JAKKS PACIFIC INC 10-K

Item 5. Market for Registrant ’ s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Market Information Our common stock is traded on the Nasdaq Global Select exchange under the symbol “JAKK.” Security Holders To the best of our knowledge, as of April 13, 2023, there were 79 holders of record of our common stock. We believe there are numerous beneficial owners of our common stock whose shares are held in “street name.” Dividends The payment of dividends on common stock is at the discretion of the Board of Directors and is subject to customary limitations and may be subject to certain restrictions pursuant to the terms of our preferred stock and under our credit facility and term loan. We currently do not anticipate paying any dividends in the foreseeable future. Compensation Plan Information The table below sets forth the following information as of the year ended December 31, 2022 for (i) all compensation plans previously approved by our stockholders and (ii) all compensation plans not previously approved by our stockholders, if any: (a) the number of securities to be issued upon the exercise of outstanding options, warrants and rights; (b) the weighted-average exercise price of such outstanding options, warrants and rights; and (c) other than securities to be issued upon the exercise of such outstanding options, warrants and rights, the number of securities remaining available for future issuance under the plans. Plan Category Number of Securities to be Issued Upon Exercise of Outstanding Options, Warrants and Rights (a) Weighted-Average Exercise Price of Outstanding Options, Warrants and Rights (b) Number of Securities Remaining Available for Future Issuance Under Equity Compensation Plans, Excluding Securities Reflected in Column (c) Equity compensation plans approved by security holders — — 943,633 Equity compensation plans not approved by security holders — — — Total — — 943,633 Equity compensation plans approved by our stockholders consist of the 2002 Stock Award and Incentive Plan. An additional 1.0 million, 3.6 million, 2.5 million and 1.4 million shares were added to the number of total issuable shares under the Plan and approved by the Board in 2021, 2019, 2017, and 2013, respectively. Additionally, no shares of restricted stock awards remained unvested as of December 31, 2022. Disclosures with respect to equity issuable to certain of our executive officers pursuant to the terms of their employment agreements are disclosed below under Item 11. Issuer Purchases of Equity Securities There were no issuer purchases of equity securities in the fourth quarter of 2022. Issuer Unregistered Sale of Equity Securities There were no issuer sales of unregistered equity securities in the fourth quarter of 2022. Item 6. [Reserved] 26 Table of Contents Item 7. Management ’ s Discussion and Analysis of Financial Condition and Results of Operations The following Management ’ s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors. You should read this section in conjunction with our consolidated financial statements and the related notes included in Item 8 “ Consolidated Financial Statements and Supplementary Data. ” Critical Accounting Estimates The accompanying consolidated financial statements and supplementary information were prepared in accordance with accounting principles generally accepted in the United States of America. Significant accounting policies are discussed in Note 2 to the Consolidated Financial Statements, included within Item 8. Inherent in the application of many of these accounting policies is the need for management to make estimates and judgments in the determination of certain revenues, expenses, assets and liabilities. As such, materially different financial results can occur as circumstances change and additional information becomes known. The estimates with the greatest potential effect on our results of operations and financial position include: Allowance for Doubtful Accounts. Our allowance for doubtful accounts is based upon management’s assessment of the business environment, customers’ financial condition, historical collection experience, accounts receivable aging, customer disputes and the collectability of specific customer accounts. If there were a deterioration of a major customer’s creditworthiness, or actual defaults were higher than our historical experience, our estimates of the recoverability of amounts due to us could be overstated, which could have an adverse impact on our operating results. Our allowance for doubtful accounts is also affected by the time at which uncollectible accounts receivable balances are actually written off. Management believes the accounting estimate related to the allowance for doubtful account is a “critical accounting policy” because significant judgement is required to evaluate the creditworthiness of its customers when estimating the collectability of its accounts receivable. In addition, the allowance requires a high degree of judgement since it involves estimation of the impact of both current and future economic factors in relation to its customers’ ability to pay amounts due to us. Significant changes in the assumptions used to develop the estimates could materially affect key financial measures, including other selling and administrative expenses, net income and accounts receivable. Royalties. We enter into license agreements with strategic partners, inventors, designers and others for the use of intellectual properties in its products. These agreements may call for payment in advance or future payment of minimum guaranteed amounts. Amounts paid in advance are recorded as an asset and charged to expense when the related revenue is recognized in the consolidated statements of operations. If all or a portion of the minimum guaranteed amounts appear not to be recoverable through future use of the rights obtained under the license, the non-recoverable portion of the guaranty is charged to expense at that time. On a quarterly basis, we evaluate the recoverability of minimum guarantee amounts based on forecasted revenues to be received for the products and record a shortfall reserve for expected un-recoverable amounts. If our actual revenue generated differs from our projections, recoverability of our minimum guarantees would be impacted and could materially affect key financial measures, including gross profit, net income and prepaid assets. Fair value measurements. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In determining fair value, we use various methods including market, income and cost approaches. Based upon these approaches, we often utilize certain assumptions that market participants would use in pricing the asset or liability, including assumptions about risk and/or the risks inherent in the inputs to the valuation technique. These inputs can be readily observable, market-corroborated, or unobservable inputs. We utilize valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs. Based upon observable inputs used in the valuation techniques, we are required to provide information according to the fair value hierarchy. The fair value hierarchy ranks the quality and reliability of the information used to determine fair values into three broad levels as follows: Level 1: Valuations for assets and liabilities traded in active markets from readily available pricing sources for market transactions involving identical assets or liabilities. Level 2: Valuations for assets and liabilities traded in less active dealer or broker markets. Valuations are obtained from third-party pricing services for identical or similar assets or liabilities. Level 3: Valuations incorporate certain assumptions and projections in determining the fair value assigned to such assets or liabilities. In instances where the determination of the fair value measurement is based upon inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy within which the entire fair value measurement falls is based upon the lowest level input that is significant to the fair value measurement in its entirety. Our assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors specific to the asset or liability (see Item 8 "Consolidated Financial Statements and Supplementary Data Note 16 - Fair Value Measurements” for further information). 27 Table of Contents Reserve for Inventory Obsolescence. We value our inventory at the lower of cost or net realizable value. Based upon a consideration of quantities on hand, actual and projected sales volume, anticipated product selling prices and product lines planned to be discontinued, slow-moving and obsolete inventory is written down to its net realizable value. Failure to accurately predict and respond to consumer demand could result in us under-producing popular items or over-producing less popular items. Furthermore, significant changes in demand for our products would impact management’s estimates in establishing our inventory provision. Management’s estimates are monitored on a quarterly basis, and a further adjustment to reduce inventory to its net realizable value is recorded as an increase to cost of sales when deemed necessary under the lower of cost or net realizable value standard. Significant changes in the assumptions used to develop the estimate could materially affect key financial measures, including gross profit, net income and inventories. Reserve for Sales Returns and Allowances . We routinely enter into arrangements with our customers to provide sales incentives, support customer promotions and provide allowances for returns and defective merchandise. Such programs are based primarily on customer purchases, customer performance of specified promotional activities and other specified factors such as sales to consumers. Management believes that the accounting estimates related to sales adjustments are “critical accounting policies” because significant judgment is required to estimate related accruals, such as estimating volumes of defective products to support reserves for defective merchandise and estimating future customer performance and consumer preferences that could impact the discretionary sales promotions. Significant changes in the assumptions used to develop the estimates could materially affect key financial measures, such as net sales, gross profit, net income, and reserve for sales returns and allowances. Income Allocation for Income Taxes . Our annual income tax provision and related income tax assets and liabilities are based upon actual income as allocated to the various tax jurisdictions based upon our transfer pricing study, US and foreign statutory income tax rates and tax regulations and planning opportunities in the various jurisdictions in which we operate. Significant judgment is required in interpreting tax regulations in the U.S. and foreign jurisdictions, and in evaluating worldwide uncertain tax positions. Actual results could differ materially from those judgments, and changes from such judgments could materially affect our consolidated financial statements. Income taxes. We do not file a consolidated return for our foreign subsidiaries. We file federal and state returns and our foreign subsidiaries each file returns in their respective jurisdictions, as applicable. Deferred taxes are provided on an asset and liability method. Deferred tax assets are recognized as deductible temporary differences, operating losses, or tax credit carry-forwards. Deferred tax liabilities are recognized as taxable temporary differences. Temporary differences are the differences between the reported amounts of assets and liabilities and their tax basis. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some or all of the deferred tax assets will not be realized. Deferred tax assets and liabilities are adjusted for the effects of changes in tax laws and rates on the date of enactment. We must assess the likelihood that we will be able to recover our deferred tax assets. Deferred tax assets are reduced by a valuation allowance, if, based upon the weight of available evidence, it is more likely than not that we will not realize some portion or all of the deferred tax assets. We consider all available positive and negative evidence when assessing whether it is more likely than not that deferred tax assets are recoverable. We consider evidence such as our past operating results, the existence of cumulative losses or cumulative income in previous periods and our forecast of future taxable income. We believe this to be a critical accounting policy because should there be a change in our ability to recover our deferred tax assets, our tax provision would increase in the period in which we determine that the recovery is not likely, as well as decrease in the period in which the assessment of the recoverability of the deferred tax assets reverses, which could have a material impact on our results of operations. We accrue a tax reserve for additional income taxes and interest, which may become payable in future years as a result of audit adjustments by tax authorities. The reserve is based upon management’s assessment of all relevant information and is periodically reviewed and adjusted as circumstances warrant. As of December 31, 2022, our income tax reserves were approximately $2.9 million and relates to federal and state taxes. We recognize current period interest expense and penalties and the reversal of previously recognized interest expense and penalties that has been determined to not be assessable due to the expiration of the related audit period or other compelling factors on the income tax liability for unrecognized tax benefits as a component of the income tax provision recognized in the consolidated statements of operations. 28 Table of Contents Recent Accounting Pronouncements. See Item 8 “Consolidated Financial Statements and Supplementary Data Note 2 - Summary of Significant Accounting Policies.” Results of Operations The following table sets forth, for the periods indicated, certain statement of operations data as a percentage of net sales. A discussion of the operating results for 2020 can be found in our Annual Report on Form 10-K for the year ended December 31, 2021, as filed with the SEC on March 16, 2022, in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations – Results of Operations. Year Ended December 31, 2022 2021 Net sales 100.0 % 100.0 % Less: Cost of sales: Cost of goods 56.5 55.2 Royalty expense 15.9 14.0 Amortization of tools and molds 1.1 1.3 Cost of sales 73.5 70.5 Gross profit 26.5 29.5 Direct selling expenses 4.2 6.9 General and administrative expenses 14.4 15.9 Depreciation and amortization 0.2 0.4 Selling, general and administrative expenses 18.8 23.2 Income from operations 7.7 6.3 Other income (expense), net 0.1 — Change in fair value of preferred stock derivative liability (0.1 ) (2.1 ) Change in fair value of convertible senior notes — (2.6 ) Gain on loan forgiveness — 1.0 Loss on debt extinguishment — (1.2 ) Interest expense (1.4 ) (2.3 ) Income (loss) before provision for (benefit from) income taxes 6.3 (0.9 ) Provision for (benefit from) income taxes (5.2 ) — Net income (loss) 11.5 (0.9 ) Net income (loss) attributable to JAKKS Pacific, Inc. 11.5 % (0.9 )% Net income (loss) attributable to common stockholders 11.3 % (1.2 )% The following table summarizes, for the periods indicated, certain statement of operations data by segment (in thousands). Year Ended December 31, 2022 2021 Net Sales Toys/Consumer Products $ 647,317 $ 513,517 Costumes 148,870 107,599 796,187 621,116 Cost of Sales Toys/Consumer Products 465,405 357,226 Costumes 119,496 80,933 584,901 438,159 Gross Profit Toys/Consumer Products 181,912 156,291 Costumes 29,374 26,666 $ 211,286 $ 182,957 29 Table of Contents Comparison of the Years Ended December 31, 2022 and 2021 Net Sales Toys/Consumer Products. Net sales of our Toys/Consumer Products segment were $647.3 million in 2022, compared to $513.5 million in 2021, representing an increase of $133.8 million, or 26.1%. The increase in net sales was primarily due to higher sales of Disney Encanto™. In addition, net sales from video game properties, Sonic the Hedgehog® and Nintendo®, also added to the yearly increase in net sales. Costumes. Net sales of our Costumes segment were $148.9 million in 2022, compared to $107.6 million in 2021, representing an increase of $41.3 million, or 38.4%. The increase in net sales was primarily driven by the Disney® and Microsoft® lines of costumes and expanded retail distribution. Cost of Sales Toys/Consumer Products. Cost of sales of our Toys/Consumer Products segment was $465.4 million, or 71.9% of related net sales in 2022 compared to $357.2 million, or 69.6% of related net sales in 2021 representing an increase of $108.2 million or 30.3%. The increase in dollars is due to higher overall sales in 2022, while the increase in percentage of net sales, year-over-year is due to a higher average royalty rate and higher freight charges. Costumes. Cost of sales of our Costumes segment was $119.5 million, or 80.3% of related net sales for 2022 compared to $80.9 million, or 75.2% of related net sales for 2021 representing an increase of $38.6 million, or 47.7%. The increase in dollars is due to higher overall sales in 2022. The increase as a percentage of net sales, year-over-year, is due to higher freight charges. Selling, General and Administrative Expenses Selling, general and administrative expenses were $150.0 million in 2022 and $144.2 million in 2021, constituting 18.8% and 23.2% of net sales, respectively. Selling, general and administrative expenses increased from the prior year primarily driven by higher outbound freight and warehouse expenses related to higher domestic shipping, as well as higher compensation expense. Gain on loan forgiveness In 2021, we recognized a gain on loan forgiveness of $6.2 million as a result of the forgiveness of the Paycheck Protection Program Loan secured under the Coronavirus Aid Relief and Economic Security Act. Loss on debt extinguishment In 2021, we recognized a loss on debt extinguishment of $7.4 million in connection with the refinance of the 2019 Recap Term Loan. Interest Expense Interest expense was $11.2 million for the year ended December 31, 2022, as compared to $14.1 million in the prior year period. In 2022, we recorded interest expense of $9.3 million related to our 2021 BSP Term Loan, $0.6 million related to our revolving credit facility and $1.3 million related to other borrowing costs. In 2021, we booked interest expense of $7.3 million related to our 2019 Recap Term Loan, $5.4 million related to our 2021 BSP Term Loan, $0.8 million related to our revolving credit facility and $0.6 million related to our convertible senior notes due in 2023. Provision for Income Taxes Our income tax benefit, which includes federal, state and foreign income taxes and discrete items, was $41.0 million, or an effective tax rate of (81.9%) for 2022. During 2021, the income tax expense was $0.2 million, or an effective tax rate of (4.0%). The 2022 tax benefit of $41.0 million included a discrete tax benefit of $49.8 million primarily comprised of a valuation allowance release. Absent these discrete tax benefits, our effective tax rate for 2022 was 17.6%, primarily due to taxes on federal, state, and foreign income. 30 Table of Contents The 2021 tax expense of $0.2 million included a discrete tax benefit of ($0.4) million primarily comprised of return to provision and uncertain tax position adjustments. Absent these discrete tax benefits, our effective tax rate for 2021 was (10.7%), primarily due to state taxes and taxes on foreign income. We assess the available positive and negative evidence to estimate if sufficient future taxable income will be generated to use the existing deferred tax assets by jurisdiction. Based on our evaluation of all positive and negative evidence, as of December 31, 2022, a valuation allowance of $0.7 million has been recorded against the deferred tax assets that more likely than not will not be realized. The net deferred tax assets of $57.8 million consists of the net deferred tax assets in the US and foreign jurisdictions, where we are in a cumulative income position. Uncertainties that may have a significant impact on net sales and income (loss) from operations Significant outbreaks of contagious diseases, and other adverse public health developments, could have a material impact on our business operations and operating results. In December 2019, a strain of Novel Coronavirus causing respiratory illness and death emerged in the city of Wuhan in the Hubei province of China. The Chinese government took certain emergency measures to combat the spread of the virus, including extension of the Lunar New Year holiday, implementation of travel bans and closure of factories and businesses. The majority of our materials and products are sourced from suppliers located in China. In 2020, the Novel Coronavirus was declared a global pandemic by the World Health Organization and has been spreading throughout the world, including the United States, resulting in emergency measures, including travel bans, closure of retail stores, and restrictions on gatherings of more than a maximum number of people. To the extent that these outbreaks are disruptive to local economies and commercial activity, that development creates downward pressure on our ability to make our product line available to consumers or for consumers to purchase our products, even if our products are available. At this time, we cannot quantify the extent of the impact this disease has had or will have on our sales, net income and cash flows, but it could be significant. In the first quarter of 2022, Russia and Ukraine were engaged in an armed conflict. We cannot predict at this time the length of this conflict and if it will spread to other countries. Accordingly, we cannot quantify at this time if, or the extent, this conflict will adversely impact our business operations. 31 Table of Contents Quarterly Fluctuations and Seasonality We have experienced significant quarterly fluctuations in operating results and anticipate these fluctuations in the future. The operating results for any quarter are not necessarily indicative of results for any future period. Our first quarter is typically expected to be the least profitable as a result of lower net sales but substantially similar fixed operating expenses. This is consistent with the performance of many companies in the toy industry. The following table presents our unaudited quarterly results for the years indicated. The seasonality of our business is reflected in this quarterly presentation. 2022 2021 First Second Third Fourth First Second Third Fourth (Unaudited) Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter Net sales $ 120,881 $ 220,422 $ 322,998 $ 131,886 $ 83,843 $ 112,352 $ 236,957 $ 187,964 As a % of full year 15.2 % 27.7 % 40.6 % 16.5 % 13.5 % 18.1 % 38.1 % 30.3 % Gross profit $ 29,917 $ 60,890 $ 91,911 $ 28,568 $ 26,094 $ 31,897 $ 74,924 $ 50,042 As a % of full year 14.2 % 28.8 % 43.5 % 13.5 % 14.3 % 17.4 % 41.0 % 27.3 % As a % of net sales 24.7 % 27.6 % 28.5 % 21.7 % 31.1 % 28.4 % 31.6 % 26.6 % Income (loss) from operations $ (734 ) $ 23,660 $ 53,741 $ (15,697 ) $ (2,723 ) $ 1,821 $ 36,743 $ 2,926 As a % of full year (1.2 )% 38.8 % 88.1 % (25.7 )% (7.0 )% 4.7 % 94.8 % 7.5 % As a % of net sales (0.7 )% 10.7 % 16.7 % (11.9 )% (3.2 )% 1.6 % 15.5 % 1.6 % Income (loss) before provision for (benefit from) income taxes $ (3,492 ) $ 27,541 $ 42,248 $ (16,221 ) $ (23,963 ) $ (15,160 ) $ 36,674 $ (3,213 ) As a % of net sales (2.9 )% 12.4 % 13.1 % (12.3 )% (28.6 )% (13.5 )% 15.5 % (1.7 )% Net income (loss) $ (3,909 ) $ 26,207 $ 30,676 $ 38,109 $ (24,051 ) $ (15,060 ) $ 36,376 $ (3,153 ) As a % of net sales (3.2 )% 11.8 % 9.5 % 28.9 % (28.7 )% (13.4 )% 15.4 % (1.7 )% Net income (loss) attributable to non-controlling interests $ (100 ) $ (353 ) $ (17 ) $ 140 $ 35 $ 24 $ 42 $ 19 As a % of net sales (0.1 )% (0.2 )% — % 0.1 % — % — % — % — % Net income (loss) attributable to JAKKS Pacific, Inc. $ (3,809 ) $ 26,560 $ 30,693 $ 37,969 $ (24,086 ) $ (15,084 ) $ 36,334 $ (3,172 ) As a % of net sales (3.1 )% 12.0 % 9.5 % 28.8 % (28.7 )% (13.4 )% 15.3 % (1.7 )% Net income (loss) attributable to common stockholders $ (4,155 ) $ 26,209 $ 30,336 $ 37,607 $ (24,412 ) $ (15,415 ) $ 35,998 $ (3,513 ) As a % of net sales (3.4 )% 11.9 % 9.4 % 28.5 % (29.1 )% (13.7 )% 15.2 % (1.9 )% Diluted earnings (loss) per share $ (0.43 ) $ 2.73 $ 2.96 $ 3.66 $ (4.54 ) $ (2.48 ) $ 3.97 $ (0.37 ) Weighted average shares and equivalents outstanding 9,588 10,037 10,260 10,263 5,379 6,220 9,073 9,511 Quarterly and year-to-date computations of income (loss) per share amounts are made independently. Therefore, the sum of the per share amounts for the quarters may not agree with the per share amounts for the year. 32 Table of Contents Liquidity and Capital Resources As of December 31, 2022, we had working capital of $101.9 million compared to $114.5 million as of December 31, 2021. Operating activities provided net cash of $86.1 million in 2022 and used net cash of $5.9 million in 2021. The increase in cash flows provided by operating activities, year-over-year, was primarily due to a higher net income and lower working capital usage, partially offset by lower non-cash charges related to valuation adjustments for our convertible senior notes and preferred stock derivative liability, and an increase in deferred income tax assets due to the release of the valuation allowance, offset by other deferred tax activities. Other than open purchase orders issued in the normal course of business related to shipped product, we have no obligations to purchase inventory from our manufacturers. However, we may incur costs or other losses as a result of not placing orders consistent with our forecasts for product manufactured by our suppliers or manufacturers for a variety of reasons including customer order cancellations or a decline in demand. As part of our strategy to develop and market new products, we have entered into various character and product licenses with royalties/obligations generally ranging from 1% to 22% payable on net sales of such products. As of December 31, 2022, these agreements required future aggregate minimum royalty guarantees of $74.7 million, exclusive of $1.8 million in advances already paid. Of this $74.7 million future minimum royalty guarantee, $38.1 million is due over the next twelve months. Investing activities used net cash of $10.4 million and $8.2 million for the years ended December 31, 2022 and 2021, respectively, and consisted primarily of cash paid for the purchase of molds and tooling used in the manufacture of our products. Financing activities used net cash of $31.0 million in 2022 and $32.8 million in 2021. The cash used in 2022 primarily consists of the repayment of our 2021 BSP Term loan of $29.6 million and repurchase of common stock for employee tax withholding of $1.4 million. The cash used in 2021 primarily consists of the repayment of our 2019 Recap Term Loan of $125.8 million, as well as, debt issuance costs of $2.6 million incurred in connection with the refinancing of our debt (see Item 8 “Consolidated Financial Statements and Supplementary Data Note 10 – Debt”), partially offset by the net proceeds from the issuance of our 2021 BSP Term Loan of $96.3 million. The following is a summary of our significant contractual cash obligations for the periods indicated that existed as of December 31, 2022 and is based upon information appearing in the notes to the consolidated financial statements (in thousands): 2023 2024 2025 2026 2027 Thereafter Total Short-term debt $ 25,529 $ — $ — $ — $ — $ — $ 25,529 Long-term debt — 2,475 2,475 2,475 35,947 — 43,372 Interest on debt 5,219 4,390 4,122 3,867 1,543 19,141 Operating leases 11,723 7,619 2,346 372 13 — 22,073 Minimum guaranteed license/royalty payments 38,089 34,630 1,969 — — — 74,688 Employment contracts 8,500 3,166 2,458 2,508 — — 16,632 Total contractual cash obligations $ 89,060 $ 52,280 $ 13,370 $ 9,222 $ 37,503 $ — $ 201,435 The above table excludes any potential uncertain income tax liabilities that may become payable upon examination of our income tax returns by taxing authorities. Such amounts and periods of payment cannot be reliably estimated (see Item 8 “Consolidated Financial Statements and Supplementary Data Note 13 - Income Taxes” for further explanation of our uncertain tax positions). As of December 31, 2022, we have $68.9 million of outstanding indebtedness under our first-lien secured term loan (the “2021 BSP Term Loan Agreement”) and we have no outstanding indebtedness under our senior secured revolving credit facility (the “JPMorgan ABL Facility”), aside from utilizing $17.2 million in letters of credit. 33 Table of Contents The First Lien Term Loan Facility Credit Agreement (the “2021 BSP Term Loan Agreement”) and the Credit Agreement with JPMorgan Chase Bank, N.A., as agent and lender (the “JPMorgan ABL Credit Agreement”) each contain negative covenants that, subject to certain exceptions, limit our ability and our subsidiaries ability to, among other things, incur additional indebtedness, make restricted payments, pledge our assets as security, make investments, loans, advances, guarantees and acquisitions, undergo fundamental changes and enter into transactions with affiliates. The terms of the 2021 BSP Term Loan Agreement also require us to maintain a Net Leverage Ratio of 4:00x, with step-downs occurring each fiscal year starting with the quarter ending March 31, 2022 through the quarter ending September 30, 2024 in which we are required to maintain a Net Leverage Ratio of 3:00x. On April 26, 2022, we entered into a First Amendment to the 2021 BSP Term Loan Agreement, to provide, among other things, that we must maintain Qualified Cash of at least: (a) at all times after the Closing Date and prior to the First Amendment Effective Date, $20.0 million; (b) at all times during the period commencing on the First Amendment Effective Date through and including June 30, 2022, $15.0 million; and (c) at all times on and after July 1, 2022, through September 30, 2022, $17.5 million; provided, however, that if the Total Net Leverage Ratio exceeded 1.75:1.00 as of the last day of the most recently ended month for which financial statements were required to have been delivered, then the amount set forth in this clause shall be increased to $20.0 million. Notwithstanding the foregoing, the Applicable Minimum Cash Amount shall be reduced by $1.0 million for every $5.0 million principal prepayment or repayment of the Term Loans following the First Amendment Effective Date; provided however, that, the Applicable Minimum Cash Amount shall in no event be reduced below $15.0 million. On June 27, 2022, as permitted by the terms within the 2021 BSP Term Loan Agreement, we made a voluntary fee-free $10.0 million prepayment towards the outstanding principal amount of the 2021 BSP Term Loan. On September 28, 2022, as permitted by the terms within the 2021 BSP Term Loan Agreement, we made a voluntary $17.5 million prepayment towards the outstanding principal amount of the 2021 BSP Term Loan and incurred a $0.5 million prepayment penalty. The 2021 BSP Term Loan Agreement and the JPMorgan ABL Agreement contain events of default that are customary for a facility of this nature, including (subject in certain cases to grace periods and thresholds) nonpayment of principal, nonpayment of interest, fees or other amounts, material inaccuracy of representations and warranties, violation of covenants, cross-default to certain other existing indebtedness, bankruptcy or insolvency events, certain judgment defaults and a change of control as specified in each Agreement. If an event of default occurs under either Agreement, the maturity of the amounts owed under the 2021 BSP Term Loan Agreement and the JPMorgan ABL Agreement may be accelerated. We were in compliance with the financial covenants under the 2021 BSP Term Loan Agreement and the JPMorgan ABL Agreement as of December 31, 2022. (See Item 8 “Consolidated Financial Statements and Supplementary Data, Note 10 – Debt and Note 11 – Credit Facilities” for additional information pertaining to our Debt and Credit Facilities.) As of December 31, 2022 and 2021, we held cash and cash equivalents, including restricted cash, of $85.5 million and $45.3 million, respectively. Cash, and cash equivalents, including restricted cash held outside of the United States in various foreign subsidiaries totaled $39.4 million and $30.7 million as of December 31, 2022 and 2021, respectively. The cash and cash equivalents, including restricted cash balances in our foreign subsidiaries have either been fully taxed in the U.S. or tax has been accounted for in connection with the Tax Cuts and Jobs Act, or may be eligible for a full foreign dividends received deduction under such Act, and thus would not be subject to additional U.S. tax should such amounts be repatriated in the form of dividends or deemed distributions. Any such repatriation may result in foreign withholding taxes, which we expect would not be significant as of December 31, 2022. Our primary sources of working capital are cash flows from operations and borrowings under our JPMorgan ABL Facility (See Item 8 “Consolidated Financial Statements and Supplementary Data Note 11 – Credit Facilities”). Typically, cash flows from operations are impacted by the effect on sales of (1) the appeal of our products, (2) the success of our licensed brands in motivating consumer purchase of related merchandise, (3) the highly competitive conditions existing in the toy industry and in securing commercially-attractive licenses, (4) dependency on a limited set of large customers, and (5) general economic conditions. A downturn in any single factor or a combination of factors could have a material adverse impact upon our ability to generate sufficient cash flows to operate the business. In addition, our business and liquidity are dependent to a significant degree on our vendors and their financial health, as well as the ability to accurately forecast the demand for products. The loss of a key vendor, or material changes in support by them, or a significant variance in actual demand compared to the forecast, can have a material adverse impact on our cash flows and business. Given the conditions in the toy industry environment in general, vendors, including licensors, may seek further assurances or take actions to protect against non-payment of amounts due to them. Changes in this area could have a material adverse impact on our liquidity. 34 Table of Contents As of December 31, 2022, off-balance sheet arrangements include letters of credit issued by JPMorgan of $17.2 million. On July 1, 2022, we entered into an ATM Agreement with B. Riley, as agent pursuant to which we may, from time to time, sell shares of our common stock, up to $75 million in common stock, in one or more offerings in amounts, at prices and in the terms that we will determine at the time of the offering. On July 1, 2022, we filed a Form S-3 shelf registration statement (File No. 333-266009) with the SEC. On Aug 1, 2022, the SEC declared the Form S-3 shelf registration statement filed by us to be effective. As of April 14, 2023, we have not sold any shares of common stock under the ATM Agreement. We have on file with the SEC an effective registration statement pursuant to which we may issue, from time to time, up to an additional $75 million of securities consisting of, or any combination of, common stock, preferred stock, debt securities, warrants, rights and/or units, in one or more offerings in amounts, prices and at terms that we will determine at the time of the offering. As of April 14, 2023, we have not sold any securities pursuant to our shelf registration statement. The nature of our business is a number of factors influence the price we offer product to our customers, and by extension they sell to our end customer. Our products are manufactured by third-party vendors who deal with increases in labor rates as a normal course of their respective businesses. The costing of the plastic components of our toys can be sensitive to sudden swings in oil prices. Currency exchange can also create a degree of volatility, although the majority of our products are sourced in USD or Hong Kong Dollars. Increased volumes ideally generate increased scale at various points in the value chain. Often times, in the toy industry when cost pressures result in price increases, the development teams will reengineer subsequent year refreshes to cost-reduce the items down to support traditional price points and preserve historical margins. With those considerations in mind as well as others, during the last three fiscal years ending December 31, we do not believe that inflation has had a material impact on our net sales and income from continuing operations. Exchange Rates Sales from our United States and Hong Kong operations are denominated in U.S. dollars and our manufacturing costs are denominated in either U.S. or Hong Kong dollars. Local sales (other than in Hong Kong) and operating expenses of our operations in Hong Kong, the United Kingdom, Germany, the Netherlands, France, Canada, Mexico and China are denominated in local currency, thereby creating exposure to changes in exchange rates. Changes in the various exchange rates against the U.S. dollar may positively or negatively affect our operating results. The exchange rate of the Hong Kong dollar to the U.S. dollar has been linked to the U.S. dollar by the Hong Kong Monetary Authority at HK$7.75 - HK$7.85 to US$1.00 since 2005 and, accordingly, has not represented a currency exchange risk to the U.S. dollar. We cannot assure you that the exchange rate between the United States and Hong Kong currencies will continue to be fixed or that exchange rate fluctuations between the United States and Hong Kong or all other currencies will not have a material adverse effect on our business, financial condition or results of operations.