A few months ago, in an effort to uncover undervalued stocks, I came across JAKKS Pacific, Inc. (NASDAQ: JAKK), a modestly sized toy company competing with much larger companies through strategic licensing deals. The license agreements allow JAKK to benefit on the back of blockbuster films such as Frozen, Encanto and Sonic the Hedgehog 2 for its toys, consumer products and newer costume line. Since my last article, the stock price has increased by 56.6%. The majority of this growth, nearly 44%, occurred after the publication of the second quarter 2022 financial report. 2020 JAKK has improved its earnings and is on course for its first profitable year since 2016. Although the question arises whether there is much more upside for this company, historically the third and fourth quarters have been JAKK’s strongest periods in terms of revenue and generally better margins.
Although cautious in the face of rising transport costs, high inventory levels and an unstable economy. I continue to believe there is upside potential for JAKK based on a seasonally stronger second half of performance, the company’s continued focus on its international market and expected growth in the suits division . For this reason, investors may consider a bullish position on this company.
A small-cap toy company with a market cap of $214.671 million competing with giants Hasbro (HAS) and Mattel (MAT), is rebuilding its business through strategic licensing models, digital transformation and innovation. international expansion. It has evolved from a traditional, North American-centric, outdated toy company to one that has a mindset for innovation and the creative development and renewal of its product lines. The majority of the company’s revenue comes from its largest customers, namely Target and Walmart, but it also has customers from specialty chains such as Smith’s and Barnes & Noble; and grocery customers such as Kroger and dollar stores.
JAKK works in two regions, North America and International. It has expanded its international consumer base by opening global offices to better reach consumers. The company is divided into two main divisions. First, its toys and consumer products, which are subdivided into dolls, role-playing games/costumes; action games and collectibles; and outdoor and seasonal toys. Second, its costumes division, which has grown year over year since acquiring Disguise in 2008. total sales.
Second quarter results and evaluation
Over the past few years, the company has made an impressive turnaround from one losing streak to another where it has consecutively improved its revenue, margins and profitability since 2020. This company’s second quarter earnings are very impressive if we look through its historical performance. Sales increased 83% from the previous quarter. The company’s shipment broke its highest record, which dates back to 1995. JAKK performed well in all but one of its divisions, namely outdoor and seasonal toys.
Sales were impacted by toys developed for Disney Encanto and Sonic the Hedgehog 2 which work incredibly well. The costume business is booming, with the second quarter being the biggest quarter the company has had so far for Disguise. Disney Princess merchandise, Halloween costumes and related accessories have and should continue to have a positive impact on sales growth.
Second quarter operating margin increased 8.2% year-on-year, despite ongoing high cost issues, particularly on ocean freight. Adjusted EBITDA is now $27.1 million from $5.0 million in the second quarter of 2021. The company has worked to increase margins and curb expense growth through creative product placements in retail and off the aisle, such as control lanes, 2×2 displays, various pallet programs. . Additionally, it has opened offices internationally to better meet global consumer demand by selling directly to retailers in a growing number of markets.
Debt is a big deal for JAKKS and in the last quarter it prepaid $10 million on outstanding long-term debt before payment was due. In addition to mitigating the impact of rising interest rates, this also gives us an indication of the positive mindset of the management team. Currently, the cash balance is $62.3 million and the total debt is $84.9 million.
JAKK has a 12-month EPS of 3.12. It has exceeded expectations over the past four quarters, as shown in the earnings chart below.
In the table below I have compared JAKK to some of its main competitors in the toy industry. This small company is clearly still a bargain and undervalued when looking at its larger peers. We can see that it has a very low price/earnings ratio (P/E) of 6.0, which shows that even in the recently increased share price, JAKK is still very cheap for the value it offer. We can emphasize this again with the Price/Cash flow of 4.36 which is well below its competitors.
Although there is uncertainty over JAKK’s performance ahead of the Q2 2022 report release, analysts have recommended the stock as a Strong Buy per Seeking Alpha’s Quantitative Rating, see chart below, and a buy rating by various Wall Street analysts.
Finally, if we look at the company’s financials by quarter, we see strong and consistent upward performance in the second and third quarters, which gives me more confidence that the company will continue to improve over the over the next few quarters.
We cannot minimize the fact that JAKK is a small cap stock with a volatile performance history. This is particularly familiar to long-term investors who have seen the stock price drop 85.99% over the past ten years. The toy industry is highly competitive and has changed tremendously over the years due to technology, consumer preferences, and the ease and unpredictability of new players entering the market. However, for the foreseeable future, and thanks to its licensing deals with this year’s top blockbuster kids movies, at least in the short term, performance seems to be on the right track.
Second, industry-wide, companies are experiencing increased production and distribution costs due to the economic and political environment impacting the supply chain and reducing margins. The company also has a high inventory level for the second quarter. Although this is partly a strategy according to management to mitigate container rates and higher transit times which are expected for the second semester.
Finally, consumer spending is down, which can impact business performance. However, the toy industry has always been relatively resilient and JAKK sells over 50% of its products at an affordable price, for $25 and under.
Future and Final Thoughts
Based on the expected performance of the third and fourth quarters, in which sales increase due to increased consumer spending during the holiday season, I believe there is upside potential for this company. Additionally, JAKK has big events in the works for the next quarter, including the launch of the Disney ILY 4EVER brand in October, and growth through a first-ever Disney concert tour held across the United States. JAKK is also already working on new licensing rights for 2023 and 2024. In addition, the costume sector is expected to succeed thanks to the continued and lasting success of box office films such as Jurassic World, Minions and Sonic 2, which are expected to be popular. . Halloween outfit options.
Focused on innovations, strategic licensing relationships and global expansion, although we have seen a huge jump in share price compared to its rivals, this company is still undervalued and it looks like there is has room to grow further in the near future. For this reason, investors may want to take a bullish stance on this company.