Business Context and Reporting Period
Company: HASBRO, INC.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: July 1, 2007 (13-week quarter; 26-week six-month period)
Business Overview: Hasbro is a worldwide leader in children's and family leisure time and entertainment products, including games, toys, and digital properties. The company operates through three principal segments: North America, International, and Global Operations. The business is highly seasonal, with a significant portion of revenues generated in the second half of the year, particularly the fourth quarter.
Key Financial Metrics
| Metric (in thousands) | Quarter Ended July 1, 2007 | Six Months Ended July 1, 2007 | Quarter Ended July 2, 2006 | Six Months Ended July 2, 2006 |
|---|---|---|---|---|
| Net Revenues | $691,408 | $1,316,675 | $527,764 | $995,945 |
| Gross Profit | $418,196 | $800,011 | $317,395 | $599,484 |
| Gross Margin | 60.5% | 60.8% | 60.1% | 60.2% |
| Operating Profit | $55,777 | $109,504 | $20,599 | $18,473 |
| Operating Margin | 8.1% | 8.3% | 3.9% | 1.9% |
| Net Earnings | $4,801 | $37,691 | $27,088 | $22,189 |
| Diluted EPS | $0.03 | $0.23 | $0.07 | $0.06 |
| Cash from Operations (6mo) | $28,904 | ($88,440) | ||
| Cash and Equivalents (End of Period) | $525,573 | $417,087 | ||
| Total Debt (Short-term + Long-term) | $583,709 | $504,376 |
Material Changes vs. Prior Period
- Revenue Growth: Net revenues increased 31% for the quarter and 32% for the six months compared to the prior year. This growth was driven by strong sales of core brands (Transformers, Play-Doh, Monopoly) and licensed properties (Marvel's Spider-Man 3, Transformers movie).
- Profitability: Operating profit surged 171% for the quarter and 493% for the six months. The improvement was due to higher revenues and cost efficiencies, partially offset by increased royalty expenses and a $10.4 million charge related to the Easy-Bake Oven recall.
- Net Earnings Volatility: While operating profit increased significantly, net earnings for the quarter dropped 82% compared to the prior year. This was primarily due to a $36.5 million non-cash charge related to the fair value adjustment of warrants repurchased in May 2007. Excluding this charge, earnings would have been significantly higher.
- Segment Performance:
- North America: Revenues up 24% (quarter) and 29% (six months); Operating profit up 37% (quarter) and 148% (six months).
- International: Revenues up 49% (quarter) and 39% (six months); Turned an operating loss of $8.1 million in the prior year quarter into a profit of $11.3 million.
- Cash Flow: Operating cash flow improved from a utilization of $88.4 million in the prior year six-month period to a generation of $28.9 million in the current period, despite a $70 million royalty guarantee payment to Marvel.
Guidance, Outlook, and Risks
- Outlook: Management expects to maintain 2007 operating margin levels near those of 2006. The company anticipates significant sales from Marvel products due to the Spider-Man 3 release and Transformers products following the July movie release.
- Strategic Initiatives:
- Entered a multi-year strategic agreement with Electronic Arts (EA) to create digital games based on Hasbro IPs (Monopoly, Scrabble, etc.) and vice versa.
- Reacquired digital gaming rights for owned properties from Infogrames Entertainment SA.
- Authorized an additional $500 million share repurchase program in August 2007.
- Risks and Contingencies:
- Seasonality: Heavy reliance on the fourth quarter for revenue creates risks regarding inventory management and retailer demand.
- Product Recalls: The Easy-Bake Oven recall incurred approximately $10.4 million in charges.
- Tax Matters: Adoption of FIN 48 resulted in a $88.8 million decrease in current liabilities. The company expects to recognize up to $34 million of previously unrecognized tax benefits in Q3 2007 upon the expiration of statutes of limitations.
- Debt: The company has $249.8 million in senior convertible debentures due 2021 with contingent interest features and put options in 2011 and 2016.
Investor Verification Checklist
- Warrant Repurchase Impact: Verify the non-cash nature of the $36.5 million charge impacting Q2 net earnings and confirm the $200 million cash outflow for the warrant buyback.
- Easy-Bake Oven Recall: Assess the full extent of the $10.4 million charge and potential future liabilities related to the product recall.
- Tax Rate Volatility: Monitor the expected $34 million tax benefit recognition in Q3 2007 and its impact on the effective tax rate.
- Liquidity Position: Review the increase in short-term borrowings to $89 million and the utilization of the $300 million revolving credit facility to fund working capital and share repurchases.
- License Royalties: Evaluate the sustainability of margins given the high royalty expenses (9.0% of revenue in Q2) associated with Marvel and Transformers licenses.