TR - Tootsie Roll Industries: Still Strong Trends But No Upside Potential

Summary

• Tootsie Roll Industries, Inc. continues to show revenue growth.
• The business is able to effectively control costs and maintain profitability at a stable level.
• According to my DCF model, the market takes full account of future cash flows, and as a result, there is no fundamental upside potential for Tootsie Roll Industries, Inc.

Introduction

Stocks of Tootsie Roll Industries, Inc. ( TR ) have risen 1.5% YTD. While I like the company and its operational and financial performance, in my personal opinion, now is not the best time to buy stocks. Despite the fact that the company's shares are an excellent hedge against rising inflation and macro policy uncertainties, I believe that the shares continue to trade above their fair level, with all positive future cash flows already priced in.

Projections

In November, the company published financial results for the 3rd quarter of 2022.

Revenue growth: I believe the company will continue its Q4 recovery at 25%, then I forecast double-digit revenue growth of 15% until 2026.

Gross profit margin: in my forecasts, I predict a stable gross margin at 34.5% for the 4th quarter of 2022 and for 2023 due to continued inflation growth. Next, I predict a slight improvement to 34.5% through 2026. It should be understood that most of the costs are fixed, so continued growth in volumes will not improve the gross margin, where the main driver, of course, is the dynamics of inflation.

SGA: I forecast SGA spending at 22% in Q4 2022 and at 19% through 2026. I think that the company is able to effectively control operating costs by operating in a stable and conservative market, where management has the ability to predict sales. I believe that the level will remain stable, because the company is able to increase sales and pass on the increase in inflation to the end consumer. Also, in my personal opinion, freight and delivery prices should normalize in the next periods.

Quarterly projections:

Yearly projections:

Valuation

To value a company, I prefer to use the discounted cash flow ("DCF") model and calculate multiples based on my personal sales and net income projections. I prefer the DCF model because:

1. The company operates in a stable and conservative segment, where it is easier to make forecasts and assumptions about future cash flows

2. The company has a long public history on which I can model future trends.

3. Management regularly publishes reporting, guidance and its own view of future periods, on the basis of which I can make more accurate assumptions.

In my calculations, I use the following data:

WACC: 8.7%

Terminal growth rate: 3%.

In addition, I calculated P/E and P/S multiples based on my Sales and Net income forecasts. You can see the calculation results in the table below.

Drivers

Macro: decrease in macro and geopolitical tensions may help reduce supply chain risks, which is a positive factor for the company's revenue dynamics and profitability. In addition, the recovery in real income and consumer confidence are also positive drivers for the business' top line growth.

Margin: macro normalization and lower inflation could support business operating margins

Risks

Macro: the growth of macro and geopolitical tensions may be a negative factor for the dynamics of the company's revenue in view of the growth of supply chain risks and the decrease in consumer confidence of the population.

Margin: continued growth in inflation may have a negative impact on the dynamics of the operating profitability of the business due to an increase in input costs and the need for wage indexation.

Competition: increasing competition may require an increase in marketing spending and limit the ability to pass on price increases to the end consumer, which could have a negative impact on the operating margin of the business.

Conclusion

Thus, in my personal opinion, now is not the best time to go long, despite the fact that I like Tootsie Roll Industries, Inc. and the business segment in which it operates. I believe that the market is now effectively taking into account the future cash flows of the business, and all the positive is already contained in the price. According to my calculations, the target price for Tootsie Roll Industries, Inc. stock is $37 with a downside potential of 15%.

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