Hasbro continues to face the fallout of the Toys ‘R’ Us bankruptcy earlier this year, as well as challenges from the rapidly changing retail environment and retail inventory clearing. Management remains optimistic regarding a return to profitable growth in 2019, however.
By Kris Rosemann
Simulated Dividend Growth Newsletter portfolio idea Hasbro (HAS) saw its shares face selling pressure following a disappointing third quarter report October 22 as its top line declined 12% as reported on a year-over-year basis due to the temporary loss of Toys ‘R’ Us revenue, a rapidly-changing retail environment, clearing through retail inventory, and currency headwinds. Management noted retail inventory was down significantly in the US and Europe, and it is working to clear excess inventory by year-end as retailers begin to ramp up to battle for market share in the holiday season. The company’s ‘International’ business revenue dropped 24% from the year-ago period, and the segment’s operating profit was halved as a result of the aforementioned issues related to Toys ‘R’ Us and the clearing of excess retail inventory in Europe.
‘US and Canada’ segment revenue faced pressure as well, declining 7% on a year-over-year basis, but operating profit in the region advanced 4% thanks to favorable product mix and lower administrative and royalty expense. Hasbro’s ‘Entertainment and Licensing’ segment continues to make up a greater portion of its overall business as revenue leapt 45% thanks to a multi-year streaming deal for Hasbro television programming and strength from the 2017 release of My Little Pony: The Movie and operating profit roughly doubled from the comparable period of 2017 thanks to favorable mix and cost reductions boosted. Operating profit margin in the segment came in at 39.7% in the quarter, compared to 24.5% and 11.8% in its ‘US and Canada’ and ‘International’ segments, respectively, but the ‘Entertainment and Licensing’ segment accounted for only ~5% of total revenue in the quarter. Overall, Hasbro’s operating margin contracted 10 basis points in the third quarter, and management expects full-year operating margin to be lower than in 2017.
Net earnings in the third quarter came in at $263.9 million for Hasbro, down from $265.6 million in the year-ago period, and cash flow from operations fell more than 13% through the first nine months of the year to ~$175 million, which pressured free cash flow generation. It is worth noting that Hasbro typically generates a sizable majority of its cash flow in the final quarter of the year given the nature of its products, and failing to cover cash dividends paid through three quarters of the year is not uncommon. The company held a net debt position of ~$808 million at the end of the third quarter compared to ~$637 million a year earlier. Its Dividend Cushion ratio sits at 2.1 at last check, and shares yield ~2.6% as of this writing.
We’re sticking with Hasbro as one of the lowest-weighted ideas in the simulated Dividend Growth Newsletter portfolio for the time being, and we continue to expect management to right the ship as it gears up for the holiday season and other retailers battle for the vacuum of market share left by Toys ‘R’ Us. Management noted in its prepared remarks for the third quarter earnings call that it had recaptured roughly one third of Toys ‘R’ Us revenue in the US and Canada heading into the holiday season, which doesn’t include orders that had yet to be shipped, but the disruption may persist in certain markets, namely international markets Europe and Asia Pacific as they are behind Canada and the US in retailer share recapture and Toys ‘R’ Us ownership transition, for “the next few quarters.”
Hasbro continues to be confident in the end market demand for its products, and a third-party source lists the company as the market share leader on Amazon (AMZN) in the toy and game category. It continues to invest in the future of entertainment as well as optimize its organization for the changing retail landscape, which was reflected in its cost savings plan that was announced along with its third-quarter results. Management expects to take a $50-$60 million restructuring charge in the fourth quarter of 2018 related to employee severance costs, but the plan is projected to result in $30-$40 million in annual savings by 2020.
Related: MAT
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Kris Rosemann does not own shares in any of the securities mentioned above. Some of the companies written about in this article may be included in Valuentum’s simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.