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Minicase 19
Disney’s 100-Year Bonds
The Walt Disney Company is a diversified, international entertainment firm whose
operations, through its subsidiaries, include theme parks and resorts, film studios, consumer
products, television networks, radio networks, cable networks, newspapers and magazines.
Disney owns such household names as ABC Television, The Disney Channel, Disney Land, and
Disney MGM Studios, among others.
Recently, Disney announced that it was offering a $300 million bond issue. This, in and of itself,
would not be remarkable. However, the bond offering may have a maturity of 100 years. Bond
issues of more than 30 years have been rare over the past several decades, especially since the
high inflation and high interest rate years in the 1970s and 1980s.
Pricing the yield on a 100-year bond issue would be difficult. Accurate information on the yield
curve, for any given level of risk, only exists for bonds with up to 30 years to maturity. Consider
the yield curve in Exhibit 19-1 which reports the yields for A1 and A2 rated bonds by Moody’s
Investors Service. What yield would a 100-year bond issue need? To complicate the matter, its
long-term debt was rated A1 by Moody’s Investors Service and AA- by Standard & Poor’s.
These are slightly different rating so that one rating would predict a different required yield than
the other. Lastly, Disney decided to issue callable bonds. For the right to redeem the bonds
early, Disney will pay a premium over noncallable bonds.
demanded for a 100-year issue? This case explores these issues.
What call option premium is
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Disney’s Environment1
The theme parks and resorts segment has generated roughly 40% of its total revenue, filmed
entertainment has accounted for roughly 40%, and consumer products has generated the
remaining 20%. Disney recently acquired Capital Cities/ABC and with it ABC Television and
ABC Radio.
Exhibit 19-2 reports Disney’s balance sheet for the end of its latest two fiscal years.
Additionally, it contains the unaudited balance sheet for the latest quarter before the bond issue.
Exhibit 19-3 shows Disney’s income statements for the latest two fiscal years and the most recent
quarterly statement. Disney paid a quarterly dividend of $0.0625 per share, up from $0.0525 for
the same quarter in the prior year.
Disney’s recent operations have been affected by several important factors leading up to the bond
issue. First, the impact of the adoption of the methods of accounting prescribed by Statement of
Financial Accounting Standards (SFAS) No. 106, Employers’ Accounting for Postretirement
Benefits Other Than Pensions, and SFAS No. 109, Accounting for Income Taxes, each had a
negative net impact.
Recent results for the theme parks and resorts have been affected by slightly higher attendance at
Disneyland, Disney World, and Tokyo Disneyland. Per capital spending increased due to price
increases. Occupied room nights and occupancy levels at the Florida resorts increased. Losses
from the Euro Disney investment are expected to continue into the fourth quarter, covering the
The information in this section was taken in large part from Disney’s Quarterly Report, Form 10-Q, obtained from
EdgarPlus.
1
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peak summer season. Disney and Euro Disney are currently reviewing the financial structure and
development strategy of the Euro Disney theme park. Disney has agreed to help finance Euro
Disney’s capital expansion and working capital requirements over the short-term.
Disney’s filmed entertainment business reflected highly successful domestic home video releases
of Beauty and the Beast, and Pinocchio. The international release of Beauty and the Beast, Sister
Act and Jungle Book were also successful. The strong performance of Aladdin domestically,
was partially offset by poor performances of Aspen Extreme, A Far Off Place, Bound by Honor,
Life with Mikey, and Swing Kids.
Details of the Debt Issue2
Disney has registered a long-term bond issue with the SEC. Disney plans to offer $300 million
of senior debentures. One of the alternatives it is considering is 100-year bonds paying 7.55%
APR and allowing Disney to redeem them at par beginning 30 years after issue.
The investment banking firm Morgan Stanley & Co. has advised Disney throughout the process
of selecting the debt issue’s maturity, coupon, call features, etc. However, both Morgan Stanley
and Merrill Lynch, Pierce, Fenner & Smith Inc. would share the underwriting of the issue. The
two investment banking firms agreed to purchase principal amounts of $150 million each to
resell on the primary market.
2
The information in this section was taken from Disney, $300,000,000 Senior Debentures, Prospectus.
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Choosing a Debt Issue
Disney has decided to issue additional long-term debt. Its investment bankers have advised that a
100-year debt issue might be possible. Disney is conservatively capitalized. Its long-term debt is
rated A1 by Moody’s Investors Service and AA- by Standard & Poor’s. Its current capitalization
is provided in Panel A of Exhibit 19-5, and its interest coverage for the latest 12 months is
reported in Panel B of Exhibit 19-5.
Interest rates have decreased for the past few years and are near their lowest levels in the past
twenty years. This has made very long-term debt an attractive financing alternative. At the same
time, many investors in long-term fixed-rate debt have come to believe that the United States had
inflation under control and that long-term interest rates are unlikely to return to the very high
levels experienced in the 1980s. They think that long-term interest rates might even decline
further because the gap between long-term Treasury yields (6.40% for the 30-year bond) and the
projected inflation rate (3%) is relatively high by historical standards. Thus, a 100-year maturity,
almost unthinkable just a few years before, is now possible according to Disney’s investment
bankers at Morgan Stanley & Co.
Disney could issue noncallable long-term bonds at the APRs (with interest payable semiannually)
in Exhibit 19-5, Panel C. If it issues 100-year debt, Disney wants to preserve some flexibility to
retire it before its maturity. Morgan Stanley advised Disney that it could issue $300 million
principal amount of 100-year debt that was callable beginning 30 years from the issue date at an
interest cost of 7.55% APR. The initial call price would be 103.02%. The call price would step
down to par beginning 50 years after the issue date, as shown in Exhibit 19-4.
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Questions
1. Estimate the cost of the call option to Disney by calculating the present value of the
difference in payments Disney would have to make, assuming it called the bonds after 30
years. Explain what Disney would get in exchange for this cost.
2. Calculate the duration of the 5-, 10-, 30-, and 100-year bonds bearing the interest rates
indicated above. Do you see any pattern between duration and offering yield?
3. Show the pro forma impact on Disney’s capitalization and interest coverage from issuing
$300 million principal amount of 30-, noncallable 100-, and callable 100-year bonds.
4. Consider the 30-year and 100-year bonds. If Disney issues 30-year bonds now and refunds
them with 70-year bonds 30 years from now, what interest rate on the subsequently issued
70-year bonds would make Disney just as well off as if it had issued noncallable 100-year
bonds today? (Hint: one approach to solving this problem is to find the interest rate on the
70-year bonds that makes the present value of the two 100-year streams of interest payments
equal, using the 100-year new issue rate as the discount rate in both cases.)
5. Consider the callable and noncallable 100-year bonds. If Disney issues callable 100-year
bonds now and refunds them at the end of the 30th year with 70-year bonds, what interest rate
on the subsequently issued 70-year bonds would make Disney just as well off as if it had
issued noncallable 100-year bonds instead?
6.
Do you think Disney should issue callable 100-year bonds or one of the other alternatives?
Explain.
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EXHIBIT 19-1
Fair Market Yield Curves
Moody’s Investors Service Debt Rating
Maturity
A1
A2
3MO
3.71%
3.79%
6MO
3.84
3.95
1YR
4.14
4.17
2YR
4.67
4.69
3YR
5.15
5.18
4YR
5.53
5.71
5YR
5.87
6.01
7YR
6.24
6.39
10YR
6.62
6.63
20YR
7.28
7.29
30YR
7.34
7.37
Source: Bloomberg L.P.
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EXHIBIT 19-2
Disney Condensed Balance Sheets
(Dollars in millions)
Latest
Quarter-End
ASSETS
Cash and cash equivalents
$ 185.7
Investments
1,772.6
Receivables
1,195.5
Merchandise inventories
463.6
Film and television costs
1,116.2
Theme parks, resorts and other property - net
5,120.9
Investment in and advances to Euro Disney
233.5
Other Assets
998.5
Total Assets
$11,086.5
LIABILITIES & STOCKHOLDERS’ EQUITY
Accounts and taxes payable and other accrued
$ 2,329.8
liabilities
Borrowings
1,959.2
Unearned royalty and other advances
863.4
Deferred income taxes
765.0
Stockholders’ equity
Common stock
856.4
Retained earnings
5,853.2
Less treasury stock, at cost
684.1
Total Liabilities and Stockholders’ Equity
$11,086.5
Source: Disney Quarterly Report, SEC Form 10-Q Filing.
Latest
Year-End
Previous
Year-End
$ 764.8
1,407.0
1,179.3
462.8
760.5
4,798.7
659.1
829.5
$10,861.7
$ 886.1
782.4
1,128.2
311.9
596.9
4,571.6
1,151.7
$9,428.5
$ 2,172.9
$ 1,730.0
2,222.4
872.8
889.0
2,213.8
859.5
753.9
619.9
5,368.7
664.1
$10,861.7
549.7
4,535.4
664.1
$9,428.5
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EXHIBIT 19-3
Disney Consolidated Statements of Income
(Dollars in millions)
REVENUES
Theme parks and resorts
Filmed entertainment
Consumer products
Total Revenue
COSTS AND EXPENSES
Theme parks and resorts
Filmed entertainment
Consumer products
Total Costs and Expenses
OPERATING INCOME
CORPORATE ACTIVITIES
General & administrative expenses
Net investment and interest income (expense)
Income (Loss) from investment in Euro
Disney
Income Before Taxes
Income tax
NET INCOME
Source: Disney Quarterly Report, SEC Form 10-Q Filing.
Latest
Quarter
Latest
Year
One Year
Ago
$ 986.1
654.5
296.2
1,936.8
$ 3,306.9
3,115.2
1,081.9
7,504.0
$ 2,794.3
2,593.7
724.0
6,112.0
723.9
519.1
223.9
1,466.9
469.9
2,662.9
2,606.9
798.9
6,068.7
1,435.3
2,247.7
2,275.6
494.2
5,017.5
1,094.5
41.5
(4.2)
(30.9)
148.2
(3.5)
11.2
160.8
(14.4)
63.8
401.7
142.6
$ 259.1
1,301.8
485.1
$ 816.7
1,011.9
375.3
$ 636.6
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EXHIBIT 19-4
Year of Call and Call Price Schedule
Year
Redemption Price
2023
103.020%
2024
102.869
2025
102.718
2026
102.567
2027
102.416
2028
102.265
2029
102.114
2030
101.963
2031
101.812
2032
101.661
2033
101.510
2034
101.359
2035
101.208
2036
101.057
2037
100.906
2038
100.755
2039
100.604
2040
100.453
2041
100.302
2042
100.151
2043 and after
100.000
Source: Disney, $300,000,000 7.55% Senior Debentures Due 2093, Pricing Supplement to
Prospectus.
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EXHIBIT 19-5
Capitalization, Interest Coverage, and Bond Issue Rates
Panel A CAPITALIZATION
(Dollars in millions)
Short-term debt
LATEST
QUARTER-END
$503.7
Long-term debt
$1,455.5
Stockholders’ equity
5,169.1
Total capitalization
6,624.6
Total capitalization (including short-term debt)
$7,128.3
Panel B INTEREST COVERAGE
(Dollars in millions)
Earnings before interest and taxes
LATEST
12 MONTHS
$1,640.5
Interest expense
122.4
Interest coverage ratio
13.4x
Panel C NONCALLABLE BOND ISSUE RATES
OFFERING YIELD
MATURITY (YEARS)
(APR)
3
5.15%
5
5.85
7
6.25
10
6.60
20
7.25
30
7.35
100
7.35