NEW YORK (TheStreet) - The potential acquisition of Hasbro (HAS) acquiring Dreamworks (DWA) uncovers three key banners in the toy industry and is long-term positive for Hasbro. However, in the meantime, there are some key risks for the stock and volatility worries to keep in mind:
(1) Hasbro, along with Mattel (MAT) , is a cash generation business with a high dividend yield. It is well held by mutual funds seeking cash generation businesses. It's the type of stock you would buy your grandmother. However, an acquisition of DreamWorks (or more risk-loving investments upstream in content) would make it more risk-prone, so we will potentially see an investor base shift (DreamWorks makes Hasbro more hit-driven and more costly biz, and thus could devalue stock from valuation standpoint
(2) Importantly, would Disney (DIS) be upset if this happens? Disney properties account for about 30 percent of annual Hasbro revenues. The Marvel franchise (along with upcoming Lucas and Disney princess) are key to the Hasbro bull story, and any disruption to the relationship with Disney would be extremely disruptive to the stock. In other words, we don't want to mess with Spiderman or the Avengers. Or Luke Skywalker.
(3) There is risk that DreamWorks films and their toy initiatives won't be successful, particularly if they don't achieve box office success, as DreamWorks history has been spotty.
That being said, here are the three long-term dynamics and where Hasbro is moving, which positions the stock favorably
First, convergence of content with physical
Hasbro has done well cause has focused on branded entertainment where they prioritize content - content leads demand for physical toys (a la Disney). Mattel, the peer which has underperformed, has done almost the opposite, leaning more into consumer goods business model where brands are aggregated (think strategy of Proctor & Gamble (PG) and Colgate (CL) ) and capabilities are leveraged (brand/marketing/manufacturing)-- allowing a company to "go to market" better than anyone else (best promotional strategies, commercials, best command on shelf space). The physical toy model just hasn't performed well, and focus on content has been winner.
Second, demographic that is catering to this convergence--- content consumers for whole life
Right now, we have the millennial generation (babies from the 80s) that are having babies now. They (including me) grew up with dedicated programming -Nickelodeon and Disney generation-- and digesting media at own taste (on demand generation). So the connection between media (movies, TV) and physical properties (toys, jammies, home décor) - starting to converge and being wrapped around by big brand . Disney has built multi billion enterprise around this - become story business first and then have physical manifestations. This is also what Hasbro has embarked upon
Distribution mechanism is fostering this--- AND THIS IS WHERE THE POTENTIAL DWA DEAL FITS
This is why it would make logical sense for HAS to go upchannel and own more of the content. Because of distribution is so concentrated (at the likes of Wal-Mart (WMT) and Target (TGT) ), the level of revenue generated has to be much larger-- In order to get on shelves at Wal-Mart in a big way, companies need a lot of space -- there are fewer, bigger brands. So, in order to extend the life cycles, it is necessary for content to keep the consumer engaged. Amazon (AMZN) , Netflix (NFLX) , and physical bricks and mortar stores need to manage the distribution mechanism, which relies on consumer demand horizon that is robust. And thus, content is needed. DreamWorks hasn't had a very "toyettic" business (despite strong characters from the likes of Shrek and Madagascar) but Hasbro could make these properties work that way (in an ecosystem).
Remember, if deal doesn't go through, Hasbro has made it clear they want to move more upstream-- and have already started with a joint venture with Discovery DISCA and their small animation studio with properties like My Little Pony, Transformers, and Littlest Pet Shop.
A couple of years ago, we preferred Mattel on Mad Money because of it's more consistent earnings profile from Barbie and Fischer Price-but then, the animated-related revenue stream actually wasn't about hits and misses anymore - because the hits were so consistent. Hasbro has outperformed because of this dynamic.
Note: The only toy company that has been able to do well focusing on physical only is lego... and that's because it's activity based... and ironically, then there was a movie made that did well.
The bottom line: Hasbro is positioned well long-term, but there will be near-term volatility in shares and uncertainty. But this potential transaction reflects important underlying dynamics in the toy industry.