JAKKS Pacific, Inc. — FY2019 Form 10-K
Reporting period: Year ended December 31, 2019. Filed May 12, 2020. JAKKS designs, markets and distributes toys, costumes and other consumer products, substantially relying on third-party licenses and overseas manufacturing. The filing also reports fourth-quarter results and discusses COVID-19 developments occurring after year-end.
Financial performance and liquidity
| Metric | FY2019 | FY2018 | Change |
|---|---|---|---|
| Net sales | $598.6 million | $567.8 million | Up 5.4% |
| Gross profit / margin | $159.3 million / 26.6% | $155.7 million / 27.4% | Margin down 0.8 percentage points |
| Operating loss | $17.8 million | $32.2 million | Loss narrowed |
| Net loss attributable to JAKKS | $55.5 million | $42.4 million | Loss widened |
| Loss per share, diluted | $2.16 | $1.83 | Loss per share increased |
| Operating cash flow | $21.8 million provided | $0.6 million used | Improved |
| Cash and cash equivalents | $61.6 million | $53.3 million | Up $8.3 million |
| Working capital | $107.5 million | $106.0 million | Up $1.4 million |
- Capital expenditures were $9.4 million, implying approximately $12.4 million of operating cash flow less capital expenditures. Investing activities used $9.4 million.
- At year-end, restricted cash was an additional $4.7 million. The company reported no Wells Fargo revolver borrowings, $9.2 million in standby letters of credit and $41.8 million in excess borrowing capacity.
- Balance-sheet debt carrying values were $1.9 million current and $175.0 million non-current. The company also disclosed $134.8 million principal under its new secured term loan and $37.6 million principal under convertible notes due 2023. The debt schedule and carrying values reflect different accounting measures.
- Total stockholders’ equity fell to $4.0 million from $51.6 million. The company issued 5.9 million common shares as part of its August 2019 recapitalization; common shares outstanding rose from 29.2 million to 35.2 million.
Material changes versus prior periods
- U.S. and Canada sales increased 5.6% to $384.6 million, while International sales declined 7.3% to $94.5 million. Halloween sales rose 17.7% to $119.6 million. Frozen 2 contributed to growth in U.S./Canada and Halloween.
- SG&A declined $23.9 million to $161.2 million, reflecting lower compensation, advertising and product-development costs, restructuring, and the prior-year Toys “R” Us bad-debt charge. Gross margin nevertheless decreased, partly reflecting higher costs in International.
- Net loss included a $13.2 million loss on extinguishment of debt, $6.2 million of acquisition-related and other charges, a $9.4 million impairment of Maui product lines, and losses from fair-value changes in convertible notes. Interest expense rose to $15.9 million from $10.2 million.
- Fourth-quarter sales were $152.5 million versus $132.3 million. Fourth-quarter net loss was $20.2 million versus $3.3 million; the quarter included the Maui impairment.
- In August 2019, a recapitalization refinanced most of the 4.875% notes due 2020, repaid the prior $20 million GACP loan and issued a $134.8 million first-lien term loan. The new term loan carries 10.5% annual interest, including 2.5% payable in kind, and matures February 2023. Series A preferred stock with a $20 million face amount was also issued, carrying a 6% dividend and significant preference and governance rights.
Outlook, risks and unusual items
- Going concern: The auditor’s report states that COVID-19 disruption makes a breach of a term-loan financial covenant within one year probable, and that JAKKS lacks sufficient cash and operating cash flow to repay the loan if accelerated. The auditor says this raises substantial doubt about the company’s ability to continue as a going concern. Management planned to seek lender waivers or other accommodations; lenders were not obligated to grant them.
- Covenants: Beginning with the quarter ending September 30, 2020, the term loan requires at least $34 million of trailing-12-month EBITDA and $10 million minimum liquidity. The ABL facility also includes liquidity and availability requirements. JAKKS was compliant at December 31, 2019, but stated that COVID-19 made future compliance uncertain.
- COVID-19 and 2020 outlook: Management said the pandemic was likely to materially adversely affect 2020 sales expectations, but could not quantify its effect on sales, earnings or cash flows. Retail closures, changing demand, supply-chain disruption and the seasonal Halloween business were key exposures. No numerical 2020 guidance was provided.
- Management described expense-reduction measures and a work-from-home model. After year-end, JAKKS applied for $10 million under the Paycheck Protection Program; receipt and potential forgiveness were uncertain. On April 17, 2020, it began a planned 26% workforce reduction and estimated about $1.7 million in 2020 severance and restructuring cash costs.
- Customer concentration is high: Walmart and Target represented 50.4% of 2019 sales. One licensor accounted for more than 40% of sales, according to the filing. Minimum guaranteed royalties totaled $53.0 million, including $39.7 million due in 2020.
- The business is highly seasonal: 72.3% of annual sales occurred in the third and fourth quarters. Most products are made by third parties in China. Related-party manufacturer Meisheng received $94.3 million in inventory-related payments in 2019, and JAKKS owed it $18.1 million at year-end.
- Other notable exposures include a $92.8 million valuation allowance against deferred tax assets, a Nasdaq minimum-bid-price deficiency with a compliance deadline extended to June 23, 2020, and substantial preferred-stock and debt restrictions. The company did not anticipate common dividends in the foreseeable future.
Investor facts to verify
- Whether lenders granted covenant waivers or other accommodations, and whether JAKKS met the $34 million EBITDA and liquidity tests beginning in 2020.
- Current cash, revolver availability, cash burn and debt balances, including the status and terms of any PPP funds and the $1.9 million notes due June 2020.
- Actual 2020 sales, margins and order trends by segment, particularly Halloween, and any effects of retail closures or changes in consumer demand.
- Walmart and Target purchasing levels, major-customer credit quality, and the renewal, sales performance and minimum-payment obligations of key licenses.
- The terms and effects of the preferred stock, further dilution or conversion of notes, and the company’s subsequent Nasdaq listing status.