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Tofutti Brands: 10-Year Historical Low with Concentration Risk

December 05, 2012 | About:
This is one in a series of articles where I will be covering most of the "30 Obscure, Profitable Stocks" listed by Geoff Gannon on his blog on Nov. 29, 2012. Many thanks to Geoff Gannon for the wonderful list of interesting stock ideas.

Tofutti Brands (TOF) is engaged in the development, production and marketing of TOFUTTI brand nondairy frozen desserts and other food products. TOFUTTI products are nondairy and soy-based, which contain no butterfat, cholesterol or lactose. Its products are 100% milk free yet offer the same texture and full-bodied taste as their dairy counterparts. Also, TOF's products are free of cholesterol and derive their fat from soy and corn, both naturally lower in saturated fat than dairy products.

Valuation

TOF is currently trading at 1.59x P/B, a 33% discount to its five-year average P/B of 2.39 and this also represents a ten-year P/B low for TOF. TOF achieved a five-year average ROE of 8.1% and a five-year book value per share CAGR of 3.2%.

TOF is loss-making for the trailing 12 months. TOF's sales continue to be impacted by the decision of Trader Joe’s, formerly our largest customer, to discontinue stocking branded goods in mid-2011. During the first 39 weeks of 2012, there were no sales to Trader Joe’s as compared with $1,420,000 in sales in the first 39 weeks of 2011. TOF is working to replace those sales with aggressive promotional sales activities. Marketing expenses and research and development costs increased by 41% and 21%, respectively, during the same period, due to the introduction of new products.

Financial and Business Risks

TOF is debt free with cash and cash equivalents of $213,000 representing 3% of its current market capitalization of $6.2 million.

Trader Joe’s, a former key customer of TOF which accounted for 19% of 2010 sales, informed TOF that they were replacing TOF's products with their own private-label substitutes. If TOF failed to make up for Trader Joe's historical revenue contributions, this could hit TOF's sales badly. Net sales for the 39 weeks ended Sept. 29, 2012 were $10,486,000, 13% lower compared with $12,072,000 in net sales for the 39 weeks ended Oct. 1, 2011. In addition, a significant portion of TOF's sales are to several large distribution companies, which as a group accounted for 35% of net sales for fiscal year 2011. In 2010, one of its major distributors, Tree of Life Inc., was purchased by Kehe Food Distributors, another of its major distributors.

TOF does not produce any of its own products; instead it depends on several key suppliers to purchase its products. It purchased 28% and 24%, respectively, of its finished goods from Ice Cream Specialties, its primary frozen dessert novelty co-packer and from Franklin Foods, its BETTER THAN CREAM CHEESE and SOUR SUPREME co-packer, respectively.

Business Quality and Capital Allocation

TOF believes that it is a leader in the nondairy frozen dessert product market and offers the most complete line of nondairy frozen dessert products. TOF's advantage over competitors is its ability to offer an array of soy-based, non-dairy frozen dessert and other food products that contain no butterfat, cholesterol or lactose and are 100% milk-free, yet offer the same texture and taste as their dairy counterparts.

TOF's dairy-free products cater to a specific segment of the consumer market. It is estimated that one out of five Americans are lactose intolerant, and the fact that lactose intolerance tends to increase with age. Also, certain medical conditions, such as asthma, kidney dysfunction and autism require dairy free diets. Furthermore, due to concerns over ethical or dietary issues, vegetarians stay away from dairy products.

TOF does not pay a dividend. TOF's board of directors has to date authorized the repurchase of 2,200,000 shares of its common stock. TOF has purchased 1,829,000 shares at a cost of $5,318,000 since the beginning of the share repurchase program.

Conclusion

Although TOF has created a niche for itself in the soy-based, non-dairy frozen products market, there are no barriers to entry. Moreover, TOF does not produce any of its own products and faces huge supplier and customer concentration risks. TOF has been profitable for the past 10 years, but this amazing streak could possibly come to an end this year.



Disclosure


The author does not have a position in any of the stocks mentioned.

About the author:

Mark Lin
Mark is a private value investor and runs the Cheapskate Investing website which borrows from the wisdom of value investing giants, using a systematic quantitative screening approach to filter the global stock markets for cheap deep-value cigar-butts and wide-moat compounders. He is also a regular contributor to various value investing communities.

Visit Mark Lin's Website


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