Tootsie Roll Industries, Inc. — Q2 2018 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2018. The company manufactures and sells confectionery products; its business is seasonal, with the third quarter historically its largest sales quarter due to pre-Halloween demand. Unless otherwise stated, financial amounts below are in millions of dollars, converted from the filing’s thousands.
Financial performance
| Metric | Q2 2018 | Q2 2017 | First half 2018 | First half 2017 |
|---|---|---|---|---|
| Total revenue | $106.8 | $105.8 | $208.6 | $210.3 |
| Net product sales | $105.6 | $104.9 | $206.5 | $208.3 |
| Gross margin | $39.1 | $40.2 | $74.8 | $78.8 |
| Gross margin as % of revenue | 36.6% | 38.0% | 35.9% | 37.5% |
| Operating earnings | $10.4 | $13.6 | $20.2 | $25.5 |
| Net earnings attributable to Tootsie Roll | $10.5 | $11.9 | $18.6 | $21.9 |
| Earnings per share | $0.16 | $0.18 | $0.29 | $0.34 |
- Q2 product sales rose 0.7%, while first-half product sales fell 0.9%. Management said timing of sales between the second and third quarters contributed to the Q2 increase.
- Reported operating margin was 9.7% in Q2 versus 12.9% a year earlier, and 9.7% for the first half versus 12.1%. Excluding deferred compensation expense, management reported operating earnings of $12.0 million for Q2, down 22.4%, and $22.2 million for the first half, down 26.5%.
- Lower 2018 effective tax rates—23.7% for Q2 and 22.9% for the first half, versus 27.4% and 28.3%—principally reflected the reduced federal tax rate. Lower taxes partly offset weaker operating results.
Cash flow, liquidity and debt
- First-half operating cash flow was $6.4 million, compared with $8.4 million in 2017. Capital expenditures were $11.7 million, up from $7.4 million, principally for new packaging lines.
- Cash, cash equivalents and restricted cash totaled $38.7 million at June 30, down from $96.7 million at year-end 2017. Cash and short-term investments totaled $103.5 million; long-term investments were $192.2 million. Aggregate cash and short- and long-term investments were $295.7 million.
- Current assets were $260.2 million and current liabilities $61.3 million; the current ratio was 4.2 to 1. The company had $0.4 million of bank loans, associated with its Spanish subsidiaries, and $7.5 million of industrial development bonds. It reported no other bank borrowings.
- First-half financing included $15.8 million of share repurchases and $11.4 million of cash dividends. The company does not have a formal publicly announced repurchase program; its board periodically authorizes purchase amounts.
Material changes, outlook and risks
- Management attributed margin pressure to higher manufacturing wages, healthcare and other benefits, plant overhead, product mix, increased international sales at generally lower margins, and costs associated with packaging quality improvements and new production lines. Adjusted product costs as a percentage of sales rose 1.9 percentage points in Q2 and 2.3 points for the first half.
- Freight, delivery and warehousing costs rose 20.7% in Q2 and 12.9% in the first half. Management cited fuel costs, truck capacity constraints, driver shortages and electronic monitoring requirements, and expects higher transportation costs to continue as a structural industry change.
- The company expects approximately $15 million of spending for a U.S. manufacturing plant rehabilitation and expansion: about $0.2 million in 2018, $10.0 million in 2019, $1.8 million in 2020 and $3.0 million in 2021. It expects 2018 capital expenditures to be funded from operating cash flow and internal sources.
- No specific earnings or revenue guidance was provided. Management cautioned that interim results are not necessarily indicative of full-year results because of seasonality.
- A multi-employer pension plan covering certain union employees is 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 2017 withdrawal; management’s estimated present value range for potential payments was $35.9–$46.9 million, but actual liability could be higher. The company cannot determine the ultimate financial impact, which could be material in future periods.
- ASC 606 adoption on January 1, 2018 increased retained earnings by $3.3 million after tax, principally from changed timing of certain trade-promotion accounting; management expects no material ongoing net-income impact. Tax accounting under the 2017 Tax Act remained provisional, and the ultimate effect may differ from estimates.
- Ordinary-course legal proceedings were not expected by management to have a material effect. The filing reported no material changes to previously disclosed risk factors or market risks.
Important facts for investors to verify
- Whether sales timing between Q2 and Q3 materially reverses or affects the seasonally important third quarter.
- Whether freight, input, labor and benefit costs continue to pressure margins, and whether new packaging lines deliver expected efficiencies and quality improvements.
- Updates on the multi-employer pension plan’s rehabilitation, funding, potential PBGC support and the company’s possible liability.
- Progress, funding and actual spending on the planned plant expansion, alongside capital spending and cash balances.
- Final tax-reform accounting and any material effects from the ongoing pension and other contingencies.