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I first learned about J&J Snack Foods (JJSF) from an article by Seeking Alpha Contributor Tom Smicklas (see here and here). From the company’s 10-k, J&J Snack Foods manufactures nutritional snack foods and distributes frozen beverages which it markets nationally to the food service and retail supermarket industries.

The company’s principal snack food products are soft pretzels (SUPERPRETZEL) and frozen juice treats and desserts (LUIGI’S, FRUIT-A-FREEZE, WHOLE FRUIT, ICEE, BARQ’S, MINUTE MAID). Other snack food products include churros, funnel cake and bakery products. The company’s principal frozen beverage products are the ICEE brand frozen carbonated beverage and the SLUSH PUPPIE brand frozen uncarbonated beverage. The company’s sales are primarily to food service customers, including snack bars, convenience stores, fast food outlets, sports arenas, and schools. The company’s retail supermarket customers are primarily supermarket chains. The company’s restaurant group sells direct to the public through BAVARIAN PRETZEL BAKERY and PRETZEL GOURMET.

While the nutritional claim might be a stretch, the story does look rather interesting. The company has done consistently well in the past, and has seen sales, earnings, and shareholders equity growth in every year since 2000 (minus earnings in 2008, which declined during the recession). In the most recent year, the company saw sales growth of 4% to $653 million, and net income jump to 48% to $41.3 million, equal to EPS of $2.21.

This marks the 38th year in a row that the company has reached record sales. The company’s balance sheet also looks good, with $99 million in cash and cash equivalents and only $380,000 in total debt as of 12/31/09. When you take out this $99 million from the current market cap of $876.18 million (share price of $47.64), the company is trading at a P/E of 18.81.

Despite the early signs of progress, one fact continues to show up in both the annual report and the earnings transcripts that scares me as an investor. Despite the company’s differentiation into various drinks and snack products, their customers are generally isolated, and represent a significant portion of sales. For example, as heard in the F2Q10 earnings call, the J&J is currently selling funnel cake fries to Burger King (BK), which gives the company incredible reach throughout BK’s 6,000 domestic stores.

However, this product is sold exclusively through Burger King, and concurrently has no chance of being distributed through other fast food chains. While I believe that selling through Burger King is an important step in the right direction, I am concerned with concentrating a large number of sales with one customer. The company’s largest customer currently accounts for 9% of their total sales, and its top ten customers account for a total 43% of their sales.

While this would not be a major concern for a company with brand equity and product recognition, J&J snack foods operates in highly competitive markets largely based on price, not on the company offering the product. For example, many people would be willing to pay $1 for a Coke (KO), as opposed to $0.50 for a no name cola. For a company like J&J, the lack of a significant brand image means they are not afforded this premium.

For the situation discussed above, Burger King accounted for $4.3 million, or 54% of the company’s increased sales during the most recent quarter. While this growth is impressive, as an investor I am wary to jump in when Burger King could drop the line, or even switch to a competitor, at any time.

For the time being, I am going to continue watching, but wait for the company to either further develop their brand image, or diversify their customer base to a point where losing one key distributor will not significantly affect sales.

Disclosure: No position in JJSF

Source: J&J Snack Foods: Growth Opportunity?