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The Market Magic of a Toy Company

January 30, 2014 | About:

In the fast-paced modern-day world, traditional toy manufacturers must face a fierce battle against the electronics and video-game industry. Mattel Inc. (MAT) is the largest toy company in the leisure industry, and as such must face these challenges. However, this company’s combination of a solid product portfolio, international expansion and cost efficiency programs make it a strong contender for long-term investments. Let’s see what encouraged investment gurus John Hussman (Trades, Portfolio) and Joel Greenblatt (Trades, Portfolio) to buy this company’s shares.

Toys for Boys and Girls

Mattel manufactures and markets toy products for families with children of all ages, thus offering toys for infants and pre-schoolers, youth electronics, puzzles, educational toys and fashion-related products. The firm is most famous for its Barbie, Hot Wheels, Fisher Price and American Girl brands, all of which were able to maintain their achieved consumer popularity for over three decades. In fact, the Girls toy category, which accounts for 40% of the total $6.4 billion revenue, has been growing continuously at a solid rate for the past four years, with the Monster High, American Girl and Disney Princess brands as the main growth engines. Disney Princess experienced an especially large sales boost after the children’s TV series Sophia’s launch in 2012. And the firm’s new doll franchise Ever After High, which launched in summer 2013, showed outstanding sales among a slightly older target.

The toy manufacturer’s vast brand portfolio and scale, have earned it a 17% market share of the domestic toy industry, and combined with its competitor Hasbro Inc. (HAS) it controls 30% of the fragmented U.S. toy market. Furthermore, the company’s strong cash flow and revenue earnings allow for larger amounts of advertising dollars, putting it at a competitive advantage towards other industry players. Consequently, Mattel benefits from licensing contracts with The Walt Disney Company (DIS) and other entertainment companies, which turn to this firm for its marketing strength. The company’s distribution power would also be difficult for any new market entrant to replicate, even if it managed to obtain a recently expired licensing relationship with an important partner.

A Strategic Business Model

One of Mattel’s largest challenges for the future will be retaining its consumer base in the domestic market, where growth is somewhat stagnant due to the industry’s maturity. Also, children in the U.S. are aging out of the traditional toy market at an earlier age, influenced by the strong presence of electronic devices and entertainment options like video games. However, the company has made an effort to counterbalance this generational change by incorporating digital properties in its products, as well as focusing on international growth. This will be a key growth driver in the long term, as management expects the business to reel in 60% of sales from international markets. Fiscal 2013’s metrics showed a 5% sales increase in Latin America and 3% growth in Eastern Europe, both regions where per capita income is improving. And the future expansion through franchises overseas could potentially reap several hundred million dollars in a few years.

The company’s acquisition of HIT entertainment in February 2012 is also expected to drive the current 7.3% revenue growth even further, since the $680 million deal had no material impact on 2012’s earnings. In addition to this, Mattel is also concentrating on its Operational Excellence 3.0 program, which resulted in $50 million gross saving in 2013 and plans to hit the $150 million cost savings mark in 2014.

Drawing Conclusions

The firm’s operating margins are also expected to continue this year’s 15.90% growth and reach 20% by 2016. Although the toy manufacturer faces litigation for product recalls, and changes in customer’s ordering patterns could reduce profitability, I remain very bullish about this toy giant’s long-term future.

Mattel’s capital allocation program, which returned $1.6 billion to shareholders in dividends over the last five years, also caused the company to bump its $250 million stock repurchase program by an additional $500 million. The outstanding 3.40% dividend yield, in combination with stock shares trading at a price discount of 21% relative to the industry average make Mattel a highly lucrative company to invest in.       

Disclosure: Vanina Egea holds no position in any stocks mentioned.


Rating: 3.6/5 (5 votes)

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