It is no secret that consumer goods, particularly those traditionally sold by brick-and-mortar retailers, are struggling in our increasingly digitized economy. In a severe blow to millennials’ childhoods, Toys 'R' Us recently declared bankruptcy and began closing all of its remaining stores, a steep fall from grace for a company that once boasted close to a thousand stores. Similarly, K.B. Toys shuttered its stores in 2009 in the teeth of the Great Recession.
Not all the great toymakers and vendors have fallen, however. Hasbro Inc. (HAS, Financial), the maker of Mr. Potato Head, My Little Pony, Rubik’s Cube, Play-Doh and G.I. Joe, has been an icon of the toy industry for nearly a century and continues to persevere. Founded in 1923, the company has weathered depression and recession with unusual solidity.
That makes Hasbro an intriguing investment prospect. Its share price has suffered lately, but the pain may not be set to continue. Indeed, we see the CEO’s current strategy for revival and growth quite appealing. Hasbro believes it can ride out the storm that has brought on the demise of other big players in the toy market.
Some dark financial clouds
As Jerry McGuire famously quipped: "Show me the money!" It is in financial success that Hasbro will continue to survive, and perhaps thrive.
Hasbro has had modest to middling success of late. Expectations are for current slow growth to continue, although the toymaker certainly could expand its prospects given its current plans and strategy moving forward.
Revenue growth has certainly not been something to write home about. Revenue grew 13% from $4.4 billion to $5.0 billion from 2015 to 2016, growing even less from 2016 to 2017 – only less than 4%. That is far from stellar by most any metric, and if Hasbro truly wants to grow into a strong investment target, it needs to rapidly expand its growth ventures and get growth numbers back past 10%.
Net Income also suffered recently due to increased tax and selling, general and administrative expenses. Net Income actually fell over the last year, from $551 million in 2016 to $397 million in 2017 – a drop of some 28%. This is also troubling.
Financial silver lining
Many financial figures present a stronger picture. Further, there is reason to believe Hasbro can overcome the challenges it faced throughout 2017 and the beginning of 2018. That, however, remains to be seen.
Using one of our favorite evaluation tools, earnings surprise, we see some more positive news to write home about. Over the last four quarters, Hasbro has produced four consecutive quarters of solid to modest growth, including earnings surprises of 16%, 15%, 8% and 26%. Earnings per share over that period fell between 43 cents and $2.30, with stronger growth toward the end of 2017.
The first quarter of 2018 will likely see a fall from the growth posted at the end of 2017 due, in part, to the closure of Toys 'R' Us. Industry consensus has first-quarter earnings per share targeted at 34 cents, not a bad performance, but the lowest in more than a year.
Finally, let’s look at the price-earnings ratio. Hasbro is not trading at an outrageous price point either. The company’s price-earnings ratio is under 28, which is perfectly acceptable (even welcomed) for a consumer goods manufacturer, where the average tends to hover in the mid-to-high 30s. The stock price could easily move from $85 to the low $120s, where the price-earnings ratio would hover closer to the median.
Adapting to the 21st century
Hasbro must adapt to the changing consumer retail landscape. Gone are the days of strong business-to-business transactions with massive department-store type retails. Goodbye to the specialist retailers like Toys 'R' Us and K.B. Toys. Even Target (TGT, Financial) and Walmart (WMT, Financial) are cutting back.
Today, Hasbro needs to get into step with the internet world. Its toys are now sold largely online, through Amazon (AMZN, Financial) and other digital retailers. The company’s products themselves are also becoming increasingly digitized.
What will Hasbro do to create growth in spite of the failure of large retailers? How will it make its products more appealing to modern consumers? How will it react to the internet world? What will Hasbro’s strategy moving forward be?
It will come in navigating these waters – finding the perfect balance between old and new – that Hasbro’s greatest challenge will lie. We see them as up to the task, but it is far from a done deal.
Verdict
This will not be a 3 times return, but in terms of holding for a longer period of time, Hasbro should bring solid returns. But it is no slam-dunk, with plenty that could still occur to the negative side of a business already awash in disruptive forces. We thus see a value play, but one with plenty of caveats that must be considered before diving in.
Disclosure: I/We own no stocks discussed in this article.
(This article was co-authored by Clyde Wm. Engle Jr. Engle is an analyst with Almington Capital.)
