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Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2019

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                    to                   

Commission file number 1-1361

TOOTSIE ROLL INDUSTRIES, INC.

(Exact name of Registrant as specified in its charter)

Virginia

22-1318955

(State or other jurisdiction of

(IRS Employer Identification No.)

incorporation or organization)

7401 South Cicero Avenue, ChicagoIllinois 60629

(Address of principal executive offices) (Zip Code)

Registrant’s Telephone Number: (773) 838-3400

Securities registered pursuant to Section 12(b) of the Act:

Title of each class

Trading Symbol

Name of each exchange
on which registered

Common Stock — Par Value $.69-4/9 Per Share

TR

New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act: Class B Common Stock — Par Value $.69-4/9 Per Share

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes  No 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes  No 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes  No 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit). Yes  No 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer

Accelerated filer

Non-accelerated filer

Smaller reporting company

Emerging growth company

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  No 

As of February 21, 2020, there were outstanding 38,788,652 shares of Common Stock par value $.69-4/9 per share, and 26,253,049 shares of Class B Common Stock par value $.69-4/9 per share.

As of June 30, 2019 the aggregate market value of the Common Stock (based upon the closing price of the stock on the New York Stock Exchange on such date) held by non-affiliates was approximately $651,380,000. Class B Common Stock is not traded on any exchange, is restricted as to transfer or other disposition, but is convertible into Common Stock on a share-for-share basis. Upon such conversion, the resulting shares of Common Stock are freely transferable and publicly traded. Assuming all 26,301,602 shares of outstanding Class B Common Stock were converted into Common Stock, the aggregate market value of Common Stock held by non-affiliates on June 30, 2019 (based upon the closing price of the stock on the New York Stock Exchange on such date) would have been approximately $815,198,000. Determination of stock ownership by non-affiliates was made solely for the purpose of this requirement, and the Registrant is not bound by these determinations for any other purpose.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Company’s Definitive Proxy Statement for the Company’s Annual Meeting of Shareholders (the “2020 Proxy Statement”) scheduled to be held on May 4, 2020 are incorporated by reference in Part III of this report.

Table of Contents

TABLE OF CONTENTS

ITEM 1.

Business

3

ITEM 1A.

Risk Factors

5

ITEM 1B.

Unresolved Staff Comments

8

ITEM 2.

Properties

9

ITEM 3.

Legal Proceedings

9

ITEM 4.

Mine Safety Disclosures

9

ITEM 5.

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

10

ITEM 6.

Selected Financial Data

12

ITEM 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

13

ITEM 7A.

Quantitative and Qualitative Disclosures About Market Risk

26

ITEM 8.

Financial Statements and Supplementary Data

26

ITEM 9.

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

52

ITEM 9A.

Controls and Procedures

52

ITEM 9B.

Other Information

52

ITEM 10.

Directors, Executive Officers and Corporate Governance

53

ITEM 11.

Executive Compensation

53

ITEM 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

53

ITEM 13.

Certain Relationships and Related Transactions, and Director Independence

54

ITEM 14.

Principal Accounting Fees and Services

54

ITEM 15.

Exhibits, Financial Statement Schedules

54

ITEM 16.

Form 10-K Summary

54

2

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Forward-Looking Information

From time to time, in the Company’s statements and written reports, including this report, the Company discusses its expectations regarding future performance by making certain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by the use of words such as “anticipate,” “believe,” “expect,” “intend,” “estimate,” “project,” and other words of similar meaning in connection with a discussion of future operating or financial performance and are subject to certain factors, risks, trends and uncertainties that could cause actual results and achievements to differ materially from those expressed in the forward-looking statements. These forward-looking statements are based on currently available competitive, financial and economic data and management’s views and assumptions regarding future events. Such forward-looking statements are inherently uncertain, and actual results may differ materially from those expressed or implied herein. Consequently, the Company wishes to caution readers not to place undue reliance on any forward-looking statements. Factors, among others, which could cause the Company’s future results to differ materially from the forward-looking statements, expectations and assumptions expressed or implied herein include general factors, such as economic conditions, political developments, currency exchange rates, interest and inflation rates, accounting standards, taxes, and laws and regulations affecting the Company in markets where it competes and those factors described in Item 1A “Risk Factors” and elsewhere in this Form 10-K and in other Company filings with the Securities and Exchange Commission. The Company does not undertake to update any of these forward-looking statements.

PART I

ITEM 1.               Business.

Tootsie Roll Industries, Inc. and its consolidated subsidiaries (the “Company”) have been engaged in the manufacture and sale of confectionery products for over 100 years. This is the only industry segment in which the Company operates and is its only line of business. The majority of the Company’s products are sold under the registered trademarks TOOTSIE ROLL, TOOTSIE POPS, CHILD’S PLAY, CARAMEL APPLE POPS, CHARMS, BLOW-POP, CHARMS MINI POPS, CELLA’S, DOTS, JUNIOR MINTS, CHARLESTON CHEW, SUGAR DADDY, SUGAR BABIES, ANDES, FLUFFY STUFF, DUBBLE BUBBLE, RAZZLES, CRY BABY, NIK-L-NIP, and TUTSI POP (Mexico).

The Company’s products are marketed in a variety of packages designed to be suitable for display and sale in different types of retail outlets. They are sold through approximately 30 candy and grocery brokers and by the Company itself to approximately 2,000 customers throughout the United States. These customers include wholesale distributors of candy and groceries, supermarkets, variety stores, dollar stores, chain grocers, drug chains, discount chains, cooperative grocery associations, mass merchandisers, warehouse and membership club stores, vending machine operators, the U.S. military and fund-raising charitable organizations.

The Company’s principal markets are in the United States, Canada and Mexico. The majority of production from the Company’s Canadian plants is sold in the United States. The majority of production from the Company’s Mexican plant is sold in Mexico.

The domestic confectionery business is highly competitive. The Company competes primarily with other manufacturers of confectionery products sold to the above mentioned customers. Although accurate statistics are not available, the Company believes it is among the ten largest domestic manufacturers in this field. In the markets in which the Company competes, the main forms of competition comprise brand recognition, as well as competition for retail shelf space and a fair price for the Company’s products at various retail price points.

The Company did not have a material backlog of firm orders at the end of the calendar years 2019 or 2018.

The Company has historically hedged certain of its future sugar and corn syrup needs with derivatives at such times that it believes that the forward markets are favorable. The Company’s decision to hedge its major ingredient requirements is dependent on the Company’s evaluation of forward commodity markets and their comparison

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to vendor quotations, if available, and/or historical costs. The Company has historically hedged some of these major ingredients with derivatives, primarily commodity futures contracts, before the commencement of the next calendar year to better ascertain the need for product pricing changes or product weight decline (indirect price change) adjustments to its product sales portfolio and better manage ingredient costs. The Company will generally purchase forward derivative contracts (i.e., “long” position) in selected future months that correspond to the Company’s estimated procurement and usage needs of the respective commodity in the respective forward periods.

From time to time, the Company also changes the size and weight of certain of its products in response to significant changes in ingredient and other input costs.

The Company does not hold any material patents, licenses, franchises or concessions. The Company’s major trademarks are registered in the United States, Canada, Mexico and in many other countries. Continued trademark protection is of material importance to the Company’s business as a whole.

Although the Company does research and develops new products and product line extensions for existing brands, it also improves the quality of existing products, improves and modernizes production processes, and develops and implements new technologies to enhance the quality and reduce the costs of products. The Company does not expend material amounts of money on research or development activities.

The manufacture and sale of consumer food products is highly regulated. In the United States, the Company’s activities are subject to regulation by various government agencies, including the Food and Drug Administration, the Department of Agriculture, the Federal Trade Commission, the Department of Commerce and the Environmental Protection Agency, as well as various state and local agencies. Similar agencies also regulate the businesses outside of the United States. The Company maintains quality assurance, food safety and other programs to help ensure that all products the Company manufactures and distributes are safe and of high quality and comply with all applicable laws and regulations.

The Company’s compliance with federal, state and local regulations which have been enacted or adopted regulating the discharge of materials into the environment, or otherwise relating to the protection of the environment, has not had a material effect on the capital expenditures, earnings or competitive position of the Company nor does the Company anticipate any such material effects from presently enacted or adopted regulations.

The Company employs approximately 2,000 persons.

The Company has found that its sales normally maintain a consistent level throughout the year except for a substantial increase in the third quarter which reflects pre-Halloween and back-to-school sales. In anticipation of this high sales period, the Company generally begins building inventories in the second quarter of each year. The Company historically offers extended credit terms for sales made under seasonal sales programs, including Halloween. Each year, after accounts receivables related to third quarter sales have been collected, the Company invests such funds in various marketable securities.

Sales revenues from Wal-Mart Stores, Inc. aggregated approximately 24.2%, 24.1%, and 24.0% of net product sales during the years ended December 31, 2019, 2018 and 2017, respectively. Sales revenues from Dollar Tree, Inc. (which includes Family Dollar which was acquired by Dollar Tree) aggregated approximately 11.3%, 11.2%, and 10.9% of net product sales during the years ended December 31, 2019, 2018 and 2017, respectively. Some of the aforementioned sales to Wal-Mart and Dollar Tree are sold to McLane Company, a large national grocery wholesaler, which services and delivers certain of the Company’s products to Wal-Mart, Dollar Tree and other retailers in the U.S.A. Net product sales revenues from McLane, which includes these Wal-Mart and Dollar Tree sales as well as sales and deliveries to other Company customers, were 17.7% in 2019 and 17.4% in 2018 and 16.9% in 2017. At December 31, 2019 and 2018, the Company’s three largest customers discussed above accounted for approximately 30% and 31% of total accounts receivable, respectively. Although no customer, other than McLane Company, Inc., Wal-Mart Stores, Inc. and Dollar Tree, accounted for more than 10% of net product sales, the loss of one or more significant customers could have a material adverse effect on the Company’s business.

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For a summary of sales and long-lived assets of the Company by geographic area see Note 9 of the “Notes to Consolidated Financial Statements” which is incorporated herein by reference.

Information regarding the Company’s Form 10-K, Form 10-Q, current reports on Form 8-K, and any amendments to these reports, will be made available, free of charge, upon written request to Tootsie Roll Industries, Inc., 7401 South Cicero Avenue, Chicago, Illinois 60629, Attention: Barry Bowen, Treasurer and Assistant Secretary. The Company does not make all such reports available on its website at www.tootsie.com because it believes that they are readily available from the Securities Exchange Commission at www.sec.gov, and because the Company provides them free of charge upon request. Interested parties, including shareholders, may communicate to the Board of Directors or any individual director in writing, by regular mail, addressed to the Board of Directors or an individual director, in care of Tootsie Roll Industries, Inc., 7401 South Cicero Avenue, Chicago, Illinois 60629, Attention: Ellen R. Gordon, Chairman and Chief Executive Officer. If an interested party wishes to communicate directly with the Company’s non-employee directors, it should be noted on the cover of the communication.

ITEM 1A.            Risk Factors.

Significant factors that could impact the Company’s financial condition or results of operations include, without limitation, the following:

Risk of changes in the price and availability of raw materials - The principal ingredients used by the Company are subject to price volatility. Although the Company engages in commodity hedging transactions and annual supply agreements as well as leveraging the high volume of its annual purchases, the Company may experience price increases in certain ingredients that it may not be able to offset, which could have an adverse impact on the Company’s results of operations and financial condition. In addition, although the Company has historically been able to procure sufficient supplies of its ingredients, market conditions could change such that adequate supplies might not be available or only become available at substantially higher costs. Adverse weather patterns, including the effects of climate change or supply interruptions, could also significantly affect the cost and availability of ingredients.

Risk of changes in product performance and competition - The Company competes with other well-established manufacturers of confectionery products. A failure of new or existing products to be favorably received, a failure to retain preferred shelf space at retail or a failure to sufficiently counter aggressive promotional and price competition could have an adverse impact on the Company’s results of operations and financial condition.

Risk of discounting and other competitive actions - Discounting and pricing pressure by the Company’s retail customers, including the effects of import tariffs, and other competitive actions could make it more difficult for the Company to maintain its operating margins. Actions taken by major customers and competitors may make shelf space less available for the confectionery product category or some of the Company’s products.

Risk of pricing actions - Inherent risks in the marketplace, including uncertainties about trade and consumer acceptance of pricing actions, including related trade discounts, or product weight changes (indirect price increases), could make it more difficult for the Company to maintain its sales and operating margins.

Risk related to seasonality of sales - The Company’s sales are highest during the Halloween season. Circumstances surrounding Halloween, such as, widespread adverse weather or other widespread events that affect consumer behavior and related media coverage at that time of year or general changes in consumer interest in Halloween, could significantly affect the Company’s sales.
Risk of dependence on large customers - The Company’s largest customers, Wal-Mart Stores, Inc., Dollar Tree, and the McLane Company accounted for approximately 37.1% of net product sales in 2019, and other large national chains are also material to the Company’s sales. The loss of any of these customers, or one or more other large customers, or a material decrease in purchases by one or more large customers, could result in decreased sales and adversely impact the Company’s results of operations and financial condition.

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Risk of changes in consumer preferences and tastes - Failure to adequately anticipate and react to changing demographics, consumer trends, consumer health concerns and product preferences, including product ingredients, could have an adverse impact on the Company’s results of operations and financial condition.  

Risk of economic conditions on consumer purchases - The Company’s sales are impacted by consumer spending levels and impulse purchases which are affected by general macroeconomic conditions, consumer confidence, employment levels, disposable income, availability of consumer credit and interest rates on that credit, consumer debt levels, energy costs and other factors. Volatility in food and energy costs, rising unemployment and/or underemployment, declines in personal spending, recessionary economic conditions or other adverse market conditions, could adversely impact the Company’s revenues, profitability and financial condition.

Risks related to environmental matters - The Company’s operations are not particularly impactful on the environment, but, increased government environmental regulation or legislation, including various “green” initiatives could adversely impact the Company’s profitability.

Risks relating to participation in the multi-employer pension plan for certain Company union employees - As outlined in the Notes to the Consolidated Financial Statements and discussed in the Management’s Discussion and Analysis , the Company participates in a multi-employer pension plan (Plan) which is currently in “critical and declining status”, as defined by applicable law. A designation of “critical and declining status” implies that the Plan is expected to become insolvent within the next 20 years. Under terms of a rehabilitation plan, the Company is to be assessed 5% annual compounded surcharges on its contributions to the Plan until such time as the Plan emerges from critical status. Should the Company withdraw from the Plan, it would be subject to a significant withdrawal liability which is discussed in Note 7 of the Company’s Notes to Consolidated Financial Statements and Management’s Discussion and Analysis. The Company is currently unable to determine the ultimate outcome of this 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 in one or more future periods.

Risk of new governmental laws and regulations - Governmental laws and regulations, including those that affect food advertising and marketing to children, use of certain ingredients in products, new labeling requirements, income and other taxes and tariffs, including the effects of changes to international trade agreements, new taxes targeted toward confectionery products and the environment, both in and outside the U.S.A., are subject to change over time, which could adversely impact the Company’s results of operations and ability to compete in domestic or foreign marketplaces.

Risk of labor stoppages - To the extent the Company experiences any significant labor stoppages, strikes or possible labor shortages, could negatively affect overall operations including production or shipments of finished product to customers. The Company’s union labor agreement at its Chicago plant was executed in 2018 and will continue through September 2022.

Risk of impairment of goodwill or indefinite-lived intangible assets - In accordance with authoritative guidance, goodwill and indefinite-lived intangible assets are not amortized but are subject to an impairment evaluation annually or more frequently upon the occurrence of a triggering event. Other long-lived assets are likewise tested for impairment upon the occurrence of a triggering event. Such evaluations are based on assumptions and variables including sales growth, profit margins and discount rates. Adverse changes in any of these variables could affect the carrying value of these intangible assets and the Company’s reported profitability.

Risk of the cost of energy increasing - Higher energy costs would likely result in higher plant overhead, distribution, freight and delivery, and other operating costs. The Company may not be able to offset these cost increases or pass such cost increases onto customers in the form of price increases, which could have an adverse impact on the Company’s results of operations and financial condition.

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Risk of a product recall - Issues related to the quality and safety of the Company’s products could result in a voluntary or involuntary large-scale product recall. Costs associated with a product recall and related litigation or fines, and marketing costs relating to the re-launch of such products or brands, could negatively affect operating results. In addition, negative publicity associated with this type of event, including a product recall relating to product contamination or product tampering, whether valid or not, could negatively impact future demand for the Company’s products.

Risk of operational interruptions relating to computer software or hardware failures, including cyber-attacks - The Company is reliant on computer systems to operate its business and supply chain. Software failure or corruption, including cyber-based attacks or network security breaches, or catastrophic hardware failures or other disasters could disrupt communications, supply chain planning and activities relating to sales demand forecasts, materials procurement, production and inventory planning, customer shipments, and financial and accounting, all of which could negatively impact sales and profits.

Risk of releasing sensitive information - Although the Company does not believe that it maintains a large amount of sensitive data, a system breach, whether inadvertent or perpetrated by hackers, could result in identity theft, ransomware and/or a disruption in operations which could expose the Company to financial costs and adversely affect profitability.  

Risk of production interruptions - The majority of the Company’s products are manufactured in a single production facility on specialized equipment. In the event of a disaster, such as a fire or earthquake, at a specific plant location, it would be difficult to transfer production to other facilities or a new location in a timely manner, which could result in loss of market share for the affected products. In addition, from time to time, the Company upgrades or replaces this specialized equipment. In many cases these are integrated and complex installations. A failure or delay in implementing such an installation could impact the availability of one or more of the Company’s products which would have an adverse impact on sales and profits.

Risk related to international operations - To the extent there are political leadership or legislative changes, social and/or political unrest, civil war, pandemics such as the Coronavirus, terrorism or significant economic or social instability in the countries in which the Company operates, the results of the Company’s business in such countries could be adversely impacted. Currency exchange rate fluctuations between the U.S. dollar and foreign currencies could also have an adverse impact on the Company’s results of operations and financial condition. The Company’s principal markets are the U.S.A., Canada, and Mexico.

Risk related to investments in marketable securities - The Company invests its surplus cash in a diversified portfolio of highly rated marketable securities, including corporate and tax exempt municipal bonds, with maturities of generally up to three years, and variable rate demand notes with weekly resets of interest rates and “puts’ to redeem the investment each week. Nonetheless, such investments could become impaired in the event of certain adverse economic and/or geopolitical events which, if severe, would adversely affect the Company’s financial condition.

Disruption to the Company’s supply chain could impair the Company’s ability to produce or deliver its finished products, resulting in a negative impact on operating results - Disruption to the manufacturing operations or supply chain, some of which are discussed above, could result from, but are not limited to adverse tariffs which could effectively limit supply or make supply more costly, natural disasters, pandemics, weather, fire or explosion, earthquakes, terrorism or other acts of violence, unavailability of ingredients or packaging materials, labor strikes or other labor activities, operational and/or financial instability of key suppliers, and other vendors or service providers. Although precautions are taken to mitigate the impact of possible disruptions, if the Company is unable, or if it is not financially feasible to effectively mitigate the likelihood or potential impact of such disruptive events, the Company’s results of operations and financial condition could be negatively impacted.

Risk related to acquisitions - From time to time, the Company has purchased other confectionery companies or brands. These acquisitions generally come at a high multiple of earnings and are justified based on various

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assumptions related to sales growth, and operating margins. Were the Company to make another acquisition and be unable to achieve the assumed sales and operating margins, it could have an adverse impact on future sales and profits. In addition it could become necessary to record an impairment which would have a further adverse impact on reported profits.

Risk of further losses in Spain - The Company has restructured its Spanish subsidiary and is exploring a variety of programs to increase sales and profitability. These efforts thus far are resulting in reductions in operating losses, and our efforts are continuing. Nonetheless, if our efforts are not successful, additional losses and impairments may be reported from in the future. See also Management’s Discussion and Analysis.

Risk of “slack fill” litigation - The Company, as well as other confectionery and food companies, have experienced a number of plaintiff claims that certain products are sold in boxes that are not completely full, and therefore such “slack filled” products are misleading, and even deceptive, to the consumer. Although the Company believes that these claims are without merit and has generally been successful in litigation and court decrees, the Company could be exposed to significant legal fees to defend its position, and in the event that it is not successful, could be subject to fines and costs of settlement, including class action settlements.  

The Company is a controlled company due to the common stock holdings of the Gordon family - The Gordon family’s share ownership represents a majority of the combined voting power of all classes of the Company’s common stock as of December 31, 2019. As a result, the Gordon family has the power to elect the Company’s directors and approve actions requiring the approval of the shareholders of the Company.

The factors identified above are believed to be significant factors, but not necessarily all of the significant factors, that could impact the Company’s business.  Unpredictable or unknown factors could also have material effects on the Company.

Additional significant factors that may affect the Company’s operations, performance and business results include the risks and uncertainties listed from time to time in filings with the Securities and Exchange Commission and the risk factors or uncertainties listed herein or listed in any document incorporated by reference herein.

ITEM 1B.            Unresolved Staff Comments.

None.

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ITEM 2.               Properties.

The Company owns its principal manufacturing, warehousing and distribution and offices facilities which are located in Chicago, Illinois in a building consisting of approximately 2,354,000 square feet. In addition, the Company leases manufacturing and warehousing facilities at a second location in Chicago which comprises 137,000 square feet. The lease is renewable by the Company every five years through June 2041.

The Company’s other principal manufacturing, warehousing and distribution facilities, all of which are owned, are:

Location

    

Square Feet (a)

 

Covington, Tennessee

 

685,000

Cambridge, Massachusetts

 

142,000

Delavan, Wisconsin

 

162,000

Concord, Ontario, Canada

 

280,500

(b)  

Hazleton, Pennsylvania

 

240,000

(c)  

Mexico City, Mexico

 

90,000

Barcelona, Spain

93,000

(d)  

(a)Square footage is approximate and includes production, warehousing and office space.
(b)Two facilities; a third owned facility, comprising 225,000 square feet of warehousing space, and which is excluded from the reported totals above, is leased to a third party.
(c)Warehousing only.
(d)Excludes 9,500 square feet of unused office space in a separate facility which is leased to a third party.

The Company owns substantially all of the production machinery and equipment located in its plants, warehouses and distribution centers. The Company also holds four commercial real estate properties for investment which were acquired with the proceeds from a sale of surplus real estate in 2005.

ITEM 3.               Legal Proceedings.

In the ordinary course of business, the Company is, from time to time, subject to a variety of active or threatened legal proceedings and claims. While it is not possible to predict the outcome of such matters with certainty, in the Company’s opinion, both individually and in the aggregate, they are not expected to have a material effect on the Company’s financial condition, results of operations or cash flows.

ADDITIONAL ITEM.     Executive Officers of the Registrant.

See the information on Executive Officers set forth in the table in Part III, Item 10.

ITEM 4.               Mine Safety Disclosures.

None.

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PART II

ITEM 5.               Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

The Company’s common stock is traded on the New York Stock Exchange. The Company’s Class B common stock is subject to restrictions on transferability. The Class B common stock is convertible at the option of the holder into shares of common stock on a share-for-share basis. As of February 28, 2020 there were approximately 2,500 and 1,000 registered holders of record of common and Class B common stock, respectively. In addition, the Company estimates that as of February 28, 2020 there were 17,500 and 1,000 beneficial holders of common and Class B common stock, respectively.

The following table sets forth information about the shares of its common stock the Company purchased on the open market during the fiscal quarter ended December 31, 2019:

Issuer Purchases of Equity Securities

    

    

    

    

    

Total Number of

    

Maximum Number (or

 

Total

Average

Shares Purchased

Approximate Dollar Value)

 

Number

Price

as Part of Publicly

of Shares that May Yet

 

of Shares

Paid per

Announced Plans

be Purchased Under the

 

Period

Purchased

Share

or Programs

Plans or Programs

 

Oct 1 to Oct 31

 

118,083

$

35.52

 

Not Applicable

 

Not Applicable

Nov 1 to Nov 30

 

78,404

 

34.19

 

Not Applicable

 

Not Applicable

Dec 1 to Dec 31

 

 

 

Not Applicable

 

Not Applicable

Total

 

196,487

$

34.99

While the Company does not have a formal or publicly announced Company common stock purchase program, the Company repurchases its common stock on the open market from time to time as authorized by the Board of Directors.

Quarterly Stock Prices and Dividends

The high and low quarterly prices for the Company’s common stock, as reported on the New York Stock Exchange and quarterly dividends in 2019 and 2018 were:

2019

2018

4th

3rd

2nd

1st

4th

3rd

2nd

1st

    

Quarter

    

Quarter

    

Quarter

    

Quarter

    

Quarter

    

Quarter

    

Quarter

    

Quarter

High

$

36.93

$

38.44

$

40.43

$

37.80

$

35.71

$

32.35

$

31.45

$

36.20

Low

33.33

35.24

36.48

31.57

28.41

28.55

27.75

28.75

Dividends per share

0.09

0.09

0.09

0.09

0.09

0.09

0.09

0.09

NOTE: In addition to the above cash dividends, a 3% stock dividend was issued on April 5, 2019 and April 6, 2018.

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Performance Graph

The following performance graph compares the cumulative total shareholder return on the Company’s common stock for a five-year period (December 31, 2014 to December 31, 2019) with the cumulative total return of Standard & Poor’s 500 Stock Index (“S&P 500”) and the Dow Jones Industry Food Index (“Peer Group,” which includes the Company), assuming (i) $100 invested on December 31 of the first year of the chart in each of the Company’s common stock, S&P 500 and the Dow Jones Industry Food Index and (ii) the reinvestment of cash and stock dividends.

Graphic

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ITEM 6.               Selected Financial Data.

Five Year Summary of Earnings and Financial Highlights

(Thousands of dollars except per share, percentage and ratio figures)

    

2019

    

2018

    

2017

    

2016

    

2015

    

Sales and Earnings Data

Net product sales

$

523,616

$

515,251

$

515,674

$

517,373

$

536,692

Product gross margin

 

194,514

 

185,371

 

189,263

 

196,504

 

196,118

Interest expense

 

220

 

181

 

144

 

105

 

76

Provision for income taxes

 

20,565

 

16,401

 

3,907

 

30,593

 

26,451

Net earnings attributable to Tootsie Roll Industries, Inc.

 

64,920

 

56,893

 

80,864

(2)

 

67,510

 

66,089

% of net product sales

 

12.4

%  

 

11.0

%  

 

15.7

%  

 

13.0

%  

 

12.3

%  

% of shareholders’ equity

 

8.5

%  

 

7.6

%  

 

11.0

%  

 

9.5

%  

 

9.5

%  

Per Common Share Data (1)

Net earnings attributable to Tootsie Roll Industries, Inc.

$

0.99

$

0.86

$

1.21

(2)

$

0.99

$

0.96

Cash dividends declared

 

0.36

 

0.36

 

0.36

 

0.36

 

0.35

Stock dividends

 

3

%  

 

3

%  

 

3

%  

 

3

%  

 

3

%  

Additional Financial Data (1)

Working capital

$

273,786

$

242,655

$

207,132

$

235,739

$

221,744

Net cash provided by operating activities

 

100,221

 

100,929

 

42,973

 

98,550

 

91,073

Net cash provided by (used in) investing activities

 

(15,009)

 

(44,510)

 

(9,320)

 

(51,884)

 

(9,672)

Net cash used in financing activities

 

(57,187)

 

(42,353)

 

(56,881)

 

(51,387)

 

(53,912)

Property, plant & equipment additions

 

20,258

 

27,612

 

16,673

 

16,090

 

15,534

Net property, plant & equipment

 

188,455

 

186,101

 

178,972

 

180,905

 

184,586

Total assets

 

977,864

 

947,361

 

930,946

 

920,101

 

908,983

Long-term debt

 

7,500

 

7,500

 

7,500

 

7,500

 

7,500

Total Tootsie Roll Industries, Inc. shareholders’ equity

 

759,854

 

750,622

 

733,840

 

711,364

 

698,183

Average shares outstanding

 

65,474

 

66,130

 

66,962

 

67,869

 

68,886

(1)Per common share data and average shares outstanding adjusted for annual 3% stock dividends.
(2)The 2017 net earnings and earnings per share includes $20,318 or $0.32 per share relating to a favorable accounting adjustment to revalue the Company’s deferred income tax liabilities resulting from the enactment of the U.S. Tax Cuts and Jobs Act in December 2017.

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ITEM 7.               Management’s Discussion and Analysis of Financial Condition and Results of Operations.

(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.

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 $392,435 at December 31, 2019, including $76,183 in trading securities discussed below. Cash flows from 2019 operating activities totaled $100,221 compared to $100,929 in 2018, and are discussed in the section entitled Liquidity and Capital Resources. During 2019, the Company paid cash dividends of $23,460, purchased and retired $34,116 of its outstanding shares, and made capital expenditures of $20,258.

The Company’s net working capital was $273,786 at December 31, 2019 compared to $242,655 at December 31, 2018 which reflects higher aggregate cash, cash equivalents and short-term investments. As of December 31, 2019, the Company’s total cash, cash equivalents and investments, including all long-term investments in marketable securities, was $392,435 compared to $356,448 at December 31, 2018, an increase of $35,987. The aforementioned includes $76,183 and $62,260 of investments in trading securities as of December 31, 2019 and 2018, respectively. The Company invests in trading securities to provide an economic hedge for its deferred compensation liabilities, as further discussed herein and in Note 7 of the Company’s Notes to Consolidated Financial Statements.

Shareholders’ equity increased from $750,622 at December 31, 2018 to $759,854 as of December 31, 2019, which principally reflects 2019 net earnings of $64,920, less cash dividends of $23,460 and share repurchases of $34,116.

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 2020. 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

2019 vs. 2018

Twelve months 2019 consolidated net sales were $523,616 compared to $515,251 in twelve months 2018, an increase of $8,365 or 1.6%. Fourth quarter 2019 net sales were $134,663 compared to $127,264 in fourth quarter 2018, an increase of $7,399 or 5.8%. Successful marketing and sales programs contributed to the increases in sales for both fourth quarter and twelve months 2019 compared to the corresponding periods in the prior year. Fourth quarter 2019 sales also benefited from the timing of sales between the third and fourth quarters of 2019, however, foreign currency translation had some adverse effects on consolidated sales for the twelve months 2019 period compared to 2018.  

Product cost of goods sold were $329,102 in 2019 compared to $329,880 in 2018, a decrease of $778 or 0.2%. Product cost of goods sold includes $408 and $(39) in certain deferred compensation expenses (credits) in 2019 and 2018, respectively. These deferred compensation expenses principally result from changes in the market value of investments and investment income from trading securities relating to compensation deferred in previous years and are not reflective of current operating results. Adjusting for the aforementioned, product cost of goods sold decreased from $329,919 in

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2018 to $328,694 in 2019, a decrease of $1,225 or 0.4%. As a percent of net product sales, these adjusted costs decreased from 64.0% in 2018 to 62.8% in 2019, a 1.3 favorable percentage point change.

Fourth quarter and twelve months 2019 product cost of goods sold and resulting gross profit margins benefited from increased sales and higher price realization which allowed the Company to recover some margin decline resulting from increases in certain input costs in recent years. Plant efficiencies driven by capital investments and ongoing cost containment programs contributed to the above discussed decreases in adjusted cost of goods sold in 2019. Prior year 2018 gross margin was adversely affected by the implementation and start-up of new manufacturing packaging lines and resulting operational inefficiencies, as well as unfavorable experience from self-insurance programs. The Company is continuing its investments in its plant manufacturing operations to meet new consumer and customer demands, achieve quality improvements, provide genuine value to consumers, and increase operational efficiencies.

Selling, marketing and administrative expenses were $127,802 in 2019 compared to $117,691 in 2018, an increase of $10,111 or 8.6%. Selling, marketing and administrative expenses include $10,884 and $(1,064) in certain deferred compensation expenses (credits) in 2019 and 2018, respectively. These deferred compensation expenses principally result from changes in the market value of investments and investment income from trading securities relating to compensation deferred in previous years and are not reflective of current operating results. Adjusting for the aforementioned, selling, marketing and administrative expenses decreased from $118,755 in 2018 to $116,918 in 2019, a decrease of $1,837 or 1.5%. As a percent of net product sales, these adjusted expenses decreased from 23.0% of net product sales in 2018 to 22.3% of net product sales in 2019, a 0.7 favorable percentage point change. Higher price realization, lower general and administrative expenses, primarily legal and professional fees, and lower freight and delivery unit costs were the principal drivers in these favorable reductions, including reductions as a percentage of sales, in selling, marketing and administrative expenses in fourth quarter and twelve months 2019.

Selling, marketing and administrative expenses include freight, delivery and warehousing expenses. These expenses decreased from $49,527 in 2018 to $49,288 in 2019, a decrease of $239 or 0.5%. As a percent of net product sales, these adjusted expenses decreased from 9.6% in 2018 to 9.4% in 2019, a 0.2 favorable percentage point change. During 2019, the Company implemented additional freight and delivery computer systems and carrier selection processes, including enhanced competitive bidding, which facilitated this favorable unit cost reduction in fourth quarter and twelve months 2019.

The Company has foreign operating businesses in Mexico, Canada and Spain, and exports products to many foreign markets. Such foreign sales were $44,826 and comprised 8.6% of the Company’s consolidated net product sales in 2019. In fourth quarter 2019 and 2018, the Company recorded a pre-tax impairment charge of $377 and $1,125, respectively, relating to its Spanish operations. The Company had a 97% ownership of a Spanish company at both December 31, 2019 and 2018. During 2019 and 2018, this Spanish subsidiary incurred operating losses of $1,102 and $2,840, respectively, and the Company provided approximately $1,399 and $4,484, respectively, of additional cash to finance these losses and certain capital expenditures. Company management expects the competitive and business challenges in Spain to continue but expects continued reduction in operating losses in 2020 compared to 2019. Nonetheless, management believes that operating losses may continue beyond 2019 and that these future losses may require additional cash financing.

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 December 31 or whenever events or circumstances indicate that the carrying values may not be recoverable from future cash flows. No impairments were recorded in 2019, 2018 or 2017. Current accounting guidance provides entities an option of performing a qualitative assessment (a "step-zero" test) before performing a quantitative analysis. If the entity determines, on the basis of certain qualitative factors, that it is more-likely-than-not that the intangibles (goodwill and certain trademarks) are not impaired, the entity would not need to proceed to the two step impairment testing process (quantitative analysis) as prescribed in the guidance. During fourth quarter 2019 (and fourth quarter 2018), the Company performed a “step zero” test of its goodwill and certain trademarks, and concluded that there was no impairment based on this guidance. For the fair value assessment of certain trademarks where the “step-zero” analysis was not considered appropriate, impairment testing was performed in fourth quarter 2019 (and fourth quarter 2018) using discounted cash flows and estimated royalty rates. For these trademarks, holding all other assumptions constant at the test date, a 100 basis point increase in the discount rate or a 100 basis point decrease in

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the royalty rate would reduce the fair value of these trademarks by approximately 16% and 10%, respectively. Individually, a 100 basis point increase in the discount rate may result in potential impairment of up to $2 million.  A 100 basis point decrease in the royalty rate would not result in a potential impairment as of December 31, 2019. 

Earnings from operations were $69,214 in 2019 compared to $70,482 in 2018, a decrease of $1,268. Earnings from operations include $11,292 and $(1,103) in certain deferred compensation expense (credits) in 2019 and 2018, respectively, which are discussed above. Adjusting for these deferred compensation expenses, adjusted earnings from operations increased from $69,379 in 2018 to $80,506 in 2019, an increase of $11,127 or 16.0%. Fourth quarter and twelve months results benefitted from increased sales and higher price realization as well as reductions in certain costs and expenses discussed above.

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, net was $16,190 in 2019 compared to $2,724 in 2018, an increase of $13,466. Other income, net principally reflects $11,292 and $(1,103) of aggregate net gains (losses) and investment income on trading securities in 2019 and 2018, respectively. These trading securities provide an economic hedge of the Company’s deferred compensation liabilities; and the related net gains (losses) and investment income were offset by a like amount of expense in aggregate product cost of goods sold and selling, marketing, and administrative expenses in the respective years as discussed above. Other income, net includes investment income on available for sale securities of $4,423 and $3,535 in 2019 and 2018, respectively. Other income, net also includes foreign exchange gains (losses) of $(533) and $(659) in 2019 and 2018, respectively.

The Company’s effective income tax rate was 27.9% and 23.5% in fourth quarter 2019 and 2018, respectively, and 24.1% and 22.4% in twelve months 2019 and 2018, respectively. The increase in the effective tax rates for the fourth quarter and twelve months 2019 reflects higher state income taxes, including increases in reserves for uncertain state tax benefits, and increases in valuation allowances for state income tax credit carry-forwards which are not likely to be fully realized in the future. A reconciliation of the differences between the U.S. statutory rate and these effective tax rates is provided in Note 4 of the Company’s Notes to Consolidated Financial Statements.

At December 31, 2019 and 2018, the Company’s deferred tax assets include $617 and $1,844 of income tax benefits relating to its Canadian subsidiary tax loss carry-forwards. The Company expects to fully utilize this deferred tax asset in 2020 (expiration dates are 2029 through 2031). The Company utilized $1,227 and $1,896 of these Canadian tax carry-forward benefits in 2019 and 2018, respectively. The Company has concluded that it is more-likely-than-not that it would realize these deferred tax assets relating to its Canadian tax loss carry-forwards because it is expected that sufficient levels of taxable income will be generated during the carry-forward periods. The Company has provided a full valuation allowance on its Spanish subsidiaries’ tax loss carry-forward benefits of $3,967 and $3,651 as of December 31, 2019 and 2018, respectively, because the Company has concluded that it is not more-likely-than-not that these losses will be utilized before their expiration dates. The Spanish subsidiary has a history of net operating losses and it is not known when and if they will generate taxable income in the future.

U.S. tax reform (US Tax Cuts and Jobs Act enacted in December 2017) included a one-time toll charge resulting from the mandatory deemed repatriation of undistributed foreign earnings and profits. The Company determined that there were no net undistributed foreign earnings and profits subject to this toll charge. U.S. tax reform also changed the United States approach to the taxation of foreign earnings to a territorial system by providing a one hundred percent dividends received deduction for certain qualified dividends received from foreign subsidiaries. These provisions of the U.S. tax reform significantly impact the accounting for the undistributed earnings of foreign subsidiaries, and as a result the Company distributed $8,200 of the earnings held in excess cash by its foreign subsidiaries in 2019. The tax costs associated with a future distribution, including foreign withholding taxes, are not material to the Company’s financial statements. After carefully considering these facts, the Company determined that it would not be asserting permanent reinvestment of its foreign subsidiaries earnings as of December 31, 2017, and the Company continues to make this assertion.

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Net earnings attributable to Tootsie Roll Industries, Inc. were $14,555 in fourth quarter 2019 compared to $12,175 in fourth quarter 2018, and net earnings per share were $0.22 and $0.18 in fourth quarter 2019 and 2018, respectively. Twelve months 2019 net earnings were $64,920 compared to $56,893 in twelve months 2018, and net earnings per share were $0.99 and $0.86 in twelve months 2018 and 2017, respectively. Earnings per share in 2019 benefited from the reduction in average shares outstanding resulting from purchases of the Company’s common stock in the open market by the Company. Average shares outstanding decreased from 66,130 in 2018 to 65,474 in 2019 which reflects share repurchases of $34,116 during 2019.

Beginning in 2012, the Company received periodic notices from the Bakery, Confectionery, Tobacco Workers and Grain Millers International Union Pension Plan (Plan), a multi-employer defined benefit pension plan for certain Company union employees, that the Plan’s actuary certified the Plan to be in “critical status”, the “Red Zone”, as defined by the Pension Protection Act (PPA) and the Pension Benefit Guaranty Corporation (PBGC); and that a plan of rehabilitation was adopted by the trustees of the Plan in 2012. During 2015, the Company received notices that the Plan’s status was changed to “critical and declining status”, as defined by the PPA and PBGC, for the plan year beginning January 1, 2015, and that the Plan was projected to have an accumulated funding deficiency for the 2017 through 2024 plan years. A designation of “critical and declining status” implies that the Plan is expected to become insolvent in the next 20 years. The Company has continued to receive annual notices each year (2016 to 2019) that this Plan remains in “critical and declining status” and is projected to become insolvent within the next 20 years. These notices have also advised that the Plan trustees were considering the reduction or elimination of certain retirement benefits and may seek assistance from the PBGC. Plans in “critical and declining status” may elect to suspend (temporarily or permanently) some benefits payable to all categories of participants, including retired participants, except retirees that are disabled or over the age of 80. Suspensions must be equally distributed and cannot drop below 110% of what would otherwise be guaranteed by the PBGC.  

 

Based on these updated notices, the Plan’s funded percentage (plan investment assets as a percentage of plan liabilities), as defined, were 51.6%, 54.7%, and 57.0% as of the most recent valuation dates available, January 1, 2018, 2017, and 2016, respectively (these valuation dates are as of the beginning of each Plan year). These funded percentages are based on actuarial values, as defined, and do not reflect the actual market value of Plan investments as of these dates. If the market value of investments had been used as of January 1, 2019 the funded percentage would be 54.2% (not 51.6%). As of the January 1, 2018 valuation date (most recent valuation available), only 18% of Plan participants were current active employees, 52% were retired or separated from service and receiving benefits, and 30% were retired or separated from service and entitled to future benefits. The number of current active employee Plan participants as of January 1, 2018 fell 3% from the previous year and 11% over the past two years. When compared to the Plan valuation date of January 1, 2011 (seven years earlier), current active employee participants have declined 39%, whereas participants who were retired or separated from service and receiving benefits increased 6% and participants who were retired or separated from service and entitled to future benefits increased 9%. The Company understands that the Plan is continuing to explore additional restructuring measures which include incentives to participating employers in exchange for providing additional future cash contributions as well as suspension of certain retirement benefits.

 

The Company has been advised that its withdrawal liability would have been $99,800, $81,600, and $82,200 if it had withdrawn from the Plan during 2019, 2018 and 2017, respectively. The increase from 2018 to 2019 was mainly attributable to a decrease in the Plan’s assets during 2018, net of market returns, and the withdrawal of a large contributing employer where their actual withdrawal payments (likely over 20 years as discussed below) are not enough to fully fund their actual withdrawal liability. The Company’s relative share of the Plan’s contribution base, driven by employer withdrawals, has increased for the last several years, and management believes that this trend could continue indefinitely which will add upward pressure on the Company’s withdrawal liability. Based on the above, including the Plan’s projected insolvency in the year 2030, management believes that the Company’s withdrawal liability could increase further in future years.

Based on the Company’s updated actuarial study and certain provisions in ERISA and the law relating to withdrawal liability payments, management believes that the Company’s liability would likely be limited to twenty annual payments of $3,045 which have a present value in the range of $35,700 to $46,700 depending on the interest rate used to discount these payments. While the Company’s actuarial consultant does not believe that the Plan will suffer a future mass withdrawal (as defined) of participating employers, in the event of a mass withdrawal, the Company’s annual withdrawal

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payments would theoretically be payable in perpetuity. Based on the Company’s updated actuarial study, the present value of such perpetuities is in the range of $49,900 to $104,500 and would apply in the unlikely event that substantially all employers withdraw from the Plan. The aforementioned is based on a range of valuations and interest rates which the Company’s actuary has advised is provided under the statute. Should the Company actually withdraw from the Plan at a future date, a withdrawal liability, which could be higher than the above discussed amounts, could be payable to the Plan.

 

The Company and the union concluded a new labor contract in 2018 which requires the Company’s continued participation in this Plan through September 2022. The amended rehabilitation plan, which also continues, requires that employer contributions include 5% compounded annual surcharge increases each year for an unspecified period of time beginning in 2012 as well as certain plan benefit reductions. The Company’s pension expense for this Plan for 2019, 2018 and 2017 was $2,961, $2,836 and $2,617, respectively. The aforementioned expense includes surcharges of $948, $811 and $656 in 2019, 2018 and 2017, respectively, as required under the amended rehabilitation plan.

 

The Company understands that the U.S Congress and the U.S Senate have proposed various legislation, including the “Butch Lewis Act,” that would provide varying degrees of assistance to troubled multi-employer plans similar to this Plan, including long-term low interest loans to troubled multi-employer plans. Certain provisions proposed would change the withdrawal liability rules which could increase the Company’s obligation in the event that the Company withdrew form this Plan, resulting in higher annual payment amounts and payments for a longer period of time in excess of the maximum twenty year period discussed above. 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 in the Company’s Consolidated Financial Statements on Form 10-K for the year ended December 31, 2019.

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2018 vs. 2017

Twelve months 2018 consolidated net sales were $515,251 compared to $515,674 in twelve months 2017, a decrease of $423 or 0.1%. Fourth quarter 2018 net sales were $127,264 compared to $125,179 in fourth quarter 2017, an increase of $2,085 or 1.7%. Fourth quarter 2018 sales reflects an increase of 3.4% in U.S. sales in the quarter, however, foreign sales declined in fourth quarter 2018. The timing of certain foreign sales between third and fourth quarter in the comparative 2018 and 2017 periods adversely affected fourth quarter consolidated 2018 sales. Unfavorable translation of foreign sales, primarily Mexico, also contributed to lower sales in fourth quarter and twelve months 2018 compared to the prior year corresponding period. The Company’s unit selling prices and price realization in 2018 was consistent with 2017. Because of increased pricing pressures and cost increases facing the confectionery industry, companies in the confectionery industry are taking pricing actions to recover many of the same input cost increases that we have and continue to experience which are discussed below, including higher freight and delivery expenses. In particular, the Company has taken selective price increases, effective at the beginning of 2019, to recover these same input cost increases.

Product cost of goods sold were $329,880 in 2018 compared to $326,411 in 2017, an increase of $3,469 or 1.1%. Product cost of goods sold includes $(39) and $1,953 in certain deferred compensation expenses (credits) in 2018 and 2017, respectively. These deferred compensation expenses principally result from changes in the market value of investments and investment income from trading securities relating to compensation deferred in previous years and are not reflective of current operating results. Adjusting for the aforementioned, product cost of goods sold increased from $324,458 in 2017 to $329,919 in 2018, an increase of $5,461 or 1.7%. As a percent of net product sales, these adjusted costs increased from 62.9% in 2017 to 64.0% in 2018, a 1.1 unfavorable percentage point change. Although costs for key ingredients were more favorable in 2018 compared to 2017, higher manufacturing costs for wages, salaries and benefits and plant overhead operations contributed to higher product cost of goods sold in 2018 compared to 2017. Increases in employee healthcare and other benefit costs, principally resulting from unfavorable experience under our self-insurance programs, adversely affected gross profit margins in 2018 compared to 2017. Costs relating to quality improvements in product packaging and start-up of new manufacturing packaging lines being phased into service during 2018 also had an unfavorable impact on twelve months 2018 gross profit margins when compared to 2017. The above discussed cost factors also affected fourth quarter 2018 gross profit margins compared to fourth quarter 2017.

Selling, marketing and administrative expenses were $117,691 in 2018 compared to $121,484 in 2017, a decrease of $3,793 or 3.1%. Selling, marketing and administrative expenses include $(1,064) and $8,024 in certain deferred compensation expenses (credits) in 2018 and 2017, respectively. These deferred compensation expenses principally result from changes in the market value of investments and investment income from trading securities relating to compensation deferred in previous years and are not reflective of current operating results. Adjusting for the aforementioned, selling, marketing and administrative expenses increased from $113,460 in 2017 to $118,755 in 2018, an increase of $5,295 or 4.7%. As a percent of net product sales, these adjusted expenses increased from 22.0% of net product sales in 2017 to 23.1% of net product sales in 2018, a 1.1 unfavorable percentage point change.

Selling, marketing and administrative expenses include freight, delivery and warehousing expenses. These expenses increased from $44,082 in 2017 to $49,527 in 2018, an increase of $5,445 or 12.4%. As a percent of net product sales, these adjusted expenses increased from 8.6% in 2017 to 9.6% in 2018, a 1.0 unfavorable percentage point change. These expenses principally reflect higher freight rates driven by the continuing imbalance between supply and demand for over-the-road truck delivery as well as higher fuel costs. Freight and delivery expenses began their significant acceleration in fourth quarter 2017, and therefore, this impact was less significant in the comparative fourth quarters of 2018 and 2017, than for the twelve months 2018 and 2017. Higher legal and professional fees also contributed to this increase in selling, marketing and administrative expenses in both fourth quarter and twelve months 2018.

The Company has foreign operating businesses in Mexico, Canada and Spain, and exports products to many foreign markets. Such foreign sales were $43,690 and comprised 8.5% of the Company’s consolidated net product sales in 2018. In fourth quarter 2018 and 2017, the Company recorded a pre-tax impairment charge of $1,125 and $2,371, respectively, relating to its Spanish operations. The Company had a 97% ownership of a Spanish company at both December 31, 2018 and 2017. During 2018 and 2017, this Spanish subsidiary incurred operating losses of $2,840 and $3,212, respectively,

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and the Company provided approximately $4,484 and $2,734, respectively, of additional cash to finance these losses and certain capital expenditures.

Earnings from operations were $70,482 in 2018 compared to $70,422 in 2017, an increase of $60. Earnings from operations include $(1,103) and $9,977 in certain deferred compensation expense (credits) in 2018 and 2017, respectively, which are discussed above. Adjusting for these deferred compensation expenses, adjusted earnings from operations decreased from $80,399 in 2017 to $69,379 in 2018, a decrease of $11,020 or 13.7%. Twelve months and fourth quarter results were adversely affected primarily by higher costs and expenses for freight and delivery and manufacturing operations as discussed above.

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, net was $2,724 in 2018 compared to $14,139 in 2017, a decrease of $11,415. Other income, net principally reflects $(1,103) and $9,977 of aggregate net gains (losses) and investment income on trading securities in 2018 and 2017, respectively. These trading securities provide an economic hedge of the Company’s deferred compensation liabilities; and the related net gains (losses) and investment income were offset by a like amount of expense in aggregate product cost of goods sold and selling, marketing, and administrative expenses in the respective years as discussed above. Other income, net includes investment income on available for sale securities of $3,535 and $2,851 in 2018 and 2017, respectively. Other income, net also includes foreign exchange gains (losses) of $(659) and $259 in 2018 and 2017, respectively.

Fourth quarter and twelve months 2018 net earnings benefited from a lower U.S. federal income tax rate resulting from U.S. tax reform legislation enacted in December 2017. In connection with this tax reform legislation, the Company recorded a net tax benefit of $20,318, or $0.30 per share, during fourth quarter 2017. This benefit reflected the estimated accounting adjustment from the revaluation of the Company’s net deferred income tax liabilities as of December 31, 2017 to reflect the new lower U.S. corporate income tax rate. As a result of this tax legislative change, including the above discussed revaluation of deferred tax liabilities, the Company’s effective income tax rate was 23.5% in fourth quarter 2018 compared to negative 110.9%, a net tax credit, in fourth quarter 2017; and 22.4% in twelve months 2018 compared to 4.6% in twelve months 2017. A reconciliation of the differences between the U.S. statutory rate and these effective tax rates is provided in Note 4 of the Company’s Notes to Consolidated Financial Statements.

At December 31, 2018 and 2017, the Company’s deferred tax assets include $1,844 and $3,740 of income tax benefits relating to its Canadian subsidiary tax loss carry-forwards which the Company expects to realize before their expiration dates (2029 through 2031). The Company utilized $1,896 and $2,606 of these tax carry-forward benefits in 2018 and 2017, respectively. The Company has concluded that it is more-likely-than-not that it would realize these deferred tax assets relating to its Canadian tax loss carry-forwards because it is expected that sufficient levels of taxable income will be generated during the carry-forward periods. The Company has provided a full valuation allowance on its Spanish subsidiaries’ tax loss carry-forward benefits of $3,651 and $3,038 as of December 31, 2018 and 2017, respectively, because the Company has concluded that it is not more-likely-than-not that these losses will be utilized before their expiration dates. The Spanish subsidiary has a history of net operating losses and it is not known when and if they will generate taxable income in the future.

Based on SEC guidance in Staff Accounting Bulletin No. 118, the Company considered its accounting for the effects of U.S. tax reform to be provisional as of December 31, 2017 and through the first three quarters ended September 30, 2018 because the ultimate impact might have differed from these provisional amounts, due to, among other things, additional regulatory guidance from the Internal Revenue Service and state authorities. The accounting for Tax Cuts and Jobs Act was completed as of December 31, 2018 and there were no material adjustment to the previously recorded provisional amounts.

Net earnings attributable to Tootsie Roll Industries, Inc. were $12,175 in fourth quarter 2018 compared to $31,985 in fourth quarter 2017, and net earnings per share were $0.18 and $0.48 in fourth quarter 2018 and 2017, respectively. The prior year fourth quarter 2017 net earnings include a favorable deferred income tax accounting adjustment of $20,318 or $0.30 per share which is discussed above. Adjusting for the effects of this fourth quarter 2017 tax adjustment,

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comparable net earnings per share were $0.18 in both 2018 and 2017. Twelve months 2018 net earnings were $56,893 compared to $80,864 in twelve months 2017, and net earnings per share were $.86 and $1.21 in twelve months 2018 and 2017, respectively. Adjusting for the effects of the 2017 tax adjustment discussed above, comparable net earnings per share were $0.86 and $0.91, a decrease of $0.05 or 5.5%. Earnings per share in 2018 benefited from the reduction in average shares outstanding resulting from purchases of the Company’s common stock in the open market by the Company. Average shares outstanding decreased from 66,962 in 2017 to 66,130 in 2018.

The Company has included the above non-GAAP discussion regarding the impacts of tax reform.  The Company believes this discussion provides meaningful supplemental information to both management and investors that is indicative of the Company's core net results and facilitates comparison of net results across reporting periods.  The Company uses this non-GAAP measure when evaluating its financial results as well as for internal evaluation and analysis purposes.  This non-GAAP measure should not be viewed as a substitute for the Company's GAAP results.

LIQUIDITY AND CAPITAL RESOURCES

Cash flows from operating activities were $100,221, $100,929 and $42,973 in 2019, 2018 and 2017, respectively. The $708 decrease in cash flows from operating activities from 2018 to 2019 primarily reflects the timing of payments and refunds of income taxes, combined with increases in prepaid expenses and inventories, offset by a decrease in accounts receivable as of December 31, 2019. The $57,956 increase in cash flows from operating activities from 2017 to 2018 primarily reflects the timing of payments and refunds of income taxes, an increase in prepaid expenses as of December 31, 2017, and the decrease in deferred compensation payments in 2018.

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 $20,024 was made to this trust in 2017; no contribution was made to the trust during 2018 or 2019. The Company uses these funds to pay the actual cost of such benefits over each union contract period. At December 31, 2019 and 2018, the VEBA trust held $12,085 and $15,921, respectively, of aggregate cash and cash equivalents. This asset value is included in prepaid expenses and long-term other assets in the Company’s Consolidated Statement of Financial Position. These assets are categorized as Level 1 within the fair value hierarchy.

Cash flows from investing activities reflect capital expenditures of $20,258, $27,612, and $16,673 in 2019, 2018 and 2017, respectively. The changes in amounts from 2018 to 2019 principally reflect new manufacturing packaging lines in 2018 and the timing of expenditures relating to other plant manufacturing capital projects. Company management has committed approximately $25,000 to a rehabilitation upgrade and expansion of one of its manufacturing plants in the U.S.A. The Company spent approximately $2,000 in 2019, and management’s projected cash outlays for this project are approximately $15,000 in 2020 and $8,000 in 2021. All capital expenditures are to be funded from the Company’s cash flow from operations and internal sources including available for sale securities.

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 2017, 2018, or 2019, and had no outstanding bank borrowings as of December 31, 2018 or 2019. Nonetheless, the Company would consider bank borrowing or other financing in the event that a business acquisition is completed.

Financing activities include Company common stock purchases and retirements of $34,116, $19,317, and $34,133 in 2019, 2018 and 2017, respectively. Cash dividends of $23,460, $22,978, and $22,621 were paid in 2019, 2018 and 2017, respectively.

SIGNIFICANT 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.

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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.

Revenue recognition

As more fully discussed in Note 1, the Company adopted the new accounting revenue recognition guidance (ASC 606) effective January 1, 2018. As a result of adoption, the cumulative impact to retained earnings at January 1, 2018 was a net after-tax increase of $3,319 ($4,378 pre-tax). The adoption principally changed the timing of recognition of certain trade promotions and related adjustments thereto which affect net product sales. The comparative prior information has not been restated and continues to be reported under the accounting standards in effect for such period. The adoption of the new standard in 2018 did not have a material effect on 2018 and 2019 results, and management does not believe that it will have a material effect on results in future years. Revenue for net product sales continues to be 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.

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 2019, 2018 and 2017, 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 December 31. All trademarks have been assessed by management to have indefinite lives because they are expected to generate cash flows indefinitely. The Company reviews and assesses certain trademarks (non-amortizable intangible assets) for impairment by comparing the fair value of each trademark with its carrying value. Current accounting guidance provides entities an option of performing a qualitative assessment (a "step-zero" test) before performing a quantitative analysis. If the entity determines, on the basis of certain qualitative factors, that it is more-likely-than-not that the intangibles (goodwill and certain trademarks) are not impaired, the entity would not need to proceed to the two step impairment testing process (quantitative analysis) as prescribed in the guidance. During fourth quarter 2019, the Company performed a “step zero” test of its goodwill and certain trademarks, and concluded that there was no impairment based on this guidance.

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 is 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

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promotional costs, including 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.

Split dollar officer life insurance

The Company provides split dollar life insurance benefits to an executive officer and records an asset principally equal to the cumulative premiums paid. The Company will fully recover these premiums in future years under the terms of the plan. The Company retains a collateral assignment of the cash surrender values and policy death benefits payable to insure recovery of these premiums.

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 and municipal (tax-free) bonds, including 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), which 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 an investment security’s fair value is below carrying value or amortized cost, the Company will record an other-than-temporary impairment or a temporary impairment based on accounting guidance. 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, and operational services, all entered into in the ordinary course of business, the Company does not have any significant contractual obligations or future commitments. The Company’s outstanding contractual commitments as of December 31, 2019, all of which are generally normal and recurring in nature, are summarized in the chart which follows below.

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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 the possible effects of climate change, changes in import tariffs and governments’ farm policies, including mandates for ethanol and bio-fuels, environmental matters, fluctuations in the U.S. dollar relative to dollar-denominated commodities in world markets, and in some cases, geo-political risks. The Company believes that its competitors face the same or similar challenges.

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 Canada for sale and distribution in the United States (U.S.A.), and periodically does so for purchases of equipment or raw materials from foreign suppliers. Such commodity futures and currency forward contracts are cash flow hedges and are effective as hedges as defined by accounting guidance. The unrealized gains and losses on such contracts are deferred as a component of accumulated other comprehensive loss (or gain) and are recognized as a component of product cost of goods sold when the related inventory is sold.

The potential change in fair value of commodity and foreign currency derivative instruments held by the Company at December 31, 2019, assuming a 10% change in the underlying contract price, was $1,268. The analysis only includes commodity and foreign currency derivative instruments and, therefore, does not consider the offsetting effect of changes in the price of the underlying commodity or foreign currency. This amount is not significant compared with the net earnings and shareholders’ equity of the Company.

Interest rates

Interest rate risks primarily relate to the Company’s investments in marketable securities with maturities dates of generally up to three years.

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The majority of the Company’s investments, which are classified as available for sale, have historically been held until their maturity, which limits the Company’s exposure to interest rate fluctuations. The Company also invests in variable rate demand notes which have interest rates which 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 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 December 31, 2019.

Less than 1 year

    

$

84,163

1 – 2 years

 

47,940

2 – 3 years

 

45,189

Total

$

177,292

The Company’s outstanding debt at December 31, 2019 and 2018 was $7,500 in an industrial revenue bond in which interest rates reset each week based on the current market rate. Therefore, the Company does not believe that it has significant interest rate risk with respect to its interest bearing debt.

Investment in marketable securities

As stated above, the Company invests primarily in marketable securities including 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 three 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 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 as it did in 2008 and 2009, 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 Canada, Mexico and Spain, as well as periodic purchase commitments of machinery and equipment from foreign sources, generally the European Union where the EURO is the currency.

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 11 of the Company’s Notes to Consolidated Financial Statements for outstanding foreign exchange forward contracts as of December 31, 2019.

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Open Contractual Commitments as of December 31, 2019:

    

    

Less than

    

1 to 3

    

3 to 5

    

More than

 

Payable in

Total

1 Year

Years

Years

5 Years

 

Commodity hedges

$

7,147

$

7,147

$

$

$

Foreign currency hedges

 

5,533

 

5,533

 

 

 

Purchase obligations

 

6,566

 

6,566

 

 

 

Interest bearing debt

 

7,500

 

 

 

 

7,500

Operating leases

 

1,592

 

884

 

708

 

 

Total

$

28,338

$

20,130

$

708

$

$

7,500

Note: Commodity hedges and foreign currency hedges reflect the amounts at which the Company will settle the related contracts. The above amounts exclude deferred income tax liabilities of $47,295, liabilities for uncertain tax positions of $4,240, postretirement health care benefits of $13,743 and noncurrent deferred compensation of $65,973 because the timing of payments relating to these items cannot be reasonably determined.

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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.

ITEM 8.               Financial Statements and Supplementary Data.

Management’s Report on Internal Control Over Financial Reporting

The management of Tootsie Roll Industries, Inc. is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in the Securities Exchange Act of 1934 (SEC) Rule 13a-15(f). Company management conducted an evaluation of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2019 as required by SEC Rule 13a-15(c). In making this assessment, the Company used the criteria established in Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Based on the Company’s evaluation under the COSO criteria, Company management concluded that its internal control over financial reporting was effective as of December 31, 2019.

The effectiveness of the Company’s internal control over financial reporting as of December 31, 2019 has been audited by Grant Thornton LLP, an independent registered public accounting firm, as stated in their report which is included herein.

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Shareholders

Tootsie Roll Industries, Inc.

Opinions on the financial statements and internal control over financial reporting


We have audited the accompanying consolidated balance sheets of Tootsie Roll Industries, Inc. (a Virginia corporation) and subsidiaries (the “Company”) as of December 31, 2019 and 2018, and the related consolidated statements of earnings and retained earnings, comprehensive income, changes in shareholders’ equity, and cash flows for the two years then ended and the related notes and financial statement schedule included under Item 15(a) (collectively referred to as the “financial statements”). We also have audited the Company’s internal control over financial reporting as of December 31, 2019, based on criteria established in the 2013 Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”).

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the two years in the periods ended December 31, 2019 and 2018 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2019, based on criteria established in the 2013 Internal Control—Integrated Framework issued by COSO.

Basis for opinions


The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.

Our audits of the financial statements included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

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Definition and limitations of internal control over financial reporting


A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Critical audit matter


The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of a critical audit matter does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.

Trademark Impairment Assessment


As described in Note 1 and Note 13 to the consolidated financial statements, the Company’s consolidated trademark balance was $175 million at December 31, 2019, which is allocated to the Company’s brands that were purchased.  Indefinite-lived trademarks are tested for impairment at least annually.  For several trademarks, a Step 0 approach is used to test for impairment based on relevant qualitative factors, as outlined within ASC 350-20 and 350-30. For the fair value assessment of certain other trademarks where a Step 0 analysis was not considered appropriate, Step 1 impairment testing is performed annually using discounted cash flows, derived from projected revenue, operating margins and estimated discount rates. The determination of the fair value of the trademarks subjected to a Step 1 impairment test requires management to make significant estimates and assumptions related to forecasts of future revenues, operating margins and discount rates.  As disclosed by management, changes in these assumptions could have a significant impact on either the fair value of the trademark, the amount of any trademark charge, or both.    


We identified the Step 1 trademark impairment assessment as a critical audit matter, as auditing management’s judgments regarding forecasts of future revenue, operating margin and discount rate involves a high degree of subjectivity.  

The primary procedures we performed to address this critical audit matter included:

Testing the operating effectiveness of controls relating to management’s impairment tests, including controls over the determination of the fair value of these specific trademarks. Through these tests, we evaluated management’s review controls over the financial projections, including reperformance and approval of the reasonableness of the key assumptions and inputs to the analysis, such as discount rates, growth rates, and key performance indicators such as sales forecast and operating margins.

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Testing management’s process for determining the fair value of the trademarks.  We evaluated the reasonableness of management’s forecasts of future revenue and operating margin by comparing these forecasts to historical operating results for the Company’s similar existing platforms, and whether such assumptions were consistent with evidence obtained in other areas of the audit. Additionally, a sensitivity analysis was performed using a Capital Asset Pricing Model in order to ensure the assumptions used in management’s model fell within reasonable ranges based on third-party industry market data.
Utilizing a valuation specialist to assist in evaluating the reasonableness of and testing the methodology used in the Company’s discounted cash flow model for the trademarks and certain significant assumptions, including the discount rate.

/s/ GRANT THORNTON LLP

We have served as the Company’s auditor since 2018.

Chicago, Illinois

February 28, 2020

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Report of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders of Tootsie Roll Industries, Inc.:

Opinion on the Financial Statements

We have audited the consolidated statements of earnings and retained earnings, comprehensive earnings and cash flows of Tootsie Roll Industries, Inc. and its subsidiaries (the “Company”) for the year ended December 31, 2017, including the related notes and schedule of valuation and qualifying accounts for the year ended December 31, 2017 listed in the accompanying index appearing under Item 15 (a)(2) (collectively referred to as the “consolidated financial statements”).  In our opinion, the consolidated financial statements present fairly, in all material respects, the results of operations and cash flows of the Company for year ended December 31, 2017 in conformity with accounting principles generally accepted in the United States of America.    

Basis for Opinion

These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audit. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.  

We conducted our audit of these consolidated financial statements in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud.

Our audit included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audit provides a reasonable basis for our opinion.

/s/ PricewaterhouseCoopers LLP

Chicago, Illinois

March 1, 2018

We served as the Company's auditor from 1968 to 2018.

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CONSOLIDATED STATEMENTS OF

Earnings and Retained Earnings

TOOTSIE ROLL INDUSTRIES, INC. AND SUBSIDIARIES  

(in thousands except per share data)

For the year ended December 31,

    

2019

    

2018

    

2017

Net product sales

$

523,616

$

515,251

$

515,674

Rental and royalty revenue

 

3,497

 

3,669

 

3,615

Total revenue

 

527,113

 

518,920

 

519,289

Product cost of goods sold

 

329,102

 

329,880

 

326,411

Rental and royalty cost

 

995

 

867

 

972

Total costs

 

330,097

 

330,747

 

327,383

Product gross margin

 

194,514

 

185,371

 

189,263

Rental and royalty gross margin

 

2,502

 

2,802

 

2,643

Total gross margin

 

197,016

 

188,173

 

191,906

Selling, marketing and administrative expenses

 

127,802

 

117,691

 

121,484

Earnings from operations

 

69,214

 

70,482

 

70,422

Other income, net

 

16,190

 

2,724

 

14,139

Earnings before income taxes

 

85,404

 

73,206

 

84,561

Provision for income taxes

 

20,565

 

16,401

 

3,907

Net earnings

 

64,839

 

56,805

 

80,654

Less: net earnings (loss) attributable to noncontrolling interests

 

(81)

 

(88)

 

(210)

Net earnings attributable to Tootsie Roll Industries, Inc.

$

64,920

$

56,893

$

80,864

Net earnings attributable to Tootsie Roll Industries, Inc. per share

$

0.99

$

0.86

$

1.21

Average number of shares outstanding

 

65,474

 

66,130

 

66,962

Retained earnings at beginning of period

$

33,767

$

57,225

$

43,833

Net earnings attributable to Tootsie Roll Industries, Inc.

 

64,920

 

56,893

 

80,864

Adopted ASU's (See Note 1)

2,726

Cash dividends

 

(23,371)

 

(22,929)

 

(22,548)

Stock dividends

 

(34,507)

 

(60,148)

 

(44,924)

Retained earnings at end of period

$

40,809

$

33,767

$

57,225

(The accompanying notes are an integral part of these statements.)

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CONSOLIDATED STATEMENTS OF

Comprehensive Earnings

TOOTSIE ROLL INDUSTRIES, INC. AND SUBSIDIARIES  

(in thousands)

For the year ended December 31,

    

2019

    

2018

    

2017

    

Net earnings

$

64,839

$

56,805

$

80,654

Other comprehensive income (loss), before tax:

Foreign currency translation adjustments

 

791

 

103

 

1,198

Pension and postretirement reclassification adjustments:

Unrealized gains (losses) for the period on postretirement and pension benefits

 

(1,230)

 

1,558

 

(1,009)

Less: reclassification adjustment for (gains) losses to net earnings

 

(1,522)

 

(1,324)

 

(1,462)

Unrealized gains (losses) on postretirement and pension benefits

 

(2,752)

 

234

 

(2,471)

Investments:

Unrealized gains (losses) for the period on investments

 

3,130

 

(606)

 

(300)

Less: reclassification adjustment for (gains) losses to net earnings

 

34

 

 

Unrealized gains (losses) on investments

 

3,164

 

(606)

 

(300)

Derivatives:

Unrealized gains (losses) for the period on derivatives

 

451

 

(2,734)

 

(1,410)

Less: reclassification adjustment for (gains) losses to net earnings

 

677

 

1,630

 

(107)

Unrealized gains (losses) on derivatives

 

1,128

 

(1,104)

 

(1,517)

Total other comprehensive income (loss), before tax

 

2,331

 

(1,373)

 

(3,090)

Income tax benefit (expense) related to items of other comprehensive income

 

(354)

 

349

 

1,545

Total comprehensive earnings

66,816

55,781

79,109

Comprehensive earnings (loss) attributable to noncontrolling interests

(81)

(88)

(210)

Total comprehensive earnings attributable to Tootsie Roll Industries, Inc.

$

66,897

$

55,869

$

79,319

(The accompanying notes are an integral part of these statements.)

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CONSOLIDATED STATEMENTS OF

Financial Position

TOOTSIE ROLL INDUSTRIES, INC. AND SUBSIDIARIES

(in thousands)

Assets

December 31,

    

2019

    

2018

    

CURRENT ASSETS:

Cash and cash equivalents

$

138,960

$

110,899

Restricted cash

380

388

Investments

 

100,444

 

75,140

Accounts receivable trade, less allowances of $1,949 and $1,820

 

45,044

 

49,777

Other receivables

 

3,418

 

2,941

Inventories:

Finished goods and work-in-process

 

35,909

 

32,159

Raw materials and supplies

 

23,179

 

22,365

Prepaid expenses

 

5,996

 

10,377

Total current assets

 

353,330

 

304,046

PROPERTY, PLANT AND EQUIPMENT, at cost:

Land

 

21,740

 

21,726

Buildings

 

122,843

 

121,780

Machinery and equipment

 

416,625

 

401,037

Construction in progress

 

4,427

 

3,408

Operating lease right-of-use assets

 

1,580

 

 

567,215

 

547,951

Less — accumulated depreciation

 

378,760

 

361,850

Net property, plant and equipment

 

188,455

 

186,101

OTHER ASSETS:

Goodwill

 

73,237

 

73,237

Trademarks

 

175,024

 

175,024

Investments

 

153,031

 

170,409

Split dollar officer life insurance

 

26,042

 

26,042

Prepaid expenses and other assets

 

8,056

 

11,980

Deferred income taxes

 

689

 

522

Total other assets

 

436,079

 

457,214

Total assets

$

977,864

$

947,361

(The accompanying notes are an integral part of these statements.)

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(in thousands except per share data)

Liabilities and Shareholders’ Equity

December 31,

2019

    

2018

    

CURRENT LIABILITIES:

Accounts payable

$

12,720

$

11,817

Bank loans

747

373

Dividends payable

 

5,861

 

5,772

Accrued liabilities

 

41,611

 

42,849

Postretirement health care benefits

 

598

 

580

Operating lease liabilities

1,062

Deferred compensation

16,945

 

Total current liabilities

 

79,544

 

61,391

NONCURRENT LIABILITIES:

Deferred income taxes

 

47,295

 

43,941

Postretirement health care benefits

 

13,145

 

11,871

Industrial development bonds

 

7,500

 

7,500

Liability for uncertain tax positions

 

4,240

 

3,816

Operating lease liabilities

518

Deferred compensation and other liabilities

 

65,973

 

68,345

Total noncurrent liabilities

 

138,671

 

135,473

TOOTSIE ROLL INDUSTRIES, INC. SHAREHOLDERS’ EQUITY:

Common stock, $.69-4/9 par value — 120,000 shares authorized —  38,836 and 38,544, respectively, issued

 

26,969

 

26,767

Class B common stock, $.69-4/9 par value — 40,000 shares authorized — 26,287 and 25,584, respectively, issued

 

18,254

 

17,767

Capital in excess of par value

 

696,059

 

696,535

Retained earnings

 

40,809

 

33,767

Accumulated other comprehensive loss

 

(20,245)

 

(22,222)

Treasury stock (at cost) — 90 shares and 88 shares, respectively

 

(1,992)

 

(1,992)

Total Tootsie Roll Industries, Inc. shareholders’ equity

 

759,854

 

750,622

Noncontrolling interests

(205)

(125)

Total equity

759,649

750,497

Total liabilities and shareholders' equity

$

977,864

$

947,361

(The accompanying notes are an integral part of these statements.)

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CONSOLIDATED STATEMENTS OF

Cash Flows

TOOTSIE ROLL INDUSTRIES, INC. AND SUBSIDIARIES

(in thousands)

For the year ended December 31,

    

2019

    

2018

    

2017

    

CASH FLOWS FROM OPERATING ACTIVITIES:

Net earnings

$

64,839

$

56,805

$

80,654

Adjustments to reconcile net earnings to net cash provided by operating activities:

Depreciation

 

18,779

 

18,669

 

18,991

Deferred income taxes

2,832

2,063

(2,337)

Impairment of majority-owned foreign subsidiaries

 

377

 

1,126

 

2,371

Amortization of marketable security premiums

 

1,282

 

1,755

 

2,386

Changes in operating assets and liabilities:

Accounts receivable

 

5,086

 

(2,445)

 

(4,012)

Other receivables

 

(313)

 

2,220

 

(3,146)

Inventories

 

(