Value Investor Daily #25

Micro Cap Stock Deep Dive: JAKKS Pacific

After experiencing a notable 44% decline in its stock price year-to-date due to disappointing earnings reports, JAKKS Pacific (NASDAQ: JAKK), a micro-cap stock with a market cap of $213 million, has piqued our interest.

This article will assess whether the recent downturn offers a buying opportunity. Is the stock undervalued?

Company Profile

JAKKS Pacific is a global manufacturer and distributor of toys, operating under its own brand and licenses from entities such as Disney and Nickelodeon.

The company functions through two main segments: Toys/Consumer Products and Costumes. It produces a wide array of items, including action figures, toy vehicles, dolls, and infant products.

Sales channels include both in-house and independent representatives targeting various retail markets.

Recent Earnings Recap

On April 25, JAKKS Pacific shares plummeted around 16% the day following the release of its Q1 earnings, which revealed an EPS of ($1.09), falling short of the Street estimate of ($0.54).

The quarterly revenue was $90.1 million, a 16% year-over-year decline, missing the Street estimate of $100 million. This shortfall was attributed to fewer new film releases compared to the previous year.

Higher inventory obsolescence and retailer markdowns further impacted the company's first-quarter performance, leading to a 580 basis point year-over-year drop in gross profit margin to 23.4%.

Strategic Focus and Outlook

Despite the challenging first quarter, JAKKS Pacific is concentrating on long-term growth and product diversification. The management team is confident in the brand's future, with several high-profile product launches anticipated.

During the Q1 Earnings Conference Call, management provided insights into their financial performance and strategic initiatives, which include expansion efforts in European and Mexican markets and upcoming entertainment releases and product launches planned for 2025 and 2026.

Although the company faced lower sales volumes and margin pressures, it remains optimistic about its future prospects, supported by a stronger balance sheet following the redemption of preferred shares.

Recently, JAKKS Pacific redeemed all its Series A Senior Preferred Stock for a total of $20 million in cash and 571,295 common shares valued at $15 million, thereby fortifying its financial position.

Upcoming releases such as "Moana 2," "Sonic 3," and new products from "The Simpsons" are expected to improve margins. Additionally, the company is planning new product releases and private label initiatives targeting diverse markets.

In effect, this is a cyclical business tied to the production and marketing budgets of the major film studios.

While overall ticket sales have continued into a secular decline, children’s fiction has slowly gained market share over the last 30 years, proving a resilient corner of the film market. Families still go out to the movies.

Financial Strength and Valuation

Currently, JAKKS Pacific has more cash than debt on its balance sheet. The company offers a high shareholder yield of 11.7%, well above the peer average of 5.1%.

The stock is trading at a low earnings multiple, with a P/E Ratio of 7.1x, compared to the peer average of 36.5x.

Using eight valuation methods, including EV/EBITDA Multiples, P/E Multiples, Price/Sales Multiples, and a 5-Year DCF Revenue Exit, we calculated the fair value of JAKKS Pacific to be $25.9. This suggests a potential 31% upside from the current stock price.

Analyst Perspective

Currently, only one analyst covers JAKKS Pacific, assigning a Buy rating with a price target of $38, which indicates a 92.5% upside from the current price. 

Conclusion

Let’s wrap this up by looking at management’s performance:

Given the company's stable financial position, strategic growth plans, upcoming product launches, and fair value estimates, we believe JAKKS Pacific is undervalued.

The current stock weakness presents a strategic buying opportunity, especially under its per-share book value of $17.38.

However, given the declining nature of its core business, we wouldn’t expect this to be a long-term compound growth story. Seek to exit at fair value.

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