Annual Report on Form 10-K

 


 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-K

 

(Mark One)

 

x   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2002

 

¨   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                          to                         

 

Commission File Number 001-05647

 


 

MATTEL, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

95-1567322

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

 

333 Continental Boulevard

El Segundo, California 90245-5012

(Address of principal executive offices)

 

(310) 252-2000

(Registrant’s telephone number)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class


 

Name of each exchange on which registered


Common Stock, $1.00 par value

 

New York Stock Exchange

   

Pacific Exchange, Inc.

 


 

Securities registered pursuant to Section 12(g) of the Act:

 

NONE

 


 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  x    No  ¨

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statement incorporated by reference in Part III of this Form 10-K or any amendment of this Form 10-K.  ¨

 

Indicate by check mark whether registrant is an accelerated filer (as defined in Rule 12b-2 of the Act).  Yes  x    No  ¨

 

The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant calculated using the market price as of the close of business on June 28, 2002 was $9,206,740,402.

 

Number of shares outstanding of registrant’s common stock, $1.00 par value, as of March 21, 2003:

 

439,120,200 shares

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of the Mattel, Inc. 2003 Notice of Annual Meeting of Stockholders and Proxy Statement, to be filed with the Securities and Exchange Commission within 120 days after the close of the registrant’s fiscal year (Incorporated into Part III).

 



MATTEL, INC. AND SUBSIDIARIES

 

         

Page


Part I

    

Item 1.

  

Business

  

3

Item 2.

  

Properties

  

13

Item 3.

  

Legal Proceedings

  

13

Item 4.

  

Submission of Matters to a Vote of Security Holders

  

13

Part II

    

Item 5.

  

Market For the Registrant’s Common Equity and Related Stockholder Matters

  

14

Item 6.

  

Selected Financial Data

  

15

Item 7.

  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

  

16

Item 7A.

  

Quantitative and Qualitative Disclosures About Market Risk

  

43

Item 8.

  

Financial Statements and Supplementary Data

  

45

Item 9.

  

Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

  

83

Part III

    

Item 10.

  

Directors and Executive Officers of the Registrant

  

84

Item 11.

  

Executive Compensation

  

84

Item 12.

  

Security Ownership of Certain Beneficial Owners and Management

  

84

Item 13.

  

Certain Relationships and Related Transactions

  

84

Item 14.

  

Controls and Procedures

  

84

Part IV

    

Item 15.

  

Exhibits, Financial Statement Schedules, and Reports on Form 8-K

  

85

Signatures

  

92

Certifications

  

94

 

 

2


PART I

 

Item 1.    Business.

 

Mattel, Inc. (“Mattel”) designs, manufactures, and markets a broad variety of toy products worldwide through sales to retailers and directly to consumers.

 

Mattel believes its products are among the most widely recognized toy products in the world. Mattel’s portfolio of brands and products are grouped in the following categories:

 

Girls—including Barbie® fashion dolls and accessories, Polly Pocket!®, Diva Starz, What’s Her Face!, ello, and American Girl®

 

Boys-Entertainment—including Hot Wheels®, Matchbox®, and Tyco® Radio Control vehicles and playsets (collectively “Wheels”), and Nickelodeon®, Harry Potter, Yu-Gi-Oh!, He-Man® and Masters of the Universe®, and games and puzzles (collectively “Entertainment”)

 

Infant & Preschool—including Fisher-Price®, Power Wheels®, Sesame Street®, Disney preschool and plush, Winnie the Pooh, Blue’s Clues, Rescue Heroes, Barney, See ’N Say®, Magna Doodle®, Dora the Explorer, and View-Master®

 

Mattel’s management has articulated its overall company vision: The World’s Premier Toy Brands—Today and Tomorrow. Management set five key company strategies: (i) improve execution of the existing toy business; (ii) globalize the brands; (iii) extend the brands; (iv) catch new trends; and (v) develop people.

 

Mattel faced several challenges during 2002, in its largest market, the US, including an uncertain retail environment, weak consumer confidence, higher unemployment, labor unrest at West Coast ports and the threat of continued terrorism and war. Mattel improved its performance despite these challenges by executing four strategic priorities: (i) strengthening core brand momentum; (ii) executing the financial realignment plan and cutting costs; (iii) improving supply chain performance; and (iv) developing people. By focusing on these priorities, Mattel achieved, among other results, improvement in inventory levels, higher gross margins and lower costs through management of the supply chain, improved development of employee talent through the introduction of several new programs and a better alignment of employee activity with Mattel’s values.

 

In 2002, Mattel continued to execute its financial realignment plan, originally announced during the third quarter of 2000, designed to improve gross margin; selling and administrative expenses; operating income; and cash flows. The plan will require a total pre-tax charge estimated at approximately $250 million, or $170 million, after-tax. Through December 31, 2002, Mattel had recorded pre-tax charges totaling $223.7 million or approximately $151 million, after-tax. Under the plan, Mattel is on track to deliver at least the targeted initial cumulative pre-tax cost savings of approximately $200 million over the three-year duration of the plan. Over the last two years, Mattel recognized cumulative pre-tax cost savings of approximately $142 million, of which approximately $55 million and $87 million were realized in 2001 and 2002, respectively. Mattel expects to achieve pre-tax cost savings of approximately $80 million in 2003. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Financial Realignment Plan” and Item 8 “Financial Statements and Supplementary Data—Note 10 to the Consolidated Financial Statements.”

 

Mattel was incorporated in California in 1948 and reincorporated in Delaware in 1968. Its executive offices are located at 333 Continental Boulevard, El Segundo, California 90245-5012, telephone (310) 252-2000.

 

Business Segments

 

“Mattel” refers to Mattel, Inc. and its subsidiaries as a whole, unless the context requires otherwise. This narrative discussion applies to all segments except where otherwise stated. Mattel’s reportable segments are separately managed business units and are divided on a geographic basis between domestic and international.

 

3


The Domestic segment is further divided into US Girls, US Boys-Entertainment, and US Infant & Preschool. For additional information on Mattel’s business segment reporting, including revenues, segment income, and assets, see Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Results of Operations—Business Segment Results” and Item 8 “Financial Statements and Supplementary Data—Note 11 to the Consolidated Financial Statements.” For additional information regarding geographic areas, see Item 8 “Financial Statements and Supplementary Data—Note 11 to the Consolidated Financial Statements.” For a discussion of the risks inherent in the foreign operations of Mattel, which affect each segment, see Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors That May Affect Future Results—Political Developments, including Trade Relations, and The Threat or Occurrence of War or Terrorist Activities.”

 

In February 2003, Mattel announced the consolidation of its US Girls and US Boys-Entertainment segments into one segment, renamed Mattel Brands. Additionally, Pleasant Company, which was previously part of the US Girls segment, is now a separate segment for management reporting purposes in 2003. Any discussion of segment information in this Annual Report on Form 10-K is based on the segments evaluated by management during 2002.

 

Domestic Segment

 

The Domestic segment develops toys that it markets and sells in the US Girls, US Boys-Entertainment and US Infant & Preschool segments.

 

The US Girls segment includes brands such as Barbie® fashion dolls and accessories, Polly Pocket!®, Diva Starz, What’s Her Face!, ello, and American Girl®. In 2003, Mattel expects to expand or introduce Barbie of Swan Lake, the third in a series of videos and entertainment-themed fashion dolls, My Scene, a new tween-targeted lifestyle brand featuring a range of fashion dolls, accessories and licensed products, Stretchy Polly Pocket!®, an innovative new-sized stretchy and magnetic Polly Pocket!®, and ello, the creation system for girls that inspires them to design and create anything that sparks their imagination.

 

The US Boys-Entertainment segment includes Hot Wheels®, Matchbox®, and Tyco® Radio Control (collectively “Wheels”) and Nickelodeon®, Harry Potter, Yu-Gi-Oh!, He-Man® and Masters of the Universe®, and games and puzzles (collectively “Entertainment”) products. New Boys-Entertainment products in 2003 are expected to include Hot Wheels® Alien Attack, Hot Wheels® Raptor Blast, Matchbox® Fire Blaster playset, Tyco® R/C Whiplash and Mattel games and puzzles’ Break the Safe game.

 

The US Infant & Preschool segment includes Fisher-Price®, Power Wheels®, Sesame Street®, Disney preschool and plush, Winnie the Pooh, Blue’s Clues, Rescue Heroes, Barney, See ’N Say®, Magna Doodle®, Dora the Explorer, and View-Master® brands. New product introductions for 2003 are expected to include Hokey Pokey Elmo, the Learn Through Music system, Get-up-and-Bounce Tigger, PowerTouch electronic learning system, Peek-a-blocks, Geo Trax, Pixter® color, and Rescue Heroes Mission Select.

 

International Segment

 

Generally, the products marketed by the International segment are the same as those developed and marketed by the Domestic segment, although some are developed or adapted for particular international markets. Mattel’s products are sold directly to customers in Canada and most European, Asian and Latin American countries, and through agents and distributors in those countries where Mattel has no direct presence. See “Licenses and Distribution Agreements.”

 

4


 

Revenues from Mattel’s International segment represented approximately 36% of total consolidated gross sales in 2002. Within the International segment, Mattel operates in four regions that generated the following gross sales during 2002 (in millions):

 

    

For the Year


 
    

2002


 
    

Amount


    

Percentage


 

Europe

  

$

1,126.1

    

60

%

Latin America

  

 

461.7

    

24

 

Canada

  

 

171.4

    

9

 

Asia Pacific

  

 

138.2

    

7

 

    

    

    

$

1,897.4

    

100

%

    

    

 

No individual country within the International segment exceeded 6% of consolidated gross sales during 2002.

 

The strength of the US dollar relative to other currencies can significantly affect the revenues and profitability of Mattel’s international operations. Mattel enters into foreign currency forward exchange and option contracts primarily to hedge its purchase and sale of inventory and other intercompany transactions denominated in foreign currencies to limit the effect of exchange rate fluctuations on its results of operations and cash flows. See Item 7A “Quantitative and Qualitative Disclosures About Market Risk” and Item 8 “Financial Statements and Supplementary Data—Note 8 to the Consolidated Financial Statements.” For financial information by geographic area, see Item 8 “Financial Statements and Supplementary Data—Note 11 to the Consolidated Financial Statements.”

 

Manufacturing

 

Mattel manufactures toy products for all segments in both company-owned facilities and through independent contractors. Products are also purchased from unrelated entities that design, develop and manufacture the products. To provide greater flexibility in the manufacture and delivery of products, and as part of a continuing effort to reduce manufacturing costs, Mattel has concentrated production of most of its core products in Mattel’s facilities and generally uses independent contractors for the production of non-core products.

 

Mattel’s principal manufacturing facilities are located in China, Indonesia, Malaysia, Mexico and Thailand. Mattel also utilizes independent contractors to manufacture products in the US, Europe, Mexico, the Far East and Australia. To help avoid disruption of its product supply due to political instability, civil unrest, economic instability, changes in government policies and other risks, Mattel produces many of its key products in more than one facility. In 2001, Mattel announced plans to close distribution and manufacturing facilities in Murray, Kentucky, which were closed in 2002. In January 2003, Mattel announced the consolidation of two of its manufacturing facilities in Mexico as part of the financial realignment plan. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Financial Realignment Plan” and Item 8 “Financial Statements and Supplementary Data—Note 10 to the Consolidated Financial Statements.” Mattel believes that its existing production capacity at its own and its independent contractors’ manufacturing facilities are sufficient to handle expected volume in the foreseeable future. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors That May Affect Future Results.”

 

Mattel bases its production schedules for toy products on customer orders, taking into account historical trends, results of market research and current market information. Actual shipments of products ordered and order cancellation rates are affected by consumer acceptance of product lines, strength of competing products,

 

5


marketing strategies of retailers and overall economic conditions. Unexpected changes in these factors could result in a lack of product availability or excess inventory in a particular product line.

 

The foreign countries in which most of Mattel’s products are manufactured (principally China, Indonesia, Thailand, Malaysia and Mexico) all enjoy permanent “normal trade relations” (“NTR”) status under US tariff laws, which provides a favorable category of US import duties. China’s NTR status became permanent on January 1, 2002, following enactment of a bill authorizing such status upon the country’s accession to the World Trade Organization, which occurred in December 2001. This substantially reduces the possibility of China losing its NTR status, which would result in increased costs for Mattel and others in the toy industry.

 

With the implementation of the Uruguay Round agreement effective January 1, 1995, all US duties on dolls and traditional toys were completely eliminated. Canada also eliminated its tariffs on dolls and most toy categories in 1995, with the exception of certain toy sets and board games that will have their duties eliminated over ten years. The European Union and Japan reduced their tariffs on dolls by 40% and 15%, respectively, as of January 1, 1999, and are in the process of phasing out their duties on several other toy categories by January 1, 2004.

 

Virtually all of Mattel’s raw materials are available from numerous suppliers but may be subject to fluctuations in price. Mattel has long-term agreements in place with major suppliers that allow the suppliers to pass on only their actual raw material cost increases.

 

Competition and Industry Background

 

Competition in the toy industry is intense and is based primarily on price, quality and play value.

 

Mattel’s US Girls, US Boys-Entertainment and US Infant & Preschool segments compete with several large toy companies, including Hasbro, Inc., Jakks Pacific, Lego, Leap Frog, Bandai, MGA Entertainment and many smaller toy companies. Mattel’s International segment competes with global toy companies including Hasbro, Lego, Tomy, Bandai, and other national and regional toy companies. Foreign national and regional toy markets may include competitors who are strong in a particular toy line or geographical area, but do not compete with Mattel and other international toy companies worldwide. Additionally, in recent years, several large retailers have offered competing products under their own private labels.

 

Seasonality

 

Mattel’s business is highly seasonal, with consumers making a large percentage of all toy purchases around the traditional holiday season in the fourth quarter. A significant portion of Mattel’s customers’ purchasing occurs in the third and fourth quarters in anticipation of such holiday buying. These seasonal purchasing patterns and requisite production lead times cause risk to Mattel’s business associated with the underproduction of popular toys and the overproduction of toys that do not match consumer demand. Retailers are also attempting to manage their inventories more tightly, requiring Mattel to ship products closer to the time the retailers expect to sell the products to consumers. These factors increase the risk that Mattel may not be able to meet demand for certain products at peak demand times, or that Mattel’s own inventory levels may be adversely impacted by the need to pre-build products before orders are placed. Additionally, as retailers manage their inventories, Mattel experiences cyclical ordering patterns for products and product lines that may cause its sales to vary significantly from period to period.

 

In anticipation of retail sales in the traditional holiday season, Mattel significantly increases its production in advance of the peak selling period, resulting in a corresponding build-up of inventory levels in the first three quarters of the year. Seasonal shipping patterns result in significant peaks in the third and fourth quarters in the respective levels of inventories and accounts receivable, which result in seasonal working capital financing requirements. See “Seasonal Financing.”

 

6


 

Product Design and Development

 

Through its product design and development group, Mattel regularly refreshes, redesigns and extends existing toy product lines and develops innovative new toy product lines for all segments. Mattel believes its success is dependent on its ability to continue this activity. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors That May Affect Future Results.” Product design and development are principally conducted by a group of professional designers and engineers employed by Mattel.

 

Independent toy designers and developers bring concepts and products to Mattel and are generally paid a royalty on the net selling price of products licensed to Mattel. These independent toy designers may also create different products for other toy companies.

 

For new product introductions, Mattel’s strategy is to begin production on a limited basis until a product’s initial success has been proven in the marketplace. The production schedule is then modified to meet anticipated demand. Mattel further limits its risk by generally having independent contractors manufacture new product lines in order to minimize capital expenditures associated with new product introductions. This strategy has reduced inventory risk and limited the potential loss associated with new product introductions.

 

Mattel devotes substantial resources to product design and development. During 2002, 2001 and 2000, Mattel spent approximately $159 million, $176 million and $180 million, respectively, in connection with the design and development of products, exclusive of royalty payments. See Item 8 “Financial Statements and Supplementary Data—Note 13 to the Consolidated Financial Statements.”

 

Advertising, Marketing and Sales

 

Mattel supports its product lines with extensive advertising and consumer promotions. Advertising continues at varying levels throughout the year and peaks during the Christmas season. Advertising includes television and radio commercials, and magazine and newspaper advertisements. Promotions include in-store displays, sweepstakes, merchandising materials and major events focusing on products and tie-ins with various consumer products companies. Mattel has a retail store, American Girl Place®, in Chicago featuring children’s products from Mattel’s Pleasant Company division, is constructing a second American Girl Place®, in New York City, and has several other smaller retail outlets at its corporate headquarters and distribution centers as a service to its employees and as an outlet for excess product.

 

During 2002, 2001 and 2000, Mattel spent approximately $553 million (11.3% of net sales), $544 million (11.6% of net sales) and $578 million (12.7% of net sales), respectively, on worldwide advertising and promotion.

 

Mattel’s products are sold throughout the world. Products within the Domestic segment are sold directly to large retailers, including discount and free-standing toy stores, chain stores, department stores, other retail outlets and, to a limited extent, wholesalers. Mass merchandisers, such as Wal-Mart and Target, continue to increase their market share. Products within the International segment are sold directly to customers in Canada and most European, Asian and Latin American countries, and through agents and distributors in those countries where Mattel has no direct presence.

 

During 2002, Mattel’s three largest customers (Wal-Mart at $1.1 billion, Toys “R” Us at $0.9 billion and Target at $0.5 billion) accounted for approximately 50% of consolidated net sales in the aggregate. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Factors That May Affect Future Results” and Item 8 “Financial Statements and Supplementary Data—Note 8 to the Consolidated Financial Statements.”

 

7


 

In the International segment, there is also a concentration of sales to certain large customers. The customers and the degree of concentration vary depending upon the region or nation.

 

Licenses and Distribution Agreements

 

Mattel has license agreements with third parties that permit Mattel to utilize the trademark, character, or inventions of the licensor in product lines that Mattel manufactures. A number of these licenses relate to product lines that are significant to Mattel’s business and operations. An important licensor is Warner Bros., which licenses the Harry Potter book and movie property for use on Mattel’s products as well as the master toy license for Batman, Superman, Justice League, Looney Tunes and Baby Looney Tunes. Mattel has also entered into license agreements with, among others: Disney Enterprises, Inc., relating to classic Disney characters such as Winnie the Pooh and the Disney Princesses; Sesame Workshop relating to its Sesame Street® properties; Viacom International, Inc. relating to its Nickelodeon® properties including SpongeBob SquarePants and Dora the Explorer; Nihon Ad Systems Inc. for the master toy license to the Yu-Gi-Oh! property worldwide, excluding Asia; and Lyons Partnership, L.P. relating to Barney, the purple dinosaur, as well as Barney for Baby, for infant and preschool toys, feature plush, electronic learning aids, games and puzzles.

 

Royalty expense during 2002, 2001 and 2000 was approximately $210 million, $220 million and $259 million, respectively. See “Product Design and Development” and Item 8 “Financial Statements and Supplementary Data—Note 9 to the Consolidated Financial Statements.”

 

Mattel also licenses a number of its trademarks, characters and other property rights to others for use in connection with the sale of non-toy products that do not compete with Mattel’s products. Mattel distributes some third party finished products that are independently designed and manufactured.

 

Trademarks, Copyrights, and Patents

 

Most of Mattel’s products are sold under trademarks, trade names and copyrights and a number of those products incorporate patented devices or designs. Trade names and trademarks are significant assets of Mattel in that they provide product recognition and acceptance worldwide.

 

Mattel customarily seeks patent, trademark or copyright protection covering its products, and it owns or has applications pending for US and foreign patents covering many of its products. A number of these trademarks and copyrights relate to product lines that are significant to Mattel’s business and operations. Mattel believes its rights to these properties are adequately protected, but there can be no assurance that its rights can be successfully asserted in the future or will not be invalidated, circumvented or challenged.

 

Commitments

 

In the normal course of business, Mattel enters into contractual arrangements for future purchases of goods and services to ensure availability and timely delivery, and to obtain and protect Mattel’s right to create and market certain products. Certain of these commitments routinely contain provisions for guaranteed or minimum expenditures during the term of the contracts. Current and future commitments for guaranteed payments reflect Mattel’s focus on expanding its product lines through alliances with businesses in other industries.

 

As of December 31, 2002, Mattel had outstanding commitments for 2003 and 2004 purchases of inventory of approximately $103 million. Licensing and similar agreements with terms extending through 2010 contain provisions for future guaranteed minimum payments aggregating approximately $369 million. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Commitments” and Item 8 “Financial Statements and Supplementary Data—Note 9 to the Consolidated Financial Statements.”

 

8


 

Mattel ships products in accordance with delivery schedules specified by its customers, which usually request delivery within three months. In the toy industry, orders are subject to cancellation or change at any time prior to shipment. In recent years, a trend toward just-in-time inventory practices in the toy industry has resulted in fewer advance orders and therefore less backlog of orders. Mattel believes backlog orders at any given time may not accurately indicate future sales.

 

Financial Instruments

 

Exchange rate fluctuations may impact Mattel’s results of operations and cash flows. Mattel seeks to mitigate its exposure to market risk by monitoring its currency exchange exposure for the year and partially or fully hedging such exposure using foreign currency forward exchange and option contracts primarily to hedge its purchase and sale of inventory and other intercompany transactions denominated in foreign currencies. These contracts generally have maturity dates of up to 18 months. In addition, Mattel manages its exposure through the selection of currencies used for international borrowings and intercompany invoicing. Mattel’s results of operations can also be affected by the translation of foreign revenues and earnings into US dollars. Mattel does not trade in financial instruments for speculative purposes.

 

For additional information regarding foreign currency contracts, see “International Segment” above, Item 7A “Quantitative and Qualitative Disclosures About Market Risk” and Item 8 “Financial Statements and Supplementary Data—Note 8 to the Consolidated Financial Statements.”

 

Seasonal Financing

 

Mattel’s financing of seasonal working capital typically grows throughout the first half of the year and peaks in the third or fourth quarter, when inventories are at their highest levels in anticipation of expected second half sales volume and when accounts receivable are at their highest levels due to increased sales volume, consistent with the industry taken as a whole. See “Seasonality.” Mattel expects to finance its seasonal working capital requirements for 2003 by using existing and internally generated cash, issuing commercial paper, selling certain trade receivables, and using various short-term bank lines of credit. In addition, Mattel avails itself of individual short-term foreign credit lines with a number of banks, which will be used as needed to finance the seasonal working capital requirements of certain foreign subsidiaries.

 

In March 2002, Mattel amended and restated its existing domestic unsecured committed revolving credit facility into a $1.060 billion, 3-year facility that expires in 2005. Mattel’s domestic unsecured credit facility contains a variety of covenants, including financial covenants that require Mattel to maintain certain consolidated debt-to-capital and interest coverage ratios. Specifically, Mattel is required to meet these financial covenant ratios at the end of each fiscal quarter and fiscal year. The credit agreement for the domestic unsecured credit facility specifies the formulae to be used in calculating the ratios. Mattel was in compliance with such covenants at the end of each fiscal quarter and fiscal year in 2002. As of December 31, 2002, Mattel’s consolidated debt-to-capital ratio, as calculated per the terms of the credit agreement, was 0.37 to 1 (compared to a maximum allowed of 0.50 to 1) and Mattel’s interest coverage ratio was 8.14 to 1 (compared to a minimum allowed of 3.50 to 1). See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Seasonal Financing” and Item 8 “Financial Statements and Supplementary Data—Note 5 to the Consolidated Financial Statements.”

 

To finance seasonal working capital requirements of certain foreign subsidiaries, Mattel avails itself of individual short-term foreign credit lines with a number of banks. Foreign credit lines total approximately $266 million, a portion of which is used to support letters of credit. Mattel expects to extend these credit lines throughout 2003.

 

Mattel believes the cash on hand at the beginning of 2003, amounts available under its domestic unsecured committed revolving credit facility, its uncommitted money market facility, and its foreign credit lines will be adequate to meet its seasonal financing requirements for 2003.

 

9


 

Mattel has a $300.0 million domestic receivables sales facility which is a sub-facility of Mattel’s $1.060 billion, 3-year domestic unsecured committed revolving credit facility. The outstanding amount of receivables sold under the domestic receivables facility may not exceed $300.0 million at any given time, and the $1.060 billion available to be borrowed under the credit facility is reduced to the extent of any such outstanding receivables sold. Under the domestic receivables facility, certain trade receivables are sold to a group of banks, which currently include, among others, Bank of America, N.A. as administrative agent, Citicorp USA, Inc. and Fleet National Bank as syndication agents, and Societe Generale and BNP Paribas as documentation agents. Pursuant to the domestic receivables facility, Mattel Sales Corp. and Fisher-Price, Inc. (which are wholly-owned subsidiaries of Mattel) can sell trade receivables from Wal-Mart and Target to Mattel Factoring, Inc. (“Mattel Factoring”), a Delaware corporation and wholly-owned subsidiary of Mattel. Mattel Factoring is a special purpose entity whose activities are limited to purchasing and selling receivables under this facility. Mattel Factoring is a consolidated subsidiary of Mattel. Pursuant to the terms of the domestic receivables facility and simultaneous with each receivables purchase, Mattel Factoring sells those receivables to the bank group. Mattel records the transaction, reflecting cash proceeds and sale of accounts receivable on its consolidated balance sheet, at the time of the sale of the receivables to the bank group.

 

Mattel’s subsidiaries Mattel International Holdings B.V., a Netherlands company, Mattel France S.A.S., a French company, and Mattel GmbH, a German company, have entered into a Euro 150 million European trade receivables facility, pursuant to which Mattel France S.A.S. and Mattel GmbH may sell trade receivables to a bank, Societe Generale Nederland N.V. The receivables sales are accounted for as a sale. As with the domestic receivables facility, each sale of accounts receivable is recorded on Mattel’s consolidated balance sheet at the time of such sale. No Mattel subsidiary is used as a special purpose entity in connection with these transactions. Under the European receivables facility, the outstanding amount of receivables sold may not exceed Euro 60 million from February 1 through July 31 of each year and may not exceed Euro 150 million at all other times. Pursuant to a letter agreement between Societe Generale Nederland and Mattel International Holdings B.V., Mattel France S.A.S. and Mattel GmbH dated July 1, 2002, the commitment termination date for the European receivables facility was extended to June 29, 2003.

 

Government Regulations and Environmental Quality

 

Mattel’s toy products sold in the US are subject to the provisions of the Consumer Product Safety Act and the Federal Hazardous Substances Act, and may also be subject to the requirements of the Flammable Fabrics Act or the Food, Drug and Cosmetics Act, and the regulations promulgated pursuant to such statutes. The Consumer Product Safety Act and the Federal Hazardous Substances Act enable the Consumer Product Safety Commission to exclude from the market consumer products that fail to comply with applicable product safety regulations or otherwise create a substantial risk of injury, as well as articles that contain excessive amounts of a banned hazardous substance. The Consumer Product Safety Commission may also require the recall and repurchase or repair by the manufacturer of articles that are banned. Similar laws exist in some states and cities and in many international markets.

 

Fisher-Price’s car seats are subject to the provisions of the National Highway Transportation Safety Act, which enables the National Highway Traffic Safety Administration to promulgate performance standards for child restraint systems. Fisher-Price conducts periodic tests to ensure that its child restraint systems meet applicable standards. A Canadian agency, Transport Canada, also regulates child restraint systems sold for use in Canada. As with the Consumer Product Safety Commission, the National Highway Transportation Safety Administration and Transport Canada can require the recall and repurchase or repair of products that do not meet their respective standards. In 2002, Fisher-Price exited the car seat business.

 

Mattel maintains a quality control program to ensure compliance with various US federal, state and applicable foreign product safety requirements. Notwithstanding the foregoing, there can be no assurance that all of Mattel’s products are or will be free from defects or hazard-free. A product recall could have a material adverse effect on Mattel’s results of operations and financial condition, depending on the product affected by the

 

10


recall and the extent of the recall efforts required. A product recall could also negatively effect Mattel’s reputation and the sales of other Mattel products.

 

Mattel’s advertising is subject to the Federal Trade Commission Act, The Children’s Television Act of 1990, the rules and regulations promulgated by the Federal Trade Commission and the Federal Communications Commission as well as laws of certain countries that regulate advertising and advertising to children. In addition, Mattel’s websites that are directed to children are subject to the Children’s Online Privacy Protection Act of 1998. Mattel is subject to various other federal, state and local laws and regulations applicable to its business. Mattel believes that it is in substantial compliance with these laws and regulations.

 

Mattel’s operations are from time to time the subjects of investigations, conferences, discussions and negotiations with various federal, state and local environmental agencies with respect to the discharge or cleanup of hazardous waste and compliance by those operations with environmental laws and regulations. See Item 8 “Financial Statements and Supplementary Data—Note 9 to the Consolidated Financial Statements—Environmental.”

 

Employees

 

The total number of persons employed by Mattel and its subsidiaries at any one time varies because of the seasonal nature of its manufacturing operations. At December 31, 2002, Mattel’s total number of employees, including its international operations, was approximately 25,000.

 

Executive Officers of the Registrant

 

The current executive officers of Mattel, all of which are appointed annually by the board of directors and serve at the pleasure of the board, are as follows:

 

Name


  

Age


  

Position


  

Executive

Officer

Since


Robert A. Eckert

  

48

  

Chairman of the Board of Directors and Chief Executive Officer

  

2000

Matthew C. Bousquette

  

44

  

President, Mattel Brands

  

1999

Ellen L. Brothers

  

47

  

President, Pleasant Company and Executive Vice President

  

2003

Thomas A. Debrowski

  

52

  

Executive Vice President, Worldwide Operations

  

2000

Joseph F. Eckroth, Jr.

  

44

  

Chief Information Officer

  

2000

Kevin M. Farr

  

45

  

Chief Financial Officer

  

1996

Neil B. Friedman

  

55

  

President, Fisher-Price Brands

  

1999

Alan Kaye

  

49

  

Senior Vice President, Human Resources

  

2000

Douglas E. Kerner

  

45

  

Senior Vice President and Corporate Controller

  

2001

Robert Normile

  

43

  

Senior Vice President, General Counsel and Secretary

  

1999

William Stavro

  

63

  

Senior Vice President and Treasurer

  

1993

Bryan G. Stockton

  

49

  

Executive Vice President, International

  

2000

 

Mr. Eckert has been Chairman of the Board of Directors and Chief Executive Officer since May 2000. He was formerly President and Chief Executive Officer of Kraft Foods, Inc., the largest packaged food company in North America and a subsidiary of Philip Morris Companies Inc., from October 1997 until May 2000. From 1995 to 1997, Mr. Eckert was Group Vice President of Kraft Foods, Inc. From 1993 to 1995, Mr. Eckert was President of the Oscar Mayer foods division of Kraft Foods, Inc. Mr. Eckert worked for Kraft Foods, Inc. for 23 years prior to joining Mattel.

 

Mr. Bousquette has been President, Mattel Brands since February 2003. He served as President, Boys/Entertainment from March 1999 until February 2003. From May 1998 to March 1999, he was Executive Vice President and General Manager—Boys Toys. From 1995 to 1998, he was General Manager—Boys Toys. He joined Mattel in December 1993 as Senior Vice President—Marketing.

 

 

11


Ms. Brothers has been President, Pleasant Company and Executive Vice President since July 2000. From November 1998 to July 2000, she was Senior Vice President of Operations, Pleasant Company. From January 1997 to November 1998, she was Vice President of the Catalogue Division, Pleasant Company. She joined Pleasant Company in 1995, prior to its acquisition by Mattel in July 1998, as Vice President of Catalogue Marketing.

 

Mr. Debrowski has been Executive Vice President, Worldwide Operations, since November 2000. From February 1992 until November 2000, he was Senior Vice President-Operations and a director of The Pillsbury Company. From September 1991 until February 1992, he was Vice President of Operations for The Baked Goods Division of The Pillsbury Company. Prior to that, he served as Vice President and Director of Grocery Operations for Kraft U.S.A.

 

Mr. Eckroth has been Chief Information Officer since July 2000. From July 1998 until July 2000, he was Chief Information Officer of General Electric Company’s Medical Systems unit. From November 1995 until June 1998, he served as Chief Information Officer of General Electric Company’s Industrial Controls Systems division. Prior to that, he held several senior positions within Operations and Information Technology at the Northrop Grumman Corporation.

 

Mr. Farr has been Chief Financial Officer since February 2000. From September 1996 to February 2000, he was Senior Vice President and Corporate Controller. From June 1993 to September 1996, he served as Vice President, Tax. Prior to that, he served as Senior Director, Taxes from August 1992 to June 1993.

 

Mr. Friedman has been President, Fisher-Price Brands since March 1999. From August 1995 to March 1999, he was President-Tyco Preschool. For more than five years prior to that time, he was President of MCA/Universal Merchandising, Senior Vice President—Sales, Marketing and Design of Just Toys, Vice President and General Manager of Baby Care for Gerber Products, Executive Vice President and Chief Operating Officer of Lionel Leisure, Inc., and President of Aviva/Hasbro.

 

Mr. Kaye has been Senior Vice President of Human Resources since July 1997. From June 1996 to June 1997, he was President, Texas Division of Kaufman and Broad Homes, a home building company. From June 1991 to June 1996, he served as Senior Vice President, Human Resources for Kaufman and Broad Homes. Prior to that, he worked for two years with the Hay Group, a compensation consulting firm and for 12 years with IBM in various Human Resources positions.

 

Mr. Kerner has been Senior Vice President and Corporate Controller since April 2001, when he joined Mattel. Prior to joining Mattel, he served as Executive Vice President, Finance, of Premier Practice Management, Inc. from November 1998 to March 2001. From February to June 1998, he worked for FPA Medical Management, Inc., most recently serving as Vice President, Treasurer and Acting Chief Financial Officer. From 1991 to 1997, he worked for Total Petroleum (North America) Ltd., most recently as Vice President & Treasurer.

 

Mr. Normile has been Senior Vice President, General Counsel and Secretary since March 1999. He served as Vice President, Associate General Counsel and Secretary from August 1994 to March 1999. From June 1992 to August 1994, he served as Assistant General Counsel. Prior to that, he was associated with the law firms of Latham & Watkins and Sullivan & Cromwell.

 

Mr. Stavro has been Senior Vice President and Treasurer since May 1995. From November 1993 to May 1995, he was Vice President & Treasurer. From March 1992 to November 1993, he was Vice President & Assistant Treasurer. Prior to that, he was Assistant Treasurer for more than five years.

 

Mr. Stockton has been Executive Vice President, International since February 2003. He served as Executive Vice President, Business Planning and Development from November 2000 until February 2003. From April 1998 until November 2000, he was President and Chief Executive Officer of Basic Vegetable Products, the

 

12


largest manufacturer of vegetable ingredients in the world. For more than 20 years prior to that, he was employed by Kraft Foods, Inc., the largest packaged food company in North America, and was President of Kraft North American Food Service from August 1996 to March 1998. Mr. Stockton worked for Kraft Foods, Inc. for 22 years.

 

Available Information

 

Mattel’s Internet website address is http://www.mattel.com. Mattel makes available on its Internet website, free of charge, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after such materials are electronically filed with, or furnished to, the SEC.

 

Item 2.    Properties.

 

Mattel owns its corporate headquarters in El Segundo, California, consisting of 335,000 square feet, which is subject to a $41 million mortgage, and an adjacent 55,000 square foot office building. Mattel also leases buildings in El Segundo consisting of approximately 327,000 square feet. All segments use these facilities. Mattel’s Fisher-Price subsidiary owns its headquarters facilities in East Aurora, New York, consisting of approximately 535,000 square feet, which is used by the US Infant & Preschool segment and for corporate support functions. Pleasant Company owns its headquarters facilities in Middleton, Wisconsin, consisting of approximately 420,000 square feet, which is used by the US Girls segment.

 

Mattel maintains leased sales offices in California, Illinois, New York, North Carolina, Arkansas, Michigan and Georgia used by the Domestic segment and leased warehouse and distribution facilities in California, New Jersey, Wisconsin and Texas, all of which are used by the Domestic segment. Mattel has leased retail space in Illinois for its American Girl Place® store, which is used by the US Girls segment. Mattel also has leased office space in Florida, which is used by the International segment. Mattel leases a computer facility in Phoenix, Arizona used by all the segments. Internationally, Mattel has its principal offices and/or warehouse space in Argentina, Australia, Austria, Belgium, Brazil, Canada, Chile, Columbia, Costa Rica, Czech Republic, Denmark, Finland, France, Germany, Greece, Hong Kong, India, Italy, Mexico, The Netherlands, Norway, Peru, Portugal, South Korea, Spain, Switzerland, the United Kingdom and Venezuela which are leased (with the exception of office space in Chile and certain warehouse space in France) and used by the International segment. Mattel’s principal manufacturing facilities are located in China, Indonesia, Malaysia, Mexico and Thailand. See “Manufacturing.”

 

For leases that are scheduled to expire during the next twelve months, Mattel may negotiate new lease agreements, renew leases or utilize alternative facilities. See Item 8 “Financial Statements and Supplementary Data—Note 9 to the Consolidated Financial Statements.” Mattel believes that its owned and leased facilities, in general, are suitable and adequate for its present and currently foreseeable needs.

 

Item 3.    Legal Proceedings.

 

See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Litigation” and Item 8 “Financial Statements and Supplementary Data—Note 9 to the Consolidated Financial Statements.”

 

Item 4.    Submission of Matters to a Vote of Security Holders.

 

No matters were submitted to a vote of security holders during the fourth quarter of the fiscal year covered by this report.

 

13


 

PART II

 

Item 5.    Market for the Registrant’s Common Equity and Related Stockholder Matters.

 

For information regarding the markets in which Mattel’s common stock, par value $1.00 per share, is traded, see the cover page hereof. For information regarding the high and low closing prices of the common stock for the last two calendar years, see Item 8 “Financial Statements and Supplementary Data—Note 12 to the Consolidated Financial Statements.”

 

As of March 7, 2003, Mattel had approximately 45,500 holders of record of its common stock.

 

Mattel paid dividends on its common stock of $0.09 per share April, July and October of 2000. As part of its financial realignment plan, Mattel announced during the third quarter of 2000 a change in its dividend policy consisting of a reduction in the annual cash dividend from $0.36 per share to $0.05 per share. In 2002 and 2001, a $0.05 per share dividend was declared by the board of directors in November and paid in December. The payment of dividends on common stock is at the discretion of Mattel’s board of directors and is subject to statutory and customary limitations.

 

 

14


 

Item 6.    Selected Financial Data.

 

    

For the Year Ended December 31 (a) (b)


 
    

2002


    

2001


    

2000


    

1999


    

1998


 
    

(In thousands, except per share and percentage information)

 

Operating Results:

                                            

Net sales

  

$

4,885,340

 

  

$

4,687,924

 

  

$

4,565,489

 

  

$

4,502,769

 

  

$

4,579,494

 

Gross profit

  

 

2,360,987

 

  

 

2,148,934

 

  

 

1,993,242

 

  

 

2,067,240

 

  

 

2,154,502

 

% of net sales

  

 

48.3

%

  

 

45.8

%

  

 

43.7

%

  

 

45.9

%

  

 

47.0

%

Operating income

  

 

733,541

 

  

 

579,320

 

  

 

370,624

 

  

 

288,294

 

  

 

565,247

 

% of net sales

  

 

15.0

%

  

 

12.4

%

  

 

8.1

%

  

 

6.4

%

  

 

12.3

%

Income from continuing operations before income taxes

  

 

621,497

 

  

 

430,010

 

  

 

225,424

 

  

 

170,164

 

  

 

459,446

 

Provision for income taxes

  

 

166,455

 

  

 

119,090

 

  

 

55,247

 

  

 

61,777

 

  

 

131,193

 

Income from continuing operations

  

 

455,042

 

  

 

310,920

 

  

 

170,177

 

  

 

108,387

 

  

 

328,253

 

Gain (loss) from discontinued operations, net of tax (a)

  

 

27,253

 

  

 

 

  

 

(601,146

)

  

 

(190,760

)

  

 

(122,200

)

Cumulative effect of change in accounting principles, net of tax

  

 

(252,194

)

  

 

(12,001

)

  

 

 

  

 

 

  

 

 

Net income (loss)

  

 

230,101

 

  

 

298,919

 

  

 

(430,969

)

  

 

(82,373

)

  

 

206,053

 

Income (Loss) Per Common Share (c):

                                            

Income (loss) per common share—Basic

                                            

Income from continuing operations

  

$

1.04

 

  

$

0.72

 

  

$

0.40

 

  

$

0.25

 

  

$

0.82

 

Gain (loss) from discontinued operations (a)

  

 

0.06

 

  

 

 

  

 

(1.41

)

  

 

(0.46

)

  

 

(0.31

)

Cumulative effect of change in accounting principles

  

 

(0.58

)

  

 

(0.03

)

  

 

 

  

 

 

  

 

 

Net income (loss)

  

 

0.52

 

  

 

0.69

 

  

 

(1.01

)

  

 

(0.21

)

  

 

0.51

 

Income (loss) per common share—Diluted

                                            

Income from continuing operations

  

 

1.03

 

  

 

0.71

 

  

 

0.40

 

  

 

0.25

 

  

 

0.76

 

Gain (loss) from discontinued operations (a)

  

 

0.06

 

  

 

 

  

 

(1.41

)

  

 

(0.45

)

  

 

(0.29

)

Cumulative effect of change in accounting principles

  

 

(0.57

)

  

 

(0.03

)

  

 

 

  

 

 

  

 

 

Net income (loss)

  

 

0.52

 

  

 

0.68

 

  

 

(1.01

)

  

 

(0.20

)

  

 

0.47

 

Dividends Declared Per Common Share (c)

  

$

0.05

 

  

$

0.05

 

  

$

0.27

 

  

$

0.35

 

  

$

0.31

 

 

    

As of Year End (a) (b)


    

2002


  

2001


  

2000


  

1999


  

1998


    

(In thousands)

Financial Position:

                                  

Total assets

  

$

4,459,659

  

$

4,509,817

  

$

4,268,279

  

$

4,631,599

  

$

4,569,160

Long-term liabilities

  

 

832,194

  

 

1,205,122

  

 

1,407,892

  

 

1,145,856

  

 

1,124,756

Stockholders’ equity

  

 

1,978,712

  

 

1,738,458

  

 

1,403,098

  

 

1,962,687

  

 

2,170,803


(a)   Financial data for 1998 and 1999 reflect the retroactive effect of the merger, accounted for as a pooling of interests, with The Learning Company, Inc. (“Learning Company”) in May 1999. As more fully described in Note 14 to the Consolidated Financial Statements, the Consumer Software segment, which was comprised primarily of Learning Company, was reported as a discontinued operation effective March 31, 2000, and the consolidated financial statements were reclassified to segregate the net investment in, and the liabilities and operating results of, the Consumer Software segment.

 

(b)   Certain financial information for prior years has been reclassified to conform to the current year’s presentation.

 

(c)   Per share data reflect the retroactive effect of the merger with Learning Company in 1999.

 

15


 

Item 7.    Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

Summary

 

The following discussion should be read in conjunction with the consolidated financial statements and the related notes. See Item 8 “Financial Statements and Supplementary Data.” Mattel’s consolidated financial statements for all periods present the Consumer Software segment as a discontinued operation. See “Discontinued Operations.” Unless otherwise indicated, the following discussion relates only to Mattel’s continuing operations. Mattel’s consolidated statements of operations for 2001 and 2000 have been restated from the prior year presentation to classify interest income and other non-operating expense, net below operating income to conform to the 2002 presentation. Additionally, Mattel’s consolidated statements of operations for 2001 and 2000 have been restated to include reclassifications of certain customer benefits and allowances to conform to the income statement requirements of Emerging Issues Task Force (“EITF”) Issue No. 01-09, Accounting for Consideration Given by a Vendor to a Customer. Effective January 2002, Mattel ceased amortization of its goodwill in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 142, Goodwill and Other Intangible Assets. To facilitate the comparison of current year segment results to that of the prior year, the segment income was restated from prior year presentation to exclude goodwill amortization.

 

In February 2003, Mattel announced the consolidation of its US Girls and US Boys-Entertainment segments into one segment, renamed Mattel Brands. Additionally, Pleasant Company, which was previously part of the US Girls segment, is now a separate segment for management reporting purposes in 2003. Any discussion of segment information in this Annual Report on Form 10-K is based on the segments evaluated by management during 2002.

 

Mattel designs, manufactures, and markets a broad variety of toy products worldwide through sales to retailers (i.e., “customers”) and directly to consumers. Mattel’s business is dependent in great part on its ability each year to redesign, restyle and extend existing core products and product lines, to design and develop innovative new products and product lines, and successfully to market those products and product lines. Mattel plans to continue to focus on its portfolio of traditional brands that have historically had worldwide sustainable appeal, to create new brands utilizing its knowledge of children’s play patterns and to target customer and consumer preferences around the world. Mattel also intends to expand its core brands through the Internet, and licensing and entertainment partnerships.

 

Mattel’s portfolio of brands and products are grouped in the following categories:

 

Girls—including Barbie® fashion dolls and accessories, Polly Pocket!®, Diva Starz, What’s Her Face!, ello, and American Girl®

 

Boys-Entertainment—including Hot Wheels®, Matchbox®, and Tyco® Radio Control vehicles and playsets (collectively “Wheels”), and Nickelodeon®, Harry Potter, Yu-Gi-Oh!, He-Man® and Masters of the Universe®, and games and puzzles (collectively “Entertainment”)

 

Infant & Preschool—including Fisher-Price®, Power Wheels®, Sesame Street®, Disney preschool and plush, Winnie the Pooh, Blue’s Clues, Rescue Heroes, Barney, See ’N Say®, Magna Doodle®, Dora the Explorer, and View-Master®

 

Results of Continuing Operations

 

2002 Compared to 2001

 

Consolidated Results

 

Income from continuing operations for 2002 was $455.0 million or $1.03 per diluted share as compared to income from continuing operations of $310.9 million or $0.71 per diluted share in 2001. Profitability in 2002 was impacted by a pre-tax charge of $48.3 million ($31.9 million after-tax) related to the financial realignment plan. Profitability in 2001 was impacted by a pre-tax charge of $50.2 million ($35.2 million after-tax) related to the

 

16


financial realignment plan and a $5.5 million after-tax charge related to loss on derivative instruments. Included in the reported results for 2001 was a pre-tax goodwill amortization charge of $46.1 million ($34.7 million after-tax). The combined effect of these items resulted in an after-tax charge totaling $75.4 million.

 

Mattel faced several challenges during 2002, in its largest market, the US, including an uncertain retail environment, weak consumer confidence, higher unemployment, labor unrest at West Coast ports and the threat of continued terrorism and war. These factors caused most of Mattel’s customers to have actual sales performance below expectations and several customers announced store closures and reorganization plans. Mattel improved its performance despite these challenges by executing four strategic priorities: (i) strengthening core brand momentum; (ii) executing the financial realignment plan and cutting costs; (iii) improving supply chain performance; and (iv) developing people. As retailers continued to focus on just-in-time inventory management, Mattel improved the alignment of its shipment of product to retailers with consumer demand. This strategy resulted in a higher proportion of US shipments occurring in the second half of the year when consumer demand peaks. As in 2002, Mattel anticipates that this initiative will put downward pressure on first half 2003 US shipments, but should have no impact on full year sales. Additionally, as part of the financial realignment plan, Mattel lowered costs by closing and consolidating certain of its manufacturing and distribution facilities and reducing headcount at its US-based headquarters locations.

 

Mattel expects that the challenging retail and consumer environment will likely continue in 2003. To optimize its business and mitigate the impact of the aforementioned challenges, Mattel intends to continue its emphasis in 2003 on the following strategic initiatives:

 

    Core brands—focusing on traditional core brand categories, extending product lines, initiating core brand promotional programs and targeting profitable licensing arrangements.

 

    Channels—strengthening relationships with retailers, providing quality service to customers and optimizing its supply chain.

 

    Costs—controlling costs to help mitigate the impact of anticipated rising commodity, transportation, employee benefits, and insurance costs.

 

    Cash—generating and opportunistically deploying cash using a disciplined approach.

 

The following table provides a comparison of the reported results for 2002 and 2001 along with charges related to the financial realignment plan, 2001 goodwill amortization and other nonrecurring charges (in millions):

 

    

For the Year


 
    

2002


    

2001


 
    

Reported

Results


    

Charges


    

Reported

Results


    

Charges & Goodwill


 

Net sales

  

$

4,885.3

 

  

$

 

  

$

4,687.9

 

  

$

 

    


  


  


  


Gross profit

  

$

2,361.0

 

  

$

(10.4

)

  

$

2,148.9

 

  

$

(28.2

)

Advertising and promotion expenses

  

 

552.5

 

  

 

 

  

 

543.6

 

  

 

0.3

 

Other selling and administrative expenses

  

 

1,050.3

 

  

 

13.3

 

  

 

964.2

 

  

 

6.0

 

Amortization of goodwill

  

 

 

  

 

 

  

 

46.1

 

  

 

46.1

 

Restructuring and other charges

  

 

24.6

 

  

 

24.6

 

  

 

15.7

 

  

 

15.7

 

    


  


  


  


Operating income

  

 

733.6

 

  

 

(48.3

)

  

 

579.3

 

  

 

(96.3

)

Interest expense

  

 

113.9

 

  

 

 

  

 

155.1

 

  

 

 

Interest (income)

  

 

(17.7

)

  

 

 

  

 

(15.5

)

  

 

 

Other non-operating expense, net

  

 

15.9

 

  

 

 

  

 

9.7

 

  

 

5.5

 

    


  


  


  


Income from continuing operations before income taxes

  

$

621.5

 

  

$

(48.3

)

  

$

430.0

 

  

$

(101.8

)

    


  


  


  


 

17


 

Net sales from continuing operations for 2002 increased 4% to $4.9 billion, from $4.7 billion in 2001. Gross sales within the US increased 1% from 2001 and accounted for 64% of consolidated gross sales in 2002 compared to 67% in 2001. In 2002, gross sales internationally increased 12% from 2001. Excluding the favorable impact of foreign currency exchange, international gross sales were up 11% compared to 2001. Mattel’s strategic focus on globalization of brands is one of the primary drivers for continued growth in the International segment. Management expects that sales growth internationally will continue to outpace US sales growth for the foreseeable future.

 

Worldwide gross sales in the Girls category increased 6%, or 5% in local currency, to $2.3 billion in 2002. Domestic sales declined by 2% and international sales increased by 18%, or 16% in local currency. Sales growth in Barbie® internationally, Polly Pocket!®, What’s Her Face!, and American Girl® was partially offset by declines in US Barbie®, Diva Starz and large dolls. The discontinuation of Cabbage Patch Kids® in 2002 contributed to the decrease in total large doll sales. Worldwide Barbie® sales were up 6% in 2002, reflecting an increase of 16% in international sales and a decline of 2% in domestic sales. The decline in domestic sales for Barbie® was driven by the strategic initiative to reduce shipments of adult-targeted collector and holiday dolls. Barbie® holiday doll shipments in 2002 were approximately one-half the amount shipped in 2001. Excluding these adult-targeted lines, domestic Barbie® sales increased 2% in 2002.

 

Worldwide gross sales in the Boys-Entertainment category grew 2%, to $1.3 billion. Domestic sales remained flat with 2001, while international sales increased by 6%, or 7% in local currency. The worldwide Wheels business increased 3% due to growth in Matchbox® products and increased international sales of Hot Wheels® and Tyco® Radio Control brands. Domestic Wheels sales declined by 2% and international sales grew by 13%. The worldwide Entertainment business grew 2%, reflecting strong sales from licensed properties such as He-Man® and Masters of the Universe®, Yu-Gi-Oh!, and SpongeBob SquarePants lines, and games and puzzles, which more than offset the elimination of Disney entertainment properties and a decline in Harry Potter sales. In July 2002, Mattel and Warner Bros. Consumer Products announced comprehensive, multi-year agreements granting Mattel master toy licenses for several of Warner Bros.’ core franchises, including Looney Tunes, Baby Looney Tunes, Batman, Superman and Justice League. The agreements, which took effect in January 2003, cover all global territories except Asia and include rights to market products based on any related theatrical releases or television programs that are produced during the period covered by the agreements.

 

Worldwide gross sales in the Infant & Preschool category increased 5%, or 4% in local currency, to $1.7 billion. Domestic sales increased by 3% and international sales were up 10%, or 7% in local currency. Growth in sales of core Fisher-Price® and Power Wheels® products was partially offset by a decline in licensed character brands in both domestic and international markets. Strong sales of Baby Gear, Rescue Heroes and Little People® lines contributed to the increase in core Fisher-Price® sales.

 

Gross profit, as a percentage of net sales, was 48.3% in 2002 compared to 45.8% in 2001. Gross profit was positively impacted by savings realized from the financial realignment plan and supply chain initiatives. Specifically, gross profit benefited from lower commodity and logistics costs, reduced manufacturing overhead costs, lower material costs due to improved design and engineering processes, and lower product costs due to movement of production to Mexico and Asia. In 2003, Mattel expects increases in commodity and logistics costs may have a negative impact on its gross profit, mitigated in part or wholly by further progress in its supply chain and procurement initiatives. Cost of sales in 2002 includes a $10.4 million financial realignment plan charge, largely related to the closure of the Murray, Kentucky, manufacturing and distribution facilities (“North American Strategy”). Cost of sales in 2001 includes a $28.2 million financial realignment plan charge, largely related to the North American Strategy and termination of a licensing agreement.

 

Advertising and promotion expense was 11.3% of net sales for 2002, compared to 11.6% in 2001. The decrease in 2002 compared to 2001 was largely due to lower prices charged by media companies on a cost per rating point basis. Mattel expects advertising and promotion expense as a percentage of net sales for 2003 will rise, reflecting a combination of media prices leveling off and Mattel’s plan for increased spending to support the launch of several new product lines.

 

18


 

Other selling and administrative expenses were $1.1 billion or 21.5% of net sales in 2002 compared to $964.2 million or 20.6% of net sales in 2001. Other selling and administrative expenses increased in 2002 primarily due to higher incentive compensation accruals of approximately $63 million. Mattel’s incentive compensation plans are based on net operating profit after-taxes less a capital charge, and substantial progress was made in improving this metric since 2001. Other selling and administrative expenses also increased due to financial realignment plan charges of $13.3 million in 2002 compared to $6.0 million in 2001, largely associated with streamlining back office functions and asset writedowns and other costs associated with implementing the North American Strategy. Offsetting the increase in other selling and administrative expenses were cost savings resulting from continued execution of the financial realignment plan and tight management of costs.

 

Total bad debt expense was $53.4 million in 2002 compared to $57.7 million in 2001. Each quarter, management evaluates Mattel’s credit exposure as it relates to all of its customers. Considering this review, Mattel recorded an additional $33.5 million adjustment in 2002 to write down the Kmart pre-bankruptcy petition accounts receivable. In the fourth quarter of 2001, Mattel recorded an initial $22.1 million charge related to the bankruptcy filing of Kmart in January 2002 and approximately $9 million in bad debt expense in the third quarter of 2001, largely related to the bankruptcy declared by another US retailer. To estimate the net realizable value of the Kmart pre-bankruptcy petition accounts receivable, management considered the current post-petition market price for the Kmart bank debt, bonds and trade receivables at the end of each quarter. In the fourth quarter of 2002, Mattel decided to sell its Kmart pre-bankruptcy petition accounts receivable and, accordingly, wrote them down to liquidation value. Mattel’s remaining pre-bankruptcy petition net accounts receivable from Kmart at December 31, 2002, after offsetting the reserve for customer benefits that were not earned by Kmart, was $2.7 million. The $2.7 million reflects Mattel’s best estimate of the net realizable value of its pre-bankruptcy petition trade claim as of December 31, 2002, considering the actual proceeds Mattel received upon the sale of this trade claim in March 2003 to an unrelated third party.

 

The following is a summary of the activity related to Mattel’s net Kmart pre-bankruptcy petition accounts receivable balance through December 31, 2002 (in millions):

 

Gross Kmart accounts receivable before bankruptcy filing

           

$

73.1

 

Balance of reserve, reclamation claim and unearned customer benefits accrued at time of Kmart’s bankruptcy filing

  

$

(14.8

)

        

Writedown for bad debt recorded in 2001

  

 

(22.1

)

        

Writedown for bad debt recorded in 2002

  

 

(33.5

)

        
    


        

Total reserves and unearned customer benefits at December 31, 2002

           

 

(70.4

)

             


Net Kmart pre-bankruptcy petition accounts receivable at December 31, 2002

           

$

2.7

 

             


 

Non-Operating Items

 

Interest expense was $113.9 million in 2002 compared to $155.1 million in 2001 due to lower average borrowings resulting from improvements in working capital and higher cash at the beginning of the year, repayment of approximately $422 million in long-term debt, and lower short-term interest rates. Interest income was $17.7 million in 2002 compared to $15.5 million in 2001. Other non-operating expense, net was $15.9 million in 2002 versus $9.7 million in 2001. Included in 2002 was a $25.4 million charge recorded in the fourth quarter resulting from the settlement of shareholder litigation related to the 1999 acquisition of the Learning Company. See Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Litigation—Litigation Related to Learning Company” and Item 8 “Financial Statements and Supplementary Data—Note 9 to the Consolidated Financial Statements.” Excluding this charge, the decrease in other non-operating expense, net was largely due to net foreign currency exchange gains totaling $10.5 million in 2002 compared to net foreign currency exchange losses totaling $8.8 million in 2001. Gains and losses on unhedged intercompany receivables and payables balances denominated in a currency other than the applicable

 

19


functional currency are recognized as a component of other non-operating expense, net in the period in which the exchange rate changes. Additionally, other non-operating expense, net in 2001 included a $5.5 million loss on derivative instruments.

 

Business Segment Results

 

Mattel’s reportable segments are separately managed business units and are divided on a geographic basis between domestic and international. The Domestic segment is further divided into US Girls, US Boys-Entertainment, and US Infant & Preschool. The US Girls segment includes brands such as Barbie®, Polly Pocket!®, Diva Starz, What’s Her Face!, ello, and American Girl®. The US Boys-Entertainment segment includes Hot Wheels®, Matchbox®, and Tyco® Radio Control vehicles and playsets (collectively “Wheels”), and Nickelodeon®, Harry Potter, Yu-Gi-Oh!, He-Man® and Masters of the Universe®, and games and puzzles (collectively “Entertainment”) products. The US Infant & Preschool segment includes Fisher-Price®, Power Wheels®, Sesame Street®, Disney preschool and plush, Winnie the Pooh, Blue’s Clues, Rescue Heroes, Barney, Dora the Explorer, and other preschool products. The International segment sells products in all toy categories.

 

Effective January 1, 2002, Mattel ceased amortization of its goodwill in accordance with SFAS No. 142. To maintain a consistent basis for measuring segment performance and to facilitate a comparison of current year segment results to that of the prior year, management revised its previously reported segment information to correspond to the earnings measurements by which management currently evaluates the business segments. Accordingly, segment income for the years ended 2001 and 2000 has been restated to exclude goodwill amortization of $46.1 million and $46.6 million, respectively.

 

As used in this Annual Report on Form 10-K, “sales” or “gross sales” is defined as sales excluding the impact of sales adjustments, such as trade discounts or other allowances. “Net sales” includes the impact of such sales adjustments. Segment income from operations represents operating income from continuing operations. Business segment results should be read in conjunction with Item 8 “Financial Statements and Supplementary Data—Note 11 to the Consolidated Financial Statements.”

 

US Girls segment sales decreased by 2% in 2002 compared to 2001. Lower sales of Diva Starz, Barbie®, and large dolls were partially offset by growth in Polly Pocket!® and American Girl®. The discontinuation of Cabbage Patch Kids® in 2002 contributed to the decrease in total large doll sales. Domestic Barbie® sales declined by 2% in 2002, largely due to the strategic initiative to reduce shipments of adult-targeted collector and holiday dolls. Barbie® holiday doll shipments in 2002 were approximately one-half the amount shipped in 2001. Excluding these adult-targeted lines, domestic Barbie® sales increased 2% in 2002. The US Boys-Entertainment business in 2002 remained relatively flat with 2001 as a 2% decrease in US Wheels sales was largely offset by a 3% increase in US Entertainment sales. The decline in the US Wheels business reflects declines in Hot Wheels® and Tyco® Radio Control brands, which more than offset strong sales in Matchbox®. In the US, certain customers raised the retail price for Hot Wheels®, which had a negative impact on sales. Sales were also negatively impacted by competition from Spider-Man and Star Wars product and Mattel’s own Matchbox® brand. The improvement in the US Entertainment business was primarily due to strong sales of the newly launched He-Man® and Masters of the Universe®, Yu-Gi-Oh!, and SpongeBob SquarePants lines, and increased sales of games and puzzles, which more than offset the elimination of Disney entertainment properties and a decline in Harry Potter sales. US Infant & Preschool segment sales increased by 4% driven by increased sales of core Fisher-Price® and Power Wheels®, partially offset by decreased sales of licensed character brands.

 

International segment sales increased by 12% in 2002 compared to 2001. Excluding the favorable foreign currency exchange impact, sales grew by 11% due to growth across all the core brand categories—Girls, Boys-Entertainment and Infant & Preschool. The International segment realized growth in all regions in local currency. For the year, Europe sales grew by 20% (13% in local currency), Asia-Pacific sales were up 15% (12% in local currency), Latin America sales decreased by 3% (up 7% in local currency), and Canada sales grew by 5% (6% in

 

20


local currency). The International segment continued to benefit from Mattel’s strategic focus on globalization of brands, including improved product availability, better alignment of worldwide marketing and sales plans and strong product launches.

 

The US Girls segment income increased by 5% to $389.8 million, largely due to improved margin, which was partially offset by lower volume. The US Boys-Entertainment segment income grew by 34% to $110.0 million, primarily due to improved margin and lower selling and administrative expenses. The US Infant & Preschool segment income increased by 19% to $187.0 million, largely due to increased volume and improved margin. All the US segments benefited from lower costs for media purchases due to lower costs per rating point. The International segment income increased by 54% to $305.0 million, mainly due to increased volume and improved margin.

 

2001 Compared to 2000

 

Consolidated Results

 

Net income from continuing operations for 2001 was $310.9 million or $0.71 per diluted share as compared to net income from continuing operations of $170.2 million or $0.40 per diluted share in 2000. Profitability in 2001 was impacted by a pre-tax charge of $50.2 million ($35.2 million after-tax) related to the financial realignment plan and a $5.5 million after-tax charge related to a loss on derivative instruments. Included in the reported results for 2001 was a pre-tax goodwill amortization charge of $46.1 million ($34.7 million after-tax). The combined effect of these items resulted in an after-tax charge totaling $75.4 million. Profitability in 2000 was impacted by a pre-tax charge of $125.2 million ($84.4 million after-tax) related to the initial phase of the financial realignment plan, a $53.1 million pre-tax charge ($38.4 million after-tax) for the departure of certain senior executives and an $8.4 million pre-tax charge ($5.6 million after-tax) related to losses realized on the disposition of a portion of the stock received as part of the sale of CyberPatrol. These charges were partially offset by a pre-tax $7.0 million reserve reversal ($5.3 million after-tax) related to the 1999 restructuring and other charges. Included in the reported results for 2000 was a pre-tax goodwill amortization charge of $46.6 million ($35.2 million after-tax). The combined effect of these items resulted in an after-tax charge totaling $158.3 million.

 

The year 2001 presented substantial obstacles for Mattel. Global economies softened; the September 11th terrorist attacks eroded US consumer confidence; and as a result, several important US retailers cancelled holiday reorders as they intensified their focus on inventory management in light of uncertain consumer spending prospects. The difficult retail environment, combined with increased competitive pressures, resulted in a weakening in the financial strength of some major US retail industry participants. Kmart, the second largest US retailer, filed for bankruptcy in January 2002.

 

21


 

The following table provides a comparison of the reported results for 2001 and 2000 along with charges related to the financial realignment plan, goodwill amortization and other nonrecurring charges (in millions):

 

    

For the Year


 
    

2001


    

2000


 
    

Reported

    

Charges &

    

Reported

    

Charges &

 
    

Results


    

Goodwill


    

Results


    

Goodwill


 

Net sales

  

$

4,687.9

 

  

$

 

  

$

4,565.5

 

  

$

 

    


  


  


  


Gross profit

  

$

2,148.9

 

  

$

(28.2

)

  

$

1,993.2

 

  

$

(78.6

)

Advertising and promotion expenses

  

 

543.6

 

  

 

0.3

 

  

 

578.3

 

  

 

4.8

 

Other selling and administrative expenses

  

 

964.2

 

  

 

6.0

 

  

 

981.8

 

  

 

66.4

 

Amortization of goodwill

  

 

46.1

 

  

 

46.1

 

  

 

46.6

 

  

 

46.6

 

Restructuring and other charges

  

 

15.7

 

  

 

15.7

 

  

 

15.9

 

  

 

15.9

 

    


  


  


  


Operating income

  

 

579.3

 

  

 

(96.3

)

  

 

370.6

 

  

 

(212.3

)

Interest expense

  

 

155.1

 

  

 

 

  

 

153.0

 

  

 

 

Interest (income)

  

 

(15.5

)

  

 

 

  

 

(11.0

)

  

 

 

Other non-operating expense, net

  

 

9.7

 

  

 

5.5

 

  

 

3.2

 

  

 

13.9

 

    


  


  


  


Income from continuing operations before income taxes

  

$

430.0

 

  

$

(101.8

)

  

$

225.4

 

  

$

(226.2

)

    


  


  


  


 

Net sales from continuing operations for 2001 increased 3% to $4.7 billion, from $4.6 billion in 2000. Gross sales within the US decreased by 1% from 2000 and accounted for 67% of consolidated gross sales in 2001 compared to 69% in 2000. In 2001, gross sales internationally increased 10% from 2000. Excluding the unfavorable impact of foreign currency exchange, international gross sales increased 13% compared to 2000.

 

Worldwide gross sales in the Girls category increased 3%, or 4% in local currency, to $2.2 billion in 2001. Domestic sales declined by 4%, while international sales increased by 17%, or 20% in local currency. The growth in the Girls category was driven by Polly Pocket!®, Diva Starz, What’s Her Face!, American Girl® and international sales of Barbie®. Worldwide Barbie® sales decreased 3%. Barbie® sales in the US declined 12% in 2001 as compared to the strong growth recorded in 2000, when sales increased 9% over 1999. The decline in US Barbie® sales was largely due to lower shipments of Holiday Celebration Barbie® in response to lower demand at retail, lower sales of adult-targeted collector dolls resulting from a weakening retail climate for higher-priced collectible items, and continuing inventory management by retailers. International sales for Barbie® were up 12%, or 15% in local currency, reflecting the benefit of early product availability and stronger alignment of worldwide sales and marketing plans.

 

Worldwide gross sales in the Boys-Entertainment category grew 6%, or 7% in local currency, to $1.3 billion. Domestic sales grew by 2%, while international sales increased by 13%, or 16% in local currency. The worldwide Wheels business increased 1% due to a 9% sales growth in Hot Wheels® products, which was partially offset by declines in the Matchbox® and Tyco® Radio Control brands. The Entertainment business grew 14%, largely due to the global introduction of Harry Potter products. Sales generated by the Harry Potter brand more than offset the decline of the Disney entertainment business, which has been completely phased out in 2002. In the second quarter of 2001, Mattel expanded its games business through the acquisition of Pictionary, Inc., worldwide owner of the Pictionary® game brand and associated rights. Beginning in January 2002, Mattel started manufacturing, marketing and distributing Pictionary® to international markets. In the US and Canada, Mattel is the licensor of the property through an independent contractor.

 

Worldwide gross sales in the Infant & Preschool category were $1.6 billion, down 1%. Domestic sales were flat, while international sales decreased 4%, or 3% in local currency. Growth in sales of core Fisher-Price® and Power Wheels® products was offset by a decline in licensed character brands.

 

22


 

Gross profit, as a percentage of net sales, was 45.8% in 2001 compared to 43.7% in 2000. Gross profit improvement was attributable to savings realized from the financial realignment plan and lower product costs achieved through the supply chain initiative, partially offset by the negative impact of foreign currency exchange. The supply chain initiative focuses on improving customer service levels by partnering with retailers to get the right products in the right place at the right time, lowering costs by closing and consolidating Mattel’s manufacturing and distribution facilities, and improving processes such as launching fewer new SKU’s by taking advantage of multi-lingual packaging. The multi-lingual packaging provides Mattel with increased distribution options for any given toy. In addition, cost of sales in 2001 included a $28.2 million charge, largely related to accelerated depreciation resulting from the planned closure of the Murray, Kentucky, manufacturing and distribution facilities and termination of a licensing agreement as part of the financial realignment plan. Cost of sales in 2000 includes a $78.6 million charge related to the termination of a variety of licensing agreements and other contractual arrangements and elimination of product lines that did not deliver an adequate level of profitability.

 

Advertising and promotion expense was 11.6% of net sales for 2001, compared to 12.7% in 2000. The decrease in 2001 compared to 2000 was primarily attributable to lower prices charged by media companies on a cost per rating point basis. Mattel’s 2001 media plan was actually stronger than in 2000 in terms of gross rating points. Advertising and promotion expense for 2001 and 2000 includes $0.3 million and $4.8 million of charges, respectively, largely related to exiting certain product lines.

 

Other selling and administrative expenses were $964.2 million or 20.6% of net sales in 2001 compared to $981.8 million or 21.5% of net sales in 2000. The improvement in selling and administrative expenses was largely due to a $53.1 million charge in 2000 related to termination costs for the departure of certain senior executives and lower financial realignment plan charges, partially offset by increased bad debt charges in 2001. In the fourth quarter of 2001, Mattel recorded a $22.1 million charge related to the bankruptcy filing of Kmart in January 2002. Mattel also recorded approximately $9 million in bad debt expense in the third quarter of 2001, largely related to the bankruptcy declared by another US retailer. Excluding these charges, other selling and administrative expenses, as a percentage of net sales, decreased largely due to tight management of costs, savings realized from the financial realignment plan, and a reduction in management bonuses.

 

Non-Operating Items

 

Interest expense was $155.1 million in 2001 compared with $153.0 million in 2000. The increase was due to the allocation in 2000 of $36.4 million in interest to discontinued operations. In 2001, lower average borrowing rates and lower short-term seasonal borrowings resulted in a decrease in interest expense. Interest income was $15.5 million in 2001 compared to $11.0 million in 2000. Other non-operating expense, net in 2001 was $9.7 million versus $3.2 million in 2000. The increase in other non-operating expense, net was largely due to net foreign currency exchange losses totaling $8.8 million in 2001 compared to net foreign currency exchange gains totaling $3.0 million in 2000. Gains and losses on unhedged intercompany receivables and payables balances denominated in a currency other than the applicable functional currency are recognized as a component of other non-operating expense, net in the period in which the exchange rate changes. Partially offsetting the increase in other non-operating expense, net were lower nonrecurring charges in 2001 relative to 2000. In 2001, nonrecurring charges included a $5.5 million loss on derivative instruments. In 2000, nonrecurring charges totaled $13.9 million, including $5.5 million of charges primarily related to the writeoff of certain noncurrent assets and an $8.4 million charge related to losses realized on the disposition of a portion of the stock received as part of the sale of CyberPatrol.

 

Business Segment Results

 

US Girls segment sales decreased by 4% in 2001 compared to 2000. A 12% decline in Barbie® sales was partially offset by increased sales of Polly Pocket!®, Diva Starz, What’s Her Face!, and American Girl®. The decrease in US Barbie® sales compared to 2000 was primarily due to lower shipments of Holiday Celebration

 

23


Barbie® in response to lower demand at retail, lower sales of adult-targeted collector dolls resulting from a weakening retail climate for higher-priced collectible items, and continuing inventory management by retailers. US Boys-Entertainment segment sales increased 2%. The US Entertainment business grew 6%, largely due to increased sales of Harry Potter products. The US Wheels business was flat with 2000 as increased sales of Hot Wheels® products were offset by declines in Tyco® Radio Control and Matchbox®. US Infant & Preschool segment sales were flat with 2000. Growth in sales of core Fisher-Price® and Power Wheels® products was offset by a decline in sales of licensed character brand products. Management believes the difficult retail environment, especially combined with the events of September 11, 2001, caused its retail customers to curtail their orders across all of the US segments during the fourth quarter, resulting in an 8% decline in total US sales for the fourth quarter. However, despite weaker-than-expected shipments to retailers, all of Mattel’s major brands showed strength with consumers and posted sales increases at retail. According to NPD industry data for toy sales at the consumer level, Mattel gained market share in the US in dolls, vehicles, action figures, games and puzzles and core infant and preschool categories.

 

International segment sales increased by 10% in 2001 compared to 2000. Excluding the unfavorable foreign currency exchange impact, sales grew by 13% due to double digit growth in Barbie®, Polly Pocket!®, core Fisher-Price® and Hot Wheels® products combined with the expansion of Diva Starz and Harry Potter products. On a regional basis, Europe sales grew by 11% (13% in local currency), Asia-Pacific sales were down 7% (down 1% in local currency), Latin America sales were up 16% (20% in local currency), and Canada sales grew by 6% (10% in local currency). Mattel also recorded strong market share gains outside the US, with market share growing in the five major European markets, as well as in Canada, Mexico and Australia. Improved product availability, better alignment of worldwide marketing and sales plans and strong product launches were the primary drivers for the growth in International segment sales and market share.

 

US Girls segment income decreased by 2% to $372.5 million, primarily due to lower sales volume. US Boys-Entertainment segment income increased by 38% to $82.1 million, primarily due to increased sales volume and improved margins. US Infant & Preschool segment income increased by 3% to $157.0 million, primarily due to improved margins, partially offset by higher selling and administrative expenses to support certain new product lines. All the US segments benefited from lower costs for media purchases due to lower costs per rating point. The International segment income grew by 29% to $198.2 million, largely due to increased sales volume and improved margins, partially offset by lower operating income in certain Latin American countries. In 2001, Mattel appointed a new management team in Latin America with the goal of converting sales growth into increased cash flows and profitability in this region.

 

Financial Realignment Plan

 

During the third quarter of 2000, Mattel initiated a financial realignment plan designed to improve gross margin; selling and administrative expenses; operating income; and cash flows. The financial realignment plan, together with the disposition of Learning Company, was part of management’s strategic plan to focus on growing Mattel’s core brands and lowering operating costs and interest expense. The plan will require a total pre-tax charge estimated at approximately $250 million, or $170 million, after-tax, of which approximately $120 million represents cash expenditures and $50 million represents non-cash writedowns. Mattel intends to fund the cash outlay from existing cash balances and internally generated cash flows from operations.

 

Under the plan, Mattel is on track to deliver at least the targeted initial cumulative pre-tax cost savings of approximately $200 million by year end 2003. Over the last two years, Mattel recognized cumulative pre-tax cost savings of approximately $142 million, of which approximately $55 million and $87 million were realized in 2001 and 2002, respectively. The $87 million of savings achieved in 2002 exceeded the previously expected amount by approximately $22 million, largely due to the accelerated execution of the North American Strategy. In 2003, Mattel expects to achieve pre-tax cost savings of approximately $80 million. There is no assurance, however, that Mattel will be able to successfully implement all phases of its financial realignment plan or that it will realize the anticipated cost savings and improved cash flows.

 

24


 

A summary of the components of the financial realignment plan and the timeframe to complete implementation of the plan is as follows (in millions):

 

    

Actual Charges


  

Projected Charges


    

For the Year Ended


    
    

2000


  

2001


  

2002


  

2003


  

Total


Gross profit

  

$

78.6

  

$

28.2

  

$

10.4

  

$

10.0

  

$

127.2

Advertising and promotion expenses

  

 

4.8

  

 

0.3

  

 

  

 

  

 

5.1

Other selling and administrative expenses

  

 

13.4

  

 

6.0

  

 

13.3

  

 

8.9

  

 

41.6

Restructuring and other charges

  

 

22.9

  

 

15.7

  

 

24.6

  

 

7.4

  

 

70.6

Other non-operating expense, net

  

 

5.5

  

 

  

 

  

 

  

 

5.5

    

  

  

  

  

Pre-tax charges

  

$

125.2

  

$

50.2

  

$

48.3

  

$

26.3

  

$

250.0

    

  

  

  

  

Approximate after-tax charges

  

$

84

  

$

35

  

$

32

  

$

19

  

$

170

    

  

  

  

  

 

The charges referred to above represent expenditures for the following major initiatives:

 

    Reduce excess manufacturing capacity;

 

    Terminate a variety of licensing and other contractual arrangements that do not deliver an adequate level of profitability;

 

    Eliminate product lines that do not meet required levels of profitability;

 

    Improve supply chain performance and economics;

 

    Implement an information technology strategy aimed at achieving operating efficiencies;

 

    Eliminate positions at US-based headquarters locations in El Segundo, Fisher-Price and Pleasant Company through a combination of layoffs, elimination of open requisitions, attrition and retirements; and

 

    Close and consolidate certain international offices.

 

Future pre-tax implementation costs of $26.3 million have not been accrued as of December 31, 2002. Management expects to record these remaining costs in 2003.

 

In February 2003, as part of its financial realignment plan, Mattel announced the consolidation of its US Girls and US Boys-Entertainment segments into one segment, renamed Mattel Brands. Additionally, Pleasant Company, which was previously part of the US Girls segment, is now a separate segment for management reporting purposes in 2003. The creation of the Mattel Brands segment will result in the streamlining and consolidating of redundant activities that supported the US Girls and US Boys-Entertainment businesses. Costs associated with this reorganization include elimination of approximately 5% of executive level positions, including the position of president of the Girls division.

 

In January 2002, as part of the financial realignment plan, Mattel implemented further headcount reductions of approximately 240 positions or 7% at its US-based headquarters locations through a combination of layoffs, elimination of open requisitions, attrition, and retirements. Additionally, in 2002, Mattel commenced a long-term information technology strategy aimed at achieving operating efficiencies and cost savings across all disciplines. The program is focused on simplifying Mattel’s organization by defining common global processes based on industry best practices, streamlining its organizational structure by eliminating redundancies, and upgrading its systems to provide greater visibility to information and data on a global basis.

 

In April 2001, as part of the financial realignment plan, Mattel announced the closure of its Murray, Kentucky, manufacturing and distribution facilities as part of the North American Strategy. Production from this

 

25


facility has been consolidated into other Mattel-owned and operated facilities in North America. Manufacturing ceased at the Murray location at the end of May 2002. In January 2003, Mattel announced the consolidation of two of its manufacturing facilities in Mexico to further streamline manufacturing within North America. These actions are realignment measures taken to lower costs. Mattel believes these actions are necessary to maintain a competitive cost structure in today’s global marketplace.

 

The following table summarizes the components of restructuring charges included in the financial realignment plan table above (in millions):

 

      

Severance and Other Compensation


      

Asset

Writedowns


      

Lease

Termination Costs


    

Other


      

Total

Restructuring

Charge


 

2000 charges

    

$

18.5

 

    

$

2.2

 

    

$

1.0

 

  

$

1.2

 

    

$

22.9

 

Amounts incurred

    

 

(2.8

)

    

 

(2.2

)

    

 

 

  

 

(0.4

)

    

 

(5.4

)

      


    


    


  


    


Balance at Dec. 31, 2000

    

 

15.7

 

    

 

 

    

 

1.0

 

  

 

0.8

 

    

 

17.5

 

2001 charges

    

 

9.3

 

    

 

0.7

 

    

 

1.5

 

  

 

4.2

 

    

 

15.7

 

Amounts incurred

    

 

(16.2

)

    

 

(0.7

)

    

 

(0.6

)

  

 

(4.0

)

    

 

(21.5

)

      


    


    


  


    


Balance at Dec. 31, 2001

    

 

8.8

 

    

 

 

    

 

1.9

 

  

 

1.0

 

    

 

11.7

 

2002 charges

    

 

19.4

 

    

 

 

    

 

1.2

 

  

 

4.0

 

    

 

24.6

 

Amounts incurred

    

 

(24.3

)

    

 

 

    

 

(1.8

)

  

 

(4.4

)

    

 

(30.5

)

      


    


    


  


    


Balance at Dec. 31, 2002

    

$

3.9

 

    

$

 

    

$

1.3

 

  

$

0.6

 

    

$

5.8

 

      


    


    


  


    


 

In 2000, Mattel recorded a $22.9 million pre-tax restructuring charge as part of the initial phase of the financial realignment plan. This charge, combined with a $7.0 million adjustment to the 1999 restructuring plan, resulted in $15.9 million of net pre-tax restructuring and other charges in 2000. The $22.9 million charge related to the elimination of positions at headquarters locations in El Segundo, Fisher-Price and Pleasant Company, closure of certain international offices, and consolidation of facilities. During 2001, Mattel recorded a $15.7 million pre-tax restructuring charge as part of the financial realignment plan, largely related to implementation of the North American Strategy. In 2002, Mattel recorded an additional $24.6 million pre-tax restructuring charge as part of the financial realignment plan, principally related to further elimination of positions at headquarters locations in El Segundo, Fisher-Price and Pleasant Company, the North American Strategy, and consolidation of international facilities. From inception through December 31, 2002, a total of $43.3 million has been incurred related to the termination of 2,350 employees, of which 1,370 were terminated during 2002. Of the 2,350 employee terminations, approximately 1,300 related to the North American Strategy.

 

Income Taxes

 

The effective income tax rate on continuing operations was 26.8% in 2002 compared to 27.7% in 2001 and 24.5% in 2000. The difference in the overall income tax rate on continuing operations between 2001 and 2002 was caused by goodwill, financial realignment and other one-time charges. In 2001, goodwill was included in the consolidated financial statements but a portion was not deductible for income tax purposes. In addition, certain one-time charges were also not deductible in 2001. These nondeductible items resulted in a lower effective tax benefit in 2001 for these items and a higher overall effective income tax rate. In 2002, most of the financial realignment and other one-time charges were deductible for income tax purposes, resulting in a lower overall effective income tax rate for 2002 compared to 2001.

 

The pre-tax income (loss) from US operations includes interest expense and corporate headquarters expenses. Therefore, the pre-tax income (loss) from US operations, as a percentage of the consolidated pre-tax income, was less than the sales to US customers as a percentage of consolidated gross sales.

 

The Internal Revenue Service has completed its examination of the Mattel, Inc. federal income tax returns through December 31, 1997.

 

26


 

Liquidity and Capital Resources

 

Mattel’s primary sources of liquidity over the last three years have been cash on hand at the beginning of the year, cash flows generated from continuing operations, long-term debt issuances and short-term seasonal borrowings. Cash flows from continuing operations could be negatively impacted by decreased demand for Mattel’s products, which could result from factors such as adverse economic conditions and changes in public and consumer preferences, or increased costs associated with manufacturing and distribution of products or realized shortages in raw materials or component parts. Additionally, Mattel’s ability to issue long-term debt and obtain seasonal borrowing could be adversely affected by factors such as an inability to meet its debt covenant requirements, which include maintaining consolidated debt-to-capital and interest coverage ratios, or a deterioration of Mattel’s credit ratings. Mattel’s ability to conduct its operations could be negatively impacted should these or other adverse conditions affect its primary sources of liquidity.

 

Operating Activities

 

Operating activities generated cash flows from continuing operations of $1.156 billion during 2002, compared to $756.8 million in 2001 and $555.1 million in 2000. The increase in cash flows from operating activities in 2002 was largely due to increased income from continuing operations and improved working capital. The improvement in working capital was driven by lower accounts receivable resulting from shorter payment terms to customers and improved cash collections and lower inventory levels due to supply chain initiatives. While Mattel will continue to strive for working capital improvement in 2003, management does not expect to generate the same magnitude of cash from working capital improvements as in 2002. The increase in cash flows in 2001 compared to 2000 was primarily attributable to higher income from continuing operations and increased cash collections. In addition, the disposition of Learning Company in the fourth quarter of 2000 resulted in improved cash flows since Mattel was no longer required to fund this business.

 

Investing Activities

 

Mattel invested its cash flows during the last three years in tooling to support existing and new products, expansion of its existing North American manufacturing facilities in anticipation of the closure of the Murray, Kentucky, plant in mid-2002, and its long-term information technology strategy. In 2001, Mattel acquired Pictionary® for approximately $29 million, of which approximately $21 million was paid in 2001, $3 million in 2002 and the remaining $5 million will be paid over the next 2 years.

 

Financing Activities

 

For the years ended 2002 and 2001, Mattel utilized cash flows from operating activities to repay both long-term debt and short-term borrowing obligations as part of its goal to improve its debt-to-capital ratio. In 2002, Mattel repaid approximately $422 million in long-term debt obligations, largely related to the $200.0 million term loan, 200 million Euro Notes and $30.0 million of medium-term notes. In 2001, Mattel utilized cash flows from operating activities to repay approximately $176 million of short-term borrowing obligations and $30.5 million of medium-term notes. In 2000, Mattel received proceeds from issuance of the aforementioned $200.0 million term loan and 200 million Euro Notes, which were used to repay its 6 3/4% Senior Notes upon maturity and to support operating activities.

 

During the third quarter of 2000, Mattel announced a change in its dividend policy consisting of a reduction in the annual cash dividend from $0.36 per share to $0.05 per share when and as declared by the board of directors. The $0.05 per share annual dividend rate under the new dividend policy became effective in December 2001. The reduction of the dividend resulted in cash savings of approximately $135 million in 2002 and $132 million in 2001.

 

27


 

Capital Deployment Plan

 

To guide future capital deployment decisions, with a goal of maximizing shareholder value, Mattel’s board of directors has established the following capital and investment framework:

 

    To maintain approximately $800 million to $1 billion in year-end cash available to fund a substantial portion of seasonal working capital,

 

    To maintain a year-end debt-to-capital ratio of about 25% with the target of achieving a long-term debt rating of single-A, and

 

    To invest approximately $180 million to $200 million in capital expenditures annually to maintain and grow the business.

 

In the first quarter of 2003, Mattel will use approximately $130 million of free cash flow to fund incentive compensation and the shareholder litigation settlement. In 2003, Mattel will repay approximately $180 million in long-term debt related to $30.0 million in medium-term notes maturing in May 2003 and $150.0 million in 6% senior notes maturing in July 2003. Over the long-range horizon, assuming cash flows from operating activities remain strong, Mattel plans to use its free cash flows to invest in strategic acquisitions and to return funds to shareholders through cash dividends and share repurchases. The ability to implement successfully the capital deployment plan is directly dependent on Mattel’s ability to generate strong cash flows from operating activities. There is no assurance that Mattel will continue to generate strong cash flows from operating activities or achieve the targeted goals from its investing activities. Further, Mattel’s management may alter its current plans in the future.

 

Seasonal Financing

 

Mattel expects to finance its seasonal working capital requirements for 2003 by using existing and internally generated cash, issuing commercial paper, selling certain trade receivables, and using various short-term bank lines of credit. In March 2002, Mattel amended and restated its existing $1.0 billion domestic unsecured committed revolving credit facility into a $1.060 billion, 3-year facility that expires in 2005. This facility provides short-term borrowings from a commercial bank group. Interest is charged at various rates selected by Mattel, ranging from market commercial paper rates to the bank reference rate. The unsecured committed revolving credit facility contains a variety of covenants, including financial covenants that require Mattel to maintain certain consolidated debt-to-capital and interest coverage ratios. Specifically, Mattel is required to meet these financial covenant ratios at the end of each fiscal quarter and fiscal year, using the formulae specified in the credit agreement to calculate the ratios. Mattel was in compliance with such covenants at the end of each fiscal quarter and fiscal year in 2002. As of December 31, 2002, Mattel’s consolidated debt-to-capital ratio, as calculated per the terms of the credit agreement, was 0.37 to 1 (compared to a maximum allowed of 0.50 to 1) and Mattel’s interest coverage ratio was 8.14 to 1 (compared to a minimum allowed of 3.50 to 1).

 

To finance seasonal working capital requirements of certain foreign subsidiaries, Mattel avails itself of individual short-term foreign credit lines with a number of banks. Foreign credit lines total approximately $266 million, a portion of which is used to support letters of credit. Mattel expects to extend these credit lines throughout 2003. Mattel believes the cash on hand at the beginning of 2003, amounts available under its domestic unsecured committed revolving credit facility, its uncommitted money market facility, and its foreign credit lines will be adequate to meet its seasonal financing requirements in 2003.

 

Mattel sells certain domestic and foreign trade receivables as one of its means for financing seasonal working capital requirements. Mattel has a $300.0 million domestic receivables sales facility which is a sub-facility of Mattel’s $1.060 billion, 3-year domestic unsecured committed revolving credit facility. The outstanding amount of receivables sold under the domestic receivables facility may not exceed $300.0 million at any given time, and the $1.060 billion available to be borrowed under the credit facility is reduced to the extent of any such outstanding receivables sold. Under the domestic receivables facility, certain trade receivables are

 

28


sold to a group of banks, which currently include, among others, Bank of America, N.A. as administrative agent, Citicorp USA, Inc. and Fleet National Bank as syndication agents, and Societe Generale and BNP Paribas as documentation agents. Pursuant to the domestic receivables facility, Mattel Sales Corp. and Fisher-Price, Inc. (which are wholly-owned subsidiaries of Mattel) can sell trade receivables from Wal-Mart and Target to Mattel Factoring, a Delaware corporation and wholly-owned subsidiary of Mattel. Mattel Factoring is a special purpose entity whose activities are limited to purchasing and selling receivables under this facility. Mattel Factoring is a consolidated subsidiary of Mattel. Pursuant to the terms of the domestic receivables facility and simultaneous with each receivables purchase, Mattel Factoring sells those receivables to the bank group. Mattel records the transaction, reflecting cash proceeds and sale of accounts receivable on its consolidated balance sheet, at the time of the sale of the receivables to the bank group.

 

Mattel’s subsidiaries Mattel International Holdings B.V., a Netherlands company, Mattel France S.A.S., a French company, and Mattel GmbH, a German company, have entered into a Euro 150 million European trade receivables facility, pursuant to which Mattel France S.A.S. and Mattel GmbH may sell trade receivables to a bank, Societe Generale Nederland N.V. The receivables sales are accounted for as a sale. As with the domestic receivables facility, each sale of accounts receivable is recorded on Mattel’s consolidated balance sheet at the time of such sale. No Mattel subsidiary is used as a special purpose entity in connection with these transactions. Under the European receivables facility, the outstanding amount of receivables sold may not exceed Euro 60 million from February 1 through July 31 of each year and may not exceed Euro 150 million at all other times. Pursuant to a letter agreement between Societe Generale Nederland and Mattel International Holdings B.V., Mattel France S.A.S. and Mattel GmbH dated July 1, 2002, the commitment termination date for the European receivables facility was extended to June 29, 2003.

 

The outstanding amounts of accounts receivable that have been sold under these facilities and other factoring arrangements, net of collections from customers, and have been excluded from Mattel’s consolidated balance sheets are summarized as follows (in millions):

 

    

As of Year End


    

2002


  

2001


Receivables sold pursuant to the:

             

Domestic receivables facility

  

$

276.1

  

$

261.5

European receivables facility

  

 

85.2

  

 

78.0

Other factoring arrangements

  

 

76.0

  

 

159.2

    

  

    

$

437.3

  

$

498.7

    

  

 

Financial Position

 

Mattel’s cash and short-term investments increased by $650.4 million to $1.267 billion at year end 2002 compared to $616.6 million at year end 2001. The increase was primarily due to cash flows generated from operating activities and reductions in working capital, partially offset by repayment of long-term debt. Accounts receivable, net decreased by $175.0 million to $490.8 million at year end 2002, reflecting shorter payment terms to customers and improved cash collections, partially offset by lower factoring of accounts receivable. Inventories decreased by $148.9 million to $338.6 million at year end 2002. Inventory levels were positively impacted by the execution of the supply chain initiatives and the elimination of pre-built inventory related to the closure of the Murray, Kentucky, plant, which was completed in the second quarter of 2002. While Mattel will continue to strive for working capital improvement through its supply chain initiatives and focus on cash collections in 2003, management does not expect to generate the same magnitude of cash from working capital improvements as in 2002 considering the current level of its accounts receivable and inventories. Property, plant and equipment, net decreased $27.1 million to $599.6 million at year end 2002, largely due to depreciation, partially offset by capital spending. Goodwill decreased by $386.2 million to $703.2 million at year end 2002, largely due to the one-time $400.0 million pre-tax transition adjustment resulting from the implementation of

 

29


SFAS No. 142. Other assets increased $36.1 million to $767.9 million, principally due to increased noncurrent deferred tax assets resulting from the transition adjustment made in connection with implementation of SFAS No. 142, partially offset by tax asset reductions associated with income from continuing and discontinued operations.

 

Short-term borrowings decreased $12.9 million to $25.2 million at year end 2002 compared to $38.1 million at year end 2001, due to the repayment of debt. Current portion of long-term debt decreased by $27.8 million to $182.3 million at year end 2002, largely due to the repayment of the 200 million Euro Notes, partially offset by the reclassification of $150.0 million of 6% senior notes from long-term debt to current portion of long-term debt since they mature in July 2003.

 

A summary of Mattel’s capitalization is as follows (in millions):

 

    

As of Year End


 
    

2002


    

2001


 

Medium-term notes

  

$

450.0

  

16

%

  

$

480.0

  

17

%

Senior notes

  

 

150.0

  

5

 

  

 

500.0

  

17

 

Other long-term debt obligations

  

 

40.1

  

2

 

  

 

40.9

  

1

 

    

  

  

  

Total long-term debt

  

 

640.1

  

23

 

  

 

1,020.9

  

35

 

Other long-term liabilities

  

 

192.1

  

7

 

  

 

184.2

  

6

 

Stockholders’ equity

  

 

1,978.7

  

70

 

  

 

1,738.5

  

59

 

    

  

  

  

    

$

2,810.9

  

100

%

  

$

2,943.6

  

100

%

    

  

  

  

 

Total long-term debt decreased by $380.8 million at year end 2002 compared to year end 2001 due to the aforementioned reclassification of the $150.0 million of 6% senior notes and $30.0 million of medium-term notes maturing in the next twelve months to current portion of long-term debt. Additionally, Mattel repaid its $200.0 million term loan in the fourth quarter of 2002. Mattel expects to satisfy its future long-term capital needs through the retention of corporate earnings and the issuance of long-term debt instruments. Stockholders’ equity of $1.979 billion at year end 2002 increased $240.2 million from year end 2001, primarily as a result of income from continuing and discontinued operations and cash received from exercise of employee stock options, partially offset by the cumulative effect of change in accounting principles related to the one-time transition adjustment recorded upon implementation of SFAS No. 142 and payment of a dividend on common stock in the fourth quarter of 2002.

 

Mattel’s debt-to-capital ratio, including short-term borrowings and current portion of long-term debt, improved from 42% at year end 2001 to 30% at year end 2002 due to the repayment of short-term and long-term debt combined with improvement in operating results. As previously discussed, Mattel plans to target a goal of reducing the year end debt-to-capital ratio to about 25%.

 

Off-Balance Sheet Arrangements

 

Mattel has no off-balance sheet arrangements in which the failure by Mattel and/or an unconsolidated entity to meet performance obligations would have a material impact on its financial position, results of operations or cash flows.

 

Commitments

 

In the normal course of business, Mattel enters into debt arrangements and contractual arrangements for future purchases of goods and services to ensure availability and timely delivery, and to obtain and protect Mattel’s right to create and market certain products. These arrangements include commitments for future inventory purchases and licensing payments. Certain of these commitments routinely contain provisions for guaranteed or minimum expenditures during the term of the contracts.

 

30


 

Mattel’s commitments for debt and other contractual arrangements are summarized as follows (in thousands):

 

    

Payments Due by Period


    

Total


  

2003


  

2004


  

2005


  

2006


  

2007


  

Thereafter


Long-term debt

  

$

822,365

  

$

182,295

  

$

50,939

  

$

189,131

  

$

50,000

  

$

50,000

  

$

300,000

Licensing minimums

  

 

369,000

  

 

80,000

  

 

85,000

  

 

78,000

  

 

25,000

  

 

27,000

  

 

74,000

Inventory purchases

  

 

103,000

  

 

99,000

  

 

4,000

  

 

  

 

  

 

  

 

Operating leases

  

 

352,000

  

 

46,000

  

 

46,000

  

 

41,000

  

 

35,000

  

 

30,000

  

 

154,000

Capitalized leases

  

 

9,800

  

 

300

  

 

300

  

 

300

  

 

300

  

 

300

  

 

8,300

    

  

  

  

  

  

  

Total

  

$

1,656,165

  

$

407,595

  

$

186,239

  

$

308,431

  

$

110,300

  

$

107,300

  

$

536,300

    

  

  

  

  

  

  

 

Discontinued Operations

 

In May 1999, Mattel merged with Learning Company, with Mattel being the surviving corporation. Due to substantial losses experienced by its Consumer Software segment during 1999, which was comprised primarily of Learning Company, Mattel’s board of directors, on March 31, 2000, resolved to dispose of its Consumer Software segment. As a result of this decision, the Consumer Software segment was reported as a discontinued operation effective March 31, 2000, and the consolidated financial statements were reclassified to segregate the net investment in, and the liabilities and operating results of, the Consumer Software segment.

 

On October 18, 2000, Mattel disposed of Learning Company to an affiliate of Gores Technology Group in return for a contractual right to receive future consideration based on income generated from its business operations and/or the net proceeds derived by the new company upon the sale of its assets or other liquidation events, or 20% of its enterprise value at the end of five years.

 

In the fourth quarter of 2001, Mattel received proceeds totaling $10.0 million from Gores Technology Group as a result of liquidation events related to Gores Technology Group’s sale of the entertainment and education divisions of the former Learning Company. Mattel also incurred additional costs of approximately $10 million in 2001 related to the wind down of the Consumer Software segment. Accordingly, no income was recorded in the consolidated statement of operations for discontinued operations.

 

In the third quarter of 2002, Gores Technology Group completed the sale and liquidation of non-cash proceeds related to the sales of the education and productivity divisions of the former Learning Company. Mattel has a contractual right to share with Gores Technology Group in proceeds from the sale of the assets of the former Learning Company and other liquidation events. Mattel recognized a gain from discontinued operations of $27.3 million, net of taxes, in the consolidated statement of operations for the quarter ended September 30, 2002. Mattel collected the $43.3 million pre-tax amount due from Gores Technology Group related to these events during the fourth quarter of 2002.

 

As of December 31, 2002, Gores Technology Group had sold essentially all of the former Learning Company businesses. Therefore, Mattel does not expect to receive any significant additional proceeds from Gores Technology Group related to the discontinued operations. At December 31, 2002, Mattel had net obligations related to its discontinued Consumer Software segment of approximately $14 million. Mattel believes that it has adequately reserved for future obligations of this segment.

 

In December 2000 and January 2001, Mattel entered into worldwide, multi-year licensing agreements with Vivendi Universal Publishing and THQ, respectively, for the development and publishing of gaming, educational and productivity software based on Mattel’s brands, which Mattel had previously developed and sold directly through its Mattel Media division. These partnerships allow Mattel to provide the content from its library of brands, while Vivendi Universal Publishing and THQ provide software development and distribution expertise.

 

 

31


Litigation

 

Litigation Related to Learning Company

 

Following Mattel’s announcement in October 1999 of the expected results of its Learning Company division for the third quarter of 1999, various Mattel stockholders filed purported class action complaints naming Mattel and certain of its present and former officers and directors as defendants. The complaints generally alleged, among other things, that the defendants made false or misleading statements, in the joint proxy statement for the merger of Mattel and Learning Company and elsewhere, that induced Mattel’s shareholders to vote to approve the merger and artificially inflated the price of Mattel’s common stock.

 

These shareholder complaints were consolidated into two lead cases: Thurber v. Mattel, Inc., et al. (containing claims under §10(b) of the 1934 Securities Exchange Act (“Act”)) and Dusek v. Mattel, Inc., et al. (containing claims under §14(a) of the Act). Both of these federal lawsuits are pending in the United States District Court for the Central District of California. In November 2002, the Court permitted the actions to proceed as class actions.

 

Several stockholders filed derivative complaints purportedly on behalf of and for the benefit of Mattel, alleging, among other things, that Mattel’s directors breached their fiduciary duties, wasted corporate assets, and grossly mismanaged Mattel in connection with Mattel’s acquisition of Learning Company and its approval of severance packages to certain former executives. Some of the derivative suits were consolidated into one lawsuit filed in Los Angeles Superior Court in California, which was dismissed for failure to make pre-suit demand on the board of directors, and is currently on appeal. Another derivative suit was filed in the Court of Chancery in Delaware, and was dismissed without prejudice in August 2002. A third derivative suit, filed in federal court in the Central District of California, was dismissed in July 2002, and re-filed in November 2002 as part of the settlement described below.

 

In November 2002, with a court-appointed mediator acting as a neutral facilitator, the parties negotiated and thereafter memorialized an agreement in principle to resolve all of the federal lawsuits in exchange for payment of $122.0 million and Mattel’s agreement to adopt certain corporate governance procedures. Under the terms of the settlement, Mattel and its directors and officers liability insurers have deposited the settlement funds into an escrow account pending completion of a final written settlement agreement and court approval of the settlement. The settlement is conditioned upon court approval of the terms of the settlement, entry of final judgments dismissing the federal lawsuits, and dismissal or withdrawal of the appeal in the California state court derivative action.

 

At the time of the lawsuits, Mattel maintained directors and officers liability insurance with a maximum coverage of $120 million through several different carriers. One of those carriers, Reliance Insurance Company, had become insolvent, and was unable to meet its coverage obligation for its $20 million excess layer. As a result, Mattel contributed this $20 million layer to the settlement fund, and has made a claim against the California Insurance Guarantee Association (“CIGA”) to recoup the full $20 million of the Reliance layer. CIGA disputes that it has to pay this amount, and has taken the position that it has to pay only $0.5 million.

 

The total amount that Mattel expects to incur in connection with the Learning Company litigation is $25.4 million on a pre-tax basis, consisting of the uninsured portion of the settlement and legal and professional fees in excess of insurance coverage. Mattel recorded this amount in its results of operations in the fourth quarter of 2002.

 

Litigation Related to Greiner & Hausser

 

In December 2001, Mattel was served with a lawsuit that had been filed in the Geschaeftsstelle des Landgerichts Nuernberg-Fuerth, a German lower court, on May 9, 2001 by Greiner & Hausser GmbH i.L. (“G&H”), a German toy company that had filed for bankruptcy in 1983 and ceased operations by 1985. The

 

32


action is based upon a claimed misrepresentation by Mattel during negotiations in the early 1960’s when G&H sold all patent and other rights in and to the Bild Lilli property (“Lilli”) to Mattel. G&H alleges that Mattel’s representative in those negotiations stated that Mattel’s international Barbie® brand sales were “insignificant” in 1964. The suit claims that, had the alleged misrepresentation not occurred, G&H would have succeeded in extracting from Mattel an agreement to pay to G&H a royalty on Mattel’s future Barbie® sales. Underlying the plaintiff’s claim is the allegation that the first Barbie® doll was copied from the Lilli doll.

 

G&H is seeking unspecified damages relating to Barbie® dolls sold from 1971 through 1974. It has initially estimated damages in an amount equal to approximately $4.5 million. Mattel believes that if the plaintiff were to be successful in the current action, it would pursue further actions for damages relating to sales for other time frames as well. The current action further requests a declaration that G&H may resume production of the Lilli doll.

 

Following an initial hearing on October 25, 2002, the German lower court dismissed G&H’s action in its entirety on December 13, 2002, based on the expiration of the applicable statute of limitations and other procedural grounds. G&H’s counsel has subsequently indicated an intention to appeal these rulings. Mattel believes the action has no substantive merit and that the German lower court rightly decided the matter. If G&H does in fact appeal, Mattel intends to defend the lower court’s decision vigorously.

 

Environmental

 

Fisher-Price

 

Fisher-Price has executed a consent order with the State of New York to implement a groundwater remediation system at one of its former manufacturing plants. The execution of the consent order was in response to the New York State Department of Environmental Conservation Record of Decision issued in March 2000. The Department approved a conceptual work plan in March 2001, with work scheduled to begin in 2001. However, in response to concerns expressed by a number of nearby residents, the Department has requested that Mattel postpone implementation of the groundwater remediation plan until after the installation of a public water line to those residents is completed. The ultimate liability associated with this cleanup presently is estimated to be approximately $1.8 million, approximately $1.3 million of which has been incurred through December 31, 2002.

 

Beaverton, Oregon

 

Mattel previously operated a manufacturing facility on a leased property in Beaverton, Oregon that was acquired as part of the March 1997 merger with Tyco Toys, Inc. In March 1998, samples of groundwater used by the facility for process water and drinking water disclosed elevated levels of certain chemicals, including trichloroethylene. Mattel immediately closed the water supply and self-reported the sample results to the Oregon Department of Environmental Quality and the Oregon Health Division. Mattel also implemented a community outreach program to employees, former employees and surrounding landowners.

 

Mattel has recorded pre-tax charges totaling $19.0 million related to this property, of which approximately $4 million has been incurred through December 31, 2002, largely related to attorney fees, consulting work and an employee medical screening program. In January 2003, Mattel entered into a settlement with the Oregon Department of Environmental Quality resolving its cleanup liability in return for a contribution of $0.4 million to the cleanup, which is being performed by the company that caused the contamination. The remaining liability of approximately $15 million as of year end 2002 represents estimated amounts to be incurred for environmental remediation, including the $0.4 million cleanup liability, employee medical screening, project management, legal and other costs related to the Beaverton property.

 

33


 

General

 

Mattel is also involved in various other litigation and legal matters, including claims related to intellectual property, product liability and labor, which Mattel is addressing or defending in the ordinary course of business. Management believes that any liability that may potentially result upon resolution of such matters will not have a material adverse effect on Mattel’s business, financial condition or results of operations.

 

Effects of Inflation

 

Inflation rates in the US and in major foreign countries where Mattel does business have not had a significant impact on its results of operations or financial position during the three years ended December 31, 2002. The US Consumer Price Index increased 2.4% in 2002, 1.6% in 2001 and 3.4% in 2000. Mattel receives some protection from the impact of inflation from high turnover of inventories and its ability under certain circumstances at certain times to pass on higher prices to its customers.

 

Employee Savings Plan

 

Certain employee savings plan design provisions used by other companies can result in requirements to hold substantial portions of a participant’s account balance in the stock of the sponsoring company, significantly increasing the exposure of the account to market risk associated with a single company’s stock. However, the Mattel Personal Investment Plan is designed to allow participants to limit their exposure to market changes in Mattel’s stock price. Mattel makes company contributions in cash and allows employees to allocate both individual and company contributions to a balanced variety of investment funds. Furthermore, Mattel’s plan limits a participant’s allocation to the Mattel Stock Fund, which is fully invested in Mattel stock, to 50% of the account balance. Participants may generally reallocate their account balances on a daily basis. This reallocation is only limited for participants classified as insiders who wish to change their investment in the Mattel Stock Fund. Insiders are limited to certain window periods for making allocations into or out of the Mattel Stock Fund.

 

Application of Critical Accounting Policies

 

Mattel makes certain estimates and assumptions that affect the reported amounts of assets and liabilities and the reported amounts of revenues and expenses. The accounting policies described below are those Mattel considers most critical in preparing its consolidated financial statements. Management has discussed the development and selection of each of these critical accounting policies with its audit committee of the board of directors and the audit committee has reviewed each of the disclosures included below. These policies include significant judgment made by management using information available at the time the estimates are made. As described below, however, these estimates could change materially if different information or assumptions were used.

 

Accounts Receivable—Allowance for Doubtful Accounts

 

The allowance for doubtful accounts represents adjustments to customer trade accounts receivable for amounts deemed partially or entirely uncollectible. Management believes the accounting estimate related to the allowance for doubtful accounts is a “critical accounting estimate” because significant changes in it could materially affect key financial measures including, other selling and administrative expenses, net income and accounts receivable. In addition, the allowance requires a high degree of judgment since it involves estimation of the impact of both current and future economic factors as it relates to each of its customers’ ability to pay amounts owed Mattel.

 

Products within the Domestic segment are sold directly to large retailers, including discount and free-standing toy stores, chain stores, department stores, other retail outlets and, to a limited extent, wholesalers. Products within the International segment are sold directly to customers in Canada and most European, Asian and Latin American countries, and through agents and distributors in those countries where Mattel has no direct

 

34


presence. In the International segment, there is also significant concentration of sales to certain large customers. The customers and the degree of concentration vary depending upon the region or nation.

 

On a consolidated basis, a small number of Mattel’s customers account for a large share of net sales and accounts receivable. For year end 2002, Mattel’s three largest customers, Wal-Mart, Toys “R” Us and Target, in the aggregate, accounted for approximately 50% of net sales and the ten largest customers in the aggregate accounted for approximately 62% of net sales. As of year end 2002, Mattel’s three largest customers accounted for approximately 42% of net accounts receivable and the ten largest customers accounted for approximately 65% of net accounts receivable. The concentration of Mattel’s business with a relatively small number of customers may expose Mattel to a material adverse effect if one or more of Mattel’s large customers were to experience financial difficulty.

 

In recent years, the mass-market retail channel has experienced significant shifts in market share among competitors, causing some large retailers to experience liquidity problems. In addition, many of Mattel’s customers have been negatively impacted by the worsening economic conditions. In 2001 and 2002, two large customers of Mattel filed for bankruptcy and a third customer filed for bankruptcy in 2003. Mattel’s sales to customers are typically made on credit without collateral and are highly concentrated in the third and fourth quarters due to the cyclical nature of toy sales. This results in a substantial portion of trade receivables being collected during the latter half of the year. There is a risk that customers will not pay, or that payment may be delayed, because of bankruptcy or other factors beyond the control of Mattel. This could increase Mattel’s exposure to losses from bad debts.

 

Mattel has procedures to mitigate the risk of exposure to losses from bad debts. Revenue is recognized provided that: there are no uncertainties regarding customer acceptance; persuasive evidence of an agreement exists documenting the specific terms of the transaction; the sales price is fixed or determinable; and collectibility is reasonably assured. Credit limits and payment terms are established based on the underlying criteria that collectibility must be reasonably assured at the levels set for each customer. Extensive evaluations are performed on an on-going basis throughout the fiscal year of the financial performance, cash generation, financing availability and liquidity status of each customer. Each customer is reviewed at least annually, with more frequent reviews being performed if necessary based on the customer’s financial condition and the level of credit being extended. For customers who are experiencing financial difficulties, management performs additional financial analyses prior to shipping to those customers on credit. Customer terms and credit limits are reviewed and adjusted, if necessary, to reflect the results of the review. Mattel uses a variety of financial transactions to ensure collectibility of accounts receivable of customers deemed to be a credit risk, including requiring letters of credit, factoring or purchasing various forms of credit insurance with unrelated third parties and requiring cash on delivery.

 

Mattel’s allowance for doubtful accounts was $23.3 million, $55.9 million and $24.6 million at year end 2002, 2001 and 2000, respectively. The increase in the allowance for doubtful accounts from 2000 to 2001 was due to an initial $22.1 million charge, and related increase to the allowance for doubtful accounts, related to the Kmart bankruptcy filing in January 2002. Later in 2002, Mattel recorded an additional $33.5 million charge to write down the Kmart pre-bankruptcy petition accounts receivable to liquidation value, as a direct reduction of accounts receivable without adjusting the allowance for doubtful accounts. On a more comparable basis, excluding the reserves attributable to Kmart, the allowance for doubtful accounts represented 4.5%, 4.8% and 3.0% of total accounts receivable at year end 2002, 2001 and 2000, respectively.

 

Mattel records an allowance for doubtful accounts at the time revenue is recognized based on management’s assessment of the business environment, customers’ financial condition, historical collection experience, accounts receivable aging and customer disputes. When a significant event occurs, such as a bankruptcy filing of a customer, the allowance is reviewed for adequacy and adjusted to reflect the change in estimated receivable impairment. Mattel believes that its allowance for doubtful accounts at year end 2002 is adequate and proper. However, as described above, Mattel’s business is greatly dependent on a small number of customers. Should

 

35


one or more of these customers experience liquidity problems, then the allowance for doubtful accounts of $23.3 million, or 4.5% of trade accounts receivable, at year end 2002 may not prove to be sufficient to cover such losses. Any incremental bad debt charges would negatively affect the results of operations of one or more of Mattel’s business segments.

 

Inventories—Allowance for Obsolescence

 

Inventories, net of an allowance for excess quantities and obsolescence, are stated at the lower of cost or market. Inventory obsolescence reserves are recorded for damaged, obsolete, excess and slow-moving inventory. Management believes the accounting estimate related to the inventory allowance is a “critical accounting estimate” because changes in it could materially affect key financial measures including, gross profit, net income and inventories. In addition, the valuation requires a high degree of judgment since it involves estimation of the impact resulting from both current and expected future events. As more fully described below, valuation of Mattel’s inventory could be impacted by changes in public and consumer preferences, demand for product, or changes in the buying patterns and inventory management of customers.

 

In the toy industry, orders are subject to cancellation or change at any time prior to shipment since actual shipments of products ordered and order cancellation rates are affected by consumer acceptance of product lines, strength of competing products, marketing strategies of retailers and overall economic conditions. Unexpected changes in these factors could result in excess inventory in a particular product line, which would require management to make a valuation estimate on such inventory.

 

Mattel bases its production schedules for toy products on customer orders, historical trends, results of market research and current market information. Mattel ships products in accordance with delivery schedules specified by its customers, which usually request delivery within three months. In anticipation of retail sales in the traditional holiday season in the fourth quarter, Mattel significantly increases its production in advance of the peak selling period, resulting in a corresponding build-up of inventory levels in the first three quarters of the year. These seasonal purchasing patterns and requisite production lead times cause risk to Mattel’s business associated with the underproduction of popular toys and the overproduction of toys that do not match consumer demand. Retailers are also attempting to manage their inventories more tightly, requiring Mattel to ship products closer to the time the retailers expect to sell the products to consumers. These factors increase inventory valuation risk since Mattel may not be able to meet demand for certain products at peak demand times, or that Mattel’s own inventory levels may be adversely impacted by the need to pre-build products before orders are placed.

 

Additionally, current conditions in the domestic and global economies are extremely uncertain. As a result, it is difficult to estimate the level of growth in various parts of the economy, including the markets in which Mattel participates. Because all components of Mattel’s budgeting and forecasting are dependent upon estimates of growth in the markets it serves and demand for its products, the prevailing economic uncertainties render estimates of future demand for product more difficult. Such economic changes may affect the sales of Mattel’s products and its corresponding inventory levels, which would potentially impact the valuation of its inventory.

 

At the end of each quarter, management within each business segment, US Girls, US Boys-Entertainment, US Infant & Preschool, and International, performs a detailed review of its inventory on an item by item basis and identifies which products are believed to be obsolete or slow-moving. Management then applies an allowance for inventory obsolescence to such inventory based on certain expectations, including customer and consumer demand for product and the aging of the inventory, which are impacted by the factors discussed above.

 

At year end 2002, Mattel’s obsolescence reserve was $49.1 million (or 12.7% of total inventory), $63.1 million (or 11.5% of total inventory) and $58.6 million (or 10.7% of total inventory) at year end 2002, 2001 and 2000, respectively. The decrease in the obsolescence reserve at year end 2002 compared to 2001 and 2000 was due to Mattel’s focus on reducing its obsolete and slow moving inventory in 2002. Management

 

36


believes that its allowance for obsolescence at year end 2002 is adequate and proper. However, the impact resulting from the aforementioned factors could cause actual results to vary. Any incremental obsolescence charges would negatively affect the results of operations of one or more of Mattel’s business segments.

 

Benefit Plan Assumptions

 

Mattel and certain of its subsidiaries have retirement and other postretirement benefit plans covering substantially all employees of these companies. Mattel accounts for its defined benefit pension plans in accordance with SFAS No. 87, Employers’ Accounting for Pensions, and its other postretirement benefit plans in accordance with SFAS No. 106, Employers’ Accounting for Postretirement Benefits Other Than Pensions.

 

Actuarial valuations are used in determining amounts recognized in financial statements for retirement and other postretirement benefit plans. These valuations incorporate the following significant assumptions:

 

    Weighted average discount rate to be used to measure future plan obligations and interest cost component of plan income or expense

 

    Rate of future compensation increases (for defined benefit plans)

 

    Long-term rate of return on plan assets

 

    Health care cost trend rates (for other postretirement benefit plans)

 

Management believes that these assumptions are “critical accounting estimates” since significant changes in these assumptions would ultimately impact Mattel’s results of operations and financial condition. Mattel reviews its benefit plan assumptions annually and modifies its assumptions based on current rates and trends as appropriate. The effects of such changes in assumptions are amortized as part of plan income or expense in future periods in accordance with SFAS Nos. 87 and 106.

 

At the end of each fiscal year, Mattel determines the weighted average discount rate used to calculate the projected benefit obligation. The discount rate is an estimate of the current interest rate at which the benefit plan liabilities could be effectively settled at the end of the year. The discount rate also impacts the interest cost component of plan income or expense recorded. At year end 2002, Mattel determined this rate to be 6.5% as compared to 7.0% and 7.5% for the years ended 2001 and 2000, respectively. In estimating this rate, Mattel looks at rates of return on high quality, corporate bond indices.

 

The rate of future compensation increases used by Mattel was 4.0% for the years ended 2002, 2001 and 2000. This assumption is reviewed annually based on historical salary increases for participants in the defined benefit plan. This assumption impacts the service and interest cost components of plan income or expense.

 

The long-term rate of return on plan assets is based on management’s expectation of earnings on the assets that secure the defined benefit plan, taking into account the mix of invested assets and the long-term nature of the projected benefit obligation to which these investments relate. The long-term rate of return is used to calculate the expected return on plan assets that is used in calculating pension income or expense. The difference between this expected return and the actual return on plan assets is deferred. The net deferral of past asset gains or losses affects the calculated value of plan assets and, ultimately, future pension income or expense. Over the last three years, Mattel lowered its long-term rate of return from 11.0% in 2000 to 10.0% in 2001 to 8.0% in 2002, based on recent economic and stock market conditions.

 

The health care cost trend rates used by Mattel for its other postretirement benefit plans reflect management’s best estimate of expected claim costs over the next five years. Rates ranging from 10.5% in 2003 to 6.0% in 2006, with rates assumed to stabilize at 5.5% in 2007 and thereafter, were used in determining plan expense for 2002. These rates are reviewed annually and are estimated based on historical costs for participants in the other postretirement benefit plans as well as estimates based on current economic conditions. These trend rates impact the service and interest cost components of plan expense.

 

37


 

Valuation of Goodwill and Other Intangible Assets

 

Effective on January 1, 2002, Mattel adopted SFAS No. 142, Goodwill and Other Intangible Assets, which superseded APB Opinion No. 17, Intangible Assets. This statement addresses the accounting and reporting of goodwill and other intangible assets subsequent to their acquisition. In accordance with the adoption of SFAS No. 142, Mattel ceased amortization of goodwill effective January 1, 2002.

 

Management believes the accounting estimate related to the valuation of its goodwill and other intangible assets is a “critical accounting estimate” because significant changes in assumptions could materially affect key financial measures, including net income and other noncurrent assets, specifically goodwill. The valuation of goodwill involves a high degree of judgment since the first step of the impairment test required by SFAS No. 142 consists of a comparison of the fair value of a reporting unit with its book value. Based on the assumptions underlying the valuation, impairment is determined by estimating the fair value of a reporting unit and comparing that value to the reporting unit’s book value. If the fair value is more than the book value of the reporting unit, an impairment loss is not recognized. If an impairment exists, the fair value of the reporting unit is allocated to all of its assets and liabilities excluding goodwill, with the excess amount representing the fair value of goodwill. An impairment loss is measured as the amount by which the book value of the reporting unit’s goodwill exceeds the estimated fair value of that goodwill.

 

SFAS No. 142 requires that goodwill and other intangible assets be allocated to various reporting units, which are either at the operating segment level or one reporting level below the operating segment. Mattel’s reporting units for purposes of applying the provisions of SFAS No. 142 are: Pleasant Company, US Girls, US Boys-Entertainment, US Infant & Preschool and International. As a result of implementing SFAS No. 142, Mattel recorded a one-time transition adjustment of $252.2 million, net of tax, as the cumulative effect of change in accounting principles resulting from the transitional impairment test of the Pleasant Company reporting unit goodwill. For each of the other reporting units, the fair value of the reporting unit exceeded its carrying amount. In the third quarter of 2002, Mattel performed the annual impairment test required by SFAS No. 142 and determined that its goodwill was not impaired as of September 30, 2002.

 

Mattel utilizes a combination of the fair value of the cash flows that the business can be expected to generate in the future (Income Approach) and the fair value of the business as compared to other similar publicly traded companies (Market Approach) to test for impairment. The Income Approach valuation method requires Mattel to make projections of revenue, operating costs and working capital investment for the reporting unit over a multi-year period. Additionally, management must make an estimate of its weighted average cost of capital to be used as a discount rate. The Market Approach valuation method requires Mattel to identify publicly traded companies in a similar line of business. Changes in these projections or estimates could result in a reporting unit either passing or failing the first step in the SFAS No. 142 impairment model, which could significantly change the amount of impairment recorded.

 

New Accounting Pronouncements

 

In August 2001, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 143, Accounting for Asset Retirement Obligations, which addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. This statement requires that the fair value of a liability for an asset retirement obligation be recognized in the period in which it is incurred if a reasonable estimate of fair value can be made. The associated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset. All provisions of this statement will be effective at the beginning of fiscal 2003. Mattel does not expect that the adoption of SFAS No. 143 will have a material effect on its consolidated financial position or results of operations.

 

In July 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities, which supersedes EITF Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity. SFAS No. 146 requires that a liability for a cost associated with an

 

38


exit activity or disposal activity be recognized and measured initially at fair value only when the liability is incurred. EITF Issue No. 94-3 requires recognition of a liability at the date an entity commits to an exit plan. All provisions of SFAS No. 146 will be effective for exit or disposal activities that are initiated after December 31, 2002. Consistent with the provisions of SFAS No. 146, Mattel will apply this statement prospectively. Mattel does not expect that the adoption of SFAS No. 146 will have a material effect on its consolidated financial position or results of operations.

 

In November 2002, the FASB issued FASB Interpretation No. (“FIN”) 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. FIN 45 requires that upon issuance of a guarantee, the entity (i.e., the guarantor) must recognize a liability for the fair value of the obligation it assumes under that guarantee. FIN 45’s provisions for initial recognition and measurement will be effective on a prospective basis to guarantees issued or modified after December 31, 2002. Consistent with the provisions of FIN 45, Mattel will apply this statement prospectively. As required by FIN 45, the disclosure provisions have been included in these financial statements for the period ended December 31, 2002.

 

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure, which amends SFAS No. 123. SFAS No. 148 provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results of operations. Mattel is in the process of evaluating the alternative fair valuation methods prescribed in this statement and the impact on its financial results of operations should the company decide to adopt the recognition provisions of stock-based employee compensation.

 

Factors That May Affect Future Results

(Cautionary Statement Under the Private Securities Litigation Reform Act of 1995)

 

Certain written and oral statements made or incorporated by reference from time to time by Mattel or its representatives in this Annual Report on Form 10-K, other filings or reports filed with the Securities and Exchange Commission, press releases, conferences, or otherwise, are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 and may include, but are not limited to, statements about: sales and inventory levels; brand and customer management programs; restructuring and financial realignment plans; special charges and other non-recurring charges; initiatives aimed at anticipated cost savings; operating efficiencies, including those associated with supply chain and information technology initiatives; capital deployment plan (including statements about free cash flow, seasonal working capital, debt-to-equity ratios, capital expenditures, acquisitions and share repurchases); cost increases; and profitability. Mattel is including this Cautionary Statement to make applicable and take advantage of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 for any such forward-looking statements. Forward-looking statements include any statement that may predict, forecast, indicate, or imply future results, performance, or achievements. Forward-looking statements can be identified by the use of terminology such as “believe,” “anticipate,” “expect,” “estimate,” “may,” “will,” “should,” “project,” “continue,” “plans,” “aims,” “intends,” “likely,” or other similar words or phrases. Except for historical matters, the matters discussed in this Annual Report on Form 10-K and other statements or filings made by Mattel from time-to-time may be forward-looking statements. Management cautions you that forward-looking statements involve risks and uncertainties that may cause actual results to differ materially from the forward-looking statements. In addition to the important factors detailed herein and from time to time in other reports filed by Mattel with the Securities and Exchange Commission, including Forms 8-K, 10-Q and 10-K, the following important factors could cause actual results to differ materially from past results or those suggested by any forward-looking statements.

 

 

39


Competition and New Product Introductions

 

Mattel’s business and operating results depend largely upon the appeal of its toy products. Consumer preferences are continuously changing and the toy industry experiences significant, sudden shifts in demand caused by “hit” toys and trends, which are unpredictable. In recent years there have been trends towards shorter life cycles for individual products, the phenomenon of children outgrowing toys at younger ages—particularly in favor of interactive and high technology products—and an increasing use of high technology in toys. In addition, Mattel competes with many other companies, both large and small, which means that Mattel’s market position is always at risk. Mattel’s ability to maintain its current market share, and increase its market share or establish market share in new product categories, will depend on Mattel’s ability to satisfy consumer preferences, enhance existing products, develop and introduce new products, and achieve market acceptance of such products. If Mattel does not successfully meet these challenges in a timely and cost-effective manner, demand for its products will decrease and Mattel’s results of operations will suffer.

 

Seasonality, Managing Production and Predictability of Orders

 

Mattel’s business is subject to risks associated with the underproduction of popular toys and the overproduction of toys that do not match consumer demand. Sales of toy products at retail are seasonal, with a majority of retail sales occurring during the period of September through December. As a result, Mattel’s annual operating results will depend, in large part, on sales during the relatively brief holiday season. Retailers are attempting to manage their inventories better, requiring Mattel to ship products closer to the time the retailers expect to sell the products to consumers. This in turn results in shorter lead times for production. Shipping disruptions limiting the availability of ships or containers in Asia during peak demand times may affect Mattel’s ability to deliver its products in time to meet retailer demand. These factors increase the risk that Mattel may not be able to meet demand for certain products at peak demand times, or that Mattel’s own inventory levels may be adversely impacted by the need to pre-build products before orders are placed.

 

Adverse General Economic Conditions

 

Current conditions in the domestic and global economies are extremely uncertain. As a result, it is difficult to estimate the level of growth for the economy as a whole. It is even more difficult to estimate growth in various parts of the economy, including the markets in which Mattel participates. Because all components of Mattel’s budgeting and forecasting are dependent upon estimates of growth in the markets it serves and demand for its products, the prevailing economic uncertainties render estimates of future income and expenditures even more difficult than usual to make. Adverse changes may occur as a result of softening global economies, wavering consumer confidence caused by the threat or occurrence of terrorist attacks such as those in the US on September 11, 2001, war, or other factors affecting economic conditions generally. Such changes may negatively affect the sales of Mattel’s products, increase exposure to losses for bad debt, or increase costs associated with manufacturing and distributing these products.

 

Customer Concentration

 

A small number of Mattel’s customers account for a large share of net sales. For 2002, Mattel’s three largest customers, Wal-Mart, Toys “R” Us and Target, in the aggregate accounted for approximately 50% of net sales, and the ten largest customers in the aggregate accounted for approximately 62% of net sales. The concentration of Mattel’s business with a relatively small number of customers may expose Mattel to a material adverse effect if one or more of Mattel’s large customers were to significantly reduce purchases for any reason. In addition, some large chain retailers have begun to sell private-label toys designed and branded by the retailers themselves. Such toys may be sold at prices lower than comparable toys sold by Mattel, and may result in lower purchases of Mattel-branded products by such retailers.

 

40


 

Rationalization of Mass Market Retail Channel and Bankruptcy of Key Customers

 

Many of Mattel’s key customers are mass market retailers. The mass market retail channel in the US has experienced significant shifts in market share among competitors in recent years, causing some large retailers to experience liquidity problems. In 2001 and 2002, two large customers of Mattel filed for bankruptcy and a third filed for bankruptcy in 2003. Mattel’s sales to customers are typically made on credit without collateral. There is a risk that customers will not pay, or that payment may be delayed, because of bankruptcy or other factors beyond the control of Mattel. This could increase Mattel’s exposure to losses from bad debts. In addition, if these or other customers were to cease doing business as a result of bankruptcy, it could have a material adverse affect on Mattel’s business, financial condition and results of operations.

 

Adequate Supplies and Cost Increases

 

Mattel’s ability to meet customer demands depends, in part, on its ability to obtain timely and adequate delivery of materials, parts and components from its suppliers and internal manufacturing capacity. Mattel has experienced shortages in the past, including raw materials and components. Although Mattel works closely with suppliers to avoid these types of shortages, there can be no assurances that Mattel will not encounter these problems in the future. A reduction or interruption in supplies or a significant increase in the price of one or more supplies could have a material adverse effect on Mattel’s businesses. Cost increases as a result of shortages of materials or rising service expenses could increase the cost of Mattel’s products and lower sales.

 

Litigation and Disputes

 

Mattel is involved in a number of litigation matters. An unfavorable resolution of pending litigation could have a material adverse effect on Mattel’s financial condition. Litigation may result in substantial costs and expenses and significantly divert the attention of Mattel’s management regardless of the outcome. There can be no assurance that Mattel will be able to achieve a favorable settlement of pending litigation or obtain a favorable resolution of litigation if it is not settled. In addition, current and future litigation, governmental proceedings, labor disputes or environmental matters could lead to increased costs or interruptions of normal business operations of Mattel.

 

Protection of Intellectual Property Rights

 

The value of Mattel’s business depends to a large degree on its ability to protect its intellectual property, including its trademarks, trade names, copyrights, patents and trade secrets in the US and around the world. Any failure by Mattel to protect its proprietary intellectual property and information, including any successful challenge to Mattel’s ownership of its intellectual property or material infringements of such property, could have a material adverse effect on Mattel’s business, financial condition and results of operations.

 

Political Developments, including Trade Relations, and the Threat or Occurrence of War or Terrorist Activities

 

Mattel’s business is worldwide in scope, including operations in 36 countries. The deterioration of the political situation in a country in which Mattel has significant sales or operations, or the breakdown of trade relations between the US and a foreign country in which Mattel has significant manufacturing facilities or other operations, could adversely affect Mattel’s business, financial condition and results of operations. For example, a change in trade status for China could result in a substantial increase in the import duty of toys manufactured in China and imported into the US. In addition, the occurrence or threat of terrorist activities, and the responses to and results of such activities, or the war between the US and Iraq, or otherwise, could materially impact Mattel, its personnel and facilities, its customers and suppliers, retail and financial markets and general economic conditions.

 

41


 

Manufacturing Risk

 

Mattel owns and operates manufacturing facilities and utilizes third-party manufacturers throughout Asia, primarily in China, Indonesia, Malaysia and Thailand. A risk of political instability and civil unrest exists in these countries, which could temporarily or permanently damage Mattel’s manufacturing operations located there. Mattel’s business, financial position and results of operations would be negatively impacted by a significant disruption to its manufacturing operations or suppliers.

 

Financing Matters

 

Increases in interest rates, both domestically and internationally, could negatively affect Mattel’s cost of financing both its operations and investments. Foreign currency exchange fluctuations may affect Mattel’s reportable income and cash flows. Any reduction in Mattel’s credit ratings could increase the cost of obtaining financing. Additionally, Mattel’s ability to issue long-term debt and obtain seasonal borrowing could be adversely affected by factors such as an inability to meet its debt covenant requirements, which include maintaining consolidated debt-to-capital and interest coverage ratios. Mattel’s ability to conduct its operations could be negatively impacted should these or other adverse conditions affect its primary sources of liquidity.

 

Advertising and Promotion

 

Mattel’s products are marketed worldwide through a diverse spectrum of advertising and promotional programs. Mattel’s ability to sell products is dependent in part upon the success of such programs. If Mattel does not successfully market its products or if media or other advertising or promotional costs increase, these factors could have a material adverse affect on Mattel’s business, financial condition and results of operations.

 

Success of New Initiatives

 

Mattel has announced initiatives to improve the execution of its core business, globalize and extend Mattel’s brands, catch new industry trends and develop people, including a supply chain initiative and a long-term information technology strategy. Such initiatives involve complex decision making as well as extensive and intensive execution, and the success of such initiatives is not assured. Failure to successfully implement any of these initiatives could have a material adverse effect on Mattel’s business, financial condition and results of operations.

 

Changes in Laws and Regulations

 

Mattel operates in a highly regulated environment in the US and internationally. US federal, state and local governmental entities and foreign governments regulate many aspects of Mattel’s business including its products and the importation and exportation of its products. Such regulations may include taxes, trade restrictions, regulations regarding financial matters, environmental regulations, advertising directed toward children, safety and other administrative and regulatory restrictions. Changes in laws or regulations may lead to increased costs or the interruption of normal business operations.

 

Acquisition, Dispositions and Takeover Defenses

 

Mattel may engage in acquisitions, mergers or dispositions, which may affect the profit, revenues, profit margins, debt-to-equity ratios, capital expenditures, or other aspects of Mattel’s business. There can be no assurance that Mattel will be able to identify suitable acquisition targets or that, if identified, it will be able to acquire such targets on acceptable terms. Additionally, there can be no assurance that Mattel will be successful in integrating any acquired company into its overall operations, or that any such acquired company will operate profitably or will not otherwise adversely impact Mattel’s results of operations. In addition, Mattel has certain anti-takeover provisions in its bylaws that may make it more difficult for a third party to acquire Mattel without its consent, which may adversely affect Mattel’s stock price.

 

42


 

If any of the risks and uncertainties described in the cautionary factors listed above actually occurs, Mattel’s business, financial condition and results of operations could be materially and adversely affected. The factors listed above are not exhaustive. Other sections of this Annual Report on Form 10-K include additional factors that could materially and adversely impact Mattel’s business, financial condition and results of operations. Moreover, Mattel operates in a very competitive and rapidly changing environment. New factors emerge from time to time and it is not possible for management to predict the impact of all such factors on Mattel’s business, financial condition or results of operations or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. Given these risks and uncertainties, investors should not rely on forward-looking statements as a prediction of actual results. Any or all of the forward-looking statements contained in this Annual Report on Form 10-K and any other public statement made by Mattel or its representatives may turn out to be wrong. Mattel expressly disclaims any obligation to update or revise any forward-looking statements, whether as a result of new developments or otherwise.

 

Item 7A.    Quantitative and Qualitative Disclosures About Market Risk.

 

Risk Management

 

Exchange rate fluctuations may impact Mattel’s results of operations and cash flows. Inventory purchase transactions denominated in the Euro, British pound sterling, Mexican peso, Hong Kong dollar and Indonesian rupiah are the primary transactions that cause exchange rate exposure for Mattel. Mattel seeks to mitigate its exposure to market risk by monitoring its currency exchange exposure for the year and partially or fully hedging such exposure using foreign currency forward exchange and option contracts primarily to hedge its purchase and sale of inventory, and other intercompany transactions denominated in foreign currencies. These contracts generally have maturity dates of up to 18 months. Inventory purchase exposure in Mexico is partially offset by Mexico’s cash position that is held in US dollars. Excluding the US dollar denominated intercompany balances in Mexico, the majority of all other intercompany receivables and payables denominated in foreign currencies are hedged or are short-term balances with minimal currency exposure. In addition, Mattel manages its exposure through the selection of currencies used for international borrowings. Mattel does not trade in financial instruments for speculative purposes.

 

Mattel’s financial position is also impacted by exchange rate fluctuations on its net investment in foreign subsidiaries. Assets and liabilities of foreign subsidiaries are translated into US dollars at fiscal period-end exchange rates. Income, expense and cash flow items are translated at weighted average exchange rates prevailing during the fiscal period. The resulting currency translation adjustments are recorded as a component of accumulated other comprehensive income (loss) within stockholders’ equity. Mattel’s primary currency exposures are on its net investment in entities having functional currencies denominated in the Euro, British pound sterling, Mexican peso, Hong Kong dollar and Indonesian rupiah.

 

43


 

Mattel’s foreign currency forward exchange contracts that were used to hedge firm foreign currency commitments as of December 31, 2002 are shown in the following table. All contracts are against the US dollar and are maintained by reporting units with a US dollar functional currency, with the exception of the Indonesian rupiah and Thai baht contracts that are maintained by entities with either a rupiah or baht functional currency.

 

    

Buy


  

Sell


(In thousands of US dollars)


  

Contract

Amount


  

Weighted

Average

Contract Rate


  

Fair

Value


  

Contract

Amount


  

Weighted

Average

Contract Rate


  

Fair

Value


Euro*

  

$

225,976

  

1.03

  

$

229,920

  

$

486,897

  

0.98

  

$

518,623

British pounds sterling*

                     

 

11,130

  

1.60

  

 

11,243

Canadian dollar*

  

 

10,289

  

0.64

  

 

10,150

  

 

51,418

  

0.68

  

 

50,682

Japanese yen

  

 

6,663

  

121

  

 

6,805

                  

Australian dollar*

  

 

18,040

  

0.56

  

 

18,061

  

 

15,943

  

0.55

  

 

16,057

Swiss franc

  

 

9,190

  

1.43

  

 

9,454

                  

Indonesian rupiah

  

 

28,740

  

9,461

  

 

29,631

                  

Singapore dollar

                     

 

1,951

  

1.75

  

 

1,963

Hong Kong dollar

  

 

167,870

  

7.82

  

 

168,076

                  

Thai baht

  

 

6,050

  

42.15

  

 

5,905

                  
    

       

  

       

    

$

472,818

       

$

478,002

  

$

567,339

       

$

598,568

    

       

  

       

 

*   The weighted average contract rate for these contracts is quoted in US dollar per local currency.

 

For the purchase of foreign currencies, fair value reflects the amount, based on dealer quotes that Mattel would pay at maturity for contracts involving the same currencies and maturity dates, if they had been entered into as of year end 2002. For the sale of foreign currencies, fair value reflects the amount, based on dealer quotes, that Mattel would receive at maturity for contracts involving the same currencies and maturity dates, if they had been entered into as of year end 2002. The differences between the fair value and the contract amounts are expected to be fully offset by foreign currency exchange gains and losses on the underlying hedged transactions.

 

In addition to the contracts involving the US dollar detailed in the above table, Mattel also had contracts to sell British pounds sterling and Polish zloty for the purchase of Euros. As of December 31, 2002, these contracts had a notional amount of $72.9 million and a fair value of $71.2 million.

 

Had Mattel not entered into hedges to limit the effect of exchange rate fluctuations on results of operations and cash flows, pre-tax income would have been increased by approximately $25 million for 2002, and would have been reduced by $10 million and $35 million for 2001 and 2000, respectively.

 

In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. This statement requires companies to record derivatives on the balance sheet as assets or liabilities, measured at fair value. It also requires that gains or losses resulting from changes in the values of those derivatives be accounted for depending on the use of the derivative and whether it qualifies for hedge accounting.

 

Mattel adopted SFAS No. 133 on January 1, 2001. Mattel recorded a one-time charge of $12.0 million, net of tax, in the consolidated statement of operations for the quarter ended March 31, 2001, for the transition adjustment related to the adoption of SFAS No. 133.

 

Interest Rate Sensitivity

 

An assumed 50 basis point movement in interest rates affecting Mattel’s variable rate borrowings would have had an immaterial impact on its 2002 results of operations.

 

44


 

Item 8.    Financial Statements and Supplementary Data.

 

REPORT OF INDEPENDENT ACCOUNTANTS

 

To the Board of Directors and Stockholders of Mattel, Inc.

 

In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a)(1) on page 85 present fairly, in all material respects, the financial position of Mattel, Inc. and its subsidiaries at December 31, 2002 and 2001, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2002, in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the index appearing under Item 15(a)(2) on page 85 presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of Mattel’s management; our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

As discussed in Note 1 to the consolidated financial statements, effective January 1, 2002, Mattel changed its method of accounting for goodwill in accordance with Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets.

 

LOGO

 

Los Angeles, California

January 29, 2003

 

45


MATTEL, INC. AND SUBSIDIARIES

 

CONSOLIDATED BALANCE SHEETS

 

    

December 31,

2002


  

December 31,

2001


    

(In thousands)

ASSETS


         

Current Assets

             

Cash and short term investments

  

$

1,267,038

  

$

616,604

Accounts receivable, less allowances of $23.3 million at December 31, 2002 and $55.9 million at December 31, 2001

  

 

490,816

  

 

665,828

Inventories

  

 

338,599

  

 

487,505

Prepaid expenses and other current assets

  

 

292,511

  

 

291,915

    

  

Total current assets

  

 

2,388,964

  

 

2,061,852

    

  

Property, Plant and Equipment

             

Land

  

 

33,197

  

 

33,273

Buildings

  

 

246,786

  

 

267,719

Machinery and equipment

  

 

623,901

  

 

616,609

Capitalized leases

  

 

23,271

  

 

23,271

Leasehold improvements

  

 

79,866

  

 

81,628

    

  

    

 

1,007,021

  

 

1,022,500

Less: accumulated depreciation

  

 

546,636

  

 

550,073

    

  

    

 

460,385

  

 

472,427

Tools, dies and molds, net

  

 

139,219

  

 

154,295

    

  

Property, plant and equipment, net

  

 

599,604

  

 

626,722

    

  

Other Noncurrent Assets

             

Goodwill

  

 

703,153

  

 

1,089,362

Other assets

  

 

767,938

  

 

731,881

    

  

Total Assets

  

$

4,459,659

  

$

4,509,817

    

  

 

 

The accompanying notes are an integral part of these statements.

 

 

46


MATTEL, INC. AND SUBSIDIARIES

 

CONSOLIDATED BALANCE SHEETS—(continued)

 

    

December 31,

2002


    

December 31,

2001


 
    

(In thousands, except
share data)

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

                 

Current Liabilities

                 

Short-term borrowings

  

$

25,190

 

  

$

38,108

 

Current portion of long-term debt

  

 

182,295

 

  

 

210,090

 

Accounts payable

  

 

296,307

 

  

 

334,247

 

Accrued liabilities

  

 

941,912

 

  

 

743,999

 

Income taxes payable

  

 

203,049

 

  

 

239,793

 

    


  


Total current liabilities

  

 

1,648,753

 

  

 

1,566,237

 

    


  


Long-Term Liabilities

                 

Long-term debt

  

 

640,070

 

  

 

1,020,919

 

Other

  

 

192,124

 

  

 

184,203

 

    


  


Total long-term liabilities

  

 

832,194

 

  

 

1,205,122

 

    


  


Stockholders’ Equity

                 

Special voting preferred stock $1.00 par value, $10.00 liquidation preference per share, one share authorized, issued and outstanding, representing the voting rights of 0.3 million and 1.1 million outstanding exchangeable shares in 2002 and 2001, respectively

  

 

—  

 

  

 

—  

 

Common stock $1.00 par value, 1.0 billion shares authorized; 437.2 million shares and 436.3 million shares issued in 2002 and 2001, respectively

  

 

437,229

 

  

 

436,307

 

Additional paid-in capital

  

 

1,541,242

 

  

 

1,638,993

 

Treasury stock at cost; 6.7 thousand shares and 5.4 million shares in 2002 and 2001, respectively

  

 

(245

)

  

 

(161,944

)

Retained earnings

  

 

341,133

 

  

 

132,900

 

Accumulated other comprehensive loss

  

 

(340,647

)

  

 

(307,798

)

    


  


Total stockholders’ equity

  

 

1,978,712

 

  

 

1,738,458

 

    


  


Total Liabilities and Stockholders’ Equity

  

$

4,459,659

 

  

$

4,509,817

 

    


  


 

 

The accompanying notes are an integral part of these statements.

 

Commitments and Contingencies (See accompanying notes.)

 

47


MATTEL, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF OPERATIONS

 

    

For the Year


 
    

2002


    

2001


    

2000


 
    

(In thousands, except per share amounts)

 

Net Sales

  

$

4,885,340

 

  

$

4,687,924

 

  

$

4,565,489

 

Cost of sales

  

 

2,524,353

 

  

 

2,538,990

 

  

 

2,572,247

 

    


  


  


Gross Profit

  

 

2,360,987

 

  

 

2,148,934

 

  

 

1,993,242

 

Advertising and promotion expenses

  

 

552,502

 

  

 

543,554

 

  

 

578,334

 

Other selling and administrative expenses

  

 

1,050,344

 

  

 

964,239

 

  

 

981,823

 

Amortization of goodwill

  

 

—  

 

  

 

46,121

 

  

 

46,561

 

Restructuring and other charges

  

 

24,600

 

  

 

15,700

 

  

 

15,900

 

    


  


  


Operating Income

  

 

733,541

 

  

 

579,320

 

  

 

370,624

 

Interest expense

  

 

113,897

 

  

 

155,132

 

  

 

152,979

 

Interest (income)

  

 

(17,724

)

  

 

(15,481

)

  

 

(11,005

)

Other non-operating expense, net

  

 

15,871

 

  

 

9,659

 

  

 

3,226

 

    


  


  


Income From Continuing Operations Before Income Taxes

  

 

621,497

 

  

 

430,010

 

  

 

225,424

 

Provision for income taxes

  

 

166,455

 

  

 

119,090

 

  

 

55,247

 

    


  


  


Income From Continuing Operations

  

 

455,042

 

  

 

310,920

 

  

 

170,177

 

Discontinued Operations (See Note 14)

                          

Gain (loss) from discontinued operations, net of tax

  

 

27,253

 

  

 

—  

 

  

 

(601,146

)

    


  


  


Income (Loss) Before Cumulative Effect of Change in Accounting Principles

  

 

482,295

 

  

 

310,920

 

  

 

(430,969

)

Cumulative effect of change in accounting principles, net of tax

  

 

(252,194

)

  

 

(12,001

)

  

 

—  

 

    


  


  


Net Income (Loss)

  

$

230,101

 

  

$

298,919

 

  

$

(430,969

)

    


  


  


Income (Loss) Per Common Share—Basic

                          

Income from continuing operations

  

$

1.04

 

  

$

0.72

 

  

$

0.40

 

Gain (loss) from discontinued operations

  

 

0.06

 

  

 

—  

 

  

 

(1.41

)

Cumulative effect of change in accounting principles

  

 

(0.58

)

  

 

(0.03

)

  

 

—  

 

    


  


  


Net income (loss)

  

$

0.52

 

  

$

0.69

 

  

$

(1.01

)

    


  


  


Weighted average number of common shares

  

 

435,790

 

  

 

430,983

 

  

 

426,166

 

    


  


  


Income (Loss) Per Common Share—Diluted

                          

Income from continuing operations

  

$

1.03

 

  

$

0.71

 

  

$

0.40

 

Gain (loss) from discontinued operations

  

 

0.06

 

  

 

—  

 

  

 

(1.41

)

Cumulative effect of change in accounting principles

  

 

(0.57

)

  

 

(0.03

)

  

 

—  

 

    


  


  


Net income (loss)

  

$

0.52

 

  

$

0.68

 

  

$

(1.01

)

    


  


  


Weighted average number of common and common equivalent shares

  

 

441,292

 

  

 

436,166

 

  

 

427,126

 

    


  


  


Dividends Declared Per Common Share

  

$

0.05

 

  

$

0.05

 

  

$

0.27

 

    


  


  


 

The accompanying notes are an integral part of these statements.

 

 

48


MATTEL, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

 

    

For the Year


 
    

2002


    

2001


    

2000


 
    

(In thousands)

 

Cash Flows From Operating Activities:

                          

Net income (loss)

  

$

230,101

 

  

$

298,919

 

  

$

(430,969

)

Add: cumulative effect of change in accounting principles, net of tax

  

 

252,194

 

  

 

12,001

 

  

 

—  

 

Add: (gain) loss from discontinued operations, net of tax

  

 

(27,253

)

  

 

—  

 

  

 

601,146

 

    


  


  


Income from continuing operations

  

 

455,042

 

  

 

310,920

 

  

 

170,177

 

Adjustments to reconcile income from continuing operations to net cash flows from operating activities:

                          

Noncash derivative loss

  

 

—  

 

  

 

5,532

 

  

 

—  

 

Noncash restructuring and other charges

  

 

2,405

 

  

 

4,594

 

  

 

46,126

 

Depreciation

  

 

180,346

 

  

 

201,012

 

  

 

192,638

 

Amortization

  

 

11,582

 

  

 

61,496

 

  

 

63,751

 

Increase (decrease) from changes in assets and liabilities:

                          

Accounts receivable

  

 

184,154

 

  

 

111,224

 

  

 

146,673

 

Inventories

  

 

154,293

 

  

 

(14,144

)

  

 

(83,637

)

Prepaid expenses and other current assets

  

 

(7,282

)

  

 

(120,019

)

  

 

(9,821

)

Accounts payable, accrued liabilities and income taxes payable

  

 

74,445

 

  

 

152,160

 

  

 

29,458

 

Deferred income taxes

  

 

106,903

 

  

 

54,962

 

  

 

3,383

 

Other, net

  

 

(5,804

)

  

 

(10,944

)

  

 

(3,658

)

    


  


  


Net cash flows from operating activities of continuing operations

  

 

1,156,084

 

  

 

756,793

 

  

 

555,090

 

    


  


  


Cash Flows From Investing Activities:

                          

Purchases of tools, dies and molds

  

 

(81,037

)

  

 

(93,914

)

  

 

(85,258

)

Purchases of other property, plant and equipment

  

 

(86,357

)

  

 

(100,737

)

  

 

(76,491

)

Payment for business acquired

  

 

(2,910

)

  

 

(20,547

)

  

 

—  

 

Proceeds from sale of other property, plant and equipment

  

 

12,336

 

  

 

6,462

 

  

 

9,938

 

Other, net

  

 

(450

)

  

 

15,548

 

  

 

585

 

    


  


  


Net cash flows used for investing activities of continuing operations

  

 

(158,418

)

  

 

(193,188

)

  

 

(151,226

)

    


  


  


Cash Flows From Financing Activities:

                          

Short-term borrowings, net

  

 

(5,929

)

  

 

(175,717

)

  

 

(134,997

)

Proceeds from issuance of long-term debt

  

 

—  

 

  

 

—  

 

  

 

390,710

 

Payments of long-term debt

  

 

(421,597

)

  

 

(31,261

)

  

 

(101,104

)

Exercise of stock options

  

 

55,017

 

  

 

53,516

 

  

 

25,189

 

Payment of dividends on common stock

  

 

(21,868

)

  

 

(21,602

)

  

 

(153,551

)

    


  


  


Net cash flows (used for) from financing activities of continuing operations

  

 

(394,377

)

  

 

(175,064

)

  

 

26,247

 

    


  


  


Net Cash From (Used for) Discontinued Operations (See Note 14)

  

 

43,259

 

  

 

(542

)

  

 

(444,173

)

Effect of Exchange Rate Changes on Cash

  

 

3,886

 

  

 

(3,784

)

  

 

(903

)

    


  


  


Increase (Decrease) in Cash and Short-term Investments

  

 

650,434

 

  

 

384,215

 

  

 

(14,965

)

Cash and Short-term Investments at Beginning of Year

  

 

616,604

 

  

 

232,389

 

  

 

247,354

 

    


  


  


Cash and Short-term Investments at End of Year

  

$

1,267,038

 

  

$

616,604

 

  

$

232,389

 

    


  


  


 

The accompanying notes are an integral part of these statements.

 

 

49


MATTEL, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

 

    

Common Stock


  

Additional Paid-In Capital


    

Treasury Stock


    

Retained

Earnings (Accumulated

Deficit)


      

Accumulated

Other

Comprehensive

Income (Loss)


    

Total

Stock-

holders’ Equity


 
    

(In thousands)

 

Balance, December 31, 1999

  

$

433,563

  

$

1,728,954

 

  

$

(361,825

)

  

$

401,642

 

    

$

(239,647

)

  

$

1,962,687

 

Comprehensive (loss):

                                                     

Net (loss)

                           

 

(430,969

)

             

 

(430,969

)

Net unrealized (loss) on securities

                                      

 

(14,123

)

  

 

(14,123

)

Minimum pension liability adjustments

                                      

 

(1,782

)

  

 

(1,782

)

Currency translation adjustments

                                      

 

(50,485

)

  

 

(50,485

)

    

  


  


  


    


  


Comprehensive (loss)

                           

 

(430,969

)

    

 

(66,390

)

  

 

(497,359

)

Issuance of treasury stock

         

 

(48,035

)

  

 

73,224

 

                      

 

25,189

 

Tax benefit of stock option exercises

         

 

2,300

 

                               

 

2,300

 

Tax benefit of prior year stock option exercises

         

 

19,200

 

                               

 

19,200

 

Compensation cost related to stock option modifications

         

 

382

 

                               

 

382

 

Conversion of exchangeable shares

  

 

1,976

  

 

(1,976

)

                               

 

—  

 

Issuance of stock warrant

         

 

5,789

 

                               

 

5,789

 

Shares issued for Learning Company treasury stock

  

 

21

           

 

(21

)

                      

 

—  

 

Dividends declared on common stock

                           

 

(115,090

)

             

 

(115,090

)

    

  


  


  


    


  


Balance, December 31, 2000

  

 

435,560

  

 

1,706,614

 

  

 

(288,622

)

  

 

(144,417

)

    

 

(306,037

)

  

 

1,403,098

 

Comprehensive income:

                                                     

Net income

                           

 

298,919

 

             

 

298,919

 

Net unrealized gain on securities

                                      

 

11,815

 

  

 

11,815

 

Net unrealized gain on derivative instruments

                                      

 

3,538

 

  

 

3,538

 

Minimum pension liability adjustments

                                      

 

(2,518

)

  

 

(2,518

)

Currency translation adjustments

                                      

 

(14,596

)

  

 

(14,596

)

    

  


  


  


    


  


Comprehensive income

                           

 

298,919

 

    

 

(1,761

)

  

 

297,158

 

Issuance of treasury stock

         

 

(73,162

)

  

 

126,678

 

                      

 

53,516

 

Tax benefit of stock option exercises

         

 

6,000

 

                               

 

6,000

 

Compensation cost related to stock option modifications

         

 

288

 

                               

 

288

 

Conversion of exchangeable shares

  

 

747

  

 

(747

)

                               

 

—  

 

Dividends declared on common stock

                           

 

(21,602

)

             

 

(21,602

)

    

  


  


  


    


  


Balance, December 31, 2001

  

 

436,307

  

 

1,638,993

 

  

 

(161,944

)

  

 

132,900

 

    

 

(307,798

)

  

 

1,738,458

 

Comprehensive income:

                                                     

Net income

                           

 

230,101

 

             

 

230,101

 

Net unrealized gain on securities

                                      

 

28,309

 

  

 

28,309

 

Net unrealized (loss) on derivative instruments

                                      

 

(26,154

)

  

 

(26,154

)

Minimum pension liability adjustments

                                      

 

(48,021

)

  

 

(48,021

)

Currency translation adjustments

                                      

 

13,017

 

  

 

13,017

 

    

  


  


  


    


  


Comprehensive income

                           

 

230,101

 

    

 

(32,849

)

  

 

197,252

 

Issuance of treasury stock

         

 

(65,025

)

  

 

118,467

 

                      

 

53,442

 

Issuance of common stock for exercise of stock options

  

 

113

  

 

1,462

 

                               

 

1,575

 

Tax benefit of stock option exercises

         

 

4,156

 

                               

 

4,156

 

Exercise of stock warrant

         

 

(43,232

)

  

 

43,232

 

                      

 

—  

 

Tax benefit of stock warrant exercise

         

 

5,697

 

                               

 

5,697

 

Conversion of exchangeable shares

  

 

809

  

 

(809

)

                               

 

—  

 

Dividends declared on common stock

                           

 

(21,868

)

             

 

(21,868

)

    

  


  


  


    


  


Balance, December 31, 2002

  

$

437,229

  

$

1,541,242

 

  

$

(245

)

  

$

341,133

 

    

$

(340,647

)

  

$

1,978,712

 

    

  


  


  


    


  


 

The accompanying notes are an integral part of these statements.

 

50


MATTEL, INC. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1—Summary of Significant Accounting Policies

 

Principles of Consolidation and Basis of Preparation

 

The consolidated financial statements include the accounts of Mattel, Inc. and its subsidiaries (“Mattel”). All majority-owned subsidiaries are consolidated and included in Mattel’s consolidated financial statements. Investments in joint ventures and other companies are accounted for by the equity method or cost basis, depending upon the level of the investment and/or Mattel’s ability to exercise influence over operating and financial policies. Mattel does not have any minority stock ownership interests in which it has a controlling financial interest that would require consolidation. All significant intercompany accounts and transactions have been eliminated in consolidation, and certain amounts in the financial statements for prior years have been reclassified to conform to the current year presentation.

 

Financial data for 1999 reflects the retroactive effect of the merger, accounted for as a pooling of interests, with Learning Company in May 1999. As more fully described in Note 14, the Consumer Software segment, which was comprised primarily of Learning Company, was reported as a discontinued operation effective March 31, 2000, and the consolidated financial statements were reclassified to segregate the net investment in, and the liabilities and operating results of, the Consumer Software segment.

 

Preparation of the consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could ultimately differ from those estimates.

 

Foreign Currency Translation

 

Assets and liabilities of foreign subsidiaries are translated into US dollars at fiscal year-end exchange rates. Income, expense, and cash flow items are translated at weighted average exchange rates prevailing during the fiscal year. The resulting currency translation adjustments are recorded as a component of accumulated other comprehensive income (loss) within stockholders’ equity.

 

Gains and losses from unhedged foreign currency transactions include gains and losses realized on unhedged inventory purchases and from intercompany receivables and payables balances that are denominated in a currency other than the applicable functional currency. Gains and losses realized on unhedged inventory purchases are recognized as a component of cost of sales. Gains and losses on unhedged intercompany receivables and payables balances are recognized as a component of other non-operating expense, net in the period in which the exchange rate changes.

 

Cash and Short-Term Investments

 

Cash includes cash equivalents, which are highly liquid investments with maturities of three months or less when purchased.

 

Marketable Securities

 

Marketable securities are comprised of investments in publicly-traded securities, classified as available-for-sale, and are recorded at market value with unrealized gains or losses, net of tax, reported as a component of accumulated other comprehensive income (loss) within stockholders’ equity until realized.

 

Accounts Receivable and Allowance for Doubtful Accounts

 

Credit is granted to customers on an unsecured basis. Credit limits and payment terms are established based on extensive evaluations made on an ongoing basis throughout the fiscal year of the financial performance, cash

 

51


generation, financing availability and liquidity status of each customer. Each customer is reviewed at least annually, with more frequent reviews being performed if necessary based on the customer’s financial condition and the level of credit being extended. For customers who are experiencing financial difficulties, management performs additional financial analyses before shipping to those customers on credit. Mattel uses a variety of financial transactions to ensure collectibility of accounts receivable of customers deemed to be a credit risk, including requiring letters of credit, factoring or purchasing various forms of credit insurance with unrelated third parties or requiring cash on delivery.

 

Mattel records an allowance for doubtful accounts at the time revenue is recognized based on management’s assessment of the business environment, customers’ financial condition, historical collection experience, accounts receivable aging and customer disputes. When a significant event occurs, such as a bankruptcy filing of a customer, the allowance is reviewed for adequacy and adjusted to reflect the change in estimated receivable impairment.

 

Inventories

 

Inventories, net of an allowance for excess quantities and obsolescence, are stated at the lower of cost or market. Cost is determined by the first-in, first-out method.

 

Property, Plant and Equipment

 

Property, plant and equipment are stated at cost less accumulated depreciation and amortization. Depreciation is computed using the straight-line method over estimated useful lives of 10 to 40 years for buildings, 3 to 10 years for machinery and equipment, and 10 to 20 years, not to exceed the lease term, for leasehold improvements. Tools, dies and molds are amortized using the straight-line method over 3 years. Estimated useful lives are periodically reviewed and, where appropriate, changes are made prospectively. The carrying value of fixed assets is periodically reviewed to identify and assess any impairment by evaluating the operating performance and future undiscounted cash flows of the underlying assets. When property is sold or retired, the cost of the property and the related accumulated depreciation are removed from the consolidated balance sheet and any gain or loss on the transaction is included in the results of operations.

 

Goodwill and Other Intangible Assets

 

Effective on January 1, 2002, Mattel adopted SFAS No. 142, Goodwill and Other Intangible Assets, which superseded Accounting Principles Board (“APB”) Opinion No. 17, Intangible Assets. In accordance with the adoption of SFAS No. 142, Mattel ceased amortization of goodwill effective January 1, 2002. Prior to 2002, substantially all goodwill was amortized over 20 to 40 years.

 

Goodwill and other intangible assets are allocated to various reporting units, which are either at the operating segment level or one reporting level below the operating segment. Mattel’s reporting units for purposes of applying the provisions of SFAS No. 142 are: Pleasant Company, US Girls, US Boys-Entertainment, US Infant & Preschool and International. Mattel tests its goodwill and other intangible assets for impairment annually based on a combination of the fair value of the cash flows that the business can be expected to generate in the future (Income Approach) and the fair value of the business as compared to other similar publicly traded companies (Market Approach).

 

Revenue Recognition

 

Revenue is recognized upon shipment or upon receipt of products by the customer, depending on customer terms, provided that: there are no uncertainties regarding customer acceptance; persuasive evidence of an agreement exists documenting the specific terms of the transaction; the sales price is fixed or determinable; and collectibility is reasonably assured. Management assesses the business environment, customers’ financial

 

52


condition, historical collection experience, accounts receivable aging and customer disputes to determine whether collectibility is reasonably assured. If collectibility is not considered reasonably assured at the time of sale, Mattel does not recognize revenue until collection occurs. Accruals for customer discounts and rebates, and defective returns are recorded as the related revenue is recognized.

 

Advertising and Promotion Costs

 

Costs of media advertising are expensed the first time the advertising takes place, except for direct-response advertising, which is capitalized and amortized over its expected period of future benefits. Direct-response advertising consists primarily of catalog production and mailing costs that are generally amortized within three months from the date catalogs are mailed.

 

In the first quarter of 2002, Mattel implemented EITF Issue No. 01-09, Accounting for Consideration Given by a Vendor to a Customer. Net sales, gross profit, and advertising and promotion expenses have been restated in the consolidated statements of operations for 2001 and 2000 to reflect the reclassification of sales incentives or certain consideration offered by Mattel to its customers as a result of implementing this EITF Issue.

 

Research and Development Costs

 

Research and development costs are charged to the results of operations when incurred.

 

Stock-Based Compensation

 

Mattel has adopted the disclosure-only provisions of SFAS No. 123, Accounting for Stock-Based Compensation. Accordingly, no compensation cost has been recognized in the results of operations for nonqualified stock options granted under Mattel’s plans as such options are granted at not less than the quoted market price of Mattel’s common stock on the date of grant. Had compensation cost for nonqualified stock options been determined based on their fair value at the date of grant consistent with the method of accounting prescribed by SFAS No. 123, Mattel’s net income (loss) and earnings per share would have been adjusted as follows (amounts in millions, except per share data):

 

    

For the Year Ended


 
    

2002


    

2001


    

2000


 

Net income (loss)

                          

As reported

  

$

230.1

 

  

$

298.9

 

  

$

(431.0

)

Stock option plans

  

 

(19.3

)

  

 

(14.9

)

  

 

(34.6

)

    


  


  


Pro forma income (loss)

  

$

210.8

 

  

$

284.0

 

  

$

(465.6

)

    


  


  


Income (loss) per share

                          

Basic

                          

As reported

  

$

0.52

 

  

$

0.69

 

  

$

(1.01

)

Stock option plans

  

 

(0.04

)

  

 

(0.03

)

  

 

(0.08

)

    


  


  


Pro forma basic income (loss)

  

$

0.48

 

  

$

0.66

 

  

$

(1.09

)

    


  


  


Diluted

                          

As reported

  

$

0.52

 

  

$

0.68

 

  

$

(1.01

)

Stock option plans

  

 

(0.04

)

  

 

(0.03

)

  

 

(0.08

)

    


  


  


Pro forma diluted income (loss)

  

$

0.48

 

  

$

0.65

 

  

$

(1.09

)

    


  


  


 

The pro forma amounts shown above are not indicative of the pro forma effect in future years since the estimated fair value of options is amortized to expense over the vesting period, and the number of options granted varies from year to year.

 

53


 

The fair value of Mattel options granted has been estimated using the Black-Scholes pricing model. The expected life of these options used in this calculation has been determined using historical exercise patterns. The following weighted average assumptions were used in determining fair value:

 

    

2002


    

2001


    

2000


 

Options granted at market price

                    

Expected life (in years)

  

6.16

 

  

5.50

 

  

5.67

 

Risk-free interest rate

  

2.94

%

  

4.42

%

  

5.03

%

Volatility factor

  

30.09

%

  

16.76

%

  

19.55

%

Dividend yield

  

1.07

%

  

0.86

%

  

0.83

%

Options granted at above market price

                    

Expected life (in years)

  

 

  

—  

 

  

10.00

 

Risk-free interest rate

  

 

  

—  

 

  

6.01

%

Volatility factor

  

 

  

—  

 

  

45.63

%

Dividend yield

  

 

  

—  

 

  

3.40

%

 

The weighted average fair value of Mattel options granted at market price during 2002, 2001 and 2000 were $6.17, $3.52 and $2.96 respectively. The weighted average fair value of Mattel options granted at above market price during 2000 was $3.18.

 

Income Taxes

 

Mattel accounts for certain income and expense items differently for financial reporting and income tax purposes. Deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities, applying enacted statutory tax rates in effect for the year in which the differences are expected to reverse.

 

Income Per Common Share

 

Basic income (loss) per common share is computed by dividing reported net income (loss) by the weighted average number of common shares and common shares obtainable upon the exchange of the exchangeable shares of Mattel’s Canadian subsidiary, Softkey Software Products Inc., outstanding during each period.

 

Diluted income (loss) per common share is computed by dividing reported net income (loss) by the weighted average number of common shares, common shares obtainable upon the exchange of the exchangeable shares of Mattel’s Canadian subsidiary, Softkey Software Products Inc., and other common equivalent shares outstanding during each period. The calculation of common equivalent shares assumes the exercise of dilutive stock options and warrants, net of assumed treasury share repurchases at average market prices, as applicable.

 

A reconciliation of weighted average shares for the years ended December 31 follows (shares in thousands):

 

    

2002


  

2001


  

2000


                

Common shares

  

435,790

  

430,983

  

426,166

Effect of dilutive securities:

              

Stock options

  

5,355

  

4,765

  

960

Warrants

  

147

  

418

  

—  

    
  
  

Common and common equivalent shares

  

441,292

  

436,166

  

427,126

    
  
  

 

54


 

The following anti-dilutive securities were excluded from the calculation of diluted earnings per share for the years ended December 31 (shares in thousands):

 

    

2002


  

2001


  

2000


Nonqualified stock options granted at:

              

Market price

  

19,547

  

13,778

  

25,594

Above market price

  

—  

  

15,227

  

16,337

Warrants

  

—  

  

3,000

  

3,000

    
  
  
    

19,547

  

32,005

  

44,931

    
  
  

 

Derivative Instruments

 

Mattel uses foreign currency forward exchange and option contracts as cash flow hedges to hedge its forecasted purchases and sales of inventory denominated in foreign currencies. Mattel uses fair value hedges to hedge intercompany loans and management fees denominated in foreign currencies. Mattel also entered into a cross currency interest rate swap to convert the interest and principal amounts from Euros to US dollars on its 200 million Euro Notes due 2002.

 

At the inception of the contracts, Mattel designates its derivatives as either cash flow or fair value hedges and documents the relationship of the hedge to the underlying forecasted transaction, for cash flow hedges, or the recognized asset or liability, for fair value hedges. Hedge effectiveness is assessed at inception and throughout the life of the hedge to ensure the hedge qualifies for hedge accounting treatment. Changes in fair value associated with hedge ineffectiveness, if any, are recorded in the results of operations currently.

 

Changes in fair value of Mattel’s cash flow derivatives are deferred and recorded as part of accumulated other comprehensive income (loss) in stockholders’ equity until the underlying transaction is settled. Upon settlement, any gain or loss resulting from the derivative is recorded in the results of operations. In the event that an anticipated transaction is no longer likely to occur, Mattel recognizes the change in fair value of the derivative in its results of operation currently.

 

Mattel uses fair value derivatives to hedge intercompany loans and management fees denominated in foreign currencies. Due to the short-term nature of the contracts involved, Mattel does not use hedge accounting for these contracts. Changes in fair value of these derivatives were not significant to the results of operations during any year.

 

As a result of adopting SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, Mattel recorded a one-time transition adjustment of $12.0 million, net of tax, (or $0.03 per share) as the cumulative effect of change in accounting principles in 2001 related to unrealized holding losses on the CyberPatrol securities that had been previously deferred in accumulated other comprehensive income (loss). Mattel also recorded a one-time transition adjustment of $2.1 million in accumulated other comprehensive income (loss) related to unrealized gains on derivative instruments during 2001.

 

New Accounting Pronouncements

 

In August 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement Obligations, which addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. This statement requires that the fair value of a liability for an asset retirement obligation be recognized in the period in which it is incurred if a reasonable estimate of fair value can be made. The associated asset retirement costs are capitalized as part of the carrying amount of the long-lived asset. All provisions of this statement will be effective at the beginning of fiscal 2003. Mattel does not expect that the adoption of SFAS No. 143 will have a material effect on its consolidated financial position or results of operations.

 

55


 

In July 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities, which supersedes EITF Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity. SFAS No. 146 requires that a liability for a cost associated with an exit or disposal activity be recognized and measured initially at fair value only when the liability is incurred. EITF Issue No. 94-3 required recognition of a liability at the date an entity commits to an exit plan. All provisions of SFAS No. 146 will be effective for exit or disposal activities that are initiated after December 31, 2002. Consistent with the provisions of SFAS No. 146, Mattel will apply this statement prospectively. Mattel does not expect that the adoption of SFAS No. 146 will have a material effect on its consolidated financial position or results of operations.

 

In November 2002, the FASB issued FIN 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. FIN 45 requires that upon issuance of a guarantee, the entity (i.e., the guarantor) must recognize a liability for the fair value of the obligation it assumes under that guarantee. FIN 45’s provisions for initial recognition and measurement will be effective on a prospective basis to guarantees issued or modified after December 31, 2002. Consistent with the provisions of FIN 45, Mattel will apply this statement prospectively. As required by FIN 45, the disclosure provisions have been included in Mattel’s consolidated financial statements for the year ended 2002.

 

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure, which amends SFAS No. 123. SFAS No. 148 provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results of operations.

 

Note 2—Goodwill and Intangible Assets

 

The change in the carrying amount of goodwill by reporting unit for the year ended 2002 is shown below. Brand-specific goodwill held by foreign subsidiaries is allocated to the US reporting units selling those brands, thereby causing foreign currency translation impact to the US reporting units (in thousands).

 

    

Balance

Dec. 31,

2001


  

Impairment

Charge


    

Foreign

Exchange


  

Balance

Dec. 31,

2002


Pleasant Company

  

$

607,562

  

$

(399,991

)

  

$

—  

  

$

207,571

US Girls

  

 

29,794

  

 

—  

 

  

 

2,175

  

 

31,969

US Boys-Entertainment

  

 

53,749

  

 

—