When my wife and I had our first child a couple years back, I panicked.

It wasn't the diapers that did it. Nor the endless washing of laundry. Not the 3 a.m. wake-ups or the months of four hours' sleep per night, either.

It was the toys.

I was a Hasbro (NYSE:HAS) investor, you see, and had been for about a year. I got drawn in by that firm's prodigious free cash flow, its discount valuation, its stable of brands I loved from my own youth: Tonka trucks, G.I. Joe figures, Parker Brothers board games. I figured, with brands like these, Hasbro couldn't go wrong.

A father is born . . .
Yet there I was a year later, with a new daughter come onto this Earth. And all around her bedroom, as far as the eye could see (pretty far -- we live in a house the size of a roomy shoebox, though you couldn't tell it from the mortgage), were Mattel (NYSE:MAT)-brand toys. Fisher Price for the most part, with the odd Hot Wheels car that I just couldn't help buying for her.

So here I was, invested in one company, yet seeing plain as day how all of my toy-oriented consumer dollars were going directly to my investment's competitor. Anna's a little girl, after all. Her favorite color is pink. And no matter how many Tonkas and Hot Wheels I buy for her, you just know that there'll be Barbies in the drivers' seats in just a few years' time.

. . . and an investment thesis, too
With those facts, and all those doe-eyed Barbie dolls, staring this new father in the face, I knew it was time to look at Mattel, the stock. Here's what I found:

Despite recent weakness in its sales of Barbie- and Hot Wheels-brand toys, Mattel remains a strong producer of cash. Over the last 12 months, the company has generated a whopping $363 million worth of free cash.

It has put that cash to good use, too. While Wall Street focuses on the company's sales weakness and bids down Mattel's shares accordingly, Mattel turns around and eagerly buys those shares at a discount to their intrinsic value. In the last two years, Mattel has spent more than $750 million on share buybacks, including $250 million that its board authorized in March. Mattel spent every last dime of that authorization, buying shares hand over fist, then re-upped for another $250 million in November.

A wise decision? Or a Wise decision?
The Wall Street Wise men laugh at Mattel's buybacks. Only one out of a dozen or so analysts has the stock at a buy rating. But here at the Fool, we practice a different kind of wisdom. We don't take our cues from the Street -- or rather, we do, in a way. When everyone on Wall Street fears to endorse a company, that gets our attention right quick. It means no one's watching but us. And that's precisely the kind of situation that lets Fools acquire shares in quality companies on the cheap.

So here's why I think Wall Street is wrong to pan Mattel, why I think Mattel's making the right call in buying back its shares, and why you should, too:

The turnaround
Right now, the entire toy industry is in a slump, and the share prices reflect this. Mattel trades at roughly 15 times estimated earnings for 2005. On a P/E basis, investors haven't had a better opportunity to buy Mattel in 10 years, when Mattel shares traded down to a low of 13 times earnings in 1995. Yet when the industry turnaround comes, there's little doubt that Mattel will be at the head of the pack on the upward swing. Just take a look at the stats for the three largest toy makers:

Mattel Hasbro Lego (private)
Trailing P/E 16 19 n/a
Net profit margin 8.1% 6.5% unprofitable
Dividend 3% 1.8% n/a


There's no telling when this industry will turn around. But with its stable of beloved brands, continued profitability in the worst of markets, and proven ability to generate cash, there's little doubt that Mattel will be here to see that day. In the meantime, no toy company pays its investors a better dividend for their patience.

Buy Mattel.

Wall Street won't buy Mattel. But we will. Our value-hunting newsletter, Motley Fool Inside Value, recommended the stock as one of its two inaugural picks. It hasn't paid off for us yet, but judging from the performance of the rest of our portfolio (up better than 10% to the S&P's 7%), chances are this one, too, will prove its worth in time. You can see all of our other recommendations any time you like, but you'll need to take afree 30-day trialto do it.

Hasbro is a Motley Fool Stock Advisor recommendation.

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Fool contributor Rich Smith no longer owns shares of Hasbro, and does not yet own shares of Mattel. If he did, The Motley Fool would require him to tell you so. We're sticklers about things like that.