Funko, Inc. — FY2019 Form 10-K
Reporting period: Fiscal year ended December 31, 2019; filed March 5, 2020. The company designs and sells licensed pop-culture products, primarily figures, through retail, e-commerce and distributor channels. It reports one operating segment.
Key financial results
| Metric | FY2019 | FY2018 | Change |
|---|---|---|---|
| Net sales | $795.1 million | $686.1 million | +15.9% |
| Gross margin, excluding depreciation and amortization | 35.5% | 37.2% | Down 170 basis points |
| Operating income | $46.6 million | $60.9 million | Down 23.4% |
| Net income | $27.8 million | $25.1 million | +11.0% |
| Net income attributable to Funko, Inc. | $11.7 million | $7.5 million | +57.1% |
| Basic / diluted EPS | $0.38 / $0.36 | $0.31 / $0.29 | Increased |
| Operating cash flow | $90.8 million | $50.0 million | Increased |
| Cash and cash equivalents at year-end | $25.2 million | $13.5 million | Increased |
| Total debt | $242.3 million | $247.3 million | Decreased |
| Working capital | $101.6 million | $117.4 million | Decreased |
FY2019 investing cash outflow was $48.6 million, including $42.3 million of property and equipment purchases and $6.4 million for the Forrest-Pruzan acquisition. Financing cash outflow was $28.3 million, primarily reflecting $23.9 million of distributions to continuing equity owners and $11.8 million of term-loan repayments, partly offset by revolving-credit borrowings.
Quarterly performance and material changes
Fourth-quarter net sales were $213.6 million, down from $233.2 million in Q4 2018. The company recorded a $6.3 million net loss, compared with $15.5 million of net income in the prior-year quarter; net loss attributable to Funko, Inc. was $4.2 million versus $5.2 million of income. Management attributed weaker holiday-period sales to lower-than-expected purchases by top customers and softness in certain major movie-release properties.
Annual sales growth reflected a larger product and property portfolio and improved distribution and product placement. International sales rose 23.3% to $271.2 million, compared with 12.4% growth in U.S. sales. Active properties increased to 804 from 672. Figures generated 80.8% of sales; Pop!-branded products represented 79%.
Profitability was pressured by a one-time $16.8 million Q4 inventory write-down for slower-moving goods, higher Loungefly duties, and increased selling, general and administrative expenses, which rose 24.8% to $193.8 million. The inventory charge contributed to the gross-margin decline. Net income nevertheless increased, helped by higher sales and lower interest expense. Adjusted EBITDA, a non-GAAP measure, was $123.0 million versus $113.5 million; it adds back, among other items, the inventory charge and customs-investigation costs.
Outlook, risks and unusual items
- Outlook: The filing provides no specific FY2020 revenue or earnings guidance. Management said liquidity sources were expected to fund operations, growth plans and planned capital expenditures for at least 12 months, while cautioning that future cash generation and financing availability were not assured.
- Debt and liquidity: The amended credit facilities mature September 23, 2024; the company reported compliance with financial covenants at year-end. Substantially all borrower assets secure the facilities. Variable-rate debt exposes the company to interest-rate changes; management estimated a 1% rate move would change interest expense by about $2.2 million over the following 12 months.
- Customs duties and controls: Funko identified approximately $7.8 million of historical Loungefly customs-duty underpayments and paid that amount in July 2019. It recorded a $0.5 million contingent liability for potential penalties; further government action or penalties could exceed the reserve. Management identified a material weakness in controls over customs-duty calculations, and disclosure controls and internal control over financial reporting were deemed ineffective at year-end. A remediation plan was underway.
- Other contingencies: Securities class-action litigation remained pending after an amended complaint; a prior complaint had been dismissed with leave to amend. The company stated the claims were not then probable or reasonably estimable. It also recorded a $7.8 million reserve for ongoing and future royalty audits.
- Forward risks: The filing cites dependence on short-term licenses and changing consumer tastes, retail and holiday-season weakness, inventory forecasting, third-party manufacturing and international supply chains, tariffs, currency fluctuations, Brexit uncertainty, and the novel coronavirus outbreak’s possible effects on sourcing, facilities and demand. It also describes customer/license concentration and ACON’s significant voting influence.
- Other commitments: Reported contractual commitments totaled $479.8 million, including debt and related interest, operating leases, tax receivable agreement liabilities, minimum royalties and revolver borrowings. The tax receivable agreement generally requires cash payments to continuing equity owners equal to 85% of specified realized or deemed tax benefits; its recorded liability was $65.8 million at year-end.
Important facts for investors to verify
- Whether sales and margins recover after Q4’s holiday softness and the inventory clean-up, and how much of FY2019 cash flow came from working-capital changes.
- Progress in remediating the customs-duty control weakness, and any investigation, penalties or additional costs beyond the recorded $0.5 million contingency.
- Actual royalty-audit exposure, license renewals and terms, and the effect of the $7.8 million audit reserve.
- Debt service, covenant headroom, variable interest costs, and the cash demands of leases, minimum royalties and the tax receivable agreement.
- Potential supply-chain, tariff, currency and demand impacts, including developments related to the coronavirus outbreak and the pending securities litigation.
The independent auditor expressed an unqualified opinion on the consolidated financial statements. The auditor did not opine on internal control effectiveness; Funko’s emerging-growth-company exemption applied.