Mattel Incorporated
By Timothy Sweeney
University of Connecticut Student Managed Fund
February 16, 2004
UConn Foundation Student Managed Fund
Trade Form
Presentation Date: 2/16/04
Covering Managers: Timothy Sweeney
Anticipated date for trade: 12/3/02
Stock Name: Mattel Incorporated
Ticker: MAT
Decision: Buy
Number of Shares: 1,056
Approximate cash value: $18.90
Limits:
Stop Loss: $15.85
Appreciation Review price target: $23.50
Vote Results
For: 10 Against: 2
Trade Executed by: Professor Ghosh
Executive Summary
The student managed fund has opted to buy Mattel Inc. in light of several factors that
make it a favorable long term investment. The company is profitable through both domestic and
international sales of children’s apparel and entertainment. They sell to retailers such as WalMart and Toys R’ Us as well as numerous sights over the internet. They are divided by gender
domestically between an infant and pre-teen category. One of Mattel’s recent strengths has been
the sales of its Swan Lake Barbie dolls, which is seen as a 2:1 favorite over competitors. Mattel
is a leader in children’s apparel and has expanded throughout the children’s toy and clothing
business. They currently employ 25,000 employees worldwide and have $8.04 billion in market
capitalization. Directors are independent of each other and half of their compensation is in the
form of stock options.
A key determining factor in choosing Mattel has been its three year financial realignment
plan beginning in March of 2001. Under this plan Mattel has merged two manufacturing
facilities in Mexico, merged its boys and girl’s entertainment divisions, restructured its French
doll division Corolle, and updated back office functions for better communication. This new
financial alignment plan has saved $200 million in pre tax charges, which we hope will reflect on
this coming year’s earnings. Mattel has lingered in a small trading range between approximately
$18.50 and $23.50 over the past year. This lack of growth can be attributed to the burdens that
come along with this three year financial realignment plan, which has been in place since March
of 2001. As the plan comes to an end we are already seeing Mattel exhibit sales and earnings
growth. Looking further down the road we see Mattel’s business divisions producing profits
internationally as they strive to have 50% of sales on an international scale in the coming five
years.
With the Dow up approximately 30% for the year we are seeing investment movement
towards consumer cyclicals. With this being one of the few stocks that has not been part of the
index run-up over the past year we see ample room for price appreciation over a ten year period.
Historically, Mattel has been a strong performer due to its large market cap and numerous brand
names under Mattel Incorporated. Due to poor retail sales this holiday season and the financial
realignment plan Mattel did not appreciate in price over the past few years. As investors, we see
room for future appreciation as Mattel is now “financially aligned,” growing overseas, and
introducing new products domestically to combat competitors.
Mattel’s Business and Competitors
Mattel’s Business
Brand names produced by Mattel can be broken down between younger girls, younger
boys, and preschool. Key names for girls include: Barbie Dolls, Polly Pocket, Diva Star’s and
What’s her Faces. For boys, Mattel includes the Boys-Entertainment segment, which has names
like: Hot Wheels, Matchbox and Tyco Radio Control vehicles, Nickelodeon, Harry Potter, Yu-GiOh!, He-Man and Masters of the Universe, as well as games and puzzles. The US infant and
preschool market segment of Mattel includes Fisher-Price, Power Wheels, Sesame Street, Disney
preschool and plush, Winnie the Pooh, Blue's Clues, Rescue Heroes, Barney, See 'N Say, Magna
Doodle, Dora the Explorer, and View-Master.
A key change was implemented in March of 2001 for Mattel. They introduced a
financial realignment plan that seeks to refine the business as illustrated below:






Terminate a variety of licensing and other contractual arrangements that do not deliver an
adequate level of profitability;
Eliminate product lines that do not meet required levels of profitability;
Improve supply chain performance and economics;
Implement an information technology strategy aimed at achieving operating efficiencies;
Eliminate positions at US-based headquarters locations in El Segundo, Fisher-Price and
American Girl through a combination of layoffs, elimination of open requisitions,
attrition and retirements; and
Close and consolidate certain international offices
A key point to remember for Mattel is while they carried out this plan they endured financial tax
burdens due to employee lay-offs and the sales of their business units. In the short run Mattel’s
share price suffered, however looking ten years down the road, we see Mattel as more refined and
ready to do business on a global scale in an efficient and cost effective manner.
International Exposure
In 2002 Mattel had 36% of its sales overseas. Recently, Mattel had a slow third quarter, however
mustered earnings that met analysts by having strong overseas sales. Mattel has a wide range of
products produced in 36 different countries and sold in more than 150 nations overall. Mattel
produces products in Indonesia, Mexico, China, Thailand, US Canada, and EU. Tariffs have been
a growing concern for Mattel as they expand business overseas. Mattel freely does business
between the US, Mexico, and Canada. Recently, the European Union agreed to lessen tariffs on
Mattel’s goods. In other countries they are continually negotiating and succeeding. The chart
below depicts Mattel’s business overseas.
MATTEL
Gross Sales by Geographic Area
Domestic
% Change
International
% Change
% of Total Gross Sales
1998
3,294.4
1,681.0
34%
1999
2000
2001
2002
3,319.9
1%
1,556.2
-7%
32%
3,447.4
4%
1,517.7
-2%
31%
3,392.3
-2%
1,680.3
11%
33%
3,422.4
1%
1,890.9
13%
36%
Europe
Latin America
Canada
Asia Pacific
Total Overseas Sales
60.00%
24.00%
9.00%
7.00%
100.00%
On an international scale, Mattel is forced to align its business with the falling of the U.S.
Dollar. This is a risk that Mattel has taken into account, especially as they continue to do large
amounts of business overseas. To hedge against this risk they use derivative contracts that
include currency forward contracts, swaps, and options, all on an 18 month horizon. In a recent
filing it stated these reports actually provided Mattel with 4% gains in net revenue due to these
hedged contracts. Clearly, Mattel is trying to be risk averse to currency changes by entering
derivative contracts; however, their financial team provided them with an excess return on
revenues over the last year.
To be able to generate revenues on an international scale is a key strength of Mattel. As
stated in the annual report, Mattel would like to have 50% of its sales be overseas in the coming
years. As they seek to penetrate international markets we believe they will face less competition
and have greater success than their recent struggle in domestic markets.
Competitors and Industry Analysis
Mattel competes with several major corporations that fall into the investment category of
recreation. According to Valueline.com, two key names in the toy industry include Hasbro, Inc.
and Leap Frog Enterprises. Leap Frog has grown with little to no debt on a domestic and
international scale. Many analysts see it as hard to value and relatively overpriced. There sales
have grown in large percentages since inception in 2001. They continue to introduce new
products and are seen as a domestic and international threat. Their main disadvantage is they
only boast $1.75 billion in market cap, and have a high share price that could deteriorate if they
were to miss earnings, as they nearly did this past quarter.
MAT Sales
% Change
HAS Sales Growth
% Change
LF Sales Growth
% Change
2000
$4,565,489.00
-0.65%
$4,232,263.00
28%
$160,128.00
122.81%
2001
$4,687,924.00
2.68%
$3,787,215.00
-10%
$314,243.00
96.24%
2002
$4,885,340.00
4.21%
$2,856,339.00
-24.57%
$531,772.00
69.22%
2003
$4,960,100.00
1.53%
$2,816,230.00
-1.40%
$680,012.00
27.88%
Mattel and Leap Frog Enterprises Inc. have been battling in the pre-school toy market.
Although Leap Frog has been battling to beat earnings, they have taken 28% of the pre-school toy
market in 2003. In a recent list of top ten toys made by Toys R’ US, 5 out of 10 of the toys sold
were by Leap Frog. With Mattel present in the preschool toy market and losing market share,
Fisher Price recently launched a new campaign to steal share in the education market with a
product that mimics the Leapster platform. It is aimed at 4th and 5th grade students as an
educational gaming platform to take the place of other hand held video games.
Recently, Leap Frog Enterprises Inc. has been tightening margins on their new Leap Frog
platform as Mattel is trying to penetrate the pre-school education industry. This past year Mattel
did not bolster its best sales domestically, however its competitor Leap Frog was faced with
similar problems. With new products on the rise, an international presence, and a diversified
product line across ages and genders, Mattel is expected to be atop the industry on the ten year
horizon.
Gross Margin
P/E
Market Cap
ROE
ROA
Profit Margin
Trend
MAT
HAS
LF
MAT
48.98%
15.34
$8.04
25.25%
12.42%
2001
7.40%
2.10%
3.10%
HAS
59.61%
22.76
$3.61
13%
5.27%
LF
52%
30.98
$1.75
20.10%
15.02%
Industry
40.98%
19.88
$375.52
23.07%
12.94%
2002
10%
3.80%
8.20%
2003
11.40%
6.60%
10.60%
2004P
12.40%
7.20%
11.10%
Mattel excels in its profit margin, return on equity, and return on assets, all of which are
key components to a strong company. This means that it is effectively utilizing the plant and
equipment to generate profits. A key observation is the lower P/E ratio for Mattel in relation to
the rest of the industry. This could mean the market has lower expectations for the company or it
has more room to grow in share price. We believe with the small share price movement and
realignment plan Mattel’s P/E will rise equal to the rest of the industry. With Mattel being stuck
in a 52 week range of 18.44 and 23.20, we are looking for increased sales in the U.S. coupled
with already strong sales in foreign countries to raise earnings. With our recent purchase at
$18.90 we are looking for growth in the stock price in the coming earnings report in late March.
With Leap Frog’s smaller market cap of only $1.75 billion, and strong foothold in foreign
markets, they are left vulnerable to domestic competition, Mattel’s current weakness. If Mattel
can produce better sales in domestic markets they may be able to edge out their competitor.
Because of poor growth in Domestic markets by Mattel, Leap Frog was able to continually grow
sales even with a market cap only 1/8th the size of Mattel’s. Their high P/E ratio is seen as
dangerous in terms of meeting these expectations, and maintaining this high share price of
$27.71.
EPS % Growth
Trend
MAT
HAS
LF
1998
1999
2000
2001
-27%
-64%
60%
17%
-4.42% 31.50% 20.42%
-69%
NA
NA
NA
NA
2002
35.80%
77.14%
244%
2003
15%
85.48%
39.53%
2004P
14.17%
13.04%
29.17%
The chart above is a look at the earnings per share growth across these corporations. As
you can see Mattel has recently had less growth, although positive, amongst its competitors. This
could be due to the large amount of money they are reinvesting in the business which is
evidenced by their high returns on assets and equity. Although lagging in percentage gains on
earnings per share, we looked down a ten year horizon on how much growth would be sustainable
in the industry. With the size and the diversified selection of brand names under the Mattel name,
we look forward to them continually producing adequate returns. The financial realignment plan
involved lay-offs, sales, taxes, and restructuring charges that all had an influence on these
earnings. Now that Mattel has overcome most of these burdens we hope it will reflect on the
future share price.
Free Cash Flow for Mattel (millions)
2002
$204.501
2001
$339.919
2000
$154.531
1999
$353.927
Above is a look at the free cash flow for Mattel for the past four years. Mattel has
exhibited a positive free cash flow over the past four years. Even though sales for year ended
2002 were slow domestically, and behind competitors, Mattel still managed a positive cash flow.
We are looking for a strong increase in free cash flow, as seen by the cash in 1999 and 2001. We
hope earnings within the company and the continued efficient use of assets will boost cash flows.
Financial Condition Ratios
Quick Ratio
Current Ratio
LT Debt / Equity
Interest Coverage
MAT
1.63
0.27
0.3
9.74
Industry
2.55
0.26
0.33
8.4
Sector
2.16
2.83
2.93
7.92
S&P 500
1.8
0.72
0.9
13.43
According to this ratio analysis it appears Mattel has a lower quick ratio than the rest of
the industry. This could be attributed to its lower accounts receivable balance in the fiscal year.
As stated, Mattel had a slow year for domestic sales. Another contributing factor could be the
restructuring plan Mattel is carrying out. Although it will save Mattel money in the long run,
they additionally incur tax burdens that could increase current liabilities. The current ratio is
actually above the industry, which is positive for Mattel. The underlying factors behind this ratio
may not be positive as the company had an increase in inventories from poor sales, which is not
reflected in this ratio. Mattel has a low debt ratio, which is a positive note for the company. The
three year financial plan has aided in reducing Mattel’s longer term debt. Aside from this Mattel
does not appear leveraged like other company’s in the sector.
When comparing Mattel to other companies in the sector we knew that Mattel would be
lagging in certain areas. In choosing this security, the fund looked farther down the road to arrive
at a key buying opportunity within the sector. Mattel’s restructuring and the slow sales it has
faced due to the economy over the past few years has taken a toll on the share price. With its
competitors having a run-up in share price, and Mattel being relatively flat, we believe the
company is restructured and ready to grow. As managers, we see the company as one of a few
fair values in this sector, and are adamant that Mattel will produce our required returns over a ten
year horizon.
Pricing Models
1. Capital Asset Pricing Model
K = 3.01 + 5.5 * (.70) = 6.92% required rate of return
5 Year Bond = 3.01% on 2/16/2004
According to the CAPM model we are not getting the required return we would like. This model
is highly skewed as beta has been negatively calculated by some sources, while being calculated
as .7 from the Wall Street Journal. This could be attributed to its lack of volatility and tight
trading range in the market this past year.
2. Value Pro
Value Pro gave a value of $35.62 which is well over our current price of $18.90
According to Value Pro we are getting a bargain for this stock. This system does not take into
account the current market environment of Mattel. We feel Mattel is reasonably priced and has
high growth potential, but not such that is under priced by $16.72.
3. P/E Model
Projected Stock Price 5 yrs. = 30.00
Projected EPS 5 yrs. = 1.95
Projected P/E = 17
Stock Price = $33.21 in 5yrs.
4. Value line Model
DOV: Long Term Debt + Shareholder Equity:
Cash Flow Growth Estimate:
Common Shares Outstanding:
Average Annual P/E Ratio:
Return on Total Capital:
The Future Price: 14800* 1.09^10 / 2475 * .3 * 29 =
(Discount the future price at 15% for n=10) =
14.97.
3475 (million)
9%
428 (million).
18
.175%
60.54
According to the Value Line model we are overpaying for this stock. However, we expect there
to be higher sales growth domestically, while maintaining the positive growth internationally.
We also felt that this P/E ratio and sales growth rates were low for the company.
Risk Analysis
Insider Transactions
Position
CFO
Officer
Director
Director
Director
Director
Date
2-Feb-04
5-Aug-03
Name
Shares Held
Kevin Farr
Mathew Bousquet
Ronald Loeb
Eugene Beard
Rich Andrea
Christopher Sinclair
Insider
DOLAN,
MICHAEL J.
Director
BOUSQUETTE,
MATTHEW
5,000
42,005
83,545
40,000
5,000
3,700
27-Feb-03
27-Feb-03
27-Feb-03
10-Feb-03
2/27/2003
8/5/2003
11/21/2002
2/10/2003
5/2/2001
8/21/2001
Shares
Transaction
Value*
N/A
Statement of
Ownership
N/A
972
Acquisition
(Non Open
Market) at
$18.80 per
share.
Planned
Sale
$18,273
President
21-Mar-03
Date
FONTANELLA,
ADRIENNE
Former President
FARR, KEVIN M.
Chief Financial
Officer
150,000
FARR, KEVIN
Senior Vice
President
FARR, KEVIN
Chief Financial
Officer
BEARD, EUGENE
P.
Director
Director
Treasurer
406
406
406
2,500
Option
Exercise at
$14.016 per
share.
Sale at
$21.25 per
share.
Planned
Sale
Purchase at
$21.05 per
share.
$34,125,001
$5,690
$8,627
$86,271
$52,625
In looking at the insider transactions there is not much to be said. According to the Wall
Street Journal over the last six months there has only been one insider transaction at $18.80 a
share. This purchase was completed by the company president in August of 2003. What I can
draw from this information is that executives who are not only compensated by stock, but also
hold shares in the corporation, are waiting for a move on the stock. Without action we are led to
believe that Mattel is undervalued and company executives therefore have not sold shares.
Unlike other companies in the industry who have seen a lot of insider selling in the past month,
Mattel’s executives seem content to stay in for the long haul.
Chart vs. S&P 500
In the above chart you can see the recent performance of Mattel vs. the S&P 500 index.
After the bubble burst in 2000 Mattel has rallied to almost even with the index. On a more recent
note, Mattel has been diverging from the index after this slow year in domestic sales. As the S&P
500 grew we saw Mattel restructuring itself. This weighed down on sales and cost it in relative
performance. With Mattel now thinned out and better positioned, we expect them to have
positive earnings in March and continually produce desired annual results. As history has told,
we expect Mattel to rise back up with the S&P index as we see it as a fair valued stock that has
potential for growth in the coming years.
Recent News:





Barbie and Ken Split after 43 Year Romance (February 12th)
Toy Makers Battle Wal-Mart on Pricing Issues (February 12th)
Holy Bat-Ray; New Batman Action Figure Receives Signal from TV (February 11th)
To Dress Up Fading Appeal Mattel Plays Big Barbie Makeover (February 5th)
Mattel Posts 15% Net Gain but Warns of Sluggish Sales (February 4th)
One of the main problems that has plagued Mattel and other companies within the industry is
the continued battle against retailers like Wal-Mart who are discounting their products. This past
holiday season yielded poor sales due to weather and the economy. As Wal-Mart tries to rid itself
of excess inventory it drives prices down for Mattel products, which affects their bottom line. To
limit exposure to this, Mattel has gained sales overseas, and plans to continue doing so. Mattel
was able to meet earnings expectations and post a net gain of 15% despite sluggish sales. With
new innovations such as the new Batman action figure, and more overseas exposure we see
Mattel rising out of this slump and appreciating with the rest of the industry.
Analyst Ratings
Value Line Investment Survey
Timeliness
Technical
Safety
3
3
4
Lowered
Raised
Lowered
6/27/2003
11/22/1991
11/14/2003
Wall Street Journal Consensus
MAT
Industry
Current Month
2.1
2.48
Last Month
2.3
Two Months Ago
2.30
Three Months Ago
2.3
Strong Buy = 1
Buy = 2
Hold = 3
Underperform =
4
Sell = 5
According to Value Line Mattel is an average stock that will not yield much more than
the market in the coming months. In terms of safety Mattel has been lowered to a four, meaning
it is not very safe. We believe these numbers are not only slightly out of date, but are not a
reflection of the current market environment.
The consensus estimates provided us with different result than the sub-par rating Value
Line gave Mattel. Mattel is seen as a stronger buy than the rest of the industry and has gained a
more favorable buy rating in the current month. The small movement in these ratings over the
past three months can be justified by Mattel’s small price movements. The current strong buy
rating can be attributed to the completion of Mattel’s financial realignment plan. This buy rating
mirrors that of the fund. We see ample room for price appreciation over the coming years, and
hope to see Mattel bolster strong figures in its more refined state.