JAKKS Pacific, Inc. — Q2 2013 Form 10-Q
Reporting period: Three and six months ended June 30, 2013. JAKKS designs, markets, and distributes children’s toys and consumer products in two segments: Traditional Toys and Electronics, and Role Play, Novelty and Seasonal Toys. Financial amounts below are in millions unless noted.
Financial performance
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Net sales | $106.2 | $145.4 | $184.3 | $218.8 |
| Gross profit (margin) | $2.2 (2.1%) | $46.9 (32.3%) | $25.6 (13.9%) | $70.5 (32.2%) |
| Operating income (loss) | $(44.3) | $0.1 | $(68.1) | $(19.3) |
| Net income (loss) | $(46.9) | $0.2 | $(74.4) | $(15.8) |
| Diluted EPS | $(2.14) | $0.01 | $(3.40) | $(0.61) |
Q2 sales fell 26.9%; six-month sales fell 15.8%. Q2 SG&A was $46.5 million, nearly unchanged year over year, but rose to 43.8% of sales from 32.2%. Six-month SG&A increased to $93.8 million from $89.8 million.
For Q2, Traditional Toys and Electronics sales declined 36.7% to $45.6 million, while Role Play, Novelty and Seasonal sales declined 17.3% to $60.6 million. For the first half, those segments declined 26.3% and 4.4%, respectively. Both segments reported operating losses in Q2 and the first half.
Cash, liquidity and debt
- Cash and cash equivalents were $69.7 million at June 30, down from $189.3 million at year-end 2012. Working capital was $117.0 million, down from $186.6 million.
- Operating activities used $40.6 million in the first half, versus $19.2 million used in the prior-year period. Investing activities used $5.2 million; financing activities used $73.8 million, including repayment of $70.7 million of credit-facility borrowings and $3.1 million of dividends.
- At June 30, the balance sheet reported $96.3 million of convertible senior notes, net, and no short-term debt. The existing notes had $100 million principal, bore 4.50% interest, and matured in November 2014.
- After quarter-end, on July 24, JAKKS issued $100 million of 4.25% convertible notes due 2018, receiving approximately $95.9 million net proceeds. It used $61 million to repurchase at par a portion of the 2014 notes; the remainder was for general corporate purposes.
- JAKKS said cash and expected operating cash flows should cover anticipated needs for at least 12 months, while warning that growth may require additional financing. About $60 million of cash and short-term investments were held by foreign subsidiaries; repatriation above approximately $62 million was subject to a stated 25% tax.
Changes, outlook and notable matters
- Management attributed the sales decline in Traditional Toys and Electronics largely to fading demand for Monsuno action figures, Winx Club dolls, Spy Net units, and Plug It in and Play TV Games. Role Play sales were affected by the timing of Halloween product sales; first-half results also reflected lower Disney Princess dress-up and role-play sales, partly offset by Maui acquisition sales.
- The severe margin contraction reflected closeout sales, higher excess-inventory reserves, and write-downs of royalty minimum guarantees not expected to be earned. The filing also cites mold-and-tool write-downs among SG&A items.
- JAKKS had $70.2 million of future aggregate minimum royalty guarantees at June 30, including $40.2 million due within 12 months. Toy sales are seasonal and typically strongest in the third and fourth quarters; orders are cancelable until shipment, making backlog an uncertain sales indicator.
- The company was pursuing replacement credit or alternative financing after repaying its Wells Fargo facility in April. The filing cautioned that unavailable or unfavorable financing could harm operations and growth, and that equity financing could dilute shareholders or debt could impose restrictive covenants.
- Three major customers—Target, Walmart and Toys “R” Us—represented 40.9% of first-half sales; the three largest customers held approximately 41.2% of receivables at June 30. The company also noted dependence on licensed products, minimum royalty obligations, third-party manufacturers (principally in China), and customer and product demand.
- THQ’s bankruptcy created uncertainty over a previously received $1 million installment; JAKKS had reserved the payment pending bankruptcy proceedings. Management said routine litigation was not expected to have a material effect. No goodwill impairment was recorded in the period.
Key facts for investors to verify
- Whether the July 2013 note offering and $61 million repurchase adequately addressed near-term refinancing needs, including the remaining 2014-note balance and any subsequent debt changes.
- Whether margins recover from the unusually low Q2 level and whether inventory, royalty-guarantee, and mold/tool write-downs continue.
- Third- and fourth-quarter demand, including Halloween timing, and the performance of recent acquisitions and new products.
- Cash generation and liquidity against $40.2 million of royalty guarantees due within 12 months, seasonal working-capital needs, and foreign-cash repatriation costs.
- Customer concentration, collectability of receivables, and resolution of the reserved THQ payment.