Today, shares of Tempur-Pedic (TPX) are down 48% after the company cut its full-year forecast. We wanted to draw attention to this because we featured analysis of TPX two weeks ago in our premium Hedge Fund Wisdom newsletter which pointed out that the potential warning signs were there.
TPX today cited that an "unprecedented" number of rival products with huge marketing/promotion have hit their sales.
Below is an excerpt from the current issue of our newsletter which drew attention to these potential red flags two weeks ago:
Excerpt From Our Hedge Fund Wisdom Newsletter
Following its 1Q earnings call after the market close on April 19th, TPX shares lost 20% from $84 to $67. The company reported robust growth of 18% in sales, which was in line with analyst expectations, as were its earnings. However, the impression is that the industry grew faster than TPX, which was a big blow to the stock. Also, the company reaffirmed its 2012 guidance of $3.80-3.95 on $1.6bn of sales, which fell short of consensus of $4.06 EPS and $1.7bn sales. Analysts became less sanguine about the stock’s growth prospects because of intensifying competition in the specialty bedding segment and the potential of cannibalization from the introduction of lower-priced beds.
More intense competition in specialty beds will translate into slower growth for TPX and potentially lower prices and margins. Also, TPX has been focused on the higher end of the premium segment with very few low-priced offerings. In order to continue growing, it has to expand its product line into lower-priced products. These products may satisfy some of TPX’s current customers, thus resulting in a down-mix shift.
On May 7, TPX made a surprise announcement that it will be offering its Cloud Supreme mattress on sale from mid-May to July. Offering sales discounts is very uncharacteristic of TPX and goes against its strategy, which is why the market reacted so negatively. The stock lost almost 20% within a couple of days as the move was interpreted as a red flag that could signal deeper fundamental issues and slowing growth.
The Bear Case
The company's growth cycle has matured, so it doesn't deserve the historically high valuation multiples that reflected much higher growth. The risk is that competitor Select Comfort (SCSS) has a lot of ground to cover in terms of increasing its brand awareness and distribution before it can catch up to TPX, which means that SCSS may capture most of the incremental segment growth. In addition, the high growth of the segment has attracted significant competition. Therefore, growth may be more difficult to achieve than expected. What’s more, TPX has leading margins, but as competition intensifies it may have to give back some of its pricing power. If EPS growth doesn’t materialize at ~20% for the next couple of years, there is downside to the stock.
Hedge funds have been attracted to TPX because of its strong balance sheet, shareholder-friendly management, robust growth, and solid execution. It has all the ingredients to continue growing earnings at a rapid pace. However, competition is intensifying and what has made TPX successful can also be viewed as a source of risk to the relatively rich valuation: growth can slow down with more players, and margins can compress. The stock price took a big hit following disappointing guidance and concerns that the company needs to resort to discounts in order to boost sales."
Then fast forward two weeks ahead to today and the company has now cut its full year forecast.
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