Editor's Choice

Are These Confection Stocks a Sweet Deal?

Chris is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

I've been trying to stay away from candy lately, but I recognize that just because I'm not personally into something says very little about how popular it is. I rarely drink, but Diageo is thriving. I've never smoked, but Philip Morris International is alive and well regardless. So what about the confections industry? Are these stocks a taste of heaven, or are they just rot bait?

Not Stable Enough

While my stock screener calls Cosan Limited (NYSE: CZZ) a confections company, it's actually a full-scale conglomerate with its hand in the energy and bioethanol sectors as well as sugary things. I like a few things and I have a few issues regarding Cosan.

I like how this company is the largest manufacturer of sugar and alcohol in the world. Size is a big deal because it's hard to replicate and compete against. I also like how despite being large and in charge, Cosan still only has a market cap of $4.67 billion, which leaves a lot of room to grow. I also like how Cosan has been on an acquisition streak for several years and is consolidating its power over both production and distribution through either making total or large purchases of the likes of Comgas and Esso.

Frankly, I don't like Cosan's profit margins. I hate to harp on the numbers, but I find it hard to trust the future of a company that's only pulling 1.2% margins in a region with a history of economic and political instability that's currently in a relative economic boom. Given that Cosan has been working with Royal Dutch Shell to create the third biggest distributor in Brazil, I really expected higher margins. I can't imagine the company doing well at all if the region's growth slows or trips up. So I really can't justify paying 30 or more times earnings.

A Good Prospect

Mondelez International (NASDAQ: MDLZ) is an interesting company. I like how the former Kraft (not to be confused with company spin-off Kraft Foods Group as it is today) took on a latin moniker which literally means "delicious world." But a name isn't a company -- unless you're talking about Toblerone, Cadbury, Orea, Belvita or Trident, some of the better known cookie, cracker and gum brands under Mondelez's banner. There's nothing quite like a strong brand.

Well, there's also profit, and only pulling 6.2% margins doesn't do a lot for me. Maybe I'm spoiled and maybe I should cut Mondelez some slack because of the recession and all, but that sounds like making excuses. I understand Mondelez is a good company and all, but larger margins are important because you never know where the economy is headed next. However, I have to admit that the brand rules the day. Given the market's tendency to be a bit steep lately, the fact that Mondelez is trading for 15 times earnings and a very attractive 1.4 times book value means I think it's a pretty good deal right now. Do your research, but I think Mondelez is worth owning.

At What Cost?

The Hershey Company (NYSE: HSY) was the first company of this group I actually recognized, but I admit that I knew nothing about it before I began my research. As the largest dedicated chocolate producer in the US and the most profitable company on this list, it pulls 10.1% profit margins and I respect that. However, the methods by which Hershey turns revenue into profits leave me with a bitter taste in my mouth.

I don't like heavy outsourcing, particularly when it's done in an opaque manner that denies its sources. Hershey doesn't say where its cocoa comes from, which sounds really wrong. Some of this cocoa comes from West Africa, and Hershey appears to have done very little to stop its suppliers from using trafficked and forced labor (as in kidnapped slaves) and child labor. While I respect that some cultures expect their children to work, I don't like the idea of forcing anyone into a job that may or may not actually pay anything. Not good, Hershey.

In the US Hershey's handling of labor isn't that much better. Three degrees of separation from Hershey, the Council on Educational Travel charged students from around the world thousands of dollars to come to the US and work for a summer. Beyond having them pay to work, the company did not report numerous serious injuries between 2008 and 2011, and even refused to pay some workers their full promised wages. While Hershey didn't do this directly, it was their factory and their product. Did Charles Dickens teach us nothing about how to treat your workers?

Prior to my research, I did not know what polyglycerol polyricinoleate, or PGPR, was. In short, it's a cheap replacement for cocoa butter that Hershey uses that may have health issues because of its close association with another chemical that comes from castor beans called ricin. Ricin can cause severe diarrhea, organ damage, seizures, and in some cases even death. While PGPR probably isn't a serious concern, the idea that a component of chocolate is on the market without so much as a test to see if it hurts people is unacceptable to me. Maybe I'm naive, but I think candy's biggest danger should be cavities.

While I respect Hershey as a company, I certainly won't pay 27 times earnings or 17.8 times book value for a company that doesn't particularly care about the impact its operations have on human beings. Feel free to disagree with me.

Sour in the Best Way

Tootsie Roll Industries (NYSE: TR) is another company that has diverse brands, pulls decent margins (9%) and is a little pricey. I like that at a $1.59 billion market cap there's plenty of room for growth, and I like the stable of brands. Aside from the obvious candy there's Junior Mints, Charleston Chews, Dots, and my personal favorite, the Cry Baby. With a combination of several different kinds of candies, no ethical objections, and a solid margin to work with, I'd recommend checking into Tootsie Roll further. I just can't recommend buying it right now.

While the portfolio of the company is pretty sound and it's only trading for 2.3 times the book value, I just can't get behind paying 32 times earnings. I know the market is saying 17 times earnings is average, but Tootsie Roll is just too rich for my blood right now. I'd hold off on the company until the economic rebound is in full swing, probably around 2017 or so, when new companies draw investor dollars out of this old-school stalwart. Be greedy when others are fearful and be fearful when they're greedy, as Warren Buffett would say. 

pongun has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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