Spin Master Corp.

Q4 2022 Earnings Conference Call

3/9/2023

spk02: and welcome to the Spin Master fourth quarter and full year 2022 earnings call. Today's conference is being recorded. At this time, I would like to turn the conference over to Sophia Basokas. Please go ahead.
spk11: Thank you and good morning and welcome to Spin Master's financial results conference call for the fourth quarter and year ended December 31st, 2022. I am joined this morning by Max Rangel, Spin Master's Global President and CEO, and Mark Siegel, Spin Master's Chief Financial Officer. For your convenience, the press release, MD&A, and audited consolidated financial statements are available on the Investor Relations section of our website and at spinmaster.com and on CDAR. Before we begin, please note that remarks on this conference call may contain forward-looking statements about Spin Master's current and future plans, expectations, intentions, results, levels of activity, performance, goals, or achievements, and any other future events or developments. Forward-looking statements are based on information currently available to management and on estimates and assumptions made based on factors that management believes are appropriate and are reasonable in the circumstances. However, there can be no assurance that such estimates and assumptions will prove to be correct. Many factors could cause actual results to differ materially from those expected or implied by the forward-looking statements. As a result, SpinMaster cannot guarantee that any forward-looking statements will materialize, and you are cautioned not to place undue reliance on these forward-looking statements. Except that, as may be required by law, SpinMaster has no obligation to update or revise any forward-looking statements, whether because of new information, future events, or otherwise. For additional info on these assumptions and risks, please consult our cautionary statements regarding forward-looking information in our earnings, a release dated March 8, 2023. Please note that Spin Master reports in U.S. dollars and all dollar amounts to be expressed today are in U.S. currency unless otherwise noted. I would now like to turn the conference call over to Max.
spk03: Good morning, and thank you for joining us today. 2022 was another year where we made meaningful progress on key priorities. Our commitment to reimagining everyday play across our three creative centers continues to give us a strong platform for growth, enabling us to achieve an increase in constant currency revenue for 2022 against the backdrop of a challenging economic environment. 2022 was really a tale of two halves. In TOI, we had an exceptionally strong start to the year, building on the momentum from 2021, coupled with retailers bringing in goods earlier to minimize anticipated supply chain disruptions going into the fall. This resulted in us having the biggest first half in our history, with gross product sales up almost 35% compared to 2021. However, in the second half of the year, with higher interest rates and inflation hurting consumers' discretionary spending, retailers had much higher than expected inventories going into the peak holiday season. Consumers became more price sensitive and focused on finding discounts. We saw reduced consumer spending impact toy point of sale trends and, in turn, reduced retail orders. This created a difficult environment for us to launch new and innovative products, which is the core of our toy strategy. As a result, our fourth quarter results were below last year. Despite this, we ended the year as the fourth largest toy manufacturing globally Per Sarkana, who you may remember as MPD, up from number five in 2021. Toy industry continued to show its resilience despite microeconomic challenges. Overall, sales for the U.S. toy industry were flat for the year and up 22% globally compared to the pre-pandemic years of 2019. We continue to believe the toy industry is a growth industry, and we expect it to continue to grow in over time. One of the consequences of the weak fourth quarter to the industry and for us is that retail inventories at the end of 2022 were up in both dollars and weeks of supply compared to a very low level a year ago, and they remain elevated during Q1 2023. Retailers are focused on inventory and profitability management and have limited their replenishment orders to bring levels down. We are working closely with them and we expect to be back in balance by end of Q2. Our fourth quarter global POS declined 6% over a year, which was in line with the industry, according to Sercana. For 2022, our global POS was down 1.2%, also in line with the industry. A significant portion of the year-over-year decline can be attributed to the lower Paw Patrol POS, as we were lapping the Paw movie in 2021. Declines in global POS for PAW in the fourth quarter were consistent with what we experienced in quarter three, with a decline of 23% per cercana. On an annual basis, PAW Patrol POS declined 16%. Despite these POS declines, the PAW franchise remained the number one preschool toy property globally, both on a quarterly and yearly basis per cercana. Paw Patrol has accomplished what only a few preschool franchises have ever achieved, to remain in the hearts and minds of kids and their families for more than a decade. Today, we believe the Paw Patrol franchise is stronger than ever, and we have a series of exciting activities planned in 2023 as we celebrate its 10th anniversary. Excluding Paw Patrol, our POS grew by 1.1% in Q4 and 4.8% on an annual basis for the G11 countries per cercana. We are particularly pleased with the performance of our international markets where we outperform the industry. We were in the top 10 in 10 out of 11 markets. Over the past few years, we have significantly expanded our licensed toy portfolio, bringing in popular entertainment franchises with built-in fan bases, resulting in continued growth in POS for this element of our business. According to Circana, our licensed portfolio POS increased 32% in Q4, driven by Gabby's, DC Comics, Monster Jam, and Wizarding World. Circana calculates that our licensed business has grown 61% since 2019 and now comprises 30% of our POS compared to just 19% in 2019. We are known in the industry for our deep understanding of the preschool category. That is why we were chosen by Universal DreamWorks Animation to be the global toy partners for Gabby's Dollhouse. What a fantastic collaboration this has been for us. Gabby's Dollhouse continues to outperform in 2022 with the Dollhouse Playset, a second-year item, taking the spot as the number one overall item in the infant, toddler, and preschool supercategory in the U.S. for Sharkana. Gavis has quickly risen to be one of the top preschool properties globally, and we believe the franchise has great potential for the future. Monster Gem was the third property in vehicles in quarter four, up one position from 2021, and the brand remained the number two property for 2022 in POS, increasing 4%, according to Sirkana. The strong performance of Monster Gem aided our vehicle performance in the vehicles category. seeing us gain share and increase POS by 5% in 2022. We are excited for a blockbuster year for the DC franchise in 2023 with three theatrical movies planned, which will see us launch toy lines to complement the movies and characters. Additionally, we have new innovations in our core Batman offering, including an epic large-scale playset, which is sure to be a toy of the year contender. In 2023, we are continuing to grow our licensed portfolio with the launch of our first product for Disney's new preschool animated series, Firebots, which has just launched in North America with a rollout plan for this summer. One of our primary growth strategies is to pursue strategic M&A across our creative centers. We have made 28 acquisitions since the company was founded in 1994 and 18 since our initial public offering in 2015. We completed the acquisition of Rubik's Cube in 2021. This past year marked the first opportunity to inject our own innovation into Rubik's portfolio with the launch of the Rubik's Phantom, featuring thermochromic technology. It was also the first year in which we were able to apply our integrated marketing support to the brand. The result of each has been a notable increase, and now Rubik's Cube becoming the 10th largest brand in the games and puzzles super category in the quarter, up from the 16th position in 2021, and POS grew 4.5% compared to a decline of 4.3% in the category for the quarter, according to Circana. Building on our rich history of acquisitions, we recently announced three toy and game acquisitions In August, we further diversified our games and puzzles offering by acquiring games and titles from Solid Roots, a creator of family board games, including the popular game Mind the Gap. A few weeks ago, we closed the acquisition of 4D Brand's portfolio of 3D puzzle kits, opening up new opportunities to inject innovation into our puzzle portfolio with new form factors and popular third-party licenses. We also announced the purchase of Hexbox brand, which will be strengthening our robotic toy range capabilities. We continue to look for accretive acquisition opportunities to further diversify our overall portfolio, stay on the leading edge of children's play, and pursue new areas of growth. Our entertainment creative center had a really strong year, growing licensing and merchandising revenue while also continuing to develop our content pipeline for screens of all sizes. In addition to continuing to create fresh Paw Patrol content, we introduced two new properties in 2022, including Sega Mini Friends on Apple TV, making the first cross-creative center collaboration with our Digital Games Creative Center, and we started delivery of Rubble & Crew, our first Paw Patrol spin-off series, airing on Nick Jr. 2023 will be our biggest year ever in terms of entertainment content releases, showcasing the investments we have made to create a diversified content pipeline. We have several new series launching in 2023, including two entirely new properties. The first is a preschool series, Vida de Vet, which will air on BBC in the UK and on Chorus Treehouse in Canada, with more broadcasting partners to be announced soon. The second is a new fantasy adventure series franchise and we just announced last week called Unicorn Academy. This exciting launch exemplifies our approach to franchise building with fully branded experiences planned across all three creative centers. The journey begins with a Netflix original series this fall which will be followed by a toy line in 2024 and a digital game which is in development as well as an expansive licensed consumer products initiative. I've seen the initial episodes and it is truly magical with some of the most visually stunning animation we have ever created. I mentioned earlier that we will launch our second feature film for the Paw Patrol franchise on September 29th in conjunction with Paramount. A few weeks earlier than originally anticipated and planned and in advance of the first long weekend in October. Our first Paw Patrol spin-off series, Rubble and Crew, debuted on Nick Jr. on February 3rd and early reads for the show are very positive. Many of you saw the toy line in our LA showroom in January, which centers around a construction play pattern. In addition to the spinoff, we have a series of specials throughout 2023 to commemorate PAW's 10th anniversary. Our Digital Games Creative Center faced tough comparisons in 2022, given the unprecedented growth in digital games we experienced during the pandemic when screen time was unlimited. While we have had incredible growth within digital games over the past two years, we have started to see the pattern normalize. Engagement in our apps and games remain high at 58 million monthly active users in Tokalive World, but in-app purchases declined in 2022, which reduced revenue. We remain very ambitious about the long-term growth opportunities within our Digital Games Creative Center, in part due to the development we have underway and given the trend of children spending more of their leisure time in the digital world. In 2023, we will release several new digital games. Norlight, the digital game studio we acquired in August last year, is developing a new mobile game leveraging our iconic Rubik's Cube IP, which will take us into the casual gaming space. The Originator team is deep in development of our first in-house developed digital game for Paw Patrol called Paw Patrol Academy. The game will invite preschoolers to join missions, games, and content designed to blend story and interactivity with educational and emotional learning, and is set to launch in conjunction with the movie. In Q3, SEGO Mini will introduce a digital games bundle, which will give subscribers access to a host of our educational digital games from SEGO Mini, Toca Boca, and Originator portfolios, all for one monthly subscription fee. We believe this will be driving growth and be a simpler and cost-effective way for parents to manage a subscription for their kids. In summary, we are squarely focused on continuing to execute on our strategy of leveraging our global IP across our creative centers. As we look ahead, we expect to face continued microeconomic headwinds this year and continue to foresee a period of volatility impacting consumer demand. One of the most significant factors that will impact our 23 performance is elevated retail inventory levels in the first half of the year, and we are managing this closely. We are also focused on managing our operational costs, ensuring we positions be mastered to thrive. We are being prudent in our approach to cost management while balancing the need to invest in key organizational capabilities to scale our business. Given our healthy financial position, We are also focused on pursuing acquisition opportunities to attract new fans, reach new audiences, and engage new players in order to further solidify our leadership in children's entertainment and deliver profitable growth now and into the future. I am now going to pass it over to our CFO, Mark Siegel, to cover our financial performance in more detail, as well as our 2023 outlook.
spk00: Thank you, Max, and good morning, everyone. The fourth quarter was a challenging quarter relative to last year. Revenue came in at $465.8 million, down 25%, or $484.2 million, down 22% in constant currency. This compares to $620.5 million last year, reflecting a decline in the Toi Creative Center due to the customer order timing shifts described earlier in the year, along with a decline in digital games revenue. Entertainment revenue for the quarter was up 9.5%. Looking at Q4 Creative Center performance in more detail, toy gross product sales were $479.2 million, a decline of $148.3 million, or 23.6%. On a constant currency basis, gross product sales declined 20.6%. 2022 was a year where we saw unusual phasing of revenue towards the first half, primarily due to the low level of retail inventory entering the year after exceptional growth in 2021. First half gross product sales outpaced POS as retailers were replenishing lower inventory exiting 2021. Retailers also brought in goods earlier than normal in 2022 to avoid anticipated supply chain disruptions in the fall and began building inventory levels well ahead of the holiday season. We expected this to reverse in the third quarter and accelerate in the fourth quarter. Although POS did improve, consumer demand was lower as inflation and interest rates took their toll and demand came much later than expected. This caused retailers to reduce replenishment orders throughout Q4 which impacted our performance across categories and regions. Q4 results overall were heavily skewed by the volatility and timing of this retail inventory movement throughout 2022. Preschool and dolls and interactive declined by 50.1 million or 19.9%, driven by low sales of Paw Patrol, which as Max noted, was strong last year in the wake of the movie release, offset by higher sales of Gabby's Dollhouse. Activities, Games & Puzzles & Plush declined by $45.9 million, or 22.2%, mainly due to the Games & Puzzles portfolio and Kinetic Sand, offset by higher sales of Rubik's. Wheels in Action decreased $56.1 million, or 38.4%, due to decreases in DC Comics licensed products. mainly due to difficult comps against shipments for the Batman movie in Q4 of 2021. Geographically, North America saw the biggest drop in Q4, both in dollars and percentage terms. Revenues in North America declined 101.1 million, or 28%, to 260.7 million. North America accounted for 54.4% of total GPS in Q4, down from 57.6%. International sales comprising Europe and the rest of the world declined 47.2 million or 17.7% and comprised 45.6% of total sales up from 42.4%. Our full year results paint a more complete performance picture. For 2022, we generated over $2 billion in revenue, down 1% on a reported basis and up 1% in constant currency. Despite the backdrop of a difficult macroeconomic environment, we were pleased that 2022 revenue was in line with 2021 and 28% above 2019. Gross product sales for the year grew 3.5% in constant currency. H1 2022 gross product sales represented 45% of full-year gross product sales compared to an average of around 33%. As I noted last quarter, since our IPO in 2015, we have more than doubled revenue from under $1 billion in 2015 to over $2 billion currently, delivering a compound annual growth rate of nearly 13%, considerably outpacing the industry. Turning back to the Q4 P&L, Q4 sales allowances were 17.2% of gross product sales, up from 13.6% as we managed our inventory levels and executed higher markdowns and promotions as consumers were more price-sensitive and responsive to promotional activity. For 2022, sales allowances were 12.2% compared to 11.8% last year. slightly above the high end of our historical range. Toy revenue, or gross product sales net of sales allowances, declined 26.8% to 396.7 million from 542 million, reflecting the gross product sales trends and increased sales allowances. Q4 adjusted EBITDA for toys was a loss of 24.4 million compared to adjusted EBITDA of 40.8 million. a margin of negative 6.2% compared to positive 7.5% due to higher administrative and marketing expenses as a percentage of revenue, partially offset by improved gross margin from product mix and price increases we implemented earlier in 2022. The shift in seasonality year over year was a significant driver in the comparison of EBITDA margin. Turning to our other creative centers, Q4 entertainment revenue increased $2.7 million or 9.5% to $31.2 million from $28.5 million. Adjusted operating income was $20.5 million, up 53% from $13.4 million in Q4 2021. And adjusted operating margin was 65.7% compared to 47%. The significant increase in entertainment profitability was driven by higher licensing and merchandising revenue as well as lower amortization due to fewer content deliveries. As a reminder, when we discuss entertainment profitability performance on a standalone basis, we focus on adjusted operating margin as this is after content amortization. This is true of digital games as well. Digital games revenue decreased 24.2% to 37.9 million driven by lower in-app purchases in Tokalive World. In constant currency, digital games revenue declined 19.8% to $40.1 million. Adjusted operating margin was 32.5%, down from 38%, from lower revenue and higher product development and personal costs related to future game development. From a consolidated P&L perspective, Q4 gross margin was 49.9% compared to 52.1%. The 220 basis point decline was largely driven by higher sales allowances and increasing closeout sales and unfavorable foreign exchange, partially offset by price increases, lower ocean freight, higher entertainment L&M revenue, and lower content amortization. SG&A in Q4 was $237.8 million compared to $267.4 million, representing 51% of consolidated revenue up from 43.1% as a result of the decline in revenue. Adjusted SG&A was $233 million compared to $260 million, representing 50% of consolidated revenue up from 41.9%. The full-year SG&A rate is more reflective. as the shift in seasonality year over year created less comparable figures. For 2022, adjusted SG&A was 37.5% compared to 35.3% in 2021. Looking within SG&A, marketing expenses in Q4 decreased by $8.7 million to $83.3 million due to lower media spending in response to lower Q4 volume. Marketing expenses as a percentage of consolidated net revenue in Q4 increased to 17.9% from 14.8%. For the full year, marketing increased 5.4 million to 185.1 million from higher media spend and trade show expenses. As a percentage of revenue, marketing for the full year increased to 9.2% from 8.8%. For Q4, administrative expenses declined by 12.6 million to 91.2 million primarily due to lower incentive compensation and favorable foreign exchange. For the full year, administrative expenses grew by 7.1% to $353.8 million due to higher personnel-related costs, travel, and professional services expenses, partially offset by favorable foreign exchange and lower incentive compensation. As a percentage of revenue, administrative expenses increased to 17.5% from 16.2%. In Q4, we recorded a net loss of $13.8 million or $0.13 per diluted share compared to net income of $26.5 million or $0.25 per diluted share. On an adjusted basis, net income in Q4 was break-even compared to adjusted net income of $38.7 million. Adjusted EBITDA declined to $12.4 million compared to $78.3 million. Adjusted EBITDA margin was 2.7%. down from 12.6%. Adjusted EBITDA for the full year 2022 was $389 million at a margin of 19.3% compared to 20.3% in 2021. After adjusting 2021 for the Paw Patrol movie distribution revenue and amortization, adjusted EBITDA margin in 2022 of 19.3% was up 10 basis points over 2021. Turning to the balance sheet, we ended the year on a very strong financial footing. Our balance sheet is in the best position it has been in, which will provide more flexibility to execute our growth strategy. We managed inventory levels aggressively in Q4, and our commercial teams did a great job in this area. Our on-hand inventory at the end of 2022 was 105 million, down 32 million compared to 137 million at the end of 2021. Our remaining inventory continues to be of high quality. Retail inventory for SpinMaster products is also predominantly current and of good quality. Our core net working capital as a percentage of full-year revenue was 13%, up 2.5% compared to last year, driven by lower payables due to the timing of purchases, partially offset by the reduction in inventory and trade receivables. Free cash flow in Q4 was negative $30 million, compared to positive $211 million, driven primarily by the loss in the quarter, higher net working capital, and more cash used in investing activities. The full year of free cash flow was $150 million compared to $340 million. The decline was due to lower cash from operations driven by changes in net working capital, partially offset by lower cash used in investing activities. We ended the year with $644 million in cash, up from $563 million. We are in an extremely strong liquidity position with available liquidity of over $1 billion. Looking ahead to 2023, we expect to continue to face volatility and a tough macroeconomic environment, with high interest rates and inflation putting pressure on families' disposable incomes. As Max said earlier, We continue to believe that the toy industry is a growth industry, but continuing macroeconomic headwinds and market volatility may impact 2023 consumer demand. Our outlook for gross product sales reflects our view that consumer behavior in 2023 is likely to continue to be adversely affected by inflation and recession concerns, which in turn could impact retailer buying plans as they look to manage their inventories and profitability. Retail inventory carryover and the anticipated order reductions as retailers draw down their elevated inventory levels, particularly in the first half of 23, will reduce our 23 gross product sales and was a factor in our outlook. We expect the seasonality of gross product sales to return to historical averages of 30 to 35% in the first half, compared to 45% in 2022. This will make H123 comparisons to H122 particularly challenging, especially in Q1, and we expect our toy revenue and profitability to be down in the first half. While we don't usually comment on quarterly expectations, we will note that we expect Q1 to account for approximately 10% of full-year gross product sales compared to approximately 15% typically. We expect retail inventory carryover headwinds to clear by the end of the second quarter, followed by corresponding growth in the second half of 2023. We expect full year 23 gross product sales to be flat to slightly down overall. We expect our total revenue growth to be in line with 2022. In addition to toys, from an entertainment revenue perspective, we have a strong slate of entertainment content for 2023, where we are delivering six shows and the second Paul movie. In Q3, we expect to reflect approximately $17 million of distribution revenue for the Paul movie from Paramount in entertainment revenue, and approximately the same amount in amortization of the capitalized intangible asset. To be clear, 2023 gross product sales and revenue guidance does include movie-specific toy sales and licensing and merchandising revenue. Regarding digital games, we expect a stabilization in digital games revenue levels for 2023. Foreign currency translation is expected to have a neutral to marginally positive impact on revenue based on current rates. With respect to profitability, we will continue to look at pricing selectively in relation to market needs and cost input levels. We expect sales allowances to be approximately 12% of gross product sales. We see some tailwinds in 2023 for toy cogs. Ocean freight is expected to be down from 2022. Resin costs have stabilized or come down. On electronic components, we have seen improvements in both costs and lead times and expect this to provide favorable cogs improvements. For paper and packaging materials, we have seen some improvements. However, to a lesser extent, as high e-com use of shipping boxes and cardboard as a more sustainable material than plastic is keeping prices from dropping as much as we are seeing on other commodities. In entertainment, we see headwinds in 2023 on gross margin, driven by the large amount of new content deliveries. This will impact consolidated gross margins as well. The distribution revenue arising from the delivery of new entertainment content is gross margin dilutive until we can generate toy sales and licensing and merchandising revenue once the shows have become established. We are focused very closely on cost control for all areas of SG&A and have looked at our fixed costs carefully to ensure we can drive operating leverage. We expect marketing costs to be between 9% and 10% of revenue. We are managing our people costs and administrative costs very carefully. Taking all of this into account, we expect 2023 adjusted EBITDA margin, excluding the poor movie distribution revenue, to be flat to slightly up compared to 2022. Tax is expected to be approximately 25%. Capital expenditures are forecast to be approximately 7% of revenue from 5% in 2022, as we continue to invest in entertainment and digital games content. Total depreciation and amortization is expected to increase from $68 million in 2022 to approximately $150 million in 2023, primarily as a result of more deliveries of entertainment content. Free cash flow in 2023 is expected to be slightly up compared to 2022. To conclude, We have built a platform that we feel confident will continue to generate above industry growth. We will continue to seek opportunities to harness the potential of our three creative centers, acting independently, but also collaborating across platforms to exploit the full potential of our talent, innovation capability, and intellectual property. Our business model leverages our global capabilities and allows us to scale our business to capture the full value of our IP. Our teams remain committed to a disciplined operating and cost control model, and as an organization, we are measuring ourselves in a way that maximizes long-term shareholder value. That concludes our remarks. We'll now open the line and take questions. Operator, please go ahead.
spk02: Thank you. If you would like to ask a question, please signal by pressing star 1 on your telephone keypad. If you are using a speakerphone, please make sure your mute function is turned off to allow your signal to reach our equipment. Again, press star 1 to ask a question. And we'll pause for just a moment to allow everyone an opportunity to signal for questions. And we'll take our first question from John Samparo with CIBC. Please go ahead.
spk08: Thank you, good morning. I wanted to start on industry conditions and appreciate the color from or about your key retail partners and their inventory positions. And I wonder if you can share anything about your ability to gain more visibility into their inventory position and their order patterns throughout the year.
spk03: Good morning, John. We exited Q4 with known retail inventories, which we've built into our 23 guidance. Through the first, you know, obviously as we exited and we now enter 23, our POS consumption has basically remained exactly in line with the category. So we're actually exactly as the category is performing. And inventories are beginning to come down, but we don't see that completely getting to clean until the end of Q2. That's what we know today with about, you know, eight weeks of data.
spk07: Okay, understood. And then my follow-up is on Rubble and Crew.
spk08: I know you mentioned it's been a positive reception so far, but is there anything quantitative you can share on that that would give some insight on the show so far? Maybe it's relative to Paw Patrol or just anything to add some color there. Like I said, I know it's early, but just like to get a sense of the sustainability of that property.
spk03: Sure. So Remember, we basically started airing this early February. And so far, our audience has responded incredibly well. Our premieres posted double-digit gains in playback. Our most recent premiere delivered really high engagement. And so the viewership is comparing very positively with other PAW episodes we've launched in the past. So we feel very encouraged by that. And then we just set toys on March 1st. And our first week or so has been very positive, but it's just a week. And that was basically done at Walmart. So, so far, we feel very strongly.
spk07: Okay, that's helpful. I'll pass it on. Thank you.
spk12: And if you find your question has been answered, you may remove yourself from the queue by pressing star 2.
spk02: And we'll take our next question from Martin Landry. With Stiefel GMP, please go ahead.
spk04: Hi, good morning. My first question is on your guidance. It looks like consensus is for the industry to be flat this year. And looking at your guidance in terms of flat revenues, I would expect or I would think that Paw Patrol toys are going to get a bit of a boost from the movie. It looks like you have some new stuff with Firebirds coming on. Your digital gains are going to be flat. So I'm trying to understand what's going to be down this year. What's dragging a little bit the rest of the portfolio to bring your revenues flat this year versus last year?
spk00: Good morning, Martin. Thank you. Look, there are obviously some positives in 2023 for sure. And we've been through those all in detail today. The reason we're guiding the way we are on gross product sales really relates to the industry carryover heading into 2023. There was significant industry retail inventory carryover, and that is going to affect the first half, and that was a factor in our guidance. Now, we as a company, Spinmaster, our retail inventory was actually in pretty good shape, although we did have some carryover as well, not nearly as extensive as the rest of the industry. But that certainly was a factor in our guidance.
spk03: Max, you want to add anything? Martin, good morning. And I just want to add one thing on what Mark just said. Because the industry was bloated, we actually almost participate in that as basically buyers have to distribute our dollars and first would like to basically get rid of the inventories. And when others are higher, we're in that same boat. And so unfortunately for us, short term, we are basically... getting through that cycle. So just to be clear, we are keeping a close eye on our POS. And so the spring items were set. So we're actually plowing forward with, you know, optimism, but we actually live in this situation. So I just want to make sure I put that in context. And all that is important because as we said for the second half of the year, then we have to get to clean. And, you know, retailers have been conservative. And so that's likely what you're seeing as well as we actually deal with them. And they deal not just with, as you heard from the script, not just inventory, but their profitability. We want to take that into account. So we're being prudent, but we're being aggressive with the innovation we have because we feel very strongly about it.
spk04: Okay, that's helpful. I wanted to touch a little bit on your new franchise that you've announced last week, Unicorn Academy. Just trying to understand a little bit your expectations for that franchise in terms of revenue potential. Could this be bigger than your other franchise you've developed internally like Vida de Vet or Mighty Express?
spk03: We're super excited. It takes us into a space that is wide space for us. We don't have a franchise for that audience necessarily. So that's the first thing. The second thing is, We've really studied how audiences are being built and how franchises are being developed and are succeeding. And we have basically first view to a very successful franchise in Gaby's Dollhouse and in strong collaboration with them have learned a lot. So we've built all that into our franchise development plan. And that basically debuts in the coming fall on Netflix. So we've studied how to build that. We feel very strongly that as we get to 24 and we begin to monetize that franchise through toys and consumer products, licensing and merchandising, we are well set to basically get new audience sales in our three creative centers. I failed to mention digital games. We have a game in development, so we're also very excited, and we've seen how complementary to the audience build that ecosystem is. So from a size perspective, we just are going to be more shy to tell you something today, but we can talk to you offline, but we're very excited.
spk04: Okay. Okay, and just last question, just to make sure I understand how amortization costs flow through your bottom line for the movies. So for Paw Patrol, can you remind us, what was the net income impact of the first movie?
spk00: Yeah, so just remember there's various aspects that impact our P&L for a movie. What we did in 2021 was we called out specifically the distribution revenue that we received from Paramount, which was really a share of our cost reimbursement. That actually is So we get the revenue in Martin that actually gets reflected in distribution revenue, and then amortization is the amortization of the intangible asset that's been built up on our balance sheet. That gets added back from an EBITDA perspective, which is why we always talk about EBIT when we discuss our entertainment business. Now, the issue that we have is that we don't do a movie every single year. Everything that I've just described to you for the movie is equally true of our TV shows, and it's exactly the same principle. However, we don't do a movie every year. And so in 21, we actually broke it out to make it comparable to 2020 and 2022. And then the same with our guidance for 23, we're breaking that out so it becomes comparable to 2022. If we were actually making movies every single year, then we wouldn't need to break it out the way that we do. I hope that helps. Does that clarify it?
spk04: Yeah, okay, maybe we can take it offline.
spk07: So, okay, that's it for me. Thank you.
spk12: We'll take our next question from Jared Johnson with BMO. Please go ahead.
spk06: Great, thanks. Good morning. Hey, Mark and Max, I wanted to hear a little bit more about your marketing tactics in a quarter. I think you said, if I heard it correctly, you pulled back. But did you ramp up, pull back? What did you do with your marketing when you saw retail slowing down?
spk00: Geric, in the fourth quarter, our marketing dollars were down, but they were up as a percentage of revenue. And for the year, marketing was actually up year over year relative to 2021. So we're at around 9.2% for the year relative to 8.8% in 2021. Between 9% and 10% is our historical range of marketing spend. 2021 was an unusual year. Because of the massive growth and the demand that happened in 2021, we didn't need to spend as many marketing dollars in 2021 as we normally would. So we got a little bit of a pickup in 2021 from that. As it relates to tactics, I'll let Max comment on that.
spk03: Good morning, Garrick. We actually continue to invest in Q4. I think it's first mentioned, and I think you know it, that a lot of the purchase in Q4 is went to online. Online did really well, not just in Q4, but throughout the year. And a lot of the searches basically were done on Amazon. And so we continue to spend aggressively on Amazon, on our marketing, and on PAW as well. So, you know, just to make sure that that was part of the tactics as you're asking the question. We had a lot of content that we had to flow to online, you know, demand creation, which we did. And so that was basically one big component of our marketing shift in Q4, just to basically go where eyeballs were going and where search words were being searched. So that's the biggest component of our marketing shift that we did, and we continue to execute that as we actually get into 2023. And we're not planning, just to be clear, to draw down marketing dollars. A few innovations we're excited about. We have a couple of new franchises we're excited about. So we're pretty intent on spending marketing dollars.
spk06: Okay, great. Thanks for that, Max and Mark. Sort of related, you know, promotions at retail. When we were looking, it just seemed like Target, Walmart, the U.S.-based retailers were somehow hesitant to promote, to use promotions. But there were plenty of spin master promotions, especially early. So how were those discussions? Was there pushback from retailers when you said, hey, you know, things are slowing down and we need to promote and run some discounts? Because it didn't seem like the retailers were very aggressive in promoting for some reason, especially early.
spk03: I think your intuition is correct. You know, remember we were headed into second half of the year and we're talking 2022, which is your question. So I'll just answer to that very directly. And when you got to the third quarter, right, and we talked this in the last call, but I'll just remind ourselves, there was basically a period where people were beginning to draw down, but the consumer didn't respond. And when we got to Q4 and that hadn't worked, we had to basically go a little bit harder and and your question about whether retailers were leaning in with us to do that or not, well, the conversation was what percent do we do, what percent do they do, et cetera, and so that was basically on the table. But we saw no choice but to make sure that we were responsibly trying to get our items cleaned to get into the year. So our own inventory we did really well with, and our retail inventory did better than competition because we were aggressively pushing that agenda.
spk06: Yeah, great. That was very clear. Just one more, and then I'll drop out. The Paw Patrol distribution revenue, that's just theatrical-related or movie theater-related, right? When does the streaming hit? When would that start to be booked?
spk00: Okay, so, Garrick, you're correct. The $17 million approximately that we've called out relates specifically to the distribution revenue. The movie this year is going to be different to 2021. in the sense that there's a theatrical release at the end of September, followed by Paramount Plus 45 days later. If you recall, in 2021, it was day and date in the theatrical and P Plus release were actually on the same day. And so now we have two promotional windows to actually get the impact of the promotion of the movie. So we feel very encouraged by this strategy. And things are more normal now in terms of the COVID environment, whereas in 2021, things were just coming out of COVID when we launched that movie in August. So overall, we feel good about the second Paul movie. I think because it's a little bit later as well in the year, it's going to actually drive gross product sales and licensing and merchandising a little bit later than it did in 2021. and more into 2024 as well, particularly on the L&M side. But overall, we're very encouraged by the movie.
spk06: Yeah, I'm sorry to monopolize so much of the time here, but just again, the distribution revenue for streaming, that should hit, what, in November. So that would be a benefit to the fourth quarter. So you're calling out $17 million in the third quarter. What should we call out for the fourth quarter?
spk00: Right. So the way that the economics work on this movie, If you recall in 2021, the amount was actually $23 million or $26 million actually that was reflected for distribution revenue. This year, we're reflecting less and we're taking more of a revenue share and more of a kind of a risk-based approach where Paramount will recoup earlier and we'll actually get more revenue as a result of that. But that revenue, Geric, is actually going to flow a little bit later, later into 2023 and into 2024 as it relates to streaming.
spk07: Okay, great. Got it. Thank you.
spk12: I'll take our next question from Lou Cannon with Canaccord Annuity.
spk02: Please go ahead.
spk01: thanks good morning mark in your prepared remarks you touched on a number of tailwinds as it relates to cogs in in 2023 and freight as being one of them i realize there's only so much that you guys can disclose here but presumably if if we were to assume that the freight environment maybe gets a little bit better throughout 2023 how much of a benefit or would that be a benefit at all to you guys i guess what i'm trying to ask is how much As we sit here today, how much of your freight costs are locked in for the year versus how much can you flex should there be some alleviation in rates?
spk00: Thanks, Luke. So, yeah, the question is an interesting one. Ocean freight rates have come down quite significantly, and we've actually built a fair amount of that into our outlook. We're actually looking at freight rates on a quarterly basis now. And so to the extent that freight rates come down even further, there is some potential upside as it relates to the later quarters. But we are seeing some pressure and some indications from the ocean freight carriers that there could be a slight uptick in the second half of the year. And so we are being a little bit cautious on that, but there could be some upside there.
spk01: Okay, understood. And then also, if we just think about the Paw movie for a second here, if we think back to 2021, obviously it was a very different environment. The retailers more or less, and you can correct me if I'm wrong, but the retailers more or less were trying to get as much inventory as they could get their hands on. It was clearly a very challenged supply chain environment. It's much different this time around, but I think the commentary in 2021 was that the retailers had left some sales on the table, if you will. Has there been any indicative conversations or preliminary expectations on their front that they could maybe be, we'll say, a little bit more aggressive when it comes to timing the inventory for the movie this time around?
spk03: I think, good morning, Luke. I believe that the movie for retailers is an important building block for PAW, along with Rubble. And we're trying to get to the movie window with like a super great clean shelf so that the movie items and all the innovation that you would have seen can shine. And that's basically the number one objective. And so right now they're working closely with us to make sure we get to that. specific condition. And we feel strongly that we are set up as of now to accomplish that. That's the objective.
spk00: So just to add to what Max said, if you go back to 2021, because the movie was released in August, there was actually a fair bit of gross product sales that landed up in Q2 in advance of the movie. Because the movie is now at the end of September, the majority of the shipments for the movie will actually be in Q3. Some will be in Q2, but mostly in Q3. and then there'll obviously be gross product sales that land in Q4. Most of the licensing and merchandising revenue for the movie, the backpack, shoes, that kind of stuff, is really going to come very late in Q4, but mostly in 2024. Okay, understood.
spk07: I'll pass the line. Thank you.
spk02: I'll take the next question from Brian Morrison with TD Securities. Please go ahead.
spk09: Good morning. Mark, I understand the composition of the problem of movie economics, but if you're participating more in the risk share, I presume you're going to share more in the upside of the box office receipt. Is this correct? And then can you just remind me the box office benefit from 2021?
spk00: Yes. I mean, the first part of your question is correct, Brian. We will we will actually get less upfront from Paramount as it relates to the movie, but then we'll share more and we'll share quicker as it relates to the ongoing receipts and the upside in the revenue. Once Paramount has recouped their promotion and marketing budget, then we'll share in the revenue. So in 2021, we didn't necessarily break that out, and we're not gonna break out specifically the movie-related revenue all in from the movie. But what I will tell you is that what we saw with the first movie is that we actually got some of that upside in 2021. We actually got it in 2022 and a little bit in 23 as well. So I think the benefit of our rev share in the movie economics will actually be mostly in 24, but also into 25 as well. And it really depends on how successful the box office is and how quickly Paramount Recoup their costs on the movie.
spk09: Okay. Second question. I want to just go back to inventory. I understand the retail channel inventory being heavy. On the corporate level, though, you brought that down very nicely. I wonder how you feel that you stack up relative to your peers on a corporate level.
spk00: So I'll go first and then Max will add some commentary there. Just numerically, if you look at our networking capital and if you look at our working capital management in general over the last few years, I would say we are well ahead of the industry, and I think we lead the industry by a wide margin in terms of our working capital management.
spk03: So against our two biggest U.S.-based competitors, and the data is public, we basically did better. We declined in our own inventory. One of them actually went up 23 percent. The other went up 15 percent, so a material difference.
spk09: All right. Last question, I want to understand the introduction of NOID. What's the strategy bringing this to market in 2023? How meaningful should we expect this to contribute to the top line? And Mark, do you still have the target of doubling digital revenue over time?
spk00: Brian, just to clarify, did you say NOID? We didn't hear it on the same. Yes, pardon me. So, yeah, our target of 20% for digital revenue in the next few years still stands. I'll go first, Max, and then you can add. Noid is currently working on a bunch of projects relating to Spin Master IP. The acquisition that we did of Nordlight in 2022, because Nordlight was actually helping Noid in the development of the Rubik's game, if you recall, Brian. And so what we did was we actually acquired Nordlight, and they are the ones that are fully focused right now on bringing the Rubik's digital game to the market in 2023, in the middle of the year. And so the Noid studio is working on other Spin Master IPs, whereas Nordlight is directly focused on bringing the Rubik's game to the market this year.
spk09: In aggregate, though, how meaningful should we expect these to be?
spk03: Yeah, so first and foremost, it's a great question, and we're super thrilled about our digital games future. But I'm just going to give you some more context. I think Noid... basically is getting us into casual game and Rubix is our first execution of that. And that is a really large addressable market for us. We don't play in today, right? So we are getting into a soft launch this year, and you can expect that that growth in that property will express itself late into the year and into 2024. That addressable market is very, very large. So that's first and foremost. We also have other studios that we're excited are bringing new games to our digital games portfolio as well. We've talked about the Paw Patrol Academy. That to us is very exciting. It's basically going to be launched into Q4 and to coincide with the movie. And so all the advertising and all the promotion for the movie will help us drift and basically get that property into market. We're seeing prototypes. We're excited. That's basically slated to launch as well. And then on top of that, we're working on two other games that will go into soft launch later in the year. And so we're super determined to continue to expand the addressable market on digital games towards our 20%. It's a combination of organic and inorganic, but we're thrilled. Teams are doing a great job and, you know, full force ahead.
spk07: Okay. Thanks for the clarification and the color.
spk12: We'll take our next question from Jamie Katz with Onyx.
spk02: Morningstar, please go ahead.
spk10: Hi, good morning. Thanks for taking my questions. I think in your prepared remarks, you had said that POS or sales were trending exactly in line with the category. Maybe that was during the Q&A, but I don't think you articulated what the category was doing this year. So could you just clarify that to start?
spk03: Yeah, it's been flattish, just to be clear. And it basically depends, you know, we typically look at the whole, at the globe and G11, and so it depends by country. But if I were to aggregate it for you, it's about flattish, and we've been about flattish.
spk10: Excellent. And then you guys have a thought process on how inventories will right-size themselves at retail, I guess, through the second quarter. Can you give us sort of an idea of what the sensitivity to EBITDA margins are if that process takes longer than anticipated, perhaps if it takes like the whole year, because I suspect some of a benefit would be assumed in the second half of the year.
spk00: So, Jamie, just as a general macro comment, obviously, the seasonality shift we're going to see in 23 versus 22 is going to be quite dramatic. H1-22 was 45%. We expect it to be somewhere between 30% to 35% this year in H1. And so obviously that volume shift is going to shift income and EBITDA from H1 into H2 in the current year. And so really it just becomes a question of how long it takes for the retailers to actually manage their inventory levels down. We expect our current... expectation is that that is going to happen mostly in Q1. And that's why we actually gave specific guidance on Q1 because it's an unusual year that we're dealing with in terms of Q1. So there will be a relatively material EBITDA impact in Q1 as a result of the fact that replenishment orders and retailers managing the inventory in Q1 is going to impact Q1 shipments quite dramatically. We think Q2 is going to start moving towards normality. And therefore, by the end of Q2, we'll be in a situation where heading into the second half of the year, we'll be in good shape and the comps will be much better. Obviously, to the extent that something changes on the retail front, which we can't predict, and there's timing of shipments that may move from Q1 to Q2 and Q2 to Q3, that will shift some EBITDA margins. But we can't guide to that level of precision right now at this point.
spk10: Excellent. And then lastly, can you just talk a little bit about the Spin Master Ventures business? I know it was noted that there were a few new partnerships, and I guess it would be helpful to know maybe what sort of product offerings those represent and maybe where you guys are seeing the opportunity to try to take share in new white space categories. Thanks.
spk00: So we did do a few small investments in the fourth quarter of 2021. In total for Ventures, since inception to current, we've invested about $10 million in the Ventures area, a combination of toys, entertainment, and digital games. We did a small investment, a follow-on investment actually in the toy space in Q4, and we did two in the... entertainment space in Q4 of 2021. So these are areas in entertainment where we saw nice content, we liked what they were doing, and in one case, there was a technology capability in entertainment that we wanted to explore further. So nothing has changed in terms of our strategy, and we're quite excited about some of the things that we're seeing coming out of the venture space. The biggest and most significant venture activity that occurred in the year was when we actually acquired Nordlight, which was a follow-on investment from an early venture investment, and that was exciting for us in terms of the Rubix developments that Max described earlier.
spk10: Great.
spk00: Thank you. Okay, operator, we're going to have time for two more questions, and then we're going to have to call it.
spk02: Okay, thank you. We'll take the next question from Sabah Khan with RBC Capital Markets. Please go ahead.
spk05: Great, thanks and good morning. Just I guess there's been a bit of discussion on the inventory here. Could you provide maybe a little bit more color on, you know, is there a specific category? You know, you talked about maybe preschool being a bit more back-end weighted, partly driven by the movie, but is there any categories you're a bit more focused on where you want to get the retail side of the inventory a bit more cleared up?
spk03: Good morning, Sabah. Yes, I will get into it. And I think it's important that we realize that when we think about reporting inventory, we're thinking global, right? And so the first call of order is to make sure we understand that within, outside of the North American, particularly the U.S. market, in the U.S. there's quite a big difference. So in Europe, you know, there might be pockets, and I'm talking about, you know, really small pockets in certain countries, but it's not the same as we have in the U.S. So that's the first thing to note. And so we're dealing with those, you know, very specific items in Europe, and we feel good about where we need to get to. So that's point number one. Point number two, when you think about the U.S. within North America, that is where, you know, we have the majority of the issue and where we have the majority of our focus. Within the U.S., you also have to look at channels. And within channels, you have to think about mass, and within mass are two customers, and that is where the majority of the issues are that we're working through. E-commerce is in a very different place. And in fact, club is in a different place. There might be some dollar channels customers that may have sporadic things that we're working through. But that's the context at a geographical and then channel level. And then we do have color and specificity within categories as well. And within infant preschool, you know, Paul exited the year. And Mark, in his remarks, said 16% decline in POS. So we're working through some things. And when you think about it, it's basically some of the themes in Q4 that because of all the congestion of inventory into Q4, we're not able to sell through. And those are new themes. So when you get that new theme into 23, it's not like it's a theme that would have been there for a year. It's a theme that has been there for about three months at best. So that's a condition. There are maybe other couple of categories, but by and large, I think that's the color I wanted to provide.
spk05: Great. And then just a quick one on, you know, you mentioned e-commerce there. Anything, I guess, on that front that you're investing in or changing as we kind of look forward post-pandemic, or is it just more now growing in line with the major customers, whether it's e-commerce only or the bigger box ones? Just curious how maybe you're thinking about that channel as we kind of operate in a post-pandemic world.
spk03: Very differently. It's a big component of our revenue. You know, I don't know if we've put that on the prepared remarks, but I'm happy to share it. It's public, so I'm not saying anything that is not public. The number one customer in the U.S. is no longer who it would have been a year ago. It's actually Amazon. And so we prepared for that over a year and a half ago and changed our technology stock to make sure that we were doing better in that space, not just for Amazon, to be clear, but as other digital commerce was happening, whether at Target or at Walmart or beyond, We adjusted. That's point number one. Point number two, our share has done better in e-commerce than it has in brick and mortar, which is good because we prepare for it. And as we go forward, we have a team solely focused on driving our sales and our content in e-commerce. And it is not just sales and revenue. It's about also marketing our products through that medium. So we have a whole new way to do it. We're excited about it, and it's going beyond the U.S. into other parts of the world.
spk07: Great. Thanks very much. This will be the last question, Operetta.
spk12: Thank you.
spk02: We'll take the last question from Garrick Johnson with BMO. Please go ahead.
spk06: Hey, all right. Thanks. Yeah, the last question here is I want to go back to something that I think, Max, you might have said earlier in the year that you thought Paw Patrol revenue this year would be equal or better to Paw Patrol revenue in 2020, the year before the first movie. Did that play out?
spk03: It did. It did. Eric, I know we couldn't tell you in a quiet period, but, you know, and by the way that happened on revenue on POS, you know, again, we look back to 2019. And we have countries that are in 2022 growing double digit, both revenue and POS. So the difference of development of the property depending on the country. But, you know, we're vigilant and we look forward to a stronger 23 and making sure that brands are healthy, not healthier as we exit the movie year.
spk07: Great. Thank you very much, Max. Thank you.
spk00: Okay, well, that concludes our call. Thank you very much, everyone, and we will be talking to you again in May with the release of our Q1 results. Thank you and talk to you then. Take care. Bye-bye.
spk02: That concludes today's call. Thank you for your participation. You may now disconnect.
Disclaimer

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