In a blockbuster deal, Disney (DIS) announced that they will acquire Marvel Entertainment (MVL) for cash and stock equal to about $50 per share. Marvel began as a simple comic book company in the 1930’s, and is now a $4 billion dollar business with some of the most well known characters in the world. Through the years, Marvel has developed its characters into brands in and of themselves, and they have more than 5,000 characters in their stable. Recently, most of Marvel’s revenue has come in the form of licensing out their characters for films and video games, toys and television shows.
The success of Marvel’s characters is no surprise to cinephiles as franchises for Spider-Man, Iron Man, and X-Men have been among the highest grossing blockbusters of the past few years. Since 2002, movies based on Marvel characters have grossed more than $4.8 billion at the box-office. Of course, there have been even greater revenues from DVD sales, video games, etc. Consumers love these action packed movies, and there is a seemingly limitless appetite for sequels as the latest installments of Spider-Man and X-Men have been the strongest performers yet.
For Disney, this deal provides some very lucrative brands that they can leverage and gain a stronger foothold particularly among young males. Disney had recently seen strength among its programing targeted particularly to young female audiences with the likes of Hannah Montana and High-School Musical. Disney is also dealing with industry-wide slumps in DVD sales, and they believe that the strong character associations and branding allow Marvel’s movies to outperform the industry.
The deal appears to be a good match placing a small studio with lots of characters with a major media conglomerate that can really pump out content and expand the audience to a more worldwide audience. However, the question as always, did they over pay? Disney has offered a premium of about 29% over the previous closing price for Marvel and some analysts are worried that it is too rich. S&P has warned that they may downgrade Disney saying,
“We are concerned that Disney’s potential issuance of debt, its plan to buy back the stock portion within one year, the high purchase price, and the potential for continuing EBITDA declines in Disney’s businesses if the recession is prolonged will lead to debt leverage remaining above our threshold for an extended period.”
Furthermore, Lazard Capital Markets lowered its ratings on both Disney and Marvel to Hold from Buy, and stated that the $50 purchase price was higher than their $46 target price for Marvel. Disney said that they expect earnings will fall in the short term, primarily due to the dilution of 59 million in new shares. Furthermore, we do not expect a Marvel character based blockbuster to be released until 2011 when both “Thor” and “The First Avenger: Captain America” are expected. In the mean time, those two films will be costly to produce and further dampen earnings prior to their premier.
At Ockham, we are not as concerned over the price that Disney paid because the acquisition has such huge potential over the long term. Of course, the deal will be dilutive to current shareholders, but if your time horizon is long earnings should be back by 2012. Furthermore, we were more bullish than Lazard on Marvel, as we were anticipating the price over the next year would rise to $50 and accordingly had an Undervalued rating on MVL. Of course, post announcement it is likely almost all of the appreciation potential has been exhausted. We also see Disney as Undervalued, but to a lesser extent. Even though some analysts may be downgrading Disney because of the increased debt load and dilutive effects of the deal, we continue to believe Disney is a good buy for the long term investor.
