please answer the case study question
Fixed Income Analysis & Valuation cash flows are fixed, and therefore known, a bond’s value is solely a function of the rate used to discount its cash flows. For the case study questions, we will be analyzing Disney. Use the data provided in this case to answer the case questions. ○ HOW DISNEY MAKES MONEY Disney has four operating segments: Media Networks, Parks, Experiences & Consumer Products, Studio Entertainment, and Direct-to-Consumer & International. The table shows the pro- portion of Disney’s total revenues and operating income that come from each segment. Disney Segment Revenues and Operating Income All Data from Fiscal Year 2018 in Millions, Except Percentages Revenues % of Total Operating Income % of Total Media Networks 21,922 36.5% 7,338 46.7% PECP 24,701 41.1% 6,095 38.8% Studio Entertainment 10,065 16.7% 3,004 19.1% DCTI 3,414 5.7% -738 -4.7% Eliminations -668 -10 Total 59,434 15,689 Source: The Walt Disney Company Annual Report (10-K) This lesson explores how textbook concepts play out in the real world via an article on the ECB and Ray Dalio’s investment strat- egy. Then you’ll apply the fixed income lessons to The Walt Disney Company and its peers. The learning objective of this supplement is to help you bet- ter understand and compare the theoretical fixed income con- cepts with common market practices. Bonds are considered fixed income instruments because their source of return, the intermittent payment of interest and a return of the principal when the bond matures, its future value, are both fixed. They are set forth in the bond’s indenture agree- ment. Stock is a variable income instrument since its intermit- tent payment (dividend) is subject to the company’s profitability and the stock’s future value is determined by the firm’s future profitability as well as market conditions at the time. Financial theory suggests that an asset’s value is nothing more than the discounted value of its cash flows. Since a bond’s ○ Translate the theoretical fixed income principles from the textbook into common market practices. https://www.coursehero.com/file/50712828/Case-studypdf/ Th is stu dy re so ur ce w as sh are d v ia Co ur se He ro .co m https://www.coursehero.com/file/50712828/Case-studypdf/ ① During economic expansion, debt rises with wages and income. ② Income peaks at the end of an expansion while debt over- shoots and continues to grow. ③ Income begins to fall, reducing the ability to pay debt ser- vice payments. ④ Debt peaks and begins to fall as debtor insolvency leads to defaults. ⑤ Defaults strain capital within the financial system and reduce economic performance. ⑥ In extreme cases, financial institutions fail without access to sufficient capital to meet their obligations. In the next section, we will review the three categories of debt: household, corporate, and government. CATEGORIES OF DEBT + Household Debt Household debt has a significant impact on the U.S. economy since 70% of U.S. economic production comes from consumer spending. During economic recessions, consumers tend to pay off their credit cards, reduce spending, and increase savings. The Credit Crisis had a wrenching impact on U.S. households resulting in significant deleveraging. Household debt, as a per- cent of household disposable income, is at its lowest level since 1980. American household balance sheets are healthier than they have been for a generation. RAY DALIO ON BIG DEBT BUBBLES A recent book written by Ray Dalio, a renown global investor, entitled Principles for Navigating Big Debt Crises, provides a recounting and analysis of the common elements and causes of past big debt crises. Normally, a book like his would be sidelined as econobabble from purely theoretical economists. However, Dalio’s credibility as one of the most principled and successful investors of our time compels any reasonable investor to seri- ously consider his ideas and ponder his conclusions. Dalio is a bit of an economic renaissance man. The invest- ment firm he founded, Bridgewater Associates, is one of the most successful investment firms of all time. As an investment manager, Dalio is a learner. He believes investment management is a principles game where failure, and learning from failure, constitute the most powerful determinants of success. A more detailed account of Dalio’s and Bridgewater’s invest- ment approach can be found in his book. DEBT CRISES DEFINED A debt cycle occurs when people, companies, and countries become insolvent and can no longer pay their debt service costs. Debt crises are nothing more than aggregate insolvency of indi- viduals, companies, and governments en masse. Governments are usually the last group of creditors to become insolvent because of their ability to print money, as a last resort, to pay debtors. Debt cycles typically follow general economic cycles. Economic growth generates wage prosperity through higher wages. As wages rise, debt capacity rises as well. Toward the end of an economic cycle, wage growth peaks, followed by a debt peak. Economic contractions cause wages to begin to fall and insolvency sets in. Insolvency can only be solved by increasing income or decreasing debt. In a low interest rate environment, borrowing money is a bet- ter financial decision than using savings. For example, the S&P 500 has generated an annualized return of 11.85% since January 2009 and mortgage rates are, on average, 6.2%. Households, therefore, would be better off borrowing money to buy a house and investing their savings in the stock market than using their savings to buy a house. But, since debt never sleeps, never gets sick, and never loses a job, the low cost tax shield of debt that improves financial performance during expansions jeopardizes performance in recessionary environments. After researching 48 big debt cycles, Dalio has simplified them into seven broad stages. While his stages are instructive, the key elements of debt cycles are fairly straightforward and can be explained in six stages. Primer on Big Debt Cycles ○ Use the the Primer to better understand trends in the credit markets " FIXED INCOME ANALYSIS & VALUATION / BLOOMBERG BUSINESSWEEK CASE STUDY 2 9.5% 10.0% 10.5% 11.0% 11.5% 12.0% 12.5% 13.0% 13.5% M ar -8 0 M ar -8 2 M ar -8 4 M ar -8 6 M ar -8 8 M ar -9 0 M ar -9 2 M ar -9 4 M ar -9 6 M ar -9 8 M ar -0 0 M ar -0 2 M ar -0 4 M ar -0 6 M ar -0 8 M ar -1 0 M ar -1 2 M ar -1 4 M ar -1 6 M ar -1 8 US Household Debt as a Percent of Household Disposable Income Shaded Areas Are Recessions © Bloomberg L.P. https://www.coursehero.com/file/50712828/Case-studypdf/ Th is stu dy re so ur ce w as sh are d v ia Co ur se He ro .co m https://www.coursehero.com/file/50712828/Case-studypdf/ Since the Credit Crisis, U.S. corporate balance sheets appear to have embarked on a pattern of deleveraging. To better under- stand this pattern, we need to separate the corporate sector into financial and non-financial companies. The following graph charts U.S. financial company debt as a percent of gross domestic product. While it shares the gen- eral deleveraging shape and trend of the total corporate graph above, the acceleration of indebtedness among financial firms, which is almost exclusively related to the advent of financial securitization which began in earnest in 1989, seems almost devoid of the plateaus indicative of normal business cycles. The period of deleveraging following the Credit Crisis, coin- cides with a significant reduction in the securitization market and the balance sheet stress related to securitization. With financial companies removed, the cyclical impact of business cycles on non-financial balance sheets is much more apparent. The graph on the following page clearly shows that peak balance sheet leverage-to-GDP ratios coincide with reces- sionary periods, at least over the last three economic cycles. Some caution is warranted here. What companies do with the debt matters. During the recession of 1980, corporate debt was mostly tra- ditional and economic cycles of boom and bust were the result of overbuilding capacity, funded by debt. During the internet boom, debt was used to acquire companies with spurious eco- nomic viability. More recently, leading into the Credit Crisis, increased indebtedness fed a real estate market on steroids. In each of these three economic cycles, increased leverage was used to fund non-performing assets. The current run of non-financial corporate indebtedness is being used to fund share buy-backs which are, by their nature, existing and performing assets. ◃ + Corporate Debt Financial and non-financial firms use debt in different ways. For a financial firm, such as a bank, debt is a direct source of capital that can be used to generate revenue through lending. For a non-financial firm, debt is used to purchase capital assets which are then used to produce goods that can be sold to gen- erate revenue. In 1980, financial firms accounted for 12% of total corpo- rate profits. As of the first quarter of 2019, they account for 20%. From 1980 through the end of the Credit Crisis, securiti- zation catalyzed a process called financialization where finan- cial assets, like mortgages, were moved from banking systems, where they were tightly regulated, to the capital markets where they are poorly understood. Financialization was a primary cause for increased debt in financial companies. On a company-by-company basis, leverage can be measured using financial ratios like debt-to-assets. When assessing aggre- gate corporate leverage, it is common to look at corporate debt- to-GDP. As the graph on the next page illustrates, after each recessionary period, there is a pause and then a burst of lever- age. Lower interest rates, which have been a trend since the early 1980s, have pushed financial managers to increase the proportion of debt in their capital structures. However, as the graph below illustrates, something happened in 2008-09, during the Credit Crisis, that reversed the trend of increased leverage. " FIXED INCOME ANALYSIS & VALUATION / BLOOMBERG BUSINESSWEEK CASE STUDY 3 -10.0% -5.0% 0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0% 35.0% 40.0% M ar -8 0 M ar -8 2 M ar -8