Thursday, November 8, 2012

A Closer Look at This Volatile Premium Bedding Stock

Investors who love the premium pillow and mattress business would know Tempur-Pedic International (NYSE: TPX). In the past year, the stock has experienced high volatility that caused many investors’ stomachs to churn. The stock went from $87.26 to $21 in around two months. Recently, it dropped from $32 to $24.90, a loss of 19.5% within a day, after its earnings announcement. Should we get scared of its recent volatility? Or should we get excited when the stock, which used to be a market darling, is being punched down significantly?
For the last 5 years, Tempur’s stock has been a roller coaster. It dropped from $34 in 2007 to $4.50 in March 2009, then it went back up to $85.8 in April 2012, and now it stays at $25.80 per share.
Recently, it announced poor Q3 earnings results. Its revenue reduced from $383.1 million to $347.9 million, a year-over-year decrease of 9%. It was due to the 14% decrease in the North American segment whereas the International segment increased 3% compared to the third quarter last year. The adjusted net income was $42.3 million, much lower than the 2011 third quarter of $61.9 million. Adjusted EPS was $0.70 whereas GAAP net income was -$2 million and GAAP EPS was -$0.03.
Looking carefully into its financial statement, the loss in the third quarter was due to a $61 million income tax provision on $59 million in income before taxes. The income tax provision was two times higher than that in the same period last year, and its income before taxes decreased from $93.1 million to $59 million. Those factors combined have made its net income plunge to a loss from nearly $62 million last year.
With the third quarter pre-tax income of $59 million, its trailing twelve months pre-tax income would be $268 million. Tempur’s current market capitalization is $1.54 billion, so the company is trading at only 5.75x pre-tax income.
Recently, Tempur announced that it intended to acquire the largest mattress manufacturer,Sealy Corporation (NYSE: ZZ), which is the owner of several brand names such as Sealy, Stearns & Foster, Bassett, TrueForm etc. The deal would create a $2.7 billion global beddingprovider. The company would pay $1.3 billion including $230 million equity for Sealy and its debt. Tempur would assume all of Sealy’s debt, of more than $1 billion.
Strategically, the acquisition of Sealy seems to make sense. By acquiring Sealy, Tempur will expand its business from the existing premium market to the mid to lower end of the market, which Sealy serves. Nevertheless, the acquisition would weaken its balance sheet with a heavier debt burden, from $650 million to around $1.7 billion post-acquisition. On top of that, the company already has a negative equity.
The huge debt with negative equity sounds quite scary. However, the negative equity was due to the fact that Tempur financed significant stock buybacks using debt. Its treasury stock was $1 billion at the end of 2011. Historically, it bought 6.5 million shares at $55.69 and 8.5 million shares at $29.41. Along with that, in June 2012, Andrews Mclane, the chairman of the board, bought $2.8 million of shares in the market.
My Foolish Take
The action of the company itself and its chairman has shown its shareholders their belief in Tempur’s long-term future. Maybe after acquiring Sealy to enter the mid and lower end market, Tempur might be heading to brighter future prospects. But definitely, it would take quite some time. At the moment, the poor earnings result, the huge debt burden after a potential Sealy acquisition, and the negative equity would make me feel nervous about initiating any positions in the stock at the moment. 

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