Thank you for being here. I'm Bobby Griffin, one of the consumer analysts at Raymond James. Today, I have the pleasure to introduce Tempur Sealy at our conference. We're going to do a little bit different of a set-up here. Scott's going to go through a couple of slides, as well as talk about a market update, and then we're going to switch right to Q&A. Before, let me just go ahead and introduce everybody. We have Scott Thompson, Chairman and CEO, Oscar Rao, CFO, and Lauren and Aubrey from investor relations. With that, I'll turn it over to you, Scott, and thank you again for being here.
Good morning. Thank you for your interest in Tempur Sealy. As Bobby said, we're going to do a couple of slides. We really want to spend more time on kind of a market update. Obviously, in the current market and the volatility, it seems like giving you the most current information would be the most meaningful rather than doing what I'll call the standard presentation. To start with, our purpose at Tempur Sealy is to improve the sleep of more people every night all over the world. The background. We're a market-leading, vertically integrated global company that develops beds, retails beds, both online and offline. We manufacture and make beds in about 100 different countries. Our long-term strategy is to drive earnings growth through high return on invested capital. We certainly have robust cash flow attributes.
Of course, we drive to achieve industry-leading sustainability and environmental initiatives. You can see from the quick financials, the split between international and North America. What I really want to spend some time on is really a market update. Normally, don't spend a lot of time talking about the stock. The stock's down, I'm going to call it 25% in a week and a half. I want to make sure the market understands what our exposure is to the current situation and what the current trends are. Starting with North America, our sales growth above expectation, driven by a very profitable direct channel with strong demand across all channels, and that's through this weekend. Very strong President's Day in North America. We're comfortable with our supply chain. When you look at our North America operations, most of our products are made in-country.
We do import our adjustable bases from China. If we look at our adjustable base product, we have plenty of adjustable bases in inventory. We have plenty of adjustable bases on the water. The organization that produces our adjustable bases in China is fully operational and is producing bases. We are their largest customer. As you might guess, we're being treated very well, and we see no issues on adjustable bases in China at this point. If I turn to international, the international business is stable with growth above plan in Europe, offset by underperformance in Asia. If we look at Asia, in China specifically, we run most of the business through a 50/50 joint venture. Part of the impact is mitigated through that joint venture.
If I look at China in total, both the Tempur business, the joint venture, we usually make about $4 million a quarter out of China. That region. I would expect that to be about break even in the first quarter. I also, from what we see today, and things could change, I think probably the first quarter will be the weakest quarter in our China operation. If you go through the region, we will feel some impact in some other countries, although I expect it to be minimal. In total, Asia will slightly underperform what our expectations are, which we expect to be offset by our European operation, which is performing very well. In total, international might be slightly down, but not anything what I would call material at this point.
Turning to capital allocation, we've told the market before to expect about $50 million of stock buyback per quarter. We've also told the market before that we'd be opportunistic in our stock repurchase, and we have been. I would expect for the first quarter, rather than $50 million of stock buyback, I expect it will be closer to $100 million, and we are currently buying just about all we can under the exchange rules. That's the kind of the current update of the marketplace. If you have any questions, I'd like to go ahead and take the questions on the update now.
Scott, I'll go ahead and start with one, and then we'll pass it off to the audience too. Above expectation, can you just maybe connect with that? Is that in reference to the 25%-30% year-over-year growth you talked about on the call for 1Q?
Just give people a background. On the earnings call, we told people we normally would not give revenue guidance for a quarter, but we had a lot going on in the first quarter, so we thought in order to help the Street, we actually gave revenue guidance for the first quarter a few weeks ago, and we said we expect a growth between 25% and 30%. When I say we're running above expectations, it would be slightly above that guidance that we gave on the earnings call.
Anybody from the audience?
Up here, Bobby.
All right.
Obviously with the corona, there's a lot of impacts here, whether it be kind of demand, depending whether in the U.S. or versus kind of Europe and international, and then from the supply side. If you kind of had to rank order your areas of concern there on the go forward, obviously, you're doing a great job offsetting it with diversified business internationally. Walk us through kind of the risk factors here on the go forward, do you think could be of supply?
Risk versus demand. If it is a demand risk, more concerned about U.S. versus Europe. Just kind of walking through. Obviously, I know you're not a doctor, but just trying to get us through those.
Yeah. Great question. First of all, I'd like to start talking, but it's based on what we know today. Obviously things could change. Give me that little bit out to start with. When I risk management and think about it from a supply chain standpoint, we're not going to say we're not concerned. We haven't seen anything that we would expect to impact our business on the supply side of the business worldwide. Supply side, monitoring closely, but don't expect any issues on the supply chain side. When I go geographically, obviously Asia is the first area which I've talked about. I've kind of quantified the exposure there. Europe, as I've told you, is performing better than expectations. It looks good there. When you really look at what our primary item that we're watching is really consumer confidence in North America.
That would be your big risk. If for some reason, whether it be the stock market decline or whether it be health issues, anything that impacts North America consumer confidence is probably the material item that we watch closely. As preparing for this conference and to make sure that I was current, I talked to five other CEOs that are in the industry to ask them: What are they seeing? What did the weekend look like? What do your orders look like yesterday? To kind of bring current. All five of the CEOs in the industry I talked to felt like that their business was normal, that they were not seeing anything unusual, and represented that their first quarter was solid. Could change tomorrow, but as we sit here today, it feels very normal in the industry.
If I look at our specific company and our best data we get is through our direct-to-consumer channel because we get those orders every day. Our web business, still growing at 20% clip. Our stores are still performing very well. We're not seeing anything on the direct-to-consumer side. On the wholesale side, because you have some inventory, you might be delayed here or there. On the DTC side, very solid. If I look at my order bank, which I get, I can tell you yesterday was above plan. You have your good days and bad days. There's nothing in the orders that look unusual on the wholesale side.
Scott, you have done a magnificent job as CEO navigating some really difficult issues that companies deal with, including right now, obviously the e-commerce issue that happened and has affected bedding. What do you see going forward now in mattress compression and e-commerce, direct web? You've grown that business beautifully. What can you tell us?
Great. As a little bit of background, obviously the web business exploded in bedding over the last few years. We had some companies come in. I'll call them web-based marketing bedding companies, who are willing to spend enormous amount of money to buy customers and drive their business. I think what's happened, I think what history will show, is those companies spent a lot of money, lost hundreds of millions of dollars to educate consumers how to buy a bed online. By them spending their money to educate customers, it allowed companies like Tempur Sealy to set up their web operation, which has been very profitable from day one because our brands are strong. I think what's happened is that's turned into a huge opportunity for us. As I said, our web business is growing, call it 20%+ . It is the highest margin business we have.
That's good as far as that base. What's happened is those companies ran into what we'll call the WeWork's effect, where they've had to start having trouble funding their operations because they generally lose 20% of EBITDA, 20% on every sale. I believe that they're probably pulling back on their expansion. I think net-net, all that's worked out. If you're talking about online bedding, online bedding's going to continue to grow. We see it, whether it be at a costco.com, whether it be at mattressfirm.com, whether it be at tempursealy.com. The web-based business is growing faster than brick and mortar. I got to tell you, when you look through our customer base, the really good retailers, the brick and mortar business is very good. If you're a good retailer, you're doing better than you were before.
If you're not a very good retailer, you have some challenges. You're going to continue to see compressed bedding. I think for sure at the low end and maybe in the mid-market. We have the equipment and the expertise to take advantage of compressed bedding. Two products that people don't usually notice, because we got a lot of products and a lot of beds, is we have a Cocoon product by Sealy, which is a compressed bed, and we also have a TEMPUR-Cloud, which is a high-end compressed Tempur bed. We use those two products to target various companies online. Both those products, if I quoted a percentage increase, is very large, but they're off a very small base. We're very bullish on compressed bedding going forward.
Could you maybe just talk about how much slack you have within the supply chain if things were to really become a lot worse than what you're talking about right now, just kind of what your days of inventory is and how you think about that kind of contingency planning?
Let me try. By product, it's different. Adjustable bases I kind of talked about. They come from China, they're on the water, they're in inventory. I think for sure we'd be at least through into third quarter if they stop producing today. Looking at my CFO, easily, right? That's the adjustable base, it's usually a lower margin product, but clearly, we'll call it a couple of quarters worth of supply is already either in inventory or on the water. When you think about bedding, most beds, let's do the Tempur beds. Tempur beds, we produce for inventory. I can't think of anything that would come from the supply chain as we know it today that would slow down the Tempur beds. There's not much in inventory. We build kind of sort of to order. On the Sealy side, we do build to order.
There's not much in inventory. Again, there's nothing in supply chain that would keep us from building those beds. I think your risk, as I told you before, is really consumer confidence in North America. I think that's your sweet spot to keep an eye on. Now look, maybe the Fed cuts rates, maybe you get a little more housing formation, which would be positive too. Yeah, it's consumer confidence, because these are discretionary purchases, and at times, expensive discretionary purchases. If you get a shock in consumer confidence, you usually get some pullback in demand.
Scott, can you maybe talk about how, it's still early, but the Sherwood acquisition integration is going?
Sure.
Private label, where you see private label playing in the industry.
Sure. Good question. We're a branded product generally, and that's about 75% of the market. Here recently, we bought a small company, Sherwood, which does private label. We'll call private label as an industry in North America, about 25% of the market. It was an opportunistic acquisition. Steinhoff Group needed to sell it and we "bought it right." We're able to apply our supply contracts to that operation, which we buy, whether it be textiles or foam, probably as well as anybody in the world, because we're the largest bedding company in the world. We instantly get the synergies coming through the supply contracts. We also have 300+ salespeople, and we're able to source private label sales opportunities for Sherwood, who has about three salespeople. We should get some sales synergy.
We think that this acquisition, although small, makes us a much stronger company, because now when we go to a customer, we can provide them private label. We can provide them low entry-level pricing on a Sealy branded bed. We can provide them Stearns & Foster high-end spring, or of course, Tempur-Pedic. Literally in any bedding retail, we can cover every product you ever needed, whether it be compressed, non-compressed, whether it be branded or non-branded. We think that's unique, and we expect good things from that positioning.
I guess as a little bit more to follow up on the market update, clearly things are going well now, but maybe just talk about how the cost structure's set up if we do go into a little period of just slowdown in the U.S., leverage you can pull, fixed versus variable, and kind of how you would attack that.
Sure. First of all, the fact that we're probably not planning on going into a downturn would tell you how optimistic we are about it. If you did get a downturn, 75% of the cost structure comes down immediately, which is just basically the COGS and the price of the bed. Obviously, advertising expense is a big variable, which can flex down. The management pay structure is very variable. One of the things about this business that really attracted to me early on was the flexibility that the business has if you do hit a downturn. It really right sizes fairly easily without having to do anything. You also normally get a lift in commodities because commodity prices go down, and that savings that you get on commodities, we generally don't pass on to consumers.
If you're of a recession mind, this is one of the businesses that is built to flex down pretty easily. Clearly your EBITDA is going to come down, but it's very manageable.
Anybody else from the audience?
Okay, cool. I can do some more slides unless you have questions.
I'll follow up on that. Hard to take out the coronavirus, clearly there's a lot of tailwinds, if you take that out, going on in the industry. Maybe can you just talk about the health of the industry? One of the questions we get a lot from investors is: Is 2020 as good as it's going to get for Tempur? Are we peak earnings because of expanded distribution? Maybe talk about what's been happening, some of the tailwinds there, and kind of what the longer-term outlook is.
Yeah, no, if you step back from the industry, you could see it in our fourth quarter numbers, and you could see it in other people's fourth quarter numbers, that the industry bedding was doing very well. Probably in the best shape that I've seen it in the five years that I've been in the industry. Rational pricing. Mattress Firm is stronger. Big advertiser helps drive North America. The U.S. consumer seems to be in very good shape. Commodity prices kind of coming down a little bit. Obviously, coming down a lot more here lately, which is positive for the industry. We'll call it the so-called disruptor group. Although there will be winners and losers in that group, certainly is not the competitive threat that some people might have thought it was, and there's certainly not as much capital being thrown at it.
When we were doing the 2020 budget. We always wind up what's going well and what's not going well for the board. To be frankly honest, when we were doing the 2020 budget, we were having trouble figuring out what the headwinds were going to be in 2020. It was hard to find a balanced presentation because most of what were going into 2020 were tailwinds. When you go to Tempur Sealy specifically, we got new distribution from Mattress Firm, we got new distribution from Big Lots. Our own stores are doing very well. As I've mentioned before, the online stuff's doing very well. I've been very clear numerous times that we would expect 2020 to be the best year in the company's history.
When you combined that statement with the free cash flow that the business generates, the free cash flow then, of course, generates other opportunities, whether it be through stock buyback or through the deployment of some small acquisitions for high return on invested capital. It would look like we're in a position to, we'll call it, grow EPS well into the future. I would not expect 2020 to be the top of the company's performance.
You talked about your stock going down. It seems that every time the market gets dislocated, whether it's Q4 2018 or through the last few weeks, people go and screen for the high debt levels and you're still fairly high leveraged. I look here at 2018 when your bonds went from [$102] to [$90] in a few months. You generate tons of cash. Is this still a level you're very comfortable because if the market wanted to go more defensive, you'd probably be lagging the market despite your buybacks?
From a leverage standpoint, generally, you're talking about. On our last earnings call, we took down our formal leverage guidance. We were at 3x-4x times with our leverage target. We were, call it, just under three when we reported. We brought our leverage guidance going forward to 2.5x-3.5x. We brought it down a full turn, which is where we're comfortable. I don't see us bringing it down any lower than that. When we come up with those leverage targets, we work with some banks. We stress test it, everything else. I think that's probably the right leverage target for us. We might run at the lower end if it looked like there was a recession coming. Great opportunities we might edge towards the top end of that range.
As I mentioned before, the flexibility of the operating expenses and the nature of the business, it's a business that can support, quite frankly, more debt than I'm willing to put on it. We've probably been as high as four something. That felt a little high. I think we're very comfortable in the 2.5x-3.5x leverage ratio.
Scott, can you talk about maybe Mattress Firm's retail strategy today versus how it was with Comfort by Color?
Sure.
Are they doing something different? How does that work for Tempur?
Sure.
Then from there?
Sure. We'd have to pause a sec because it's a private company. Mattress Firm obviously went through some reorganization, new management team, new board, and from my perspective, it's a completely new company. It just happens to have the same name as the old company, but we think of it as new Mattress Firm as opposed to old Mattress Firm because so many things are different. The management team has moved more towards supportive of brands rather than Comfort by Color, where they put the beds that had the same feel all together. They're going to have galleries, which supports the brand message, rather than growth at all costs and, we'll call it, maybe expanding too quickly. They've retrenched and are focused on the profitability of the stores, which of course has been very healthy to industry, and a much more sophisticated management team in all areas.
That relationship is in very good shape and actually we're very optimistic about Mattress Firm and what they're doing, and I think they're seeing great results. From our standpoint, we've restructured the contract to be a little different than we were before where they leaned very heavy into Tempur before, maybe too hard into Tempur. It'll be more of a balanced relationship between the two companies, but it's working out very well and they're performing in excess of our original estimates. When we originally refloored Mattress Firm, we didn't know how the cannibalization would work in the marketplace. It's 2,500 additional stores in North America, how that would impact our direct business, how that would affect our other retailers. We built in some cannibalization to our thinking. As of today, and things could change, we're not seeing any cannibalization of the Tempur product when we refloored Mattress Firm.
We've got about three months worth of experience. That's worked out very well. On the Sealy side, it's a little harder to tell in that Sealy is a little more of a commodity brand against Serta Simmons, and we also floored Big Lots, but we aren't seeing any significant cannibalization either on the Sealy side. Right now, the re-entry into that channel has worked very well and better than planned.
I'm newer to your company. I'm wondering if you could go through what rate has the industry been growing? What is your market share? Have you been taking share?
Yeah.
In a recession, typically, how much does the industry go down?
I'm going to use the normal 6% growth rate for the industry, probably last quarter up until we see what the first quarter comes out in the industry, maybe it's a little bit down. I would say we're probably running over trend the last couple of quarters in the industry, so call trend 6%. If you talk about market share, for sure in 2019, we took a lot of market share. We're talking North America here. I would expect in 2020 with the new distribution of Big Lots and Mattress Firm, we will take significant share in 2020. During a downturn, I don't know, industry flat. Call the industry flat during a downturn, depends on what kind of downturn, it's probably that kind of volatility. Generally, Tempur has held up very well during a downturn.
The people that buy Tempur beds usually are fairly comfortable from a financial standpoint, and you tend to get hurt a little bit more on the Sealy side of the house.
Tempur-Pedic's market share?
[35%].
We got time for one more if there is.
You mentioned some of the rational pricing that you saw this past year. How does that compare to the history of the industry and?
Yeah.
Any reason to believe that that's permanent or what do you expect?
Yeah. I'd say a couple of things have happened. The tariffs on China imports probably helped the entry-level pricing some and firmed up the very bottom of the industry from the tariffs. If you go back a little ways, during Mattress Firm's struggle before they filed bankruptcy, they were fairly disruptive from a pricing standpoint as they tried to drive volume through very aggressive promotions and what I would call being overly promotional. Obviously it's a promotional industry, but there's a market for promotion and you can be overly promotional. So we spent a year plus in an overly promotional environment as Mattress Firm was struggling. Since they've gotten stable and are doing well, that issue has dissipated and they're "on market" for promotions, if you want to call it that way.
Our largest competitor in North America, Serta Simmons, they're working through some of their issues and they've been very good from a pricing standpoint. In general, pricing feels pretty good.
Thank you. I think everybody will move to the breakout now.
Okay.
Thanks for the presentation.
Thank you for your interest.