5 Reasons to Buy Funko After Its Post-Earnings Pop

Leo Sun, The Motley Fool

Updated Wed, May 8, 2019, 6:30 PM

Funko's stock now trades nearly 80% higher than its IPO price, and bold investors who bought shares after its first-day crash have now tripled their initial investments. The stock recently rallied again after its first-quarter numbers topped analysts' expectations. Investors might be wary about buying Funko at these levels, but I think it still has room to run for five simple reasons.

A young couple stands in a shower of cash.

Image source: Getty Images.

1. Impressive revenue growth in a high-growth niche

Funko isn't a traditional toymaker like Mattel (NASDAQ: MAT) or Hasbro (NASDAQ: HAS). It targets an older demographic with pop culture collectibles that feature a wide range of characters from popular TV shows, movies, comics, and video games.

Its flagship Pop vinyl figurines generated 82% of its sales last year, and the rest came from plush dolls, T-shirts, keychains, and other products. Demand for these products surged over the past year, enabling Funko to generate a consistent streak of double-digit sales growth:

Metric	Q1 2018	Q2 2018	Q3 2018	Q4 2018	Q1 2019
YOY revenue growth	39%	32%	24%	38%	22%

YOY = Year-over-year. Source: Funko quarterly earnings.

Funko expects its full-year revenue to rise 18%-20%, compared to 33% growth in 2018. That deceleration might disappoint growth-oriented investors, but Funko is still growing faster than Mattel and Hasbro. Analysts expect Mattel's revenue to dip 2% this year as Hasbro's revenue rises 8%.

2. A well-diversified portfolio

During the first quarter, Funko attributed its growth to the popularity of its new products for Fortnite, Avengers: Endgame, Game of Thrones, and Captain Marvel, along with robust sales of its older Harry Potter, Star Wars, and DC Comics products.

45% of its first quarter sales came from "evergreen" products that aren't based on current shows, movies, or games. Funko also continued to diversify its portfolio with new Loungefly fashion products and pricier items like its 10-inch Pop Vinyl figures, Movie Moments, and Pop Rides products. That diversification counters the bearish argument that Funko is a "fad stock".

3. Expanding gross margins and robust earnings growth

Funko's gross margin also expanded both sequentially and annually during the first quarter:

Metric	Q1 2018	Q2 2018	Q3 2018	Q4 2018	Q1 2019
Gross margin	37.4%	38.2%	38.4%	36.7%	38.1%

Source: Funko quarterly earnings.

Funko attributed that expansion to lower product, shipping, and freight costs during the quarter, which were partly offset by slightly higher royalty payments. It also benefited from an easy comparison to the first quarter of 2018, when it was still struggling with the liquidation of Toys R' Us.

Funko's Tony Stark figurine from Avengers: Endgame.

Image source: Funko.

Funko didn't provide any gross margin guidance for the full year. However, it expects its adjusted EBITDA to rise 14%-23% this year, compared to 29% growth in 2018. It expects its adjusted EPS to grow 28%-40%, compared to 141% growth last year.

Funko's earnings growth is decelerating, but it's still impressive compared to that of Mattel and Hasbro. Mattel hasn't been consistently profitable in recent quarters, and Hasbro is expected to post 17% earnings growth this year.

4. It's surprisingly cheap

At $21, Funko trades at 19 times its earnings estimate for the year, which makes it cheap relative to its earnings growth. Hasbro trades at roughly 23 times this year's earnings, which makes it pricier relative to its earnings growth.

Funko also trades at about 1.5 times this year's revenue estimate, while Hasbro has a comparable ratio of 2.6. Mattel trades at less than one times this year's sales, but that's mainly because the toymaker's gloomy outlook spooked investors earlier this year.

5. The pop culture market won't fade away

Funko president Andrew Perlmutter calls the company's portfolio an "index fund of pop culture," and the popularity of superhero movies, hit shows like Game of Thrones and The Walking Dead, Star Wars, and games like Fortnite won't wane anytime soon.

Funko's unique business allows it to reach both younger shoppers, who might prefer products based on newer franchises, and older ones, who are drawn to its evergreen products by nostalgia. The conclusion of Game of Thrones, upcoming Marvel films like Spider-Man: Far from Home, and Star Wars: Episode IX should nurture that "geek culture" market and feed Funko's long-term growth. Therefore, investors who buy Funko today could be well-rewarded over the next few years.

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Leo Sun has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Hasbro. The Motley Fool is short shares of Hasbro. The Motley Fool has a disclosure policy.

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