Better Buy: The Walt Disney Company vs. Mattel

"Into each life some rain must fall."
-- Henry Wadsworth Longfellow

This quote is true of life, and equally true for investors. At some point, even the best of companies face challenges that put the future into question. The companies facing off today are each at a crossroads. Entertainment juggernaut The Walt Disney Company (DIS -0.45%) has been plagued by concerns over cord-cutting and falling subscriber numbers for the company's flagship ESPN sports network. Leading purveyor of toys Mattel Inc. (MAT 0.67%) has seen sales of its iconic brands like Barbie, American Girl, and Fisher-Price fall, as the company failed to keep in touch with children's changing tastes and play habits.

For investors looking for a better long-term play, the choice seems obvious, but let's dig a little deeper before we decide which is a better choice for investors today.

Which of these iconic companies is a better buy? Image source: Getty Images.

Financial fortitude

Disney has a clear advantage here over the house that Barbie built. Mattel's debt load stands out, considering the size of the company and its recent results. Disney has a significant amount of debt, but it produces substantially more earnings and free cash flow than Mattel.

Data from SEC filings and YCharts. Chart by author. TTM = Trailing 12 months.

Winner: Disney.

Recent results and growth prospects

In its most recent quarter, Disney saw its earnings grow to $13.3 billion, an increase of 3% year over year, while net income came in at $4 billion, up 5% over the prior-year quarter. The lion's share of revenue came from the company's media networks, which accounted for 45% of the total. 

ESPN saw subscribers top out at 100 million in 2011, but have been declining steadily ever since, to an estimated 88 million today. During that time, however, the rate that ESPN charges cable providers has increased, allowing Disney to increase its revenue from the segment. Investors fear that if the current cable packages collapse, the sports network would garner far fewer viewers.

At the same time, Disney's pricing power has allowed it to raise admission at its parks, while its quartet of movie studios -- Disney, Pixar, Marvel, and Lucasfilm -- continues to pump out beloved characters year after year, adding to Disney's intellectual property (IP) coffers. The company has perfected the art of leveraging those characters across its theme parks, broadcast and cable channels, and consumer products, virtually minting money in the process.

Mattel, in its most recent financial report, saw sales of $735 million, a decline of 15% year over year and a loss of $113 million, even worse than the loss of $73 million in the prior-year quarter. Retailers were working to clear out the backlog of inventory from the holiday season, while the company saw continued weakness in its North American and European markets, though Asia and Latin America were bright spots. 

Sales of the company's iconic Barbie have languished in recent years, and the company ceded the licensing rights of Disney's Princess line to rival Hasbro. Mattel embarked on a plan to reconnect with its partners, embrace connected toys, and engage with consumers in the digital realm and emerging markets in an attempt to improve results going forward.

Mattel's turnaround is still uncertain, while Disney continues to execute, even in the face of investors' fears concerning losses of cable subscribers.

Winner: Disney. 

Stock performance and valuation

As these companies work to put investors' fears to rest in the face of changing consumer behavior, their stock prices tell the tale. While the broader market is up 14% over the last year, Disney stock is up only 6% as investors remain fixated on ESPN subscribers. Mattel, on the other hand, has fallen a whopping 36%, as the company recently slashed its dividend by 61%, as profitability fell below the cost of its annual payout.

Given its stronger performance, you might expect Disney's stock to be assigned a higher valuation, but that isn't the case. From a price-to-earnings perspective, Disney is less expensive, trading at 18 times trailing earnings. Mattel trades at a much higher multiple of 26.

Mattel's higher multiple indicates that investors are expecting its turnaround to materialize. Looking forward doesn't change that. Mattel carries a forward earnings multiple of 22 compared to Disney's less expensive forward multiple of 18.

PE Ratio data by YCharts.

Winner: Disney.

Dividends and payout ratio

Over the course of the last year, both companies have paid a dividend. As the result of falling earnings, Mattel's dividend yield had risen to 7.29%, but the recent dividend cut brought it back to reality, to a more reasonable yield of 2.85%, higher than Disney's 1.48%.

Over the trailing-12-month period, Mattel paid out 187% of its profits compared to Disney's payout ratio of 25.79%, giving the House of Mouse much more room to increase its payments. With its recent cut, Mattel hopes to return to a healthier payout ratio of 50%-60% of its available profit in the form of dividends.

While Mattel sports a higher current yield, Disney has much more room for increases.

Winner: Tie.

And the winner is... 

Disney beats Mattel by a landslide. Even in the face of uncertainty, the company has continued to put up impressive results. Mattel still could engineer a turnaround, but it hasn't done so yet. If results don't come quickly enough, the stock could fall even further.