Funko, Inc. (NASDAQ:FNKO) Q1 2024 Earnings Call Transcript

Funko, Inc. (NASDAQ:FNKO) Q1 2024 Earnings Call Transcript May 9, 2024

Funko, Inc.  isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good afternoon, and welcome to Funko’s 2024 First Quarter Financial Results Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at the time. Please be advised that reproduction of this call, in whole or in part, is not permitted without written authorization from the company. As a reminder, this call is being recorded. I would now turn the call over to Funko’s, Director of Investor Relations, Rob Jaffe. Please proceed.

Rob Jaffe: Hello everyone, and thank you for joining us today to discuss Funko’s 2024 first quarter financial results. On the call are Michael Lunsford, our Interim Chief Executive Officer; Yves LePendeven, our acting CFO; and Cynthia Williams, our Newly Appointed CEO. This call is being broadcast live at investor.funko.com. A playback will be available for at least one year on the company’s website. I want to remind everyone that during the course of this call, management’s discussion will include forward-looking information. These statements represent our best judgment as of today about the company’s future results and performance. Our actual results are subject to many risks and uncertainties that may differ materially from those stated or implied including those discussed in our earnings release.

Additional information concerning factors that could cause actual results to differ materially is contained in our most recent SEC reports. In addition, during this call, we refer to non-GAAP financial measures that are not prepared in accordance with US Generally Accepted Accounting Principles and may be different from non-GAAP financial measures used by other companies. Investors are encouraged to review Funko’s press release announcing its 2024 first quarter financial results for the company’s reasons for presenting non-GAAP financial measures. A reconciliation of the non-GAAP financial measures to the most directly comparable GAAP financial measures is also attached to the company’s earnings press release issued earlier today. I will now turn the call over to Mike Lunsford.

Mike?

Michael Lunsford: Thanks, Rob and good afternoon, everyone. I’ll begin with the announcement made earlier today that our Board of Directors has appointed Cynthia Williams, as Funko’s next CEO. Cynthia’s experience across the consumer products, gaming and e-commerce industries, combined with the growth she spearheaded while at Hasbro, Microsoft and Amazon made her the clear choice to be our next CEO. We welcome Cynthia to the Funko family. I can tell you Cynthia is eager to get started and I’m pretty eager for it to get started. She is here with us today and will make a few introductory comments a little later in our presentation. Turning to our financial performance, we reported a solid overall first quarter. Net sales of almost $216 million were within our guidance range albeit at the lower end.

Sales of some lower-margin products shifted to Q2 from Q1. Otherwise, our net sales for the quarter would have been close to the midpoint of our expectations. Gross margin of 40% and adjusted EBITDA of $10 million were both well above our expectations. One key driver for the increased gross margin was higher than expected margins on sales in the value channel, which is the result of the processes we put in place to improve inventory management. Another key driver was lower than anticipated freight costs. Operationally, we continued to make progress reducing our inventory levels and paying down debt. At the end of Q1, inventory was $112 million, down from $119 million at December 31, 2023 and total debt was down $27 million. This is on top of the progress we made last year reducing inventory levels by more than half.

What a difference a year makes. Since Q1 of 2023, we’ve made tremendous progress reducing inventory levels, lowering fulfillment costs and improving service levels. And just last month, almost two years to the day of opening our new warehouse in Arizona, we hit the milestone of over $100 million units shipped. Turning now to our outlook. We are reiterating our full year 2024 guidance. As expected, a lack of new entertainment content, primarily due to the recent Hollywood strikes impacted our Q1 top line. We expect the content schedule remaining soft into Q2 and then strengthening in the second half of the year. With regard to freight, our original forecast assumed a substantial increase in shipping costs due to conflicts in the Red Sea. Freight costs in Q1 were lower than we anticipated and have stabilized.

Nonetheless, our logistics team continues to look for ways to manage and mitigate fluctuations in these costs. Turning briefly to a couple of recent product highlights and how they relate to our growth plan. With regard to focusing on our fans and unmatched brand, on our last call, we spotlighted our pre-sale capabilities with the limited edition Jason Kelce Pop! figure. Building on that success, we recently launched several exciting collaborations, including the DunKings and Project Fred, Big Boy, Coke and Sprite campaigns. And earlier today, we launched our first edition of the Jumbo Chan line. This new collectible line initially features our nostalgic and iconic Freddy Funko in a new anime stylization. All of these exclusive drops of premium priced limited edition collectible items have all sold out and have been creating brand heat with our core customers.

To focus on fewer products done extremely well, we are emphasizing evergreen and replenishment sales of Bitty Pop! to drive SKU efficiencies and produce characters that consistently resonate with customers. And Pop! Yourself as a great example of investing in areas we have better control over and expect to be able to measure and grow profitably. We continue to add options and accessories to our Pop! Yourself line. In Q1 Pop! Yourself sold especially well as a Valentine’s Day gift and the team is gearing up for the upcoming Mother’s Day and Father’s Day holidays. In April we launched a Pop! Yourself two pack, strategically in time for the upcoming wedding season. Since launch two-packs have generated more revenue than the singles. What we thought was going to be a nice addition to the line has performed well above our expectations.

And as a sign of the product’s growing consumer awareness, Pop! Yourself was featured in a New York Times round up of best wedding guests. In combination, these highlights demonstrate how we keep the flywheel turning where each action we take builds on the previous one propelling positive momentum. With that, I’ll now turn it over to Yves to take you through the financials. Yves?

Yves LePendeven: Thanks Mike. Hey, everyone. Thanks for joining us today. For the first quarter, total net sales were $215.7 million. Direct-to-consumer sales mix in Q1 was 23% of our gross sales, up from 19% in last year’s Q1. This represents 5% direct-to-consumer sales growth, which we achieved despite a lack of new entertainment releases due primarily to the Hollywood strikes. As we said previously, a key element of our strategy is to continue to grow our direct-to-consumer business, which in turn helps our gross margin. Gross profit was $86.3 million and gross margin was 40%, which was well above our guidance and significantly higher than our gross margin in any quarter in 2023. SG&A expenses of 85.6 million included nonrecurring charges of $5.1 million, primarily related to severance and non-cash charges associated with exiting certain business lines.

Adjusted net loss was $9.2 million or $0.17 per share which was better than our guidance range for the quarter. And finally, adjusted EBITDA was 9.6 million, which was well above our guidance range. Turning to our balance sheet. At March 31, we had cash and cash equivalents of 26.1 million, which is after we paid down 27.4 million of debt in the first quarter. Our total debt was approximately $246.4 million, which includes the amount outstanding under the Company’s term loan facility net of unamortized discounts balance on our revolving line of credit and our equipment finance loan. Total company liquidity was $69.1 million and inventory was $112.3 million, which was down from a $119.2 million at December 31, 2023. Turning to our outlook. We are reiterating our 2024 full year expectations, which are net sales of between 1.047 billion and $1.103 billion and adjusted EBITDA of between $65 million and $85 million.

For the 2024 second quarter, our guidance is as follows. Net sales of between $225 million and $240 million, gross margin of approximately 38% to 40%, SG&A expense of 80 million to 85 million, adjusted net loss between $8 million or $0.15 per share and $4 million or $0.08 per share. Finally, we expect adjusted EBITDA of between $9 million dollars and $15 million. We expect our financial results to be stronger in the second half of 2024 than in the first half due to the natural seasonality of our business, as well as an expected easing of the impact of the Hollywood strikes. Mike, that’s it for our financial results. Back over to you.

Michael Lunsford: Thanks Steve. In summary, we reported a solid overall financial performance in Q1, we continued to make progress reducing our inventory levels and paying down debt. Our outlook for 2024 reflects a renewed focus on our core business especially those areas we have greater control over and believe we can grow profitably. And we announced our new CEO, Cynthia Williams who is expected to start on May 20th. With that and before we open up the call for questions, I’ll turn the call over to Cynthia who has comments you’d like to share. Cynthia?

Cynthia Williams: Thanks Mike, and hi everyone. I’m Cynthia Williams. And as you know, I’ll be taking over as Funko’s permanent CEO later this month. I thought, it would be helpful to introduce myself before I began immersing myself in the company and my new role. I’d like to start by saying I am incredibly excited about joining Funko. From my perspective, the company has lots of potential. Funko has a long history and as a leader in the collectibles space has several global brands, innovative and unique products and a passionate and loyal customer base system. But most exciting to me as a multiple opportunities for substantial growth, especially in the areas Mike discussed on-demand music and sports as well as the company’s direct-to-consumer channel and international growth.

I believe Mike and the team have done an excellent job of refocusing the company from its core assets, reducing cost, improving the profitability, and creating a solid foundation upon, which we can scale the company in a profitable way. As you probably saw in the press release, I have a deep background with consumer products, gaming and e-commerce, as well as extensive experience growing brands to a global consumer base. Having worked in adjacent industries and having had previous dealings with some of Funko’s key customers and strategic licensing partners, I am ready to hit the ground running, my first priority will be to get to know the management team and the employees at our various locations and do a deep dive to learn more about Funko’s capabilities.

In short order, I also intend to meet with our strategic partners and key customers. With that brief introduction, we’ll open the call for questions. Operator?

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question today is from the line of Eric Wold of B. Riley. Please go ahead. Your line is open.

Eric Wold: Thanks Jacqueline. We’re glad to be on the call, the first time here and welcome Cynthia. I guess a couple of questions for me. I guess one on each one of the main drivers behind the stronger gross margin in Q1 and the guidance for in Q2 of 38% to 40%, I guess. So what are the main variables that would take you to the 38% or the 40% within that range? And given what you see in Q1 we expect for Q2, should we think of these this gross margin in the high 30% to 40% kind of a new baseline going forward.

Yves LePendeven: Hey Eric, this is Yves, thanks for the question and good to have you on the call. Yeah, I guess I could speak to that first again reiterating why our margin was 40%. Our gross margin was 40% in Q1, so we did benefit from a few things. Freight costs were lower than we initially expected, direct-to-consumer mix was 23% of sales. And we did benefit from having a much cleaner inventory position than we’ve had in the past year, so all of those were kind of the drivers. And then when you think about Q2, we feel good about maintaining direct-to-consumer at around that 20% to 25% of our sales mix, which will help our gross margin. The freight costs we anticipate will remain pretty stable. I think that the main difference between a 38% and 40% gross margin would be timing of shipments to our wholesale customers.

As you know we have a wide variety of products and customers and so sales mix can have a little bit of impact on gross margin, but we feel pretty, pretty good about that range right now.

Eric Wold: Perfect and the second question obviously — sorry.

Michael Lunsford: Sorry, Eric I think the second part of your question was this is Mike, was that is this the new normal this 40 or 38% to 40%? The new normal. I don’t know that we’re willing to commit to that yet, but certainly seems that we’ve gotten to a point where that is something you could perhaps builds your models around.

Eric Wold: Perfect. And then last question. Yves, you’re expanding that the Pop! Yourself and kind of promoting around a variety different events and holidays. And any early read you want to share on the percentage of customers coming to your website to order a Pop! Yourself, but have never ordered on your site before and if you’re seeing any trends again, them returning at later dates for we are purchases outside the Pop! Yourself

Yves LePendeven: Without getting into specific numbers and any by we’ll know more what we’ve shared and what we can share. I would say that the percentage of people who are coming in to buy Pop! Yourself are very high percentage, are first-time customers. And that is great news for us and something that we’re trying to leverage every chance we get. We’re not far enough along yet, to tell you what the follow-up purchase is from that group. It is not as high as our main core customers — our main products customers coming in now, but we see a pathway forward to get there. I think in the next six months that’s something that we’ll have more insight into and can share.

Michael Lunsford: And the only color I would add to that would be that — keep in mind, we really have just launched Pop! Yourself online last August and we had a — we’re really pleased with how it did over the holiday period and we’re trying to now make it a year-round business, right? So we’re capitalizing on other holidays such as Valentine’s Day, and Mother’s Day, and Father’s Day. And as we’re going through that process, we’re learning a lot about these new customers that are coming to our site. And in some cases, it’s right. It’s a different shopper coming in for a Father’s Day gift, and the person coming in for the Mother’s Day gift. So, we’re still we’re still learning, but it’s early days with this product line and we see a lot of upside potential.

Eric Wold: Perfect. Thank you, both.

Michael Lunsford: Thanks Eric.

Yves LePendeven: Thanks Eric.

Operator: Our next question today is from the line of Stephen Laszczyk of Goldman Sachs. Please go ahead. Your line is open.

Q – Stephen Laszczyk: Great. Thanks for the questions and welcome, Cynthia. But maybe first on US versus international growth, I think there’s about 10 percentage points of delta in the first quarter, with US underperforming Europe. I’m just curious, if you could talk a little bit more about the dynamics at play there, how you expect the US versus European growth to trend throughout the year? And then secondly, on product innovation, I was wondering if you could talk a little bit more about the product and innovation slate, as you look into the back half of the year? I know the film slates ramping up home and it sounds like there might be some up opportunity there. Just curious if you could expand on that? Thank you.

Yves LePendeven: Sure. Hey, Steve. And I’ll take the first part of that question. And I think probably Mike, will want to speak to the product innovation but right a pretty pretty big delta between the growth rates in the United States and Europe. But just keep in mind, I think in the European market we’ve had a much more stable business over the past couple of years. And we have had a lot of success with really building an evergreen program there. So I would say, that the main difference there in Q1 was that in the US, we were a little bit more impacted by the Hollywood strikes and the content slate whereas in Europe, they have a much more on a higher portion of their business is related to Evergreen sales, which weren’t quite as impacted. Mike, do you want to take the product innovation?

Michael Lunsford: I will. Hi, Steve and nice talking to you, I would say second half innovation you won’t. There are any surprises there. It’s stuff that we’ve been working on for the last year and I’ve talked about pretty constantly at this point. But I think as Cynthia comes in, and we look at a longer-term plan there are opportunities to innovate in new areas. But for now, what you’ll see from us is more Pop! Yourself more Bitty. We’re making good progress with Mondo. We’ve started launching the limited editions which I talked about in the call, and we have a whole slate of those for the second half of the year. And then Loungefly and Core will continue to innovate on form factors and on content. But there won’t be anything that are screening really just, oh my God they come up with something new in the next six months not a new form factor et cetera.

We are very excited for a few movies this summer including Deadpool which we think will have some some interesting stuff around.

Stephen Laszczyk: Yes. Great. Thank you, guys.

Michael Lunsford: Thank you.