It's been an eventful several weeks for The Walt Disney Company (NYSE:DIS) as its first installment in the Star Wars movie universe raced to domestic box-office records. However, shares of the company are down roughly 13% since the movie hit theaters, as concerns about the growing number of pay-TV subscribers "cutting the cord" and choosing to no longer pay for cable service have dogged the company's core media networks division. As a company that depends upon the pay-TV ecosystem for 45% of its revenue, this is more than a minor inconvenience for the entertainment conglomerate.
Global information and ad-tracking company Nielsen appeared to initially provide data that supported the narrative that the company's business model was under pressure. The Los Angeles Times reports that Nielsen during the summer stated ESPN had lost more than 3 million households over the past year, but recently restated that figure to only 1.2 million lost subscribers. "Nielsen modified its estimates by removing a segment of households that it determined should not have been included in the count," according to the paper. The New York Post reported that Nielsen was "under client pressure." While the specifics of the Nielsen revision remain unclear to the general public, the restatement paints a better picture for Disney as ESPN -- with its estimated 92 million subscribers -- is the company's star performer for its media networks division.
Disney quickly issued a statement: "Nielsen's correction reinforces what we've said all along, that the vast majority of consumers prefer the multichannel bundle." But even if Disney is right, that's no silver bullet against ESPN underperformance.
Losses are acknowledged; it's just a matter of degree
Even if Disney was the impetus for the alleged "client pressure" on Nielsen and the revision is what it wanted to hear, the new Nielsen estimates are still unfavorable for the company. The crown jewel of Disney's media networks division is its 80% stake in ESPN, the most expensive cable network channel. According to BTIG Analyst Richard Greenfield, the flagship ESPN charges cable customers affiliate fees of $7 per month, while other analysts estimate ESPN2 adds nearly another $1 to the average cable bill. If customers are cutting the cord en masse, it will be hard for ESPN to make up the difference by increasing affiliate fees, or growing advertisement revenue.
However, what the cord-cutter debate misses for Disney is that it omits another trend in pay-TV: cord-slimming. Unlike the cord-cutters, cord-slimmers continue to pay for subscription television, but are trading down to packages with lower costs. As ESPN is the most expensive network, it stands to reason that most cord-slimmers -- especially those unconcerned with sports -- are trading down to packages without the channel.
Even ESPN President John Skipper seemed to point toward cord-shaving as a bigger risk in a recent interview with The Wall Street Journal. When asked the biggest reason for ESPN's subscriber declines, Skipper replied "[p]eople trading down to lighter cable packages," although he mentioned this has not leaked into ratings or ad revenue. The latter is good news for ESPN's advertisement dollars, but still hurts ESPN's monetization in the form of lost affiliate fees.
Disney does release its figures... sort of
According to Greenfield, Disney could put concern about cord-cutting/slimming to rest if the company released subscription figures instead of relying on third parties. The company uses Nielsen for the measurement in its annual reports, lending credence to it being behind the alleged "client pressure." According to annual reports, both ESPN and ESPN2 had an estimated 100 million domestic subscribers in fiscal 2010, and 92 million in 2015's annual report, an annualized sub-loss rate of 1.7%.
Disney has an odd relationship with Nielsen's data. On one hand, the CEO and board members are required by law to sign off on annual reports certifying they fairly present, in all material respects, the financial condition and results of operations of the company. By using Nielsen's data in the company's annual report, it stands to reason Disney considers Nielsen's total subscriber figures accurate. But in August, Disney CEO Bob Iger publicly disagreed with Nielsen's data by saying subscriber losses were lower than Nielsen's then-estimate of 3.2 million in a little more than a year.
In the end, both Disney bears and the company itself tend to agree that the pay-TV market is declining, but they seem to disagree as to scale. In the short term, Disney should report an amazing quarter as its Star Wars film will enrich investors, but long-term investors should follow subscriber totals in Disney's Media Networks closely. If the cord-cutting and cord-slimming trend is overplayed, it's highly likely the stock is undervalued. If cord-cutting or cord-slimming accelerates, it will be hard for other divisions to consistently make up the lost revenue and profit.