Tootsie Roll Industries, Inc. — Q1 2018 Form 10-Q
Reporting period: Quarter ended March 31, 2018. Financial figures below are in millions of dollars unless otherwise noted; the filing presents most figures in thousands. The company notes that results are seasonal, with its largest sales quarter historically occurring in Q3 before Halloween.
Financial results and liquidity
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Net product sales | $100.9 | $103.4 | Down 2.5% |
| Total revenue | $101.8 | $104.5 | Down 2.5% |
| Total gross margin | $35.7 | $38.7 | Gross margin rate 35.1%, versus 37.0% |
| Operating earnings | $9.8 | $11.9 | Down 17.5% |
| Net earnings attributable to Tootsie Roll | $8.1 | $10.1 | Down 19.2% |
| Earnings per share | $0.13 | $0.15 | Down $0.02 |
| Operating cash flow | $9.7 | $11.9 | Down $2.2 |
Management’s adjusted figures exclude deferred-compensation expenses tied to market movements in associated investments. On that basis, operating earnings were $10.3 million versus $14.8 million, down 30.8%; adjusted operating earnings were 10.2% of net product sales versus 14.3% a year earlier. These are management-presented adjustments, not reported GAAP measures.
Cash and cash equivalents were $49.9 million at quarter-end. Short-term investments were $60.3 million and long-term investments $195.9 million; combined cash and short- and long-term investments were $306.1 million, including $63.5 million of trading securities associated with deferred-compensation liabilities. The current ratio was 4.6:1 and net working capital was $193.9 million. The company reported $0.4 million of bank loans, all at majority-owned Spanish subsidiaries, and $7.5 million of industrial development bonds; it had no other bank borrowings.
Investing cash use was $33.1 million, including $7.7 million of capital expenditures and net purchases of securities. Financing cash use was $23.8 million, including $12.5 million of share repurchases and $11.3 million of cash dividends. Cash, cash equivalents and restricted cash declined $46.4 million during the quarter to $50.3 million.
Material changes and management commentary
- Management attributed lower sales mainly to reduced price realization from increased trade promotions and consumer coupons, declines in exports and foreign-subsidiary sales, partly offset by favorable foreign exchange.
- Adjusted product cost of goods sold rose 1.7%; as a share of net product sales it increased to 65.3% from 62.6%. Higher plant overhead, repairs and utilities, employee benefit costs, and start-up costs for new packaging lines pressured margins. Ingredient costs were overall more favorable.
- Adjusted selling, marketing and administrative expenses increased 3.4%. Freight, delivery and warehousing costs rose to $10.2 million from $9.7 million, reflecting higher freight rates, fuel costs and trucking capacity constraints.
- The effective tax rate fell to 21.8% from 29.3%, principally due to the lower U.S. federal tax rate effective in 2018. Average shares outstanding fell to 64.4 million from 65.5 million, partly supporting EPS through share repurchases.
- Q1 2018 operating cash flow was lower, principally reflecting lower earnings and working-capital movements, including a larger inventory cash use.
Outlook, accounting, risks and unusual items
- No specific earnings or sales guidance is provided. Management expects substantially all cash outlays for approximately $13 million of new manufacturing packaging lines in 2018. A separate approximately $15 million plant rehabilitation and expansion project is expected to require about $0.5 million in 2018, $7 million in 2019 and $7.5 million in 2020. Management expects 2018 capital expenditures to be funded from operating cash flow and internal sources.
- ASC 606 was adopted January 1, 2018 using the modified retrospective method. Adoption increased opening retained earnings after tax by $3.319 million, principally from timing changes for trade promotions; management expects no material ongoing net-income impact. Prior-period comparisons were not restated.
- The multiemployer Bakery and Confectionery Union pension plan remains in “critical and declining” status and is projected to become insolvent in 2030. The company’s estimated withdrawal liability was $82.2 million for a hypothetical 2017 withdrawal; management’s estimate of a likely capped payment stream has a present value of $35.9 million to $46.9 million. The ultimate outcome and financial effect are uncertain and could be material. Labor contract negotiations were ongoing under extensions of the expired contract.
- Tax accounting for the 2017 Tax Reform Act remained provisional; the ultimate impact could differ, possibly materially. The company also uses commodity and foreign-currency derivatives to hedge exposures; it does not use them for speculation. The filing reports no material change in risk factors or market risks from the 2017 Form 10-K.
- Management reported no goodwill or intangible-asset impairment trigger in the quarter. Disclosure controls were assessed as effective, with no material change in internal control over financial reporting.
Most important facts for investors to verify
- Whether sales and operating margins recover from the Q1 declines, given price promotions, export and foreign-subsidiary weakness, and higher manufacturing and freight costs.
- Whether the pension plan’s funding, rehabilitation measures and potential withdrawal exposure change; the disclosed $82.2 million estimate is not a recorded final obligation.
- Whether planned packaging-line and plant investments deliver expected efficiencies and remain within projected spending and timing.
- How cash and securities are allocated and perform, including the portion of trading securities economically linked to deferred compensation.
- Any final adjustments to provisional tax-reform accounting and the ongoing effect of the ASC 606 adoption.