Disney (DIS 0.92%) has been under a lot of pressure over the past few years. It took a big hit from the pandemic and has had to invest heavily to get ahead in the streaming wars. These factors have weighed on its profits and its share price.
However, the company unveiled actions to turn things around earlier this year, including slashing $5.5 billion out of its cost structure to boost profits. The earnings improvement could fuel a big rally in Disney stock, given the historical correlation between the company's net income and share price. Because of that, now could be a great time to buy shares before they rally.
Moving in the same direction
Disney's net income had steadily grown prior to the pandemic:
Image source: Statista.
While Disney's net income didn't grow every year, it was on a clear upward trajectory until 2020, when its profits plunged due to the pandemic. The company's profits have yet to recover because of some lingering pandemic-related effects and heavy investment to grow its direct-to-consumer streaming business, including Disney+.
The direction of Disney's profits is important to investors because of the effect it has on the stock price, which we can see in this chart:
As this chart showcases, Disney's stock price largely follows its net income. While the stock price didn't peak until after its profits plunged during the pandemic, it eventually followed them lower. That historical trend suggests the stock will continue following its income in the future.
Recapturing the magic
Disney has been investing heavily in building and growing Disney+, which put downward pressure on its profitability. But it's getting closer to reaching an inflection point.
When the company reported its fiscal 2022 fourth-quarter results last November, it expected the operating losses from its direct-to-consumer business to continue narrowing. It believed Disney+ would reach profitability by the end of fiscal 2024 as it benefited from a realignment in its cost structure, price increases, and an ad-supported tier.
While that inflection point for Disney+ remains the same, the company realized it needed to make even more changes to improve profitability. CEO Bob Iger, who returned to lead the company late last year, stated on the fiscal 2023 first-quarter conference call earlier this year, "Now it's time for another transformation." He said he company is undergoing an evolution that "rationalizes our enviable streaming business and puts it on a path to sustained growth and profitability ... while also reducing expenses to improve margins and returns ... and better positioning us to weather future disruption, increased competition, and global economic challenges."
A big part of that rationalization is an expedited plan to boost profitability by undertaking an even bigger cost-cutting program than it unveiled in fiscal 2022. Disney now aims to slash $5.5 billion of costs, a $4.5 billion increase from its initial target. It's cutting $3 billion of content-related spending and $2 billion of noncontent costs. The company is reducing its workforce by about 3% as part of its cost-cutting.
With Disney+ on the path toward profitability and cost-cutting boosting income elsewhere, net income could start seeing a meaningful lift over the next several quarters. Since the company's stock has historically followed income, shares should ride earnings higher as they rebound.
Disney expects to boost its profitability to the point where it can reinstate a modest yet growing dividend later this year. That's another big catalyst for the stock price because dividend initiators and growers have historically delivered superior total returns.
Higher profits are ahead
Disney's decision to slash costs should provide an impactful boost to its income in the coming quarters. On top of that, Disney+ is on track to start supplying some incremental earnings.
The expected resurgence in the company's profits is excellent news for investors because its share price has historically risen alongside income. Add in the catalyst of the upcoming dividend reinstatement, and the stars are aligning for Disney shares to rally, making now a great time to consider buying.
