Tempur Sealy International Inc (TPX) 2013 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Tempur Sealy International third quarter 2013 earnings conference call.

At this time, all participants are in a listen-only mode.

Later we will conduct a question-and-answer session and instructions will follow at that time.

(Operator Instructions)

I would now like to introduce your host for today's conference call, Mr. Mark Rupe.

You may begin, sir.

Thanks, Kevin.

Thank you for participating in today's call.

Joining me in our Lexington headquarters are Mark Sarvary, President and CEO, and Dale Williams, EVP and CFO.

After our 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 include the Company's expectations regarding sales, adjusted EBITDA, earnings or adjusted net income, or the integration with Sealy, 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, regulatory, competitive, operating and other factors discussed in the press release issued today.

These factors are also discussed in the Company's SEC filings including, but not limited to, annual reports on Form 10-K and the Company's quarterly reports on Form 10-Q, under the heading Special Note Regarding Forward-looking Statements and/or Risk Factors, as well as the Company's press releases.

Any forward-looking statement speaks only as of the date on which it is made and the Company undertakes no obligation to update any forward-looking statements.

The press release which contains reconciliations of non-GAAP financial measures to the most directly comparable GAAP measures is posted on the Company's website, at tempursealy.com, and also filed with the SEC.

With that introduction, I will turn the call over to Mark Sarvary.

Thanks, Mark.

Good evening, everyone, and thanks for joining us.

Today I'll provide an overview of our performance in the third quarter and then discuss our four key strategic growth initiatives.

I'll then turn the call over to Dale, who will provide details on the third quarter financial results and discuss our financial outlook.

Overall, our third quarter was in line with our expectations.

The steps we have taken to improve Tempur North America's performance showed progress during the third quarter and led to a slight sales increase.

Our Sealy business also showed growth during the quarter; however, Tempur International results were slightly below our plan, due to continued weakness in Europe.

In total, our third quarter sales were $735.5 million.

Adjusted EPS was $0.73.

Tempur North America entered the third quarter with sales weakness.

We had expected sales to decline 5% to 10% in the second half of 2013 versus last year.

As is evident with our third quarter sales increase of 0.6%, sales trends improved and were positive for the balance of the period.

The commitment to investing in our strategic growth initiatives is beginning to produce results.

Sales in our retail channel increased 2.4%, with sales growth across our customer base.

Sales of products priced at $2,000 and above grew and more than offset a decline in products priced below $2,000, resulting in an overall AUSP increase.

Our marketing efforts were also successful in the third quarter.

Our unique Labor Day holiday promotional event broke through the clutter and captured the attention of retailers and interest of consumers.

We supported the event with increased advertising and greater frequency of ads tagged for the promotion.

While we are pleased with the improved performance in Tempur North America, our efforts to restore sustainable growth are not complete.

And in a minute, I will talk about the number of steps we are taking in the fourth quarter and in 2014 to build on this initial success.

Turning to Sealy, sales grew during the third quarter.

While growth was slightly below our expectations, it was up against a very tough comparison from the prior year.

We completed the rollout of the new Posturepedic offering and continue to see very strong demand across the line, both inner spring and hybrid.

Increased consolidated sales from our joint venture with Comfort Revolution also contributed to growth.

Comfort Revolution is growing very rapidly and is benefiting from the expanded distribution.

Sealy also experienced strong demand in Canada, with third quarter sales coming in just shy of an all-time high for the third quarter.

In addition, Sealy's other international markets grew during the quarter, including South America and Mexico.

Both Optimum and Stearns & Foster were down versus last year, as they lapped prior year successful launches.

Both remain important parts of our business and we're excited about their potential and their new product pipelines.

Tempur International sales were down approximately 3% on a constant currency basis and were slightly below our expectations.

Tempur International's performance is particularly important to our overall consolidated results, given that it has much higher margins than the remainder of our business.

Our Asia Pacific business continued to perform well, with good results in Korea, Australia, and China, and our Latin American business also showed significant growth off a small base.

The economy in Europe, on the other hand, continues to be very challenging.

Most of the major European markets were negative during the quarter for us and for the industry.

Now I'd like to discuss our strategic growth initiatives.

My comments will include both our near-term initiatives and the longer term initiatives supporting our 2016 growth targets.

We are the world's largest bedding provider and the only provider with global scale.

We believe our future growth potential is significant in our existing markets and through expansion into new markets.

At our September 2013 investor day, we introduced new three-year growth targets and discussed the strategic initiatives we would implement to achieve them.

The foundation of our strategy is the commitment to investing in four key areas of our business.

These areas are product innovation, marketing, new market expansion, and our supply chain, which we are striving to make easier to do business with.

We will fund these investments with a portion of the cost synergies realized from the Sealy acquisition and our annual cost productivity programs, as well as through overall growth in the business.

The first strategic initiative, as I said, is product innovation, and we will continue to invest in R&D to leverage the combined technologies of our comprehensive portfolio of products to deliver a stream of innovative products.

Our goal is to provide consumers the best bed and the best sleep of their life and to provide our retailers a complete and optimal offering across brands, products and prices to drive their growth.

Demand for the Tempur Breeze product line, which was introduced this time last year, continues to be very high and is a perfect example of consumers' willingness to trade up for innovation.

The success of Breeze continues to exceed our expectations and is now one of the top sellers within our portfolio.

The Ergo Premier Posturepedic hybrid line and Tempur Choice are other examples of our ability to drive higher AUSPs with new technology.

We continued to roll out Tempur Choice in North America during the third quarter and now expect to finish the rollout by the end of the year.

With Choice, our retail customers have a clear opportunity to gain market share, and we know that building consumer awareness is going to be key to the success of this product.

In early October, we began airing a new Choice spot based on the Ask Me campaign, and we will continue to invest to support this product line.

During the past 12 months, we have accelerated the pace of innovation with products that feature new technology, and we anticipate that this rate of innovation will continue.

We're planning several significant and exciting product launches for 2014, including new innovation across our entire brand portfolio.

At the recent High Point furniture market, we showcased our entire brand portfolio together for the first time ever; both Tempur-Pedic and Sealy product lines were featured in our Trinity campus showroom.

Here we also previewed several of our planned 2014 product introductions and were very pleased with the customer reaction.

You will begin to see initial closeout activity for some of our products prior to year end to make way for new product introductions.

As you might expect, we're not prepared to provide specific details on these new products tonight, for obvious competitive reasons.

The second strategic initiative is marketing.

A key component of our three-year plan is significantly increasing our advertising investment through increased consumer awareness, preference and loyalty for each of our key brands, most notably for Tempur-Pedic.

During the third quarter, we increased our advertising in Tempur North America by 18% versus last year and 40% versus the second quarter of 2013.

We went back to Ask Me television ads during the period and also adjusted the media mix to improve frequency.

We will also invest in in-store marketing and direct sales to maximize our sales opportunity driven from national brands and retailer advertising.

The third strategic initiative is new market expansion.

As we said in our investor day presentation, our international opportunity is significant.

Over time, we expect to realize over $300 million in revenue synergies from our international markets.

We're making progress on several of these opportunities and will speak in more detail about them in 2014.

Our fourth strategic initiative is our commitment to building a world-class supply chain that is easier to do business with.

Our goal is to significantly improve efficiencies related to purchasing and delivery, as well as inventory management, to drive sales growth for our retail customers.

We're making significant progress on several initiatives as it relates to this area of focus, and we'll be in a position to speak more openly about them also in 2014.

Before handing the call over to Dale, I want to make two closing points.

First, although we have seen some progress in Tempur North America, demand remains volatile week to week, and there is an overall level of uncertainty in the market.

As a result, there's a certain degree of caution in our outlook.

With that said, my second point is that we remain very confident in our Company's long-term potential.

Our pace of innovation will remain vibrant, and we are committed to brand marketing investments.

In addition to the attractive cost synergies we expect to achieve, we will realize upside from revenue synergies as a result of a broader product offering, access to more channels and international expansion.

With that, I will now hand the call over to Dale.

Thanks, Mark.

I'll focus my commentary on the third quarter financial results and then discuss our financial outlook.

I'll address the performance on a consolidated basis, then speak to the performance for each segment and provide commentary on the key areas or items where there is notable variance from the prior year.

As a reminder, the Company completed its acquisition of Sealy in March 2013, and results for 2012 do not include the Sealy results of operations.

Consolidated net sales for the third quarter were $735.5 million.

Tempur North America net sales were up slightly and Tempur International net sales were down 3.6%.

On a constant currency basis, Tempur International sales were down 3.1%.

Sealy sales were $389.9 million.

By product, bedding net sales for Tempur North America increased 0.2%, to $220.6 million, on a unit decline of 4%.

Tempur International bedding net sales declined 4.7%, to $76.5 million, on a unit decline of 7%.

Sealy's bedding net sales were $365.2 million.

By channel, Tempur North America retail net sales increased 2.4% and direct net sales declined 30.5%.

Tempur International retail net sales decreased 6.5% and direct sales increased 20%, to $12.5 million, driven by growth in Company-owned stores and e-commerce.

Third quarter gross margin was 40.6%.

As we've stated on previous conference calls, inclusion of Sealy has altered the consolidated gross margin profile of the business.

On a year over year basis, third quarter gross margin declined to 40.6% from 49.2%, primarily due to the inclusion of Sealy and product mix.

These impacts were partially offset by lower sourcing costs.

On a sequential basis, gross margin increased to 40.6% from 38.6%, primarily due to the lack of inventory evaluation charge in the third quarter and lower new product launch costs.

These were partially offset by reworked costs associated with our new Tempur Up adjustable base of approximately $3 million.

Consolidated advertising spend, which includes both national and cooperative, was $88.4 million, or 12% of sales in the third quarter.

Tempur North America advertising spend increased 18% versus last year.

As Mark indicated, we remain committed to our advertising investment to reinvigorate consumer activity around the Tempur-Pedic brand, as well as the other key brands in our portfolio.

Consolidated operating income was $81.2 million, as compared to $63.4 million in the third quarter of 2012.

Operating income in the third quarter of 2013 included $8.5 million of transaction and integration costs related to the Sealy acquisition.

Operating income in the third quarter of 2012 included $3.6 million of transaction costs related to the Sealy acquisition, as well as a benefit of $8 million related to an adjustment to long-term incentive stock compensation.

Interest expense was $24.6 million and included $0.7 million in interest fees related to the Company's refinancing of its term A loans under its senior secured credit facilities, which was completed in July, 2013.

The tax rate was 27.8%.

The tax rate for the third quarter reflects geographic mix and certain non-recurring items.

The normalized tax rate was 30.4%.

Third quarter GAAP earnings per share was $0.65, as compared to a loss of $0.03 per share in the third quarter of 2012.

The 2012 loss reflects tax charges related to the Sealy acquisition.

Adjusted earnings per share were $0.73 in the quarter, as compared to adjusted EPS of $0.70 in the prior year period.

Next I'll turn to the balance sheet and cash flow for a brief review.

As shown on the balance sheet, the primary changes are related to the acquisition and related accounting treatment.

During the quarter, we had operating cash flow of $116 million, primarily as the result of working capital and improved net income related to performance and less Sealy acquisition related transaction and integration costs.

Capital expenditures were $9 million.

We've begun to benefit from our tax efficient structure created through the Sealy acquisition.

Free cash flow generated during the third quarter was $107 million, which enabled us to reduce our debt by $84 million during the third quarter.

Our cash position was $126.6 million at the end of the quarter.

It enabled us to further reduce our debt by $36 million during the month of October.

As a result, our leverage has improved.

The Company has consolidated funded debt less qualified cash of $1.8 billion.

The ratio of consolidated funded debt less qualified cash to adjusted EBITDA was 4.3 times, calculated on a combined basis in accordance with the Company's senior secured facility.

This is an improvement from 4.6 times as of the end of the second quarter.

A calculation of this ratio is included in the press release.

Now I'd like to address guidance.

As a reminder, our guidance and related commentary reflects a full year of Tempur results, but only Sealy results from March 18, 2013.

Today the Company confirmed its financial guidance for 2013.

The Company currently expects net sales to be in the range of $2.425 billion to $2.45 billion, adjusted EBITDA to be in the range of $370 million to $385 million, and adjusted earnings per share to be in the range of $2.25 to $2.40, including $0.14 per share of depreciation and amortization related to the Sealy purchase price allocation, or PPA.

It's important to note that while our full year financial guidance is unchanged, the profile has changed.

We currently expect our full year 2013 net sales to be towards the upper end of the guidance range.

In addition, we currently expect our full year 2013 adjusted EBITDA and adjusted EPS to be closer to the midpoint of their respective guidance ranges.

The principal driver of this variance is unfavorable mix.

We're also providing the following additional full year 2013 guidance assumptions.

Depreciation and amortization of approximately $90 million, with an annualized run rate of approximately $100 million.

This includes PPA depreciation and amortization of $13 million in 2013, with an annualized run rate of approximately $17 million.

Interest expense of approximately $83 million, excluding transaction-related charges, with an annualized run rate of approximately $95 million.

The tax rate to be approximately 31% for the full year and 31.5% for the balance of the year.

Share count to be approximately 61.6 million shares for the year.

Capital expenditures of approximately $50 million.

It's important to note that our 2013 adjusted EBITDA and adjusted EPS guidance does not factor in transaction and integration costs related to the acquisition of Sealy or interest expense costs on the financing transactions prior to the March 18 close, or expenses incurred on the recent repricing financing transactions.

In considering our guidance, it is possible that our actual performance will vary depending on the success of our new initiatives, macroeconomic conditions and competitive activities, or the consequence of other risk factors we have identified in our press release and SEC filings.

As noted in our press release, our guidance in 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.

With that, Operator, please open the line for questions.

(Operator Instructions)

Our first question comes from Budd Bugatch with Raymond James.

Good afternoon, Mark, Dale, Mark.

Good to see the sales growth, certainly in North America.

I guess my question, Dale, for you is I just want to make sure that Tempur North America gross margin, can you give a comparison to that year-over-year?

Sure, one second Budd.

Ask your second question.

I'll give that back to you.

Okay.

And the second question is looking at Sealy pro forma for the remainder of the fourth quarter.

I remember last year they had an extra week, and the months changed, so I'm trying to understand what the comparison is if we looked a it pro forma on a year -- for Sealy in that three months, October, November, December.

Yes, on -- for our outlook for the business, let me just answer the next question that's related to that.

For the fourth quarter, we would expect Tempur North America to be flat to slightly up.

They were slightly up in the third quarter, 0.6%, so we would look for EP&A to be 0 to low single digits growth.

Tempur International we're currently expecting to be negative low single digit growth, which would imply Sealy being roughly about a mid-single digit growth.

Against what?

I don't think we have those numbers for the three months.

That's the -- we don't have a pro forma.

Yes.

Unfortunately Budd, under SEC rules, we can't provide really comparable numbers, because they were not ours.

Okay.

All right.

It's just hard to know how to compare against it.

I guess the last two quick questions, give me the gross margin answer.

AUSP, I know Mark said above $2,000 was positive.

Can you parse that between $2,000 and $3,000 and above $3,000?

I'm not going to break it down to that level, Budd, but I will say that the AUSP was up.

It was largely driven by some of the products like Breeze, for example, which we're selling very well, which is a high - the above $3,000, but not the very highest part of the portfolio.

It was driven by the above medium part of the $2,000 to $3,000 -- the $2,000 and above area.

We don't have it split by specific groups within that.

Okay.

And Dale, did you have that gross margin issue?

And maybe if you can't give us that Sealy comparison number, maybe you can give a Sealy expectation number, a dollar number?

Sealy number on --?

Sales.

Of sales?

Yes, sir.

What to expect -- what you expect in guidance, if you can't give us the comparison to do the percentage math on.

For sales for the fourth quarter, we would be looking for Sealy to be in the low 300s.

Sealy has a higher -- particularly with their calendar shift -- has a higher seasonality than the Tempur business traditionally has.

On your other question, TP&A in the third quarter of 2012 was a gross margin of 43.6%, and on this year, it was just slightly below that.

And Tempur Up, which I mentioned was a negative driver on the sequential basis from Q2 to Q3, obviously is a TP&A issue, so that was $3 million of negative gross margin on that, and it's going to cost us another $1 million to $2 million in the fourth quarter.

To get that -- to get whatever the issue was resolved?

Yes.

Well, what we -- obviously what we booked in the third quarter was all the rework costs and -- but there's certain costs that you can't accrue up front until it's -- we're incurring some expediting costs to get the new pieces that we need as we've fixed it.

But we've got to go back and fix all the inventory that we had pre built and get it ready to get it shipped again.

Okay.

Okay.

When will the Q be filed, so we get all the segment operating numbers?

Friday.

Terrific.

Thank you, Dale.

Thank you, Mark.

Congratulations.

Good luck on the fourth quarter.

Thank you.

Thanks.

Our next question comes from Brad Thomas with KeyBanc Capital Markets.

Thanks.

Good afternoon.

Wanted to just follow up on the advertising comments.

There were obviously a couple of big changes that you made in the quarter, in terms of going back to the Ask Me campaign and greatly increasing the advertising dollars after it having been an area of savings for you in the past year.

Could you comment on what kind of response you're seeing to this change in advertising and how much that specifically may have helped business in the quarter?

As you know, it's hard to exactly parse these things, but our feeling is positive about it.

We feel that it has contributed.

I mean, there's no doubt that our expectations for Tempur North America three months ago were lower than they turned out to be, and the advertising clearly had something to do with that.

So on a fundamental level, we attribute our -- some of the improvement in our performance directly to that advertising.

We can look at other things that are indicators.

Visits to the web site, for example, are up double digits.

The dealer locator -- people are going to the dealer locator on the website is also up double digits.

So there are some indicators of it.

It's really hard to say exactly this much came from the advertising, but we feel good about it.

We're advertising Tempur Choice now, and that too seems to be helping.

So as far as I can tell, and you know how imprecise of a science this is, this is going appropriately.

And what we said before and we reiterate now is, in the first part of this year, we were not advertising sufficiently.

We recognized that and we've taken steps to address that, and we will address it for this quarter, but also going forward.

Great.

And then if I could just follow up on Tempur North America and the trends that you're seeing.

When we had the earnings call back in July, I believe the 4th of July holiday had not performed up to your expectations.

It seems like there was a notable acceleration in trends.

The consumer data points over the last six weeks or so have been pretty spotty.

Could you maybe just give us a little bit more color on how things have played out and how confident you feel in Tempur North America growing in the fourth quarter?

We're saying very modest growth, if any growth.

What's implied in our guidance is essentially flat to very flat; but on the other hand, not the minus 5 to minus 10 that we had believed when we last spoke.

And I would say that what happened is this, is that July the 4th was, as we said -- we were disappointed with the July the 4th promotion, and July as a whole was disappointing.

Labor Day and August was good.

We were quite pleased with that, and we saw a good response.

You'll remember that we had a good promotion that was quite effective at that time and that worked well.

And then September moderated somewhat, but still better than the beginning of the quarter.

So what I think is the key, though, which is implied in your question, is there is -- you used the word spotty.

I use volatile.

It's really quite intriguing how the market is -- bounces quite a lot from literally week to week.

We feel like we're in a better place from Tempur North America position than we thought we were in July, but there continues to be volatility.

Thank you so much, Mark.

You're welcome.

Our next question comes from Joe Altobello with Oppenheimer.

Thank you.

Good afternoon.

I guess the first question I wanted to go back to the ad spend you mentioned in the third quarter, $88 million, and obviously that number does bounce around a little bit from a seasonal perspective.

So what would we expect on an overall level in terms of advertising spending in 4Q?

Joe, this is Dale.

In the third quarter, our consolidated advertising spend was right around 12%.

We would expect it also to be right around 12% in the fourth quarter.

TP&A in the third quarter was about 13%.

International just slightly under 10%.

The Sealy was right about 12%, and that's more cooperative in nature, but some national advertising there.

But from an overall Company standpoint, we expect the ad spend rate to be about the same in the fourth quarter as it was in the third quarter as a percentage of revenue.

You know, slight -- fourth quarter being seasonally weaker, we would expect maybe a little bit lower total spend.

But as a percentage of revenue, it's the same.

Okay.

That's helpful.

And just in terms of, Mark, earlier your comments about July 4th being disappointing, is that just from a Tempur-Pedic perspective or are you seeing a shift in spending amongst consumers away from holiday spending, in general?

I don't think that's what it is.

In fact, I think that we continue to see consumers do spend at holiday periods.

And that's something, as an industry, we're over time going to have to try and mitigate.

But I don't think that fundamental trend has changed.

I think that the July the 4th holiday was not good for the industry.

But it was particularly not good for us.

And so I don't think it's anything about holidays.

I think it was about that holiday, for the industry, and I think particularly for us.

Okay.

Just one last one, in terms of Simplicity.

Have we seen the worst now of the Simplicity year-over-year declines in 3Q?

You know, as previously said, our focus is on the $2,000 and above area for Tempur North America.

And that will continue to be the case.

The Simplicity promotion that we ran in Labor Day was actually quite successful, and Simplicity still sells quite well.

It's not going to be a focus area for us for growth going forward.

So I don't see it kind of running -- I suppose the answer to your question in simple terms is, I imagine it will continue to diminish as a proportion of our total sales over time, but I imagine it will still be here.

The second quarter was the worst compared, Joe.

And it gets a little bit easier.

Third quarter was down, but the compares get a little bit easier.

Got it.

Okay.

Thank you, guys.

Thanks.

Our next question comes from Josh Borstein with Longbow Research.

Mark, thank you for taking my questions.

Just a little bit more on the quarter.

Did you guys witness a drop-off in the last two weeks of September?

I know some other consumer categories, like appliances, witnessed that.

Just was unsure if you saw something similar.

As I said, Labor Day and the August period was better than the latter part of the quarter.

And we heard and we read the same things, we saw some weaker trends in the latter part of September, like the rest of the industry.

Okay.

And then on the gross margin, there's a lot of moving parts, I know given the merger and all the product rollouts this year.

Can you discuss gross margin puts and takes for 4Q here, things we might keep in mind when modeling the fourth quarter?

Yes.

From a modeling standpoint, I would have fourth quarter gross margin to be fairly similar to the third quarter.

The real key drivers for us is the mix change, TP&A, obviously, doing better than what we thought before.

But as I mentioned, there is still some ongoing Tempur Up extra costs in the fourth quarter than in addition to what we had in the third quarter.

Tempur International being much below our expectations when we set the guidance is a real negative driver for gross margin.

But the growth of Tempur North America is a positive.

The Tempur International being down, because that's our highest margin business, is negative and a little bit additional clean-up on Tempur Up will also give us a little bit of pressure there.

But overall, quarter-to-quarter we'd expect somewhat similar results on a gross margin standpoint.

Okay.

Thank you.

That's helpful.

And then just one last one from me.

On the Tempur Choice, you had mentioned you started a national Ask Me campaign around that in October.

Are you following that up also with RSA training or anything to get the RSAs more involved in the selling process?

Yes, we are, and you're right to say that.

Tempur Choice is a product that with an RSA who's confident and well trained at selling it, is a product that sells well and has very high consumer satisfaction.

We know that the two keys to making it achieve its full potential is one, getting awareness up, so people come into the store knowing about it and asking for it.

And the other is making sure that the RSAs are well prepared and trained to sell it, and that is a big focus for our sales force across the board.

It's one of the big initiatives to make sure that we put that at the top of the list of things to do for RSAs across the country.

And that is a big focus.

Does that training consist of having the sales force get out and visit all your retail stores, or is it more point-of-sale materials and videos and things like that?

It includes materials, and it includes training in classrooms.

But it very much includes everybody -- the people who are calling on the stores up and down the country are training the people in the stores.

Okay.

Great.

Thank you, and congratulations on the quarter.

Thanks.

Our next question comes from William Roeder with Bank of America Merrill Lynch.

I wanted to take a step back and talk a little bit about marketing.

When you talk about these four growth initiatives going forward, does that mean that marketing as a percentage of sales should go up as we think about 2014 and 2015, or are you going to look at the response?

What's your plan there?

We're not going to give detailed guidance at that level, but we do -- we've said, and it's important to be honest, that we will continue to increase advertising.

That is what we will do.

I've said before that using a percentage as a basis for calculating what's the optimal amount to spend has always struck me as rather silly.

You're talking about awareness and driving awareness.

But right now, we know we're not spending enough.

We want to spend more.

So we will continue to spend more across our portfolio, particularly focused on Tempur.

The exact ratios, I don't know, at this minute.

But we are going to continue to invest in marketing and as the Company grows -- I don't want to tie ourselves to a percentage, because I've always felt that's a bit silly.

On the other hand, at the moment standing here today, I don't believe we're spending the optimal amount and we will continue to spend more going forward.

The other thing that we're going to do is looking at ways of improving the effectiveness of our advertising.

That's something that both as the fact that we're now a combined entity, it gives us a greater clout in the market.

But also, we know that there are opportunities for us to improve that, and that's something we'll talk more about next year.

Okay.

And then one follow-up for me.

In terms of you guys have been pretty focused on debt reduction here this year.

As we think about future years, will that continue to be a goal of yours, and how are you thinking about -- I think in the past you've talked about long-term debt ratios that are closer to 2 times.

What will be your goal with free cash flow and how do you think about leverage?

That's it.

Thank you.

This is Dale.

Our long-term debt ratio is the same as it was before this acquisition, in the 2 times level.

We're looking to reduce the debt.

We're committed to reduce the debt and get it back down to that level.

Certainly, though, as time goes on and we start -- we don't have to wait until we're exactly at 2 times to start to consider other things to do with some of the cash flow.

We will continue to reduce the leverage on the business.

However, as we start approaching our longer term ratios, then we can start considering other activities.

Great.

Thank you very much.

Thank you.

Our next question comes from Keith Hughes with SunTrust.

Thank you.

You had referred to Optimum and Stearns & Foster, and as they come down off some product launches, will we see more products from them coming next year to get that life cycle moving back in the other direction?

The short answer is yes.

They're both -- I mean, both of them are important parts of the portfolio.

Both of them had hard comps this quarter because of the launches last year.

But both are important, and both will be products that we will have new products for in the first part of 2014.

And second question, on the Choice line, you had mentioned in the prepared comments going to be rolled out by the end of the year.

Given the training that was referred to in a previous question, what period do you think we will have a good view of what that product's going to do in terms of sales?

Will it be well into next year, beginning of next year?

What do you think?

I don't have an exact number on that, but I think it will -- it's going to take a little while.

The comparable I would use is Breeze, which launched --

Third quarter.

-- third quarter of last year, and is still growing, as we speak.

It takes -- and Breeze -- and that's partly because Breeze is a relatively more, a slightly more complicated sale.

Choice is more complicated yet.

Yet, the satisfaction of the people who own it and the confidence of the people who sell it, both of those will grow over time.

I do believe it's going to take a little time.

And I think that -- another thing that is very comparable when you're modeling this and thinking about it is the adjustable bases.

When they first started, it was very much a function of which salesperson was selling it in any given store to judge what would be the attachment rate.

And over time, as that has grown and grown, people have become more and more confident and now it is something that essentially everybody does.

That's the analogy that I think of.

It's a mechanical device, it takes more explanation, but the consumer, when they get it, really like it.

So I think it's going to take a little while, and so I think your question is right.

The exact time, I don't know, with precision.

Okay.

Thank you.

(Operator Instructions) Our next question comes from Karru Martinson with Deutsche Bank.

Good evening.

When we look at the upcoming quarter and the closeout of the prior lines, are you expecting any kind of margin pressure from that?

-- our expectations.

It is built into the expectations?

Yes.

Okay.

And when you look at the lessons learned from the rollout this year as you launched a number of Tempur initiatives, what would you do differently in the upcoming year as you guys roll out a suite of new products?

Well, one of the things that we've done, I mentioned it in the last call, but it's important, is that we have put a big organizational focus, but we have created an infrastructure of people and organization, partly as a result of the combination of the two companies, but frankly, a lot of it new, to oversee the product launch process.

Because as we become more -- as it becomes a more frequent and important component of our overall business, we need to get better and better at it.

And we are.

And so I am pleased with the progress we're making.

But among the things that we'll do, for example, is we're going to strive to have greater levels of inventory at the times of initial launches, for example.

Our testing will have been done earlier.

We're just going to -- we're going to move things forward to make it -- to give ourselves more breathing room.

And by planning in advance to be able to do that from the beginning, which we've now been doing systematically for some while, it's going to give us that amount of breathing room, to do those things that we'll make sure there's greater frequency of product innovation and new product rollouts can be done as close to flawlessly as we can.

Thank you very much guys, appreciate it.

Okay.

Our next question comes from Peter Keith with Piper Jaffray.

Good afternoon, everyone.

If you look at the -- you talk about the upper end of the line, $2000 and up, versus $2,000 and below, it sounds like the commentary was similar with Q2, where $2,000 and up was positive, $2,000 below was still negative.

Did both of those two directionally get better, or was one a bigger sign of improved performance?

$2,000 and up did improve from the second quarter.

Below $2,000 was less negative than the second quarter.

But a lot of that had to do with Simplicity had an easier compare.

So in short, the above $2,000 was more positive.

Yes.

Okay.

That's good.

And then I don't think you quantified a synergy number for Q3 like you've done with last quarter.

Is that something you could provide for us, Dale?

Yes, it was about 7. And we would expect 7 in the fourth quarter, also.

Okay.

Terrific.

And then just lastly, just to understand the puts and takes around the guidance, so sales at the high end and EPS and EBITDA at the middle, you talk about mix, can we just pinpoint that directly to the weakness in international relative to expectations?

Is that the simple reason for the EPS to be at the midpoint on better sales?

That, and the cost around Tempur Up, yes.

Tempur International, when we gave the guidance in July, we said that we were expecting Tempur International to be up low single digits instead of down 3% to 4%.

So the profitability of Tempur International gives us a lot of pressure there, as well as the Tempur Up cost.

Okay.

And maybe just even one follow on, with the Tempur North America gross margin, is that generally trending in line with how you thought -- if you think it's going to be slightly down year-on-year?

I was thinking that as you're lapping some of the rollout costs with Breeze and Weightless, that you guys might begin to see some year-on-year improvement in North America about this time.

Excluding the Tempur Up cost, Tempur North America's gross margin is up.

Okay.

All right.

Thanks for the feedback and congratulations on the sales number.

Thank you.

Our next question comes from Jon Andersen with William Blair.

Thank you for taking my questions, guys.

I just wanted to ask about, with your ownership of Sealy now, and that's clearly consolidated the industry at the manufacturing level to some degree, I always thought one of the beneficial by-products might be greater discipline in pricing and promotion.

Is there any evidence that you're seeing of that, given the change in the structure at the manufacturing level?

You know, this is and it will remain a very competitive industry, and so we -- it was before, and it still is now, I'm afraid.

I'm not afraid, I mean, it's just the fact of how it is.

Okay.

And Mark, the volatility that you referred to, it does seem like it's been fairly extreme.

Extreme might be too bold a term, but is this just kind of part of -- are you thinking about this as the new normal, or is this abnormally high, and you expect some kind of reversion to the mean over time, and what do you think is driving the volatility right now?

Is it really the consumer and their willingness to spend?

Is it something going on from a product or innovation or a standpoint?

I'm just trying to get a better sense for this volatility, if we should expect it to continue.

I don't -- I'll share with you my opinion, but that's what it is.

Because I don't have any perfect -- I don't have any crystal ball.

But what I know is that a lot of our retail partners are commenting on the fact that the number of visitors that they get to their stores can vary quite significantly from one week to the next.

And so it's very much to do with people coming out and coming shopping.

And I think that one interpretation of this situation is that we are at this stage where there's the beginning of the green shoots are coming out, but people aren't quite sure.

If you have a government shutdown, that kind of knocks everything back for a while.

You have -- things look positive and then a little negative, and I think people are just kind of nervous.

But what I -- you know, what I'm -- I think that we're at a point where it's going to eventually smooth one way or the other.

There's always going to be a degree of volatility.

I think over the last few months, it's been particularly significant.

I don't think there's anything systematic about why that should last forever.

So I think it's probably going to stabilize over time.

And I think the other thing is that when you look at it on very short periods, you're bound to see volatility.

For example, last year there was Sandy and this year there wasn't.

This year, there was a government shutdown; last year, there wasn't.

The elections start at different times.

So by the time you've corrected for everything, it's less volatile than when you look at it week to week.

But my view is that there's nothing systematic that says this is how it should remain.

That's really helpful.

One more question, just on innovation.

There's been a lot of innovation over the last 12 months, 12, 18 months, I guess from Simplicity to Breeze, to Choice and the new adjustable base.

Does that pace of innovation perhaps moderate somewhat from here and the focus shift a bit more to execution in the market with new advertising and training of the RSAs, or do you think you try and maintain this pace of torrid innovation, if necessary?

As we've said, there are four things that we're focused on.

And innovation is one, marketing is the other, new product expansion and supply chain.

But the two are marketing and innovation are the two.

And the fact is I think that there is a requirement, in order for us to continue to be successful and to continue our growth, that we innovate on a regular basis.

What the exact cadence is we're still working out, and there is no doubt that too much innovation without good execution -- and I think particularly an execution that's effective rollout, effective training of the people in the stores and so on -- is not valuable, but we are committed to the fact that we have to innovate and execute very effectively, as well as advertising and other forms of marketing.

So I would say that from a planning purposes point of view, we do anticipate that this relatively high cadence of innovation is going to continue.

I really, really appreciate the comments and congratulations on the quarter.

Thank you.

Thank you.

Our next question comes from Carla Casella with JPMorgan.

Most of my questions have been answered, but can you just give me a sense for the market for cooperative advertising and what you're seeing on the competitive side on that front?

And also, do you do any cooperative advertising for Tempur, or is this really just a Sealy phenomenon?

We missed the first part of your question there, Carla.

I know it's about cooperative advertising and -- but what was the first part of it?

Just how -- whether that market has heated up, the competition, from a cooperative advertising standpoint.

Again, it's -- we are in a competitive environment, and this is a component of the competitive tool set.

I know that we, and particularly the Sealy team, are very focused on making sure -- we collectively, both Tempur and Sealy, and particularly the Sealy team, are focused on making sure as much of the cooperative advertising is used for advertising that really builds the brand and works in concert with their key brand messages.

And they are having quite good success at that, that team is.

The Tempur team have always done that.

There is cooperative advertising from Tempur, but that's always been on the basis of based on advertising, advertising linked to the Tempur national advertising.

And both of those are showing some success.

And I think that where it's worked well is where advertising by retailers and the national advertising is done together, it's more valuable than the two -- one and one make more than two.

And so we as a company continue to focus on that as a tool.

But overall, cooperative advertising, I wouldn't say, is either more or less competitive than it has been.

Okay.

Great.

Thank you.

You're welcome.

(Operator Instructions)

Our last question comes from Budd Bugatch with Raymond James.

Just Dale, I should have asked this question, because you've given enough pieces of it, and I apologize for getting back on the queue.

But since you're going to put the 10-Q out on Friday, can you give us the operating margin number by segments?

Operating number by segments?

Yes, sir, as you do in the Q.

Yes, well, keep in mind it's on a GAAP basis, right?

Yes, sure.

So Tempur -- or I'm sorry, Sealy was 10.8%.

Total Tempur operating margin is at the -- including corporate, now again this gets mixed together, is at 13.3%.

And hang on, I'm trying to read small print.

Tempur International is at 22%.

I don't have Tempur North America split out from corporate right now.

Okay.

So you can see that Friday.

I don't have that in front of me.

Appreciate as much as you could give us.

Thank you.

I'm not showing any further questions at this time.

I'd like to turn the conference back over to Mark Sarvary for closing remarks.

Okay.

Well, thanks very much.

We look forward to talking with you all again early next year.

Thanks for joining us this evening.

Ladies and gentlemen, this does conclude today's presentation.

You may now disconnect and have a wonderful day.