TOOTSIE ROLL INDUSTRIES, INC. (Thousands of dollars except per share, percentage and ratio figures)
The following discussion should be read in conjunction with the other sections
of this report, including the consolidated financial statements and related
notes contained in Item 8 of this Form 10-K. This section of this Form 10-K
generally discusses the twelve months ended
FINANCIAL REVIEW
This financial review discusses the Company's financial condition, results of operations, liquidity and capital resources, significant accounting policies and estimates, new accounting pronouncements, market risks and other matters. It should be read in conjunction with the Consolidated Financial Statements and related Notes that follow this discussion.
FINANCIAL CONDITION
The Company's overall financial position remains strong given that aggregate
cash, cash equivalents and investments is
The Company's net working capital was
Shareholders' equity increased from
The Company has a relatively straight-forward financial structure and has historically maintained a conservative financial position. The Company has no special financing arrangements or "off-balance sheet" special purpose entities. Cash flows from operations plus maturities of short-term investments are expected to be adequate to meet the Company's overall financing needs, including capital expenditures, in 2023. Periodically, the Company considers possible acquisitions, and if the Company were to pursue and complete such an acquisition, that could result in bank borrowings or other financing.
RESULTS OF OPERATIONS
2022 vs. 2021
Twelve months 2022 consolidated net product sales were
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an overall increase in demand and higher sales price realization. Effective
sales and marketing programs, including
Twelve months 2022 sales also exceeded twelve months 2019 sales by 30% which provides a sales comparison prior to the pandemic.
Product cost of goods sold were
Although higher fourth quarter and twelve months 2022 sales, including sales price increases, contributed to improved net earnings compared to the corresponding prior year periods in 2021, significantly higher input costs substantially offset the benefits of these higher sales. Fourth quarter and twelve months 2022 gross profit margins and net earnings were adversely affected by significantly higher costs for ingredients, packaging materials, freight and delivery, and many manufacturing supplies and services. Our input unit costs moved significantly higher in 2022 compared to 2021 as most of our supply contracts for ingredients, packaging materials and manufacturing supplies and services expired at the end of 2021 and new supply agreements at higher prices became effective in early 2022. In certain instances, we expanded our annual commitments for some ingredients from our suppliers in 2022 to meet higher demand. However, certain markets were very tight and this incremental expansion resulted in even higher unit costs for these additional materials. Supplier and transportation delays also caused us to purchase some limited quantities of ingredients in the spot market which were at substantially higher unit costs than our contracted prices. Supply chain challenges and limited availability of certain ingredients and materials, as well as generally higher commodity markets, drove up our unit costs for many key ingredients and materials in 2022. The adverse effects of higher energy costs, including higher diesel fuel surcharges, have added to our input costs on both customer and supplier freight and delivery in 2022. These higher energy costs have also increased our costs for utilities to operate our manufacturing plants in 2022. Based on our 2023 supply contracts, we expect even higher unit costs for most ingredients and materials in 2023. The Company uses the Last-In-First-Out (LIFO) method of accounting for inventory and costs of goods sold which results in lower current income taxes during such periods of increasing costs and higher inflation, but this method does charge the most current costs to cost of goods sold and thereby accelerates the realization of these higher costs.
Our supply chain was extremely challenging in 2022, as our supplier lead times expanded greatly and some suppliers were unable to meet some promised delivery dates. In some cases, we were unable to secure timely delivery of additional ingredients and packaging materials to meet our higher demand in 2022, and therefore had to limit our customer sales order volumes of some products. We are continuing to focus on the supply chain and possible delays and disruptions, but this area continues to have much less predictability compared to past history. Although the supply chain continues to improve, it is possible that supply chain disruptions could result in the temporary shut-down of one or more manufacturing lines resulting in lost sales and profits in 2023. Labor shortages at some of our manufacturing plant locations also contributed to some production limitations and lost sales in 2022. We believe that these labor shortages will continue to have some adverse impact on the fulfillment of customer orders in 2023 and may limit our growth opportunities for certain
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products in 2023. Nonetheless, we were able to meet substantially all of our labor needs in 2022, including for our seasonal increases in production. However, the tight labor market has created much more uncertainty than in the past.
Selling, marketing and administrative expenses were
Selling, marketing and administrative expenses include freight, delivery and
warehousing expenses. These expenses increased from
In response to these higher input costs many companies in the consumer products industry have increased selling prices throughout 2021 and 2022. We have followed with price increases as well with the objective of improving sales price realization and restoring some of our margin declines. Price increases were phased in principally beginning in second half 2021 and continued throughout 2022 and into 2023. The improvement in fourth quarter 2022 margins and net earnings reflects the cumulative benefits of this higher price realization. Although our price increases have generally reflected the overall price increases in our industry, they have not as yet resulted in fully restoring our margins to historical levels. The Company believes that we should be able to make more progress in restoring our margins in 2023 when all of our price increases take full effect. However, continuing increases in input costs and overall high inflation may not allow us to fully restore our margins to historical levels prior to the pandemic. Although the Company continues to monitor these higher input costs and price increases in the industry, we are mindful of the effects and limits of passing on all of the above discussed higher input costs to consumers of our products.
The Company has foreign operating businesses in
The Company believes that the carrying values of its goodwill and trademarks
have indefinite lives as they are expected to generate cash flows indefinitely.
In accordance with current accounting guidance, these indefinite-lived
intangible assets are assessed at least annually for impairment as of
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a 100 basis point increase in the discount rate or a 100 basis point decrease in
the royalty rate would not result in a potential impairment as of
Earnings from operations were
Management believes the comparisons presented in the preceding paragraphs, after adjusting for changes in deferred compensation, are more reflective of the underlying operations of the Company.
Other income (expense), net was
The Company's effective income tax rates were 21.2% and 25.7% in fourth quarter
2022 and 2021, respectively, and 22.7% and 23.8% in twelve months 2022 and 2021,
respectively The decrease in the effective tax rates in 2022 generally reflects
lower rates for state and international income tax provisions. A reconciliation
of the differences between the
The Company has provided a full valuation allowance on its Spanish subsidiaries'
tax loss carry-forward benefits of
Net earnings were
Fourth quarter 2022 and 2021 net earnings attributable to
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Beginning in 2012, the Company has received periodic notices from the
Based on these updated notices, the Plan's funded percentage (plan investment
assets as a percentage of plan liabilities), as defined, were 48.5%, 48.3%, and
50.4% as of the most recent valuation dates available,
The Company has been advised that its withdrawal liability would have been
Based on the Company's most recent actuarial estimates using the information
provided by the Plan with respect to the 2021 withdrawal liability and certain
provisions in ERISA and laws relating to withdrawal liability payments,
management believes that the Company's liability had the Company withdrawn in
2022 would likely be limited to twenty annual payments of
The Company and the union are currently in labor contract negotiations following
the expiration of the existing agreement in
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the Company's continued participation in this Plan. The amended rehabilitation
plan, which also continues, requires that employer contributions include 5%
compounded annual surcharge increases each year beginning in 2012 as well as
certain plan benefit reductions. The Company's pension expense for this Plan for
2022, 2021 and 2020 was
In fourth quarter 2020, the Plan Trustees advised the Company that the
surcharges would no longer increase annually and therefore be "frozen" at the
rates and amounts in effect as of
The Plan advised the Company that it will be applying for benefits available to
financial troubled plans under the American Rescue Plan Act of 2021. Company
management understands that this legislation would provide financial assistance
from the PBGC to shore up financially distressed multi-employer plans to ensure
that they can remain solvent and continue to pay benefits to retirees through
2051 without any reduction in retiree benefits. The PBGC final ruling lifts
certain investment restrictions imposed by the interim rule and now allows for a
split interest rate structure between existing assets and assets acquired with
PBGC assistance that should substantially increase the amount of financial
assistance available to the Plan. While the Plan's future solvency will depend
significantly on future investment experience and contribution levels even if
financial assistance is awarded, many plans previously projected to go insolvent
prior to 2051 are now projected to go insolvent closer to, or even beyond 2051,
as a result of the final rule. The Company's actuary advised that the
regulations under the aforementioned PBGC financial assistance could result in a
higher withdrawal liability even with PBGC financial assistance. The Company is
currently unable to determine the ultimate outcome of the above discussed
multi-employer union pension matter and therefore is unable to determine the
effects on its consolidated financial statements, but the ultimate outcome could
be material to its consolidated results of operations or cash flows in one or
more future periods. See also Note 7 of the Company's Note to Consolidated
Financial Statements on Form 10-K for the year ended
As discussed in the Risk Factors section above, the Company's union contract at
its
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LIQUIDITY AND CAPITAL RESOURCES
Cash flows from operating activities were
The Company manages and controls a VEBA trust, to fund the estimated future
costs of certain union employee health, welfare and other benefits. A
contribution of
Cash flows from investing activities reflect capital expenditures of
Other than the bank loans and the related restricted cash of the Company's
Spanish subsidiary which are discussed in Note 1 of the Company's Notes to
Consolidated Financial Statements, the Company had no bank borrowings or
repayments in 2020, 2021, or 2022, and had no outstanding bank borrowings as of
Financing activities include Company common stock purchases and retirements of
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Preparation of the Company's financial statements involves judgments and estimates due to uncertainties affecting the application of accounting policies, and the likelihood that different amounts would be reported under different conditions or using different assumptions. The Company bases its estimates on historical experience and other assumptions, as discussed herein, that it believes are reasonable. If actual amounts are ultimately different from previous estimates, the revisions are included in the Company's results of operations for the period in which the actual amounts become known. The Company's significant accounting policies are discussed in Note 1 of the Company's Notes to Consolidated Financial Statements.
Following is a summary and discussion of the more significant accounting policies and estimates which management believes to have a significant impact on the Company's operating results, financial position, cash flows and footnote disclosure.
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Revenue recognition
As further discussed in Note 1 of the Company's Notes to Consolidated Financial Statements, the Company follows the revenue recognition guidance in ASC 606. ASC 606 requires adjustments for estimated customer cash discounts upon payment, discounts for price adjustments, product returns, allowances, and certain advertising and promotional costs, including consumer coupons, which are variable consideration and are recorded as a reduction of product sales revenue in the same period the related product sales are recorded. Such estimates are calculated using historical averages adjusted for any expected changes due to current business conditions and experience. Revenue for net product sales is recognized at a point in time when products are delivered to or picked up by the customer, as designated by customers' purchase orders, as discussed in Note 1 of the Company's Notes to Consolidated Financial Statements.
Provisions for bad debts are recorded as selling, marketing and administrative expenses. Write-offs of bad debts did not exceed 0.1% of net product sales in each of 2022, 2021 and 2020, and accordingly, have not been significant to the Company's financial position or results of operations.
Intangible assets
The Company's intangible assets consist primarily of goodwill and acquired
trademarks. In accordance with accounting guidance, goodwill and other
indefinite-lived assets, trademarks, are not amortized, but are instead
subjected to annual testing for impairment unless certain triggering events or
circumstances are noted. The Company performs its annual impairment review and
assessment as of
The Company determines the fair value of certain trademarks using discounted cash flows and estimates of royalty rates. If the carrying value exceeds fair value, such trademarks are considered impaired and are reduced to fair value. The Company utilizes third-party professional valuation firms to assist in the determination of valuation of certain trademarks. Impairments have not generally been material to the Company's historical operating results. Cash flow projections require the Company to make assumptions and estimates regarding the Company's future plans, including sales projections and profit margins, market based discount rates, competitive factors, and economic conditions; and the Company's actual results and conditions may differ over time. A change in the assumptions relating to the impairment analysis including but not limited to a reduction in projected cash flows, the use of a different discount rate to discount future cash flows or a different royalty rate applied to such trademarks, could cause impairment in the future.
Customer incentive programs, advertising and marketing
Advertising and marketing costs are recorded in the period to which such costs relate. The Company does not defer the recognition of any amounts on its consolidated balance sheet with respect to such costs. Customer incentives and other trade promotional program costs and consumer coupon (price reduction) incentives are recorded in accordance with ASU 606 at the time of the Company's sale based upon incentive program terms and historical utilization statistics, which are generally consistent from year to year. The liabilities associated with these programs are reviewed quarterly and adjusted if utilization rates differ from management's original estimates. Such adjustments have not historically been material to the Company's operating results.
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Valuation of long-lived assets
Long-lived assets, primarily property, plant and equipment, are reviewed for impairment as events or changes in business circumstances occur indicating that the carrying value of the asset may not be recoverable. The estimated cash flows produced by assets or asset groups, are compared to the asset carrying value to determine whether impairment exists. Such estimates involve considerable management judgment and are based upon assumptions about expected future operating performance. As a result, actual cash flows could differ from management's estimates due to changes in business conditions, operating performance, and economic and competitive conditions. Such impairments have not historically been material to the Company's operating results.
Income taxes
Deferred income taxes are recognized for future tax effects of temporary differences between financial and income tax reporting using tax rates in effect for the years in which the differences are expected to reverse. The Company records valuation allowances in situations where the realization of deferred tax assets, including those relating to net operating tax losses, is not more-likely-than-not; and the Company adjusts and releases such valuation allowances when realization becomes more-likely-than-not as defined by accounting guidance. The Company periodically reviews assumptions and estimates of the Company's probable tax obligations and effects on its liability for uncertain tax positions, using informed judgment which may include the use of third-party consultants, advisors and legal counsel, as well as historical experience.
Valuation of investments
Investments primarily comprise high quality corporate bonds which are held to maturity, generally approximately three to five years. The Company uses a "ladder" approach to its maturities so that approximately 20% to 35% of the portfolio matures each year with the objective of achieving higher yields with minimum interest rate risk. The Company also invests in variable rate demand notes (generally long term bonds where interest rates are reset weekly, and provide a weekly "put" which allows the holder to also sell each week with no loss in principal). All investments are reviewed for impairment at each reporting period by comparing the carrying value or amortized cost to the fair market value. In the event that the Company determines that an investment security's fair value is permanently impaired, the Company will record the amount of the impairment attributable to credit factors in earnings as credit loss expense or, as applicable, a reversal of that expense, with the amount attributable to non-credit factors in other comprehensive income, net of applicable taxes. The Company's investment policy, which guides investment decisions, is focused on high quality investments which mitigates the risk of impairment. The Company does not invest in Level 3 securities, as defined, but may utilize third-party professional valuation firms as necessary to assist in the determination of the value of investments that utilize Level 3 inputs (as defined by guidance) should any of its investments be downgraded to Level 3.
Other matters
In the opinion of management, other than contracts for foreign currency forwards and raw materials, including currency and commodity hedges and outstanding purchase orders for packaging, ingredients, supplies, operational services, and capital expenditures, all entered into in the ordinary course of business, the Company does not have any significant contractual obligations or future commitments.
RECENT ACCOUNTING PRONOUNCEMENTS
See Note 1 of the Company's Notes to Consolidated Financial Statements.
MARKET RISKS
The Company is exposed to market risks related to commodity prices, interest rates, investments in marketable securities, equity price and foreign exchange.
The Company's ability to forecast the direction and scope of changes to its major input costs is impacted by significant potential volatility in crude oil and energy, sugar, corn, edible oils, cocoa and cocoa powder, and dairy products markets. The prices of these commodities are influenced by changes in global demand, changes in weather and crop yields, including
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the effects of climate change, changes in import tariffs and governments' farm
policies, including mandates for ethanol and bio-fuels, environmental matters,
fluctuations in the
In order to address the impact of changes in input and other costs, the Company periodically reviews each item in its product portfolio to ascertain if price realization adjustments or other actions should be taken. These reviews include an evaluation of the risk factors relating to market place acceptance of such changes and their potential effect on future sales volumes. In addition, the estimated cost of packaging modifications associated with weight changes, if applicable, is evaluated. The Company also maintains ongoing cost reduction and productivity improvement programs under which cost savings initiatives are encouraged and progress monitored. The Company is not able to accurately predict the outcome of these cost savings initiatives and their effects on its future results.
Commodity future and foreign currency forward contracts
Commodity price risks relate to ingredients, primarily sugar, cocoa and cocoa powder, chocolate, corn syrup, dextrose, edible oils, milk, whey and gum base ingredients. The Company believes its competitors face similar risks, and the industry has historically adjusted prices, and/or product weights, to compensate for adverse fluctuations in commodity costs. The Company, as well as competitors in the confectionery industry, has historically taken actions, including higher price realization to mitigate rising input costs for ingredients, packaging, labor and fringe benefits, energy, and freight and delivery. Although management seeks to substantially recover cost increases over the long-term, there is risk that higher price realization cannot be fully passed on to customers and, to the extent they are passed on, they could adversely affect customer and consumer acceptance and resulting sales volume.
The Company utilizes commodity futures contracts, as well as annual supply
agreements, to hedge and plan for anticipated purchases of certain ingredients,
including sugar, in order to mitigate commodity cost fluctuation. The Company
also may purchase forward foreign exchange contracts to hedge its costs of
manufacturing certain products in
The potential change in fair value of commodity and foreign currency derivative
instruments held by the Company at
Interest rates
Interest rate risks primarily relate to the Company's investments in marketable securities with maturity dates of generally up to three years.
The majority of the Company's investments, which are classified as available for sale, have been held until their maturity which is generally approximately three to five years, and approximately 20% to 35% of this investment portfolio matures each year. This "ladder" approach to investing limits the Company's exposure to interest rate fluctuations. The Company also invests in variable rate demand notes which have interest rates that are reset weekly and can be "put back" and sold each week through a remarketing agent, generally a large financial broker, which also substantially eliminates the
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Company's exposure to interest rate fluctuations on the principal invested. The
accompanying chart summarizes the maturities of the Company's investments in
debt securities at
Less than 1 year$ 96,128 1 - 2 years 90,550 2 - 3 years 47,182 3 - 4 years 38,588 Total$ 272,448
The Company's outstanding debt at
Investment in marketable securities
As stated above, the Company invests primarily in marketable securities which mature in three to five years and in variable rate demand notes (VRDNs). The VRDNs have weekly "puts" which are collateralized by bank letters of credit or other assets, and interest rates are reset weekly. Except for VRDN's, the Company's marketable securities are held to maturity with maturities generally not exceeding approximately three to five years. The Company utilizes professional money managers and maintains investment policy guidelines which emphasize high quality and liquidity in order to minimize the potential loss exposures that could result in the event of higher interest rates, a default or other adverse event. The Company continues to monitor these investments and markets, as well as its investment policies, however, the financial markets could experience unanticipated or unprecedented events and future outcomes may be less predictable than in the past.
Equity price
Equity price risk relates to the Company's investments in mutual funds which are principally used to fund and hedge the Company's deferred compensation liabilities. These investments in mutual funds are classified as trading securities. Any change in the fair value of these trading securities is completely offset by a corresponding change in the respective hedged deferred compensation liability, and therefore, the Company does not believe that it has significant equity price risk with respect to these investments.
Foreign currency
Foreign currency risk principally relates to the Company's foreign operations in
Certain of the Company's Canadian manufacturing costs, including local payroll and plant operations, and a portion of its packaging and ingredients are sourced in Canadian dollars. The Company may purchase Canadian forward contracts to receive Canadian dollars at a specified date in the future and uses its Canadian dollar collections on Canadian sales as a partial hedge of its overall Canadian manufacturing obligations sourced in Canadian dollars. The Company also periodically purchases and holds Canadian dollars to facilitate the risk management of these currency changes.
From time to time, the Company may use foreign exchange forward contracts and
derivative instruments to mitigate its exposure to foreign exchange risks, as
well as those related to firm commitments to purchase equipment from foreign
vendors. See Note 10 of the Company's Notes to Consolidated Financial Statements
for outstanding foreign exchange forward contracts as of
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ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk.
The information required by this item is included under the caption "Market Risk" in Item 7 above.
See also Note 1 of the Notes to Consolidated Financial Statements.
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