Share prices of Mattel (MAT -0.60%) are up 8.92% since announcing a new licensing agreement with Walt Disney (DIS -0.04%) on Jan. 26. This top toy stock has looked like a genuine bargain over the last few years, and a new licensing agreement to sell Disney Princess and Frozen toys might be the validation investors need to buy into this promising comeback story for the Barbie maker.
Here's what this deal means for investors and why it could fuel Mattel's share price higher over the next few years.
Image source: Getty Images.
Filling a big revenue void
Under the multi-year agreement, Mattel will have the global licensing rights for Disney Princess and Frozen franchises, among several other properties, including Aladdin, Beauty and the Beast, and Cinderella. New toys under the agreement are expected to launch at retailers in 2023.
Mattel lost the Disney Princess license in 2015 to Hasbro (HAS -0.77%), which caused the two companies' revenue performance to look like a mirror image of each other. In 2015, Disney Princess sales totaled $455 million and made up 8% of Mattel's total sales. That void started a long slide for Mattel, leading to CEO Ynon Kreiz stepping in during 2018 to turn the ship around.
MAT Revenue (TTM) data by YCharts
There are clearly risks with toy stocks. The barriers to entry in the toy industry is very low. This can raise the competition for new licensing agreements, which can cause Mattel to pay higher royalties and higher minimum guaranteed payments to secure a deal with major content owners like Disney.
But given where Mattel has been in recent years, these risks are moot at this point. The new Disney agreement validates Kreiz's turnaround efforts and highlights how undervalued Mattel still is compared to its top rival.
Disney is icing on the cake
What makes the Disney partnership extra special is that Mattel is already returning to growth. It posted its fifth consecutive quarter of year-over-year growth in the third quarter, with sales up 8% over the year-ago quarter. Management raised its full-year guidance and expects to achieve its highest sales growth rate in decades.
The licensing rights for Disney Princess follows a recent push by management to expand Mattel's portfolio of licensed partnerships. During the third-quarter report, Mattel announced it had renewed its agreement with World Wrestling Entertainment. It also expanded its existing relationship with Disney to make consumer products based on the upcoming Lightyear film from Pixar. It's also pursuing numerous projects at Mattel Films to monetize its top properties at the box office to drive long-term growth.
Everything is starting to fall into place. The best part: Mattel continues to trade at a wide gap to Hasbro on a price-to-sales basis.
MAT PS Ratio data by YCharts
Mattel currently trades at a 33% discount to Hasbro's P/S ratio, yet Mattel's operating margin is on the rise and getting closer to matching its rival. The closing of the margin gap will help Mattel's P/S ratio move higher and fuel more returns.
MAT Operating Margin (TTM) data by YCharts
One thing to watch in Mattel's next earnings report is management's guidance for operating margin. Disney doesn't grant licensing rights for free. Investors will want to make sure that Mattel is still on track to achieve its 2023 operating margin guidance it reiterated last quarter.
During the third-quarter earnings call, management said it is still on track to achieve its mid-teens operating margin target by 2023. Improving profitability has been a cornerstone of CEO Ynon Kreiz's turnaround plan, so I doubt that the Disney agreement will curtail that in any way. But investors should confirm that for sure.
Mattel will report its fourth-quarter results on Tuesday, Feb. 9. If management reaffirms its previous margin guidance, I believe the stock is a compelling buy.
