Willy Wonka's cotton candy is the wool of his Cotton Candy Sheep. You enter the room while on the Great Glass Elevator, you see neon hot pink lights, tubes full of cotton candy, and Oompa Loompas sheering pink sheep. Willy Wonka starts talking but realizes that if anyone knew where his cotton candy came from it might not sell, so he says " I'd rather not talk about this one", but it's clear to the audience that it's cotton candy. Or, it is a veiled reference to the other Depp/Burton collaboration, Ed Wood where Depp was in love with pink angora sweaters.
Although you don't go into the room itself, in the Store Room 59 mini level you have to gather cotton candy sheep and sheer them to harvest cotton candy for the factory.