Mattel, Inc. 2013 First-Quarter Form 10-Q Summary
Business Context and Reporting Period
Mattel designs, manufactures, and markets toys and related entertainment products worldwide, including Mattel Girls & Boys Brands, Fisher-Price Brands, and American Girl Brands. The filing covers the three months ended March 31, 2013, with comparisons to the three months ended March 31, 2012. Results are seasonal and interim results are not necessarily indicative of full-year performance.
Financial Highlights
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Net sales | $995.6 million | $928.4 million | +7% |
| Gross profit | $540.1 million | $473.4 million | +14% |
| Gross margin | 54.2% | 51.0% | +320 basis points |
| Operating income | $65.8 million | $28.7 million | +129% |
| Operating margin | 6.6% | 3.1% | +350 basis points |
| Income before taxes | $44.2 million | $10.2 million | +334% |
| Net income | $38.5 million | $7.8 million | +392% |
| Diluted EPS | $0.11 | $0.02 | Increase |
| Dividends declared per share | $0.36 | $0.31 | Increase |
Revenue growth was driven primarily by Monster High and American Girl products. Gross profit benefited from favorable product mix, price increases, and Operational Excellence 3.0 savings, partly offset by higher input costs. Advertising and promotion expense increased 7% to $104.5 million but remained 10.5% of sales. Other selling and administrative expense increased 7% to $369.7 million, while declining modestly as a percentage of sales to 37.1%.
Segment gross sales increased 1% in North America to $456.5 million, 9% internationally to $527.0 million, and 29% for American Girl to $105.0 million. Segment income rose to $68.1 million in North America, $62.0 million internationally, and $12.0 million for American Girl.
Cash Flow, Liquidity, Debt, and Capital
- Operating cash flow was an outflow of $62.4 million, compared with an inflow of $170.7 million in Q1 2012, primarily because of higher seasonal working-capital usage.
- Investing cash flow was an outflow of $65.6 million, compared with $702.5 million in Q1 2012, when Mattel paid for the HIT Entertainment acquisition.
- Financing cash flow was an inflow of $57.3 million, compared with an outflow of $58.5 million in Q1 2012.
- Cash and equivalents were $1.26 billion at March 31, 2013, down from $1.34 billion at December 31, 2012 and up from $784.6 million at March 31, 2012.
- Mattel issued $500 million of senior unsecured notes in March 2013: $250 million of 1.70% notes due 2018 and $250 million of 3.15% notes due 2023. Proceeds were used primarily to repay $350 million of 5.625% senior notes due March 2013.
- Total long-term debt, including the current portion, was $1.65 billion at March 31, 2013, compared with $1.55 billion at March 31, 2012 and $1.50 billion at December 31, 2012.
- The amended revolving credit facility provides $1.60 billion of capacity, with an accordion feature permitting availability of up to $1.85 billion under specified conditions. Mattel reported $1.60 billion of incremental borrowing capacity and compliance with all covenants.
- Debt-to-EBITDA was 1.33 to 1 versus a maximum permitted 3.00 to 1; interest coverage was 14.17 to 1 versus a minimum required 3.50 to 1.
- Mattel’s capital framework targets year-end cash of approximately $800 million to $1 billion, a year-end debt-to-capital ratio of approximately 35%, annual capital expenditures of $180 million to $200 million, strategic acquisitions, and shareholder returns.
Material Changes Versus the Prior Comparable Period
- Profitability improved substantially as sales increased and gross margin expanded by 320 basis points.
- Girls brands, particularly Monster High and American Girl, were the primary growth drivers. Fisher-Price Brands declined, largely because of lower Core Fisher-Price sales.
- International segment income increased 58%, while American Girl segment income increased from $1.4 million to $12.0 million.
- Other non-operating results shifted from $0.8 million of income to $2.7 million of expense, primarily because of unrealized foreign-exchange losses associated with the Venezuelan bolivar devaluation.
- Currency translation produced a $27.4 million loss in Q1 2013 versus a $55.3 million gain in Q1 2012, mainly reflecting weakening of the euro and British pound against the U.S. dollar.
- Cash flow from operations deteriorated because of seasonal working-capital movements, including higher inventory and payments reducing accounts payable and accrued liabilities.
- Mattel’s credit facility was amended and extended to March 2018, with increased commitments and lower stated pricing ranges.
Guidance, Outlook, Commentary, and Risks
- Management’s near-term objective is to sustain gross margins in the low-to-mid 50% range and maintain margins above 50% over the long term.
- Operational Excellence 3.0 targets cumulative gross cost savings of approximately $150 million by the end of 2014, with up to 70% expected to benefit gross margin. The program generated approximately $5 million of gross savings in Q1 2013.
- Management stated that cash on hand, the revolving credit facility, and foreign credit lines should be adequate for 2013 seasonal financing requirements.
- Key risks include seasonal demand and working-capital volatility, adverse economic conditions, changing consumer preferences, raw-material and distribution costs, foreign-exchange movements, interest rates, credit-market access, customer collectibility, pension funding requirements, and compliance with debt covenants.
- Mattel recorded a $137.8 million litigation accrual related to attorney fees and costs in the MGA/Bratz litigation. The Ninth Circuit vacated approximately $172.5 million of prior trade-secret damages and related fees, but affirmed copyright-related fees and costs. MGA sought to reassert its trade-secret claim.
- A Brazilian litigation matter had a reasonably possible loss range of $0 to $25 million, with no accrual recorded at March 31, 2013. A final judgment was expected in the second quarter of 2013.
- IRS appeals concerning the 2008 and 2009 federal tax returns remained unresolved. Mattel could experience a material change in unrecognized tax benefits, although the filing does not provide a reliable range of potential outcomes. State and foreign audits could produce a benefit of up to approximately $11 million over the following twelve months.
- A nonamortizable intangible asset with a carrying value of approximately $113 million had little excess fair value margin; adverse changes in expected cash flows could result in a future impairment charge.
- Mattel estimated that a 1% change in the U.S. dollar Trade-Weighted Index could affect net sales by approximately 0.5% and full-year EPS by approximately $0.01 to $0.02, assuming other factors remain constant.
Most Important Facts for Investors to Verify
- Whether the strong Q1 gross-margin performance is sustainable as product mix, input costs, pricing, and currency conditions change.
- Whether Monster High, American Girl, and other Girls brands can offset weakness in Core Fisher-Price, Barbie, and Wheels products.
- Progress toward the $150 million Operational Excellence 3.0 savings target and the portion realized in gross margin.
- Seasonal conversion of earnings into operating cash flow and the resulting inventory, receivables, and payable trends.
- Debt refinancing, interest costs, covenant compliance, and the company’s ability to maintain targeted cash and debt-to-capital levels.
- Developments in the MGA/Bratz litigation, the Yellowstone Brazil matter, and unresolved federal, state, and foreign tax audits.
- Potential impairment risk for the intangible asset with approximately $113 million of carrying value and limited fair-value cushion.