JAKKS Pacific, Inc. — Q1 2012 Form 10-Q
Reporting period: Three months ended March 31, 2012; comparisons are with Q1 2011 unless stated otherwise. JAKKS designs, markets and distributes children’s toys and consumer products. Interim financial statements are unaudited. Amounts below are in millions, except per-share data.
Financial performance and position
| Metric | Q1 2012 | Q1 2011 / comparator |
|---|---|---|
| Net sales | $73.4 | $72.3; up 1.5% |
| Gross profit / gross margin | $23.6 / 32.1% | $24.3 / 33.6% |
| SG&A | $43.0 / 58.5% of sales | $39.1 / 54.0% |
| Operating loss | $(19.4) | $(14.8) |
| Net loss / loss per share | $(16.0) / $(0.62) | $(10.6) / $(0.39) |
| Operating cash flow | $6.1 provided | $9.6 provided |
| Cash and cash equivalents | $254.6 at March 31 | $257.3 at December 31, 2011 |
| Convertible senior notes | $92.9 net carrying value; $100.0 principal | 4.50% notes due November 2014 |
Interest expense was $2.0; the income tax benefit was $5.2, equivalent to a 24.5% effective rate. Capital spending was $3.2. Investing activities used $6.2 and financing activities used $2.6, including $2.6 of dividends paid. Cash declined $2.7 during the quarter. Working capital was $354.7, down from $374.7 at year-end; management attributed the decrease chiefly to seasonally lower receivables. The filing reports no off-balance-sheet arrangements.
Changes and drivers
- Traditional Toys and Electronics sales rose 8.9% to $41.6, led by Monsuno, Cabbage Patch Kids, Disney Princess baby dolls and accessories, and the Moose Mountain acquisition. Role Play, Novelty and Seasonal Toys sales fell 7.0% to $31.8, mainly from weaker role-play and dress-up products.
- Gross margin contracted 1.5 percentage points. Traditional segment cost of sales improved as a share of sales, partly due to lower royalty expense and product mix; Role Play segment costs rose as a share of sales, including higher royalty expense and lower purchase volumes.
- SG&A increased $3.9, reflecting Monsuno advertising, acquisition-related overhead, compensation and legal/advisory costs. Bad-debt recovery and lower cooperative advertising, amortization and stock compensation partly offset the increase.
- Receivables were $58.4 and inventory $45.0 at March 31. Receivables turnover was 72 days, versus 71 days a year earlier. Sales returns and allowances reserve declined to $29.5 from $43.4 at year-end, primarily because customers took year-end allowances during Q1.
- The three largest customers generated 45.5% of Q1 sales, down from 53.6% in Q1 2011; their share of net receivables was 44.1% at March 31.
Outlook, risks and unusual items
- No specific revenue or earnings guidance is provided. Management expects cash, cash flows from operations and existing liquidity to meet anticipated operating and capital needs for at least 12 months. It cautions that toy sales and working-capital needs are seasonal, typically strongest in the third and fourth quarters, and quarterly results may not indicate full-year performance.
- Future minimum guarantees under product and character licenses totaled $53.4, of which $37.2 was due within 12 months; this excludes $45.7 of advances already paid. The business depends heavily on licensed products and is exposed to minimum royalties, license renewals and consumer demand.
- Management cited customer concentration, reliance on third-party manufacturers principally in China, foreign-exchange and supply-chain risks, competition, product acceptance and safety regulation, and acquisition integration. A significant portion of cash is held offshore and is subject to a stated 25% repatriation tax.
- The company’s $100.0 principal notes bear fixed 4.50% interest and mature in 2014. Holders may require cash repurchase after specified fundamental changes; the filing warns financing might be needed to meet such an obligation.
- After quarter-end, the company agreed with Clinton Group to use reasonable efforts, subject to conditions, to commence a tender offer by May 25, 2012 for at least $80.0 of shares at no less than $20 per share, with additional repurchases contemplated if needed to reach the amount. The offer had not commenced and was not assured. The agreement also expanded the board from six to eight members. The company authorized discussions and due diligence with Oaktree, whose renewed acquisition interest remained non-binding and without a stated price in its April letter.
- Ordinary-course legal claims were not expected by management to have a material effect. No goodwill impairment was identified as of March 31. The Q1 2012 tax benefit included a $0.4 discrete benefit; the comparable 2011 tax benefit included a $1.5 discrete benefit.
Important facts for investors to verify
- Whether the proposed tender offer commenced, its final terms and conditions, and how any repurchase would be financed.
- Whether operating performance improves after the Q1 increase in losses and decline in gross margin, including segment-level sales, royalties and SG&A trends.
- Cash accessibility and liquidity after considering offshore repatriation taxes, the $37.2 of near-term license guarantees, dividends and potential share repurchases.
- Customer and license concentration, receivable collectability, and the company’s ability to manage seasonal inventory and sales-return allowances.
- Developments in Oaktree discussions, the 2014 convertible notes and any potential cash-repurchase trigger.