Mattress Firm Holding (MFRM) CEO Steve Stagner on Q4 2014 Results - Earnings Call Transcript

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Mattress Firm Holding Corp. (MFRM) Q4 2014 Earnings Conference Call March 19, 2015 5:00 PM ET

Executives

Steve Stagner - Chief Executive Officer

Alex Weiss - Chief Financial Officer

Brad Cohen - ICR

Analysts

Peter Keith - Piper Jaffray

Brad Thomas - KeyBanc Capital Markets

Max Aggrey - UBS

Budd Bugatch - Raymond James

Keith Hughes - Suntrust

Joshua Borstein - Longbow Research

Daniel Hofkin - William Blair & Company

Jessica Mace - Nomura

Sam Reid - Barclays

Operator

Greetings, and welcome to the Mattress Firm, Fourth Quarter and Full Year Fiscal 2014 Earnings Conference Call.

At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Mr. Brad Cohen from ICR. Thank you, Brad. You may now begin.

Brad Cohen

Thank you operator. Good afternoon. Thank you for joining us today for Mattress Firm’s fourth quarter and full year fiscal 2014 financial results conference call.

Let me remind you that certain comments made during the call today may constitute forward-looking statements made in, and pursuant to, and within the meaning of the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995 as amended.

Such forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from such statements. Those risks and uncertainties are described in the press release and Mattress Firm’s latest filings with the Securities and Exchange Commission. The forward-looking statements made today are as of the date of this call, and the company does not undertake any obligation to update those forward-looking statements.

Also during the call today the company may be discussing adjusted EBITDA or EBITDA, which are non-GAAP financial measures. Please see the company’s press release and filings for a reconciliation to net income, the most comparable GAAP measure. If you do not have a copy of today’s press release, you may obtain one by linking to the Investor Relations page of the company’s website at www.mattressfirm.com.

I would now like to introduce the management team of Mattress Firm, Mr. Steve Stagner, Chief Executive Officer; and Mr. Alex Weiss, Chief Financial Officer. Management will make some comments and then be available for your questions.

With that, I will turn the call over to Mr. Steve Stagner. Steve?

Steve Stagner

Thank you, Brad and good afternoon. I’d like to welcome everyone to this conference call, where we will share highlights of our fourth quarter and full year 2014 performance and provide an update on the progress of our recent acquisitions and recent trends. I am joined this afternoon by Alex Weiss, our CFO who will provide a more detailed review of the fourth quarter and full year 2014, as well as provide guidance for 2015.

2014 was an exceptional year for Mattress Firm, highlighted by a strong net sales increase of over 48%, including comparable store sales growth of 6.1%. Additionally we experienced solid growth in adjusted EBITDA of approximately 36% to over $190 million. These strong operational results were driven by the combination of unit and AUP increases of approximately 2.8% and 3.3% respectively. We are very encouraged by the continued growth of our core business and the integration of multiple recent acquisitions that are still in the early stages of our ownership.

During 2014 we completed nine acquisitions that added 668 stores in new and existing markets, opened 232 organic stores driving our company operated store base to 2094; produced over 100 basis points of additional growth in adjusted-EBITDA margin percent in our core markets when excluding acquisition and new markets; achieved a pro forma U.S. market share approaching 15%, which is two times larger than our nearest competitor; providing our enterprise with tremendous future growth by expanding our relative market share and driving shareholder value.

Results during the fourth quarter of 2014 were highlighted by a strong net sales increase of approximately 92% over prior year; growth in adjusted EBITDA of approximately 86% over prior year; the completion of two acquisitions that added 49 stores in existing markets and the opening of 69 organic stores.

Now let me provide some addition color on our fourth quarter results. We were very pleased with our product gross margin expansion of 105 basis points as we remain disciplined around our mix of price and units. As a result, we were able to achieve a 1.9% increase in same store sales growth, on top of a 6.5% sales store sales growth during the prior year quarter. This represents our sixth consecutive quarter of positive same store sales growth, consisting of a 5.7% increase in average unit price, offset by a 3.6% same store unit decline in the quarter.

With the completion and remodeling of our recent acquisitions, along with the associated financing cost, we experienced some additional non-direct operating expenses, primarily consisting of depreciation, amortization and interest expense. Given this, we have decided to provide more details on depreciation, amortization and interest expense going forward to give greater clarity, which Alex will discussion in his commentary.

As we previously discussed, rebranding acquired stores is a critical component to achieving results. In Chicago the rebranding effort is behind what we have experienced in previous acquisitions, partially due to some local regulatory processes. This timing impact, along with other and lesser factors created a $0.06 drag on EPS during the fourth quarter after adjusting for one-time costs.

As a positive, we now expect the majority of design to be completed by Memorial Day, which has enabled us to begin leverage advertising, allowing us to start achieving breakeven profitability in the Chicago market, which we expect will improve over time as we increase our relative market share.

Now, let me give you an update on the two acquisitions that we completed during the fourth quarter, along with some initial perspective on the Sleep Train acquisition. In January 2015 we acquired substantially all of the assets and operations of Sleep America, which operated 45 stores in and around the Phoenix and Tucson markets.

In January of 2015 we also acquired substantially all of the assets and operations of Mattress World, which operated four stores in Pittsburg. These acquisitions allow us to enhance our relative market share in our existing Phoenix, Tucson and Pittsburg markets, and build upon our previously completed acquisitions in those markets.

As is customary with acquisitions that require store conversions, we expect some deleverage during the first half of 2015, while we are rebranding the acquired stores and selling off existing inventory. With regard to the Sleep Train acquisition that we completed in October of 2014, we were very happy with the early progress of the business and strong positive reaction of the Sleep Train employee base and management team.

Additionally, we are energized that the integration of the team into the broader business is well underway. The legacy Sleep Train stores while not in the comparable store base contributed approximately $140 million of sales during the fourth quarter with positive same store sales of approximately 6%.

In addition, after these early months of operating the Sleep Train business, we remain highly confinement that we can achieve the synergy targets that we previously provided. Furthermore, give that the current store penetration levels of Sleep Train are well below our Mattress Firm’s Fortress markets, we see ample opportunity to unlock the RMS strategy on the West Cost and increase the store penetration to Fortress levels in the coming years.

While 2014 was a year of monumental growth, 2015 will be a year focused on concentration and consolidation, with an expectation of achieving continued EBITDA dollar growth, while also returning to EBITDA margin percent expansion. We plan to concentrate our efforts on our existing businesses by focusing on growing and successfully integrating our recent acquisitions to help achieving anticipated synergies and operational improvements we previously communicated; moderating our phase of acquisitions at least through Labor Day; continuing to drive our relative market share in our existing markets with an emphasis on the West Cost and fine tuning our practices post the successful implementation of our new ERP system.

We plan to create efficiencies and consolidate our operations by rationalizing our nine brick-and-mortar retail brands down to three, leaving us with strong differentiated brands, Mattress Firm, Sleep Train, and Mattress Pro, each with its own voice, focusing on existing markets rather than multiple new markets, and making sure that we incorporate best practices across all of our brands to achieve profitable growth.

These initiatives and focus will provide us with a core national brand in Mattress Firm that will give us the number one Mattress Specialty retail brand stretching boarder to boarder and cost to cost. And the sleep experience brand in the Sleep Train to not only strengthen its existing number one position on the West Cost, but also with the potential to expand across the top markets in the U.S; and a value focused brand in Mattress Pro with the potential to fortify our markets across the U.S. upon successful completion of its initial test.

Looking ahead, we are very excited to benefit from the execution of this strategy through continued store growth in existing markets and the ramp-up of recent acquisitions. Despite some of the weather related slowness in February, we saw a nice bounce back in sales in early March and are satisfied with our current sales performance as the poor weather has evaded. Alex will provide some directional perspective on anticipated same-store-sales in 2015.

In closing we continued to believe in our relative market share model and strategy for growth and look forward to creating an additional value for our shareholders during 2015 and the years beyond.

I will now turn the call over to Alex.

Alex Weiss

Thanks Steve and good afternoon. As a result of the dramatic increase in size of Mattress Firm over the past year due to our recent acquisitions in organic growth, we have chosen to provide some additional metrics within our earnings release, primarily the introduction of an adjusted cash EPS metric and some additional guidance items for 2015, that help isolate some of the new elements that have risen as a result of our recent growth and acquisitions.

I’ll focus my commentary on the fiscal fourth quarter that ended February 3, and on our guidance for fiscal 2015. Gross profit increased 94.1% to $222.2 million in the fourth quarter compared to the same period of the prior year. As a percentage of sales, gross profit increased 40 basis points over the prior year to 37.1%.

This increase has several significant components. We experienced 105 basis points of leverage over prior year from product gross margins, 20 basis points of expense leverage from new stores and existing markets, leveraging store occupancy, warehousing and other operating costs and a combined net increase in gross margin of 35 basis points across several categories.

This was offset by deleverage during the fourth quarter of 60 basis points of deleverage in store occupancy and other recurring costs and 60 basis points of deleverage from recent acquisitions that have resulted in some ongoing drag on occupancy and operating costs as we integrate and convert the acquired stores.

Sales and marketing expense was $142.1 million for the quarter compared to $75.4 million in the prior year quarter. Sales and marketing expense as a percentage of net sales leveraged 50 basis points from 24.2% in the prior year period to 23.7% for the current quarter.

The non-advertising components of sales and marketing expense increased $40.2 million to $89.2 million for the quarter, primarily as a result of an increase in net sales; the acquisitions we made in 2014 and increased uses of third party financing to help drive our sales performance. We were able to leverage this expense as a percentage of net sales as compared to the prior year period by 80 basis points to 14.9%, primarily as a result of lower salesmen expense as a percentage of net sales, as compared to elevated levels during the fourth quarter of fiscal 2013.

The advertising component of sales and marketing expense increased $26.5 million to $52.9 million for the fourth quarter. Advertising as a percentage of net sales was 8.8% for the current quarter, which reflects 30 basis points of deleverage compared to the prior year period, primarily the result of spend in new acquisition markets.

General and administrative expense on a GAAP basis was $56.7 million for the fourth quarter as compared to $22.8 million in the prior year. This expense as a percentage of net sales delevered by 220 basis points to 9.5% compared to the prior year period on a GAAP basis.

On an adjusted basis, general and administrative expense increased $23.7 million for the fourth quarter to $44.1 million, excluding $2.7 million of ERP implementation costs and $9.3 million of acquisition-related costs in the current year and $0.6 million of secondary offering costs, as well as $1.1 million of ERP implementation costs and $1.3 million of acquisition related costs in the prior year.

On an adjusted basis general and administrative expense as a percentage of sales delevered 80 basis points to 7.4% compared to the prior year. The rise in cost in this category is primarily associated with the company’s group health life insurance plan, as well as ongoing investments in our corporate infrastructure to support our growth initiatives and higher ongoing costs related to our new ERP system.

On a GAAP basis operating margin was 4% in the fourth quarter. On an adjusted basis operating margin declined 10 basis points to 6.1%. In summary, the components of adjusted operating margin were comprised of a 40 basis point improvement in gross margin, a 50 basis point increase from selling and marketing expense leverage, offset by an 80 basis point decrease from general and administrative expense deleverage and 20 basis points of combined operating margin declines in other areas.

As Steve mentioned, we experienced a large increase in various non-direct operating expenses as a result of our growth and the recent acquisitions in 2014. The largest area of increase was in depreciate and amortization, where we saw a year over year increase of $15.4 million to $47.3 million during fiscal 2014, and an increase of $7.5 million to $16.5 million during the fourth quarter.

This increase was heavily influenced by the shorter depreciable lives of acquired stores in which we rapidly invested capital to rebrand and remodel without waiting until we could amend or extend lease terms. We are reviewing many of these leases now for possible extension and will adjust our depreciable lives if necessary after completing a full review.

In addition, we also experienced an increased in depreciation from the 201 net new stores we opened in fiscal 2014, and an increase in amortization expense as a result of the recent acquisitions. We expect depreciation and amortization to continue at an elevated rate in fiscal 2015 as we experience the full year effect of the recent acquisitions and continue to open an expected 200 to 220 stores.

Net interest expense in fiscal 2014 increased by $11.1 million to $21.9 million and fourth quarter interest expense increased by $8.9 million to $11.6 million. This is primarily a result of the new debt required to fund the recent acquisitions and will continue in fiscal 2015.

The effective income tax rate during the fourth quarter was 45.3%, which was above our effective tax rate for all of fiscal 2014 of 39.8% and our tax rate in fiscal 2013 of 38.5%. This was a result of entering multiple new high tax states, primarily as a result of our recent acquisitions, secondary offering costs which are non-deductable for tax purposes, and various other true-ups that occurred as our business mix shifted considerably this year as a result of acquisitions in our overall growth.

Our tax rate after adjusting for the secondary offering costs was approximately 39.5% in fiscal 2014 and is expected to increase to 39.8% in fiscal 2015 as we are hit with the impact of higher tax states for all fiscal 2015.

I’ll address our financial guidance for fiscal 2015, which is comprised of the 52 weeks ending February second 2016. Please note that we are transitioning from fiscal 2014, which was a 53 week year.

We have made the decision to publish additional financial metrics in the guidance shown in the press release, which should help provide you with additional clarity. To supplement that information, we expect low single digit comparable store sales for fiscal 2015. Please remember that only slightly over half of our stores will start off fiscal 2015 in the comparable store base and then more will enter the base throughout the years we lap acquisitions and new store openings.

We expect that the majority of new stores added in 2015 will be in existing or recently acquired markets, in line with our relative market share growth strategy. We expect to end fiscal 2015 with approximately 2,294 to 2,314 company operated stores and expect a disproportionate amount of our new store openings to occur during the first half of fiscal 2015. We expect to achieve both adjusted EBITDA dollar and margin growth in fiscal 2015.

Our guidance includes the expectation that overall adjusted EBITDA margin will increase by 30 to 70 basis points during 2015, primarily due to continued focus on improving the profitability of our existing markets, the ramp up in sales and profitability within our acquired markets and the expected achievement of synergies from the Sleep Train and other transactions.

This concludes our prepared remarks and at this point the operator will open the call for questions.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions]. And with that, we turn our first question over to the line of Peter Keith with Piper Jaffray. Please proceed with your question.

Peter Keith

Hey, thanks a lot of taking the question and good evening.

Steve Stagner

Good evening to you.

Peter Keith

I guess I was just trying to get some clarity on the extra detail in the Press Release sort of regarding the cash EPS and there should be a focus on the depreciation. Did something change relative to last quarter in the amount of depreciation you are now seeing on some of these acquired stores, because this wasn’t a dynamic that we were expecting?

Alex Weiss

Yes, that’s a great question, and we thought that it would be very smart to highlight for everybody really the depreciation and amortization and stock based comp that we’ve seen quarter-over-quarter from last year and from the full year to the full year. And the reasoning for that is as you know when you do these acquisitions you have a much shorter depreciable life to amortize the capital the goes into rebranding and remodeling these stores when you compare it to a new store opening, which will last for a 10 year period.

And so as a result of seeing increased depreciation and amortization from that fact, plus the effect that we have opened a significant number of new stores over the past year, what you are seeing is, you are seeing a higher depreciation and amortization charge which is money we’ve already spent, but it has an impact on the P&L and so we wanted to focus you more on the operational elements.

Peter Keith

Okay, all right, thank you for that. As now we look at the ERP investment which has been going for two years here, it sounds like it’s largely finished. Are there any identifiable operating benefits that you might begin to see over the year or two with that fully integrated?

Steve Stagner

Yes, I’ll start and then Alex can pick up from there Peter. Just to start with, it’s more than largely finished. It’s actually 100% complete and we definitely see – I mean first of all operationally not having our previous legacy system on there, I mean the company has been operating on dual systems for a while, so that will be a really welcome pickup throughout the year with the exception of what we just acquired.

But more importantly there are some operational things. Just basically related to efficiencies at the market level, we can hone in on market level pricing, we can hone in on different aspects of how we go to market and have a lot more clarity. There is also some benefits, just structurally, just on a much larger system.

Peter Keith

Okay, that’s a great review. Thank you, Steve and then one last follow-up from me just on some of the product launches. How do you guys feel now that we are getting later in the year. You are lapping last year’s very successful product launches at the high end; you might be getting some early product this year. Do you see that lap as a bit of a headwind for the year or is the new product starting off fairly strong.

Alex Weiss

We are pretty encouraged by the growth that we had last year as you are highlighting, certainly seeing that nice balance of AUP growth and unit growth that we demonstrated this year Peter. Going into 2015, obviously there is less change at the super high end, meaning the specialty which is good. Those beds are producing nicely.

But going into this year we have really exciting things. We have an exclusive line from Simmons that we are super excited about; we have some success; we revamped our value center lines with both Sherwood and Corsicana and we are seeing velocity increases, margin increase and starting to see some really good growth out of those that we’ve just launched about a period ago. So we are pretty excited about what’s coming out over the next – kind of heading into summer selling season.

Peter Keith

Okay. Thanks a lot for all the feedback and good luck this coming year.

Steve Stagner

Thank you.

Operator

Thank you. And our next question comes from the line of Brad Thomas with KeyBanc Capital Markets. Please proceed with your question.

Brad Thomas

Thanks. Good afternoon Steve and Alex. I wanted to first ask about same store sales that obviously is just on the Mattress Firm side at this point. But I guess the key question would be, how quickly do you think you can apply some of the leanings from the Sleep Train side to Mattress Firm and what are the items besides what you just mentioned in the last question, might you call out as key opportunities for same store sales this year.

Steve Stagner

Yes, that’s a great question Brad. I think one the reasons why I listed in my prepared remarks that our focus this year is on concentration and consolidation is we are focused as you are describing on best practices and it’s kind of both ways. We see that there are some benefits that can help same store sales, both between the two different companies.

Some of the distinct opportunities that we see, Mattress Firm is very focused on unit capture and leveraging credit and financing, and those things I think that we can deploy on the West Coast and see some pick-up there. And then inversely the Sleep Train organization is obviously a very strong leader in so many categories with very strong store averages and ticker averages.

Some of the things that they do very well are accessory sales and also just connecting with the local communities, which improves trust and kind of gets the consumer off of just price and on to just the way the marketing execution is. So those things as far as timing, those things will be deployed. Some are easier as you can imaging and will probably be deployed as we head into the summer selling season and others will take a little longer. But our view is when you are doing a big integration like this, it’s going to take a year or two as you’ve seen with us in the past and over time we usually get to all of them pretty effectively.

Brad Thomas

Great. And if I could follow-up on the idea of same store sales, Alex mentioned low single digit outlook for this year. You do have tougher comparisons in 2Q and 3Q. Any thoughts for us as we try to take those tougher comparisons into consideration as we model this year?

Alex Weiss

Yes. I think when we think about the same store over the course of the year, understanding that comparisons are a little bit tougher in the second and the third quarter, I think the fact that as we implement these different sales techniques and the best practices of each brand that Steve mentioned, we think that should be very favorable even when you look upon the comparisons. And so our focus really is getting through the noise of the first quarter and really up through Memorial Day, while we are implementing a lot of these initiatives and then even the fact that we do have some tougher comparisons, that doesn’t scare us in the second and third quarter.

Brad Thomas

Great. Thanks so much everyone and good luck this year.

Alex Weiss

Thank you.

Steve Stagner

Thanks Brad.

Operator

Thank you. And our next question comes from our line of Michael Lasser with UBS. Please proceed with your question.

Max Aggrey

Hi. This is Max Aggrey on the line for Michael Lasser. How are you guys doing?

Steve Stagner

Great Max, how are you?

Max Aggrey

Good. Quick questions on the Chicago market. I know that you mentioned that the rebranding process was delayed due to regulatory issues and had a drag on EPS. Maybe if you can provide a little bit more insight on to kind of what you guys saw there and how quickly the advertising effect can kind of be implemented once those regulatory issues are passed.

Steve Stagner

Yes, I think Max it’s a very fair and great question. I think that the way we look at it is that our kind of turning point will be around the Memorial Day. We see a pretty clear path to getting all of our signs on the buildings by Memorial Day, which you know is the next couple of months, next couple of periods, and that’s really the point where you can start to leverage the advertising.

You know prior to that, candidly even though we own and operate the quantity of the stores that we have in Chicago from the consumer perspective, there is very few stores that have the Mattress Firm sign on them today. And so as those approvals get completed and we can put the signs up, then we can leverage the advertising and we expect that to be done heading into the summer selling season.

Max Aggrey

Okay, thank you. And as a follow-up, maybe you could talk a little bit about margin trends between the acquired stores and your legacy stores. How do margins at the acquired stores really compare?

Alex Weiss

Yes, and that’s a great point, because what we have seen with our core business over the course of 2014 is that our core store is not affected by acquisitions or affected by new markets we’ve gone into over the last couple of years, have been up over a 100 basis points in 2014. So the core is very healthy. Where we’ve been able to get EBITDA margins dollar growth, but not EBITDA leverage yet are those acquisitions that you’ve mentioned and most specifically the Chicago market in the very short term.

And as we are able to ramp-up those acquisitions and continuing to ramp-up our other stores, we are very excited that relative market share can take hold and we can kind of keep ramping up as we have historically down with markets as we increase our penetration.

Max Aggrey

Thank you very much.

Steve Stagner

Thank you.

Operator

Thank you and the next question comes from the line of Budd Bugatch with Raymond James. Please proceed with your question.

Budd Bugatch

Good evening Steve, good evening Alex. Can you hear me?

Steve Stagner

Yes, I can hear you great. Good evening Budd.

Budd Bugatch

Okay, I have a few questions. Just on the Chicago $0.06 drag, is most of that in the gross margin that you mentioned. Is that the way to think about that and was there a tax effect on that well. What were the dollars of cost?

Alex Weiss

Yes, it’s really – its multiple things. It’s on the gross margin side as you mentioned, because we basically have a period where we are going to be selling down inventory that we acquired as part of the acquisition and so it’s our focus to sell down that inventory over the next couple of months and then basically be done with the inventory sell down as much as we can by the Memorial Day period, so that we will get to a very clean cadence going forward, so that’s very encouraging to us.

It also comes on the occupancy side of things, as until we can ramp-up these store averages in the Chicago market, it’s tough to get leverage over a lot of those different fixed components. And so really the combination of both of those items is what makes it difficult to get profitability in Chicago in the near term. But as Steve mentioned, once we are able to rebrand signs by the Memorial Day period, that’s when we think we are going to quickly – you are going to see the lines cross over, similar to what we have seen in our historical acquisitions.

Budd Bugatch

And I don’t think you quantified what was in the different buckets though, Alex. Can you do that for us, maybe like an outline.

Alex Weiss

Yes. We’ll try to give you a little bit more guidance offline, but we are not going to break it out specifically of all the different components.

Budd Bugatch

I was just trying to get between the gross margin and operating expense when you can. Okay, Steve I know you are not going to do any new acquisitions, at least through Labor Day. Are there anything in the pipeline though? Was there anything you shutdown before you made that decision?

Steve Stagner

Well this is always, we never really talk about the, what was in the proverbial pipeline. But setting that aside, the real answer is we don’t have anything of substance we are focused on and the truth is we see this as an opportunity to digest the stores that we just acquired. We are super excited about the opportunity to really integrate the West Cost and the Chicago markets, get through all the stuff that’s on our plate and we feel really encouraged that as we get into the summer selling season our focus in on driving profitability at the market level and the decision is really around that more than anything that would potentially be out there.


But we didn’t tell necessarily anyone know to anything. We’ve just made a conscious decision to focus on our business for a certain amount of time. We don’t that as you know in the past and we will do that now for a period of time and then go from there.

Budd Bugatch

No, I agree with the decisions because you got to digest what you’ve done. As you look at the end of the year, how do we go between the stores? What’s the branding of the 2,314 or 2,294 stores? What’s the dispersion between Mattress Firm, Sleep Train and Mattress Pro? How many stores will be each of those buckets?

Steve Stagner

Yes. I mean I think that we will give some color in the future as we can present that, but the easy way to think about that is what we are going to do on the West Cost. Sleep Train has a very strong leadership position on the West Cost, however their market penetration levels, Sleep Train standalone is well below Fortress levels as we define them in Mattress Firm markets.

But we see an incredible opportunity to further penetrate the West Coast markets with Sleep Train locations, so that we can do exactly what we have done and has been proven and over the past 20 years as Mattress Firm, which is to leverage the store penetration and ultimately leverage more advertising dollars and drive up profitability. And so what you will see is you will see some expansion on the West Coast and potentially into some new markets where we have very high levels in the rest of the country.

And then for Mattress Firm as you know, Mattress Firm certainly has a Fortress position in many markets where 90% of the markets we are operating and we’re market leaders. However in some of our recent investor presentations we demonstrated that we only four states that are at the Fortress level, which suggest that at a market penetration level on average, on a served market basis of about one per 100,000 and our best markets at about one per 50,000, we also feel like we can fill in our existing markets and have a couple of hundred stores a year in those existing markets for the foreseeable future, and so that’s really the focus.

The focus is in short to fill in our existing markets. In 2015 try to minimize to a bare minimum any new market entries, so fill in our existing markets to drive up profitability and to fortify those markets and to do the same on the West Coast. So we think it will be a fantastic year for us.

Budd Bugatch

Okay. And my last question has to go to Alex. On this accelerated depreciation due to the rebranding, can you kind of – that was from the purchase accounting of it or was there actually additional capital spend above the acquisition price. How would you think about that and what was the depreciation difference due to the acceleration of the rebranding?

Alex Weiss

Yes, so that’s all real capital that we’ve spent and what we typically do whenever we acquire a company and put Sleep Train aside for a second, that’s a strong brand that we’re keeping. When we typically acquire a company we change over the signs, then we put our operational processes in, but we also go and do construction on the stores if they need to be brought up to the Mattress Firm standard, sometimes we put in our little race track, we put in nicer carpeting, different POP and we also go and do various other improvements, which require a significant amount of capital if you look at all the acquisitions that we’ve done over the year.

And so when you take that acquisition dollar spend, instead of being able to spread it over a ten year period when we open a new store, you have to spread it over the remaining life of the lease term and so when we look at that, some of these stores might have one year, two years, three years remaining and your incurring a significantly higher depreciation amount in that shorter period of time and so you look at…[Cross Talk]

Budd Bugatch

Go ahead, I’m sorry.

Alex Weiss

Budd, you can go ahead.

Budd Bugatch

So the depreciation is on the existing assets that are still very light, not the new capital that was spent on the OHIR [ph] or the additional signage or whatever. That’s going to be depreciated over their useful lives right?

Alex Weiss

Yes, but if you look at signs for instance, that’s depreciated over a much smaller useful life as well. So typically a lot of the acquisition related spending – what happens is you get an inflated bump in the short term, unless you go and extend those leases to a longer period and so what we’ll do is we acquired the stores, we did the CapEx and various other spending and now we’ll go back and once we have our program in place in Chicago for instance and we can get a true read on how each of these stores is performing, we’ll go back and then decide which stores we want to extend, which stores we want to sign new leases for and which stores we want to close and that’s a natural process that we go through with each of our acquisitions. We’re just too early into the post acquisition period before we can get a true read on how each of the stores are performing and which stores we want to extend.

Budd Bugatch

Okay. And the capital you’re going to spend is inside the CapEx numbers that you gave in the release. Its $72 million for the year just ended and $95 million expected for 2016, right?

Alex Weiss

That is correct and that $95 million for 2016, it includes some of the CapEx for acquisitions that we did in 2014, so we finished our CapEx for the acquisitions done earlier in the year. If you look at Mattress Liquidators and Yotes and acquisitions like that, but acquisitions done later in the year, if you take Chicago for instance, we’ve done a portion of the CapEx for that transaction, but we still have a portion of that that leads into the first quarter of 2015. And then we have CapEx associated with all of the brand conversions on the West Coast to reduce the brands that we have outstanding down to the Sleep Train brands, and so that’s primarily the additional CapEx that you’ll see.

Budd Bugatch

Okay, thank you.

Steve Stagner

No problem.

Operator

Thank you. And our next question comes from the line of Keith Hughes with Suntrust. Please proceed with your question.

Keith Hughes

Thanks, a couple of question. Steve, if you could give us any kind of detail on the shape of the quarter in terms of same store sales and any more detail you want to give on February, March?

Steve Stagner

When you ask about the shape of the quarter you’re talking about Q4 same store sales?

Keith Hughes

Yes, how November, December, January went; acceleration, deceleration, what was the pace?

Steve Stagner

Yes, I mean we don’t really break it out that way, but generally speaking it was pretty similar across the quarter and perhaps I guess as you recall Keith, I think what you have to keep in mind on Q4 of this 2014 is last 2013 we had drove pretty aggressive drive. We had a 9.1% unit capture increase in 2013 and that was coming off of three quarters of negative comps. So we had really drove up our unit capture to try to turn it tight and now we’re six consecutive quarters of positive comp.

So from a stacked comp basis it stayed kind of in that range around 2% and so if you look at it on a stack basis its almost 8.5%. So I mean it’s just up against heavy unit capture in ’13 and that unit capture kind of subsided as we went into Q1. So moving forward we’re kind of up against a more normalized disciplined approach.

Keith Hughes

And since I get asked this a lot, sales in Texas, any kind of deviation trends or what’s different than the same store sale number you reported?

Steve Stagner

The Texas markets, I presume you’re asking because of oil impact. We’ve seen a little bit of impact in Texas in certain markets, but certainly not in all the markets. Houston as an example is certainly a very heavy oil market in some degrees, but it also was just announced as one of the fastest growing cities in the entire United States. So there is a little bit of impact, but I would say that all in all it’s a put and a call, because it’s kind of spread out in other markets where we’re getting a lift because the consumer has more disposable income.

So it’s nothing that’s alarming us at this point, but we’re very mindful that there are some layoffs going on, particularly in Houston and we’re seeing crude oil prices hit down to some pretty low levels and the activity of oil rigs is at some pretty low levels, which will certainly translate to jobs and so we’re mindful of it, but right now it’s not a major alarm to us.

Alex Weiss

And keep in mind that we’ve gone and looked through a whole base and in our primary oil affected markets we have less than 10% of our store base.

Keith Hughes

The $0.06 you referred to in Chicago, is that included in the $0.41 reported or has that been excluded?

Steve Stagner

Yes, that’s included in the $0.41, so that $0.06 is after any adjustments and as Bud was asking, it’s really a combination of gross margin. The fact that we can’t get leverage until we get the sales lift once we’ve rebranded with the signs, with some additional overheads and those additional interest expense.

Keith Hughes

Thank you. And final question for Steve. You had highlighted in Vegas at the show, the team and the integration of the team with its fully trained Mattress Firm folks. Have all those positions been identified and your kind of moving forward now or is there still some transition going on?

Steve Stagner

No, we’re done. We’ve basically – I mean I think now there might be a position here and there, but basically we’ve already done all the announcements. We announced everything at our National Conference, which was weeks ago and people are already in place and having operating meetings going forward.

We’re business as usual at this point and I would say that we’re extremely excited about and energized by the combination of the team’s. It’s given us a lot of opportunity to not only share a lot of best practices, work together, but also what I’ve been personally recognizing as the ability to divide and conquer and I think that we’ve got a lot on our plate and the Sleep Train management team is highly experienced and highly deep and so it’s been pretty exciting Keith.

Keith Hughes

Right, thank you very much.

Steve Stagner

Thanks.

Operator

Thank you. And our next question comes from the line of Joshua Borstein with Longbow Research. Please proceed with your question.

Joshua Borstein

Hi Steve, hi Alex, how are you doing today?

Steve Stagner

Good. Hey Josh.

Joshua Borstein

Just related to one of Bud’s questions. The penetration that you guys planned to do in the West Coast, are those going to be under the Sleep Train banner or the Mattress Firm banner.

Steve Stagner

Yes Josh, great question. We certainly look at this and contemplated it for a while and what we landed on is that the Sleep Train banner is going to be what we’re going to expand in the West Coast and the reason being is the Sleep Train banner certainly has a very strong leading market share in those markets and what we subscribe to is the RMS philosophy and RMS basically means that when we look at the penetration levels, they are in a leading position, but it’s an opportunity to further penetrate those markets and then what we’ll do is we’ll be able to drive up a lot more profitability in there and so in those markets.

And also more importantly that we also recognize that the Sleep Train banner kind of reaches a different psychographic and so that gives us an opportunity to drive some sales there. And then after 2015 we certainly see an opportunity to start expanding in Mattress Firm inside those markets and that goes through the opportunity to reach different psychographics.

Joshua Borstein

Okay, got it. Thanks for that. And then with some of the new metrics that you guys have provided, just trying to figure out, is there anything new or larger in non-cash expenses such that on an apples-to-apples comparison we can get a sense of what the guidance would have been relative to the 250 to 270 in EPS.

Alex Weiss

Yes, that was the exact reason to show the DNA a stock based comp, both in 2014 and in 2015, because when we made our nine acquisitions in 2014 and we opened up over 200 stores net, that added a significant amount of other costs and we transformationally transformed the business and so we kind of wanted to put all the detail out there in the release and in the guidance, so that you could take it and see if you just looked at adjusted EBITDA, which is more of a pure operating metric, what that shows, and then you can see all the different effects that the non-cash items have as well. And so we wanted to give you all the data, so you can come to your conclusion.

Joshua Borstein

Okay, great, thanks for that and good luck on the rest of the coming year.

Steve Stagner

Yes, thank you Josh.

Operator

Thank you. And our next question comes from the line of Daniel Hofkin with William Blair & Company. Please proceed with your question.

Daniel Hofkin

Hi, good afternoon guys.

Steve Stagner

Good afternoon Dan.

Daniel Hofkin

Just a quick follow-up on the oil topic and just I guess at this point in terms of your comp guidance, are you assuming really much variance in those oil markets relative to the rest of the country at this point or are you sort of assuming it could be negative there, but positive elsewhere. Just curious how you’re thinking about that in aggregate, that’s the first question.

Alex Weiss

Yes. That’s exactly right with your second point. We think that there will be a little bit of softness in some of those markets, but to Steve’s point, what we’ve seen is that the overall change given the fact that people have a lot more disposable income has been more than enough to offset that impact and so while there is a little bit of drag, we feel very comfortable given the fact that there is less than 10% of our stores in those markets and that the overall chain has picked up.

Daniel Hofkin

Okay, so you’re starting in other words, in the balance of the chain you’re actually seeing some evidence if you will of kind of the benefit outside of those markets.

Alex Weiss

Yes. As Steve mentioned a little bit in his earlier remarks, once we got through the February weather period that the entire country went through, we’ve seen a lot of consistency and stability across the entire chain.

Daniel Hofkin

Okay. And then can you maybe just update us a little bit in terms of kind of what you’re seeing in terms of advertising, just general directional trends among the most important vendors and then curious, kind of what your latest thinking is on some of your credit offerings and your thoughts about expected roll out or updates to that later this year.

Steve Stagner

Yes, I’ll start with the advertising and then I’ll turn it over to Alex for the credit offerings. Essentially the year started off in Q1 with an increase from the collected vendors, primarily driven by some of the larger vendors and then we saw unfortunately kind of a little bit of a tail off through the rest of the year.

We do see Tempur-Pedic continuing to show some modest increases which is encouraging, not necessarily seeing those increases across the rest of the family of brands out there in the industry, but the year is just starting. We heard some very positive remarks from all the brands at market and I think as we get into the summer selling season we’re encouraged by some renewed commitments to spend some dollars. So hopefully that will translate into increased advertising.

One of the things I’ll point out is we’re in a different position today with our recent mergers given the strength of our advertising voice. We’re starting to get some levels of advertising that are at or above many or most of the industry leaders. So starting to get into a place where we can kind of spend a lot of dollars to make sure that we can drive demand inside our stores.

Alex Weiss

And then on the credit piece, we continue to believe that credit is a very nice driver in increasing sales and driving ticket and so we expect to continue to use credit where we can to drive sales. In some of our very small markets we started a pilot program to test a waterfall type application and so as that pilot progresses, we are encouraged to give you more results in the coming quarters.

Daniel Hofkin

Okay. And then just I think at one point maybe last – or let’s say summer around the 2Q call, I think the initial thought was from the two large most recent acquisitions, somewhere in the neighborhood of $0.25-ish for 2015 obviously. Chicago is a little bit moderated. What’s the latest thinking in terms of the EPS accretion combined or if you want to isolate it to Sleep Train?

Alex Weiss

Yes. So we’ve included the different accretion amounts in our guidance for 2015. As you were referencing, we mentioned that Sleep Train would provide mid single digit EPS accretion in 2015 when we gave you our prior guidance and since then as Steve mentioned we’ve been very happy with the performance so far, so we feel highly comfortable with that prediction.

Sleep and then on the other point that you mentioned, Chicago has been a little bit slower out of the gate, because of the sign process. We think we will hit the point where the lines cross after we get through Memorial Day and are able to convert the signs. So at that point we will start to hopefully cross over and turn positive and so I wouldn’t expect a ton of benefit when you look at the balance of the year, but we’ll start to get some benefit in the back part of the year with the Chicago acquisition.

Daniel Hofkin

Okay, great. Thanks very much. Best of luck.

Steve Stagner

Thanks Dan.

Operator

Thank you. And our next question comes from the line of Jessica Mace with Nomura. Please proceed with your question.

Jessica Mace

Hi, good afternoon.

Steve Stagner

Hi Jessica.

Jessica Mace

My first question is a follow-up on the EBIDA margin on the acquired markets and I was just wondering if you could give us a little color on what your guidance assumes. How much ramp the EBITDA from those markets towards the core markets achieved by the end of the year?

Alex Weiss

Yes, that’s an important and a great question. And so it’s kind of difficult to answer, because we chart it all out. So we’re seeing a ramp with each individual acquisition market, but then when you look at some of the acquisition markets like Chicago that were done later in the year, now they are included for the whole year. So when you look on the balance, you’re getting a similar ramp up from the base business and a slightly higher ramp up from the acquisition markets. But that understates the true impact that we’re predicting and that we typically see in our acquisition markets if you isolated each market specifically where we’re seeing a very nice ramp up.

Jessica Mace

Got it, makes sense. And then my other question is just on the rebranding and maybe if you could give us a little bit more color on the three primary brands and the timing was that Chicago target for Memorial Day, does that just apply to Chicago or is that across the whole store base of how your hoping to rebrand and maybe any other just insight you could give us as we try to project the cost and temporary disruption that might be involved.

Steve Stagner

Right. So Chicago, the conversation around Memorial Day was isolated to Chicago and the goal there is just to rebrand the Mattress Firm in the Chicago market, so we can begin to leverage not only the advertising, but our strategy of relative market share.

Regarding the Sleep Train, there will be some markets that we’ll hit kind of before the summer selling season, however we’re pretty sensitive to the summer selling season. So as we kind of go through it this summer, if there are major markets we would probably rebrand some of the locations post summer selling season.

And to be clear Jessica, when we’re talking about the West Coast, the Sleep Train operation was bifurcated into three different brands. There was Sleep Train with approximately 100 locations and then there was also Sleep Country up in the Pacific Northwest where there were no Sleep Trains, and then there was Mattress Discounters which pretty much stretched from San Diego to Seattle.

And so as a secondary brand we’re going to effectively collapse those brands into Sleep Train, so that we can leverage relative market share and drive more advertising and leverage the e-commerce internet business, so that more consumers know exactly who we are and leverage the profitability in that business. That will happen over 2015 and we expect it to be largely complete by the end of 2015.

Mattress Pro is a chain that basically is effectively in a test mode. Its primarily in Texas and in a couple of other markets in Arizona and on the South East areas. So we’re basically continuing to test that. It’s coming out relatively positively, so we feel very good about it, but we want to get enough stores opened, so we can see the impact. It also goes after a different customer and so we’ll continue to test that out and grow that moderately with control.

Each of the brands have a different reason for existence. Mattress Firm being the kind of border to border, cost to cost national brand focused on selection; Sleep Train definitely focused on the experience in the store and the community; and Mattress Pro focusing on bulk buys and a value proposition that leverages the buying power of the collective $2 billion that we have and what we’re seeing is that we’re able to reach these different customers and not only extend our market share, but also kind of grow profitability.

Jessica Mace

Understood. Very helpful. Thank you very much.

Operator

Thank you. [Operator Instructions] And our final question comes from the line of Sam Reid with Barclays. Please proceed with your question.

Sam Reid

Yes, thank you so much for taking my call. A quick question here with respect to your comp for 2015 and your guidance there. Could you give us a sense as to what’s your breakdown, at least your perception of the breakdown at this point in time is between unit growth and AUP growth?

Alex Weiss

Yes. So we think that it will be a balance of the two, maybe skewing a little bit more to the AUP side, but we think it will be a balance of the two.

Sam Reid

Got you, got you. And then one follow-up here. You know I know obviously weather was an issue throughout February. Would you be able to give us just a quick sense though as to what your thoughts were ex those issues for Presidents Day?

Steve Stagner

Yes, so we only comment directionally on sort of specific holidays and so Presidents Day I think directionally was in line with the trends that we have been seeing throughout February, but as we mentioned, once we got through those weather related weaknesses, we were very happy with the consistency that we’ve seen in our sales performance since then.

Sam Reid

Got you. And then one final question here. Once you guys are finished rebranding Chicago, could you just give us a sense as to sort of where you guys see yourselves from a relative market share position there?

Steve Stagner

Yes, I think one thing to put into perspective about Chicago is if you were to take the Mattress Giant acquisition we did a few years ago and even the other four acquisitions we did a few years ago and you look at 2014, those acquisitions collectively are comping on average double digits in 2014.

If you were to go back in time and talk about those acquisitions in the early quarters, all of them as we were rebranding those seem to have taken a step backwards before they took multiple steps forward and so the first thing that we see with Chicago is that we’ve got to clear out the inventory that Alex talked about and then we get into a Fortress position from a store account and Chicago has obviously a population of over 10 million people. So we need greater than 110 stores to really get to a one store per 90,000 and that’s the beginning of a Fortress level.

As we take the base of stores that we acquired and add, call it 20 to 35 more stores over the next year or so, we’ll start to get into a position where we can then start leveraging our advertising dollars well over $1 a head in advertising and that will be how we start to leverage our strength in that marketplace and become a viable and profitable business that we know will happen and its happened in all the other markets we’ve been.

Sam Reid

Got you. No, thank you. That’s very helpful. Best of luck with the year.

Steve Stagner

Thank you.

Alex Weiss

Thanks.

Operator

Thank you. There are no other questions in the queue at this time. I would now like to turn the conference back over to Mr. Stagner for any closing comments.

Steve Stagner

Well, thank you all for joining us on our conference call and we look forward to talking to you again on our next conference call and we hope that you all have a great 2015.

Operator

Thank you. This does conclude today’s teleconference. You may disconnect your lines at this time and we thank all of you for your participation.

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