Dreamworks
Animation (DWA) is a computer generated film studio best known for its characters such as Shrek, Madagascar, Kung Fu Panda and
How To Train Your Dragon. These characters have entertained millions around the world but investors have had to read from a different script. Being a studio that is reliant on releasing two successful films a year has made it difficult for the company to grow. It also makes it hard for investors to analyse as a hit or a miss film can have a major impact on the company. It is not a great long term business model when you only make money twice a year when a film is released resulting in a stock that is down 34% year to date.
Transforming from a studio into a global branded family entertainment company
Transforming from a studio into a global branded family entertainment company
However like all good animated films DWA is planning on having a happy ending. DWA feels it finally has enough characters to move aggressively just from film into television, consumer products,
digital content and location based entertainment. A similar model to Disney that relies on multiple revenue streams. Instead of watching
DWA twice a year at the movies fans can watch 365 days a year on
Netflix and TV keeping their characters front of mind. Their recent initiatives include:
·
Launching their own television production unit in
partnership with Netflix and with Super RTL and Planeta Junior in Europe
·
Finalised arrangements for their Chinese joint
venture known as Oriental Dreamworks including an indoor theme park
·
Acquired Awesomeness TV a popular channel among
young teens with more than 100 million subscribers on Youtube
·
Bought Classic media the owner of some of the
great kids content in the world see below
·
Building a consumer product business to unlock
their library of content.
·
DWA changed distributor to FOX and received more
attractive distribution economics.
Netflix a no risk deal
The DWA TV deal with Netflix is one of the great media
deals. DWA will provide Netflix with 300 hours of original programming. Amazingly
DWA will own the rights to the content after an exclusive period. Over a 3-4 year period of time DWA will
accumulate over a $1 billion worth of programming that will be extremely valuable if
they ever want to launch their own channel similar to say a Disney Junior. It is a godfather deal in the movie business its a deal with no downside.
There are no performance requirements DWA just has to
produce the shows to get paid. DWA effectively gets paid to build a content
library that they can monetise once their exclusivity period expires. It’s a
smart move to forgo cable television in favour of Netflix which is the
future of TV viewing. It keeps DWA characters front of mind with Netflix being a compelling pitch to parents as the shows are
commercial free. DWA has guided to $250m in TV sales by 2015 up from $106
million in 2013 in context DWA total sales in 2013 were $724m. Turbo is a good
example of the change even though the film fell short of expectations, the Turbo
series launched in December on Netflix is on track to become one of the most
popular kid’s series ever on their platform.
Not that sort of library
Media companies are valuable for their library of content. These older shows have already been expensed and tend to be high margin cash generative businesses. Digital distribution has
opened up the value of film libraries with Netflix and iTunes etc creating a larger market
for on demand titles versus just linear TV scheduling which is limited by range
and choice that it can show viewers. Producing 2 films a year is not a great way for DWA to build up a library so they have been actively acquiring content recently paying for Classic Media. Classic
Media owns 3,600 hours of programming including Casper, Where’s Wally, Lassie,
Rocky & Bullwinkle (see above). Much like Disney with the Avengers and Lucasarts DWA will
reintroduce these characters to a new generation reducing the risk of trying to
create new franchises from scratch. Parents tend to gravitate towards
characters they are familiar with as children when buying gifts for
their own. Hidden within this
acquisition are also the rights to the Golden Books library whose titles have
sold more than 2 billion copies but have yet to be exploited digitally.
China friendly characters (Pandas & Dragons)
Disney had a 50 year headstart on DWA in the US but in China
the playing field is level. DWA had a little luck with the release of Kung Fu
Panda in 2008 as the story set in ancient China resonated with the China
market. 6 out of the top 10 animated films in China were produced by DWA. DWA
has a JV in China that will make animated and live action films including the
upcoming Kung Fu Panda 3. DWA has long term plans to eventually IPO the China
business. China is expected to be the largest box office market by 2020. The How to Train your Dragon 2 opening weekend in China grossed $25.9 million nearly 8x higher than the original.
Balance sheet mess
With writedowns on three of its last four movies Turbo, Rise of the Guardians and Peabody DWA's balance sheet is looking stretched. There is also a contingent payment estimated to be $91.8m that will be be paid to Awesomeness TV based on certain earnings and performance targets in 2014 and 2015. However DWA will receive cash from Netflix on delivery on the TV shows and How to train your dragon 2 (which has now grossed $609 million after a soft start). Fortunately going forward DWA is releasing a number of other sequels including Penguins of Madagascar (see trailer above) and Kung Fu Panda 3. Its unlikely that DWA will lose money on these films. DWA also announced news of an SEC investigation into the timing of the write down of Turbo. Since the announcement DWA has put in place a new CFO. In our opinion it is hard to see much more bad news.
Balance sheet mess
With writedowns on three of its last four movies Turbo, Rise of the Guardians and Peabody DWA's balance sheet is looking stretched. There is also a contingent payment estimated to be $91.8m that will be be paid to Awesomeness TV based on certain earnings and performance targets in 2014 and 2015. However DWA will receive cash from Netflix on delivery on the TV shows and How to train your dragon 2 (which has now grossed $609 million after a soft start). Fortunately going forward DWA is releasing a number of other sequels including Penguins of Madagascar (see trailer above) and Kung Fu Panda 3. Its unlikely that DWA will lose money on these films. DWA also announced news of an SEC investigation into the timing of the write down of Turbo. Since the announcement DWA has put in place a new CFO. In our opinion it is hard to see much more bad news.
How to train your dragon happy meals
DWA is leveraging consumer
products for future movies signing toy deals with Hasbro for two upcoming films
Trolls in 2016 (remember that crazy hair?) and BOO Bureau of Otherworldly
Operations in 2015. In the past year DWA opened up an office in Arkansas just for the
merchandising team at Walmart. DWA's 2013 hit The Croods had little or no consumer programs at retail compared to How to train your dragon 2. This branding
also extends to licensing with Royal Caribbean themed cruises, 3 theme parks in
Russia and hotel deals with Sands China and similar deals to the Dreamworks
experience on the Gold Coast. Licensing is a substantial opportunity currently DWA is ranked 16th in the top global licensors behind Westinghouse with Disney being number 1.
Having more licensing revenue including recurring and more predictable television fees is a welcome sight for investors. These initiatives have impacted earnings on the cost side yet looking forward DWA should provide investors with growth, diversification and more stable earnings an ending investors should be happy with.
Having more licensing revenue including recurring and more predictable television fees is a welcome sight for investors. These initiatives have impacted earnings on the cost side yet looking forward DWA should provide investors with growth, diversification and more stable earnings an ending investors should be happy with.
Jason
Disclosure: Decisive has a long position in Dreamworks (DWA) stock
The material in this article is for informational purposes only and in no way constitutes a solicitation of business or investment advice. The material has been prepared without regard to any client's or other person's investment objectives. Before making an investment decision you should consider the assistance of a financial adviser and whether any investment or service is appropriate in light of your particular investment needs.
