Tootsie Roll's Well-Deserved Obscurity

 | Mar 02, 2012 | 12:00 PM EST
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It amazes me these days how many companies don't get much analyst coverage, if any at all. I'm not talking about the tiny off-the wall, esoteric companies that I follow or own, but rather those that have decent-sized market caps and are names that many would recognize.

Frankly, I'm pleased about this, because it can create more opportunity to identify companies that are either over-valued or under-valued and which are getting little financial press. You might just stumble upon a situation that is going unnoticed. Or you might realize that there are valid reasons why the stock is not being covered.

I have followed Tootsie Roll Industries (TR) for years and previously owned it. Talk about a who's-who of brands -- besides the obvious (Tootsie Rolls, and Tootsie Pops), the company produces Charleston Chews, Charms Blow Pops, Dubble Bubble, Junior Mints, Andes Mints, Razzles and Sugar Daddy, to name a handful. This is a solid and potentially valuable portfolio of well-known products, and one that has been profitable for Tootsie Roll for many years.

Unfortunately, however, the company's performance has been sliding. Back in 2004 and 2005, the company's net margins were above 15%, and it commanded and earned a price earnings ratio in the low to mid 20s. But since then, revenue has stagnated, and net margins have been cut dramatically. Last year, the company bottom-lined 10.3% of revenue. But revenue had increased a total of only 6.2% since 2005. That's not even keeping pace with the Consumer Price Index.

Yesterday, the company released its 10K for 2011. Interestingly, there was no earnings announcement and no coverage, and this is a $1.35 billion market-cap company. I always dig into the 10Ks and 10Qs, but it's strange to not even get a preliminary snapshot from a press release.

For the year, revenue rose 2.1% to $532.5 million, and net income fell 17.2% to $43.9 million, or $0.76 per share. The net margin fell from 10.3% to 8.25%. This company has always had a good balance sheet, and it ended the year with $185.6 million in cash ($78.6 million) and investments ($107 million), plus $74.2 million in split dollar life insurance and just $7.5 million in debt.

What I can't figure out is why this company is still commanding a premium P/E of 31. Revenue has stagnated, margins continue to fall, there's no growth here. When I owned shares, it was primarily because I presumed that the company would be acquired, and that given its solid margins and strong balance sheet, it would command a nice premium. I gave up on that notion and closed my position years ago.

The Gordon family, which includes husband and wife Melvin (age 92, chairman and CEO) and Ellen (age 80, president and chief operating officer), calls the shots and controls the majority of voting shares. Despite their ages, they don't seem to be slowing down. Why would they? Last year the pair earned more than $8 million combined.

Tootsie Roll has been a value trap. While some shareholders have been waiting years for the company to be sold, performance has declined. There's been little in the way of new, successful product introductions. Product extensions have added little to the top line. The company, in my view is not worth what it once was; it has been compromised by years of resting on its laurels. The stock has essentially treaded water for 14 years, as margins have suffered and revenue stagnated.

When I owned Tootsie Roll, I had visions of the company being acquired by Hershey (HSY), Wrigley or some other suitor. But that was years ago, and the company was worth more then, at least in my view.

In this case, there appear to be good reasons why this company gets no coverage.



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