2 Excellent, High-Performing Consumer Stocks

David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

If you are interested in buying into 5-year high in consumer confidence with an added tailwind from the holiday season, I encourage buying shares in Mattel and Activision. These two companies have solid fundamentals, compelling risk/reward, and consistent earnings growth in an eroding industry. With peers collapsing as they thrive, multiples are not at enough of a premium to broader indices. Below, I explain in more detail why I think you should invest in both brands.

Why You Should Buy Mattel (NASDAQ: MAT)

Mattel is one of my favorite stocks on the Street for several reasons: it generates consistent earnings growth, offers a high dividend yield, and is well positioned to capitalize off of emerging markets. The Barbie maker trades reasonably at a respective 15.5x and 13.4x and is forecasted for 9.1% annual EPS growth over the next 5 years. Assuming expectations are met, 2016 EPS will come out to $3.61. At a multiple of 15.5x, this translates to a future stock value of $60. When you factor in the dividend yield, which has increased quicker than the share price, you end up with average annual returns of around 15.5%. 

For a company that has around 10% less volatility than the broader market, these kind of returns warrant multiples expansion. Accordingly, I believe shareholders could see some of the upside materialize sooner rather than later as shareholders flock to the toy producer during a full recovery. This is reinforced by the company's solid fundamentals. Goldman Sachs analyst Michael Kelter has argued that Mattel is best prepared to weather deceleration in toy spending given its premium brands. It has a 20.2% return on invested capital, which is more than double the industry average, and has a clean balance sheet with a relatively liquid-rich current ratio of 3.3x. The $280 million in cash could help finance at least half of a takeover of LeapFrog Enterprises (NYSE: LF)… 

That's right, a possible takeover make be in the works for Mattel. Here's why: LeapFrogs is only worth $560 million and trades compellingly at 10x. Better yet, the target has no long-term debt on the balance sheet and can be paid off easily through growth alone, as evidenced by the incredible 0.5 PEG ratio. The maker of educational toys has struggled in recent years and would be in a more desperate position to sell itself. In early August, one analyst put out a "strong buy" report that increased the price target from $13 to $15--almost double the current valuation. This gives Mattel strong room to negotiate that offers LeapFrog shareholders a solid premium while allowing the Barbie maker upside from the value discount plus added synergies. It also fits well with the company's attempt on "merg[ing] the physical and digital toy landscape" with new technology, such as the iPad--LeapFrog has a reputation for interactive toys.

Activision (NASDAQ: ATVI) Is One Great Business, Executes Time And Time Again

Activistion is another company for the kids. It is the maker of the World of Warcraft series and record selling Skylanders, Diablo, Modern Warfare, Call of Duty, etc. What makes the firm so attractive is that it is one of the few video game producers that hasn't fallen to its knees from poor innovation (see Nintendo, EA, THQ, and Take-Two for three case studies.) In fact, just the opposite is the case: Activision has delivered record-setting sales figures time and time again in recent quarters. Call of Duty: Black Ops II, for example, sold over $1 billion worth of copies in just 15 days. Within just the first 24 hours of launch, half a billion was sold. And with Microsoft reporting more than 750,000 worth of Xbox 360 unit sales during the holiday, the console business is starting to improve.

Domestic retail sales for the broader video game software and hardware market, however, dropped 11% y-o-y in November. And there is clearly a secular shift going away from the console market. According to NPD, domestic consumers spent $2 on traditional video games in October, they spent almost half that amount on apps, subscriptions, and downloads--digital products. It is this kind of market that Activision has tapped into with its stress on online activity and mass user engagement.

At 14.9x past earnings and 11.2x free cash flow, Activision is reasonably priced for its expected 10.9% annual EPS growth rate over the next 5 years. In the last 5 years, the rate was 15.5% and deceleration hasn't been meaningful thus far, so we could see some positive earnings surprises that create even more upside to this compelling value story. With no debt and $3.02 per share (26% of the market cap), risk/reward is very favorable. Analysts have a $14.74 consensus price target, and Stifel Nicolaus is even saying $16. Either way, I strongly recommend buying before the value gap is closed.

TakeoverAnalyst has no positions in the stocks mentioned above. The Motley Fool owns shares of Activision Blizzard and Mattel. Motley Fool newsletter services recommend Activision Blizzard, LeapFrog Enterprises, and Mattel. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

blog comments powered by Disqus