Analyst's Notes. Argus Recommendations

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1 Report created Dec 15, 2017 Page 1 OF 5 Walt Disney Co. is a global entertainment company with four divisions: Media Networks, Parks and Resorts, Studio Entertainment, and Consumer Products & Interactive Media. The company owns and leverages well-known brands, ranging from Mickey Mouse and 'Frozen' to ESPN and ABC. Disney acquired the animated movie producer Pixar Animation Studios in 2006, comic book and movie producer Marvel Entertainment in 2010, and 'Star Wars' originator, Lucasfilm, in Disney derives 24% of its revenue from outside of North America and 12% of its revenue from Europe. Analyst's Notes Analysis by Joseph Bonner, CFA, December 14, 2017 ARGUS RATING: BUY Announces Fox acquisition Disney announced it has agreed to acquire certain assets of industry peer Twenty-First Century Fox, Inc. in an all-stock transaction with an equity value of $52.4 billion or about $30 per share. We see the Fox acquisition as a positive for Disney, if also a little pricey. We think the acquisition presents Disney with strategic opportunities, primarily an additional source of high-quality branded content to feed its planned direct-to-consumer digital streaming channels. Disney has trailed the overall market in 2017 but has performed about average against its industry peers. INVESTMENT THESIS We are maintaining our BUY rating on Walt Disney Co. (NYSE: DIS) to a target price of $129. We see the Fox acquisition as a positive for Disney, if also a little pricey. We think the Fox acquisition presents Disney with strategic opportunities, primarily an additional source of high-quality branded content to feed its planned direct-to-consumer digital streaming channels. A strong direct-to-consumer presence may enable Disney to better compete with Netflix, as well as switch offerings to direct-to-consumer in the event that the traditional cable bundle is no longer viable. Of course, the acquisition should also benefit from the usual merger synergies of combining two very similar business but this also raises the risk of a negative anti-trust review. Although increased investment in Shanghai Disneyland and other projects has recently weighed on earnings, Disney is also positioning itself for long-term growth. However, management again warned that 'earnings growth will be suppressed' in FY18 after a paltry 0.3% EPS growth in FY17. Disney has trailed the overall market in 2017 but has performed about average against its industry peers. RECENT DEVELOPMENTS Data Pricing reflects previous trading week's closing price. 200-Day Moving Average Price ($) Rating EPS ($) Target Price: $ Week High: $ Week Low: $ Closed at $ on 12/8 Quarterly Annual ( Estimate) 6.53 ( Estimate) Revenue ($ in Bil.) Quarterly Annual ( Estimate) 59.3 ( Estimate) FY ends Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Sept BUY HOLD SELL Argus Recommendations Twelve Month Rating SELL HOLD BUY Five Year Rating SELL HOLD BUY Rating Weight Under Over Weight Weight Argus assigns a 12-month BUY, HOLD, or SELL rating to each stock under coverage. BUY-rated stocks are expected to outperform the market (the benchmark S&P 500 Index) on a risk-adjusted basis over the next year. HOLD-rated stocks are expected to perform in line with the market. SELL-rated stocks are expected to underperform the market on a risk-adjusted basis. The distribution of ratings across Argus' entire company universe is: 50% Buy, 44% Hold, 6% Sell. Key Statistics Key Statistics pricing data reflects previous trading day's closing price. Other applicable data are trailing 12-months unless otherwise specified Overview Price $ Target Price $ Week Price Range $96.20 to $ Shares Outstanding 1.51 Billion Dividend $1.68 Overview Consumer Discretionary Rating OVER WEIGHT Total % of S&P 500 Cap % Financial Strength Financial Strength Rating MEDIUM-HIGH Debt/Capital Ratio 35.4% Return on Equity 22.3% Net Margin 16.3% Payout Ratio 0.28 Current Ratio 0.81 Revenue $55.14 Billion After-Tax Income $8.98 Billion Valuation Current FY P/E Prior FY P/E Price/Sales 3.03 Price/Book 4.01 Book Value/Share $27.54 Capitalization $ Billion Forecasted Growth 1 Year EPS Growth Forecast 7.54% 5 Year EPS Growth Forecast 10.00% 1 Year Dividend Growth Forecast 9.62% Risk Beta 1.01 Institutional Ownership 60.99%

2 Report created Dec 15, 2017 Page 2 OF 5 Disney announced its agreement to acquire certain assets of industry peer Twenty-First Century Fox, Inc. in an all-stock transaction with an equity value of $52.4 billion or about $30 per share. Disney CEO Bog Iger laid out the strategic rationale for this mega-merger of integrated entertainment industry giants. Mr. Iger had previously stated that Disney's direct-to-consumer (DTC) digital streaming initiatives with a launch of an ESPN DTC offering in 2018 followed by a Disney branded offering in late 2018 or 2019 as the company's top priority and key to its future growth. Mr. Iger thinks that the addition of Fox's popular branded content will feed Disney's DTC offerings and Fox's assets and expertise in DTC distribution can accelerate Disney's DTC strategy. The obvious issue here is the competitive threat from a surging Netflix. As Netflix rapidly grows its worldwide consumer subscriber base, its ownership of the consumer relationship could eventually relegate Disney's strategic industry position to that of just one of many content vendors with a concomitant loss of bargaining power as it licenses its content to Netflix with a direct negative impact on future revenue growth. This reasoning was also behind Disney's decision to terminate most of its distribution relationships with Netflix in 2019 and in its acquisition of a majority interest in digital distribution technology company BAMTech. This acquisition will unite both the 'X-Men' franchise with the rest of the Marvel character universe already owned by Disney and the early Star Wars films with Disney's Lucasfilm production label. The 'Avatar' franchise, the highest box office grossing film in history also comes to Disney with the merger. The third rationale proposed by Mr. Iger fits in with Disney's other long term strategy of international expansion that may come with Fox's extensive international television distribution channel assets. Disney sees a particular opportunity to grow its ESPN cable sports channels' international presence when integrated with Fox's international sports assets. Fox will spin off its Fox Broadcasting network and affiliated stations, Fox Business network, Fox Sports 1 network, Fox Sports 2 network, the Big Ten Network, and the Fox studio lot to a tradable entity owned by its shareholders just before the planned merger with Disney. Disney will acquire Fox's film and television studios, cable entertainment networks, Fox Sports regional networks, and international television businesses. The Fox assets going to Disney include the popular 'X-Men' and 'Avatar' film franchises, cable channels including FX Networks and National Geographic, television shows like 'The Simpsons,' and a number of wholly owned and equity interests in television businesses outside the U.S. including Star India, Sky plc, Tata Sky, and Endemol Shine Group. The combination of Disney's and Fox's shares in the Hulu over-the-top video streaming service will give Disney a 60% controlling interest in Hulu. The parties expect that the Disney/Fox merger will generate at least $2 billion in cost savings from efficiencies by 2021 and to be accretive to Disney's earnings for the second fiscal year after Growth & Valuation Analysis GROWTH ANALYSIS ($ in Millions, except per share data) Revenue 45,041 48,813 52,465 55,632 55,137 COGS 25,034 26,420 28,364 29,993 30,306 Gross Profit 20,007 22,393 24,101 25,639 24,831 SG&A 8,365 8,565 8,523 8,754 8,176 R&D Operating Income 9,450 11,540 13,224 14,358 13,873 Interest Expense Pretax Income 9,620 12,246 13,868 14,868 13,788 Income Taxes 2,984 4,242 5,016 5,078 4,422 Tax Rate (%) Net Income 6,136 7,501 8,382 9,391 8,980 Diluted Shares Outstanding 1,813 1,759 1,709 1,639 1,578 EPS Dividend GROWTH RATES (%) Revenue Operating Income Net Income EPS Dividend Sustainable Growth Rate VALUATION ANALYSIS Price: High $76.54 $95.93 $ $ Price: Low $50.18 $69.85 $90.00 $86.25 Price/Sales: High-Low P/E: High-Low Price/Cash Flow: High-Low Financial & Risk Analysis FINANCIAL STRENGTH Cash ($ in Millions) 4,269 4,610 4,017 Working Capital ($ in Millions) ,706 Current Ratio LT Debt/Equity Ratio (%) Total Debt/Equity Ratio (%) RATIOS (%) Gross Profit Margin Operating Margin Net Margin Return On Assets Return On Equity RISK ANALYSIS Cash Cycle (days) Cash Flow/Cap Ex Oper. Income/Int. Exp. (ratio) Payout Ratio The data contained on this page of this report has been provided by Morningstar, Inc. ( 2017 Morningstar, Inc. All Rights Reserved). This data (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results. This data is set forth herein for historical reference only and is not necessarily used in Argus analysis of the stock set forth on this page of this report or any other stock or other security. All earnings figures are in GAAP.

3 Report created Dec 15, 2017 Page 3 OF 5 closing, excluding the negative impact from purchase accounting rules. Disney will issue about 515 million new shares to Fox shareholders. However, Disney expects to mitigate the dilution from the new shares through a plan to repurchase $10 billion in DIS shares though the closing of the merger and another repurchase of up to $10 billion within two years post-closing of the transaction. The planned share repurchases have been factored into Disney's guidance for accretion from the merger by the second fiscal year after close. Fox shareholders will receive Disney shares for each Fox share, subject to tax liability adjustments. Disney will also assume $13.7 billion in Fox net debt. The assumption of debt will give the merger a total transaction value of $66.1 billion. Disney values the transaction at about 12-times the calendar 2018 expected EBITDA for the acquired Fox businesses. Including the $2 billion in synergies, this valuation would fall to 8.3-times. The only deal comparable to the Fox acquisition was Comcast's acquisition of NBC Universal in 2013 which was valued at 9-times. Fox will continue to seek to close its acquisition of the 61% of European satellite television broadcaster Sky, plc. that it does not already own by June 30, 2018, prior to Fox's acquisition by Disney. However, the Disney merger is not contingent on whether Fox's Sky acquisition closes. Fox shareholders are expected to own about a 25% interest in Disney after the close of the Fox merger. Also in connection with the deal, Disney CEO Bob Iger has agreed to remain in his position at Disney through The Disney/Fox merger is subject to the usual regulatory reviews in the U.S. and in other foreign jurisdictions and shareholder approval from both Disney and Fox shareholders. The merger agreement is scheduled to terminate on December 13, 2018 unless extended. The break-up fees are mutual in that Disney or Fox will pay the other a fee of $1.525 billion if it backs out of the deal. Disney will pay Fox a $2.5 billion break-up fee if it fails to gain all the necessary regulatory approvals. We think anti-trust could be a risk factor for the deal given the hard line the U.S. Department of Justice has taken in trying to block the AT&T/Time Warner merger. Disney's proposed acquisition of Fox is a traditional horizontal merger which will eliminate any industry competitor. The DOJ could very well demand that Disney sell off valued assets or try to block the deal altogether. Disney expects the merger to close within the first half of 2019 (12-18 months from today's announcement). Our FY18 estimate is $6.13 and our FY19 forecast is $6.53. In general comments on the fourth-quarter call, CFO Christine McCarthy said that earnings growth would be 'suppressed' in FY18 due to the consolidation of, and investments in, BAMTech, as well as investments in Hulu. MANAGEMENT & RISKS The proposed Fox acquisition adds new elements of risks to Disney's profile. The risk around anti-trust/regulatory approval is obvious with the added risk of a large $2.5 billion break-up fee if Peer & Industry Analysis The graphics in this section are designed to allow investors to compare DIS versus its industry peers, the broader sector, and the market as a whole, as defined by the Argus Universe of Coverage. The scatterplot shows how DIS stacks up versus its peers on two key characteristics: long-term growth and value. In general, companies in the lower left-hand corner are more value-oriented, while those in the upper right-hand corner are more growth-oriented. The table builds on the scatterplot by displaying more financial information. The bar charts on the right take the analysis two steps further, by broadening the comparison groups into the sector level and the market as a whole. This tool is designed to help investors understand how DIS might fit into or modify a diversified portfolio. P/E CHTR Value DISCMCSA OMC FOXA TWX CBS 5-yr Growth Rate(%) NFLX Growth 5-yr Net 1-yr EPS Cap Growth Current Margin Growth Argus Ticker Company ($ in Millions) Rate (%) FY P/E (%) (%) Rating CMCSA Comcast Corp 182, BUY DIS Disney Walt Co. 166, BUY NFLX Netflix Inc 82, HOLD CHTR Charter Communications Inc. 81, BUY TWX Time Warner Inc 69, BUY FOXA Twenty-First Century Fox Inc 36, HOLD CBS CBS Corp. 21, BUY OMC Omnicom Group Inc 16, BUY Peer Average 82, P/E Price/Sales Price/Book PEG 5 Year Growth Debt/Capital

4 Report created Dec 15, 2017 Page 4 OF 5 anti-trust approval is not gained. If the Fox deal moves forward, the risks around integration of a very large and multi-faceted asset are myriad. The FCC and consumer advocates had pushed for smaller, more selective cable channel bundles for years, but had little success in the face of industry opposition. However, 'skinny' bundles from both legacy cable distributors and new-entrant internet streaming providers look like the wave of the future. Disney's plans to join the OTT fray are simply a recognition of the building relevance of this emerging form of content distribution to viewers. At the very least, digital streaming will be an addition to, if not an outright replacement for, traditional large multichannel cable bundles. ESPN, as the most valuable cable channel, could be saddled with expensive long-term sports contracts, without a reliable affiliate revenue stream, if it is unable to generate the kind of revenue from these new forms of distribution that it has generated from traditional cable bundles in the past. 'Skinny bundles' could also take a toll on Disney's other cable and broadcast channels. We think that CEO Robert Iger deserves much of the credit for making alliances and catapulting Disney to the top of the media industry. Mr. Iger wooed Steve Jobs and Pixar first into an alliance to distribute Disney/ABC television content through Apple's itunes store, then arranged Disney's acquisition of Pixar. In 2009, Disney signed on to the Hulu joint venture to distribute content over the internet, and announced an agreement with the Chinese government for a new park in Shanghai, which opened in June In 2010, it acquired Marvel Entertainment and agreed to distribute some ABC television content through Netflix. In December 2012, Disney acquired Lucasfilm, with its iconic 'Star Wars' intellectual property. Mr. Iger has extended his contract through December, 2021, provided the Fox acquisition is completed. If the Fox deal is terminated, Mr. Iger's contract will end July 2, The 66-year-old Mr. Iger's succession adds a level of uncertainty for Disney. Disney investors face numerous risks. A drop in consumer spending businesses can impact businesses across its portfolio. The company can fight back with discounts, especially in the Parks division, though this hurts profitability. The company has recently benefited from price increases, even in the face of a continued slow-growth economy. Another financial or other crisis could be a blow to consumer confidence. All of these factors could reduce travel and spending at Disney locations. Disney has also increased its economic sensitivity through the reacquisition of Disney retail stores in North America and Japan. The Studio Entertainment and Media Networks divisions, like all creative content producers/distributors, depend on advertising spending, which is a major component of revenue for the networks and makes their revenue highly sensitive to cyclical fluctuations. These divisions must also deal with the hit-or-miss nature of the media business, as studios try to anticipate the changing tastes of a fickle public. The studios must also try to contain the high costs of producing entertainment content. We note that media audience fragmentation and the secular shift in advertising dollars away from broadcast television and toward digital/internet platforms have magnified the above-mentioned risks. Of course, Disney is in the forefront of adapting to the new digital delivery platforms, and has at times shortened distribution windows to the consternation of its theatrical exhibition partners. Investors have been pointedly concerned about the fate of Disney's crown jewel asset, cable sports network ESPN, ever since the company revealed that ESPN had begun to suffer subscriber defections in calendar 2Q15. Subscriber declines remain a drag for ESPN as the network has weathered rounds of layoffs. However, CEO Bob Iger has noted the attractiveness of the ESPN sports media brand to new virtual multichannel video program distributors (vmvpds). ESPN has already been included in Dish's Sling TV, AT&T DirecTV Now, Hulu, Sony's PlayStation Vue, and YouTube TV. Mr. Iger noted that 'from a per sub pricing standpoint, these new services are just as valuable to us as traditional platforms,' signaling to the investment community that ESPN continues to garner its premium per subscriber license fees from the new services. vmvpds are currently immaterial to Disney's business; however, ESPN's inclusion in them represents a hedge against their future growth and the concomitant shrinkage of the cable subscriber universe if the 'cord-cutter/cord-never' phenomenon accelerates. While ESPN may now be included in the new vmvpd services, so-called 'skinny bundles' that exclude sports could be a future threat for ESPN. This threat is balanced by ESPN's unique sports programming; this programming tends to be watched live rather than time-delayed, thus making it more valuable to advertisers, including advertisers on mobile video. COMPANY DESCRIPTION Walt Disney Co. is a global entertainment company with four divisions: Media Networks, Parks and Resorts, Studio Entertainment, and Consumer Products & Interactive Media. The company owns and leverages well-known brands, ranging from Mickey Mouse and 'Frozen' to ESPN and ABC. Disney acquired the animated movie producer Pixar Animation Studios in 2006, comic book and movie producer Marvel Entertainment in 2010, and 'Star Wars' originator, Lucasfilm, in Disney derives 24% of its revenue from outside of North America and 12% of its revenue from Europe. VALUATION Our valuation methodology is multistage, including peer analysis, a multiple-analysis matrix applied to our proprietary forecasts, and discounted cash flow modeling. DIS shares have traded between $96 and $116 over the past year, and are currently above the midpoint of that range. The shares have risen 8% year-to-date on a total-return basis, compared to a 21% gain for the S&P 500 and an 8% gain for the S&P 500 Media Index. DIS is trading at a trailing enterprise value/ebitda multiple of 11.7, above the peer average of Disney's forward enterprise value/ebitda multiple of 10.7 is 10% above the peer average, compared to an average premium of 1% over the past two years. Our rating remains BUY with a target price of $129. On December 14, BUY-rated DIS closed at $110.57, up $2.96.

5 METHODOLOGY & DISCLAIMERS Report created Dec 15, 2017 Page 5 OF 5 About Argus Argus Research, founded by Economist Harold Dorsey in 1934, has built a top-down, fundamental system that is used by Argus analysts. This six-point system includes Industry Analysis, Growth Analysis, Financial Strength Analysis, Management Assessment, Risk Analysis and Valuation Analysis. Utilizing forecasts from Argus Economist, the Industry Analysis identifies industries expected to perform well over the next one-to-two years. The Growth Analysis generates proprietary estimates for companies under coverage. In the Financial Strength Analysis, analysts study ratios to understand profitability, liquidity and capital structure. During the Management Assessment, analysts meet with and familiarize themselves with the processes of corporate management teams. Quantitative trends and qualitative threats are assessed under the Risk Analysis. And finally, Argus Valuation Analysis model integrates a historical ratio matrix, discounted cash flow modeling, and peer comparison. THE ARGUS RESEARCH RATING SYSTEM Argus uses three ratings for stocks: BUY, HOLD, and SELL. Stocks are rated relative to a benchmark, the S&P 500. A BUY-rated stock is expected to outperform the S&P 500 on a risk-adjusted basis over a 12-month period. To make this determination, Argus Analysts set target prices, use beta as the measure of risk, and compare expected risk-adjusted stock returns to the S&P 500 forecasts set by the Argus Strategist. A HOLD-rated stock is expected to perform in line with the S&P 500. A SELL-rated stock is expected to underperform the S&P 500. Argus Research Disclaimer Argus Research is an independent investment research provider and is not a member of the FINRA or the SIPC. Argus Research is not a registered broker dealer and does not have investment banking operations. The Argus trademark, service mark and logo are the intellectual property of Argus Group Inc. The information contained in this research report is produced and copyrighted by Argus, and any unauthorized use, duplication, redistribution or disclosure is prohibited by law and can result in prosecution. The content of this report may be derived from Argus research reports, notes, or analyses. The opinions and information contained herein have been obtained or derived from sources believed to be reliable, but Argus makes no representation as to their timeliness, accuracy or completeness or for their fitness for any particular purpose. This report is not an offer to sell or a solicitation of an offer to buy any security. The information and material presented in this report are for general information only and do not specifically address individual investment objectives, financial situations or the particular needs of any specific person who may receive this report. Investing in any security or investment strategies discussed may not be suitable for you and it is recommended that you consult an independent investment advisor. Nothing in this report constitutes individual investment, legal or tax advice. Argus may issue or may have issued other reports that are inconsistent with or may reach different conclusions than those represented in this report, and all opinions are reflective of judgments made on the original date of publication. Argus is under no obligation to ensure that other reports are brought to the attention of any recipient of this report. Argus shall accept no liability for any loss arising from the use of this report, nor shall Argus treat all recipients of this report as customers simply by virtue of their receipt of this material. Investments involve risk and an investor may incur either profits or losses. Past performance should not be taken as an indication or guarantee of future performance. Argus has provided independent research since Argus officers, employees, agents and/or affiliates may have positions in stocks discussed in this report. No Argus officers, employees, agents and/or affiliates may serve as officers or directors of covered companies, or may own more than one percent of a covered company s stock. Morningstar Disclaimer 2017 Morningstar, Inc. All Rights Reserved. Certain financial information included in this report: (1) is proprietary to Morningstar and/or its content providers; (2) may not be copied or distributed; and (3) is not warranted to be accurate, complete or timely. Neither Morningstar nor its content providers are responsible for any damages or losses arising from any use of this information. Past performance is no guarantee of future results.