Tempur Sealy International Inc (TPX) 2010 Q1 法說會逐字稿

Good day, and welcome to the Tempur-Pedic first quarter 2010 earnings conference call.

Today's conference is being recorded.

At this time, I would like to turn the conference over to Barry Hytinen, Senior Vice President.

Please go ahead.

Thank you, Anthony.

And thank you all for participating in today's call.

Joining me in our Lexington headquarters are 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.

Actual 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 filings, 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 statement speaks only as of the date on which it is made.

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

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

Now with that introduction, it is my pleasure to turn the call over to Mark.

Thanks, Barry, and good evening, everybody.

Thanks for joining us tonight.

Today I will provide a brief overview of our performance in the first quarter, and then an update on some of our strategic focus areas, and then a commentary on our outlook.

Dale will then provide a detailed review of the first quarter financial results, and will discuss our revised guidance.

We are very pleased with our first quarter results.

We have increased sales and grown our market share while improving both our gross and operating margins.

Our investments in marketing and research and development are driving our sales momentum, and we believe they will continue to do so in the future.

Sales were up 43% from last year, and earnings per share were up 144%.

Fixed cost leverage and our productivity program helped increase gross margin by 300 basis points year-over-year, to 49.2%, and we were able to increase our operating margin by 600 basis points year-over-year to 20.6%.

Overall, a very good start to the year.

During the earnings call three months ago, I outlined our strategic focus areas for 2010 and beyond to drive growth.

And I said that from time to time this year, we would update the investment community on our progress.

Today I will talk about three of them.

Our commitment to make sure that there's a Tempur mattress for everyone, our commitment to ensure that everyone knows that they would sleep better on Tempur, and finally, our commitment to ensure that Tempur is available to everyone.

Firstly, I am very pleased with the progress we made this quarter to ensure there is a Tempur mattress and a pillow that appeals to everyone.

Our new Cloud and Sensation lines both experienced strong growth.

We designed these products to address specific holes in our existing product line, and they're doing what we had hoped--expanding our addressable market and growing share.

The TEMPUR-Cloud Supreme, which we only launched in November, has already completed its rollout in the US.

The performance of this new product has been exceptional, and importantly, it appears to be very largely incremental to our business.

We began shipping the entry-level Cloud mattress in mid-February.

It has gained significant new floor space and is performing well, and its rollout will continue throughout the second quarter.

And earlier this year at the Vegas market, we showed our top-of-the-line Cloud mattress, the Cloud Luxe.

And in response to retailer enthusiasm, we have accelerated our launch plan for the Luxe, and expect to start shipping in August.

And in the second quarter, we will begin distributing the Cloud line in Canada.

Internationally, our Sensation mattress line continues its rollout across Europe.

We have been very impressed with this lines' sales per slot and distribution gains.

Also, last quarter we introduced the Promessa mattress in Europe.

It is a completely unique mattress, extraordinarily soft and comfortable, and with a sleeping surface which is contoured like a wave.

You have to see it to believe it.

And it is priced higher.

The queen-size mattress equivalent of about $7,000, which means this is our highest priced mattress anywhere in the world.

And it certainly has been catching the attention of retailers across Europe.

So it is a busy new product year for us, and we have got interesting concepts under development which should provide us with compelling offerings in the years to follow.

The second strategic focus area that I want to discuss is our commitment to ensuring everyone knows they would sleep better on a Tempur mattress and pillow.

And here too, we have made good progress.

We sharply increased our advertising spending, up 53%.

And most of our $22 million advertising was focused on our "Ask Me" marketing campaign.

This campaign focuses on one of our brands greatest assets, the extremely positive referrals we get from existing owners.

The Ask Me campaign is fully integrated into all our US consumer communications.

And in February, we launched our first product-specific TV ad focused on the Cloud line.

We're also working with many of our retail partners to incorporate our marketing message directly into their ad campaigns.

And we are seeing strong uptake from those retailers who see the benefit of being seen as the destination for Tempur-Pedic in their area, and thus leverage the investment we are making on advertising.

Finally, the third strategic area is our commitment to ensure Tempur is available to everyone.

In both the US and internationally, the continued slot growth related to our rollout of the Cloud and Sensation lines expanded our square footage at retail considerably.

And for the first time since the recession began, we added to our international door count and see opportunities for considerable additional door growth.

In addition, we have expanded our distribution by establishing a joint venture in China, and completing the acquisition of our Canadian distributor.

We see opportunities for significant long-term growth in both markets, and so we will be increasing our marketing investments in both those geographies.

Now, before I hand over to Dale, I will comment on our near-term outlook.

During the macro economic downturn when business visibility was low, we were projecting sales and earnings based on our most recent quarterly sales volumes.

Today, the macro environment appears to be gradually recovering, and recent results indicate the start of a recovery is underway in the mattress category, too.

Retailers tell us that they have seen stabilization in customer traffic.

Also, over the next few years, we believe the mattress market will experience a benefit from the pent-up demand of deferred purchases.

And at the same time, our investments in marketing and new products are gaining traction, and as a result, we are growing market share.

We feel it is now appropriate to evolve our methodology for financial projections.

I will let Dale discuss the numbers in detail, but at a high level, we are projecting sales in 2010 based on the assumptions that number one, the mattress market is recovering; number two, that normal seasonality is returning; and number three, that we hold our -- we grow our market share for the full year.

These assumptions have caused us to raise our projected sales, and with the resulting cost leverage, we are projecting to grow earnings materially higher than we had previously projected.

In summary, we've had a very good quarter, and we are expecting that we will have a good year overall.

In the longer term, we remain confident that there is enormous potential for Tempur-Pedic, and we are executing effectively on our plan to capitalize on that opportunity.

With that, I will now hand it over to Dale.

Thanks, Mark.

I will focus my commentary on the financials and our 2010 guidance.

In total, first quarter net sales were $254 million, an increase of 43% over the same period last year.

As we projected on our last call, foreign exchange rates were modestly favorable during the quarter, and on a constant currency basis, net sales increased 40%.

Domestic sales were up 57%, and international sales were up 24%.

On a constant currency basis, our international sales were up 15%.

By channel, in domestic retail, net sales were $143 million, an increase of 53%.

Our domestic direct channel was up over $6 million, or 72%.

Internationally, retail sales were up 22%, to $70 million.

On a product basis, mattresses were up 42% driven by a 41% increase in units.

Domestic mattress sales increased 55% on a 67% increase in units.

The 7% decline in average price reflects the impact of deeply discounted floor models related to our product rollout and the very positive trends we are seeing in the sales per slot of our new Cloud line, which is currently priced below our US average.

As we have previously announced, effective in May, we are raising the price of the TEMPUR-Cloud Supreme, which will bring the pricing of that model to slightly above our US average.

If we adjust our first quarter sales to remove the impact of floor models and add the benefit of price increases for the Cloud and Advantage models, we estimate US average selling price would have been flat to slightly up on a year-over-year basis.

For the second quarter, with pricing and fewer floor models, we would expect to see average US price grow sequentially.

In the international segment mattress sales increased 19%.

On a constant currency basis, international mattress sales were up 10%.

International mattress units increased 13%.

In total, pillows were up 33%, driven by a 35% increase in units.

Domestic pillow sales increased 44% on unit growth of 54%.

International pillow sales were up 26% on an 18% increase in volumes.

Sales of our other product line, which includes items that are normally sold along with the mattress, were up 55%.

This product line grew faster than mattresses driven largely by the pricing action we took last year when we upgraded our foundation and improved attach rates of our adjustable beds.

Gross margin for the quarter was 49.2%, up 300 basis points year-on-year, and 70 basis points sequentially.

On a year-over-year basis, the gross margin improved principally related to increased production volumes to support higher sales resulting in fixed cost leverage, and our ongoing productivity program generated improved efficiencies in manufacturing and distribution.

Partially offsetting these benefits were unfavorable geographic mix, new product introductions, and higher commodity costs.

With significant sales growth, we drove over 300 basis points of operating expense leverage, this despite having ramped advertising spend as a percentage of revenue up 60 basis points.

While our G&A expense was up year-on-year, this primarily reflects a significant increase in bonus accruals.

Last year during the first half, we were underrunning our financial targets and therefore accruing bonus below our target rate.

However for 2010, in light of our increased outlook, we are accruing bonus at maximum levels for our financial targets.

Interest expense was $3 million, down $1.4 million year-on-year, reflecting lower debt levels.

Our tax rate was 32.5%, reflecting favorable geographic mix.

Net income was $33.1 million, up from $13.3 million.

Investors will notice a new line on our income statement, net income attributable to noncontrolling interest.

This line reflects our minority partner's share of income in our Chinese joint venture.

Given our improved profitability, EPS was $0.44, up from $0.18 last year.

On a year-over-year basis, despite repurchases, our share count is up due to more in-the-money stock options affecting the diluted share count.

Now I will turn to the balance sheet for a brief review.

Our accounts receivable balance was up, reflecting improved sales levels; however, DSOs were down four days from the first quarter of last year.

Inventories were up $7 million year-on-year, consistent with our projections on our last call, when we highlighted that our inventory levels would likely grow with new product launches and our positive outlook for sales.

We generated $23 million of operating cash flow during the quarter, and capital expenditures were $3 million.

As we have previously disclosed, effective April 1, we acquired our Canadian distributor.

Our cash and debt balances, as of March 31, reflect the timing of the purchase.

Our funded debt to adjusted EBITDA ratio was 1.9 times, far below our debt covenant of 3 times.

Now I would like to make a few comments about our share repurchase program.

Through open market purchases, we bought back 3.7 million shares during the quarter, fully utilizing the $100 million repurchase authorization we announced in January.

Consistent with our increased outlook for 2010 and our long-term goals, we believe we are well-positioned for substantial growth in sales earnings and cash flow with limited capital expenditures over the next several years.

As we have said, we have enough manufacturing capacity to nearly triple our 2009 sales, and our financial projections assume fully funding our key initiatives such as marking and research and development.

Even with these investments, we project we will generate substantial excess cash.

After considerable evaluation of our capital structure and potential uses of cash, such as paying down our revolver, instituting a dividend, among other options, we continue to view share repurchases as an excellent means to return value to shareholders over the long term.

We are currently targeting the debt-to-EBITDA ratio to be between 1.5 times and 2 times.

So we are pleased to announce our Board of Directors has authorized the repurchase of another $100 million of the Company's common stock pursuant to the program described in our press release.

Now I would like to address our updated guidance for full year 2010.

We currently expect net sales to range from $1.02 billion to $1.06 billion, and we currently expect EPS to range from $1.70 to $1.85 per diluted share.

We expect our gross margin to be up 200 basis points or more for the full year, driven by fixed cost leverage in our ongoing productivity plan.

We are planning for commodity costs to rise throughout the remainder of the year, and we are assuming unfavorable geographic mix related to the faster growth from our US business.

Regarding the second quarter, we expect sales in our international segment will be down from the first quarter, which is consistent with normal seasonality, and will result in negative geographic mix as it relates to gross profit.

Also, late in the first quarter, we absorbed some commodity price increases.

While we see opportunities to largely offset these factors, we expect second quarter gross margin to be flattish as compared to the first quarter.

Consistent with our long-term plans, we are planning to advertise at a rate of just over 9% of sales for the year.

We expect interest expense for the full year to be approximately $13.5 million, which includes the impact of our $100 million repurchase in the first quarter as well as interest rate swap and facility fees.

We anticipate the full-year tax rate to be generally in line with our first quarter run rate at 32.5%.

We are using a share count of just over 75 million for the full year.

This assumption includes the benefit from our repurchase activity in the first quarter, coupled with more options being in the money, given the appreciation of our stock.

However, our updated guidance does not assume benefit from the potential reduction in shares outstanding, related to today's new repurchase announcement.

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).

Our first question come will come from Mark Rupe with Longbow Research.

Congratulations on the quarter, a heck of a performance.

Could you provide anymore color on how the Cloud performed?

I know in the last quarter you broke it out; any chance you can do that again?

We aren't going to break it out in detail, Mark.

As you know, we don't break out products one by one.

We will say that the Cloud obviously has done very well.

It has contributed very significantly to our growth this quarter, and obviously, we are pleased with it.

And assumptions about it, like both its size and its level of cannibalization, appear to be certainly within -- on the good side of what we hoped for.

The other thing to say is that overall, the rest of our business, if you took the Cloud out, that's growing.

That has been growing.

So overall, we see good performance in the rest of the business, and then Cloud on top of that.

Okay, perfect.

Inherent in your new formulation for the guidance, you had mentioned an industry recovery, normalcies now, you need to grow market share.

Is there any numbers you can throw out, what your assumptions are for the market?

As we look at the situation, if we talk about our guidance in a little bit more detail.

We had been using, during the recession, four times our last quarter.

So at the low end of our guidance, that basically reflects about four times the -- or excuse me, four times the first quarter.

So that's the low end, but then what we have tried to do is take the first quarter as a baseline and look at what historically, taking out some abnormal years, but historically, what is the seasonal pattern of the business based on the projections -- or the experience that we have been seeing here over the last couple of quarters.

And that's how with we get the top end of the guidance.

The data through the first two months of the year would indicate that the market is growing, somewhere in the 7% to 8% range.

The projections we have seen from Furniture Today and ISPA indicate that the general expectation is the market will grow fairly consistently with what we saw an average for the first two months of about that 7% to 8% range.

So that's built in there.

Okay.

On the gross margin outlook, obviously you commented 200 basis points or more.

On the last call I believe it was 100 basis points or more.

Is there anything specifically -- is it just leverage that is the big difference between the delta between the two?

And then secondly, Dale, on the late Q1 commodity price increase, any color on that would be great, too and magnitude.

Okay.

As we look at our outlook for gross profit, you're right.

On the last call, we thought that gross profits would be up about 100 basis points this year.

We are now expecting it to be up 200 basis points or more this year.

Obviously we had a very good performance in the first quarter on that front.

We are -- what we are expecting in that is -- the big driver, certainly, volume leverage is a factor, but really the biggest driver is the productivity initiative, continuing to deliver results.

And we had a relatively small commodity -- we had a commodity price increase late in the quarter, which will give us full effect in the next quarter, but we are also expecting some additional commodity price increases as the year progresses.

Oil has been a little bit erratic, but generally on a little bit of an upward trend.

We are trying to build that into our expectations.

So the big drivers here, obviously, are continued volume leverage, continued productivity, price increases going into effect in May that will give us benefit as well.

Okay.

Great.

Just lastly on the new product over in Europe, can you remind me what that was again?

Was that Promessa?

Yes.

It is a -- the key product over in Europe is the Sensation, which is the product which is rolling out.

The Promessa -- it is an idea creator.

It is almost like a concept car.

It is a beautiful thing; it's really comfortable.

Next time you are in Europe, you should see it.

But it's expensive, so it is not going to sell a great deal.

But what it is is it is setting the level, the high level for which we will then cascade, the learnings that we'll get from that we are going cascade through the rest of the line.

Okay, perfect.

Congratulations again, guys.

Best of luck.

Our next question will come from Bob Drbul with Barclays Capital.

Hi.

Good afternoon, congratulations.

Thank you very much.

I guess the first question is, on the business itself, domestically versus internationally, if you back out Cloud, how much of -- how are the numbers ex Cloud.

As Mark said earlier, Bob, this is Dale.

We gave some specific information about Cloud in the fourth quarter because it was brand new.

It is not our practice to give product-specific, or product-line-specific information, primarily for competitive reasons.

But as Mark mentioned, our US business ex-Cloud is doing well.

Our core business is doing well; it showed good growth in the first quarter, and that's why we believe that the Cloud is largely incremental.

So, in combination, it is doing very well.

Certainly the Cloud is a key driver of the outsized performance of the US business, and internationally, what we are seeing there is very pleased with the progress of the international business.

But I would just remind people that the international market got into the recession later than the US market did.

We would expect it to come out later, and it is tracked roughly a quarter or so behind the US business on its recover.

But I would also say that we don't expect it to rebound quite as sharply as the US initially, just because it is a much more complicated and diverse market.

And there are some countries in Europe, specifically, that are still really struggling.

We have some countries that have recovered very nicely; other countries are still struggling.

So it is more of a mixed bag internationally, but we are very pleased to see 15% constant dollar growth over there.

Great.

And then on the industry itself, is there any way to quantify just how long you believe the consumers have pushed out the replacement cycle?

How much of this is pent-up demand and how much was pushed-out demand?

That is -- frankly the answer is not really.

The thing I think is going to happen, is that there is some proportion of what the lift that we are seeing now in the industry as a whole, that is the pent-up demand coming back.

My personal belief is this pent-up demand is not going to be like a switch going back on.

I don't think it's going to be going from -- it is not going to be a step-function change.

I think it is going to be a gradual overlay on top of the fundamental recovery.

We will see the normal recovery, and so we will see the normal return to mid-single-digit growth.

And on top of that will be an overlay of pent-up demand, which I think is going to last a couple of years.

I don't think it's going to be a blip.

To be honest with you, I don't know how to split it more exactly than that.

In your release you talked about how your investments in marketing and R&D are driving the sales, but given the strong gross margin results this quarter, you're approaching your long-range target of 50%.

How should we begin to think about potential upside to the target and how that could be used to invest into actual product.

As you said, the, the 50% was our long-range target.

And when we set it -- it still is our -- I should reiterate it still is our long range target.

When we set it, we did not anticipate quite the speed of the growth in the last couple of quarters.

And also some of the things that we projected about commodity prices are coming a little bit more kindly, so far.

We still think 50% is the right long-term target.

The way we think about the spending, or the way we think about the structure is that, as time goes on, we are going to move the functionality from our top-line products down to the lower-line products while maintaining the margins.

But thereby making available greater functionality to the middle and lower end of our product range, which is why some of the more expensive that we're doing, like the Cloud Luxe and the Promessa are ones that we're using as experimentation to learn and develop technologies that we will then roll down.

The place that we are going to continue to invest though, is in marketing and advertising.

As we have said, this year we are shooting at 9%.

Obviously this is below the gross margin line, but it's a big area.

And the other one is R&D.

We spend a material amount on that, and it does pay dividends, and we will continue to do so.

Great.

Thank you very much.

Thank you.

(Operator Instructions).

Our next question is from Budd Bugatch with Raymond James.

Good afternoon Mark, Dale, Barry.

This is actually Chad filling in for Budd, who is traveling tonight.

Dale, in your commentary regarding the outlook, you mentioned that you expected international sales to be down sequentially in Q2 consistent with typical seasonality.

You didn't mention an expectation for the domestic business.

I think normal seasonality there would suggest lower sequentially as well.

But with the continued success of Cloud, and maybe benefits from the May price increase, should we expect domestic sales to be be flat, up, down?

How do you look at Q2?

I think that's a good, good thought there.

Specifically I mentioned international because obviously, international is more marked seasonality from 1Q to Q2.

Traditionally, US business has a very modest seasonality.

I think with the price increase and the continued rollout of the Cloud, I think flattish is probably a more reasonable expectation there.

Okay.

Great.

That's very helpful.

I know it is early, but is there any way for you to compare the pace of the roll out of the new entry-level Cloud product, what we have seen since February, with the, the early weeks and months of the Cloud Supreme?

Is it similar trajectory, slower, faster, any color you can give us there?

It is going very well.

It is going as well, or maybe a little bit better than we thought.

But we think of it a bit differently than the Cloud, the Cloud Supreme, which is the absolute center point of the product line.

It is the sweet spot.

And we with think of the Cloud, the Cloud entry level and the Cloud Luxe together.

And the way we think about it is that over -- by the end of this year, maybe just into the first quarter of next year, the combination of those two will have collectively gained us an extra slot, so that essentially, we will have two slots from Cloud, one from the Cloud Supreme and another one from the combination of these two.

And the rollout is going quite quickly, quite quickly by comparison from the previous rollouts, but not -- we never expected to go quite as fast as the Supreme in the first place.

Okay.

Last question, maybe if you could just comment a little bit about the opportunity that you see in Canada, in terms of maybe either market share or opportunities with key retailers there.

What do you think -- what are your expectations for that business, and what sort of time frame should we expect before we see real contribution there?

It is a -- we obviously are pleased to have acquired this, what was a subsidiary because it is a good business; it is a good opportunity, and what we think is potential growth there.

We think that by investing in marketing, we can build on what is there already and grow the business over time.

In the short term, we think it is going to be, this year, mildly accretive.

But in the long term, in the two to three year frame, we think it is quite a nice opportunity there.

But it is too early to put an absolute number on it.

Okay.

Well, thanks, guys, for taking my questions.

Congratulations on a terrific quarter, and good luck for the rest of the year.

Thanks.

Thank you.

Our next question will come from Keith Hughes with SunTrust.

Yes, first question, you talked about, you said several times on the incremental nature of the Cloud, how do you measure that out in the business?

How do you look at it?

Well, as you also noticed, we haven't put a specific number on it because it is hard to be absolute about it.

Fundamentally, what we do is we can watch the trajectory of the other products in the portfolio and see how they're affected by the introduction of the new -- of the Cloud.

And so, what we can tell is, we can project what the sales would have been without it, and what they are now.

From -- we can deduce by making corrections for what we think the underlying growth of the industry and so on is.

So there's no incremental change around with the price points around, the products around the price points of the Cloud.

Yes, just looking at the change in directionally or absolute volumes in those products.

Okay.

And a final question on the debt targets, Dale, you had mentioned one or two times, it had a number, debt to EBITDA.

Is that a number that you are going to hold fast to?

Is that something you can go above if business continues to go well?

Just what kind of sensitivity do you have on that?

Certainly for in the short term, it is possible that we could go above it on a temporary basis.

Right now, that is, that 1.5 times to 2 times is our -- the zone that we feel like is a good place to be.

Our credit facility has a three times limit.

Our credit facility goes until July of 2012, so we have a fair amount of time left on that facility, and we've never come close to any issues with that credit facility.

But given there's still some global uncertainty, we think it is still a fair thing to keep a substantial cushion on that.

We would hate to see a double dip come and have gotten ourselves a little bit overexposed.

So we are going to stay a little bit conservative there.

As time goes on, we could see a change in what that target level should be.

And certainly on a short-term basis, we could see it go up a little bit over to -- .

For example we ended the year at 1.7; we ended the first quarter at 1.9.

We would expect that with this additional share repurchase and the projections that we just gave and what that means from a cash flow stand point.

Even if we spent the whole $100 million authorization in the next three quarters, by the end of the year, we would still be comfortably within that 1.5 to 2

Okay.

Thanks a lot.

We will hear next from John Baugh with Stifel Nicolaus.

Good evening, and great numbers.

Two questions.

First on the guidance methodology, you mentioned some changes.

And if you took the low end, just annualize in the first quarter.

But if you did that, you wouldn't have the price increase coming on Cloud Supreme.

You would have, obviously the Luxe introduction and the full rollout even of Cloud in Q1 was marginal.

So is your new methodology on the high end incorporating some of these assumptions, or how do I think about the new methodology as it relates to these specific items?

Basically, the high end of the range that we have right now is assuming, a return to somewhat normal seasonality.

We don't know that we'll see the full brunt of seasonality yet.

But our expectation is that we will be getting close to normal seasonality.

It has built into it, some general macro recovery, as we mentioned earlier.

The industry data says at least for the first two months of the year, on average, it was up about 7% to 8%.

So we would expect that to continue.

It takes into consideration what we are spending on marketing and new products and their impact on the business.

So, we are looking -- that's pretty wide range now from 120 to 160.

We are trying to build some of those assumptions into our forecasting model like we used to before the recession.

Okay.

And then my second question is how do we think about the direct business?

You have touched on that in the past in some of the things you have done and following up on leads, it is having phenomenal results.

What is the run rate of that business annualized going forward, or how should we think about it?

We just look at the specific number.

Let me comment on the direct business.

First of all, it is up very nicely, and it is a function of a variety of things.

We have obviously put a focus on it for some time now.

The web-based -- using the web, not just by itself, but as a tool to help people prepare before they call in to speak to our reps on the phone has been incredibly effective.

And then also by tying together some of the communication from the TV advertising onto the web has also been very effective.

But one -- the most important thing to think about when you look at these direct numbers is that it is increasingly obvious and important to understand that there really isn't, there really aren't two different types of consumer.

They really are the same person.

So almost everybody who buys in a store has been on the web, and most of those will have got a catalog one time or another.

And everybody who buys online is very likely to have been to a store.

And the vast majority of people with whom we communicate and get leads in our direct business, the majority of those people go and buy in a store.

So it is growing; we're very pleased with it.

But it is important to recognize that it's part of -- You have to think of all of the channels working together.

So, Mark, do you think it is sustainable, and you have done two quarters in a row with a seasonally strong fourth quarter, close to $14.5 million or $15 million per quarter.

Is that sustainable as you look out?

It is.

I would put the same exact assumptions that Dale said a little earlier when we were thinking about the high end of the guidance.

But the low end of the guidance assumes that these, as we have been for the last, I don't know, six quarters, that we, that most recent quarter will repeat four times.

The high end assumes number one, that seasonality returns, which means that -- no, first of all it assumes that this level, the level that we are at will continue, so it won't decline.

This level has an implicit 7% or 8% industry growth in it.

And it implies that there will be seasonality coming back, and it implies that our market share will be held through this, through this level.

But those same things can be said of direct, and frankly I have the same level of confidence in that as I do in the overall business.

There's nothing in it which is a one-time event, assuming that we are returning to some sort of normalcy.

Great.

Congratulations.

Thanks.

Okay.

(Operator Instructions).

We will hear next from Jack Murphy with William Blair.

Good afternoon.

Hi, Jack.

Just a few follow ups here.

First on the cannibalization of the, on the Cloud lines.

What are your thoughts on the cannibalization on the second and third units?

And I think you mentioned earlier that you still believe that most retailers will carry two.

But in terms of the cannibalization versus the rest of the product architecture, do you think there's much difference between the second and third versus what you are experiencing with the first?

Well, obviously we don't know, and obviously, one would think just logically that having three products with this new, unique (inaudible) material on top would have some degree of internal cannibalization.

But, remember how we have designed these products, so how the architecture within which the products fit.

We have the three different lines for the three different ways that people feel, which is the Tempur, the Traditional Temper, and then the ES, the new soft material line.

And within that, we have the high priced the entry priced and the middle price.

And the idea very specifically is to aim at different consumer groups with each of the different products.

So we believe that an entry-level consumer will have a choice of Tempur and a Cloud, and a premium person will have a choice of a Tempur and a Cloud, and they will choose which feel they like best.

And our feeling is that it should be largely not cannibalistic.

Of course there is some cannibalism, but our belief is, obviously, in aggregate, it will be incremental.

But so far, we don't see --we think they -- I don't want to be silly, I don't want to misstate this.

Of course there is some cannibalization; there's bound to be.

The issue is whether overall it is incremental, and so far we believe that it is.

Okay.

Thanks.

And then, just a follow up on advertising plans, could you talk about the trajectory in terms of year-over-year growth in advertising for the balance of the year?

And then also, any comments on how you feel about how this product-specific advertising went for you?

Is that something that you will be looking to repeat and expand in the future?

Yes, let me answer the first part of that question, and then I will let Mark answer on the advertising strategy.

But from a spend standpoint, as Mark mentioned in his prepared remarks, he said we spent about $22 million in the first quarter, which represents about 8.5% of the top line, which is a little less than what our target was.

hat's principally because the business was performing well, and we couldn't catch up, which is a nice problem to have.

But we are really trying to get to 9%, back to our 9% number this year.

So our plan over the next three quarters is to spend a little bit above 9% to get the full year to that 9% level, and we have these projections.

So we will plan the advertising around the projections that we have, and try to -- so you will see an increase in the operating expenses of the business on a go-forward basis, related to upping that advertising spend rate to get back to the 9% for the year.

You will also see an increase in operating expenses related to the Canada acquisition, just to throw that one in.

We said that it is going be marginally accretive this year.

But there is a step up and with taking on that acquisition here in the second quarter, from an operating expense standpoint, to go with that business.

And the spend rates in Canada right now are at a little higher rate than each of the line items than what we spend in the US because they don't have the leverage level that we have in the US.

That's one of the goals is to grow that business to get it to that kind of US-type level of spend.

And Mark, if you want to talk about the product-specific advertising.

Yes.

We obviously track every ad that we have in terms of leads that it generates and lift that we can measure.

And the bottom line is the Cloud advertising has been quite effective.

And we are pleased to say that the best and easiest measure of how it works is how we see spikes in people coming to the web, which we believe is the first step in people starting this process of getting to know the product, and then going to a store, and then ultimately buying.

And we see that it works, it works quite well, and we will continue to create new versions of this ad.

But frankly, the original and the new Cloud one are certainly working quite well right now.

Okay.

Thank you.

We will take our next question from Henry Cappellin with Oppenheimer.

Hi.

Great.

Good afternoon, thanks for taking my questions.

I guess the first question was around the sales guidance, I understand that it incorporates market growth of 7% to 8%, consistent with the first two months of the year.

And then, can you walk me through what the other elements are to get to that 23% to 28% growth?

You said your market share would be held it steady, although I thought typically the [visco] category was going faster than the traditional inner-spring business.

So I just wanted to get a better sense for what the drivers are there.

One thing that I just want to frame this a bit as you think about it is, that one of the challenges has been throughout, literally since the recession began, that using percentages on a year-over-year basis is very difficult because when you compare this quarter of 2010 with the first quarter of 2009, it is a very different comparison, a very different comp than the second and the third quarter and the fourth quarter.

So annualized percentages are very misleading, which is why we have, until recently, been using just simply the last quarter, in absolute terms and multiplying that.

That still is the fundamental way we are operating.

But if you think about it, if you take that fourth quarter, and say, "Let's assume that that rate will continue." That's going be a modest decline in terms of rate for the industry for the whole year, because the industry grew a little better at the end of the year last year.

But I think that it is hard to think in rates.

I think you need, we certainly think in absolute terms.

We have taken that and applied seasonality to that, and as we said, market share.

Let me clarify the market share.

What Mark said was maintaining the kind of market share that we have seen in the first quarter.

Obviously, with mattress growth in the first quarter of 55%, we don't have the full quarter data from ISPA yet.

But in the first two months, the industry was up 8%, so obviously we gained a lot of share in the first quarter.

So the -- what Mark is saying holding the share, meaning the share with we have gained here in the first quarter, holding that through the year.

Got it.

I understand that.

And then, just in terms of, you talked about increased traffic at the furniture retailers.

To what degree is sell-through matching up with sell in.

So to the are consumers taking away or purchasing these mattresses just as quickly as you're bringing them in?

Or was there some level of pipeline fill for the Cloud supreme in the quarter that still needs to work itself through?

In general, it is very limited channel holding of the inventory.

But the one thing that you do need to take into account is the selling of the floor models, which is a one-time event which happens.But there's one per store basically.

It is not a vast number.

But no, beyond that there's no, there's no filling up of the industry or filling up of the channel that's going on.

One thing I did say was I said that retailers are saying they're seeing stabilization of customers.

Okay.

People are -- nobody I don't -- I haven't heard yet from most of our partners anything they would say is back to how it should be.

It is just a period of continuous decline, and now that seems to have arrested and now it's sort of stable, is how I am hearing it described.

Got it.

And then, you talked about commodity costs increase earlier this year.

I was wondering if you had quantified that at all.

And what are your expectations for that headwind through the remainder of the year?

Yes, this is Dale.

What we said, we saw a commodity price increase in the fourth quarter, of the, in the high single digit range.

We had a price increase here late in the quarter, and in the low single digit range, low to mid.

This is in addition to the first one?

Yes in addition to what we had in December, and our expectation is that we will probably see one or two more, depending on what happens with oil and intermediate chemicals and overall demand for these types of chemicals.

Certainly there's a strong supply-demand relationship in there also.

It is not just tied to oil.

But our expectation at this stage is that we will see some additional price increases, again still in the single digit levels, but as the year progresses.

Okay.

Great.

Thank you very much.

Thank you.

Our next question will come from Brad Thomas with Keybanc Capital Markets.

Thanks.

Good afternoon, and let me add my congratulations on a great quarter as well.

Thanks, Brad.

Wanted to just dig in a little more in terms of the Cloud line and how you are thinking about the longer-term opportunity in this softer line of products.

Mark.

I believe you had previously cited a study saying that consumers, about 50% of them, prefer a softer mattress.

At the same time when we look at your product segmentation now, you have the three buckets of the three different firmness levels.

How are you thinking about this longer-term potential of this softer category?

Should we think of that as potentially representing a third of your business or could it be greater than that?

Well, I don't know if it is as simple as a third is right.

But I know that a lot of people, in fact as many as half the people prefer soft beds, particularly people who like premium beds, prefer a soft bed, and so I think that it is a very material group of people.

And I think that the way we are looking at all three of our current architecture lines is that they meet the need.

We are very specifically trying to create and make sure that our products, our mattresses meet the needs of a specific consumer.

So each one, essentially earns the right to be in the portfolio.

Clearly, this addition of the soft line was a very big, unmet need within our portfolio.

It was an opportunity for us that was quite big.

And we believe that these first three products are going to capitalize.

And I am confident that over time we will continue to evolve and even more fully meet the needs of consumers and even grow it still further.

I don't, I think that it is not, there may be other opportunities like this, but it is not easy for us to think of a one as big as this.

But this is not the end of the game.

But I think that the important thing to recognize too though, is that this is one of our four strategic objectives.

And the other ones are to make sure that people know about Tempur, and the other one is to make sure they have tried it and that it is available.

So it's not a one-dimensional approach.

It was important to fill this need, and it is also to make sure everybody knows about it, which is why we are spending money on what otherwise would seem, what certainly is a new strategy, which is to advertise a single line of products.

Because it is so important for people to realize not just that we make soft beds, but that we make a variety of beds.

And then to make sure that we are available in as many and as good of a manner of the stores as we should be.

Okay great.

And then just a follow up from a practical standpoint as we think about the rollout of this Cloud line.

I believe you mentioned that the Supreme is essentially fully rolled out.

Should we think about that as being in all stores or essentially all doors, as of the end of the first quarter, and then, how are you thinking about the door penetration, on the entry-level Cloud relative to the Supreme?

We think, for all intents and purposes, the Cloud supreme is in all the stores.

I am sure it is not in every single one, but for all intents and purposes, it is in all of the stores.

The way we think about the Supreme, I'm sorry the Cloud and the Luxe, is that by the end of this year, we expect one additional slot to be in every store.

It might not be just the end of the year, just looking at -- we have brought forward the rollout of the Luxe a month, so that gives us a bit more time.

But in the next 12 months, shall we say, we expect over that period, to have one additional slot in every store.

It may be a little faster; it may be a little biased toward the first six months of that period, but that's the way I would think about it.

I would spread it over that period.

Okay.

Great.

Thanks so much, and congratulations again.

At this time there are no further questions.

I would like to turn the conference back over to today's speakers for any additional or closing remarks.

Thank you.

We look forward to talking to everybody again in July when we will review the second quarter.

Thank you for joining us again this evening.

Again, this does conclude today's conference call.

We thank you for your participation.