Mattel (NASDAQ:MAT) produced a trifecta of news releases at the end of October that included its Q3 2019 earnings report, the announcement that CFO Joe Euteneuer leaving the company, and the completion of its internal investigation into accounting errors. While investors generally liked Mattel’s third-quarter results, Mattel stock is barely above where it traded the day before it announced earnings.
Since MAT stock first crossed $10 in 1991, Mattel has traded at this level on three occasions: February 2000, March 2009, and August 2019.
Considering it has traded higher than $40 in 1998 and 2014, Mattel is currently either one heck of a value play or nothing but a value trap. I think It’s the former.
The Case Against Mattel Stock
InvestorPlace’s Vince Martin recently discussed why Mattel’s stock has run out of gas. Martin believes much of the gains Mattel has made have come from expense reduction rather than improvements in its margins.
As the company runs out of places to save money, were a recession to hit, all its recent growth from Barbie and Hot Wheels would likely hit a wall. At that point, holding a significant amount of debt — $3.1 billion at the end of September and just $218 million in cash. Any reversal in fortune would turn Mattel into an overleveraged cash drain ultimately leading to potential insolvency.
With the completion of Mattel’s internal investigation showing that the company has had less than stellar financial reporting in recent years, it’s no wonder its CFO is leaving.
Are there better $11 stocks available? My colleague would argue there are.
Mattel Stock Is a Value Buy
There are several things that I like about Mattel’s business through the first nine months of 2019.
For one, overall sales are moving up, not down. Through the end of September, Mattel’s sales, excluding currency, grew 4% year over year to $3.03 billion. Leading the charge are 12% and 17% constant currency increases from Barbie and Hot Wheels, respectively.
Together, Barbie and Hot Wheels have accounted for all of its growth in fiscal 2019. It’s great to see that two of its iconic brands are still doing the heavy lifting for the toy company.
Secondly, I do like the fact all four of its geographic operating regions saw constant currency growth through the first nine months of the year: North America (1%), EMEA (12%), Latin America (9%), and Asia Pacific (5%).
While its international revenues ($1.57 billion) haven’t been able to overtake its North American sales ($1.70 billion) just yet, if sales outside of North America continue to grow by 10% or more each quarter, it ought to do so sometime in late 2020 or early 2021.
If you’re a fan of diversification, that’s excellent news.
Lastly, its financial position is heading in the right direction.
In the first nine months of 2019, its adjusted operating income was $46.9 million, considerably better than the $224.6 million loss it had in the same period a year earlier. On an adjusted EBITDA basis, earnings increased by 1,600% to $267.8 million from $15.7 million last year.
As Mattel’s pushed the top line higher while keeping a lid on spending, profits have improved. So, too, has cash flow, moving from -$731.5 million in the first nine months of 2018, to $513.7 million, a 30% improvement from last year.
Sure, it’s nowhere near 2012 levels, when Mattel generated $1.3 billion in cash flow with free cash flow above $1.0 billion, but it’s as good as it’s been since 2016.
Trading at less than 21 times cash flow, well below its five-year average of 59, there’s an argument to be made that Mattel stock is indeed a value buy at these prices.
The Bottom Line on Mattel Stock
As I said in the beginning, Mattel has risen from $10 to $30 or higher on three occasions since 1991. History suggests that Mattel stock will rally a fourth time in 2020.
However, as Martin suggests, many indebted stocks fail to rally despite significant improvements made to their income statements. For this reason, he believes anything less than perfect execution from the company, will do little to move Mattel stock higher.
While I understand his point of view, I see a company with enough brand value to push the ball uphill. For this reason, I believe Mattel is a value play, not a value trap.
I guess we’ll find out who’s right in 2020.
At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.