Mattel, Inc. (MAT) Earnings Call Transcript & Summary

Good morning, everyone. Thank you for joining us today. I'm Arpine Kocharyan, leisure gaming and lodging analyst with UBS. And I'm very pleased to have with us today Anthony DiSilvestro, Chief Financial Officer of Mattel. Anthony has been with Mattel since 2020 after nearly 4 decades of experience in various financial leadership roles within the consumer industry. We are going to talk about everything toys, toy Industry, Mattel strategy for growth, and further share gains, balance sheet, capital allocation, among other things. Anthony, thank you for being with us today.

Thanks for having me. It's always humbling to hear the 4 decades comment, but...

Wonderful. So I have a few questions to start off, and then we'll try to leave questions from the audience. You should be able to submit questions through the app, and I'll get them here, and I'll try to incorporate that into our discussion. So Anthony, to begin, this industry overall finished the year down about 7%, if I'm not mistaken. That's still up about 17% versus 2019. Mattel gained share last year, which was amazing, but it was overall a pretty tough holiday season. Maybe if we could give a general sense of the -- maybe the state of the toy industry and whether the investor is concerned that we could be going back to 2019 levels? In other words, we will be giving back those double-digit gains is justified, which is really a key concern that people have about the industry?

Sure, absolutely. First off, we don't see the toy industry going back to the 2019 pre-pandemic levels. And I think for context, if you look at the 2019 to '22 period, industry grew by 25% which is pretty amazing. Then in 2023, the industry did decline 7%, right? And that puts us up 17% versus 2019. We do expect the industry to decline in 2024, but to a lesser extent than it did in 2023. And it's important to understand the reasons for that is, one is coming off the pandemic, the impact of consumer spending patterns shifting back to services and experiences from product. And we see that waning as we move into 2024. The other thing is in '23 and '24, we're seeing a lighter toyatic theatrical film slate, which historically has been a catalyst for industry, right? And that's been a bit diminished in the last year or 2 given what's happened in -- certainly in Hollywood. As we look to 2025, we see the industry returning to growth, right, for a couple of reasons. One is the impact of consumer spending pattern shift should be behind us. And we expect to see a larger toyatic films slate coming. As we think about the toy industry, we see it as a large, growing and resilient from a consumer perspective, it's an important industry the importance of physical play in terms of child development and the fact that parents will prioritize spending on their children. And from a retailer perspective, this is a strategic category drives foot traffic for them. It's experiential. It has multiple price points from $1.25, right, to a couple of hundred dollars for Barbie Dreamhouse. So it's a great portfolio of products. It enables retailers to attract what they call lifetime consumers, young couples and families is important to them. So as we look at the industry, we see it as robust and will return to its historical growth patterns once we get through 2024.

Wonderful. That was my question -- my next question about sort of growth in 2025 and what visibility. That's great. Last year was characterized by significant inventory destocking in the first half of the year. You're guiding to flattish growth this year. Could you maybe talk about cadence of sales and how investors should think about that given kind of comp of significant declines in the first half of the year? Maybe if you could sort of go through the patterns of what you're expecting?

Sure. Let me start with kind of recapping the top line guidance. We are guiding for our net sales to be comparable to last year in constant currency, with growth in the vehicles category, offset with a decline in dolls as we wrap the impact of the Barbie movie and for our infant toddler and preschool and our challenger categories in aggregate being comparable to last year. And then with respect to our 3 power brands, we expect Hot Wheels to grow again for Barbie to decline and for Fisher-Price to be flat. What we saw in 2023 was a return, right, to what we call a kind of a normal distribution of sales across the year, 1/3 of gross billings in the first half, 2/3 in the second half. Now the anomaly was really in 2022, where we came out early, right? We had 42% of our gross billings in the first half, 58% in the second half. So our 2023 halves were a bit volatile, right? Significant declines in the first half followed by growth in the second half. Now 2024, so we're -- that issue is really behind us. So 2023 was kind of fixing what happened in '22. We expect 2024 to kind of repeat the same normal distribution of a 1/3, 2/3. So when you do the comparison in 2024, kind of equal, right, when you're doing the comparisons year-on-year. look, there's always going to be some movement between the halves or the quarters, but 2024 and 2023 should generally follow the same distribution, and we shouldn't see large deviations on a year-over-year comparison.

That's helpful. And we get this question from investors often, does your guidance incorporate some level of macro uncertainty? Or does it assume that the current level of macro environment sort of change itself for the back half of the year?

Yes. I would say there is some flexibility within our guidance, but we are not expecting that the economy goes into a recession. And I think that's consistent with what most economists would say in terms of the economic outlook. I think just adding to that, we did talk about the industry decline, but we expect Mattel's POS on toy to be flat year-over-year, which is ahead of the industry and represents another year of anticipated market share gains. We've gained significant share in 2023, 70 basis points overall, with over 700 basis points of share gains in the Dolls category, almost 300 basis points of share gain in the vehicles category. So competitively, our relative performance has been very, very strong, and we expect that to continue into 2024.

Despite flattish sales guidance, you're guiding to double-digit EPS improvement this year, mostly driven by cost saves. But before we even get into cost saves, could you maybe go over the key concern that investors have about how Mattel can improve margins given very tough Barbie comp, Barbie is such a sort of flow through of business for you? Could you just go through that math?

Sure, sure. Look, for 2024, we are very focused on improving our profitability, even though we are anticipating our top line to flat. And if you look at the gross margin line, we are guiding, and I can reaffirm this today to expand gross margin by 100 to 150 basis points and there's 2 -- there are some puts and takes. On the positive side, we recently announced a new cost savings program, which will I'm sure we'll talk about, right? That's going to have a positive benefit in the COGS line and help gross margin. We also expect to have favorable fixed cost absorption. And the reason for that is 2023 to address our owned inventory position and to reduce it, we pulled back on our internal production levels, right? And that came with a negative fixed cost absorption impact as we return to more normal production levels in 2024, that will be a tailwind for us on gross margin. The combination of the cost savings and the absorption impact will more than offset the negative carryover impact related to the Barbie movie. And then as you move further down the P&L, and as you said, we are guiding to $1.35 to $1.45 EPS compared to $1.23 last year. That's double-digit growth. Obviously, the main driver is the gross margin expansion, but we're also benefiting from the accretive use of free cash flow. We generated over $700 million of free cash flow in 2023. We're guiding to $500 million in 2024, right? Some of that is being used to buy back stock, and that is contributing to EPS growth. Last year, we bought back $200 million worth of shares. That's going to have a carryover impact. We also have begun to repurchase in 2024. In fact, I can tell you, we've repurchased $100 million of shares in the first quarter of 2024. So we're going to -- with the reduced share count, as we utilize the free cash flow, that's going to help on the EPS line as well.

So the run rate of those buybacks are already ahead of last year's -- total of last year to be buyback?

Correct.

That's interesting. In terms of cost saves, you've obviously done an impressive job of cutting costs over the past 3, 4 years, north of $1.2 billion, $1.3 billion. And you just upped that cost save guidance recently. Could you talk about where you're finding further opportunities someone who doesn't know business as well to rightsize cost structure, both in terms of cost as well as this?

Absolutely. I mean, sure, as you pointed out, we have a strong track record of identifying and achieving cost savings. If you go back to the 2018 to 2020 period, about $1 billion of cost savings under our structural simplification program. 2023, we just completed are optimizing for growth program. We generated run rate savings of $343 million against an original target of $250 million and a revised goal of $300 million. So again, very successful. Recently announced a new 3-year program called automizing for profitable growth. We're targeting $200 million of cost savings by 2026 under this program. And what I would say is this notion of productivity efficiency is really part of the Mattel DNA. And the idea of continuous improvement and always looking for productivity improvement is part of our mindset, and it's really an important part of our earnings algorithm and that is expected to [indiscernible]. So of that $200 million, 70% is expected to come through cost of goods sold, 30% through SG&A. And we continue to identify opportunities to leverage our scale and drive efficiency. We also see significant opportunities, obviously, within our global supply chain, including our manufacturing footprint. At the end of last year, in our third quarter, we disclosed plans to reduce one of our plants -- take out one of our plants in China. So that's part of the $200 million. And again, we continue to identify opportunities to save cost and to further improve our productivity and we are very confident in our ability to achieve the $200 million 3-year target, $60 million of which we have targeted for 2024 and that's incorporated into our guidance.

And to go back to the China plant closures, do you feel like after that one plant closes, you are at an optimal place? You don't close more plants or you don't -- it's not part of your program?

Yes, it's not part of the program at this point, but this is a never-ending process in terms of identifying opportunities, not just in the manufacturing footprint, but across the whole enterprise, right, whether it's supply chain or SG&A, there's always opportunities to find ways to do things better, faster, more efficiently. And look, our program, if you think about it, is 2% to 3% of cost in terms of annual productivity, and we believe that's very achievable.

Anthony, just talking to the trade recently, it's clear that freight costs have gone up a little bit given the Red Sea disruption. What inflation are you seeing in that line item? And is that already reflected in your guidance?

Yes. This is a situation, obviously, that we're monitoring very closely in terms of the Red Sea and the disruptions around transportation, and it definitely had an impact on spot rates, particularly transit from Asia to Europe. Just for context, we procure most of our ocean freight through annual contracts that we enter into the second quarter. And we are obviously very aware of what's happening in the Red Sea and the impact on rates. And I would say that our guidance reflects the impact of the current situation, right, that we can accommodate what's happening right now. But obviously, if it gets worse, that's an issue, but the guidance today reflects what's happening.

And reminder for the audience, you can actually ask questions via the app. We can hopefully going to try to check regularly here. Anthony, one of the key nuances that stood out to us during the most recent Investor Day with emphasis on accelerating investment in entertainment and core brands. You have been very clear about your asset-light approach to IP. Ynon has been very clear about that. Could you go over that strategy and what that could mean for growth for Mattel for the medium term?

Sure. Let me start by saying part of our strategy, obviously, is to grow the toy business profitably, but it also is to expand in entertainment and capture the full value of our IP across many adjacent verticals. I mean, this includes consumer products and digital gaming, location-based entertainment, certainly content, both TV and film and the whole publishing side. So there's a lot of opportunity for us. That said, we are not moving away from our capital-light approach. It's been very helpful to us. It allows us to put a lot of shots on goal and work with a lot of different partners without putting significant capital at risk. That said, if you look at the improvement in our financial condition and our balance sheet strength today, we do see an opportunity to make targeted and selective investments that will advance the entertainment strategy and enable us to capture a greater share of the upside. And a good example is digital gaming. We talked about in our Investor Day presentation that, hey, we can look to do self publishing of digital games. This is an area that doesn't require significant investment but can have meaningful upside. And I would suggest that our success with Mattel 163 is a great example. This is our joint venture with NetEase, which today has revenue approaching $200 million with just 3 Mattel games, right, Uno, Phase 10 and Skippo. And with a limited investment, again, it's grown to almost $200 million in high profitability. So we think this is an opportunity for us to capture a little more of that opportunity.

And what are the biggest hurdles of self-publishing technical capability [indiscernible]?

I think there's a couple of things. One is, I think it's building the right leadership and capabilities in-house. We've already begun to do that. We have hired a new head of digital gaming, and we continue to build those capabilities. And then it's a question of finding the right development partners to work with, right? I mean when we say self-publishing those, I mean we have to do it in-house. I mean we do it on our dime. But we certainly will continue to work with partners and then identifying the right IP, the right genre, the right game type -- and you can do it in a way where you kind of have a very discrete milestones along the way in terms of how the game development is going, and you can adjust along the way.

Could you do any small budget films?

Yes. I think that's another area where we can make targeted and selective investments right, whether it's a portion of a large budget film or whether it's a larger percentage of a smaller film. But again, I think the important comment here is we're not moving away from our capital-light approach. But again, smaller targeted investments are certainly something that we're thinking about.

Barbie, there's a lot of concern that while incredibly successful at box office, you don't have another Barbie in your portfolio, and it could be hard to replicate that level of success with other properties, even though I think Hot Wheels is actually going big. But could you talk about what's next in terms of franchise investment when it comes to box office and your ability to attract top talent?

Sure. Let me start by saying we feel great about the success of Barbie and what happened in 2023 and the fact that we generated over $150 million of revenue and $90 million of operating income just from the direct movie participation, the movie-related toy sales and consumer products. And we love the fact that it has expanded the fan base in the audience, particularly around adult and collector and feel great about what is done for the brand. But we're not stopping there. We have 15 movies in development, all of those kind of top franchises within our portfolio, whether it's Hot Wheels or American Girl or Magic 8 Ball or Bob the Builder, to name a few. And our approach similar to Barbie is a full franchise approach. It's kind of like an orchestra where we're going to choreograph all not just the movie, but the adjacent verticals, consumer products, digital gaming, publishing, location-based entertainment. Because again, we are moving from just making toys to managing franchises. And when you think about at scale, we think we can do on average 2 movies a year. And if you think about that and all that goes with it, right, it can have a meaningful transformative economic impact on Mattel.

Would there be a sequel to Barbie, do you think?

I hope so Okay.

Wonderful. Monster High, you just had a global rollout of that brand. It used to be a substantial piece of business for Mattel about a decade ago. I think if I'm not mistaken, something like $600 million in revenue. How meaningful is that franchise for your growth outlook for this year and next [indiscernible]?

Sure. not sizing it specifically, but what I can say, we feel great about the rollout of Monster High. We just finished the global rollout. It is a meaningful piece of business for us. Monster High in 2023 was the #1 growth property within dolls and it is now the #8 doll property in dolls, right? So significant scale and growth for us. And again, this has been a full franchise approach. It's not just toy, it's content, right? It was backed by 2 live-action movies, 2 animated series consumer products, digital gaming exposure. So again, a full franchise approach. And look, if I think about our 2023 performance in dollars. Again, we gained almost 700 -- and over 700 basis points of market share in a single year. I mean that's just -- to me, that's fantastic. And it was the trio of Barbie, Disney Princess and Frozen and Monster High, all working together. And I think it exemplifies our ability and the benefit of our category management structure to manage multiple brands within the portfolio, each having their own reason for being and operating in their respective lanes. And it's great to see all performing extremely well.

I wanted to talk about Fisher-Price. You talked about out-licensing Power Wheels in that business and baby gear segment. And you've been pruning the product portfolio for some time. What is the strategy there? How do you grow that segment, which is essentially tied to -- at least that's the way I think about it, tied to child demographic trends and birth rates, which have not been impressive when they're declining. How do you grow that business?

Yes. So let me talk a little bit about our infant, toddler, preschool business. And then just for context, infant, toddler, preschool is the third largest category within the toy industry. Fisher Price is the #1 property within infant toddler and preschool. We outperformed the category in 2023 and gained market share. We've been spending a lot of time and effort around our strategy for infant, toddler, preschool. And the way to think about it is that did that category breaks down into basically 2 segments. Infant and Toddler and it was really focused on the 0 to 3 a group, where you're speaking to parents and preschool, which is more kids-focused targeting and speaking directly to 2 to 5 year olds. And then back -- on the infant and toddler business, it really breaks down into 2 segments. One is our Fisher-Price core business. This is about a $700 million revenue business, which has actually been stable over the last few years. The other piece of that is Power Wheels and baby gear. About $125 million in revenue, and this has been declining a couple of points to make there. On Power Wheels, we've been impacted by a low price competition. And then baby gear, as you said, we've made some decisions to exit certain product lines within that segment obviously has an impact on us. Our strategy on Infant and Toddler is to focus on Fisher-Price core right, to improve profitability, streamline the business to optimize the SKU count. We can simplify the business, can optimize our sourcing better than we have and improve profitability. And we're also focused on growth. And a good example is our entry into the Wood segment with Fisher-Price Wood. This is an $100 million segment, very attractive and growing, and this is our first foray into that piece of the market. So we feel really good about that. And then on Power Wheels and baby gear, Power Wheels, we look to out-license or exit that business over in the near term. And we'll continue to exit certain lines of the baby gear side of the business. So that's that. But coming back to the preschool side of the business. This is a $200 million business for us. It's been declining, and it's been impacted by fewer licenses as well as our performance on Thomas. But what we're doing on that side of the business is we're going to integrate it into the -- our El Segundo business. And that enables us to better leverage our global brand team expertise bring it closer to our franchise operations and our studio partners. And we're very excited about some upcoming properties around Star Wars and Jurassic World in terms of licenses that we can bring to bear and to grow that business. So we feel good about the strategy that we have. We think Fisher-Price is a great business and a valued asset and see it returning to growth over the long term.

But you'll still have some business, I understand?

Yes, the Fisher-Price core business will remain in [indiscernible].

American Girl, I wanted to talk a little bit about that. Clearly, that's a key brand for Mattel. Growth has been harder to come by. The brand showed some declines this last year as well. I guess what is your current strategy with American Girl? And how can you position that brand for growth on a go-forward basis?

Sure. Great question. Similar to Fisher-Price, American Girl is a treasured brand. It's a valuable asset for Mattel. We've been doing a lot of work around this business. For example, we've been optimizing our SKU offering. So we moved the Girl of the Year launch from the first quarter to the fourth quarter to better align into the seasonal demand. That's gone extremely well. It sold out in Q4 and is performing very well as we head into 2024. But we are also doing a number of things on the product side. We have a collaboration coming up on Disney Princess and Frozen. We've announced a partnership with Paramount Pictures to produce a live action American Girl film. We've recently opened new stores in L.A. and Dallas, which are performing very well for us. And then on the operational side, 2 things we're closing down our Middleton operation, bringing that into El Segundo, which will drive both efficiency and effectiveness for us. We're also combining it with our North America Commercial division, which has been very successful with Mattel Creations and have built very strong DTC capabilities that we think we can bring to bear on the American Girl business. So a lot of activity underway, and we feel good about the prospects for that business as well.

You talked about Disney Princess. Could you just give us a sense where that partnership stands with this today in a coming [indiscernible]? Would that be a source of meaningful growth for you for the Disney Princess line?

Yes. Absolutely. We feel great about our -- in our partnership with Disney. And as we've said before, when we do these in-licensed things. We treat partner brands as our own, right? And we give them the same effort and dedication and care as we would. And the return of Disney Princess and Frozen is off to a great start in terms of its performance in 2023. And we're very excited about the future. You mentioned they announced Moana 2 being released in theater at the end of '24. You've got Wicked, you've got Frozen 3 coming out in a couple of years. So we see continuing opportunities to grow that business as well.

Great. I get 1 or 2 questions online, but I'm going to sort of -- with my line of question. I think it's going to go back to sort of margin. But in terms of capital allocation plans, you've been obviously buying stock back to authorized $1 billion of buyback program. Could you maybe update us with your capital allocation strategy on a go-forward basis, what's important, what's what comes to us?

Sure, absolutely. Just to recap our capital allocation priority. Our first priority is to invest in the business to drive organic growth. And this could be building capabilities in areas like digital gaming and e-commerce, could be adding capacity, which we have done in die-cast cars and fashion dolls. These are 2 areas. We have a distinct and significant competitive cost advantage. As we talked about a little earlier, opportunities to make targeted investments to advance our entertainment strategy. Our second priority is to maintain a leverage ratio of 2x to 2.5x debt to adjusted EBITDA and maintain our investment-grade ratings. We are now investment grade by all 3 rating agencies. And in fact, S&P took us up to BBB flat, which is really, really good to see. With that improved financial position, we can consider the next 2 priorities, the third being M&A. And we've talked a lot about this. We think there's an opportunity on M&A, but we are very cognizant of the risks. And anything we do here, we have a very disciplined approach any asset would need to be consistent with our strategy, would need to drive growth, they would need to have attractive risk-adjusted financial returns. And again, we see this as a potential opportunity. And it's not like we have to do M&A, right? But there may be opportunities to make investments that earn returns above the cost of capital and create value. And to the extent those opportunities aren't there, we will look to share repurchase. Share repurchases, which in fact, is what we've been doing. We talked about $200 million last year. We've already done $100 million this year. We've announced this $1 billion share repurchase authorization. And I'd say those are the 4, and they've been fairly consistent over time.

You talked about M&A and M&A does stand a little bit higher on your priority list versus buybacks. What would you look for in a potential M&A? What criteria would you look for? What does have to happen for you acquire?

Yes. I think again, the criteria is pretty straightforward, right? And it's hard to get too specific with hypotheticals, but look, it has to advance our strategy. It would have to drive growth. It would have to drive financial returns. It would have to have the right risk profile. I think the core piece of that point is it's on strategy. We're not going to do anything you're going to say, well, why did you do that, right? I'd like to say it would have to be obvious, right? And I think that's a good way to think about it. But that said, given our financial position, I think we are open to opportunities that can create value. And that's our North Star, whether it's M&A or share repurchases. That's what we're trying to do is to create value for the shareholders. And like I said, we don't have to do M&A, right? But it is something we can entertain.

That's wonderful. And I do have a couple of questions on the line. One is back to margin audience is asking, spending here today, what are key risks that you see to your margin story? What keeps you up at night?

Look, we feel very confident in our ability to deliver against our guidance, right, and particularly around gross margin. And I don't think there's a lot of risk to that sitting here today. We hedge currency, hedge certain commodities. We have a certain level of inventory, right? We have pretty good visibility to input costs. I always worry about exhaustion as a factor. You never know what can happen. But sitting here today, I think we have good line of sight.

Helpful. And another question is, could you talk about your retailer relationships even push to take less and less inventory and they're sort of have been pushing that risk on to the toy makers over the years? Where do those relationships stand today with some of your biggest retail partners?

Yes, without talking about any specific retailer, I would say we work collaborative with all the major retailers globally, right? And we have great relationships with those retailers. We are doing joint business planning in terms of shelf space, advertising, promotions, product. And I think those are only already getting stronger and I think our market share gains are kind of indicative of how those relationships are going. To me, if you're gaining market share, you're winning and retailers want to work with those companies that are gaining share and doing better than the industry. And I think our portfolio and the breadth of our portfolio gives us a competitive advantage vis-a-vis retailers, right? Because we can represent multiple categories within the industry. And our brand portfolio is trusted and well-known and resilient. And I think that bodes well for those customer relationships.

Wonderful. We have one more from the audience, which is -- goes back to the visibility question into 2025 growth. What visibility do you have the 2025 top line for Mattel and for the industry? In other words, can the industry actually return back to growth in 2025?

Yes, a couple of things. I'd say one is we see the industry returning to growth. And I think for the reason we talked about earlier in terms of consumer spending patterns, in terms of the theatrical slate. But I think Mattel is well positioned. And look, we're already designing product for 2025. We're already discussing the product lines with our major retailers. We're already getting feedback. We know -- we have the license with Universal and Jurassic world. We have the license on Disney Princess and Frozen. So as the industry gains that we expect to outperform the industry, and we feel, again, that our design and development capabilities are a competitive strength as well as our retailer relationships, and we feel that we are well positioned to continue to outpace the industry, which, again, we expect to return to growth as well.

Wonderful. Anthony, if there is one message you wanted investors to go back to meeting, what would that message be?

Yes. I think -- and again, I think we're well positioned. And I think if you think about Mattel, we have a strong growing profitable toy business and then we have the entertainment side. And I think there's significant untapped opportunity for that to have a meaningful impact on us. And as the finance person, I always like to point out free cash flow and the fact that it is strong, healthy and that is -- again, that enables us to do quite a bit.

Well, that's great. Thank you, Anthony. Thank you for your time. Thank you, everyone.