Business context and reporting period
This Form 10-Q covers the quarter and six months ended June 30, 2012. The filing identifies the registrant as Tempur-Pedic International Inc. (not SomniGroup International Inc.). The company manufactures and sells premium mattresses, pillows and related products in about 80 countries through Retail, Direct, Healthcare and third-party channels. It reports North America and International segments.
Financial performance
Amounts below are in millions of dollars, except per-share data and percentages.
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Net sales | $329.5 | $342.2 | $713.9 | $668.1 |
| Gross profit / margin | $166.9 / 50.7% | $181.0 / 52.9% | $372.9 / 52.2% | $351.3 / 52.6% |
| Operating income / margin | $47.5 / 14.4% | $82.8 / 24.2% | $133.6 / 18.7% | $158.1 / 23.7% |
| Net income | $29.1 | $53.1 | $85.3 | $101.3 |
| Diluted EPS | $0.45 | $0.76 | $1.31 | $1.44 |
| Operating cash flow | Not separately provided | Not separately provided | $86.5 | $104.0 |
Q2 sales declined 3.7%; six-month sales rose 6.9%. Q2 net income fell about 45%, and six-month net income fell about 16%. Q2 North American sales declined 8.3%, while International sales increased 8.1% reported and about 17.1% on a constant-currency basis. For the first half, North America grew 4.1% and International grew 13.7% reported, or about 19.5% constant currency.
At June 30, cash was $134.2 (versus $111.4 at year-end), working capital was $258.9, and long-term debt was $681.5 (versus $585.0). Revolver availability was $87.5 after letters of credit. Stockholders’ deficit was $12.1. Six-month capital expenditures were $20.7; cash used in financing was $38.6, including $150.0 of share repurchases. The company reported a 1.85x funded-debt-to-EBITDA ratio, within its 3.0x covenant limit, and compliance with all covenants.
Material changes versus comparable periods
- Q2 performance weakened sharply amid more competitive product launches, aggressive competitor marketing and incentives. North American Retail sales fell 9.4%.
- Q2 gross margin declined 2.2 percentage points, with North American margin down to 46.9% from 50.3%; management cited promotions and discounts, lower-volume fixed-cost deleverage and unfavorable mix.
- Selling and marketing expense rose 23.1% in Q2 and 26.2% for the first half; first-half advertising expense increased 32.3%. Higher spending and lower Q2 sales weighed on operating profit.
- First-half operating cash flow declined to $86.5 from $104.0, primarily due to lower net income. Capital expenditures increased to $20.7 from $12.1.
- The company repurchased 5.0 million shares for about $150.0 in the first half. Weighted-average diluted shares fell to 65.0 million from 70.5 million for the six-month comparison.
Outlook, commentary, risks and unusual items
- Management expected competitive conditions in North America to continue, and expected full-year 2012 gross margins to decrease. It cited retailer incentives, product innovation and continued consumer advertising as measures to stabilize sales. No full-year sales or EPS guidance is stated in the provided filing text.
- Management expected approximately $50.0 million of 2012 capital expenditures, including information technology investments and a new Lexington headquarters. About $13.0 million of headquarters-related capital commitments remained at June 30.
- Management believed cash from operations and available credit would cover anticipated needs, but cautioned that future cash generation and borrowing availability were not assured. The company expected about $17.0 million in cash interest payments in 2012; its leverage increase was expected to raise the applicable interest margin by 0.25 percentage points and commitment fee by 0.125 percentage points.
- Risks include competition, uncertain economic conditions (particularly in Europe), raw-material cost increases, foreign-exchange movements and elevated leverage. A 100-basis-point rate increase on variable-rate debt was estimated to reduce next-year pretax income by about $4.3 million, holding other factors constant.
- A Danish tax assessment for 2001–2006 totaled approximately $139.1 million, including interest and penalties. Proceedings were on hold pending a bilateral pricing agreement; management disputed the assessment, and the amount of any change in unrecognized tax benefits could not be estimated.
- Two shareholder class-action suits filed in June 2012 allege misleading statements about competition and projected performance. The company intended to defend them; outcomes and potential losses could not be estimated. Earlier antitrust proceedings described in the filing had concluded in the company’s favor.
- The company acquired its Polish distributor in April for $1.7 million plus possible contingent payments, and acquired its Brazilian distributor on July 5 for about $2.2 million plus possible contingent payments.
Important facts for investors to verify
- Whether North American sales and margins stabilized after the reported competitive deterioration, and whether planned pricing, retailer incentives and advertising improved results.
- Whether International growth persisted and how foreign exchange affected reported sales and earnings.
- Debt levels, revolver availability, covenant headroom, interest costs and the effect of the higher pricing grid.
- Execution and returns on planned capital spending, including the headquarters project, and the pace of further share repurchases.
- Developments in the Danish tax matter and shareholder litigation, including any change in estimated exposure or insurance coverage.