RC2 Misses Zacks Estimate

RC2 Corporation (RCRC) reported fourth quarter 2010 adjusted earnings of 49 cents per share, below the Zacks Consensus Estimate of 55 cents, but above 43 cents in the prior-year quarter. The earnings results were driven by top line growth and operating margin expansion.

On a reported basis, including the impact of litigation settlement cost and acquisition-related costs, RC2’s earnings were 45 cents per share, up 18.4% year over year.

For the quarter, net sales upped 2.3% from the prior-year quarter to $124.2 million, inspite of soft retail ordering in North America in the last month of quarter.  Sales were driven by strong organic growth, solid international sales and contribution from recent acquisition of JJ Cole Collection. However, sales were below the Zacks Consensus Estimate of $134 million.

For full fiscal 2010, adjusted earnings per share were $1.45, flat year over year while net sales increased to $427.3 million from $421.1 million recorded in the prior year. Foreign exchange had a positive impact of 1% on full-year 2010 revenues.

Performance Highlights

The company achieved a 6.5% growth in international sales during the quarter, driven by solid international growth in the mother, infant and toddler products category and successful launch of the Chuggington train play Die-cast and Interactive product lines. North American sales inched up 0.9% year over year.

Sales in the Mother, Infant and toddler products (MIT) category escalated 10.9% year over year, attributable to the gains in The First Years gear product lines and Lamaze infant development toys as well as acquisition of JJ Cole Collection.

However, sales in Preschool, youth and adult products (PYA) category dropped 2.8% year over year during the quarter due to the discontinuation of the Thomas & Friends die-cast product line.

RC2’s transition plan for PYA products category remains on track with the launch of new preschool product lines, including Dinosaur Train and Chuggington and growth in Thomas & Friends Early Engineers product, excluding the impact of discontinued product lines, increased 23.0% year over year.

RC2 reported a gross margin of 41.9%, down 350 basis points year over year. The gross margin contracted due to unfavorable product mix, higher product and transportation costs and rise in promotional allowances.

Selling, general and administrative expenses fell 10.5% year over year to $36.6 million due to lower royalty, stock based compensation and variable selling costs, partially offset by litigation-related charges and JJ Cole integration costs. As a result, operating margin enhanced by 230 basis points year over year to 11.9% in the reported quarter.

Financial Position

As of December 31, 2010, RC2 had $58.8 million in cash and cash equivalents and outstanding term debt of $41.3 million on its balance sheet. It has no borrowings outstanding under its $70.0 million line of credit.

Outlook

For full year 2011, RC2 initiated earnings guidance in the range of $1.80 to $1.95 per share compared with the Zacks Consensus Estimate of $1.97.

Management continues to invest in the MIT products category and expects it to continue to perform in fiscal year 2011. RC2 also expects strong 2011 growth in the PYA products category.

The company expects input costs to increase in fiscal 2011. However, RC2 remains focused on eliminating unprofitable and low volume product line as well increasing prices to overcome cost inflation.

Our Take

We remain optimistic about the long-term growth potential of the company with new product launches, possible acquisitions, improved earnings helped by cost-saving measures and a modestly leveraged balance sheet to facilitate growth.

On the flip side, we remain cautious on the stock based on input cost pressure, currency fluctuation risk, soft retail environment and stiff competition from companies such as Mattel Inc. (MAT - Analyst Report) and Hasbro Inc. (HAS - Analyst Report).

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