Tempur Sealy International Inc (TPX) 2008 Q3 法說會逐字稿

Good day, and welcome to the Tempur-Pedic third quarter 2008 earnings conference call.

Today's call is being recorded.

For opening remarks and introductions, I'll turn the call over to Mr.

Barry Hytinen.

Please go ahead, sir.

Thanks, Jason, and thank you everyone for participating in today's call, joining me in our Lexington heard with Mark Sarvary, President and CEO, and Dale Williams, CFO.

After prepared remarks, we will open the call for Q&A.

Forward-looking statements that we make during this call are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.

Investors are cautioned that forward-looking statements including the Company's expectations regarding sales and earnings, involve uncertainties.

Actually results may differ due to a variety of factors that could adversely affect the Company's business.

The factors that could cause actual results to differ materially from those identified include, Economic, competitive, operating, and other factors discussed in the press release issued today.

These factors are also discussed in the Company's SEC filing, including the Company's annual report on Form 10-K, under the headings, "Special Note Regarding Forward-Looking Statements and Risk Factors." Any forward-looking statements speaks only as of the date on which it is made.

The Company undertaking no obligations to update any forward-looking statements.

The press release, which contained a reconciliation of non-GAAP financial measures to the most directly comparable GAAP measures is posted on the Company's website at Tempurpedic.com, and filed with the SEC.

And now with that introduction, I will turn the call over to Mark.

Thanks, Barry.

And to our listeners, thank you all for joining us this evening.

I would like to start by saying that having been CEO for nearly three months now, I am more convinced than ever that we have a great company with enormous potential and I am very happy to be here.

Now, obviously we're in a very tough market right now, which is significantly impacting our business so we're taking steps to ensure that we are well positioned when the economy recovers to capitalize on our potential.

On today's call, we will provide our view on our performance in the third quarter, and we'll outline those steps that we're taking now to mitigate the impact of the current environment, and I'll share my perspective as the new CEO, on the Company's situation and give you an overview of the areas we're going to focus on to drive growth in the years ahead.

So in the third quarter we executed well given the circumstances.

We delivered sell and earnings in line with our expectations.

Gross margin were down sharply, but we were able to respond quickly across the P&L to offset the impact.

Right now we are facing the most challenging economic environment in memory, and we so no reason to see this will improve in the short-term.

Retailers continue to report their traffic is off sharply, so we are taking significant actions now to further improve our financial flexibility and our business.

We are repatriating approximately $140 million from our overseas operations, this will materially reduce our outstanding debt.

In addition we are suspending our dividend to further reduce debt.

Together these actions will give us the flexibility to operate without risk of reaching debt covenants, even if the market continues to deteriorate.

We will continue our tight fiscal discipline and focus on cash to give us the ability to continue to invest in marketing and R&D.

When the economy does recover, we will be even stronger, and very well positioned to benefit from the latent consumer demand that will have built up.

Dale will spend his time focused on reviewing the third quarter results in more detail, explaining the proposed repatriation and providing our updated guidance.

I will now talk as what I see as the significant opportunity for Tempur-Pedic.

First of all, we're very well positioned.

We are and we remain the world's most profitable mattress company, both in dollars and margin.

We have the leading share in the growing specialty market and while this category has been significantly impacted recently, I am confident it will resume its growth when the economy recovers as consumers continue their decade long trend away from spring mattress.

Tempur-Pedic's brand recognition is comfortable to the leading S-brands and consumers understand its unique proposition.

Our owners are extremely satisfied with their Tempur-Pedic mattress's and they are enthusiastic promoters to their friends.

We spent over $600 million building the brand during the last six years and this has provided us with a significant competitive advantage.

This marketing brings consumers to retailers asking for Tempur-Pedic by name, and as a result, we have network of great retail customers, several of whom I have had the chance to meet already, and I will meet many more in the coming months.

I look forward to forging long-lasting relationships with them.

We also have an advantaged business structure, we have a single product line to all retailers and a unique pricing and promotion strategy, we are vertically integrated and we have differentiated R&D capability.

Finally, we have an experienced executive team, dedicated to growing the business, and one that works exceptionally well together.

Indeed, throughout the Company the employees are talented and productive.

With this strong foundation we have identified three areas where we can clearly see opportunities for growth over the longer-term.

These are all significant long-term initiatives, but I anticipate substantial progress by the end of 2009.

Number one, we will improve our effectiveness with retailers.

Historically we are a direct response company, today we predominantly sell through retail.

This change occurred relatively recently, and like any business going through such a change we can identify things to do better.

Our growth with retailers has been achieved because we offer great products, a consistent pricing model, and a level playing field with promotions.

We also offer high margins and products which consumers are prepared to pay a premium for; however, for us to become an even more important part of our retail customer mix we are going to make ourselves easier to do business with and a key component of this is a program currently underway to streamline our distribution network.

Number two, we will broaden and strengthen our product line.

Our Tempur material provides extraordinary support and great comfort, but we offer much more than that to our consumers.

Today we offer 10 mattresses each topped by Tempur material, but each different in feel, with different characteristics design to appeal to different consumer preference groups.

Now we can improve on effectiveness at communicating the range of different products that we sell, and we can also create new products that meet the needs of premium consumers that we don't currently address.

I can't give away secrets but suffice it to say that we have identify several significant opportunities.

Number three, we can improve our gross margins.

Over the last few year, our gross margins have decreased significantly.

We can and will address the three key reasons for this, firstly, we will take steps to slow and reverse the decline of our direct response business, our highest margin channel.

Secondly, rising costs, particularly of chemicals can be offset by improved productivity throughout our product chain.

Finally, our high fixed cost associated with our new plant in Albuquerque with diminish in significance as our volume grows.

Today I'm not going to communicate our numeric target for these key focus areas but you can be assured that we are setting them internally.

We have a very strong business and a clear plan for how to improve it.

And while the environment we find ourselves in today is literally unprecedented, we are taking those steps necessary to get through this period, and to be in a position to capitalize on the recovery.

I'll now hand over to Dale.

Thanks, Mark.

I'm going to focus my discussion on the third quarter financial result, the proposed repatriation and our current outlook.

Third quarter EPS was $0.32 on $24.1 million of net income, which compares to $0.49 and $38.8 million respectively in the third quarter of 2007.

In what was challenging quarter for the consumer sector we aggressively took costs out of the business to deliver this level of earnings.

In total, Tempur-Pedic achieved net sales of $253 million a decline of 14% over the same period last year.

Domestic sales were down 17%.

International sales were down 7% and on a constant currency basis, our international sales declined 13%, with a difference accounted for by favorable exchange rates.

Our international business experienced further weakness from the trend seen in the first half and the results were below our prior expectations for the segment.

By channel, our US direct business continues to be impacted, down 39%.

The US direct channel generally serves a lower consumer democratic than our retail channel so direct is more effected by economic slow downs.

Turning to the retail channel, we posted domestic net sales of $148 million a decline of 17%.

Internationally, retail sales were down 8% to $68 million.

On a product basis, globally, mattresses were down 16% driven bay 15% decline in units.

Domestic mattress sales declined 19% on an 18% decline in units reflecting flat pricing.

Declines in the direct business negatively impacted domestic blended average selling price, while retail channel ASPs continued to grow.

In the international segment, mattress sales declined 8% on a 10% unit decline.

In total, pillows were down 9%, driven by 10% decline in units.

Domestic pillow sales declined 19% on an 18% volume decline.

International pillow sales were up 3%, with flat unit volumes.

Gross margin for the quarter was 41.7% compared to the prior year, gross margin weakened primarily related to three factors.

First, the sales decline in our high margin direct business was a big factor.

This channel serves a lower consumer demographic, which we believe has been particularly impacted in this environment.

Second, oil pricing coming down in the quarter, the costs for the raw materials we use were up substantially versus last year.

In fact, they continued to go higher during the quarter.

We are coping with cost increases in the vicinity of the mid-20%s.

While our sourcing team is working to drive these and other costs lower, currently we are still experiencing very elevated levels.

Lastly, fixed cost deleverage was a significant headwind given the decline in sales and our efforts to lower inventory levels.

These factors were partially offset by improved manufacturing efficiencies in our operations.

On a sequential basis gross margin was down.

This decline was driven by unfavorable channel and segment mix as well as continued increases in the cost of raw materials including freight.

Improved efficiencies in our plants partially offset these factors.

During the quarter we were carefully monitoring sale trends and cost trends.

As conditions worsened we adapted quickly to adjust our spending levels.

With these actions, we delivered operating income of $42.9 million or 17% of net sales.

This is 180 basis point improvement from the second quarter, and a 350 basis point improvement from the first half.

Third quarter results reflect bad debt expense of approximately $1 million, related to a specific customer bankruptcy.

However, our DSOs are coming down, and our accounts receivable aging is improved.

Turning to the balance sheet, we took steps to improve our financial flexibility.

Operating cash flow was $73 million, a 30% increase.

We lowered inventories to $70 million, a $24 million reduction.

While accounts receivable were up with a sequential increase in sales, we generated substantial benefit from working capital.

I would like to thank our operating teams around the world for their efforts in this area.

As a result of that great cash performance, we reduced debt by $38 million to $519 million.

In addition, cash rose to $88 million, up $19 million.

I would like to spend a moment reviewing some thoughts about our $640 million credit facility.

Given the environment, we believe our credit facility is quite attractive in many ways.

It is a revolving facility, where we can borrow or pay down debt as we see fit.

The relative borrowing cost is low.

At current leverage levels, we pay LIBOR plus 100 basis points, and our facility fee is only 20 basis points more.

Our pricing grid for margin fluctuates based on leverage levels.

It has a maximum margin of 125 basis points, and can step all the way down to 63 basis points.

The facility has no mandatory principal payments and does not mature until 2012.

In our industry, we believe these terms are a significant competitive advantage and a significant benefit to our shareholders.

As of the end of the quarter, our funded debt to EBITDA ratio was 2.45 times, well below our debt covenant of 3 times.

And so we are taking steps to ensure this favorable credit facility remains in place.

To that end, today, we are announcing initiatives to further improve our industry-leading financial flexibility.

Over the coming months, the Company plans to repatriate approximately $140 million of foreign earnings.

As of the end of the third quarter, we had $75 million in cash in our international operations, and this action will allow us to immediately utilize much of this cash to pay down debt.

As part of the repatriation, we will simultaneously deleverage our domestic business, while modestly leveraging our international business.

Thereby allowing for more rapid overall debt reduction resulting from cash flow in both businesses in the coming year.

We anticipate recording a tax charge of approximately $13 million in the fourth quarter related to the repatriation.

As a result of the timing of this activity, we would anticipate the repatriation effort alone will enable us to lower debt in the fourth quarter by at least $80 million.

As Mark mentioned, we are also suspending the dividend and redirecting those funds to pay down debt.

This activity will allow for $30 million of incremental debt reduction between now and the end of 2009.

Now, while we believe deleveraging is the prudent course in this environment, we will continue to have access to substantial incremental borrowing capacity under our existing credit facility.

We will be able to access this liquidity in the future as appropriate to invest in such activities as growth initiatives, stock buyback, and reinstating the dividend.

Now I would like to address our revised guidance for full year 2008.

Given the extraordinary events of recent weeks, the Company now believes fourth quarter sales and earnings will fall below prior expectations.

For sales, the Company currently expects full-year net sales to range from $930 million to $950 million.

For earnings, the Company currently expects diluted earnings per share for 2008 to range from $0.90 to $1.

This guidance does not take in to account the potential tax charge related to the proposed repatriation.

At the midpoint of our range, we are assuming a fourth quarter sales decline of 30%, versus the 14% decline in the third quarter.

We expect a larger decline in the domestic segment.

This would be consistent with the trends we have seen recently.

I note, that while we have experienced foreign exchange benefit on sales for the first three quarters, at current rates, foreign exchange would be a modest negative in the fourth quarter.

Further, our updated guidance assumes gross margins are flat to slightly down from the third quarter as favorable market mix, reduction in distribution cost, and productivity would be offset by elevated levels of raw material costs and fixed cost deleverage.

While we have taken actions to further reduce expenses we do expect some operating expense deleverage given these sales levels.

We are using a share count of 75 million shares and a full year tax rate of 34.5%.

As noted in our press release our guidance and these expectations are based on information available at the time of the release and are subject to changing conditions, many of which are outside the Company's control.

This concludes our prepared remarks and at this point, operator, we would like to open the call to questions.

Thank you.

(OPERATOR INSTRUCTIONS).

We'll go first to Mark Rupe with Longbow Research.

Welcome aboard, Mark.

Welcome aboard and congrats to the team.

Just two questions.

One when you mentioned that you were talk about new broadening the product offering, were you speaking to mattresses or speaking to possibly opening it up to other types of products?

Fundamentally I'm talking about mattresses.

Obviously we have other products like pillows and the ergo system, so there are other things beyond, but fundamentally I'm talking about mattresses and sleep systems.

Okay.

Secondly, any incite that you could give on some of the cost containment or cost reduction you have on the operating side looks in to '09 whether it's the fixed cost or some more of the variable stuff that you can do if volumes are like this continuing in to next year.

Hey, Mark, this is Dale.

From a cost standpoint, obviously we will tightly control all of our costs, make sure that the things that we're spending money on are things that will give us quick and immediate payback, you know, we will continue to advertise.

We'll continue to invest in R&D, but the advertising will be in line with the sales expectations.

Sure.

Beyond that, we are tightening our expenses, we -- had a large headcount reduction earlier in the year.

We're continuing to allow headcounts to decrease across the business through attrition, and so we're just trying to make sure that everything that we spending money on is prudent and things that we absolutely need.

Okay.

Perfect.

And then lastly, as it relate to the domestic kind of trends obviously I think you mentioned 30% overall and more domestically.

Is that -- I'm assuming that is based on the last three quarters of trends, is that fair to say how domestically a little bit worst than 30%?

You said last three quarters.

I'm sorry last three weeks of the month of September?

Yes, I mean, the domestic business as you can imagine as slowed down significantly with the financial crisis that's impacted most all consumer companies.

Okay.

But I mean as far as the assumptions for the fourth quarter are they in line with how things have trended or are they worse than the last part of the quarter?

Yes, basically what we are expecting from this guidance outlook is saying what we seen here in the most recent time period --

Okay.

-- financial crisis, will not change.

Okay.

Perfect.

Thank you, guys.

We'll go next to Bob Drbul with Barclay's Capital.

Hi, good evening.

Hi, Bob.

First you mentioned -- I it think it was bankruptcy of one customer.

Can you just talk about how you are manage and sort of focusing on your customer base given the fragmentation, the number of partners that you have, and how you are manage the receivable side of it?

And then the second piece of it so can you maybe just talk about the mix of sales in terms of some of the higher-end launches versus the opening price points and sort of the trends that you are seeing around that, and how you are sort of manage for that in this environment.

Sure, I'll address the second one first.

In terms of mix of sales, other than the channel mix of DR being weaker than the retail business.

Our mix of sales has been fairly standard.

We haven't seen the pricing or the products that are selling change dramatically across the line, the weakness has been broadly across the line.

Each of the products has been down within a relative percentage of each other, so, we're seeing weakness across the whole line not just to the low-end or the high-end of our line.

So, that's something that has been a little bit curious, but also something that we have seen consistently throughout the year, and it hasn't changed in the last quarter.

On the receivables side, we do have a very fragmented industry.

It's very fragmented customer base, so obviously, the larger customers, we are monitoring on a daily basis.

The other customers, we are monitoring on an exclusionary basis, looking at receivables.

Any time somebody gets past due, it pops up, and they get looked at.

We have always been pretty tight on our receivables control, and we put even more focus on it during these economic times.

The large bankruptcy we had in the third quarter, that customer was current.

So it is something that -- we have a lot of focus on.

Our credit and collections team, and executive management is looking at this on a daily basis in terms of how customers are doing, where they are going, and as I say, our aging is actually better.

We have been able to improve our aging.

We have been able to reduce our DSOs even in this tough economic environment.

However, in this environment, you are going to have people go under.

Great.

The -- what we have done is -- in the second quarter, we beefed up our receivable reserves, we -- we beefed up our expense in the third quarter, so we're trying to stay ahead of it.

Good luck.

Thank you very much.

Thanks.

We'll go next to Ruma Mukerji with JPMorgan.

Hey, hi, guys.

Hello.

Could you just talk about trends in ( Indiscernible ) at retail for you guys in terms of slots per store and what you are seeing there.

As you know we don't share the exact number, but even this period, we have been growing our spots per store throughout the year, and it has continue inside this last quarter.

Okay.

And just a small kind of housekeeping question.

How much did you spend on R&D in the quarter?

And how much on advertising?

Advertising spend in the quarter was $18.5 million.

Okay.

And R&D spend in the quarter was $1.3 million.

Thank you.

That's it.

We'll go next to John Baugh with Stifel Nicolaus.

Good afternoon, thank you.

Good afternoon.

The ad spend going forward, trying to stay in line with sales, would that be 9- percent of sales as revenues track next year wherever they come out?

Yes.

Okay.

And could you talk through then Dale again the fixed versus variable cost, because we need to make our own volume assumptions in '09, some hell .

And some color on the quarter that just where you obviously reduced inventories a lot, so I assume you didn't run the factories very well.

Something to draw from your gross margin performance in the third quarter from under utilization of plant and equipment relative to the revenue you

Okay.

( inaudible) I'll give you a chance of-to-remind me.

In terms of mixed versus variable we'll talk about it in a couple of different pieces.

From a gross -- or cost of goods standpoint, our fixed cost typically runs in the neighborhood of about 20%.

The rest of the cost structure is fairly variable, chemicals, other materials, direct play labor, being a small component of our cost structure.

Freight and transportation.

There is a element of freight and transportation that is fixed, but a large piece of that is variable related to moving goods around in -- the third quarter, as you can imagine, significant fuel surcharges given the way that diesel spiked up late in Q2, and really, diesel hasn't dropped a lot.

It started to come down here recently, and will be part of the factor of giving us a little bit of relief in the fourth quarter as diesel has started to drop some.

What did go up quite a bit though, was -- you know, in the quarter, as we expected, but it kind of hit us actually a little bit harder, was chemical costs, and -- oil has dropped significantly from it's a highs in late July, but as often happens in the chemical industry, we're not seeing a response yet from the chemical companies to react to the change in oil prices.

They tend to be a little bit slow to react on the way up, but not as slow as they are on the way down.

In fact, historically we have never seen a big reduction on the way down, but certainly we're pushing hard for it.

The other -- getting down to the operating expenses, from a selling and marketing standpoint, we typically look at selling and marketing expenses of being roughly in the neighborhood of 75% variable.

G&A is probably about 75% fixed.

And R&D is -- is probably about 75% fixed, but, we try to keep R&D pretty sacred and keep nutting money in to it.

And beyond the gross margin impact negatively from bringing inventories down in Q3.

Certainly, we did have a inventory reductions over the last two quarters, and yet we saw the brunt of it occur in the third quarter, so the -- the factories were running at a much lower rate than the sell through.

So one of the positives, if you can call it a positive in this down environment, is, you know, where we were expecting the factories, actually to pick up in their production volumes to get more in line with what we were selling, as we have been producing a lot less than we were selling, with the recent trends because of the financial crisis, our production volumes will be fairly stable.

And when we start to see some uptick in demand is when we'll see an immediate need to increase our production volumes.

Great.

We have wrung out the inventory out of the system at this stage.

Thank you very much.

(OPERATOR INSTRUCTIONS).

We'll go next to Chad [Bowland] with Raymond James.

Couple of housekeeping for me as well.

Did you give an updated retail door count?

No, we didn't in the script.

The retail door count was 6800.

6800 US and what about international?

International was flat at 5100.

5100.

And do you have US furniture and bedding sales in front of you?

Yes.

US furniture and bedding sales was 130.5 million.

Great.

And I guess -- maybe a couple more strategy-oriented questions.

I think Mark in his comments alluded to some steps or some planned actions that you would have to hopefully improve the performance of the district business.

Is there anything you could elaborate on or share with us in that respect.

Sure.

It clearly is a very important part of our business, but as the same time as you guys know, this is not sample or quick task.

Fundamentally we used to be a DR company exclusively, and now we have -- knocking on 7,000 doors selling the products alongside.

But I think that -- that DR is important component of our business, and it meets the needs of a significant slice of our consumers, and -- and I think that one of the -- one of the interesting facts a about it is we know about 50% of people who buy a Tempur-Pedic mattress from a retail store have checked out the website before they do that.

So we have an incredibly important communication tool at least.

I think we have the opportunity to even strengthen the services and the functionality in the way that we use that direct communication, using the internet in particular.

So we do think there are opportunities.

It's not going to be a quick turn, but it is important and it is something we see a long-term future for.

Okay.

And I less another maybe longer-term oriented question, obviously you mentioned in your comments over the last several years, we have seen specialty in premium and Tempur gaining share at the expense of the other category, and with the downturn that we have seen, it has been a pretty startling reversal.

When we start to see or feel a recovery in again manned for the broader industry, would you anticipate that the high-end stuff would coincide with the recovery, lag the recovery, or would lead?

Any thoughts you have in that respect?

It is certainly a crystal ball type of question, but I think there are some fundamentals here.

I think the trends towards specialty and particularly toward the trend in the Tempur material, is a very long-running trend, and it's an ongoing thing.

When -- in addition to that, we have seen -- I have seen a lot of data.

There is a lot of data a in the Company that shows that consumers significantly prefer the quality of sleep they get on the Tempur-Pedic mattress.

They really do.

It is something that blind tests would validate.

So it a superior thing, and people really do value the difference, and increasingly people care about sleep as a health -- as a component of their overall health program.

So I believe the fundamental long-term demand is -- is as strong as it ever was.

And I they the other thing that is going on right now that people -- people can defer this decision relatively easily, and right now, I think what is happening to a large extent is that people in this incredibly uncertain people, are taking d are deferring their decision to upgrade their mattress.

But when the world becomes more normal again, I think we'll go back to normal, and then we come to your question of will they go to the up -- or the high or low-end?

And what I think has been a trend that lasted much longer than the trend I just referred to, is the fact that consumers increasingly are -- across all product types are dividing in to those types of products that they'll pay a good price for a functional product, a base product, they'll pay -- they'll expect to pay a relatively modest price for many things, but for the things they really care about they will invest to get a premium item.

Our mattress and sleep in general definitely falls in to that category.

These trends really point to the fact that we'll be well positioned when this economy comes back to normality.

Great.

Well thank you very much.

And good luck to you for the rest of the year.

Thank you very much.

We'll go next to Keith Hughes with SunTrust.

Thank you.

Most of my questions have been asked, but you had discussed new product strength in product lines in your prepared comments.

Historically you have not gone below about $1,500 for a queen set.

Is that just a barrier that doesn't make sense for Tempur-Pedic to go below, or would you consider that in the future, particularly given the economic situation?

Is no sort of arbitrary sort of golden rule number.

But we are a premium product.

Consumers, are paying for a premium product, and what we have identified already, within the premium consumer set, those people who are prepared to pay more than $1,000 $1,500 per bed, there are significant -- there is significant opportunities for us to -- to meet the needs of consumers that we quite frankly don't yet meet.

So while I'll never say never, at the moment we see no need for that, and we can see quite a lot of opportunities -- we can see a lot of opportunities in the areas that we are.

And frankly we are a premium product.

We are premium compared to other products in this category.

But on the other hand in terms of the amount of money we're asking people to play, to improve their sleep, their life really, it is a relatively low cost of improving your life, and that's how we think about it.

So we'll continue to make sure our products are valued and rep sheep at to the consumer and of course we'll make sure that our values remain strong.

Thank you.

We'll take our next question from Joe with Oppenheimer.

I just wanted to make sure I heard Mark right.

We have all seen the ISPA date, but you guys are gaining share, it sounds like in specialty.

The ISPA data has have been released is second quarter, and we were gaining share there, the latest data hasn't come out yet.

On the monthly data, ISPA doesn't great out specialty on a monthly basis.

Obviously we have seen ISPA data through August, but have no input on specialty after June.

In terms of your raw material outside of diesel, how much do you guys purchase in the spot market and how much do you guys purchase forward?

Basically what we have is, contractual relationships with a number of chemical companies.

It's not really a spot market thing.

It's -- contract price, but they can change their pricing on a notice basis, and so -- this year, as, through -- all the way through July as oil kept increasing and kept increasing, we kept periodically getting notices of price increases.

Now the funny thing is it's not happening in reverse, at least not yet.

But belief me, we are hammering that point home, and, we hope to see a turn around there, but it's not something that we have yet, and it's -- so therefore, we're not counting on it, and our guidance for the rest of the year.

One of the issues that the chemical companies raised for a while was the Hurricane Ivan, did disrupt production.

There was about three weeks of a couple of factories being down, shortages of supply.

They had allocations.

There was about a 50% allocation for about three weeks, and then it went to about a 70% allocation for another week or so after that before we got back to full supply.

So, you know, essentially we have just been back to full supply here in the last week or so, now is when we're trying to press them on getting some cost reductions for the drop in oil prices.

When it will come, I don't know.

Any production probably won't be seen until early '09.

Yes We're not counting on it this year, but I would certainly like to see something before then.

But I'm not counting on it.

Okay.

And then in terms of the actually one of the bright spot in the quarter, the international pillow business was flat which is actually much improved from what you have done in the past.

I'm not sure if you touched on any color there.

Yes, we didn't.

We can.

Our pillow business internationally -- our guess -- I'll start a different direction.

The US business -- the domestic business has been obviously struggling with the economy.

Internationally the European business, we saw some weakness in certain countries, and we saw it spreading as the year progressed.

In the third quarter we saw it spread even further, so basically now the entire European continent is suffering to some degree in terms of the economic weakness.

However, our Asian business continues to perform very well, and our pillow business is skewed a little bit to Asia because of Japan, and we had a good pillow quarter.

Our pillow business, if you look at it quarter-to-quarter was basically flat, and on a year-over-year basis it was up a little bit.

So the pillow business is skewed a little bit to Asia, and we're -- continue to have pretty good business performance in Asia.

Got it.

Okay.

And lastly on the max leverage ratio for your covenant, does that step down in '09?

No, we -- there is no step down, no provision for our covenants to change.

It's three times debt to EBITDA, and there's no provision in the agreement for that covenant to ever change.

What can change, as I mentioned in -- in talking about the credit agreement, is our spread, in terms -- above LIBOR can change based on our leverage levels.

Today at our current leverage levels, 2.45, we pay LIBOR plus 1.

If we get above 2.

-- if we get above 2.5, I believe it is, it goes to LIBOR plus 1.25.

If we get below -- if we get below 2.

-- I'm sorry 1.75, it drops to LIBOR plus 75, so there's a grid within the covenant in terms of the spread, but the covenant does do not change.

Got it.

Just to -- just to be clear on that, it as you mentioned, but I have the grid in front of me.

It's greater than -- 1.75 to 2.5, 1 to 1.75, and less than 1.

Less than one is when it drops to 63.

Perfect.

Thanks, guys.

(OPERATOR INSTRUCTIONS).

We'll go next to Al with Goldman Sachs.

Good afternoon, guys.

Quick question on the outlook on the fourth quarter on the -- if you could just talk about the range, what you are kind of assuming on the high-end and the low-end?

Does the high-end, assume current trends in the last four weeks stay the same, or -- if you could just talk a little bit about that.

No, in fact -- what we said in our -- in my prepared comments, was that the midpoint assumes the -- that we will see the trends that we have seen here over the recent weeks, during the financial crisis, we don't think that there's going to be a dramatic recovery.

It's possible that if things calm down, we might see, a little bit of pickup, hence, the high-end not dramatically different, and -- and it's possible -- things could further deteriorate, hence the low-end.

We have got a quarter to go, or 2.5 months to go.

So, in terms of it's a fairly tight band, but with a lot of uncertainty, we're trying to have a -- as tight of band as we can, but still give you decent information, but I don't think, particularly in the fourth quarter, being a seasonally weak quarter format , if consumers suddenly start feeling better, they are likely to go buy flat screen TVs rather than mattress with Christmas coming up.

So that's not where we're expecting any change, certainly not to the upside this

Okay.

And I wanted to talk about the thoughts on the gross margins.

We're expecting flat to slightly down, but the last time that we saw, a dramatic step down in volumes, fourth quarter to first quarter, you saw your margins decline, 500 basis points sequentially, so how do you -- how do you handle the -- the step down in volumes on the fixed-cost side.

And as we were talking about with one of the prior questions, from a production-volume standpoint, because we were running productions significantly less than sales to bleed out the inventory, even at this lower revenue level, the production volume doesn't change much because we were already already producing at a significantly lower rate than we were selling.

What we had been planning for, and hoping for, before the financial crisis that hit several weeks ago, was that we would actually see production volumes pick up in the fourth quarter.

Now it looks like that will be delayed, but the overall production volume is not dramatically different this quarter than it was last quarter.

We -- and -- and we did see significant cost pressure and -- last quarter around diesel pricing.

We are seeing some relief there, so our freight cost is coming down this quarter compared to what we experienced last quarter.

That is one element is that turning favorable, given the drop in oil prices, and starting to see a reasonable drop in diesel prices.

We have got some other productivity initiatives.

Some things that have been in the works for a while that is starting to kick in and deliver some benefits that we're expecting that chemicals will -- continue to be high.

Okay.

But if -- I just want to clarify -- I mean if -- I understand you were producing less -- well less than you were selling in the third quarter, but given the dramatic reduction, again, in volume for the last few weeks, wouldn't that eventually have to translate to even further lower production volumes to kind of keep your inventories in check?

Yes, we'll keep the inventories in check, but what we're not expecting is the kind of inventory reduction that we saw -- have seen over the last couple of quarters.

We have wrung out the inventories.

The inventories are at the lowest levels they have been since 2004, and so we feel like the inventories are at the right level now and they will adjust from here with sell-through volumes.

Okay.

And then final two questions, if I may.

First is on the new products.

Any meaningful impact in the third quarter?

And -- and can you talk about fourth quarter?

Is there any continued impact from fill in on the new products?

The -- two of the new products we're shipping in the third quarter, and they did contribute although not dramatically or meaningfully overall to the overall results, the BellaFina , the third one, that is just going in right now, so it going to affect the fourth quarter.

All three products have been received well.

Retailers have responded very well to them, and they have been getting the sell-through that we had expected if you take the precaution of sell-through we're getting on everything.

I can't talk about the BellaFina, the third one, but the first two are doing quite well, but on the other hand, the sell-in is not a material contribution to the overall

Okay.

Got it.

Okay.

Thank you very much.

Thank you.

We'll talk our next question from John Bah with Stifel Nicolaus.

I just wanted to circle back, Mark maybe with your philosophy on ad spending.

A lot of the ad spending you do is brand or long-term oriented.

There is some philosophy you advertise when the ducks are flying.

Ducks are not flying right now.

Is there a scenario to where you may cut back to well below 9% of sales ad spend, if it's a choice between, busting covenants and -- or is that a variable you just won't touch?

First of all, let me explain a little bit of philosophy on this, and then I'll answer the specific, but the philosophy is we have a really rather remarkable situation here in that our brand is remarkably well-known, but it's more -- if you ask consumers to describe a Tempur-Pedic, they can.

If you ask them to describe the difference between a Tempur-Pedic and another product, they can.

If you ask consumers about many of our competitor's pros, they really can't.

We really do have -- it's not just a philosophy, it's crucial part of our whole -- the way this business works, and it has been systemically something we have invested, $600 million over the last six years, and we certainly are going to continue it.

And right now, so far this year, we're -- we're spending on advertising is almost exactly on -- on trend with what it was last year in terms of percent of sales.

I think it was 9.2, versus 9.3 last year.

It is very close.

And we anticipate for 2009 and beyond, that we will continue to have investment levels at the same rate.

However, having said that, I think your -- whatever you said ducks are flying or fish are feeding, there is a period right now advertising right at this moment is not as effective and it would normally be.

The investment -- the return on investment in advertising in this environment is not nearly as good.

So we're going to be thousandth thoughtful about it in the fourth quarter and bring in the beginning of next year, and we'll do it appropriately.

We want to make sure when we do spend the money it has the greatest value.

We don't do this sort of blindly, or just because there is a formula, we're going to do it sensibly and thoughtfully.

By definitely as model outgoing forward, our anticipation is to maintain this 9 to 10% range in a normal period, but we may move it from period to period, especially in environments like this.

Great.

That's very helpful.

Thank you.

John, this is Dale.

I just wanted to add one other thing.

You kind of framed it in terms of busting a covenant.

The actions we're taking give us significant room on our now.

Around the repatriation, bringing $140 million back, that is going to not all immediately, but over the course of the fourth quarter and in to 2009, end up taking debt down by $140 million.

So we're developing a lot of breathing room on those covenants.

140 or 75?

I'm sorry?

The repatriation --

The entire repatriation is going to be $140.

We don't have $140 million move in the fourth quarter, but it -- the money will come in two tranches.

We'll have, you know, -- I said that we would -- with the repatriation alone reduce debt by about $80 million.

We have a lot of cash over seas.

That cash will come over.

We also have unused borrowing capacity where we'll draw on that credit facility for -- on the European side, reduce the use of the credit facility on the US side.

That doesn't immediately impact the over all debt level, but that what that does for us is it sets up so that cash flow next year in the international business goes to reducing part of the debt as opposed to just any US cash flow reducing debt.

So within the next six to nine months, we're going to see debt just because of the repatriation down $140 million.

Right.

And there's discussion of possibly, for some time eliminating the tax on repatriating money.

Does that factor in to your thinking, or does that make sense irregardless.

It makes sense irregardless.

You can see at $13 million potential tax charge related to bringing $140 million back, that's a pretty efficient mechanism for us.

There has not been -- back in 2005, there was a temporary reduced tax related to the Reinvest in America Act.

It appeared that, going back a year or so ago, it appeared that there may have been the potential for Congress to pass a similar legislation again, that has not come up at all.

Even in the recent finance -- the last few weeks of the recent financial crisis, the idea of having another Reinvest in America Act has not come up at all in Congress.

Thing only thing that has column is being able to borrow money from our overseas businesses, but that's only for 60 days, so it doesn't appear Congress is going to do anything, so we're act to protect ourselves.

Thank you.

(OPERATOR INSTRUCTIONS).

We'll go next Joan Storms with Wedbush Morgan.

Hi, good afternoon, everybody.

Good afternoon.

Couple of quick questions.

You know, when you gave the guidance -- by the way, solid, really good execution in the quarter.

When you had given that guidance sort of the loaned was -- or the high-end, whatever, is dependent upon, the new product plus the season amity.

Obviously we know the last couple of week or four weeks in particular have been really tough for the consumer to just, shut their pocketbooks, but can you comment at all about Labor Day, that's traditionally one of the strong selling periods for the year, and did that come off for you as expected?

Labor Day was actually, to be honest, pretty good.

We don't talk about holidays usually, but this particular Labor Day was pretty good.

And it looked like the sun was coming out again.

And I think the crisis happened just about after that.

Yes, it was round that time that the turn happened.

And then, we talked to a number of the spring companies at the show in July, and one of the retailers that -- asking for what the demand seems to be was sort of in the lower-priced mattresses.

I know you commented about how the new mattresses that you introduced were doing, but would there be any consideration to -- in order to drive some business developing, something below the $1,000 price point?

Well, as I said before we're not going to say it will never be done.

But I we need to do is to -- to maintain products that deliver on the Tempur-Pedic quality and premium, at a good margin and meet the needs of consumers, and frankly there are quite big opportunities available us to.

And one of the things that we noticed is this.

Dale referred to it earlier.

If you look at our portfolio as a whole, it is interesting how the -- the impact of the crisis has been relative -- not just relatively, very, very even across the different price points of our -- of our whole range.

And there's no reason to believe -- you would have thought that -- if -- if there was sort of a latent demand for a -- for a lower-priced Tempur-Pedic product, that our lower-priced items would be doing disproportionately welcome paired to the others one.

And really we're not seeing that.

So quite honestly now we don't see any need to change your strategy, especially since we can see the opportunity for more products to fulfill significantly.

Okay.

And then, Dale, I couldn't remember, I mean, are you commenting still about number of doors open during the quarter, or are you still generally saying about 100 a year.

In terms of future expectations, no, we haven't commented on our future expectations, but we do comment on what we opened.

We ended any third quarter domestically at 6800 furniture and bedding doors, the door count was up about 150 doors in the third quarter.

Internationally that channel was basically flat on a door-count basis.

Okay.

And great job getting the inventories down.

I think you commented before.

I just want to clarify to make sure I understand.

Right now the inventory levels as you say were the lowest since -- in a few years, and that sort of at a level now that you are comfortable with, and that sell in will continue to adjust, so we should expect similar level of inventory at year end?

Yes.

Okay.

Excellent.

Thank you.

Thanks, Joan.

Thanks a lot.

Unfortunately that is all of the time that we have for questions today.

So I'll turn the call back over to management for any additional or closing remarks.

Thank you everybody, and we look forward to talking with you again in January when we will review the fourth quarter.

Thanks for joining us tonight.

This does conclude today's teleconference.

You may now disconnect, and have a wonderful evening.