(Published by Bob Ciura on June 27)
For investors more interested in stability than excitement, Tootsie Roll Industries Inc. (TR, Financial) is a stock worth considering.
It has been in operation for more than a century. It competes in a highly concentrated industry—candy—which is dominated by just a few huge companies.
This gives Tootsie Roll a consistent level of profitability, which has allowed it to pay dividends for decades on end.
Even better, the company has increased its dividend since 1966—a 51-year streak.
Tootsie Roll is a Dividend King—a group of just 19 stocks that have each raised their dividends for over 50 years.
Tootsie Roll’s current dividend yield is relatively low, but the company makes up for this with annual dividend growth along with stock dividends issued on a regular basis.
Investors looking for a “sleep well at night” stock may want to take a bite out of Tootsie Roll.
Business overview
Tootsie Roll is a confectioner. It was founded in 1896, when an Austrian immigrant named Leo Hirschfield created the chocolaty candy in his own kitchen.
Today, Tootsie Roll manufactures a wide range of candies. It competes directly with industry giants Nestle SA (NSRGY, Financial) and The Hershey Co. (HSY, Financial). It has a large candy portfolio with many popular products.
Source: 2016 Annual Report, page 1
Tootsie Roll is under a fairly new management team.
In 2015, Tootsie Roll's previous CEO, Melvin Gordon, passed away, after having led the company for more than 50 years.
Gordon’s widow, Ellen, took the helm as CEO. Forbes estimates she owns more than half of Tootsie Roll’s shares.
Communication with investors is scarce, other than required filings with the SEC.
For example, Tootsie Roll does not conduct earnings calls with analysts. It also does not participate in industry conferences.
That said, the company is a high-quality business.
It operates in a stable industry with a highly profitable business model. Additionally, Tootsie Roll has a strong brand and possesses a healthy balance sheet.
The company has a steady growth outlook moving forward.
Growth prospects
Tootsie Roll’s growth prospects are promising, if unspectacular. The U.S. is a saturated market with limited growth potential.
Sales peaked in 2012 at $546 million. Since then, they have steadily declined. Sales fell 3.6% in 2016 to $517 million.
The company effectively manages costs, however. Earnings per share increased 3.9% year over year and have grown every year since 2012 despite the sales decline.
2017 is shaping up to be another steady year. Sales were up fractionally in the first quarter, while cost cuts drove a 6.7% increase in EPS.
Future growth in the U.S. will likely be only a percentage point or two above inflation. There is continued growth potential in new markets and from the development of new products.
For example, last year the company unveiled several new items across its product line, including Cella’s Dips, caramel marshmallow Sugar Babies and others.
The company is also utilizing new methods of advertising, including an aggressive promotion last year on social media platforms like Facebook (FB, Financial), Twitter (TWTR, Financial) and Instagram.
Competitive advantages and recession performance
As one of the largest players in the North American candy industry, Tootsie Roll benefits from scale.
The company has deployed automated manufacturing processes that have helped it gradually increase its profit margins over time.
Another competitive advantage is Tootsie Roll’s strong balance sheet. It ended last quarter with a current ratio of 4.5, meaning its short-term assets exceed its short-term liabilities by more than four times.
Its current assets include $78.5 million of cash. It also has $195.3 million in long-term investments, along with virtually no long-term debt.
A strong balance sheet provides the company with several advantages, including a low cost of capital and the financial flexibility to advertise or acquire other companies.
These competitive advantages allow Tootsie Roll to generate consistent profits, even when the economy enters a recession.
The company performed very well during the Great Recession:
- 2007 EPS of 70 cents
- 2008 EPS of 54 cents
- 2009 EPS of 75 cents
- 2010 EPS of 76 cents
Tootsie Roll’s EPS fell in 2008, but quickly recovered. The company sailed through the Great Recession, which is an indication of its recession-resistant business model.
Consumers do not typically cut back on candy purchases during recessions. This consistency awards Tootsie Roll with an above-average valuation.
Valuation and expected total returns
Tootsie Roll stock trades for a price-earnings (P/E) ratio of 32.5 based on 2016 EPS of $1.08.
This is a fairly aggressive valuation—the S&P 500 Index, on average, has a P/E ratio of 25.8.
It is not entirely surprising to see Tootsie Roll trade for a higher valuation than the average stock given its high-quality business model.
It does make the stock somewhat unattractive for value investors, however.
Going forward, investors should not expect the valuation multiple to expand. But it should continue to generate high single-digit total returns based on earnings growth and dividends:
- 2% to 4% sales growth.
- 1% margin expansion.
- 1% share repurchases.
- 1% dividend yield.
Under this assumption, Tootsie Roll would return 5% to 7% each year on average, not including the 3% annual stock dividend.
The company currently pays an annual dividend of 36 cents per share. Based on its recent share price, this is a 1% dividend yield.
This is a fairly low dividend yield, about half the level of the S&P 500 Index average.
There are, however, several factors that make Tootsie Roll’s dividend sweeter than it appears.
First, Tootsie Roll increases its dividend each year.
It has increased its dividend each year for more than five decades, including a 3% increase for the first-quarter 2017 payment.
It also distributes stock dividends every year. For instance, Tootsie Roll distributed a 3% stock dividend in April this year.
Final thoughts
Tootsie Roll will likely never be considered an exciting business. It does not get much coverage in the financial media.
The company is, however, the epitome of slow and steady.
It offers a steadily rising dividend, a 3% annual stock dividend and modest earnings growth from year to year.
Tootsie Roll’s low dividend yield could make it less attractive to investors interested in higher dividend yields. That said, it does appeal to investors looking for consistent dividend growth.
Disclosure: I am not long any of the stocks mentioned in this article.
