Tempur-Pedic Earnings: Investors Can Rest Easy

Small Cap and Mid Cap Watch List member Tempur-Pedic International Inc. (TPX), the leading manufacturer, marketer and distributor of premium mattresses and pillows worldwide, announced earnings for the first quarter and increased full year 2007 earnings per share guidance.

FIRST QUARTER 2007 FINANCIAL SUMMARY

• Earnings per share (EPS) increased 21% to $0.35 per diluted share in the first quarter of 2007 as compared to $0.29 per diluted share in the first quarter of 2006.
• Net sales rose 16% to $266.0 million in the first quarter of 2007 from $228.6 million in the first quarter of 2006.

Consensus estimates called for $0.34 in EPS on sales of $262 million. Estimates for the full year were for $1.52 on sales of $1.06 billion, which the company’s guidance beat soundly:

The Company continues to expect full year 2007 net sales to range from $1.04 billion to $1.07 billion, an increase of 10% to 13% over 2006. The Company increased its full year 2007 guidance for diluted earnings per share only to reflect shares repurchased in the first quarter of 2007, interest expense on associated borrowings and a slightly lower tax rate as compared to prior expectations. Compared to the Company’s previous guidance of $1.50 to $1.54, the Company currently expects diluted earnings per share for 2007 to range from $1.54 to $1.58.

It is interesting to note that the company did not raise guidance for operational factors, given they appear to have overcome their previous manufacturing issues:

“Our new manufacturing facility in Albuquerque experienced a smooth start- up and production ramped up ahead of our expectations. However, we believe our first quarter results were somewhat moderated by limitations on U.S. capacity and certain non-recurring charges. Throughout much of the first quarter, our U.S. business experienced mattress shortages resulting from strong consumer demand, low levels of inventory at the beginning of the year and capacity constraints. In addition, in order to minimize backorders for our existing retail partners, we limited the opening of new accounts such that our total U.S. door count is unchanged from the prior quarter.

“By late March, the Albuquerque plant had considerably expanded its throughput which allowed us to build inventory and eliminate backorders. As a result, we believe we have ample levels of mattress inventory and capacity to meet U.S. demand going forward.

Looking at the financial statements, we are a little concerned about the large increase in prepaid expenses and other assets, which Financial Shenanigans: How to Detect Accounting Gimmicks & Fraud in Financial Reports, Second Edition considers to be a warning sign of possible earnings management. Inventory also rose faster than sales, but given the production shortages earlier in the year the previous inventory levels were likely too low. These and other changes in working capital caused cash flow from operations to decline 45% in the first quarter compared to last year’s number despite the increase in net income.

Given Tempur-Pedic’s recent successes and the inherent volatility of quarterly cash flows, we are willing to give them the benefit of the doubt, though we will monitor the cash flow closely in future quarters to be on the safe side.

TPX 1-yr chart: