Mattel, Inc. (NASDAQ:MAT) Q3 2023 Earnings Call Transcript

Mattel, Inc. (NASDAQ:MAT) Q3 2023 Earnings Call Transcript October 25, 2023

Mattel, Inc. misses on earnings expectations. Reported EPS is $0.4132 EPS, expectations were $0.87.

Operator: Good afternoon. My name is Emma and I will be your conference operator today. At this time, I would like to welcome everyone to the Mattel Third Quarter 2023 Earnings Conference Call. [Operator Instructions] Thank you. David Zbojniewicz, Vice President Investor Relations. You may begin your conference.

David Zbojniewicz: Thank you, operator and good afternoon, everyone. Joining me today are Ynon Kreiz, Mattel’s Chairman and Chief Executive Officer; and Anthony DiSilvestro, Mattel’s Chief Financial Officer. As you know, this afternoon, we reported Mattel’s 2023 third quarter financial results. We will begin today’s call with Ynon and Anthony providing commentary on our results, after which, we will provide some time for questions. To help supplement our discussion today, we have provided you with a slide presentation. Our discussion, slide presentation and earnings release may reference non-GAAP financial measures, including adjusted gross profit and adjusted gross margin, adjusted other selling and administrative expenses, adjusted operating income or loss and adjusted operating income or loss margin, adjusted earnings per share, adjusted tax rate, earnings before interest, taxes, depreciation and amortization or EBITDA, adjusted EBITDA, free cash flow, free cash flow conversion, leverage ratio, net debt and constant currency.

In addition, we present changes in gross billings, a key performance indicator. Please note that we may refer to gross billings as billings in our presentation and that gross buildings figures referenced on this call will be stated in constant currency, unless stated otherwise. For today’s presentation, references to POS and consumer demand exclude the impact related to our Russia business, given our decision to pause all shipments into Russia in 2022. Our slide presentation can be viewed in sync with today’s call when you access it through the Investors section of our corporate website, corporate.mattel.com. The information required by Regulation G regarding non-GAAP financial measures as well as information regarding our key performance indicator is included in our earnings release and slide presentation and both documents are also available in the Investors section of our corporate website.

The preliminary financial results included in the press release and slide presentation represent the most current information available to management. The company’s actual results when disclosed in its Form 10-Q made from these preliminary results as a result of the completion of the company’s financial closing procedures, final adjustments, completion of the review by the company’s independent registered public accounting firm and other developments that may arise between now and the disclosure of the final results. Before we begin, I’d like to caution you that certain statements made during the call are forward-looking, including statements related to the future performance of our business, brands, categories and product lines. Any statements we make about the future are, by their nature, uncertain.

These statements are based on currently available information and assumptions and they are subject to a number of significant risks and uncertainties that could cause our actual results to differ from those projected in the forward-looking statements. We describe some of these uncertainties in the Risk Factors section of our 2022 Annual Operating Report or Form 10-K, our Q2 2023 quarterly report on Form 10-Q, our earnings release and presentation and other filings we make with the SEC from time to time as well as in other public statements. Mattel does not update forward-looking statements and expressly disclaims any obligation to do so except as required by law. Now, I’d like to turn the call over to Ynon.

Ynon Kreiz: Thank you for joining our third quarter 2023 earnings call. Mattel’s strong third quarter performance reflects the successful execution of our strategy to grow material’s IP-driven toy business and expand our entertainment offering. Our financial results exceeded expectations and showed meaningful sales growth and margin expansion with very strong free cash flow. Consumer demand for our products increased in the quarter and we continued to outpace the industry. The company benefited from the success of the Barbie movie with significant contributions from box office participation, the monitory line and consumer product partnerships. Looking at key financial metrics for the third quarter as compared to the year ago period.

Net sales increased 9% as reported or 7% in constant currency. Adjusted gross margin improved 270 basis points to 51%. Adjusted EBITDA increased 22% to $580 million and trailing 12-month free cash flow increased by $158 million to $461 million. POS was up mid-single digits in the quarter and up low single digits year-to-date. We expect POS to continue to grow as we enter the holiday season [indiscernible] in the third quarter and year-to-date, Mattel gain share globally and in its 3 leader categories, dolls, vehicles and infant order and preschool as well as in building sets. Following 22% growth from 2019 to 2022, the global toy industry was down year-to-date and in the third quarter [indiscernible]. We expect the industry to decline mid-single digits for the full year.

As it relates to Mattel, we are very well positioned competitively and expect a strong holiday season. Going into the fourth quarter, we have a broad-based lineup of innovative toys across multiple categories, play patterns and price points. This applies to our own franchises as well as partner IP, including the upcoming Universal Trolls and Disney wish movies. We have greater retailer support versus the prior year with more shelf space, larger representation across major holiday catalogs and plans for increased advertising. We expect to continue to outpace the industry and gain market share in the fourth quarter and full year. Given Mattel’s year-to-date performance and expectations for the fourth quarter, we are updating our 2023 guidance to reflect an improved margin and profit outlook.

Anthony will provide more detail shortly. Reflecting the strength of our [indiscernible] and confidence in creating long-term shareholder value, we made additional share repurchases in the quarter and expect to continue repurchases as part of our capital allocation priorities. Our strategy to grow our IP-driven toy business and expand our entertainment offering is serving us well. We are focused on accelerating top line by scaling our portfolio, growing franchise brands and advancing e-commerce and D2C, increasing profitability by continuing to optimize our operations and capturing the full value of our IP outside the toy aisle. As it relates to the performance of our toy business in the third quarter, dolls continue to grow with the benefit from the Barbie movie related toy line and adult collector base the expanded Disney Princess and Disney Frozen line and the global rollout of Monster High.

Vehicles performed exceptionally well, driven by Hot Wheels. The franchise is on track for a sixth consecutive record year of growth as we continue to innovate in new segments, including the new race versus line. In infant order and preschool, POS price declined but shipping and POS trends improved in the quarter. Little People collector continue to expand and now features all 32 NFL teams. Challenger categories in aggregate declined as it comped an exceptionally strong film slate last year. Building sets grew. And in games, we announced Pictionary versus AI, the first physical board game to integrate AI into gameplay. We also renewed Mattel’s multi-category agreement with Nintendo. In terms of our entertainment business, this was a breakout quarter for Mattel.

The Barbie movie, Mattel’s first major theatrical release became a global cultural phenomenon, breaking numerous box office records and becoming the highest grossing film of 2023. The movie was a showcase for the cultural relevance of our ability to attract and collaborate with top creative talent and our demand creation capabilities at a global scale. The movie has broadened Barbie’s fan base which will be an important contributor for the brand as part of our long-term franchise management strategy. It also speaks to the potential of Mattel films and the significant progress of our strategy to capture the full value of our IP. Mattel Television permitted new episodes of the Monster High animated series and a live action movie sequel, a special for Poly Pocket, a new series for Barbie and new seasons of Thomas & Friends, Farm and Sam and the Pixonery game show.

We also announced Hot Wheels, Let’s Race, a new animated series that will premiere on Netflix in spring 2024. In digital gaming, Mattel and game fam unveiled a Barbie Dreamhouse experience on roadblocks, Barbie’s first-ever stand-alone game on the platform. Our commitment to workplace culture and corporate citizenship continues. Mattel was named as 1 of the world’s best employers by Forbes for the third year in a row, 1 of the 100 best companies by Ceramont for the second year in a row. It is a reflection of how we are empowering a culture of growth, optimism and well-being for our global team. In September, Mattel published its latest citizenship report which highlights the progress we have made across our 3 ESG pillars: sustainable design and development, responsible sourcing and production and thriving and inclusive communities.

We are committed to being a responsible corporate citizen and to our aim to contribute to a more diverse, equitable inclusive and sustainable future. In closing, Mattel’s third quarter results reflect our success in executing our strategy with Barbie movie marking a milestone for the company. We look forward to a strong holiday season for Mattel and expect to achieve our updated full year guidance and continue to grow market share. Looking beyond 2023, we believe we are well positioned to grow our IP-driven toy business and expand our entertainment offering. We will benefit from the cultural relevance of our brands, continued innovation and demand creation capabilities across our portfolio, increase content and consumer product executions as well as ongoing financial discipline and cash flow management.

We plan to provide full year guidance for 2024 on our 2023 fourth quarter call. I would like to thank the entire Mattel organization for their achievements, hard work and commitment to creating shareholder value. Before I turn the call over to Anthony, on behalf of Mattel, I would like to express our sadness following the horrific attacks in Israel. We condemn terrorism and the unthinkable violence taking place, including the ongoing hostage situation. Our thoughts are with all those suffering, have lost loved ones and are still in harm’s way. And now, I will turn the call over to Anthony.

Anthony DiSilvestro: Thanks, Ynon. We had a strong third quarter with top and bottom line growth and significant free cash flow. Net sales of $1.919 billion increased 9% or 7% in constant currency compared to the prior year. Adjusted gross margin of 51% increased 270 basis points compared to the prior year benefiting from the accretive Barbie movie related economics. Adjusted operating income was $506 million, an increase of $108 million or 27% compared to the prior year, primarily driven by sales growth and gross margin expansion. Adjusted EPS was $1.08 compared to $0.82 a year ago, an increase of 32%. Adjusted EBITDA was $580 million, an increase of $106 million compared to the prior year. Turning to gross billings in constant currency.

Overall, gross billings increased by 6%. POS increased by mid-single digits. Mattel continued to outpace the industry and gained 60 basis points of market share year-to-date for Sarcoma. Looking at performance by category. Dolls grew 24%, driven by Disney Princess and Disney Frozen Barbie, including the movie-related benefits and the global rollout of Monster High. POS for dolls improved significantly and was in line with shipping. Barbie increased 14% with comparable POS growth. Barbie POS reflects strong gains in toys, benefiting from the theatrical release of the movie and our robust marketing efforts. Mattel outperformed the industry in the Dolls category and gained over 670 basis points of market share year-to-date and Barbie was the number one doll property globally per Circana.

Vehicles continued its strong performance, growing 15%, in line with POS. Growth was primarily driven by Hot Wheels die-cast vehicles and new innovation, including the RC and Skate segments. Mattel gained 410 basis points of market share year-to-date in the vehicles category per circa. Infant Toddler and preschool declined 5%, in line with POS. In spite of the decline, both gross billings and POS showed significant improvements in trend relative to the second quarter. The decline was primarily due to Fisher-Price Imaginext as it wraps theatrical times in the prior year and our infant business, partly offset by strong growth in Little People. Mattel outperformed the category gained 50 basis points of market share year-to-date and was the number one toy company globally in the infant toller preschool category per Circana.

Challenger categories in aggregate declined 21%, in line with POS as it comped an exceptionally strong film slate last year, partly offset by growth in both building sets and games. On a regional basis, our strong performance was broad-based, we grew POS and gross billings in each of our regions, excluding the impact of Russia. North America gross billings increased 10% and driven by double-digit gains in dolls and vehicles. POS increased low single digits. Year-to-date, Mattel gained market share in North America per Circana. EMEA declined 2%, including a negative 3 percentage point impact from Russia. POS, excluding Russia, significantly outpaced shipping increasing low double digits in the quarter. Latin America grew 5% with POS increasing high single digits.

For Circana, Mattel gained market share in Latin America year-to-date, extending our number one market position. Asia Pacific increased 18%, driven primarily by growth in Australia and India. POS increased low single digits. Consistent with the end of the second quarter, retail inventories remain below prior year levels. At the end of the third quarter, retail inventory levels in dollars declined by a double-digit percentage versus the prior year with weeks of supply down high single digits. The inventory is predominantly current and of good quality. Looking ahead, we believe we are well positioned heading into the holiday season. As previously discussed, we expect gross billings to return to historical trends with approximately 2/3 of annual shipments in the second half.

This is expected to contribute to a high fourth quarter growth rate as we wrap an atypical retailer inventory decline in the prior year. Adjusted gross margin was 51% in the quarter compared to 8.3% in the prior year, an increase of 270 basis points. The increase in adjusted gross margin was driven by favorable mix, primarily the margin accretive benefits related to the Barbie movie added 170 basis points. Pricing which contributed 140 basis points. Savings from the optimizing for Growth program which added 130 basis points and cost deflation which added 70 basis points. These positive factors were partly offset by the fixed cost absorption impact from significantly lower production volumes and other supply chain costs, totaling 240 basis points.

Moving down the P&L. Advertising expenses of $124 million declined 3% compared to the prior year. Looking ahead, we are planning to increase advertising spend in the fourth quarter and to end the full year with advertising as a percentage of net sales comparable to the prior year. Adjusted SG&A increased 8% to $347 million, primarily driven by higher accrued incentive compensation and salary and market-related pay increases partly offset by savings from the Optimizing for Growth program. Adjusted operating income was $506 million, an increase of $108 million or 27% compared to the prior year. The increase was primarily driven by net sales growth and adjusted gross margin expansion. Adjusted EBITDA increased by $106 million to $580 million, benefiting from the same factors.

Adjusted EPS increased by 32%, ahead of operating income growth, driven by favorable interest costs, a slightly lower adjusted tax rate and a lower share count resulting from our share repurchase activity. On a year-to-date basis, cash from operations was a use of $80 million compared to a use of $275 million in the prior year, an improvement of $195 million. The increase was primarily driven by improved working capital performance. Capital expenditures were $118 million compared to $127 million a year ago and free cash flow was a use of $197 million compared to $402 million in the prior year. On a trailing 12-month basis, we generated $461 million in free cash flow compared to $303 million in the prior year, an increase of $108 million or more than 50%.

The increase was primarily driven by cash from operations, benefiting from improved working capital performance, partly offset by higher capital expenditures. With respect to uses of trailing 12 months free cash flow, we repaid $250 million of debt in the fourth quarter of last year. And in the first 9 months of 2023, repurchased $110 million of our shares. Taking a look at the balance sheet. We continue to improve our financial position. We finished the quarter with a cash balance of $456 million compared to $349 million in the prior year. The increase reflects the free cash flow generated over the trailing 12 months mostly offset by the use of cash to reduce debt and repurchase shares. Total debt declined to $2.329 billion from $2.574 billion last year reflecting the repayment of $250 million of debt in the fourth quarter of last year.

Accounts receivable increased by $190 million to $1.571 billion due primarily to the increase in net sales. We have made significant progress in reducing owned inventory levels. Inventory was $791 million compared to $1.84 billion in the prior year, a reduction of $293 million and a key driver of free cash flow generation. Our leverage ratio was 2.7x at the end of the third quarter. This compares to 3.1x at the end of the second quarter and 2.3x a year ago. We generated $40 million of savings in the quarter under our Optimizing for Growth program. Since launching the program in 2021, we have achieved cost savings of $297 million. We are now on track to exceed our $300 million goal by the end of 2023. Total estimated cash expenditures to implement the program are expected to be $155 million to $185 million.

We are updating our full year 2023 guidance to reflect anticipated upside to our margin and bottom line results. We continue to expect net sales to be comparable to last year in constant currency. Our sales guidance reflects higher-than-anticipated benefits associated with the Barbie movie offset by the impact of overall toy industry declines. We expect growth in dolls and vehicles offset by declines in infant toddler and preschool and in our challenger categories, in aggregate. And for our power brands, we expect Barbie and Hot Wheels to grow and Fisher-Price to decline. At current spot rates, we expect foreign exchange translation will have a positive impact of approximately 1 percentage point on 2023 net sales. Adjusted gross margin is now expected to be in the range of 47% to 48% compared to our previous expectation of approximately 47% and 45.9% in the prior year.

The improved outlook is primarily driven by the incremental margin benefit associated with the Barbie movie and related consumer products upside. We are raising our guidance for adjusted EBITDA to $925 million to $975 million and adjusted EPS to $1.15 to $1.25 compared to the prior ranges of $900 million to $950 million and $1.10 to $1.20, respectively. Free cash flow is still expected to exceed $400 million. Our guidance implies strong fourth quarter performance in terms of top line growth and gross margin expansion compared to the prior year. As we previously stated, our annual guidance includes an increase in SG&A of approximately $100 million as incentive compensation returns to targeted levels, most of which will impact the fourth quarter.

Our guidance also includes the forecast benefits related to the Barbie movie. The total impact from our direct movie participation, movie-related toy sales and consumer products is expected to generate more than $125 million in sales with a blended operating income margin exceeding 60%. The majority of this benefit is reflected in our third quarter results. We are operating in a challenging macroeconomic environment with higher volatility that may impact consumer demand. The guidance considers what the company is aware of today but remains subject to further market volatility, unexpected disruptions and other macroeconomic risks and uncertainties. In closing, our performance in the third quarter was comprehensive with top line growth, market share gains, adjusted gross margin expansion and significant free cash flow improvement.

We expect a strong holiday season and are well positioned to achieve our full year guidance. And now, I will turn it over to the operator.

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Q&A Session

Operator: [Operator Instructions] Your first question comes from the line of Arpine Kocharyan with UBS.

Arpine Kocharyan: Obviously, very strong numbers for the quarter. against a pretty weak industry Your Q4 guidance implies kind of cautious out to outlook in terms of flow-through. And you mentioned kind of increased advertising spend and I know that SG&A is up also year-over-year given the crude incentive comp, et cetera. But revenues are still implied to be up about 18% on a constant currency basis when I do the math of flat sales. Maybe if you could play out why such strong revenue isn’t flowing through a little bit better given sort of Barbie’s strength and consumer product strength that is probably also higher margin? And then generally, if you could just give kind of an overview of what you’re seeing with the consumer as we head into Q4. That would be very, very helpful?

Anthony DiSilvestro: Sure, Arpine. I’ll start with that. I’ll first say that the majority of the movie related top line growth in Q4 and that’s because we expect shipment trends to revert to historical patterns and we’re wrapping an atypical retail inventory decline in the prior year. As we said in our remarks, we’re also expecting growth in consumer demand. We’ve got more shelf space. We’re going to spend more on advertising. We’ve got new innovation, greater representation and the top line. The guidance also implies significant gross margin expansion compared to last year and last year being negatively impacted by inventory management costs. And as you noted, SG&A is expected to increase as we wrap below target incentive compensation levels in the prior year.

Ynon Kreiz: The toy industry. So we here. But remember, this follows the industry being up 22% from 2019 to 2022, reaching an all-time high. So we’re very confident about the long-term growth trajectory of the industry. But this year, coming off that high in a challenging economy is not to be surprised by. In that context, just important to reiterate, while the industry is expected to be down, our POS is expected to be up for the year. It was up in the third quarter. It was up year-to-date. We expect it to be up in the holiday season, up in the fourth quarter and up for the full year. So we are very well positioned competitively and to see us continuing to perform well. We did mention that heading into the fourth quarter, we have a very strong broad-based lineup of innovative toys across multiple categories, play patterns, price points, for both our own brands as well as third-party brands in universal Trolls and business wash.

So all in all, expect to continue to outpace the industry and gain market share in the fourth quarter and the full year.

Arpine Kocharyan: Our categories to be more in line with the industry.

Ynon Kreiz: It’s still early in the quarter but quarter-to-date, since assuming growth in consumer demand for our products in the fourth quarter and the full year. We talk POS, this is not the movie participation, box office participation. This is in toys. So we are performing well and this is not just Barbie. The dolls category as a whole is on Disney Princess and Frozen is doing well. Masters doing very well. Hot Wales grew 19% in the quarter on track to achieve sixth record year with more innovation and very exciting product line. So this is not just about Barbie. It’s broad-based strength, not in every part. I mean, we decline in Fisher-Price. So this — there are some areas where we still have challenges. But all in all, the portfolio as a whole is very strong. And we believe that competitively, we are very well positioned and the fundamentals of the company are very strong.

Arpine Kocharyan: Okay. And I guess maybe on the back of that, how would you characterize the retail environment today? Maybe more specifically, can you expand on what inventory levels look like and stock levels for your brands? Are you seeing retailers replenish in line with POS or taking a more cautious stance given the macro?

Anthony DiSilvestro: Sure. In terms of retail inventories, I’ll start by saying, in the third quarter, gross billings and POS were fairly well aligned and retail inventories remain below prior year levels. So at the end retail inventory levels in dollars were down by double-digit percentage. And as we said, predominantly current end up good quality. And we’re working very closely with our retailers and believe we are very well positioned heading into the holiday season with respect to those inventory levels.

Ynon Kreiz: And Megan, just to add and following Arpine’s question earlier, we very long on the toy industry, industry is resilient, notwithstanding the decline this year, we’ve had over 10 years of growth. And we believe as a category, as a sector, it has very strong fundamentals in active and affordable price points and an industry that continues to perform and show resilience, especially in challenging economic times.

Operator: Your next question comes from the line of Stephen Laszczyk with Goldman Sachs.

Stephen Laszczyk: Maybe on Hot Wheels, the category or the brand posted impressive year-over-year growth in the quarter north of 20%. Could you maybe unpack the drivers of that underlying performance? How much of it was category strength versus market share gains versus perhaps just timing of orders coming through in the third quarter?

Ynon Kreiz: So Stephen, vehicles continue to perform very strongly growing 15%, in line with POS. We continue to gain share versus kind of 410 basis points. So meaningful growth in already from a strong baseline for Mattel. They are — the growth was primarily driven by diecast vehicles and new innovation. We talked a lot about the RC line and scape segment. So that’s great to see new parts of the category growing. We also continue to leverage the core diecast vehicles; we target both kids and adult collectors but another segment that is growing well. We continue to innovate and expand into additional segments this fall, including the Raceverse, the new character baseline which is also variative and exciting to see. So this is all driving incredible performance.

And this is before the movie that is still being development is coming out. And we are now developing, we hope will be an exciting project. Hot Wheels live action movie produced by JJ Abrams, who, as you know, is 1 of the most prolific filmmakers of generation. He is a great partner, very excited. And there’s more — a lot more to expect from Hot Wheels, a very strong driver. I also want to mention Matchbox, an important part of the vehicles category which did well in the quarter, gross billings were stable but toy was up double digits, driven by strength in the diecast segment. And there’s another movie that we’re developing for Matchbox with SkyBet which is the producer of the mission impossible series and top that. So a great — another great partner and we are very excited also about this project in the [indiscernible].

Stephen Laszczyk: Great. And then just 1 for Anthony. Anthony, on free cash flow. Is there any reason why the extra $25 million for this year wouldn’t flow down to free cash flow with the outlook for CapEx remaining the same, perhaps something on working cap worth going out? Or should we expect that to flow through?