061.00 $187.80 2/3/98 24 Microsoft 1878.45 2637.00 $758.55 2/3/98 22 Pfizer 1810.58 2497.00 $686.42 5/1/98 37 Gap Inc. 1890.33 2442.00 $551.67 2/27/98 27 Coca-Cola 1865.89 2355.75 $489.86 2/6/98 56 T. Rowe Pr 1885.70 2205.00 $319.30 6/23/98 23 Cisco Syst 1985.95 2166.31 $180.36 2/13/98 22 Intel 1862.83 1721.50 -$141.33 Foolish Four Stocks Rec'd # Security In At Value Change 3/12/98 15 Chevron 1250.14 1247.81 -$2.33 3/12/98 20 Eastman Ko 1262.95 1486.25 $223.30 3/12/98 20 Exxon 1286.70 1463.75 $177.05 3/12/98 17 General Mo 1230.89 1244.19 $13.30 CASH $94.76 TOTAL $23622.32 *The year for the S&P and Nasdaq will be as of 02/03/98