Mattel Overpays for the Learning Company

question 88

Essay

Mattel Overpays for the Learning Company

Despite disturbing discoveries during due diligence, Mattel acquired The Learning Company (TLC), a leading developer of software for toys, in a stock-for-stock transaction valued at $3.5 billion on May 13, 1999. Mattel had determined that TLC’s receivables were overstated because product returns from distributors were not deducted from receivables and its allowance for bad debt was inadequate. A $50 million licensing deal also had been prematurely put on the balance sheet. Finally, TLC’s brands were becoming outdated. TLC had substantially exaggerated the amount of money put into research and development for new software products. Nevertheless, driven by the appeal of rapidly becoming a big player in the children’s software market, Mattel closed on the transaction aware that TLC’s cash flows were overstated.

For all of 1999, TLC represented a pretax loss of $206 million. After restructuring charges, Mattel’s consolidated 1999 net loss was $82.4 million on sales of $5.5 billion. TLC’s top executives left Mattel and sold their Mattel shares in August, just before the third quarter’s financial performance was released. Mattel’s stock fell by more than 35% during 1999 to end the year at about $14 per share. On February 3, 2000, Mattel announced that its chief executive officer (CEO), Jill Barrad, was leaving the company.

On September 30, 2000, Mattel virtually gave away The Learning Company to rid itself of what had become a seemingly intractable problem. This ended what had become a disastrous foray into software publishing that had cost the firm literally hundreds of millions of dollars. Mattel, which had paid $3.5 billion for the firm in 1999, sold the unit to an affiliate of Gores Technology Group (GTG) for rights to a share of future profits. Essentially, the deal consisted of no cash upfront and only a share of potential future revenues. In lieu of cash, GTG agreed to give Mattel 50 percent of any profits and part of any future sale of TLC. In a matter of weeks, GTG was able to do what Mattel could not do in a year. GTG restructured TLC’s seven units into three, put strong controls on spending, sifted through 467 software titles to focus on the key brands, and repaired relationships with distributors. GTG also sold the entertainment division.
-Despite being aware of extensive problems, Mattel proceeded to acquire The Learning Company. Why? What could Mattel to better protect its interests? Be specific.

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