Will Christmas be canceled?
Posted
Oct 24 2008, 02:31 PM
by
Anthony Mirhaydari
Rating:
Given weakness in consumer strength and sentiment, investors fear this holiday season could go down as one of the worst on record as spending plummets. Not only will children go without, Mattel and Hasbro, the two largest toymakers, could see profitability hammered further.
After last year's lead paint scare and associated sales drop, the two companies are already fighting rising production costs. Both reported lukewarm third-quarter results this week, which along with broad market selling pressure, have dragged shares down.
With that said, investor sentiment looks too low as toymaker stocks have historically been recession-resistant. UBS analyst Robert Carroll notes that during the recession of the early 80's and 90's, toy sales still demonstrated year-over-year sales growth. The industry also grew when consumer confidence fell sharply between 2000 and 2003.
More than 50% of Hasbro's toys cost less than $20; over 75% of Mattel's toys sell for less than $25. The Financial Times notes that shares tend to "perform best in the first half of the year, when the fourth quarter turns out not to have been so bad as feared, and the following year's line-up starts to prompt excitement."
Normally, traditional toymakers would benefit from this environment, as sales of more expensive, high-tech gifts plummet in favor of cheaper, more traditional toys. But investors are instead focused on the social trends that have executives at Mattel and Hasbro integrating more computerization and mechanization into their toys. As a result, after 15 years of declining toy prices, 2006 and 2007 saw increases in average product prices: Hasbro is selling a $300 FurReal Friends pony while Mattel's latest Elmo doll costs $60.
These product development decisions are being forced by birth rates that have stabilized at low levels and a digital revolution continues to change the way our children view playtime. While the US Census Bureau predicts that the under-12 population will grow at an annual rate of just under 1% for the foreseeable future, children are maturing at increasingly younger ages. Called "age compression" in the industry, it limits the years a child is interested in playing with traditional toys.
In order to stay relevant to preteens more interested in video games, movies, the internet, and extracurricular activities, the toymakers are undergoing a forced evolution of sorts. Unfortunately, the move up-market had terrible timing, and shareholders aren't exactly in a forgiving mood.
Of the two, Hasbro appears to be better positioned due to its cross-pollination efforts in the media space -- examples include Transformers, Spiderman, and Ironman. The eagerly anticipated G.I. Joe movie is due next summer, which will surely reignite interest in that tired franchise.
Shares are currently trading at a forward P/E of 11 based on Carroll's 2009 earnings per share estimate of $2.30. Hasbro's P/E valuation bottomed around 7 heading into the 2000 holiday season, but by the following summer shares were trading at an earnings multiple north of 30.
Disclosure: I don’t own or control shares in any of the companies mentioned. I can be contacted at anthony.mirhaydari@live.com
Related reading:
Desperate times: Shoppers cut back on baby formula
The failure of the American consumer
Spending on gadgets slows down
Some good news: Food prices on the decline
