Toy Industry, Not Recession-Proof, Also Hit In Holiday Season

By Matt Andrejczak

The U.S. toy business got its first aftershock of the dismal holiday retail season Thursday when RC2 Corp. (RCRC) warned its sales and profit for the fourth quarter would fall short of expectations.

RC2, which sells Bob the Builder, Thomas & Friends and Sesame Street toys, said sales were $121 million for the quarter ended Dec. 31, 10% below last year's figure, excluding recalled toys and discontinued product lines.

The Chicago-area toy maker said its fourth-quarter profit would be 35 cents to 40 cents a share, compared to its previous target of 45 cents to 60 cents a share. RC2 also plans to cut jobs. RC2 shares dropped 6% in late afternoon trading.

Thought to be the most recession-proof among consumer retailers, toy makers have been known to sidestep harsh economic times as parents buy kids toys in both good times and bad. This time, toy companies had trouble avoiding the broad economic downturn, analysts said.

"It wasn't fun anywhere," said Jonathan Samet, publisher of buying guide Toy Insider. "But, clearly it was not as bad as the [retail] apparel industry."

Even though Wal-Mart Stores Inc. (WMT) and Toys R Us Inc. promoted low-priced toys below $20 and cut prices on more expensive items, "it was the worst fourth quarter ever" for U.S. toy sales, said industry consultant Lutz Muller, who runs Klosters Trading Corp.

When final fourth-quarter numbers are delivered, U.S. toy sales will show a decline of 6%, Muller projects. Toy analyst Sean McGowan at Needham Co. is estimating toy sales fell 5% or possibly more, outpacing 2005 when sales fell 4% in the fourth quarter.

Jakks Pacific Inc. (JAKK), maker of Hannah Montana dolls and WWE wrestling figures, said sell-through was good and industry unit sales were likely in line to slightly above 2007 levels, according to broker Sterne Agee, which held a conference call with management Wednesday.

Weak year-end sales could curb shipments for spring toy merchandise as retailers get rid of excess toys. This is in spite of cautious attempts by retailers to avoid overstocking their shelves.

"They have an inventory overhang," Muller said.

Jakks Pacific admitted that retailers will be conservative toy buyers in the first quarter, Sterne Agee analyst Arvind Bhatia wrote.

The holiday sales season got off to a slow start and never really recovered. Consumers, hit by stock-market losses, rising unemployment and home foreclosures, weren't anxious to spend.

Amazon.com Inc. (AMZN) said top-selling toys on its Website were Jakks Pacific's Eyeclops night-vision stealth goggles, Blokus classic board game and Wild Planet's Hyper Dash. The online retailer called the 2008 holiday season "its best ever."

Toys R Us said popular toys included Mattel Inc.'s (MAT) Barbie, Elmo Live and Imaginext Spike the Ultra Dinosaur, while Hasbro Inc.'s (HAS) Star Wars products all sold well. Other in-demand items were Jakks' Eyeclops goggles, Spin Master's Bakugan products, and Lego toys.

Toys R Us said sales picked up in December but not enough to offset a weak November. For the nine-week holiday sales period that ended Jan. 3, Toys R Us said U.S. comparable-store sales fell 3.4% from the year-earlier period.

Due to inventory at retailers and weak fourth-quarter industry sales, analyst McGowan last week pared his 2008 and 2009 profit and sales targets for Mattel and Hasbro, the world's largest toy manufacturers.

He also cut his projections due to the rebound in the U.S. dollar against global currencies. Mattel gets more than 50% of its sales from outside the U.S., while Hasbro books more than 40%.

Toy stocks rallied in late November through year-end 2008 as investors bet toy makers could again buck a recession. In the last six weeks of 2008, Mattel shares shot up 35%, helped in part by a favorable court ruling in the Bratz doll case. Hasbro and Jakks both surged 20%.

By comparison, the S&P 500 Index rose 10%. But toy stocks have lost momentum since the start of the year, declining with the broader stock market.

In a recent research note, analyst Gerrick Johnson at BMO Capital Markets suggested investors may wish to "lighten up on their toy stock holdings" before the companies report earnings in February. He surmises toy makers won't match most investor expectations.

Mattel is the first to report on Feb. 2, followed by Hasbro on Feb. 9 and RC2 on Feb. 18. Jakks Pacific hasn't set a date yet for its earnings release, but is also expected to report next month.

Analysts anticipate Mattel will show its Barbie and Fisher-Price franchises did better than a year ago when the company was reeling from a massive product recall. Hasbro is expected to post solid sales gains for its board games, Nerf and Star Wars toys.

-By Matt Andrejczak; 415-439-6400; [e-mail]

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