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Hasbro: Wizards of the Coast Shines Despite Trade War Disruption

The U.S.-China trade war has resulted in both elevated tariffs and heightened uncertainty for global supply chains. The results of this uncertainty were on full display in the third-quarter earnings reported by Hasbro Inc. (NASDAQ:HAS) on Oct. 22. As we discussed in a recent research note, tariffs weighed heavily on Hasbro's bottom line thanks to significant disruption to ordering and logistics.


While the latest earnings print was not what the market had hoped for, there were a few bright spots worthy of note. They will have to shine far brighter, however, if they are to overcome the broader macroeconomic and geopolitical challenge.

Wizards of the Coast still brings the magic

While many of Hasbro's products and properties saw a tough sales environment in the third quarter, one of its subsidiaries, Wizards of the the Coast (WotC), held up well. The group is responsible for a number of key legacy gaming properties, most notably Magic: The Gathering and Dungeons & Dragons. As gaming industry website Bell of Lost Souls pointed out in an Oct. 24 article, Dungeons & Dragons has continued to thrive, even as other games have faltered:


"Even with profits for the quarter down 19% compared to last year, Dungeons & Dragons is still growing strong, with Goldner projecting that WotC sales could still be doubled over the next five years, as they have been over the past five. Other big Wizards of the Coast news from the call includes the reveal that the company has a host of new digital games in development, with 'close to a dozen games' expected to be delivered over the next five to six years."



Unfortunately, while WotC's continued strength was a welcome bright spot, it was not enough to make up for a dismal quarter elsewhere. Still, the continued strength and exciting growth trajectory for the company's core properties suggest that Hasbro has a brighter future than the last quarter's financials might imply.

More disruption on the horizon

The company will have to overcome the tariff issue if it hopes to regain market confidence, but that may prove a difficult task. It is already working to mitigate the challenges in order to better navigate a more difficult market, but as Chief Financial Officer Deborah Thomas has warned, investors should still expect more disruption ahead:


"Hasbro's global teams are executing within a dynamic trade environment that is impacting the timing of revenues, driving incremental expenses and putting upward pressure on our underlying tax rate," said, Hasbro's chief financial officer. "In addition, third quarter operating profit was negatively impacted versus last year from lower Entertainment, Licensing and Digital segment margins, a higher revenue mix of lower margin Partner Brands and incremental shipping and warehousing costs which partially offset our cost savings. We anticipate disruption throughout the remainder of 2019 as retailers work to manage costs and inventory and we are working to mitigate the impact on consumers this holiday season."



Hasbro has not attempted to sugarcoat the fact that the third quarter was tough. It has also made it clear that overcoming the problem will take time. Disruption is to be expected for a toy company.

In management we trust

While Hasbro faces challenges, it has not been idle. Indeed, it has been working to adapt to a new market reality, with all its fresh uncertainties and volatility. As CEO Brian Goldner remarked during the earnings conference call, Hasbro is already making some positive progress toward this end in the fourth quarter:


"We are working to catch up in the first weeks of the fourth quarter and, while early, we are seeing strong consumer demand for these new initiatives. We are working diligently to improve our approach to domestic shipments, and still face the prospect of more direct import cancellations and shifts to domestic orders as the December 15 List 4 date approaches for most of our product lines. We've built a domestic supply chain that, like much of our approach to product manufacturing and distribution, is asset light. We have historically used a balance of customers' shipments and our own domestic shipments through third-party suppliers to manage our costs and make our supply chain most effective and cost efficient. In this current environment, we've been transitioning and redesigning our U.S. supply chain at pace."



Much work remains to be done, but there is good reason to trust in management's ability to execute and deliver the goods. The company has a clear vision for its future, and a number of assets and properties, especially in digital gaming, offer a path to long-term growth.

Verdict

Hasbro will need to do more to convince us that it is a worthy investment play, even after a 20% drop in share price since the earnings report. But this is definitely a story worth watching.

Disclosure: No positions.

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This article first appeared on GuruFocus.