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TEMPUR SEALY INTERNATIONAL, INC. - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Edgar Glimpses Via Acquire Media NewsEdge)
The following discussion and analysis should be read in conjunction with ITEM 6
under Part II of this Report and the audited consolidated financial statements
and accompanying notes thereto included elsewhere in this Report. Unless
otherwise noted, all of the financial information in this Report is consolidated
financial information for the Company. The forward-looking statements in this
discussion regarding the mattress and pillow industries, our expectations
regarding our future performance, liquidity and capital resources and other
non-historical statements in this discussion are subject to numerous risks and
uncertainties. See "Special Note Regarding Forward-Looking Statements" and ITEM
1A under Part I of this Report. Our actual results may differ materially from
those contained in any forward-looking statements.
In this discussion and analysis, we discuss and explain the consolidated
financial condition and results of operations for the years ended December 31,
2013, 2012 and 2011, including the following topics:
• an overview of our business, including the acquisition of Sealy
Corporation and its subsidiaries ("Sealy") that closed on March 18, 2013;
• the effect of the foregoing on our overall financial performance and
condition;
• our net sales and costs in the periods presented as well as changes
between periods; and
• expected sources of liquidity for future operations.
Business Overview
General
We are the world's largest bedding provider. We develop, manufacture, market,
and distribute bedding products, which we sell globally. Our brand portfolio
includes many of the most highly recognized brands in the industry, including
TEMPUR®, Tempur-Pedic®, Sealy®, Sealy Posturepedic®, Optimum™, and Stearns &
Foster®. Our comprehensive suite of bedding products offers a variety of
products to consumers across a broad range of channels.
We sell our products through three distribution channels in each operating
business segment: Retail (furniture and bedding retailers, department stores,
specialty retailers and warehouse clubs); Direct (e-commerce platforms,
company-owned stores, and call centers); and Other (third party distributors,
hospitality and healthcare customers).
Business Segments
We have three reportable business segments: Tempur North America, Tempur
International, and Sealy. These reportable segments are strategic business units
that are managed separately based on the fundamental differences in their
operations. Our Tempur North America segment consists of two U.S. manufacturing
facilities and our Tempur North America distribution subsidiaries. Our Tempur
International segment consists of our manufacturing facility in Denmark, whose
customers include all of our distribution subsidiaries and third party
distributors outside our Tempur North America and Sealy segments. Our Sealy
segment consists of company-owned and operated bedding and component
manufacturing facilities located around the world, along with distribution
subsidiaries, joint ventures, and licensees. We evaluate segment performance
based on net sales and operating income.
Strategy
We are the world's largest bedding provider and the only provider with global
scale. We believe our future growth potential is significant in our existing
markets and through expansion into new markets. In order to achieve our
long-term growth potential while managing the current economic and competitive
environment, we will focus on the key strategic growth initiatives discussed
below:
Product Innovation
We will continue to invest in research and development to leverage the combined
technologies of our comprehensive portfolio of products to deliver a stream of
innovative products. Our goal is to provide consumers the best bed and best
sleep of their life and to provide our retailers a complete and optimal offering
across brands, products, and prices to drive growth. We will also pursue
opportunities to enter or develop new product categories.
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Marketing
We will increase our investment in advertising to increase consumer awareness,
preference and loyalty for each of our key brands. We will also invest in
in-store marketing and direct sales to maximize our sales opportunity driven
from national brand and retailer advertising.
New Market Expansion
We will pursue opportunities to expand into new international markets and over
time into non-consolidated markets where our brands are currently represented
under licensee, joint venture or third party distributor agreements.
Supply Chain ("Easier To Do Business With")
We are committed to building a world-class supply chain that is "easier to do
business with." Our goal is to improve efficiencies related to purchasing and
delivery, as well as inventory management to drive sales growth.
Our strategic growth initiatives will be supported by cost synergies realized
from the acquisition of Sealy as well as through our ongoing cost productivity
initiatives.
Factors That Could Impact Results of Operations
The factors outlined below could impact our future results of operations. For
more extensive discussion of these and other risk factors, please refer to "Risk
Factors", under Part I, ITEM1A in this Report.
General Business and Economic Conditions
Our business has been affected by general business and economic conditions, and
these conditions could have an impact on future demand for our products. The
global economic environment continues to be challenging, and we expect the
uncertainty to continue. In light of the macroeconomic environment, we continue
to take steps to further align our cost structure with our anticipated level of
net sales. We continued to make strategic investments, including: introducing
new products; investing in increasing our global brand awareness; extending our
presence and improving our Retail account productivity and distribution;
investing in our operating infrastructure to meet the requirements of our
business; and taking actions to further strengthen our business.
Competition
Participants in the bedding industry compete primarily on price, quality, brand
name recognition, product availability, and product performance. We compete with
a number of different types of mattress alternatives, including standard
innerspring mattresses, viscoelastic mattresses, foam mattresses, hybrid
innerspring/foam mattresses, futons, air beds and other air-supported
mattresses. These alternative products are sold through a variety of channels,
including furniture and bedding stores, department stores, mass merchants,
wholesale clubs, Internet, telemarketing programs, television infomercials,
television advertising and catalogs.
Our Tempur North America segment competes in the non-innerspring mattress
category and contributes 36.9% of our net sales. Beginning in the second half of
2012, a significant number of new non-innerspring mattress products were
introduced in this category and changed the competitive environment of the U.S.
bedding industry. Many of these new non-innerspring mattress products have been
supported by aggressive marketing campaigns and promotions. As a result of this
change, our results have been negatively impacted and we modified our business
strategy to compete and expand our market share. Our results could continue to
be challenged.
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Financial Leverage
As of December 31, 2013, we had $1,836.5 million of debt outstanding, and our
stockholders' equity was $114.0 million. Higher financial leverage makes us more
vulnerable to general adverse competitive, economic and industry conditions.
There can be no assurance that our business will generate sufficient cash flow
from operations or that future borrowing will be available. As of December 31,
2013, our ratio of funded debt less qualified cash to EBITDA was 4.4 times,
within the covenant in our debt agreements which limits this ratio to 5.25 times
for the year ended December 31, 2013. For more information on this non-GAAP
measure, please refer to the section set forth below "Non-GAAP Financial
Measures".
Sealy Integration
Our Sealy Acquisition is significant, and we may not be able to successfully
integrate and combine the operations, personnel and technology of Sealy with our
operations. Because of the size and complexity of Sealy's business, if we do not
successfully manage integration, we may experience interruptions in our business
activities, a deterioration in our employee and customer relationships,
increased costs of integration and harm to our reputation, all of which could
have a material adverse effect on our business, financial condition and results
of operations. We may also experience difficulties in combining corporate
cultures, maintaining employee morale and retaining key employees. The
integration may also impose substantial demands on our management. There is no
assurance that improved operating results will be achieved as a result of the
Sealy Acquisition or that the businesses of Sealy and Tempur-Pedic will be
successfully integrated in a timely manner.
Gross Margins
Our gross margin is primarily impacted by the relative amount of net sales
between our business segments. The Sealy segment operates at a significantly
lower gross margin than the Tempur North America and Tempur International
segments. If Sealy's net sales increase as a percentage of net sales, our gross
margin will be negatively impacted. Additionally, our Tempur North America gross
margin has historically been lower than that of our Tempur International
segment. Our gross margin is also impacted by fixed cost leverage; the cost of
raw materials; operational efficiency; product, channel and geographic mix;
volume incentives offered to certain retail accounts; and costs associated with
new product introductions. Future increases in raw material prices could have a
negative impact on our gross margin if we do not raise prices to cover increased
cost.
Our gross margin can also be impacted by our operational efficiencies, including
the particular levels of utilization in our manufacturing facilities. If we
increase our net sales significantly the effect of this operating leverage could
have a significant positive impact on our gross margin. Conversely, if we
experience significant decreases in our net sales, the effect of this operating
deleverage could have a significant negative impact on our gross margin. Our
margins are also impacted by the growth in our Retail channel as sales in our
Retail channel are at wholesale prices whereas sales in our Direct channel are
at retail prices.
In 2014, we expect gross margin to benefit from cost synergies and leverage,
offset by investments in new products and foreign exchange. Floor model
shipments will be elevated in the first half of 2014 as we complete our new
product roll-outs. However, we expect floor model shipments will be much lower
in the second half of 2014. Foreign exchange is also expected to negatively
impact gross margin due to our Canadian subsidiaries where a significant portion
of their material costs are denominated in U.S. dollars.
New Product Development and Introduction
Each year we invest significant time and resources in research and development
to improve our respective product offerings. There are a number of risks
inherent in our new product line introductions, including the anticipated level
of market acceptance may not be realized, which could negatively impact our
sales. Also, introduction costs, the speed of the rollout of the product and
manufacturing inefficiencies may be greater than anticipated, which could impact
profitability.
Exchange Rates
As a multinational company, we conduct our business in a wide variety of
currencies and are therefore subject to market risk for changes in foreign
exchange rates. We use foreign exchange forward contracts to manage a portion of
the risk of the eventual net cash inflows and outflows resulting from foreign
currency denominated transactions between our subsidiaries and their customers
and suppliers, as well as between our subsidiaries themselves. These hedging
transactions may not succeed in effectively managing our foreign currency
exchange rate risk.
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Sealy Acquisition
On March 18, 2013, we completed the Sealy Acquisition. Refer to Note 2,
"Business Combination", in our Consolidated Financial Statements included in
Part II, ITEM 8 of this Report for a discussion of the Sealy Acquisition.
Pursuant to the merger agreement, each share of common stock of Sealy issued and
outstanding immediately prior to the effective time of the Sealy Acquisition was
cancelled and (other than shares held by Sealy or Tempur-Pedic or their
subsidiaries or Sealy stockholders who properly exercised their appraisal
rights) converted into the right to receive $2.20 in cash. The total purchase
price was $1,172.9 million, which was funded using available cash and financing
consisting of our 2012 Credit Agreement and Senior Notes. Refer to Note 5,
"Debt", in our Consolidated Financial Statements included in Part II, ITEM 8 of
this Report for the definition of these terms and further discussion. The
purchase price of Sealy, including debt assumed, consisted of the following
items:
(in millions)
Cash consideration for stock $ 231.2 (1)
Cash consideration for share-based awards 14.2 (2)
Cash consideration for 8.0% Sealy Notes 442.1 (3)
Cash consideration for repayment of Sealy Senior Notes 260.7 (4)
Cash consideration for repayment of Sealy 2014 Notes 276.9 (5)
Total consideration
1,225.1
Cash acquired (52.2 ) (6)
Net consideration transferred $ 1,172.9
(1) The cash consideration for outstanding shares of Sealy common stock is the
product of the agreed-upon cash per share price of $2.20 and total Sealy
shares of 105.1 million.
(2) The cash consideration for share-based awards is the product of the
agreed-upon cash per share price of $2.20 and the total number of
restricted stock units ("RSUs") and deferred stock units ("DSUs")
outstanding and the "in the money" stock options net of the weighted
average exercise price.
(3) The cash consideration for 8.0% Sealy Notes is the result of applying the
adjusted equity conversion rate to the 8.0% Sealy Notes tendered for
conversion and multiplying the result by the agreed-upon cash per share
price of $2.20. The 8.0% Sealy Notes that were converted represented the
right to receive the same merger consideration that would have been payable to a holder of 201.0 million shares of Sealy common stock, subject
to adjustment in accordance with the terms of the supplemental indenture
governing the 8.0% Sealy Notes.
(4) The cash consideration for Sealy's 10.875% Senior Notes due 2016 ("Sealy
Senior Notes") reflects the repayment of the outstanding obligation.
(5) The cash consideration for Sealy's 8.25% Senior Subordinated Notes due
2014 ("Sealy 2014 Notes") reflects the repayment of the outstanding
obligation.
(6) Represents the Sealy cash balance acquired at acquisition.
Our Sealy segment manufactures and markets a complete line of bedding products
under the Sealy®, Sealy Posturepedic®, Optimum™, and Stearns & Foster® brands.
Sealy's results of operations are reported within our Sealy reportable segment.
The combination brings together two highly complementary companies with iconic
brands and significant opportunities for global innovation and growth. We will
have products for almost every consumer preference and price point, distribution
through all key channels, in-house expertise on most key bedding technologies,
and a world-class research and development team.
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Results of Operations
A summary of our results for the year ended December 31, 2013 include:
• Earnings per diluted common share ("EPS") were $1.28 for the full year
2013 compared to $1.70 per diluted share for the full year 2012. The 2013
results include Sealy results for the post-acquisition period from March 18, 2013 to December 31, 2013 and also reflect transaction and integration
costs related to the Sealy Acquisition, interest and fees related to our
refinancing of our Term A Facility and Term B loans under our senior
secured credit facility, as well as tax provision adjustments related to
the repatriation of foreign earnings utilized in connection with the Sealy
Acquisition. 2012 EPS reflects the tax expense recorded in connection with
the anticipated repatriation of foreign earnings together with certain
transaction and integration costs related to the Sealy Acquisition, and
other restructuring costs.
• Adjusted EPS were $2.38 for the full year 2013 compared to adjusted EPS
$2.61 for the full year 2012. For a discussion and reconciliation of EPS
to adjusted EPS, refer to the non-GAAP financial information set forth
below under the heading "Non-GAAP Financial Information".
• Net income for the full year 2013 was $78.6 million as compared to net
income of $106.8 million for the full year 2012. Adjusted net income was $146.4 million for the full year 2013 as compared to adjusted net income
of $164.1 million for the full year 2012. For a discussion and
reconciliation of net income to adjusted net income, refer to the non-GAAP
financial information set forth below under the heading "Non-GAAP
Financial Information".
• Net sales increased 75.7% to $2,464.3 million for the full year 2013
compared to $1,402.9 million for the full year 2012. The net sales
increase was due to the inclusion of $1,114.7 million of Sealy net sales
for the post-acquisition period from March 18, 2013 to December 31, 2013.
• Gross margin was 41.2% for the full year 2013 compared to 50.9% for the
full year 2012. The gross margin decreased primarily as a result of the
inclusion of Sealy, which has lower margins than the Tempur North America
and Tempur International segments, and changes in product mix, offset
partially by lower sourcing costs.
• Operating income was $243.8 million for the full year 2013 as compared to
$248.3 million for the full year 2012. Operating income for the full year
2013 included $44.6 million of transaction and integration costs related
to the Sealy Acquisition. Excluding these costs, the higher operating
income reflects the inclusion of Sealy.
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The following table sets forth the various components of our Consolidated
Statements of Income, and expresses each component as a percentage of net sales:
Year Ended December 31,
(in millions, except per
common share amounts) 2013 2012 2011
Net sales $ 2,464.3 100.0 % $ 1,402.9 100.0 % $ 1,417.9 100.0 %
Cost of sales 1,449.4 58.8 688.3 49.1 674.8 47.6
Gross profit 1,014.9 41.2 714.6 50.9 743.1 52.4
Selling and marketing
expenses 522.9 21.2 319.1 22.7 276.9 19.5
General, administrative and
other 266.3 10.8 147.2 10.5 125.7 8.9
Equity income in earnings of
unconsolidated affiliates (4.4 ) (0.2 ) - - - -
Royalty income, net of
royalty expense (13.7 ) (0.6 ) - - - -
Operating income 243.8 10.0 248.3 17.7 340.5 24.0
Other expense, net:
Interest expense, net 110.8 4.5 18.8 1.3 11.9 0.8
Other expense, net 5.0 0.2 0.3 - 0.2 -
Total other expense 115.8 4.7 19.1 1.3 12.1 0.8
Income before income taxes 128.0 5.3 229.2 16.4 328.4 23.2
Income tax provision (49.1 ) (2.0 ) (122.4 ) (8.7 ) (108.8 ) (7.7 )
Net income before
non-controlling interest 78.9 3.3 106.8 7.7 219.6 15.5
Less: Net income
attributable to
non-controlling interest 0.3 - - - - -
Net income attributable to
Tempur Sealy International,
Inc. $ 78.6 3.3 % $ 106.8 7.7 % $ 219.6 15.5 %
Earnings per common share:
Diluted $ 1.28 $ 1.70 $ 3.18
Weighted average common
shares outstanding:
Diluted 61.6 62.9 69.1
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CONSOLIDATED SUMMARY
Net sales and gross profit
Percentage Percentage(in millions, except change 2013 change 2012
percentages) 2013 2012 2011 vs. 2012 vs. 2011
Net sales $ 2,464.3 $ 1,402.9 $ 1,417.9 75.7 % (1.1 )%
Net sales by
segment:
Tempur North America 910.0 964.3 1,004.7 (5.6 )% (4.0 )%
Tempur International 439.6 438.6 413.2 0.2 % 6.1 %
Sealy 1,114.7 - - - % - %
Gross profit 1,014.9 714.6 743.1 42.0 % (3.8 )%
Gross margin 41.2 % 50.9 % 52.4 % (9.7 )% (1.5 )%
Year ended December 31, 2013 compared to year ended December 31, 2012
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Net sales increased $1,061.4 million, or 75.7%. The increase was due to the
inclusion of Sealy's net sales of $1,114.7 million for the post-acquisition
period from March 18, 2013 to December 31, 2013. The increase in net sales was
partially offset by decreases in our Tempur North America segment in bedding net
sales, driven by decreases in our Retail and Direct channels.
Gross profit increased $300.3 million, or 42.0%. Gross margin decreased 9.7%.
The increase in gross profit was due to the inclusion of Sealy's gross profit of
$352.4 million at a gross margin of 31.6% for the post-acquisition period from
March 18, 2013 through December 31, 2013. Sealy's gross profit also included an
incremental cost of $7.7 million associated with the revaluation of finished
goods inventory related to the purchase price allocation of the Sealy
Acquisition. The increase in gross profit was also offset by Tempur North
America's gross profit decrease of $56.6 million and gross margin decline of
3.4%. Our gross margin was impacted by the relative amount of net sales between
our business segments. The Sealy segment operates at a lower gross margin than
the Tempur North America and Tempur International segments. Our gross margin has
been negatively impacted as Sealy's net sales have increased as a percentage of
our consolidated net sales. Costs associated with net sales are recorded in cost
of sales and include the costs of producing, shipping, warehousing, receiving
and inspecting goods during the period, as well as depreciation and amortization
of long-lived assets used in this process. The principal factors impacting gross
profit and gross margin for each segment are discussed below in the respective
segment discussions.
Year ended December 31, 2012 compared to year ended December 31, 2011
Net sales decreased $15.0 million, or 1.1%. The decrease was due to a $40.4
million decrease in Tempur North America's net sales, which was partially offset
by a $25.4 million increase in Tempur International's net sales. Tempur North
America's net sales decline was attributed to increased competition in the
non-innerspring mattress category and led to several initiatives designed to
stabilize Tempur North America's net sales. Tempur International net sales
increased primarily in the Retail channel as a result of expanding points of
distribution and investments in our brand awareness.
Gross profit decreased $28.5 million, or 3.8%. Gross margin decreased 1.5%.
Tempur North America's gross profit decreased $50.5 million and gross margin
declined 3.1%. Tempur International's gross profit increased $22.0 million and
gross margin increased 1.6%. Our gross margin was impacted by the relative
amount of net sales between our business segments. Historically, our Tempur
North America gross margin has been lower than that of our Tempur International
segment, due in part to the royalty paid by the Tempur North America segment.
This intercompany royalty expense was $12.7 million and $12.3 million for the
years ended 2012 and 2011, respectively. Costs associated with net sales are
recorded in cost of sales and include the costs of producing, shipping,
warehousing, receiving and inspecting goods during the period, as well as
depreciation and amortization of long-lived assets used in this process. The
principal factors impacting gross profit and gross margin for each segment are
discussed below in the respective segment discussions.
OPERATING EXPENSESSelling and Marketing Expenses
Percentage
(in millions, except change 2013 vs. Percentage change
percentages) 2013 2012 2011 2012 2012 vs. 2011
Total selling and
marketing $ 522.9 $ 319.1 $ 276.9 63.9 % 15.2 %
As a percent of net
sales 21.2 % 22.7 % 19.5 % (1.5 )% 3.2 %
Advertising expenses 274.2 164.5 148.8 66.7 % 10.6 %
As a percent of net
sales 11.1 % 11.7 % 10.5 % (0.6 )% 1.2 %
Selling and
marketing other 248.7 154.6 128.1 60.9 % 20.7 %
As a percent of net
sales 10.1 % 11.0 % 9.0 % (0.9 )% 2.0 %
Selling and marketing expenses include advertising and media production
associated with our Direct channel, other marketing materials such as catalogs,
brochures, videos, product samples, direct customer mailings and point of
purchase materials, and sales force compensation. We also include in selling and
marketing expense certain new product development costs, including market
research and new product testing.
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Year ended December 31, 2013 compared to year ended December 31, 2012
Selling and marketing expenses increased $203.8 million, or 63.9%, and decreased
1.5% as a percentage of net sales. Our advertising expenses increased $109.7
million, or 66.7%, and remained relatively flat as a percentage of net sales.
Sealy's selling and marketing expenses were $204.5 million, including
advertising expenses of $124.8 million, for the post-acquisition period from
March 18, 2013 through December 31, 2013. The increase due to Sealy was offset
by decreased advertising expenses in our Tempur North America and Tempur
International segments. During the first half of 2013, we reduced our Tempur
North America advertising expense to align with Tempur North America's lower net
sales. Throughout the second half of 2013 we increased Tempur North America
advertising expenses and reintroduced the "Ask Me" campaign as part of our
strategic initiatives.
All other selling and marketing expenses increased $94.1 million, or 60.9%, and
decreased 0.9% as a percentage of net sales. Sealy's other selling and marketing
expenses was $79.6 million for the post-acquisition period from March 18, 2013
through December 31, 2013. In the current year, we also incurred $3.4 million of
other selling and marketing expenses related to the integration of Sealy. The
additional increase was due to costs associated with the growth in Tempur
International company-owned stores and e-commerce.
Year ended December 31, 2012 compared to year ended December 31, 2011
Selling and marketing expenses increased $42.2 million, or 15.2%, and increased
3.2% as a percentage of net sales. Our advertising expenses increased $15.7
million, or 10.6%, and increased 1.2% as a percentage of net sales. During 2012,
consistent with our strategy to align advertising expenses with net sales, we
made additional investments in advertising to increase brand awareness to drive
future growth in certain key Tempur North America and Tempur International
markets.
All other selling and marketing expenses increased $26.5 million, or 20.7%, and
increased 2.0% as a percentage of net sales. The increase was due to increases
in promotional related expenses of $11.8 million, costs associated with opening
additional company-owned stores of $5.0 million, salaries and associated expense
of $4.5 million related to additional headcount, and $1.1 million of
restructuring charges related to severance. This was offset by a benefit
recorded for our performance restricted share units ("PRSUs") of $2.3 million
following our re-evaluation of the probability of meeting certain required
financial metrics related to the grants.
General, Administrative and Other Expenses
(in millions, except Percentage change Percentage change
percentages) 2013 2012 2011 2013 vs. 2012 2012 vs. 2011
General,
administrative and
other expenses $ 266.3 $ 147.2 $ 125.7 80.9 % 17.1 %
As a percent of net
sales 10.8 % 10.5 % 8.9 % 0.3 % 1.6 %
General, administrative and other expenses include salaries and related
expenses, information technology, professional fees, depreciation of buildings,
furniture and fixtures, machinery, leasehold improvements and computer
equipment, expenses for administrative functions and research and development
costs.
Year ended December 31, 2013 compared to year ended December 31, 2012
General, administrative and other expenses increased $119.1 million, or 80.9%.
The increase was primarily due to the inclusion of Sealy's $97.3 million of
general, administrative and other expenses for the post-acquisition period from
March 18, 2013 through December 31, 2013. We also recorded additional expenses
of $10.8 million in professional fees related to the Sealy Acquisition and
integration of the business. Additionally, salaries and related expenses
increased $14.5 million, with the majority of the increase driven by increased
stock-based compensation expense. In 2012, we recorded a benefit of $8.0 million
for the PRSUs granted in 2011 and 2012 following the re-evaluation of the
probability of meeting certain required financial metrics related to the grants.
Research and development expenses for 2013 were $21.0 million compared to $15.6
million for 2012, an increase of $5.4 million, or 34.6%. We plan to continue to
invest in research and development to leverage the combined technologies of our
portfolio to deliver innovative products.
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Year ended December 31, 2012 compared to year ended December 31, 2011
General, administrative and other expenses increased $21.5 million, or 17.1%.
The increase was primarily a result of increased legal and professional fees of
$16.1 million, driven by transaction costs related to the Sealy Acquisition of
$8.9 million and integration costs of $2.2 million, along with an increase of
$5.0 million related to increased litigation costs and strategic initiatives.
During 2012, we also incurred an additional $5.2 million related to incremental
investments in information technology and associated depreciation expense. Also,
in 2011, we recorded a benefit for favorable settlements of indirect taxes with
certain regulatory authorities of $3.5 million that did not recur in 2012. These
increases were offset by an $8.0 million benefit recorded for PRSUs following
our re-evaluation of the probability of meeting certain required financial
metrics related to the grants. We expect general, administrative and other
expenses to continue to be impacted by transaction and integration costs related
to the proposed Sealy Acquisition.
Research and development expenses for 2012 were $15.6 million compared to $9.9
million for 2011, an increase of $5.7 million, or 57.6%.
OPERATING INCOME
(in millions, Percentage Percentage
except change 2013 vs. change 2012
percentages) 2013 2012 2011 2012 vs. 2011
Operating income $ 243.8 $ 248.3 $ 340.5 (1.8 )% (27.1 )%
Operating margin 9.9 % 17.7 % 24.0 % (7.8 )% (6.3 )%
Year ended December 31, 2013 compared to year ended December 31, 2012
Operating income decreased $4.5 million, or 1.8%, and was primarily impacted by
the factors discussed above. During the full year 2013, we also recorded royalty
income, net of royalty expense, of $13.7 million and equity income in earnings
of unconsolidated affiliates of $4.4 million. Our royalty income is based on
sales of Sealy® and Stearns & Foster® branded products by various licensees and
is offset by royalty expenses we pay to other entities for the use of their
names on our Sealy branded products. Our equity income in earnings of
unconsolidated affiliates represents our 50.0% interest in the earnings of our
Asia-Pacific joint ventures whose purpose is to develop markets for Sealy
branded products.
During the full year 2013, we incurred $18.7 million of transaction
expenses and $25.9 million of integration expenses in connection with the Sealy
Acquisition. During the full year 2012, we incurred $8.9 million of transaction
expenses and $3.7 million of integration expenses in connection with the Sealy
Acquisition.
Year ended December 31, 2012 compared to year ended December 31, 2011
Operating income decreased $92.2 million, or 27.1%, and was primarily impacted
by the factors discussed above.
INTEREST EXPENSE, NET
(in millions,
except Percentage change Percentage change
percentages) 2013 2012 2011 2013 vs. 2012 2012 vs. 2011
Interest
expense, net $ 110.8 $ 18.8 $ 11.9 489.4 % 58.0 %
Year ended December 31, 2013 compared to the year ended December 31, 2012
Interest expense, net, increased $92.0 million, or 489.4%. In 2013, we incurred
$19.9 million of incremental interest expense and fees on the Senior Notes and
2012 Credit Agreement for the period prior to March 18, 2013, commitment fees
associated with financing for the closing of the Sealy Acquisition, and write
off of deferred financing costs associated with the 2011 Credit Facility. In
addition, we incurred $8.7 million in prepayment fees related to the refinancing
of our Term B Facility in the second quarter of 2013. The remaining increase was
due to higher debt levels as a result of the Sealy Acquisition.
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Year ended December 31, 2012 compared to the year ended December 31, 2011
Interest expense, net, increased $6.9 million, or 58.0%. The increase in
interest expense was primarily attributable to an increase in our debt
outstanding as of December 31, 2012 compared to our debt outstanding as of
December 31, 2011 and an increase in our effective interest rate. Our debt
levels increased in anticipation of the Sealy Acquisition, which occurred on
March 18, 2013.
INCOME BEFORE INCOME TAXES
(in millions, Percentage Percentage
except change 2013 change 2012
percentages) 2013 2012 2011 vs. 2012 vs. 2011
Income before
income taxes $ 128.0 $ 229.2 $ 328.4 (44.2 )% (30.2 )%
Year ended December 31, 2013 compared to year ended December 31, 2012
Income before income taxes decreased $101.2 million, or 44.2%. This decrease was
a result of the factors discussed above.
Year ended December 31, 2012 compared to year ended December 31, 2011
Income before income taxes decreased $99.2 million, or 30.2%. This decrease was
a result of the factors discussed above.
INCOME TAXES
(in millions, Percentage
except change 2013 Percentage change
percentages) 2013 2012 2011 vs. 2012 2012 vs. 2011
Income tax $ 49.1 $ 122.4 $ 108.8 (59.9 )% 12.5 %
Effective tax
rate 38.4 % 53.4 % 33.1 % (15.0 )% 20.3 %
Income tax provision includes income taxes associated with taxes currently
payable and deferred taxes, and includes the impact of net operating losses for
certain of our foreign operations.
Year ended December 31, 2013 compared to year ended December 31, 2012
Our income tax provision decreased $73.3 million and our effective tax rate
decreased 15.0%. During 2012, we recorded $48.1 million of additional income tax
expense related to our undistributed earnings from non-U.S. operations, which
increased our effective tax rate by 21.0%. This was recorded as deferred income
tax expense in 2012 and a deferred tax liability at December 31, 2012. During
2013, we undertook a taxable transaction in which we recognized current taxable
income based on the earnings of certain of our foreign subsidiaries. The
resulting income tax payable was approximately $51.7 million. Consequently, we
reclassified the $48.1 million deferred tax liability recorded at December 31,
2012 to current tax payable at December 31, 2013 and recognized an incremental
$3.6 million current income tax expense in 2013.
Year ended December 31, 2012 compared to year ended December 31, 2011
Our income tax provision increased $13.6 million and our effective tax rate
increased 20.3%.We had made no historical provision for U.S. federal and/or
state income tax and foreign withholdings on our undistributed earnings from
non-U.S. operations because we intended to reinvest such earnings indefinitely
outside of the United States. During 2012, we changed the classification of our
undistributed earnings to reflect a change in management's strategic objectives
that could require the repatriation of foreign earnings. As a result of this
change, we recognized $48.1 million of additional income tax expense in 2012 to
record the applicable U.S. deferred income tax liability. We repatriated
non-U.S. cash holdings upon the closing of the proposed Sealy Acquisition.
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TEMPUR NORTH AMERICA SEGMENT SUMMARY
(in millions, Percentage Percentage
except change 2013 change 2012
percentages) 2013 2012 2011 vs. 2012 vs. 2011
Net sales $ 910.0 $ 964.3 $ 1,004.7 (5.6 )% (4.0 )%
Net sales by
channel:
Retail 845.6 876.5 917.6 (3.5 )% (4.5 )%
Direct 49.2 76.2 76.0 (35.4 )% 0.3 %
Other 15.2 11.6 11.1 31.0 % 4.5 %
Net sales by
product:
Bedding 830.4 882.3 916.7 (5.9 )% (3.8 )%
Other products 79.6 82.0 88.0 (2.9 )% (6.8 )%
Gross profit 392.7 449.2 499.8 (12.6 )% (10.1 )%
Gross margin 43.2 % 46.6 % 49.7 % (3.4 )% (3.1 )%
Operating income 67.6 144.4 236.9 (53.2 )% (39.0 )%
Operating Margin 7.4 % 15.0 % 23.6 % (7.6 )% (8.6 )%
Year ended December 31, 2013 compared to year ended December 31, 2012
Tempur North America net sales decreased $54.3 million, or 5.6%. The decline was
driven by a decrease in bedding net sales of $51.9 million, or 5.9%. Retail
channel net sales decreased $30.9 million, or 3.5%. Direct channel net sales
also decreased $27.0 million, or 35.4%. During the first half of 2013, Tempur
North America decreased advertising expenses to better align with lower net
sales. We believe this reduction in advertising had a negative impact on the
Retail and Direct channel net sales. Retail net sales decreased in the first
half of 2013 as compared to the prior year due to continued competition and
decreased advertising spend, but Retail net sales stabilized in the second half
of 2013 as we implemented additional strategic initiatives and increased our
investments in advertising. The Direct channel performance also declined
throughout 2013 due to lower direct to consumer advertising.
Operating income decreased $76.8 million, or 53.2%, and was primarily impacted
by the following factors:
• Gross profit decreased $56.6 million, or 12.6%. Gross margin decreased
3.4%. The decrease in gross margin was due to a 5.3% unfavorable product
mix, which includes the impact of initiatives implemented to drive net
sales growth. Unfavorable product mix was partially offset by a 2.2%
increase as a result of lower sourcing costs and improved supply chain and
manufacturing efficiencies.
• Operating expenses were $325.1 million for the full year 2013, as compared
to $304.8 million for the full year 2012, and increased 4.2% as a
percentage of net sales due to increased selling and marketing activities,
as well as professional fees and stock-based compensation expense incurred
following the Sealy Acquisition.
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Year ended December 31, 2012 compared to year ended December 31, 2011
Tempur North America net sales decreased $40.4 million, or 4.0%. The decline was
driven by a decrease in bedding net sales of $34.4 million, or 3.8%. Retail
channel net sales decreased $41.1 million, or 4.5%. Direct channel net sales
remained flat. The net sales decline was attributed to increased competition in
the non-innerspring mattress category and led to several initiatives designed to
stabilize Tempur North America's net sales. To drive growth in our Tempur North
America segment, we implemented various strategic initiatives, which included
new product introductions, wholesale mattress price reductions, extension of our
mattress warranty to 25 years, and various other initiatives to realign dealer
incentives. These initiatives were implemented during the second half of 2012.
Operating income decreased $92.5 million, or 39.0%, and was primarily impacted
by the following factors:
• Gross profit decreased $50.5 million, or 10.1%. Gross margin decreased
3.1%. The decrease in gross margin was due to a 1.7% decrease related to
additional promotions and discounts and new product introductions, a 1.4%
decrease related to unfavorable product mix and a 0.5% decrease due to
fixed cost de-leverage related to lower production volumes. These decreases were partially offset by a 0.5% increase related to sourcing
costs.
• Operating expenses were $304.8 million for the full year 2012, as compared
to $262.9 million for the full year 2011, and increased 5.5% as a
percentage of net sales. During 2012, we made additional investments in
advertising to increase brand awareness to drive growth in certain key Tempur North America markets. In addition, operating expenses increased as
a result of transaction costs incurred for the Sealy Acquisition.
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TEMPUR INTERNATIONAL SEGMENT SUMMARY
(in millions, Percentage Percentage
except change 2013 vs. change 2012
percentages) 2013 2012 2011 2012 vs. 2011
Net sales $ 439.6 $ 438.6 $ 413.2 0.2 % 6.1 %
Net sales by
channel:
Retail 344.3 351.5 328.0 (2.0 )% 7.2 %
Direct 49.5 37.0 24.1 33.8 % 53.5 %
Other 45.8 50.1 61.1 (8.6 )% (18.0 )%
Net sales by
product:
Bedding 327.7 332.4 309.8 (1.4 )% 7.3 %
Other products 111.9 106.2 103.4 5.4 % 2.7 %
Gross profit 269.8 265.2 243.3 1.7 % 9.0 %
Gross margin 61.4 % 60.5 % 58.9 % 0.9 % 1.6 %
Operating income 107.5 103.9 103.6 3.5 % 0.3 %
Operating margin 24.5 % 23.7 % 25.1 % 0.8 %
(1.4 )%
Year ended December 31, 2013 compared to year ended December 31, 2012
Tempur International net sales remained flat. On a constant currency basis (1),
our Tempur International net sales increased approximately 1.0%. Retail channel
net sales decreased $7.2 million, or 2.0%, primarily due to macroeconomic
pressure in Europe which was partially offset by growth in our Asia-Pacific and
Latin American businesses. Direct channel net sales increased $12.5 million, or
33.8%, due to expanding our points of distribution through an increase in the
number of company-owned stores and e-commerce.
Operating income increased $3.6 million, or 3.5%, and was primarily impacted by
the following factors:
• Gross profit increased $4.6 million, or 1.7%. Gross margin increased 0.9%.
The increase in gross margin was due to a 1.8% increase related to
favorable product mix and a 0.9% decrease related to floor model discounts
for new product introductions.
• Operating expenses were $162.3 million for the full year 2013 and $161.3
million for the full year 2012, remaining flat as a percentage of net
sales.
(1) The references to "constant currency basis" in this Management Discussion
& Analysis do not include operational impacts that could result from
fluctuations in foreign currency rates. Certain financial results are
adjusted based on a simple mathematical model that translates current
period results in local currency using the comparable prior year period's
currency conversion rate. This approach is used for countries where the
functional currency is the local country currency. This information is
provided so that certain financial results can be viewed without the impact of fluctuations in foreign currency rates, thereby facilitating
period-to-period comparisons of business performance. Refer to ITEM 7A
under Part II of this Report.
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Year ended December 31, 2012 compared to year ended December 31, 2011
Tempur International net sales increased $25.4 million, or 6.1%. On a constant
currency basis (1), our Tempur International net sales increased approximately
11.3%. Retail channel net sales increased $23.5 million, or 7.2%, primarily due
to expanding points of distribution and investments in our brand awareness. As a
result, bedding net sales increased $22.6 million, or 7.3%.
Operating income increased $0.3 million, or 0.3%, and was primarily impacted by
the following factors:
• Gross profit increased $21.9 million, or 9.0%. Gross margin increased
1.6%. The increase in gross margin was due to a 1.3% increase driven by
efficiencies in manufacturing and fixed cost leverage related to higher
production volumes, as well as a 0.3% increase driven by costs associated
with an information technology upgrade at our manufacturing facility in
Denmark during 2011 that did not recur in 2012.
• Operating expenses were $161.3 million for the full year 2012, as compared
to $139.7 million for the full year 2011, and increased 3.0% as a
percentage of net sales. During 2012, we made additional investments in
advertising to increase brand awareness to drive growth in certain key
Tempur International markets.
(1) The references to "constant currency basis" in this Management Discussion
& Analysis do not include operational impacts that could result from
fluctuations in foreign currency rates. Certain financial results are
adjusted based on a simple mathematical model that translates current
period results in local currency using the comparable prior year period's
currency conversion rate. This approach is used for countries where the
functional currency is the local country currency. This information is
provided so that certain financial results can be viewed without the impact of fluctuations in foreign currency rates, thereby facilitating
period-to-period comparisons of business performance. Refer to ITEM 7A
under Part II of this Report.
SEALY SEGMENT SUMMARY
(in millions, Percentage Percentage
except change 2013 vs. change 2012 vs.
percentages) 2013 2012 2011 2012 2011
Net sales $ 1,114.7 $ - $ - - % - %
Net sales by
channel:
Retail 1,041.4 - - - % - %
Direct 20.5 - - - % - %
Other 52.8 - - - % - %
Net sales by
product:
Bedding 1,040.3 - - - % - %
Other products 74.4 - - - % - %
Gross profit 352.4 - - - % - %
Gross margin 31.6 % - % - % - % - %
Operating income 68.7 - - - % - %
Operating margin 6.2 % - % - % - % - %
Sealy's results are only presented for the post-acquisition period from March
18, 2013 to December 31, 2013.
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Liquidity and Capital Resources
Liquidity
Our principal sources of funds are cash flows from operations, borrowings made
pursuant to our credit facilities and cash and cash equivalents on hand.
Principal uses of funds consist of payments of principal and interest on our
debt facilities, business combinations, capital expenditures and working capital
needs. At December 31, 2013, we had working capital of $286.0 million, including
cash and cash equivalents of $81.0 million as compared to working capital of
$611.9 million including $179.3 million in cash and cash equivalents as of
December 31, 2012. Working capital as of December 31, 2012 included a $375.0
million receivable from escrow account that was funded with the issuance of
proceeds of the Senior Notes. This escrow was released at the closing of the
Sealy Acquisition and was used to fund a portion of the purchase price cash
consideration. This decrease was primarily offset by the assumption of working
capital due to the Sealy Acquisition.
The table below presents net cash provided by (used in) operating, investing and
financing activities for the full years 2013, 2012 and 2011.
(in millions) 2013 2012 2011
Net cash provided by (used in):
Operating activities $ 98.5 $ 189.9 $ 248.7
Investing activities (1,213.0 ) (55.0 ) (36.1 )
Financing activities 1,013.4 (70.8 ) (148.9 )
Cash provided by operating activities decreased $91.4 million to $98.5 million
for the year ended December 31, 2013, as compared to $189.9 million for the same
period in 2012. The decrease in cash provided by operating activities was due to
a decrease in net income of $27.9 million, which was primarily impacted in 2013
by transaction, integration and other expenses related to the Sealy Acquisition
and partially offset by Sealy net income. Our cash flow provided by operating
activities was also impacted by decreases due to income tax payments associated
with the repatriation of cash of our non-U.S. subsidiaries resulting from the
Sealy Acquisition and other working capital changes during the year ended
December 31, 2013. Inventories used cash primarily due to new product launches
scheduled for 2014 in our Tempur North America and Sealy segments, which was
offset by cash provided from accounts payable. Prepaid expenses and other
current assets provided cash due primarily to the return of prepaid interest
associated with our Senior Notes. Accounts receivable used cash due primarily to
timing of payments from our customers.
Cash used by investing activities increased to $1,213.0 million for the year
ended December 31, 2013 as compared to $55.0 million for the year ended December
31, 2012, an increase of $1,158.0 million. This increase is due to the Sealy
Acquisition. Refer to Note 2, "Business Combination", in our Consolidated
Financial Statements included in Part II, ITEM 8 for further discussion of the
Sealy Acquisition.
Cash provided by financing activities was $1,013.4 million for the year ended
December 31, 2013 as compared to $70.8 million for the year ended December 31,
2012. This increase is primarily due to new debt facilities put in place in
December 2012 in anticipation of the Sealy Acquisition, which provided $375.0
million from our Senior Notes and $1,525.0 million from our 2012 Credit
Agreement and was funded in connection with the closing of the Sealy Acquisition
on March 18, 2013. Proceeds from the Senior Notes and 2012 Credit Agreement were
used for the Sealy Acquisition and to repay the 2011 Credit Facility outstanding
balance of $696.5 million. During 2013, we also repriced certain portions of the
2012 Credit Agreement. On May 16, 2013, we completed a repricing of our Term B
Facility under the 2012 Credit Agreement, and this repricing was effected
through a full repayment of $867.8 million and new borrowing of $742.8 million
at the new lower interest rate. On July 11, 2013, we completed a repricing of
our Term A Facility under the 2012 Credit Agreement, and this repricing was
effected through a full repayment of $536.3 million and new borrowing of $536.3
million at the new lower interest rate. Additional borrowings made pursuant to
the 2012 Credit Agreement in the year ended December 31, 2013 also provided
$178.5 million and were used primarily to fund capital expenditures and our
working capital needs. Additional repayments made pursuant to the 2012 Credit
Agreement in the current period were $204.0 million and were funded by operating
activities. Refer to Note 5, "Debt", in our Consolidated Financial Statements
included in Part II, ITEM 8 for further discussion of our debt.
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Capital Expenditures
Capital expenditures totaled $40.0 million for the year ended December 31, 2013
and $50.5 million for the year ended December 31, 2012. Capital expenditures in
2013 were lower than expected due to the integration focus of our business.
Capital expenditures in 2012 included the new corporate headquarters in
Lexington, Kentucky. We currently expect our 2014 capital expenditures to be
approximately $65.0 million, and relate to continued strategic investments which
we believe will support our future plans.
Non-GAAP Financial Information
We provide information regarding earnings before interest, taxes, depreciation
and amortization ("EBITDA"), adjusted EBITDA, consolidated funded debt less
qualified cash, adjusted net income and adjusted earnings per share, which are
not recognized terms under U.S. GAAP and do not purport to be alternatives to
net income as a measure of operating performance or total debt. Because not all
companies use identical calculations, these presentations may not be comparable
to other similarly titled measures of other companies. A reconciliation of our
adjusted earnings per share is provided below. We believe that the use of this
non-GAAP financial measure provides investors with additional useful information
with respect to the impact of transaction and integration costs, and interest
expense incurred related to the Sealy Acquisition. A reconciliation of our net
income to EBITDA and adjusted EBITDA and a reconciliation of total debt to
consolidated funded debt less qualified cash are also provided below. We believe
the use of these non-GAAP financial measures provides investors with additional
useful information with respect to our debt agreements and our compliance with
the related debt covenants.
Reconciliation of net income to adjusted net income
The following table sets forth the reconciliation of our reported net income to
the calculation of adjusted net income for the year ended December 31, 2013 and
2012, respectively:
Year Ended Year Ended
December 31, December 31,
(in millions, except per share amounts) 2013 2012
Net income $ 78.6 $ 106.8
Plus:
Transaction costs, net of tax (2) 13.2 6.7
Integration costs, net of tax (1) 37.2 2.5
Long term debt refinance, net of tax (2) 6.5 -
Adjustment of taxes to normalized rate (3) 10.9 -
Tax provision related to repatriation of foreign earnings(4) - 48.1
Adjusted net income $ 146.4 $ 164.1
Earnings per share, diluted $ 1.28 $ 1.70
Transaction costs, net of tax (1) 0.21 0.11
Integration costs, net of tax (1) 0.60 0.04
Long term debt refinance, net of tax (2) 0.11 -
Adjustment of taxes to normalized rate (3) 0.18 -
Tax provision related to repatriation of foreign earnings (4) - 0.76
Adjusted earnings per share, diluted $ 2.38 $ 2.61
Diluted shares outstanding 61.6 62.9
(1) Transaction and integration represents costs, including legal fees,
professional fees and other charges to align the businesses related to the
Sealy Acquisition.
(2) Refinance costs represents the interest fees incurred in connection with
the refinancing of the Term A Facility which occurred in July 2013.
(3) Adjustment of taxes to normalized rate represents adjustments associated
with the tax impacts of transaction costs.
(4) Represents tax provision recorded in connection with the repatriation of
foreign earnings related to the Sealy Acquisition.
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Debt Service
Our debt increased to $1,836.5 million as of December 31, 2013 from $1,025.0
million as of December 31, 2012. Our debt as of December 31, 2012 included
$375.0 million of Senior Notes issued in December 2012 to finance a portion of
the cost of the Sealy Acquisition. The increase in debt is due to funding of the
2012 Credit Agreement in conjunction with the closing of the Sealy Acquisition,
partially offset by the payoff of the remaining balance under the 2011 Credit
Facility. After giving effect to $74.5 million in borrowings under the revolver
portion of the 2012 Credit Agreement and letters of credit outstanding of $22.9
million, total availability under the revolver was $252.6 million as of December
31, 2013. Refer to Note 5, "Debt", in our Consolidated Financial Statements
included in Part II, ITEM 8 for further discussion of our debt.
As of December 31, 2013, we were in compliance with all of the financial
covenants in our debt agreements. The table below sets forth the calculation of
our compliance with the covenant in the 2012 Credit Agreement that requires that
we maintain a ratio of less than 5.25 times of consolidated funded debt less
qualified cash to adjusted EBITDA from October 1, 2013 through December 31,
2013. During 2014, we are required to maintain this ratio at less than: 5.00
times through March 31, 2014; 4.75 times through June 30, 2014; and 4.50 times
through December 31, 2014. Both consolidated funded debt and adjusted EBITDA are
terms that are not recognized under U.S. GAAP and do not purport to be
alternatives to net income as a measure of operating performance or total debt.
Under the terms of our consolidated interest coverage ratio covenant, we are
required to maintain a ratio greater than 3.00 times adjusted EBITDA to adjusted
interest expense. As of December 31, 2013, our consolidated interest coverage
ratio was 4.0 times. In the first quarter of 2014, we will be required to pay
$21.9 million as a result of the covenant in the 2012 Credit Agreement that
requires we make prepayments based on excess cash flow amounts.
Reconciliation of net income to EBITDA and adjusted EBITDA
The following table sets forth the reconciliation of our reported net income to
the calculation of EBITDA for the year ended December 31, 2013:
Year Ended
December 31,
(in millions) 2013
Net income attributable to Tempur Sealy International, Inc. $ 75.6
Interest expense 133.2
Income taxes 39.0
Depreciation & amortization 98.6
EBITDA $ 346.4
Adjustments for financial covenant purposes:
Transaction costs (1) 25.2
Integration costs (1) 15.3
Refinancing charges (2) 2.4
Non-cash compensation (3) 5.8
Restructuring and impairment related charges (4) 7.8
Discontinued operations (5) 0.6
Other 7.6
Adjusted EBITDA $ 411.1
(1) Transaction and integration represent costs related to the Sealy
Acquisition, including legal fees, professional fees and costs to align
the businesses.
(2) Refinancing charges represent costs associated with debt refinanced by
Sealy prior to the Sealy Acquisition.
(3) Non-cash compensation represent costs associated with various share-based
awards.
(4) Restructuring and impairment represent costs related to restructuring the
Tempur Sealy business and asset impairment costs recognized by Sealy prior
to the Sealy Acquisition.
(5) Discontinued operations represent losses from Sealy's divested operation
prior to the Sealy Acquisition.
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Reconciliation of long-term debt to consolidated funded debt less qualified cash
The following table sets forth the reconciliation of our reported debt to the
calculation of consolidated funded debt less qualified cash as of December 31,
2013. "Consolidated funded debt" and "qualified cash" are terms used in our 2012
Credit Agreement for purposes of certain financial covenants.
(in millions, except ratio) As of December 31, 2013
Total debt $ 1,836.5
Plus:
Letters of credit outstanding 22.9
Consolidated funded debt 1,859.4
Less:
Domestic qualified cash (1) $ 30.9
Foreign qualified cash (1) $ 30.1
Consolidated funded debt less qualified cash $ 1,798.4
(1) Qualified cash as defined in the credit agreement equals 100.0% of
unrestricted domestic cash plus 60.0% of unrestricted foreign cash. For
purposes of calculating leverage ratios, qualified cash is capped at
$150.0 million.
Calculation of consolidated funded debt less qualified cash to Adjusted EBITDA
The following table calculates our consolidated funded debt less qualified cash
to adjusted EBITDA as of December 31, 2013:
(in millions) As of December 31, 2013
Consolidated funded debt less qualified cash $ 1,798.4
Adjusted EBITDA 411.1
4.4 times
(1) The ratio of consolidated debt less qualified cash to adjusted EBITDA was
4.4 times, within our covenant, which requires this ratio be less than
5.25 times from October 1, 2013 through December 31, 2013.
Stockholders' Equity
Share Repurchase Program.
During 2013, we did not repurchase any shares of our common stock, and we do not
expect that we will complete any additional share repurchases for the
foreseeable future. During 2012, we purchased 5.0 million shares of our common
stock for a total cost of $150.0 million pursuant to authorizations made by our
Board of Directors. On January 23, 2012, our Board of Directors terminated the
existing authority under the July 2011 authorization, as amended in October
2011, and approved a new share repurchase authorization of up to $250.0 million
of our common stock. Share repurchases under this authorization may be made
through open market transactions, negotiated purchases or otherwise, at times
and in such amounts as management and a committee of the Board deem appropriate;
these repurchases may be funded by operating cash flows and/or borrowings under
our debt arrangements. This share repurchase program may be limited, suspended
or terminated at any time without notice.
Future Liquidity Sources
Our primary sources of liquidity are cash flow from operations and borrowings
under our debt facilities. We expect that ongoing requirements for debt service
and capital expenditures will be funded from these sources. As of December 31,
2013, we had $1,836.5 million in total debt outstanding, and our stockholders'
equity was $118.6 million. Our debt service obligations could, under certain
circumstances, have material consequences to our security holders. Total cash
interest payments related to our borrowings is expected to be
approximately $75.0 million in 2014. Interest expense in the periods presented
also includes non-cash amortization of deferred financing costs and accretion on
the 8.0% Sealy Notes.
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In connection with the income tax assessments from the Danish Tax Authority
("SKAT") with respect to the tax years 2001 through 2007 relating to the royalty
paid by one of Tempur Sealy International's U.S. Subsidiaries, we were notified
that SKAT has granted the deferral to 2017 of the requirement to post a cash
deposit or other form of security for taxes that have been assessed for the
period 2001 through 2007. The cumulative total tax assessment for all years is
approximately $206.1 million including interest and penalties. We are currently
contesting the matter through the Danish National Tax Tribunal. Refer to Note
13, "Income Taxes" in our Consolidated Financial Statements included elsewhere
in this Report for further discussion of the matter.
As of December 31, 2013, the fair value of the 8.0% Sealy Notes was $99.9
million, which includes $3.7 million of accreted discount. As of December 31,
2013, the 8.0% Sealy Notes had a carrying value of $99.6 million, which includes
$3.7 million of accreted discount less conversion payments made to holders of
certain 8.0% Sealy Notes that were tendered for conversion. Holders of the 8.0%
Sealy Notes may choose to convert to cash the amount outstanding at their
discretion prior to maturity. Upon conversion prior to maturity, we would be
required to pay the holders within 3 business days after the receipt of the
notice of conversion. The conversion of the 8.0% Sealy Notes prior to maturity
could have a significant impact on our liquidity.
During the second quarter of 2013, we received $92.7 million in funds from an
escrow receivable related to that portion of the 8.0% Sealy Notes which were not
converted during the Make-Whole Period, which ended April 12, 2013. We used
these funds to reduce our outstanding debt under the 2012 Credit Agreement.
We improved our capital structure in the second quarter of 2013 by repricing the
Term B Facility of our 2012 Credit Agreement. Additionally, we made a prepayment
of $125.0 million on the Term B Facility. Because a smaller amount of 8.0% Sealy
Notes were converted than originally anticipated, we require less debt under our
2012 Credit Agreement than we had originally anticipated when we arranged the
financing for the Sealy Acquisition. During the third quarter of 2013, the
favorable interest rate environment provided us with an attractive opportunity
to reprice the Term A Facility of our 2012 Credit Agreement. As a result of the
repricing, current interest rates on the Term A Facility have been reduced by 75
basis points. We believe that these repricings and the lower debt levels will
reduce our estimated annual interest expense. We expect that the fees associated
with these repricings
will have a payback period of less than one year.
Based upon the current level of operations, we believe that cash generated from
operations and amounts available under our 2012 Credit Agreement will be
adequate to meet our anticipated debt service requirements, capital
expenditures, share repurchases, and working capital needs for the foreseeable
future. There can be no assurance, however, that our business will generate
sufficient cash flow from operations or that future borrowings will be available
under facilities or otherwise enable us to
service our indebtedness or to make anticipated capital expenditures.
At December 31, 2013, total cash and cash equivalents were $81.0 million, of
which $30.9 million was held in the U.S. and $50.1 million was held by
subsidiaries outside of the U.S. The Company repatriated $130.0 million of
foreign cash during the year ended December 31, 2013. The amount of cash and
cash equivalents held by subsidiaries outside of the U.S. and not readily
convertible into other major foreign currencies, or the U.S. Dollar, is not
material to our overall liquidity or financial position. At December 31, 2013,
the tax basis of the Company's investment in its foreign subsidiaries exceeds
the Company's book basis. Accordingly, no deferred taxes have been recorded
related to this basis difference as it is not apparent that the difference will
reverse in the foreseeable future.
Off-Balance Sheet Arrangements
We occupy premises and utilize equipment under operating leases that expire at
various dates through 2043. In accordance with generally accepted accounting
principles, the obligations under those leases are not recorded on our balance
sheet. Many of these leases provide for payment of certain expenses and contain
renewal and purchase options. During the year ended December 31, 2013, we
recognized lease expenses of $12.1 million.
We are involved in a group of joint ventures to develop markets for Sealy
branded products around the world. These joint ventures are not considered to be
variable interest entities and are therefore not consolidated for financial
statement purposes. We account for our interest in the joint ventures under the
equity method, and our net investment of $4.4 million is recorded as a component
of other non-current assets within the Consolidated Balance Sheet at
December 31, 2013. We believe that any possible commitments arising from these
joint ventures will not be significant to our consolidated financial position or
results of operations.
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Contractual Obligations
Our contractual obligations and other commercial commitments as of December 31,
2013 are summarized below:
(in millions) Payment Due By Period
Contractual After Total
Obligations 2014 2015 2016 2017 2018 2018 Obligations
Senior Notes $ - $ - $ - $ - $ - $ 375.0 $ 375.0
Revolving Credit
Facility - - - - - 350.0 350.0Term A Facility 27.5 55.0 55.0 55.0 330.0
- 522.5
Term B Facility 7.4 7.4 7.4 7.4 7.4 700.3 737.3
Sealy 8.0% Notes - - - - - - 0.0
Letters of Credit 22.9 - - - - - 22.9
Interest payments
(1) 76.4 75.0 73.1 70.6 61.2 71.7 428.0
Operating leases 8.9 5.5 5.0 2.9 2.5
5.9 30.7
Capital leases 4.7 4.7 4.3 4.3 2.6 1.5 22.1
Total $ 147.8 $ 147.6 $ 144.8 $ 140.2 $ 403.7 $ 1,504.4 $ 2,488.5
(1) Represents interest payments under our debt agreements outstanding as of
December 31, 2013, assuming debt outstanding as of the end of 2013 is not
repaid until debt matures.
Critical Accounting Policies and Estimates
Our management is responsible for our financial statements and has evaluated the
accounting policies to be used in their preparation. Our management believes
these policies are reasonable and appropriate. The following discussion
identifies those accounting policies that we believe are critical in the
preparation of our financial statements, the judgments and uncertainties
affecting the application of those policies and the possibility that materially
different amounts will be reported under different conditions or using different
assumptions.
The preparation of financial statements in conformity with U.S. GAAP requires
that management make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of commitments and contingencies at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Our actual results could differ from those
estimates.
Revenue Recognition. Sales of product are recognized when persuasive evidence of
an arrangement exists, title passes to customers and the risks and rewards of
ownership are transferred, the sales price is fixed or determinable, and
collectability is reasonably assured. We extend volume discounts to certain
customers and reflect these amounts as a reduction of net sales.
Our estimates of sales returns are a critical component of our revenue
recognition. We recognize sales, net of estimated returns, when the risks and
rewards of ownership are transferred to our customers. Estimated sales returns
are provided at the time of sale, based on our level of historical sales
returns. We allow returns following a sale, depending on the channel and
promotion. Our level of sales returns differs by channel, with our Direct
channel typically experiencing the highest rate of returns. Our level of returns
has been consistent with our estimates and prior years.
We do not recognize revenue unless collectability is reasonably assured at the
time of sale. We extend credit based on the creditworthiness of our customers,
and generally no collateral is required at the time of sale. Our allowance for
doubtful accounts is our best estimate of the amount of probable credit losses
in our existing accounts receivable. We regularly review the adequacy of our
allowance for doubtful accounts. We determine the allowance based on historical
write-off experience and current economic conditions and also consider factors
such as customer credit, past transaction history with the customer and changes
in customer payment terms when determining whether the collection of a
receivable is reasonably assured. Historically, less than 1.0% of net sales
ultimately prove to be uncollectible. Account balances are charged off against
the allowance after all reasonable means of collection have been exhausted and
the potential for recovery is considered remote.
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Business Combinations. Accounting for acquisitions requires us to recognize
separately from goodwill the assets acquired and the liabilities assumed at
their acquisition date fair values. Goodwill as of the acquisition date is
measured as the excess of consideration transferred over the net of the
acquisition date fair values of the assets acquired and the liabilities assumed.
While we use our best estimates and assumptions to accurately value assets
acquired and liabilities assumed at the acquisition date as well as contingent
consideration, where applicable, our estimates are inherently uncertain and
subject to refinement. As a result, during the measurement period, which may be
up to one year from the acquisition date, we record adjustments to the assets
acquired and liabilities assumed with the corresponding offset to goodwill. Upon
the conclusion of the measurement period or final determination of the values of
assets acquired or liabilities assumed, whichever comes first, any subsequent
adjustments are recorded to our consolidated statements of operations. Refer to
Note 2, "Business Combination", in our Consolidated Financial Statements
included in Part II, ITEM 8 of this Report for a discussion of the Sealy
Acquisition.
Cooperative Advertising, Rebate and Other Promotional Programs. We enter into
agreements with our customers to provide funds for advertising and promotion of
our products. We also enter into volume and other rebate programs with our
customers. When sales are made to these customers, we record liabilities
pursuant to these agreements. We periodically assess these liabilities based on
actual sales and claims to determine whether all of the cooperative advertising
earned will be used by the customer or whether the customers will meet the
requirements to receive rebate funds. We generally negotiate these agreements on
a customer-by-customer basis. Some of these agreements extend over several
periods. Significant estimates are required at any point in time with regard to
the ultimate reimbursement to be claimed. Subsequent revisions to such estimates
are recorded and charged to earnings in the period in which they are identified.
Rebates and cooperative advertising are classified as a reduction of revenues
and presented within net sales on the accompanying Consolidated Statements of
Income. Certain cooperative advertising expenses are reported as a component of
selling and marketing expenses in the accompanying Consolidated Statements of
Income because we receive an identifiable benefit and the fair value of the
advertising benefit can be reasonably estimated.
Warranties. Cost of sales includes estimated costs to service warranty claims.
Our estimate is based on our historical claims experience and extensive product
testing that we perform from time to time. We provide warranties ranging from 10
to 25 years for mattresses and 3 years for pillows. Because the majority of our
products have not been in use by our customers for the full warranty period, we
rely on the combination of historical experience and product testing for the
development of our estimate for warranty claims. Our estimate of warranty claims
could be adversely affected if our historical experience differs materially from
the performance of the product in our product testing. Estimated future
obligations related to these products are provided by charges to operations in
the period in which the related revenue is recognized.
Long-Lived Assets. The cost of plant and equipment is depreciated by the
straight-line method over the estimated useful lives of the assets. Useful lives
are based on historical experience and are adjusted when changes in planned use,
technological advances or other factors show that a different life would be more
appropriate. Such costs are periodically reviewed for recoverability when
impairment indicators are present. Such indicators include, among other factors,
operating losses, unused capacity, market value declines and technological
obsolescence. Recorded values of property, plant and equipment that are not
expected to be recovered through undiscounted future net cash flows are written
down to current fair value, which generally is determined from estimated
discounted future net cash flows (assets held for use) or net realizable value
(assets held for sale).
Goodwill and intangible assets with indefinite lives are subject to an annual
impairment test as of October 1 and whenever events or circumstances make it
more likely than not that impairment may have occurred. Such tests are completed
separately with respect to the goodwill of each of our reporting units. Because
market prices of our reporting units are not readily available, we make various
estimates and assumptions in determining the estimated fair values of those
units. Fair value is based on a discounted cash flow approach, with an
appropriate risk adjusted discount rate, and a market approach. Significant
assumptions inherent in the methodologies are employed and include such
estimates as discount rates, growth rates and the selection of peer company
multiples. The use of alternative estimates or adjusting the discount rate could
affect the estimated fair value of the assets and potentially result in
impairment.
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We have determined that our reporting units for allocation of goodwill are our
Tempur North America, Tempur International and Sealy operating segments. In
conducting the impairment test for the Tempur North America and Tempur
International operating segments, the fair value of each of the Company's
reporting units is compared to its respective carrying amount including
goodwill. The most recent annual impairment tests performed as of October 1,
2013, indicated that the fair values of each of our reporting units and trade
names (which has an indefinite life) were substantially in excess of their
carrying values. Despite that excess, however, impairment charges could still be
required if a divestiture decision were made or other significant economic event
were made or occurred with respect to one of our reporting units. Subsequent to
our October 1, 2013 annual impairment test, no indications of an impairment were
identified. We performed a qualitative analysis of our Sealy operating segment
which considered indicators of impairment to evaluate whether the fair value was
more-likely-than-not in excess of its carrying value. The key indicators
considered include macroeconomic conditions, industry/market considerations,
financial performance, cash flow, changes in management, and composition of net
assets.
Income Taxes. Accounting for income taxes requires recognition of deferred tax
liabilities and assets for the expected future tax consequences of events that
have been included in the financial statements or tax returns. Under this
method, deferred tax assets and liabilities are determined based on the
difference between the financial statement and tax bases of assets and
liabilities. These deferred taxes are measured by applying the provisions of tax
laws in effect at the balance sheet date.
We recognize deferred tax assets in our Consolidated Balance Sheets, and these
deferred tax assets typically represent items deducted currently from operating
income in the financial statements that will be deducted in future periods in
tax returns. A valuation allowance is recorded against certain deferred tax
assets to reduce the consolidated deferred tax asset to an amount that will,
more likely than not, be realized in future periods. The valuation allowance is
based, in part, on our estimate of future taxable income, the expected
utilization of foreign and state tax loss carryforwards, and credits and the
expiration dates of such tax loss carryforwards. Significant assumptions are
used in developing the analysis of future taxable income for purposes of
determining the valuation allowance for deferred tax assets which, in our
opinion, are reasonable under the circumstances. At December 31, 2013, we have
provided valuation allowances for substantially all subsidiaries in a cumulative
three year loss position.
Our consolidated effective tax rate and related tax reserves are subject to
uncertainties in the application of complex tax regulations from numerous tax
jurisdictions around the world. We recognize liabilities for anticipated taxes
in the U.S. and other tax jurisdictions based on our estimate of whether, and
the extent to which, taxes are and could be due. This liability is estimated
based on a prescribed recognition threshold and measurement attributes for the
financial statement recognition and measurements of a tax position taken or
expected to be taken in a tax return. The resolution of tax matters for an
amount that is different than the amount reserved would be recognized in our
effective tax rate during the period in which such resolution occurs.
Impact of Recently Issued Accounting Pronouncements
Refer to ITEM 8 under Part II of this Report for a full description of recent
accounting pronouncements, including the expected dates of adoption and
estimated effects on results of operations and financial condition, which is
incorporated herein by reference.
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