20th Century Fox Disney

When Disney’s $71.3 billion deal to acquire most of 21st Century Fox closes in the coming weeks, the combined company will remain an appealing target for investors, but only those willing to indulge hefty near-term spending on direct-to-consumer streaming.

That’s the basic takeaway from a new research report by Macquarie analysts Tim Nollen and Stephen Beckett. In the 18-page note to clients, the analysts reiterate their “outperform” rating on the stock, which has moved sideways since Disney prevailed over Comcast last July in the final battle over the Murdoch family jewels. Macquarie’s 12-month price target is $125. Disney closed today at $113.51, up nearly 1%.

The mega-deal will redraw the Hollywood map, transferring to Disney assets such as the Fox film and TV studio and cable networks like FX, as well as giving it majority control of Hulu.

“Strategically, Disney is making the right moves, but financially we don’t see a near-term positive catalyst,” the report cautions, adding that “flattish” earnings over the next couple of quarters are likely. Once Fox joins the fold, the analysts warn about several potential headwinds. Those include the cost of integrating the two companies, higher debt, an additional 30% of money-losing Hulu, and interest expenses if the regional sports networks that Disney must sell fetch too modest a price.

Because many details about 2019 and beyond remain fuzzy, at least until an investor day on April 11, the analysts  lay out the combined portfolios and look at all of the puts and takes.

Their “cautious case” sees a 4% hit to earnings in fiscal 2019 and a 5% one in 2020, excluding integration costs. Once Hulu and Disney+ losses moderate, synergies would start adding to earnings in 2021, ’22 and ‘23, by 2%, 9%, and 11%, respectively. Including integration costs, the analysts see no earnings bump until fiscal 2022.

In their optimistic scenario, on the other hand, Hulu losses would moderate faster than expected and the RSNs would command a price higher than the current $15 billion projection. The deal would then become neutral to earnings in fiscal 2020, adding 9% in 2021 and high-teen percentages after that.

Based on recent guidance from Disney’s first-quarter earnings call earlier this month, Nollen and Beckett say a $200 million hit to operating profit is expected during the current quarter due to investments in ESPN+ and Disney+. Launched last spring, ESPN+ has surpassed 2 million subscribers but is costly to operate due to sports rights fees. Holding back licensing rights to Disney movie and TV titles for Disney+, the company estimates, will create a $150 million hit to operating income in fiscal 2019.

“There may be as many as 18 films and 16 TV series in some form of development for [Disney+], plus we expect some licensed content to be purchased or repurchased from other outlets as Disney looks to fill in programming gaps prior to the service’s launch later this year,” the analysts write.

Nollen and Beckett point to recent strides by CBS in the streaming arena, indicating Disney has the potential to double its combined subscriber base each year. The analysts forecast a “perhaps conservative” Year 1 number of 2.5 million subscribers to Disney+.

As for Hulu, the pair expect the streaming service to finally break even in 2022, with a projected 50 million subscribers. Last month, it reported passing 25 million subscribers, up 48% from the same point in 2018. Comcast and WarnerMedia remain minority stakeholders in Hulu.