We think Mattel (MAT; recent price, 21) maintains an attractive and diversified suite of owned brands (Matchbox, Hot Wheels, Barbie, Fisher-Price) and licensed brands (Dora the Explorer, Diego, Sesame Street, Cars) and will continue to grow international sales and generate strong cash flow. Moreover, we expect it continuing to deliver on these fronts while maintaining a relatively unleveraged balance sheet.
Although we have some near-term concerns regarding domestic Barbie growth and American Girl, we believe Mattel's valuation more than discounts these risks. Specifically, with the stock recently trading at 12.4 times our 2008 EPS estimate, at the bottom end of its historical range, we believe Mattel presents a compelling purchase opportunity, and have assigned a 5 STARS (strong buy) ranking to the stock.
Company Profile
Mattel markets a wide variety of toys on a worldwide basis. Brands are grouped under the Mattel Girls & Boys, Fisher-Price, and American Girl brands. Mattel brands include Barbie, Polly Pocket, Disney Classics, Hot Wheels, Matchbox, Tyco R/C, Nickelodeon, Harry Potter, Batman, Megaman, and others. Fisher-Price brands includes Fisher-Price, Power Wheels, Sesame Street, Little People, Winnie the Pooh, Barney, See 'n Say, Dora the Explorer, and View-Master. American Girl products are sold directly to consumers, with brand names including American Girl Today, the American Girls Collection, Just Like You, and Bitty Baby.
In addition to its strong domestic footprint, Mattel also sells worldwide, with international sales representing 49% of consolidated gross sales in 2007. Internationally, the geographic breakdown was Europe at 56% of 2007 sales, Latin America at 28%, Asia-Pacific at 9%, and other regions at 7%.
In 2002-07, Mattel increased its sales at a compound annual growth rate of 4.1%, outperforming the industry. We expect the company to generate sales growth in the low single-digits over the long term. Combined with potential margin expansion and share repurchases, we think Mattel should be able to generate EPS growth in the high single-digits over the long term. We also expect Mattel to use free cash flow to invest in strategic acquisitions and to return funds to shareholders through dividends and share repurchases.
We expect the company's Barbie brand to continue to show very strong growth outside the U.S. in 2008, which should mostly offset roughly flat domestic sales we see for the brand. New product introductions should benefit the Fisher-Price segment, while sales tied to Batman and Speed Racer ought to drive sales in the entertainment/games unit, by our analysis. Furthermore, we believe Mattel will be able to restore consumer confidence in the safety of its products after recalling a substantial number of toys in 2007, some of which contained lead paint and were produced in China by third-party manufacturers.
We see full-year 2008 net sales rising 3.9%, to $6.2 billion, and an operating income increase of 15%, to $840 million, or $1.69 a share after interest expenses and taxes.
Market Profile
According to the NPD Group, a leading consumer and retail information provider, retail sales in the U.S. toy industry were $22.1 billion in 2007, a decline of only 2.2%, despite toy industry recalls and difficult economic conditions that affected the industry. This compares to a 5.7% rise in Mattel sales in 2007. Excluding Mattel's international sales, we estimate the company had a 13% market share in the U.S. toy industry in 2007, making it the largest U.S. toy manufacturer.
Mattel depends on a relatively small retail customer base to sell the majority of its products. In 2007, Wal-Mart Stores (WMT), Toys"R"Us, and Target (TGT) accounted for a significant portion of Mattel's sales. Collectively, the company's top 10 customers accounted for 41% of 2007 sales. In our view, such buyer concentration may reduce the bargaining power of Mattel with regard to negotiating sale prices for its products, and raises the risk to Mattel if its customers have difficulty meeting financial obligations or selling products. Furthermore, with continued share growth in the mass merchant/discount channel, we think the fourth quarter has become increasingly important, as these retailers tend to expand their toy offerings for the important holiday shopping season. That said, we believe Mattel has strong relationships with its major retail customers, and we don't see any major near-term risk on this front.