Mattel's New Strength

Like many kids, I grew up playing with Hot Wheels by Mattel (NYSE: MAT). I was so fond of them that my family purchased a couple of cases to hold them all. It's these small, repeat purchases that initially piqued my interest in Mattel as an investment.

After reading the company's most recent 10-K, I was pleased to see its balance sheet is much stronger now than it was just a few years ago. The 2003 10-K confirmed what Fool contributor Dave Marino-Nachison suspected in February: The turnaround is complete, and there is a "new Mattel" that now sports almost twice as much cash as debt. Rewind to the 2000 10-K filing and you'll find Mattel had five times more debt than cash.

It is interesting to see that investors bid the shares up throughout the turnaround, and now that it's complete, Mattel shares have drifted back within a dollar of their 52-week low.

With the turnaround intact, investors may be hopping out of Mattel, thinking that all the gains have been attained. But I look at Mattel and see more good news to come. Its stable of products such as Hot Wheels and Barbie generate free cash flow year after year, and a strong balance sheet puts it in a better competitive position against Hasbro (NYSE: HAS) and LeapFrog (NYSE: LF) compared to a few years ago.

To continue the free cash flow growth, management has identified repositioning and growing sales of existing products, but also mentioned that further cost reductions will be taken this year. At the same time, Mattel is rewarding shareholders by changing gears: Instead of using its cash flow towards interest expense to repurchase shares, it will instead boost its dividend back to where it was before the toy company's messy debt situation.

With shares selling at a trailing P/E of 15 and a forward P/E of 12, the market is factoring in little growth for Mattel. When modest revenue and income growth combine with share repurchases, the effect on per-share earnings is a positive one.

Given all these positive developments for Mattel, Fools might just find that today's prices offer market-beating returns for the future.

David Gardner recommended Mattel competitor Hasbro in Motley Fool Stock Advisor . To see what else has made David's list, you can check it out for six months, with a money-back guarantee.

Fool Contributor Nathan Parmelee does not own shares in any companies mentioned in this article.