2023-03-17 11:12:15 ET
Summary
- JAKK shares tumbled after weak margins hurt its Q4 results.
- Company faces some macro and destocking headwinds in 2023.
- That said, the long-term story remains intact and it's one of the cheapest stocks out there.
Ahead of earnings, I took a bullish view on JAKKS Pacific (JAKK). However, the stock is down about -25% since then after the company reported earnings that disappointed many investors. While the company faces some headwinds in 2023, the long-term story remains intact and it's been thrown into the deep discount bargain bin.
Q4 Earnings
For Q4, JAKK saw its revenue decline -30% to $131.9 million. The company easily sailed past analyst estimates calling for sales of $168.8 million.
The big drop in revenue was largely due a change in seasonality of the business as the company shifts more to an FOB model. This means sales are recorded as soon as they are shipped from overseas. It is also why as a toy company, Q3 is the much larger quarter for JAKK and not Q4. JAKK was about 65% FOB in 2022.
By category, Dolls, Role-Play/Dress Up was down -41% to $68.9 million, while Outdoor/Seasonal Toys saw revenue plummet -53% to $9.9 million. Action Play & Collectibles fell a more modest -5.5% to $38.9 million, while Costumes rose nearly 61% to $14.2 million.
North American revenue dropped -31.6% to $105.7 million, while International sales fell -21.8% to $26.2 million.
Gross margins fell -490 basis point to 21.7%. The company blamed warehouse costs, higher tooling amortization, obsolete inventory, and higher royalty expenses for the decline. Higher COGS accounted for -240bps of the decline, while royalty expenses contributed a -180bps decline, and amortization of tool and molds was responsible for -70bps of the decrease.
Commenting of margins, which was the big topic of the earnings call , CFO John Kimble said:
" Gross margin is clearly an area where we are experiencing more challenges, being proactive as it relates to cleaning up inventory is something you pay for here, especially in a smaller shipping quarter. Royalties continue to run a bit higher as expected. Our tooling amortization is trending up a bit. We've talked about CapEx being up a bit this year as we duplicated tools on some lines to chase demand. One of the bigger expense areas here is from lack of warehouse productivity. To geek out on it briefly, inbound freight and a portion of warehousing is capitalized to product, and that math is driven in part by how much we've spent on warehousing during the year. and also how much product we're importing during the year. When you consider how we've been trying to work down inventory since the beginning of last year, and we experienced higher warehousing expense this year dealing with the supply chain backing up a bit and our needing to secure some incremental space, that math doesn't work in our favor.
"You have more costs than you'd like and less product to spread the cost over. The result then flows through your P&L. Everything wasn't bad here. We did have some improvements in landed cost margin year-over-year, and we're lapping the excessive container cost of last year. But when you add it all up, gross margin for the quarter was 21.7% or 490 basis points worse than Q4 of last year. Full year gross margin ends up at 26.5% or 300 basis points below 2021. The 2022 gross margin percentage, however, is not adjusted for the portion of co-op advertising, which we moved into sales allowances at the beginning of 2022. Historically, that number is in the 200 to 250 basis point range. So you can adjust that out, if you want, a more accurate year-over-year comparison here as you ponder what might be feasible in 2023."
SG&A expenses, meanwhile, were 34% higher to $33.6 million.
Adjusted EPS came in at loss of -$1.44, missing the consensus by 7 cents. JAKK post a 14-cent EPS profit a year ago.
Adjusted EBITDA came in at a loss of -$12.1 million versus $5.0 million a year ago.
Inventory was down -4% to $80.6 billion. However, inventory turnover rose to 72 days sales of inventory from only 56 DSI a year ago.
2024 Guidance
JAKK did not provide official guidance for 2024, per the norm. However, it did discuss some of its launches and other things that can impact its business.
The company highlighted that it will partner will Walmart ( WMT ) on a new collectible plus line called Ami Amis, which to me looks like a cross between Shopkins and Squishmallows but crocheted. It's also supporting Disney ( DIS ) in its 100-year celebration, as well as with its launch of the Little Mermaid Live Action. It will also own the DIS costume business in Europe for a full-year in 2023.
Freight costs are expected to be a tailwind, while it does look like there will be some de-stocking within the retail channel, which has been a common theme across industries. Between this and the macro, sales are likely more weighted towards the holiday season.
On the call CEO Stephen Berman said:
"From a seasonality perspective, certainly, there's a lot of talk about the economy, retail inventories and the mindset of the consumer. We are extremely comfortable with where we are with respect to our peers and are looking forward to the highlights I just mentioned and pushing forward some other initiatives that we have in the works. We do agree that 2023 will return the toy industry to its more normal traditional heavy second half focus than what we've experienced the past few years. We had tremendous POS in the first half of last year as we changed demand on a couple of our larger businesses performing at a higher level than one would reasonably plan for. As we remained very much FOB first company, we still expect the first half of the year to be material for us. Although it's a new year, we continue to focus on the basics of our business, working closely with our factories to ensure we are securing the best prices and on-time deliveries. Working with our customers and licensing partners to develop the right promotional programs to generate robust sell-throughs for this year's products while we simultaneously develop next years."
Conclusion
Recommending JAKK ahead of earnings was clearly a mistake. While sales were strong, a number of items weighed on margins, including warehousing costs. This and comments that customers got ahead of themselves a bit indicates a little too much inventory in the retail channel, which is something I've heard companies talk a lot about this earnings season.
Given this dynamic along with macro headwinds, 2023 likely won't be quite as good as 2022. However, the stock is still one of biggest bargains out there. Even if adjusted EBITDA were to slip to $60 million (vs $76.4 million in 2022 and the current $66.8 million consensus), it would trade around 2.5x EBITDA versus 9x for Hasbro ( HAS ) and 8x for Mattel ( MAT ).
The improvements the company has made over the last few years also should not be ignored. This is a company heading in the right direction.
For long-term investors, I'm moving my rating to "Strong Buy."
For further details see:
JAKKS Pacific: Taking To 'Strong Buy' After Stock Plummets Post Earnings