Ladies and gentlemen, thank you for standing by and welcome to the Mattel Inc. Third Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions]. It is now my pleasure to introduce VP, Investor Relations, David Zbojniewicz.

Thank you, operator, and good afternoon, everyone. Joining me today are Ynon Kreiz, Mattel's Chairman and Chief Executive Officer; Richard Dickson, Mattel's President and Chief Operating Officer; and Anthony DiSilvestro, Mattel's Chief Financial Officer. As you know. This afternoon we reported Mattel's 2020 third quarter financial results. We will begin today's call with the Ynon and Anthony providing commentary on our results, after which we will provide some time for Ynon, Richard and Anthony to take your questions. To help supplement our discussion today, we have provided you with a slide presentation. Our discussion, slide presentation and earnings release reference non-GAAP financial measures including gross sales, adjusted gross profit and adjusted gross margin, adjusted other selling and administrative expenses, adjusted operating income and loss, adjusted earnings and loss per share, earnings before interest, taxes, depreciation and amortization or EBITDA, adjusted EBITDA, free cash flow and constant currency. Please note that the gross sales figures referenced on this call will be stated in constant currency. In addition, please note that our accompanying slide presentation can be viewed in sync with today's call when you access it through the Investors section of our corporate website corporate.mattel.com. The information required by Regulation G regarding non-GAAP financial measures is included in our earnings release and slide presentation, and both documents are also available in the Investors section of our corporate website. Before we begin, I'd like to remind you that certain statements made during the call may include forward-looking statements related to the future performance of our business, brands, categories and product lines. These statements are based on currently available information and assumptions and they are subject to a number of significant risks and uncertainties that could cause our actual results to differ from those projected in the forward-looking statements including risks and uncertainties associated with the COVID-19 pandemic. We describe some of these uncertainties in the Risk Factors section of our 2019 Annual Report on Form 10-K, our Q2 2020 quarterly report on Form 10-Q, our earnings release and the presentation accompanying this call and other filings we make with the SEC from time to time, as well as in other public statements. Mattel does not update forward-looking statements and expressly disclaims any obligation to do so except as required by law. Now, I'd like to turn the call over to Ynon.

Thank you for joining Mattel's third quarter 2020 earnings call. I hope that you and your families are staying healthy and safe. This was a very strong quarter for Mattel. We saw a major upswing in top line and a significant increase in profitability. We continue to make meaningful progress towards becoming an IP driven high performing toy company. Here are some of the key highlights for the third quarter. Gross and net sales grew strongly versus prior year. Gross sales were $1.8 billion, up 10% as reported and up 11% in constant currency. Net sales were $1.6 billion, also up 10% as reported and up 11% in constant currency. Adjusted gross margin was 51%, a substantial improvement of 410 basis points. This was the ninth consecutive quarter in which we improved adjusted gross margin on a year-over-year basis. Adjusted operating income grew strongly to $401 million, up 131%, and adjusted EBITDA improved significantly to $470 million, an increase of 90%. The toy industry as a whole grew meaningfully and continues to demonstrate its resilience in challenging economic times. The industry is yet again proving to be a strategic category for retailers as parents continue to prioritize spend on their children and look for high-quality products at affordable price points. Mattel's growth outpaced the industry as we gained share in key markets around the world and achieved growth in each of our 4 regions. Our POS momentum remained strong throughout the quarter with total company POS up double digits and outpacing sales. POS momentum has continued into October. A key highlight for the quarter was our growth in E-commerce while we continue to see sales outpace other channels, even as more stores reopened. E-commerce grew by approximately 50% versus prior year, and it now represents approximately 30% of our global…

Thanks, Ynon. We had an outstanding quarter, with results exceeding our expectations following a first half that was impacted by store closures and restrictions due to COVID-19. We are very pleased with the continuing improvements in gross margin, a key driver of our overall financial performance as we continue to benefit from our cost savings programs. Our cost savings programs in aggregate delivered $37 million of savings in the quarter, bringing the year-to-date total $149 million. Cumulatively, we remain on track to exceed $1 billion of savings exiting 2020. Today, we will be providing 2020 guidance reflecting our year-to-date performance and positive outlook for the fourth quarter, including the all-important holiday season. I will now review our detailed results. In the third quarter, we generated gross sales of $1.818 billion and net sales of $1.632 billion, both increasing by 10% as reported and 11% in constant currency versus prior year. On an adjusted basis, we generated $401 million of operating income, increasing by 131% year-over-year. This substantial increase reflects gains across the P&L, including higher sales, gross margin expansion reductions in advertising, in part due to timing and lower SG&A. Adjusted EPS in the quarter was $0.95, 265% higher than the prior year. Adjusted EBITDA was up substantially, improving by $222 million or 90% to $470 million. This was driven by gains in operating income, partly offset by lower depreciation as we’ve reduced our capital spending over the past few years. Bridging our third quarter gross sales performance by reporting segment. North America increased by 13% in constant currency versus prior year. The increase was fueled by double-digit POS growth which outpaced the industry as our teams together with our retail and online Partners executed extremely well. International increased by 10% in constant currency versus prior year. This was driven…

Thank you. [Operator Instructions] And our first question comes from the line of Michael Ng with Goldman Sachs.

Great, thank you very much for the question and congratulations on the great quarter. I just have two questions. First, there were a few theatrical shifts in the quarter, Minions got pushed out for instance, and didn't really show up in your results in all. But I was wondering if you could talk about the impact of theatrical shifts and discuss some of the key partner brand initiatives that you have for this year and next. And then I just have a quick follow up.

Yes, hi, Michael. Thank you. The -- as you noted, theatrical releases have been shifted away from this year to next. This while had some the impact on us overall didn't change the very strong performance we expect to have in the second half of the year and see growth in the fourth quarter. With that said, we do expect performance to be positively impacted next year with the additional releases theatrically and there is actually a pretty strong slate of movies that we expect such as Minions, Spirit, Jurassic World 3, Fast and Furious, Top Gun, all at this point expected to show next year. So this in addition to our own strong portfolio of brands and product bodes well for us in 2021

Great, thank you. And I just had a follow up question on the guidance. Can you talk about some of the assumptions in the 4Q growth outlook of mid-single digits, particularly given the 10% growth in 3Q? Did 3Q benefit from an outsized amount of retail inventory restocking? Is there anything in particular you would call out? Thank you very much.

Just to say that we are seeing a significant upswing in revenues with our top line now forecasted to be to be up high single digits in the second half versus a double-digit decline in the first half. We do expect an improved second half, but we did not anticipate such a strong upswing in such a short time when we entered peak production and planned our inventory. POS remains strong and there is continuing demand for our product. And while our supply chain is fully operational, we are chasing extraordinary growth in demand. We gave you guidance and we do expect to meet our gross sales guidance, but we cannot be certain we will fully meet the surge in consumer demand. We continue to work closely with our retail Partners on the challenge of meeting the strong demand heading into the holiday season.

Just add to that, we did -- do see the restocking of retailer inventories. This is the typical seasonal build that we see in the third quarter, but we did end the quarter below last year's levels. And when you consider the strong POS or weeks of supply are also down at the end of the third quarter.

Yes, good, good add. Thank you.

Thank you. Your next question comes from the line of Garrick Johnson with BMO Capital Markets.

Okay, thank you. Sounds like supply is good, but can we go into more detail there? We've been hearing about difficulties getting continuous for exist -- for instance. So how is that supply chain? How are your factories in Asia? And then also how are your retailers? There may be some retailer bottlenecks that we've been hearing about as well. So if you'd go through all that. Thank you.

Yes. Our supply chain is fully operational, and as I said, we, at this point, chased the extraordinary growth in consumer demand for our product. And we work closely with our retail Partners on the challenge of meeting the demand heading into the season. This is not impacted by COVID. This is literally all about surge, surge in demand. As far as retail closure, as we noted in the preferred remarks, at this point 2% of stores that sell our product are closed, representing about 1% of our revenue base. In North America and Europe, the retail is 100% open LATAM is about 2% closed and Asia Pacific about 7% closed

Okay. But none of your retail partners having any problem flowing goods, they're all pretty clean?

Yes, the retail partners are doing a great job, really chasing as well demand we've done -- together we worked hard to fulfill the demand. They are doing an excellent job in offering a multi-channel offering omnichannel solutions for shoppers and we expect that this will remain an important category for them, a strategic category for them, heading into the holiday season.

Yes. And my last one, some big Barbie playsets were really good sellers over the summer, Board & Buster's offering kids activities while they're at home. Do you believe this has pulled some sales from fourth quarter when those products would have traditionally been sold? So yes, especially on those Barbie Dreamhouses, there were lot of those sold I think in July. Thank you.

Yes, we do not believe there was pulled forward as it relates to shipment or consumer demand. The -- in the third quarter, some restocking did occur but retail inventories are still down in absolute dollars and bouncing definitely in weeks of supply. So as it relates to consumer demand, our own internal shopper research shows that the vast majority of parents plan to spend the same or more on holiday tote purchases throughout the fourth quarter.

Thank you. And our next question comes from the line of Arpine Kocharyan with UBS.

Hi, thanks very much. Thank you for taking the question. Could you actually quantify where retail inventories are? I know you said in your prepared remarks that that number was down year-over-year as of end of the quarter and you -- if you have that number for North America as well as internationally that would be most helpful. And then I have a quick follow up. Thanks.

Yes, we don't have the specific number, but let me give you some additional context on retailer inventories. And going back to the beginning of 2020, we came into the year with retailer inventories higher than the prior year. And then as we talked about at the end of Q2, we talked about retailer inventories being down versus the prior year. And then as I said earlier, there was the seasonal build in the third quarter of retailer inventories but at the end of the quarter we're still down a little bit versus the prior year. Not as much as we were at the end of the second quarter, but when you consider weeks of supply, given the high growth of POS, the weeks of supply are down rather significantly.

Okay, that's very helpful. Thank you. And then, Ynon, you mentioned October retail momentum has held up. Should we assume you continue to see double-digit increase in POS into October?

We gave you guidance for the quarter and what I can say in addition to that is the POS momentum is strong. It remained strong throughout the quarter with total Company POS up double-digit as we said, outpacing sales. The good news is that there is strong demand for the product and at this point, it remains ahead of sales. All of this we believe will be -- will point to a strong season for us.

Thank you very much.

Thank you. And our next question comes from the line of Tami Zakaria with JP Morgan.

Hi, thank you so much for taking my question. So very impressive quarter, congrats to the team. I just have two quick questions One is, historically if you look at the fourth quarter sales versus the third quarter, usually the fourth quarter is bigger in dollar amount versus the third quarter but it seems like you're guiding the fourth quarter to be similar to the third quarter this time around. So is that conservatism or there is something specific that's driving that outlook for the fourth quarter?

Yes, hi, Tami. Thank you for the question. As I said, this is not about change in demand. The demand is still strong. At this point, it's about being able to fulfill the demand. This is why we say we are chasing the -- this extraordinary surge that we see in demand. When you consider that we went from a double-digit decline in the first half to a double-digit growth in the third quarter and a high single-digit growth overall in the second half, at this point it's all about being able to fulfill this very strong extraordinary growth in demand.

Got it, got it, that's super helpful. And then another quick one is, for the Thomas & Friends movie that you just announced, are you planning to co-produce that movie? Meaning if there is upside to the movie revenues, will you be sharing in that economics, or it's just going to be more like a product-driven revenue?

Well, we haven't disclosed the terms of the distribution of the movie, in other words, the commercial arrangements about the movie. This is a development deal with Marc Forster. The -- we have different types of relationships and agreements with different studios, and directionally we always expect to have economic upside in our movies. This is not -- none of our movies are purely about a licensing deal. We do get paid, but we also retain upside in the economic success of our projects.

Got it, that's super helpful. Thank you so much and best of luck for the quarter.

Thank you. Thank you.

Thank you. And our next question comes from the line of Steph Wissink with Jefferies.

Thank you. Good day, everyone. We would like to isolate two areas if we could. The first is on A&P. Think you mentioned that your expectations for the year are right around the midpoint of that 11% to 13% range, which would imply a pretty significant step up in Q4. So our question is, have you already committed to that amount or is that kind of banking the value in case you need it? Particularly, just want to reconcile that with your comments on demand outstripping supply. And then really quickly just on E-com, because that seemed to really stand out, both for American Girl and for the total Company being almost a third of your business now. If you talk a little bit about what a higher percentage of E-comm penetration might mean to the timing of revenues, the scope of your advertising and promotions, anything that we should be thinking about in terms of that channel shift. Thank you.

Yes, I'll start with the advertising question and give you a little bit of context. If you go back to the beginning of the year, we did say we expect the shift of advertising to the back half and that's turning out to be more of a shift between Q3 to Q4 as well. Don't want to get into too much specifics for competitive reasons, but let me say that some of that shift is due to year on year timing and some of it is the result of aligning our spend with consumer shopping behavior. As you point out, we also said for 2020, we expect to be near the midpoint of the 11% to 13% of net sales range. And as you do the math, you will see that's a pretty significant increase in our fourth quarter spending as we support our products during the holiday shopping season when consumers are making those purchase decisions and I would also say that most of that spend is largely committed at this point. Yes and Steph, I take the E-comm question. So as we said in the prepared remarks,

We are seeing very strong growth for us in E-commerce and online retail, more than 50% growth now representing 30% of our global POS. In the case of American Girl, B2C more than doubled and now represents more than 50% of sales. So clearly a very important part of the business. As it relates to our economics, what we are seeing is a high propensity of online shopping among consumers. And at the same time, traditional retailers are doing really good work in evolving in that direction, offering more solutions for shoppers. So this is really about being at the front of the curve of responding to change in consumer behavior and being able to meet demand wherever consumers are. We haven't broken out the economics, change in margin and things of that nature, but I would say that as the future becomes more about online shopping and online retail, our ability to be at the front of it is going to be very important for our growth. It is part of our strategy, as you know, it's always been on that one page that we have, what did change is the timing of it. We are accelerating the execution of this part of the strategy given the importance of this channel.

Thank you.

Thank you. Your next question comes from the line of Linda Weiser with DA Davidson.

Thanks. Hi, I'm trying to do the math on the EBITDA and what would be implied for the fourth quarter. It looks like your implied guidance is just slightly lower than where the street is. So I was wondering if there is any way you can quantify the increase in incentive comp or what the year-over-year increase in incentive comp would be or if there is any other factors that are affecting the SG&A in fourth quarter? Thanks.

Yes, I'll take that. You've got your math right. On a full-year basis, we're going from $453 million to $625 million to $650 million on adjusted EBITDA and that implies that a smaller growth in the fourth quarter. I would tell you the biggest change is actually in the advertising line. When you go through the math, I just talked about the midpoint of 11% to 13% against where we are year-to-date implies a very significant increase in advertising, and that shift right between the first three quarters and the last explains most of that delta in terms of growth in EBITDA compared to the prior year. Specifically around SG&A, as we said in our remarks, we do expect to generate the $90 million of net SG&A savings that we talked about before. But sitting here today, our expectations and guidance for the full year is above our original expectations. So we're accruing to above target incentive compensation, don't want to quantify that yet. It's all based on forecasts and estimates, so it's a little bit premature for us to do that. But again, the biggest factor is that shift in advertising.

And Linda, let me just add that the EBITDA guidance that we gave is as you know, $50 million more or higher than the guidance we gave before the disruption which we pulled. So coming back and upgrading that number by $50 million after such a strong -- such negatives first half tells you a story of a strong, very strong performance in the second half overall.

Thank you very much.

Thank you. Your next question comes from the line of William Reuter with Bank of America.

Hi, thanks for taking the question. In your -- one of your first slides of the presentation, you talk about the industry as a whole growing meaningfully and Mattel growing ahead of that. It's based on your internal numbers. What do you think that the toy industry did grow at? And I'm wondering as a whole, the industry growth. What do you attribute this to and I guess how much of it may be related to COVID in some way?

Yes, look, the industry as a whole did grow meaningfully and continued to demonstrate its resilience even in challenging economic times. We see that parents continue to prioritize spend on their children and look for high-quality products at affordable price points. The industry is a strategic category for retailers. It drives foot traffic, even though there is not a lot of foot traffic in stores, but it definitely increases engagement and an important category for them. The retail partners themselves have done a really good job adapting to the new current environment and we expect them to continue to drive shopping among consumers, especially as we head into the season. While we believe some of the growth that we see in the industry, is because of COVID, it's important to note that the toy industry has been growing historically and was projected to grow before COVID. We always point to euro monitor research the forecast growth of 4.9% on a global basis through 2024. This is actually expected to be driven by the Dolls category, which is meant to grow at about 10% per year, which is a good thing for Mattel. And I would note that within these dynamics, we expect to continue to outpace the industry growth and continue to perform above industry averages.

That was a very wholesome answer and helpful. Just one more question. Given your credit metrics have improved so much, do you have a leverage target at this point? Or are you thinking about -- hoping or trying to achieve an investment grade credit rating?

Yes. So a couple of things on that front. First, we are very pleased with our free cash flow performance. We've talked about the last four quarters being a positive $130 million, and our intent is to pay down debt going forward to improve our leverage ratio. If you combine that with the adjusted EBITDA performance and the trajectory we expect, our leverage will continue to decline and improve over time. And we are targeting and an investment grade rating. I don't -- can't give you a date for that but directionally that's where we're headed. If you look at some of the metrics on a trailing four-quarter basis, we ended the third quarter debt to adjusted EBITDA at 5.3 times and that compares to 6.9 times same period 12 months ago. So significant improvement and we expect that to continue to improve as we head towards investment grade.

Thank you and good luck for continued success.

Thanks, Bill.

Thank you. Your next question comes from the line of David Beckel with Berenberg Capital Markets.

Thanks so much for the question. I have two, if I could. The first one with regards to gross margin for next year. I was curious to what extent should we expect certain areas of outperformance this year from things like royalties and mix to reverse next year? And then I have a quick follow up. Thanks.

Yes. So not prepared to give guidance for 2021 at this point, but needless to say, we're very pleased with the performance on gross margin and the fact that we're going to be up 350 to 400 basis points this year to a range of about 48.5% to 49%. If you go back in time, 2017, that gross margin was just around 38%, so significant improvement. And that's really the result of all the great work the Company has done around cost savings both Structural Simplification and the Capital Light program. Now the Capital Light program is a multi-year program addressing our plant footprint, reducing SKUs by over 30%, other productivity measures. We do expect that to continue to contribute into 2021, I don't have a number for you yet. And we will also look for other opportunities and efficiencies to further improve our gross margin.

Great, that's helpful. Thanks. And second question is around E-commerce and specifically direct to consumer. You called out Masters of the Universe and collector sets as a partial driver of sales this year. I was wondering if you could expand on that and just shed some light on to the extent to which that forms or is the broader E-commerce and direct to consumer strategy that you expect to roll out in the future?

David, it's too early to talk about that, to provide specific detail. But as I mentioned before, online retail and E-commerce and B2C especially is an important part of our strategy and we'll be able to share with you more down the road as we make further progress.

Fair enough, thanks.

Thank you. Your next question comes from the line of Felicia Hendrix with Barclays.

Hi, thank you. Good afternoon. So Ynon, you guys have had now a nice string of reporting upside in the quarters, and I do think everyone appreciates your conservatism. But it would be helpful to know what the biggest surprise was in terms of biggest delta I would say between your outlook and then what you reported. And I think you touched on it very early in this call in Michael's question, but maybe if you could help peel back those layers a little bit more. And then as you look to the end of the year, on the same lines, what do you think the biggest drivers of potential upside could be?

Thank you, Felicia. You've been following the Company and you know that we've done a lot over the last couple of years and many of the actions that we took before the pandemic to reshape and simplify our operations as part of our turnaround strategy are definitely working. Our brands and our products resonate very well with consumers and our partnership with retailers and driving demand is working very well. And when you ask about surprise, we did expect growth as we've said in the second quarter, we said that we expect growth. But clearly this surge and incredible momentum we have both top line and bottom line is very strong. The quality of the numbers, the fact that we grew in every region and broadly across the entire portfolio, seeing such strong growth in profitability, all of this is very strong. And as it happens, this was actually the highest quarterly growth for Mattel in the past 10 years of any quarter, not the third quarter, of any quarter. This was the highest growth for Mattel in any quarter in the last 10 years. And when you add that to the continuous improvement in gross margin nine quarters in a row where we continue to improve gross margin on a year-over-year basis with such strong momentum, all of that is -- speaks to the progress we are making. I can't see it here and tell you that it's exactly as we planned. It's fair to say it's ahead of our expectations and we're not slowing down. We keep up the momentum, we focus on execution, and it's great to see the results coming in.

Yes, I get all that. I guess what I'm just wondering is like, what -- because that you all -- you know before. So what I'm trying to say is like was it the restocking that was faster than expected, were there certain products that just had a stronger peak in retail? I mean, was there anything that was -- what was specifically different? Because I think what we're all trying to do is gauge fourth quarter and certainly there is some conservatism built in there as well.

I wouldn't say we're not -- I'm not trying to avoid the question. It's in a way a tale of two halves for the year. We did have a challenging first half, and obviously we've done -- we've seen a very strong momentum in the third quarter and expect that to continue in the fourth quarter. The performance was broad based. I literally can't sit and just point to one part of the Company. Dolls as a whole category grew 24%. Vehicles -- Hot Wheels was up 9%, even our Challenger categories were up 14%. Our growth in the US was 1.4 times the industry's growth rate. We were number one in the region in the third quarter. In Europe, we grew at twice the rate of the industry and gained share throughout the quarter per NPD. So you look at our categories, you look at our regions, the Company as a whole is performing very strongly and together with the momentum we are seeing in the market, partly driven by the -- by what retailers are doing themselves, very strong demand from consumers. All of this comes together to these numbers.

Yes, I would just add to that. As you look to the fourth quarter, there is a couple of factors at play. One is the continued POS growth, the other is our supply chain ability to supply and that's what Ynon was talking about in terms of we can't be certain that we could fully meet that surge. So that's the other factor as we look ahead in the near term.

Okay, thank you. And just very quickly on Fisher-Price, just do you expect to see more of a positive momentum in the fourth quarter? Right now you're lagging in North America, but just wondering that and how long it would take through to work or through some of the underperforming brands that you mentioned in the in the deck?

Yes, hi. It's Richard, Felicia. Yes…

Hi.

We've been very encouraged with the progress that we're making on Fisher-Price. We've been seeing consistent POS growth for the last two consecutive quarters. It's been driven by new innovation, great new compelling product, and Mattel led by Fisher-Price is still the number one leader in the Infant, Toddler, Preschool category, continuing to be this incredibly valued brand by parents and trust which is such an important attribute today more than ever. So you'll see a lot more progress on Fisher-Price. But we're really encouraged with the last two quarters of positive POS.

Great, thank you.

Thank you. That is all the time we have for Q&A. So with that, I will turn the call back over to Chairman and CEO Ynon Kreiz for closing remarks.

Thank you, operator, and thank you everyone for your questions. This was a very strong quarter for us. We continue to make meaningful progress towards becoming an IP driven high performing toy company. I would not say that the COVID disruption and volatility is over and that macroeconomic uncertainties do not remain, but seeing such strong growth in top line and even more so on the bottom line in the midst of a pandemic is another clear sign that our turnaround is working. We believe there is more to come. And as always, we remain focused on creating long-term shareholder value. We hope that you and your families are healthy and safe. And now, I will return the call back to Dave to provide the replay details. Thank you.

Thank you, Ynon. And thank you everyone for joining the call today. The replay of this call will be available via webcast and audio beginning at 8:30 PM Eastern Time today. The webcast link can be found on our Investors page or for an audio replay, please dial 404-537-3406. The passcode is 3348954. Thank you for participating in today's call.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating and you may now disconnect.