JAKKS Pacific, Inc. (JAKK) CEO Stephen Berman on Q1 2022 Earnings Call Transcript

Apr. 29, 2022 4:28 PM ETJAKKS Pacific, Inc. (JAKK)
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JAKKS Pacific, Inc. (NASDAQ:JAKK) Q1 2022 Earnings Conference Call April 28, 2022 5:00 PM ET

Company Participants

Stephen Berman - Chairman and CEO

John Kimble - CFO

Conference Call Participants

Steph Wissink - Jefferies

Garrett Johnson - BMO Capital

Operator

Good afternoon, everyone. Welcome to the JAKKS Pacific First Quarter 2022 Earnings Conference Call with Management, who will review financial results for the first quarter ended March 31st, 2022. JAKKS issued its earnings press release earlier today. The earnings release and presentation slides for today's call are available on the company's website in the Investors section.

On the call this afternoon are Stephen Berman, Chairman and Chief Executive Officer; and John Kimble, Chief Financial Officer. Mr. Berman will provide an overview of the quarter, along with highlights of product lines and current business trends. Then Mr. Kimble will provide detailed comments regarding JAKKS Pacific's financial and operational results. Mr. Berman will then return with additional comments and some closing remarks prior to opening the call for questions. [Operator Instructions]

Before we begin, the company would like to point out that any comments made about JAKKS Pacific's future performance, events or circumstances, including the estimates of sales, margins and adjusted EBITDA in 2022 as well as any other forward-looking statements concerning 2022 and beyond are subject to Safe Harbor protection under federal securities laws.

These statements reflect the company's best judgment based on current market trends and conditions today and are subject to certain risks and uncertainties, which could cause actual results to differ materially from those projected in forward-looking statements.

For details concerning these and other such risks and uncertainties, you should consult JAKKS' most recent 10-K and 10-Q filings with the SEC as well as the company's other reports subsequently filed with the SEC from time-to-time.

In addition, of today's comments by management will refer to non-GAAP financial measures, such as adjusted EBITDA and adjusted earnings per share. Unless otherwise stated, the most directly comparable GAAP financial metric has been reconciled to the associated non-GAAP financial measure within the company's earnings press release issued today or previously. As a reminder, this conference is being recorded.

With that, I would now like to turn the call over to Stephen Berman. Sir you may--

Stephen Berman

Good afternoon and thank you for joining us as we discuss our latest performance and current plans going forward. It has been an exciting first quarter for JAKKS as we shipped more product than any Q1 since 2008. Our net sales for the quarter were $120.9 million, a 44% increase compared to the prior year.

On the Toy Consumer Product side, sales can be thought of in terms of three key drivers. Our evergreen business of toys and consumer products solidly performed in the quarter growing single-digits almost across all divisions and categories over the prior year.

Disney Princess, Nintendo Super Mario, Perfectly Cute, Black & Decker all contributed to improved results. We continue to see fantastic demand for our Encanto Disney products. Retail inventory of Encanto at our top three U.S. accounts at the end of the quarter was only 4 million. The team has been laser-focused on fulfilling the existing demand and broadening the product line with some great new items in time for this holiday season.

There also has been great excitement for our Sonic the Hedgehog 2 movie related products since it hit shelves at the end of February. We were thrilled to see fans rushed to the theaters when the movie released earlier this month. Over its first two weeks, the worldwide global box office has exceeded $230 million, the movie and our product line appeals to those new to Sonic as well as those of us who have loved the world of Sonic for over 30 years now.

Point of sale at our top three U.S. customers increased over 40% in Q1 compared to last year, while their retail inventory levels started to catch-up from recent quarters, finishing at plus 54%. We feel really good about the cooperation we're getting from customers, working to stay ahead of supply chain constraints, and ensure that everyone has the product our consumers want throughout the year.

In total, our Toy Consumer Product segment was up 39% in the quarter, with North America up 37% and international up 52%. Although the pandemic continues to impact local economies in different ways, we are beginning to see solid progress and expanding our international footprint.

Over the past two years, we have gone direct in more Western European markets as well as Mexico. Those transitions are often challenging and the best of times, and we have erred on the side of caution to not over invest. But as we close Q1, we see signs of solid progress, particularly as European retailers had more lockdowns a year ago and our team in Mexico opens more doors, more and more as the weeks go by. Our top five direct toy markets outside of North America, where the U.K., Germany, Mexico, France, and Italy, and that group aggregated grew over 80% in Q1 versus the prior year.

Q1 is a small quarter for our Costume business, but nonetheless also performed extremely well. We shipped $9.8 million in the quarter and nearly one and a half times increase versus a prior year. As we've discussed on recent calls, our Costume business in Europe is ramping up along with our Toy growth and we've begun shipping Disney Costumes across Europe in April.

From a margin perspective, container costs and stretched delivery times continue to be a challenge as we have anticipated. The team in Hong Kong and in China are working closely with our counterparts in the U.S., Europe and Southeast Asia to ensure that we are moving products into our warehouses as efficiently and cost effectively as possible. But the situation remains volatile in part given the wide range of product we offer.

Particularly some of our outdoor seasonal item, which remain subject to tariffs, are now further disadvantage given the relative size and the simple math of how many units fit in a now more expensive container. We are factoring in all these issues as we plan our year going forward.

Increasing cost pressures remain a hot topic everywhere. We continue to leverage our long-term vendor relationships to collaborate and developing products that will be market competitive, while dealing with increasing manufacturing costs and above and beyond the aforementioned supply chain challenges.

Towards the end of first quarter, we return to on-premise operations in our Southern California offices. As much as the teams have done a remarkable job in collaborate in a new and different ways remotely, it's been energizing to be able to walk the halls again and have more spontaneous conversations, both on a professional and personal fronts.

We're also starting to see business travel return and are eager to see more cross-office collaborations in the months to come, in addition to spending more in-person time with customers and licensors.

As each quarter passes, our balance sheet gets stronger and stronger. We are taking advantage of the low shipping season to import our 2022 inventory needs as early as we can as we did last year, and managing our cash tightly to fuel our future growth.

The first quarter in a company like ours is really just a warm up for the rest of the year. So, we're all aware that there's a lot of hard work ahead of us. But when I think back on all the challenges the company and the team has had to work through over the past several years, I couldn't be more excited about where we find ourselves today and the prospects going forward to 2022 and beyond.

I will now pass the call over to John for some further discussions around our financials, after which, I'll come back with some more thoughts about the rest of 2022. John?

John Kimble

Thank you, Stephen and hi everybody. In the spirit of being a new year and trying new things, we've extended the data and calculations provided in the exhibits of our earnings release to cover the material that I've historically recapped in my section of the narrative.

As a result, I'm not going to reiterate all that data here. I would like to take the opportunity to go a bit deeper into a few areas that I feel are noteworthy in reviewing the quarter.

First off, margin. As we discussed last quarter, we're seeing meaningful increases in import costs when it comes to importing product, inclusive of getting products from the factory to the port, ocean passage, getting products out of the receiving ports in a timely manner, and then transporting to our warehouses in the U.S. and Europe.

We absorbed a lot higher costs in the back half of 2021 in this area, a portion of which flowed through the P&L when that product was sold in Q1. It has been in recent years and continues to be our practice to contract for a certain amount of ocean transport to the U.S. to give us a degree of cost certainty.

We secure the balance of our capacity on the spot market. As much as the spot market continues to whipsaw around early this year, we know that the retrospectively attractive contractual rate we enjoyed in 2021 will soon be gone and we will be absorbing higher contractual cost this year. This is not new news in the context of what we shared last quarter, but it is a bit more explicit about our confidence and projecting how we expect that cost to behave in the calendar year.

It is the case that the front part of the year is lower volume at the ports and by extension less challenging than what we saw in the back half of 2021. But that doesn't change that unfavorable year-over-year perspective on a container basis with the contractual rate resetting in Q2.

Of course, a simple way to reduce spending and ocean freight is to import less product. However, as you can see in recent quarters results, we're currently enjoying fantastic demand for our product. So, we're having to be judicious about meeting that demand, while realizing we're suffering on the margin side, given the current macro events.

To that end, our March 31st inventory remains high at $85 million, which is $49 million more than this time prior year. Of the $85 million, $15 million is in transit, where last year, that number was $5 million. You can think of that $85 million in at least four different ways a view towards our short to medium term needs for 2022 sales, more in transit, given the longer supply chain, capitalizing the higher supply chain cost of product value, and doing what we can to pull necessary 2022 inventory forward into our distribution centers ahead of the second half crunch.

As to how all that plays out in the quarters to come is not something we're going to speculate on the beyond making the observation that we're happy to be in a place where there's a lot of demand for our current product line.

Moving down the P&L and building on what Stephen said about cost pressures, as the business has retrenched during the pandemic, we've taken the opportunity to reset a bit as it relates to SG&A spending. There are elements in the direct selling section which have a variable volume attribute and it's also subject to timing of certain expenditures that can move around during the year.

Tracking G&A on a percentage of net sales basis is a bigger metric for us. Not in terms of absolute dollars necessarily, but making sure we're at minimum maintaining scale, and that more fixed portion of the P&L.

Certainly benefiting from our strong Q1 topline, we see nice margin improvements in both areas versus prior year, with G&A, the larger of the two buckets, improving by over 400 basis points, which is great. That certainly helps offset some of the aforementioned gross margin squeeze and leads to our closing the quarter just under a 1% operating loss, which represents very strong performance for Q1 at a toy company.

Our refinance capital structure brought interest expense down from $4.9 million last year to $2.2 million this year. In the market-to-market of our preferred stock liability resulted in a non-cash loss of $645,000. We back that loss out of our non-GAAP calculations of adjusted EBITDA and adjusted EPS.

In aggregate, our adjusted EBITDA for the quarter is a positive $1.9 million versus a negative $2.4 million last year. Our trailing 12-month adjusted EBITDA is now $53.6 million, or 8.1% of net sales, which was $39.5 million and 7.4% of net sales at this time in 2021.

Now, I want to pivot to talk about cash in the balance sheet. As of March 31st, our total debt was $95.4 million. We had no draw on the credit line. With the trailing 12-month adjusted EBITDA, that calculates a leverage ratio of 1.8.

As you know, our cash tends to have seasonal ups and downs given the seasonality of the business. If you were to calculate a trailing 12-month view of cash, you get $36.8 million. Whether you want to use that number or cash balance as of March 31st of $39.2 million, you get a net leverage ratio in the range of 1.0 to 1.1.

Our trailing 12-month net sales is now at $658 million compared to a recent low of $516 million at the end of 2020. Given that our debt level has decreased from $161.7 million to $95.4 million over the same time period, we've been rolling forward the results of improved profitability and to reduce debt and increase working capital to drive higher sales.

It's our intention to continue to follow that script, deploy cash to secure and expand evergreen brands and categories of business, steadily improve our balance sheet, and explore on strategy acquisition opportunities as appropriate.

And with that, I'll now hand the call back over to Stephen for some additional remarks.

Stephen Berman

Thank you, John. As I said at the beginning, it's a very exciting time here at JAKKS. We are focusing on controlling the areas in which we can have been extremely focused on the areas that become problematic depending on various economic factors.

That translates to a few distinct themes as we look ahead. We clearly have a tremendous opportunity this year with both Encanto and Sonic. In a world where we are focused on singles and doubles, they are positioned to be more than that in 2022 and beyond.

The Sonic 2 excitement was clear as soon as a movie product hit shelf and it's also pulling through more volume of our evergreen Classic Sonic line as well. We have doubled tooled key items in these ranges, and are talking to customers about additional shelf space for the newly added SK use this fall.

Getting this done is not easy as it shortens the usual development cycle to something closer to half the time. But this ability is one of the things that makes JAKKS unique and retailers are equally excited about consumer reaction to these distinct two businesses.

We will chase this business in the U.S. and internationally, while at the same time carefully monitoring POS and talking to our partners. As we touched upon back in February, we are still locked into our singles and doubles core focus and have a lot of great refreshes innovations, extensions of lines and categories and expansions planned across businesses like Disney Princess, the Star collection, and Perfectly Cute in the Dolls and Roleplay aisles and Super Mario, Black & Decker, Apex Legends in Action and Play Collectible aisles.

We see all of these businesses growing in North America and many of them growing even more internationally. In addition, we are anticipating a tremendous year in our costume business disguise. Last year that many customers wishing they had bought a bit more and that they had shipped a bit sooner.

We are leaning into that to ship more and ship sooner again looking to minimize the second half crunch and also to make sure that the retailers are setting as early as they can. Something which didn't always happen in 2021. When you combine those dynamics with our ever strengthening licensing portfolio in the U.S. and international. We are extremely excited for growth this year.

And finally, I want to point out that our diligent focus of growing our overall business unit categories of the approach singles and doubles doesn't mean we're out of surprises. With some thoughtful and unexpected launches of new categories or products this year.

We've recently announced a new JAKKS product line of inflatable remote control vehicles called Air Titan, our first-to-market for this line comes in partnership with universal brand development, the Air Titan, Jurassic World Massive Attack T Rex RC is coming to online retail this spring ahead of the theatric release of Jurassic World Dominion in June 2022. This constant air inflatable RC prehistoric beast is over six feet long and fully inflates in approximately 20 seconds.

We also recently introduced a distribution partnership in the U.S. and Asia-Pac with Wow! Stuff, a European-based toy innovation company for two new product lines. The first is Movie Mates, launching first with a blockbuster franchise Jurassic World. Our range of collectible highly detailed and articulated action figures mounted on a non-removable film rig that comes with a free Movie Mates app.

Using the figure or figures, and the stop motion app, kids and kidults can recreate movie scenes or make new ones of their own. Start making movies within 60 seconds is the premise with easy to use toys and app.

The second item from our Wow! Stuff relationship is Jurassic World Real FX Baby Blue, featured a life-like feel and movements. The Real FX Baby Blue comes alive with easy one-handed controls, move the head and the neck to protect and battle or lunge, get close and pet Blue to activate touch sensors on the head and the body activates over 20 movie sound effects.

The verbal description of all three of these items really don't do them justice. The team is putting the finishing touches on the promotional sizzles. So, keep an eye on our website to see how fun all these new introductions and innovations are.

I'd like to end with thanking the global teams and partners for the continued focus and commitment and our investment community for the support and patience as we execute against our plants to continue to deliver greater products, profitability, and greater results.

With that, we will now take questions. Thank you.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions]

Our first question comes from Steph Wissink of Jefferies. Your line is open.

Steph Wissink

Thank you. Good afternoon everyone. We have a couple of questions. Maybe one for you, Stephen, just to start. I think you mentioned distribution, I understand you're bringing back some of your international distributor ships in-house, but maybe talk a little bit about some of the new retail wins, how your distribution is changing in the U.S. and internationally? And how that's playing out and kind of the growth numbers that you're putting up currently?

Stephen Berman

Sure. Hello, Steph and thank you. Yes. So, besides our main large partnerships with Amazon, Walmart, Target, the Club's, Sam's, Tesco, [indiscernible] and France, all these major ones. We've started about four years ago, five years ago, a three-tiered development -- product development cycle, to make sure that we can all class of trade. So, you've the mass, you have the secondary accounts, you have the dollar trade.

And we've seen the penetration really come to fruition over the last 18 months from going into the retailer like Fleet Farm, CVS, Walgreens, Macy's, Burlington, Barnes & Noble, those are just to name a few the Five Below, the dollar trade.

So, our distribution has been really penetrated through all the different categories and based off these trade of currency of which the consumer goes in. So, we go from high end to low end and it's really enhanced our increase in sales and enhanced our distribution platform. So, if you see what we've mentioned earlier in the call, our inventory being high, this is all planned as we ended the year with high inventory to make sure we can achieve the numbers that we did this first quarter.

It's no different than going forward, we're managing the manufacturing by double tooling and bringing goods in through different various ports to make sure that we have the products. And then we have our FOB side of the business that really benefits a lot of the main retailers and then on the dollar trade and some of the other ones, those are domestic backup inventory. So, we're really getting great penetration both in North America and in EMEA.

Steph Wissink

Okay, that's helpful. And then I just want to clarify, in the release, you mentioned that your core business was up mid-single-digits, but your reported revenue was up quite a bit more. So, are you attributing the overage to Encanto and Sonic or is there a way to dimensionalize what the list was above the core business? Maybe you can help us think through how much of that is durable versus what was maybe more one-time related to entertainment?

Stephen Berman

It's a good question. So, we mentioned in our release, that disguise was up over double from where it was last year and it's actually the bookings and where we stand with disguise are very similar to going into Q2, the lack of the cost impact of the seasonal business, the Foot-to-Floor Ride-On, the tables did decrease because of the cost to ship those in are excessive based off the carrying cost of the containers.

But all of the Nintendo, the Black & Decker, the Style Collection, Princess, Princess in general, has all grown mid-single-digits. And then the enhancement grew -- growth was Encanto, Sonic, and Disguise. And John, if you'd like to elaborate on that, because we're different spots, please do so.

John Kimble

Yes, no, I think I think you, sort of, got that right, Stephen. What we're trying to communicate is certainly we had a lot of great success with both Sonic and Encanto in the quarter on the Toy side. But even if you set those aside, we're still mid-single-digits with the balance of the business.

Steph Wissink

Okay, that's very helpful. Last one. Hopefully, this is a quick one. Just understanding a little bit more on the decision to pull inventory in early, is that a risk mitigation strategy just given the volatility in the supply chain? Or are your retailers asking for inventory earlier as well, and maybe talk about the sky separately from the core Toy business, if you would? Thank you.

Stephen Berman

So, we work really strong with the retailers around the world and it's not that they're asking for it, it's they need it based off POS. Our POS has been excessively strong almost across the board, in every division and almost in every category. So, based off of the logistic issues that are happening with bringing goods in the U.S. and in Europe, then on the FOB side, for -- even the retailers to get their containers and then when you hear about the lockdowns and the different ports of congestion in China, it's just mitigating and manage this -- really micromanage it from all of our teams, ensuring that we have the goods appropriately. And really making sure that the mix of the FOB and domestic are managed well internally.

But the other side of things, we are managing inventory very, very strong and tight. We have some really strong successes currently. Even without the formidable Encanto and Sonic, but we are going to make sure that we manage it correctly, we don't have too much inventory. It's always better to keep it low. If you see we had only $4 million of inventory of retail and Encanto during -- at the end of the quarter. And we have double to triple to the right SKU. So, it's really just micromanaging and making sure we have the right product that is available for the retail and we're working really, really meticulously with each retailer on the plans by week, the inventories required, in each of their DCs much more than the last 10 years.

I think we are -- this is as important as us developing hot product. It's developing the right way to be able to ensure that the retailers have the right inventory, not have too much inventory, and that we have the right manufacturing and we're not utilizing capital to build inventory where not needed.

Steph Wissink

Very helpful. Thank you. I'll jump back in queue.

Stephen Berman

Thank you.

John Kimble

Thanks Steph.

Operator

Thank you. Our next question comes from Garrett Johnson of BMO Capital. Your line is open.

Garrett Johnson

Hey, good afternoon.

Stephen Berman

Hi Garrett.

Garrett Johnson

Hi. So, Stephen, I just kind of curious how you're feeling about the consumer, the state of the consumer here on out, lapsing stimulus and inflation's impact on the budget, et cetera? So, how you feeling about the consumer?

Stephen Berman

So, of the four -- hello there. So, for where we stand and we do a tremendous amount of time with our retailers and not just hearing how our industry is doing, it's kind of how the consumer is doing, just the traffic. Retailers don't just get traffic from toy manufacturers, the retailers get it from a various abundance of different categories which are in. so, if the consumer is not healthy, they may not come in to the retailer and have many different purchases or whether the purchases online.

What we see today and speaking to retailers both called in North America and EMEA, it's a strong consumer. There's a lot of concern with inflation, everyone is talking about it. But where we've seen it this this 27 years, I co-founded JAKKS and prior to that was THQ. It's very strong. And if you're in the correct categories, you're doing well.

I would tell you, if you're in a category that is just there, that's where it's difficult. There's several other toy manufacturers that have just general products. But when you have products that are really resonated with children, and we call it kidults, the tweens, we are very excited even without stimulus continuing, this pattern of sell-throughs and where we stand with our forward-looking numbers and our categories.

As I did mention earlier in the call that are Flip the Foot-to-Floor Ride-on, our Table & Chair, all the bulk items are getting hurt, because of the cost of shipping. But we expect that to be offset next year, hopefully in a much stronger platform, and we also are having great success across the board.

So, we see -- we have right now currently in Santa Monica retailers here, major retailers, the clubs are here, the dollar trade and they're buying quite aggressive for the fall and looking into spring. It's our Spring Toy Fair and they're looking to be focused, do many -- do much more with one manufacturer than with many. And we have had one of the best, call it, fall spring -- fall 2022 follow-ups and spring 2023 toy fairs in the history of JAKKS. So far what we're hearing [indiscernible] where there's good product, and when there's not, then there's issues.

Garrett Johnson

Okay, great. Thank you. And I was wondering you've given us breakdown in the past, but your business between basics, roleplay items, everyday kind of stuff, and then what's more hit-driven, and including, but not limited to, entertainment. So, how would you break out your business percent-wise between basics and hit-driven?

Stephen Berman

Good question, Gary. I don't have the front. But I could give you kind of categories. I don't have the percentages, we could do it offline when we have the call. But our basic evergreen business policy, Black & Decker, the Princess Style collection, the Perfectly Cute, easily looks into exclusive at Target.

All that -- this Nintendo, just the general Nintendo business, our skateboard area of business that are called trampolines and ball pit, all are growing very nicely and are strong.

I don't have the breakout in which you, I think are requesting correctly and I don't want to give approximate, but we could do that afterwards. But then you have on top of those nice successes that we're having of our everyday core product line, you have the enhancement of the Encanto, the Sonic Classic, the Sonic Movie, we have the new Air Titans, which is launching -- which is really -- I know, Garrett, you're been in the toy world forever. It's one of the funniest toys I've seen in a long time. And we have that, we have the movie nights [ph], we have a lot of fun things that are really just resonating right now with consumers. And the breakout is -- core is doing great and they have to break up the categories in which whether it's roleplay and Halloween, and so on. And then the excitement is going great with the licensing of Encanto and all the different categories and with Sonic and all the different categories.

Garrett Johnson

Let me ask just one more thing. Do you think you can grow next year on top of all the hit-driven stuff you've had this year?

Stephen Berman

It's a great question. We -- there's a few things when I look at next year. We have some exciting new properties which we have not come out with our discussed. You see that Nintendo yesterday, moved their movie till April, which is very exciting for us because it's a much better time for a manufacturer when it was coming out in December, the kids would not be able to get to resonate with that content, but now that's going to April. Nintendo has grown double-digits almost every year and then having that in April, we have a great new strong movie for Fall next year and other licenses that we haven't come out with.

So, I'm not sure if we're going to be able -- I can't tell you where growth is this year. It's really early on, but I do believe we will have growth and profitability [indiscernible]. It's way too early to see where we stand today. It's in April and we just don't know where the whole year -- but we do have exciting things this year. We have exciting things next year, and some of which we can't discuss, but we have a great platform going into 2024.

Garrett Johnson

Okay. All right, great. Thank you, Stephen.

Stephen Berman

Thank you, Garrett.

Operator

Thank you. Thank you. I'm showing no further questions. At this time, I'd like to turn the call back over to Mr. Stephen Berman for any closing remarks.

Stephen Berman

Great. Thank you, everyone, for taking the call with us today. We're excited. This is definitely the slowest quarter of the year and we had a great quarter and we're looking forward to a terrific year going forward. And we appreciate everyone's time and we look forward to seeing people at the licensing show during Toy Fair and our next call. Thank you very much.

Operator

Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you all for participating. You may now disconnect. Have a great day.

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