Consumer Products Derailed Hasbro’s Holiday Season, Business Currently in Transition CRI

Business Strategy & Outlook:

Hasbro continues to hold a leadership position in the nearly $40 billion domestic toy industry (NPD), developing, manufacturing, and marketing well-known global brands that include Transformers, My Little Pony, and Nerf. The firm operates a relatively differentiated business model, thanks to its digital properties exposure, content creation ability, and key licensing arrangements, factors that have been enhanced with the 2019 tie-up of Entertainment One (EOne). Additionally, production capabilities support Hasbro’s multimedia presence, as does Discovery Family, a joint venture with Discovery that brings Hasbro’s brands to television, bolstering the firm’s brand blueprint strategy. Furthermore, Hasbro has historically dominated the big-screen arena, building brand loyalty and generating new streams of revenue from its licensing businesses (like Star Wars and Marvel). It is believed Hasbro and the toy industry have a decent runway for growth ahead through international growth (Asia-Pacific and emerging markets still provide longer-term growth potential through share gains) and acquisitions of small, strategic players that fit into Hasbro’s portfolio (most recently D&D Beyond). Hasbro’s moat is rated as narrow, as a market leader with a differentiated niche in the entertainment space. It also has robust exposure to games through the Wizards of the Coast line, where peers have failed to erode share given the loyal history of players in the category. However, strong returns on invested capital that Hasbro can generate will continue to attract competition, which will force it to continuously innovate to maintain its leadership position, resulting in elevated development costs. However, it is not believed that investments to protect the brands will hurt cash flow potential, as cash flow rises from catalysts like strong film launches, new licences, and expense leverage (with a $250 million-$300 million cost savings initiative underway through 2025). This will allow investors to be rewarded through rising dividends (4% yield) and a share-buyback program, along with a return to 2-2.5 times forecast debt/EBITDA by the end of 2023.

Risk and Uncertainty:

A number of risks may affect Hasbro’s enterprise value. First, customer concentration raises the risk that changes to ordering patterns could affect profits. Its top three channels for distribution (Walmart, Target, and Amazon) accounted for nearly 32% of sales in 2021. Cooperation among retailers could affect the amount of promotional spending demanded and hamper Hasbro’s margin. Additionally, the ecommerce avenue (comprising more than $1 billion in sales) remains a key channel for the distribution model. While Hasbro has risen to become a top toy seller on Amazon, a concern that remains is that as Amazon represents a larger part of the total mix of sales, it could change the profitability profile of Hasbro over time, depending on concessions the toy maker may have to offer. Over the near term, Hasbro still faces risks around COVID-19 (supply chain and production delays if closures ensue). New toy marketers can incorporate and attempt to take share from Hasbro. Although trademarks exist on Hasbro’s brands, there aren’t structural barriers to prevent a competitor from developing a new toy or capturing a licensing relationship with a partner. It is believed Hasbro is in a slightly protected position, as its sheer size allows it to allocate significant capital to marketing, a luxury likely not available to a new market entrant. This leads some licensing partners to pair up with leading players in the industry that have already proven partnership success through the performance of its existing licensing contracts. Also, while Hasbro faces some environmental, social, and governance risks, it is not expected any particular issue to be material, and as such, exposure to these concerns doesn’t influence the fair value estimate. The most likely risk stems from weak product governance, which could lead to quality and safety issues, something that is not seen as imminent in the prognosis.

Bulls Say:

Opportunities exist from entertainment, bolstered by the Discovery Family network, EOne, and film tie ins, supporting demand growth.
Stock ownership is compelling for income investors. The firm has a 4% yield and has paid out around $1.7 billion in dividends in the past five years. The dividend payout ratio should remain around 40% over the long term as free cash flow rises
The firm enjoys a stable expense base and should be able to leverage operating margins to around 19% as higher margin games become a larger percentage of the total mix.

Company Description:

Hasbro is a branded play company providing children and families around the world with entertainment offerings based on a world-class brand portfolio. From toys and games to television programming, motion pictures, and a licensing program, Hasbro reaches customers by leveraging its well-known brands such as Transformers, Nerf, and Magic: The Gathering. Ownership stakes in Discovery Family, which offers programming around Hasbro brands, and owned production capabilities from Entertainment One help bolster Hasbro’s multichannel presence. The firm acquired Entertainment One in 2019, bolting on popular properties like Peppa Pig and PJ Masks, and has plans to tie up with Dungeons & Dragons Beyond in 2022, offering the firm access 10 million digital tabletop players

(Source: Morningstar)

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