Hasbro, Inc. — Q2 2013 Form 10-Q
Business context and period. Hasbro sells toys, games, entertainment and licensed products through U.S. and Canada, International, and Entertainment and Licensing segments; Global Operations manages sourcing and manufacturing. The quarter ended June 30, 2013 comprised 13 weeks. The six-month period comprised 26 weeks, versus 27 weeks in the prior-year comparison. Financial amounts below are in millions unless noted.
Financial performance
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Net revenue | $766.3 | $811.5 | $1,430.0 | $1,460.3 |
| Operating profit | $74.1 | $86.3 | $84.7 | $102.0 |
| Operating margin | 9.7% | 10.6% | 5.9% | 7.0% |
| Net earnings | $36.5 | $43.4 | $29.8 | $40.8 |
| Diluted EPS | $0.28 | $0.33 | $0.23 | $0.31 |
Q2 revenue declined 6%; first-half revenue declined 2%. Net earnings fell 16% in Q2 and 27% for the first half. First-half comparisons reflect the shorter 2013 period. Revenue by product category was mixed: Q2 boys declined 35% and first-half boys declined 28%, while games rose 19% and 22%, girls rose 43% and 34%, and preschool rose 4% and 6%, respectively.
For the first half, operating profit included restructuring charges of $31.4 million, compared with $11.1 million in the prior-year period. Excluding these charges, management reported operating profit of $116.1 million, or 8.1% of revenue, versus $113.1 million, or 7.7%, in 2012. Q2 operating profit included $2.5 million of pension settlement charges; excluding them, profit was $76.6 million, or 10.0% of revenue.
Cash flow and balance sheet. First-half operating cash flow was $298.1 million, up from $200.8 million; investing activities used $49.1 million and financing activities used $67.1 million. Cash increased to $1,022.3 million from $849.7 million at fiscal year-end. The operating cash flow increase included a $30 million Marvel royalty advance and substantial receivables collections. Cash and cash equivalents were $1,022.3 million at June 30, 2013, versus $779.9 million a year earlier.
At June 30, current assets were $2,366.2 million and current liabilities were $1,296.7 million. Short-term borrowings were $192.9 million; long-term debt carrying value was $1,392.4 million, including $432.5 million classified as current and due in 2014. The company had $185.5 million outstanding under its commercial paper program, no borrowings under its $700 million revolving facility, and approximately $513.5 million of facility availability net of commercial paper. It reported compliance with its debt covenants. Most cash was held outside the United States and, under the company’s reinvestment policy, was not available for U.S. needs without tax consequences.
Declared dividends were $0.40 per share in Q2, up from $0.36; first-half dividends declared were $0.80 per share. First-half share repurchases totaled approximately $55.5 million, with $71.8 million remaining under the authorization at quarter-end.
Material changes and management commentary
- Lower sales of Marvel, Beyblade and Star Wars products drove the boys-category decline, reflecting prior-year movie releases and the 2012 Star Wars re-release. Games growth included Magic: The Gathering, Twister, Monopoly and Jenga; girls growth was led by Furby and My Little Pony.
- International revenue fell 6% in Q2 and 3% for the first half. International operating profit fell 50% and 58%, respectively, amid lower revenue and higher selling, distribution and administration costs. Emerging-market revenue increased 24% in Q2 and 28% in the first half.
- Entertainment and Licensing revenue declined 18% in Q2 and 9% in the first half, partly because prior periods benefited from a multi-year digital distribution agreement and licensing tied to a prior Transformers movie.
- A multi-year savings initiative targets $100 million in annual cost reductions by 2015 and an approximately 10% workforce reduction, alongside facility consolidation and process improvements. Management estimated 2013 gross savings of $45–$48 million and net savings of $13–$15 million, before pension charges; it expected up to $6 million in additional 2013 restructuring charges, before potential pension charges.
- On July 8, 2013, Hasbro acquired 70% of mobile-game developer Backflip Studios for $112 million cash; the remaining 30% is subject to future performance-based purchase terms. On July 22, it amended its Disney Marvel and Star Wars licenses, adding $305 million of guaranteed royalty payments through 2020; $75 million was expected in Q3 2013.
Outlook, risks and unusual items
Management said the company’s business is seasonal, with the second half historically generating most annual revenue; second-half sales represented 64% in 2012. It said available cash, operating cash flow and committed credit facilities should meet working-capital needs for the remainder of 2013, but provided no specific full-year revenue or earnings forecast. Management cautioned that results for the interim period are not necessarily indicative of full-year results.
Key risks include retailer ordering and inventory decisions, concentrated holiday-season sales, product acceptance and execution, movie-release timing and licensed-product royalties, foreign-exchange movements, sourcing and shipping disruptions, economic weakness, and the ability to achieve planned cost savings. Hasbro hedged a portion of forecast currency exposures but does not hedge translation effects.
Mexican tax authorities issued transfer-pricing assessments totaling approximately $245 million, including interest, penalties and inflation updates, for 2000–2007. Hasbro said it expects to prevail; it had posted approximately $185 million in bonds for 2000–2004 assessments. The company also faces an inventor’s royalty dispute involving Nerf and Super Soaker products, with claimed damages exceeding $90 million. Hasbro disputes the claims and said it could not estimate a possible loss or range.
Unrecognized tax-benefit liabilities were $123.1 million. Hasbro said these could decrease by up to $68 million within 12 months, potentially including a tax benefit of up to $24 million, reversal of approximately $16 million in deferred tax assets, and a $28 million increase in accrued income taxes. The company also reported $486.2 million in purchase commitments and approximately $203.6 million in letters of credit and similar instruments, including the Mexican tax bonds.
Important facts for investors to verify
- Whether the strong games and girls categories can offset continued weakness in boys products and the comparison against prior-year entertainment releases.
- Whether International segment profitability recovers after the steep first-half operating-profit decline.
- Whether the $100 million annual savings target and 2013 net savings estimate are achieved, and the ultimate pension and restructuring costs.
- The timing, funding and performance implications of the Backflip acquisition and the $305 million of additional Disney guaranteed royalties.
- The outcomes and potential cash or earnings effects of the Mexican tax assessments and inventor royalty litigation.
- The practical liquidity available in the United States given that most cash is held abroad, and the company’s ability to meet the 2014 note maturity and seasonal working-capital needs.