JAKKS Pacific, Inc.

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JAKKS Pacific, Inc.

22619 Pacific Coast Highway, Suite 2
Malibu, California 90265
U.S.A.
Telephone: (310) 455-6200
Fax: (310) 317-8527
Web site: http://www.jakkspacific.com

Public Company
Incorporated: 1995
Employees: 310
Sales: $284.31 million (2001)
Stock Exchanges: NASDAQ
Ticker Symbol: JAKK
NAIC: 339932 Game, Toy, and Children’s Vehicle Manufacturing; 339931 Doll and Stuffed Toy Manufacturing

JAKKS Pacific, Inc. is a multi-brand toy company managed by industry veterans Jack Friedman and Stephen Berman. Typically, JAKKS Pacific adds to the marketability of its products by taking generic items and enhancing their value by securing licensing agreements. Foremost among its products is a line of action figures based on World Wrestling Federation (WWF) personalities. The company’s brands include “Flying Colors,” “Road Champs,” “Remco,” “Child Guidance,” and “Pentech.” The branded items include action figures, dolls, writing instruments, art and crafts products, and miniature die-cast cars.

Origins

When Jack Friedman cofounded JAKKS Pacific in 1995, it was his third entrepreneurial creation, each a start-up toy company. A native of Queens, New York, Friedman began his professional career during the 1960s when he started working as a sales representative for a toy company named Norman J. Lewis Associates. Not one to relish the vagaries of a traditional employer-employee relationship, Friedman began drumming up his own concepts for toy products. In 1970, his ideas came to fruition with the formation of LJN Toys, a company started with the financial backing of his employer, Norman J. Lewis. Lewis later sold his interest in the company to a Chinese investor, but Friedman remained committed to promoting the company’s growth. By 1983, LJN Toys was a $51 million-in-sales company, exuding sufficient financial vitality to attract the attention of a much larger suitor on the other side of the country. MCA Inc., at the time the parent company of Universal Studios, was on an acquisition spree during the mid-1980s, displaying particular interest in toy companies. In 1985, MCA acquired a 63 percent interest in LJN Toys, completing a $32 million stock deal that required Friedman to pack his bags and move to Los Angeles.

Friedman signed a long-term employment agreement with MCA and began running LJN Toys from southern California. The relationship did not last. Preferring to be on his own in the business world, Friedman broke free from MCA’s grasp two years after his move from New York. His next business venture was THQ Inc., a southern California video game company that Friedman founded in 1990. During THQ’s formative years, Friedman acquired licenses to Hollywood productions and based the development of the company’s video games on popular films. The company flourished at first. Friedman sold his 46 percent stake in the company on its initial public offering of stock, netting himself $13 million. In 1992, THQ’s sales exploded, jumping more than 70 percent, but then the dynamics of the video game industry began to change. In an August 26, 2002 interview with the Los Angeles Business Journal, JAKKS Pacific’s chief financial officer, Joel Bennett, explained the turn of events. “Then,” Bennett said, referring to the early 1990s, “games were more like toys than technology.” When the development of gaming software evolved toward the technological side, “it became beyond Jack’s comfort zone,” Bennett explained. “He’s kind of a low-tech guy.”

Frustrated, trapped in a business for which he had no natural affinity, Friedman struggled to remain content at THQ. After the company reported a staggering $18 million loss for 1994, Friedman left to start another company. To assist in the venture’s start-up, Friedman enlisted the help of his longtime friend Stephen G. Berman. Between 1988 and 1991, Berman had served as president of Balanced Approach, Inc., a distributor of personal fitness products and services. Berman left Balanced Approach in 1991 to join Friedman at THQ, where he served a four-year stint as vice-president and managing director of THQ International, Inc., a subsidiary of THQ, Inc.

Together, Friedman and Berman started JAKKS Pacific in 1995. Friedman was appointed chairman and chief executive officer. Berman, after leaving THQ International in August 1995, was named executive vice-president, secretary, and chief operating officer. From the start, Friedman’s objective was to use JAKKS Pacific to consolidate the fragmented toy industry. The industry was dominated by the “Big Two,” Hasbro, Inc. and Mattel, Inc., who together controlled one-third of the approximately $15-billion-at-wholesale U.S. toy industry. After the Big Two, as Friedman perceived it, there was ample room for growth. Friedman hoped to cut a swath through the hundreds of small competitors and the handful of medium-sized toy companies by acquiring its rivals and by forging licensing agreements with other companies. Eventually, if the company’s strategic course proved sound, JAKKS Pacific could one day join the industry’s upper echelon and sit side-by-side with Hasbro and Mattel.

Signing an Agreement with WWF in 1995

JAKKS Pacific’s survival as a fledgling toy company was guaranteed during the company’s first year of existence. In 1995, Friedman signed a pivotal licensing agreement with Titan Sports, Inc. that secured an invaluable revenue stream for the young company. Titan Sports was the parent company of the World Wrestling Federation (WWF), whose popularity exploded during the 1990s. Friedman signed an exclusive, ten-year deal that gave JAKKS Pacific the rights to develop and market a line of action figures based on the WWF’s wrestling personalities, such as Stone Cold Steve Austin and the Undertaker. From the licensing agreement and the thousands of WWF action figures to follow, JAKKS Pacific derived much of its growth for the next several years. Berman, in an August 18, 1998 interview with the Los Angeles Times, explained the importance of the licensing agreement to JAKKS Pacific’s fortunes. “The WWF has been to us what GI Joe was to Hasbro,” he remarked. “That’s how Hasbro started their growth; GI Joe allowed them to acquire other brands and other companies. Our WWF is allowing JAKKS to do the same.”

Not long after the signal WWF deal was put into action, Friedman gained the financial resources to begin his quest for accelerated growth. By the end of 1996, the company’s first full year of operation, it generated roughly $10 million in sales, a pittance compared to the sales totals supporting Hasbro and Mattel, who counted their revenue in the billions of dollars. There was a long way to go, and Friedman got underway in 1997. The company purchased Road Champs Inc., a manufacturer of miniature die-cast cars. In the fall of 1997, the company purchased the Remco brand, identified with a line of die-cast cars. At the same time, the company purchased a brand of toddler development toys marketed under the name Child Guidance, acquiring both brands from Azrak-Hamway International Inc. The acquisition of Road Champs and Child Guidance drew another comparison by Berman to JAKKS Pacific’s much larger rivals. He pointed out that both Mattel and Hasbro owned brands geared toward preschoolers, Fisher-Price and Playskool, respectively, and, like JAKKS Pacific’s Road Champ line of miniature cars, Mattel owned the Hot Wheels brand.

As Friedman orchestrated JAKKS Pacific’s acquisition campaign, he did so without incurring any appreciable debt, using stock and cash to pay for assets. Another favorable aspect of the company’s acquisition strategy was its ability to stay lean as it grew. The company manufactured and stored its products in Asia, employing only a dozen or so warehouse personnel in the United States and keeping the size of its corporate staff to a minimum. As acquisitions were completed, the company kept its overhead costs down and remained nimble. Once companies were acquired, JAKKS Pacific discarded the property’s administrative and distribution departments and shed any products that had not proved to be consistently profitable before absorbing the business into its pared-down corporate structure.

Late 1990s Expansion

In 1998, JAKKS Pacific’s expansion program continued to diversify the company’s product line beyond its mainstay line of WWF action figures. Analysts applauded the move to lessen the company’s dependence on a single product line. During the year, the company signed a licensing agreement with Bass Anglers Sportsman Society Inc. to create a line of fishing-themed toys. The company also signed an agreement with Petersen Cos. to develop a line of Road Champs cars based on the classic roadsters featured in Petersen’s automotive magazines.

Company Perspectives:

JAKKS Pacific engages children in creative play, in the true spirit of the phrase. Our products encourage learning and interaction. They inspire fun and spark creativity among children of all ages, interests, backgrounds and abilities. While our core business is toys, our offerings have grown to include writing instruments, back-to-school items, slumber bags, kites, pool floats and other leisure products. This is absolutely by design. We counter the fragmented, seasonal and fiercely competitive nature of our industry by executing a business strategy centered on growth through diversity and operational excellence. This means developing new core products. Growing and consolidating existing product lines. Pursuing strategic acquisitions. Expanding international sales. And capitalizing on operating efficiencies achieved through disciplined management and a lean, flexible infrastructure. Since our founding in 1995, JAKKS Pacific has executed this strategy aggressively, faithfully and successfully, achieving year-over-year growth and an exceptional balance sheet.

At this point in its development, the company was beginning to catch the attention of the national business press. As the deals with Bass Anglers and Petersen were being forged, the company could proudly point to triple-digit sales growth for the previous two years. In 1997, the company generated $41.9 million in sales, a 250 percent increase from the total recorded in 1996. Roughly half of the company’s financial growth was attributable to its popular line of WWF action figures, which ranked among the top five best-selling action figures sold by retailer Toys ‘R’ Us, Inc. at its 700 stores. The growth was enough to vault the company into the ranks of the 15 fastest-growing companies in California in 1997.

In 1999, Friedman continued to expand JAKKS Pacific’s product line. In June, the company announced the acquisition of privately held Berk Corp. A manufacturer of educational foam puzzles, mats, and blocks, Berk was organized as a division within JAKKS Pacific’s preschool unit, Child Guidance. The addition of Berk gave the company more than 100 products bearing licenses from Walt Disney, Nickelodeon, Warner Bros., and Children’s Television Workshop. In October, the company acquired Flying Colors Toys Inc. for $36 million in stock. Flying Colors produced activity sets, modeling compound play sets, and lunch boxes bearing licenses from popular television shows such as Nickelodeon’s Blue’s Clues and Warner Bros.’ Looney Tunes. Roughly a year after the acquisition, Flying Colors produced arts and crafts products that were released in concert with the film based on the popular Harry Potter character.

As JAKKS exited the 1990s, its place within the national landscape of toy companies was secured. In 1999, the company was selected as one of the 100 fastest-growing companies in the country by Fortune magazine, a distinction it would earn for the next two years. Diversification had reduced the company’s reliance on WWF action figures, as the sale of education foam puzzles, lunch boxes, and a bevy of other products created a more well-rounded company. By 2000, WWF action figures accounted for approximately 35 percent of the company’s sales, down from the more than 60 percent recorded just several years earlier. “Our business isn’t based on home runs,” Berman explained in a December 18, 2000 interview with the Los Angeles Business Journal. “Our business is based on singles and doubles, and if we get a triple or a home run, that’s great. But we’re looking for evergreens,” he added, referring to perennial, money-making products coveted by toy companies.

The arrival of JAKKS Pacific’s fifth anniversary could be justifiably celebrated. When the company acquired Pentech International Inc., a New Jersey-based maker of pens, pencils, and markers, in 2000, it became the fourth largest toy company in the country. Acquisitions had fueled much of the growth that had vaulted the company from a dead start into the industry’s elite. Between 1997 and 2001, when the company completed eight acquisitions, JAKKS Pacific’s annual sales increased from $41.9 million to $284.3 million. During the same period, the company’s net income increased by a factor of 10, mushrooming from $2.8 million to $28.2 million. The company’s stock value soared, increasing from $5.33 per share to $18.95 per share. As recessive economic conditions began to emerge, some analysts continued to remain optimistic about JAKKS Pacific’s prospects. “JAKKS has positioned themselves to be less vulnerable to economic downturns because the vast majority of their products retail for less than $10,” remarked one analyst in the July 15, 2001 issue of the Daily News. Or, as another analyst expressed in the same article, “People don’t stop buying toys for their kids in a soft economy, but they may stop buying more expensive ones.”

Despite the optimism, the bleak economic times caught up with JAKKS Pacific. In 2002, several of the company’s largest customers, retailers such as Wal-Mart, Toys ‘R’ Us, and Target, began reducing their inventory levels. Other customers, including Kmart and Ames Department Stores, were operating under Chapter 11 bankruptcy protection. Consequently, JAKKS Pacific’s inventory levels swelled, increasing from $32 million to nearly $50 million during the first six months of 2002. Investors, sensing the wariness of the massive retail chains, grew wary themselves, driving JAKKS Pacific’s stock down 41 percent during the first half of 2002.

Amid the slowdown, Friedman pressed ahead with expansion. In February 2002, the company agreed to a two-step arrangement to acquire New York-based Toymax International Inc., a designer and marketer of product lines such as “Go Fly a Kite,” “Funnoodle,” “Laser Challenge,” “Creepy Crawlers,” karaoke machines, and radio-controlled vehicles. The $55 million transaction was expected to be completed by the end of 2002, at which point Toymax would become a wholly owned JAKKS Pacific subsidiary.

As JAKKS Pacific prepared for the future and a return to more salubrious economic conditions, its strengths were manifold. Looking ahead, the company could expect meaningful growth from its international operations, which were beginning to mature as it completed its first decade of existence. Kidz Biz Ltd., which began distributing the company’s products in the United Kingdom in 1999, was acquired by JAKKS Pacific in 2001, becoming the company’s European sales headquarters. In addition, the company forged an agreement with Funtastic Limited in 2001 to distribute JAKKS Pacific products in Australia and New Zealand. As the company pressed ahead with its domestic expansion, its pursuit of international business promised to deliver growth as well, inching JAKKS Pacific toward its goal of catching Mattel and Hasbro.

Principal Subsidiaries

Berk Corp.; Flying Colors Toys Inc.; Kidz Biz Ltd. (U.K.).

Principal Competitors

Hasbro, Inc.; Marvel Enterprises, Inc.; Mattel, Inc.

Key Dates:

1995:: JAKKS Pacific signs licensing agreement to market WWF action figures.
1997:: Road Champs and Child Guidance are acquired.
1999:: The distribution of JAKKS Pacific products overseas begins.
2000:: Pentech International Inc. is acquired.
2001:: U.K. distributor Kidz Biz Ltd. is acquired.
2002:: Toymax International Inc. is acquired.