It's now my pleasure to hand the conference over to Barry Hytinen, Chief Financial Officer. Sir, the floor is yours.
Thanks, Brian. Good morning, everyone. Thank you for participating in today's call. Joining me in our Lexington headquarters is Scott Thompson, Chairman, President, and CEO. 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, earnings, adjusted EBITDA or net income, anticipated performance for 2016 and subsequent periods 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 were 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 10-Q under the headings "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. The company undertakes no obligation to update any forward-looking statements. This morning's commentary will include non-GAAP financial measures. The press release contains reconciliations of these non-GAAP financial measures to the most directly comparable GAAP measures, as well as information regarding the methodology for constant currency presentation. We have posted the press release on the company's website at tempursealy.com and have also filed it with the SEC. Our comments will supplement the detailed information provided in the press release.
Now, with that introduction, it's my pleasure to turn the call over to Scott.
Thank you, Barry Hytinen. Good morning, everyone, and thank you for joining us on our call this morning. I'd like to use our time today to take you through the highlights of our record third quarter, how we are progressing against our goals, context around our results, including our competitive position, and the overall health of the marketplace. Barry Hytinen will take you through the details of the financial statement and through our revised 2016 guidance, which we provided last month. Overall, I'm pleased with our continued progress in achieving profit margin expansion and EPS growth. This quarter's unadjusted results show our operating margins increased a robust 160 basis points. EBITDA increased 9% and EPS increased 19% compared to last year's adjusted results. The entire organization is focused on a handful of key initiatives that are designed to drive margin expansion and earnings growth over the long term.
These key initiatives include: first, develop the best bedding products in all the markets we serve worldwide. Second, invest significant marketing dollars to promote our brands. Third, expand our North American margins while maintaining market share. Fourth, grow our market share outside of North America. Lastly, optimize our worldwide distribution to make sure our products are properly represented in all channels. I'm very proud of our team's progress against each of these initiatives year to date, and especially during the soft retail environment we experienced this quarter. Now I'd like to call out a few specific items in the quarter. The third quarter sales were down 4.6% year-over-year on a constant currency basis versus the third quarter last year. This was below our expectations. The sales shortfall was largely due to a 5.8% decline in the North America segment.
I'd like to take a minute and talk about the factors impacting our top-line results in North America. Coming out of the second quarter, North America orders were low single digits year to date, so we were feeling okay about product demand and the strength of the U.S. consumer. In fact, orders were positive and in line with our expectations in July. In early August, orders unexpectedly declined and declined more significantly during the key Labor Day promotional period. We believe this air pocket in sales during the third quarter was driven largely by the following. First, it is clear that the retail environment in the U.S. in the third quarter was less robust than we had expected. Based on our review of industry data and conversations with industry participants, overall mattress sales in the U.S. were soft during the third quarter.
In addition to this softness, was not limited to the mattress industry, as we've seen similar challenging results in furniture, home appliances, auto retail, and other consumer durable goods. Second, we experienced some significant weakness in our largest national account, which is in the process of rebranding and remerchandising over 1,000 recently acquired stores. To put this factor in perspective, if we were to exclude the sale of our largest national account in the third quarter of 2016 and 2015, our U.S. sales would have been flat for the third quarter. We expect this transition of stores to be very successful, but we also expect it will continue to impact our sales for the remainder of 2016 before improving in 2017.
We are encouraged by the improved Tempur Sealy sales trends in the market that have already undergone rebranding and are thrilled to help where we can in this significant transition. Third, we made a couple of mistakes in our marketing and sales strategy. For example, our advertising campaign overemphasized our newly launched TEMPUR-Breeze line and neglected to support legacy Tempur products. This resulted in very strong performance from our TEMPUR-Breeze line of products, but declines in our legacy products as they were not included in the advertising. Another example of a misstep was our reduction in the number of promotional days around the key Labor Day period compared to last year. This put us at a disadvantage on the retail floor. I should also point out that we redesigned our Tempur Labor Day incentive, adding unnecessary complexity.
Lastly, our non-bedding product sales, which include pillows and products sold through our North American joint venture, were down $20 million, representing almost half of our North American revenue decline this quarter. We have mentioned previously that our pillow business needs some attention and we plan to update you on our plan next quarter. As for our North America joint venture, we have advised you in the past that the orders are very lumpy, and although the sales were disappointing this quarter, the lumpiness is not uncommon. On the operational side, I'm very pleased with the team's continued progress on a number of initiatives that clearly helped us mitigate the financial impact of the sales decline and truly set the company up for continued financial success. Sealy Assembly continues to improve across all key metrics: safety, employee turnover, margin, on-time delivery, and quality. Tempur manufacturing continues to be world-class.
We reported very strong operating margins while we stayed committed to our long-term strategy. I should point out that we fully supported our retail customers during this less-than-robust sales period, spending an additional $5 million in advertising this quarter as compared to the same quarter last year, and we fully invested in future products and expanded internet capabilities. We had a great cash flow quarter, which allowed us to repurchase an additional 1.4 million shares for $96 million. This brings our year-to-date share repurchase to $318 million, more than 10% of our current market cap. With plans to increase sales and earnings in the future, we believe that repurchasing our shares represents a tremendous value for our shareholders. I'll now hand the call over to Barry to discuss more details about the quarter. Barry?
Thank you, Scott. As Scott mentioned, net sales for the third quarter were $832.4 million, down 5.4% versus the third quarter last year. On a constant currency basis, they were down 4.6%. Gross margin improved 220 basis points to 43.5%, and operating margin improved 160 basis points to 15.7% as compared to adjusted gross margin and adjusted operating margin in the prior year. Please note, much of my commentary will be comparing this year's results, which have no adjustments to last year's adjusted results. On a segment basis, North America net sales decreased 5.8%. Sales in Canada were up 1%. North America bedding product sales decreased 3.4%, with bedding units down 8%, partially offset by price and mix. The weakness in sales was primarily driven by our Tempur-Pedic brand business, as well as value-priced Sealy products in our U.S. joint venture.
This was partially offset by significantly higher sales of high-end products like the TEMPUR-Breeze, Sealy Posturepedic, and Stearns & Foster bedding products. Year-over-year, average selling price was positively impacted by pricing actions taken earlier this year and positive merchandising mix. Like-for-like price increases contributed approximately 100 basis points in the quarter. Our North American other channel decreased 6.6% in the quarter. Sales from our direct business were up, but was offset by a decline in sales through hospitality, which is principally timing as that business is always lumpy. Other product sales were down in the quarter. As Scott mentioned, this was driven by decreased sales of accessories through our joint venture and lower pillow volumes. North American gross margin improved 240 basis points to 41.5% as compared to adjusted gross margin in the prior year.
This is the highest gross margin the company has realized since the Sealy merger. The primary drivers of improvement were operational efficiencies, pricing actions, and product mix. North America operating margin improved 200 basis points to 18.4% as compared to adjusted operating margin in the prior year and was driven by the improvement in gross margin and lower operating expenses. Operating expenses were down 4.3%, or approximately $7 million year-over-year, excluding adjustments in the third quarter of last year. Lower G&A expenses were driven by reduced incentive compensation accruals and successful expense management Which were partially offset by an increased spend in the national advertising that Scott mentioned of $5 million. Turning to our international performance. Net sales decreased 3.5%, and on a constant currency basis were up 2%. Bedding product sales decreased 3.7%, and on a constant currency basis, increased 3.2%. Units decreased 5%.
The average selling price increased due to improved mix and some like-for-like pricing. On a constant currency basis, sales were up modestly across all regions, with Asia Pacific being the best performing region compared to last year. In Europe, our sales were up slightly, and we think we took a fractional amount of share as we believe European bedding demand has been weaker recently. Other channel sales were up 13% on a constant currency basis, driven by strong internet sales in company-owned stores. International gross margin increased 110 basis points to 53.8%, compared to adjusted gross margin of 52.7% in the third quarter of 2015. The gross margin increase was primarily driven by operational improvements and improved product mix. International operating margin increased 60 basis points to 19.1%, as compared to adjusted operating margin last year. Now turning back to the company's worldwide performance.
Consolidated EBITDA was $155 million, up $34 million or 28% from last year, and it was up 9% as compared to adjusted EBITDA last year when we had over $21 million of net positive adjustments to EBITDA. EBITDA growth was primarily driven by operational improvements but was partially offset by increased advertising at a time of reduced sales. For the 12 months ending September 30, 2016, our adjusted EBITDA was $516 million, an increase of $77 million or 18% over the same period last year. I will note, EBITDA included about $3 million of benefit from lower commodity costs that were totally offset by $3 million of foreign exchange headwinds. GAAP earnings per share for the quarter was $1.32, up over 100% from the same period last year. This represented an increase of 19% as compared to adjusted EPS in the third quarter of 2015.
Moving on to the balance sheet and cash flow items. Operating cash flow in the third quarter was $58 million versus $132 million in the third quarter last year. As we mentioned on our last call, during the quarter, we put a $92 million payment on deposit with the Danish Tax Authority. This amount is consistent with our reserve position. While the matter is not yet resolved, by making this deposit, we have mitigated risks related to foreign exchange and interest. Excluding this item, operating cash flow would have been $150 million and an increase of $18 million versus last year. Cash cycle was off about two days from the prior year due to higher inventory days. On a sequential basis, cash cycle improved two days. At the end of the third quarter, net debt was $1.6 billion.
Our leverage ratio on a trailing 12-month basis was 3.2 times at the end of the third quarter. This is slightly down from 3.3 times in the same period last year. I should highlight, we improved our credit profile even after the repurchasing of $318 million stock year-to-date, funding all capital needs of the business, and making the $92 million one-time deposit for the Danish tax matter. During the third quarter, the company repurchased approximately 1.4 million shares for a total cost of approximately $96 million. While our weighted average share count for the third quarter was 58.8 million, giving effect for shares repurchased, we ended the quarter with 58.3 million diluted shares outstanding. We have approximately $280 million available under our current authorization for future repurchases.
As a reminder, our credit facility permits unlimited share buybacks up to 3.5 times net leverage and also allows for share buybacks between 3.5 and 4.5 times based on a basket that grows with the company's earnings. Once we file the 10-Q, the size of the basket will be a little over $460 million. Turning to our financial guidance. Consistent with our expected full-year sales forecast of down low single digits, we are reaffirming our adjusted EBITDA guidance to range from $500 million-$525 million. The midpoint of the range represents an increase of 12% versus prior year and would equate to approximately $3.88 in adjusted EPS, which would represent a 22% increase versus 2015. Our guidance assumes a continued revenue decline in North America. Before I turn back over to Scott, I would like to note a couple items relevant to the fourth quarter.
First, we are in the process of restructuring, principally in back office support of our international operations. We are moving to a more efficient, centralized structure. Our guidance does not reflect one-time charges for this, which we expect to be around $7 million with a payback of less than one year. This should complete our major restructuring of the company's workforce. Also, just as a reminder, in the fourth quarter, we will have floor models to complete the Stearns & Foster launch and incremental Tempur-Pedic distribution for the store transition Scott referenced. As you know, we do not traditionally have launch activity this late in the year. Year-over-year, we'll have approximately $10 million of incremental floor model discount and as much as $5 million for associated launch expenses. Now I'll turn it back over to Scott.
Thank you, Barry. Stepping back a moment, this quarter represents the sixth consecutive quarter of year-over-year increases in both EBITDA and operating margin. The entire Tempur Sealy team is committed to improving these metrics through consistent execution quarter after quarter, year after year. Everyone on the team knows there's a lot of work to do, and in order to achieve our goals, we must find problems, communicate problems, and jointly fix problems as quickly as possible. As we look forward, the team remains laser-focused on our 2017 Project 650 aspirational target. While we're not providing guidance on 2017 today, the team is making progress on numerous opportunities to improve operations and deliver earnings growth. With that, operator, will you please open the call for questions?
My pleasure. Ladies and gentlemen, at this time, if you would like to ask a question over the phone, please press star and then one on your telephone keypad. To everyone participating in the Q&A session today, you are limited to one question. After that, you may re-queue for a follow-up question. If your question has been removed, please press the pound key. Again, ladies and gentlemen, that is star then one to ask a question. Our first question will come from the line of Brad Thomas with KeyBanc Capital Markets. Your question please.
Yes. Thank you for taking the question. My first question will be on distribution and really two parts. I was hoping you could talk a little bit more about the transition, the rebranding that's underway at Mattress Firm and maybe give a little bit more color around how much of an issue may be at the Sleepy's stores that are being rebranded and how the floor space is changing. Are you gaining share as they rebrand the stores? Maybe what the medium-term outlook is there. Then part two would be kind of longer term, how you think of the opportunity, with Mattress Firm, particularly as they are now under new ownership. Thank you.
Thank you. First off, let me say that I normally would never even talk about an individual customer on a phone, but the SEC requires us to have some financial disclosure of that concentration, it's almost impossible not to. You'll see some of that disclosure in the Q that we'll be filing. I think the first thing I would say is, look, we think it'll be very successful, the transition of the stores. It's a fluid process. We're not going to talk about their game plan, because that's confidential. I can tell you where they have made the transition in rebranding. The stores have done well and Tempur Sealy's sales have increased from a balance to share standpoint. I think I can say that clearly. As far as new ownership, look, we work with the Steinhoff organization worldwide.
In general, we find them to be outstanding, and our balance to share has increased, generally worldwide in markets that we've worked with them. We're wildly optimistic about the future for both the Mattress Firm team and Tempur Sealy. .
Thank you. Our next question comes from the line of William Reuter with Bank of America. Your question, please.
Hi. You talked a little bit about better results in those products where you had spent more advertising in terms of the TEMPUR-Breeze and then some softer results in some of your legacy products. Can you talk about the magnitude of some of those differences?
Yeah, I would say they were big. What we're talking about is we had a general focus on the high end of our product portfolio, and we had good growth in the high end of the Tempur products, primarily the Breeze line. We had declines in the lower dollar value of the Tempur products.
Thank you. Our next question comes to the line of Mark Rupe at Longbow Research. Your question, please.
Morning, Scott and Barry. You'd mentioned units were down 8% in North America. Just curious if, I assume value price Sealy products, given that there are a lot of units at lower price points, are probably a little bit worse than that. The fact that they're, I don't believe, too heavily penetrated into your largest customer. Just curious to see what you might think is going on with that product line.
Mark, I would say first off, in total, our Sealy total brand, all of Sealy, Posturepedic, Stearns, and the value was down, but less than the total. As you would guess, in light of Scott's earlier comments, Tempur was down considerably more. As it relates to the value-oriented line, look, that line has been out there for some time, and we feel very good about upcoming launches and what's coming to market. So we feel good about reigniting our value-oriented business into the future.
Thank you. Our next question comes to the line of Bud Bugatch with Raymond James. Your question, please.
Good morning, Scott and Barry. This is Bobby filling in for Bud. I appreciate you guys taking my question.
Good morning.
Scott. Good morning. Scott, can you maybe update us on your promo and advertising plans for the fourth quarter? Then as the second part, Barry, can you kind of give us an update outlook on raw materials for the next six months, particularly steel and foam-related costs?
Yeah. If you'll promise me that I don't have any competitors listening on the conference call, I'll be more than happy to walk you through my promos in detail. In general, what I would tell you is I've called out some mistakes that I think we made in Labor Day. The teams worked very well together to come up with some corrections in those areas. So I think what you'll see is a little different promotional activity, but at the same time, being very prudent, being very ROIC-focused. I think a lot of where we can make improvements actually isn't going to cost us very much money, but the execution will be better. I think that's all I'd like to say in detail, but be more than happy to update you when we report the fourth quarter what the changes were in detail.
Barry, you want to talk about commodities?
Yeah. Bobby, from a commodity standpoint, raw material, as I noted in the third quarter, we got about a $3 million benefit from those that was completely offset by the FX headwinds. As we look forward into the fourth quarter and consistent with what we've been thinking throughout much of the year, the fourth quarter benefit would be minor, maybe $1 million-$2 million. Incidentally, as you look at FX rates, particularly with what's gone on with the pound, I would expect that FX would once again offset that benefit with a $1 million or $2 million FX hit. As I look out beyond Look, we're not here today to do guidance for next year. We'll speak about that on the next call. Just to help you a little bit, from a planning posture, we'd always probably be a little bit conservative.
If I had to do a budget today, I'd probably expect it to be a little bit of a commodity headwind next year. We got a few months before that. We're in the early stages of our budgeting process.
Thank you. Our next question comes live, Jessica Mace with Nomura. Your question please.
Hi, good morning.
Good morning.
My question is on the kind of implied guidance for the fourth quarter, or I think that you mentioned you're expecting another sales decline. Some of the factors, the five factors you outlined that impacted the third quarter, some were controllable and some were not. Can you just help us think about what are the largest impacts that you're expecting in 4Q? Thanks very much.
Yeah. Just to kind of get everybody level set, our guidance is for the full year is to be down 1%-3% in sales. If you squeeze the fourth quarter, I'm going to call the midpoint, wouldn't that be very about 3.7% down if you squeeze the midpoint?
Right.
That would be kind of the implied midpoint guidance. I think first thing to, again, get everybody set on the same page. If you were to ask me where we are today, I don't normally do monthly sales trends, but I've always thought that when you have a trend change, it's worth talking about. As we sit here today, the fourth quarter is running about flat from a sales standpoint, and that would be both a worldwide comment and a U.S. comment. To be fair, if I take out floor models, which are unique in the fourth quarter this year that Barry talked about, we'd be down 1% in North America as we sit here today.
I think the other comment I would say in the area that give everybody a full understanding is that when you talk about Tempur sales, the Tempur sales are very volatile. In a given week, Tempur sales could be up or down 20%, just to give you a kind of a framework to think through. As far as estimating sales, that makes it very difficult in a period where we've got a little bit of election goofiness going on in North America, and we have our largest customer going through some transition. That kind of gives you a framework. Then when you just talk about the different factors, look, we think we got the promotional stuff knocked out.
We did a deep dive, did some soul searching, I think we're much improved from a company from that standpoint, we'll be spot on the promotions again, that'll be effective in the marketplace and certainly be supportive of our retailers. On the transitional stuff, we're working closely with our largest account, we'll continue to work very closely with them and make the investments we need to in people and energy to make that transition successful. As to what is what I'll call just the general strangeness of the third quarter in consumer durables, which I called out, which was not really just a mattress issue. You can go listen to Whirlpool's appliance earnings call, automobile retailers. Clearly, the high-end consumer was nervous during the period.
We're hoping that that gets better post-election, we hope that that is more of an election issue rather than some kind of macroeconomic issue. I guess the long answer to your question is the implied guidance at the midpoint is down 3.7%. We're running better than that, it's highly volatile.
Thank you. Our next question comes from Michael Lasser with UBS. Your question, please.
Good morning. Thanks a lot for my question. It's on your comments, Scott. Is the improvement thus far driven by some better results in the Tempur units? I think that metric being down 8% is an area of focus. My other question is: what's your overall view right now on customer acquisition costs and the direction that they're going? Your advertising was up considerably.
Yes
sales were not where you wanted them to be, you have to make some adjustments over the next 12 to 18 months.
Yes
to correct that.
Yeah. First of all, to the first question, both Tempur and Sealy are performing better in the fourth quarter so far as compared to the third quarter. Having said that, Tempur is still slightly down, to be fair. As far as advertising, certainly we had some de-leveraging of advertising expenses during the quarter. Look, I think part of our job is to support our retailers, and we'll continue to be aggressive from an advertising standpoint, but certainly focused on our return on invested capital when it comes to advertising. I don't see anything significantly changing from a business model standpoint on customer acquisition costs. I think we just have to be more effective with our message in the marketplace. Barry, would you disagree with any of that?
I think that's all right on.
Thank you. Our next question comes from the line of Peter Keith with Piper Jaffray. Your question, please.
Hi. Thanks. Good morning. I wanted to ask two questions just related to the Q3 sales weakness. Could you talk about the adjustable base business and if you're beginning to see any weakness with regard to the Tempur adjustable bases? Secondarily, given the success of the Stearns & Foster launch this year, have you contemplated that that might be cannibalizing your premium Tempur business?
Yes and yes. The adjustable business, we're feeling some pressure in the adjustable business, we're working on that, I suspect we'll have some news for you over the next quarter or two from an adjustable standpoint. Yeah, there is some weakness in the adjustable business. As far as cannibalization from Stearns & Foster into Tempur, yeah, that's a hotly debated item internally. Look, I don't think there's any question that the high-end Stearns & Foster, I would also say the high-end Beautyrest Black business is probably cannibalizing and hurting a little bit of the lower-end Tempur business.
Peter, I would just add that on the adjustable base business, if you look at it in total for Tempur and Sealy, we've seen nice progress improving the Sealy adjustable attach rate and grown our adjustable business together with our retail partners. That's inclusive of some new products that we launched earlier this year that are doing really well. On the Tempur side, two things. One, adjustables are down. Now, some of that obviously is just going to go with the decline in mattress revenues. Then the attach rate, as Scott's referenced, is down some. Part of that could be the high-end consumer being a little more challenged.
Thank you. Our next question comes from the line of Laura Champine with Roe. Your question, please. Pardon me, Laura, please check your mute button.
Operator, why don't we go on to the next questioner, she can jump back in the queue if she's available.
Our next question comes to the line of John Baugh with Stifel. Your question, please.
Thanks, good morning. Two questions quickly. One, with Mattress Firm or any other retailer for that matter, has there been any measurable change in your floor space? Could you give us an update on where the Stearns & Foster launch is? The second question is on the comments I think you made, Scott, around the guide lower a month ago. You spoke to being able to track promotional efforts with SKU performance within the Tempur line. I'm curious, with the changes you've already made in promotions, have you seen that get less bad, I guess, would be the question.
Yeah. Hopefully, I can remember all those. Barry was writing them. Let me do a couple of them. From a floor space standpoint, there's floor space changes every day up and down. I would say that my perspective is that we've had net increases in distribution from a floor space standpoint and would expect to continue to have increased distribution in the fourth quarter from what I've seen. On the Stearns & Foster, I think you asked about the status of the rollout. We've been building the last bit of the floor models for Stearns & Foster. Those are rolling out currently, and by the end of the fourth quarter, we will be fully rolled out in Stearns & Foster, and most of those are going to our largest retailers' stores.
A watch-out, as Barry said in his prepared remarks, is it's unusual to have floor plan, floor model expenses in the fourth quarter. When you do a comparison, there's quite a bit of additional expense coming up in the fourth quarter for that that we didn't have last year. Be careful with your EBITDA forecast, is kind of the call-out there. Also, by the way, if you were to adjust our guidance in the fourth quarter, what I'll call our squeezed fourth quarter of guidance you would come up with what looks like a negative And it is a negative, but what's in there and the reason it's negative is the launch cost related to Stearns & Foster.
If you adjust it for that $15 million or so that Barry Hytinen called out, you'd find that our EBITDA growth rate is not dissimilar from what we experienced in the third quarter. With that, Barry Hytinen, I forgot the last five other questions he asked us.
Yeah. John snuck in a three-part question on our one question at a time. He asked about during the promotion period by SKU and how we-
Oh, yeah. I can do that one.
-we did or bad.
Yeah. A couple of things. The promotional period was about 30% of the quarter. During that period, those 30 days represented 60% of the decline that we're having to deal with in the third quarter. First of all, let me point out that it was during the promotional period where we really felt sales pressure. You asked about velocity of slot turns since then. No question, they've gotten better. By definition, when I tell you that the sales are running flat in the fourth quarter, although Tempur is down some and Sealy's up some, no question that it's improved.
I would agree with that. John, the only other thing I would add is the next promotional period, as we think about them, is coming up soon. We haven't had another promotional period. It's not a very significant one in the scheme of things as compared to Labor Day. Veterans Day, Black Friday is coming up, and those are the promotions that Scott was referencing that we've adjusted. I guess the only other thing I'd add on to the first part of the question is we've just been thrilled with how Stearns & Foster is performing. It's up double digits, and that's despite much less distribution versus last year.
Thank you. Our next question comes from Curtis Nagle with Bank of America. Your question, please.
Good morning. Thanks for taking the question. Just a quick one on Sealy. Forgive me if this was addressed, what was the margin improvement there? Then I guess any updates you could give on improving the Sealy manufacturing base.
Yeah. I'll do it overall. Then Barry Hytinen will give you the details. I couldn't be happier with Sealy assembly. The margin's improving, it's got a lot of momentum, I think we've got a lot of upside going forward. I don't think we're at the end of the journey on Sealy margin. When I look through the stats, I get them weekly, there's probably not a stat that I look at that actually isn't pointed in the right direction, that's turnover, that's quality, that's safety, that's margin. Merchandising mix is better. Labor costs are improved. Was it 160? What was the 4-wall?
The 4-wall contributed several million to the EBITDA, up well over 100 basis points. Very significant improvement and continued opportunity going forward.
The overall?
The overall, when you look at our total operations, including the 4-wall, that contributed about, call it $14 million, $15 million of incremental EBITDA year-on-year, that's excluding the benefit from commodities.
Yeah. I think one of the things that, for me, that jumped out in the quarter, even though the sales were down and there was a sales decline, when you look at gross profit on a consolidated basis, our gross profit was actually up a little bit when we had declining sales and realizing we had an unfavorable merchandising mix as Sealy did better than Tempur.
To add to that, our Sealy margin in the quarter was up in total, inclusive of 4-wall, operational improvements, sourcing, et cetera. It was up over 300 basis points year-on-year. As I mentioned, we had a considerable advancement in EBITDA from operations. That includes great productivity out of our Tempur factories as well.
I guess I'm going to get on that a little bit because I really think we did a great job from a manufacturing standpoint when you realize that the sales decline that we experienced was unanticipated, and we were still able to right size the operation so that it didn't deteriorate from a margin standpoint. I think the other part of your question really gets to what do we think about the future. We haven't finished our 2017 budgeting, and we're working through it. As we sit here today our expectation is that we've got more upside in gross margin in Sealy for sure, although probably at a slower pace than we've experienced recently, and that we continue to have upside in gross margin at the Tempur operations also.
Thank you. Our next question comes from Seth Basham with Wedbush. Your question, please.
Thanks. Good morning. First, a follow-up on an earlier response specifically related to the spend for floor model reset and launch cost of $15 million for the fourth quarter. Is it appropriate to assume that if your launch timing was on schedule, your EBITDA would have been $15 million less than the third quarter? Secondly, my question is around more color on the Tempur-Pedic North American unit performance. How much were they down, and how much were the legacy units down relative to that number?
Let me take the first one, and Barry, correct me if I'm wrong. I think the answer to that is yes, as far as your EBITDA in one of your other quarters would have been a little bit less. It probably would have been some in the second quarter and some in the third quarter. I think that's true and fair. I also think that because of the success of the product, the launch costs are larger than we would have anticipated-
We are certainly getting more distribution
because there's more distribution than we really anticipated. In total, the launch costs are more than we anticipated.
I'd add that's not all Stearns & Foster, as I mentioned, Seth. There's a considerable amount of floor models there for incremental distribution that we did not have planned for Tempur-Pedic brands.
Okay.
As those store transitions that Scott mentioned, as those stores transition to a different flooring, we're seeing incremental Tempur-Pedic distribution. From our last time talking to you all, we have more floor model discounts than planned in the back half, and it's setting us up really nicely for 2017.
Yeah. From a timing standpoint, that part's a fair call-out.
Yes.
Timing standpoint. What was the other question?
On the units, look, the Tempur units were, as I mentioned earlier, down considerably more, and our Sealy units were still down in aggregate, but less than the total.
Thank you. Our next question comes from the line of Carla Casella with JP Morgan. Your question, please.
Hi, this is Mei on for Carla. You guys spoken about expanding your international presence. What do you see being your optimal geographic mix? Today, I think it's about 18% LTM. Just another quick follow-up on that is, do you still expect $75 million of CapEx and it applies the big pickup in the fourth quarter to $33 from run rate about $20 million and half?
You found Barry sandbagging CapEx. He'll talk about that in a second. When you're talking about the mix, [Ifka], I'm going to assume you're talking more like a five-year timeframe. If you're talking like a five-year timeframe, I expect internationally for it to grow more quickly than North America. I would expect over time with international, EBITDA to be a greater percentage of the total pie over a period of time. By definition, it's international, so I also would expect it to be lumpy at times. We're actually, we've got a lot of launches going in internationally towards the end of the fourth quarter into the first quarter. I really expect 2017 to be a year where we get probably more growth in the international sales line than we do in the North America sales line.
Barry, you want to talk about what you're going to spend in CapEx and what you've been sandbagging?
Yeah. Okay. You caught me. We're thinking it's probably going to be more like $60, might even be a little bit beyond $60, but that's kind of our current view. As you go forward, I would look at CapEx as compared to the D&A that goes with it as being CapEx will be roughly equivalent, if not even below, that portion of the D in the D&A.
What would that be in dollars? Just, I could do with some questions.
I think you ought to be planning for something in this vicinity on a $60, $65-
Yeah
kind of on an annual basis.
Thank you. Our next question comes from Keith Hughes with SunTrust. Your question, please.
Thank you. You referred earlier to a 300 basis point gain in the Sealy family of products. That is nice progress. Would that be something we would expect for the next several quarters, assuming sales are within your plan?
A 300% improvement?
300.
I think we had a 300 basis. Is that correct? I heard 300 basis.
That's correct. Keith, the way I would think about it is, we certainly were lapping the last of the easier comps, if you will, and we started to flatten out and grow margin in Sealy. Not to suggest that we don't see considerable opportunity as Scott's referenced, the rate of increase is probably going to come down some, with considerable incremental opportunity. Look, the other thing I'd point out is, the Stearns & Foster mixing to be more of the total segment business is a positive to gross margin as we get incremental merchandising mix. I would expect the rate of improvement to maybe taper some.
I would add on a little bit in that we've got fourth quarter should be, we've got a pretty easy comp there to step over. When you get into 2017, all of what Barry said's absolutely right. Plus one other item, which would be the 2017 Sealy launch. The success of that product will certainly, it's designed to drive margin improvement.
Yes.
That will be a big factor when we're talking about 2017 and we're talking about Sealy margin. How those products perform will be key. Early indications are that the Sealy 2017 looks very good, and we're actually very bullish on that product line.
Thank you. Our next question comes to the line of Kevin Detta with Citi. Your question, please.
Hi, good morning. Thanks for taking my question. I guess I was curious about your commentary about the additional basket in your credit agreements to be able to go up to 4.5 times. I'm not sure if I've heard you call that out, and I'm just curious with where your stock price is, if you're thinking about maybe accelerating your leverage targets to at least the 3.5 times or perhaps beyond.
Yeah, no. Don't overread us on calling out how the baskets work. The leverage target is 3.5, I don't anticipate it changing as far as a target. When we set that target, we were also very clear that at times we'd be below it and above it, I think that's still the strategy. If we find compelling investment, we may run a little hotter than 3.5. At times like we are today, we're 3.2 or something, guys?
Correct.
Yeah. I don't see any fundamental change in taking the target up, that we would stay at an accelerated level from a long-term standpoint.
Thank you. We have a follow-up question from Curtis Nagle with Bank of America. Your question, please.
Yeah, just a quick one on inventory. Looks like it was trending ahead of top line. Just curious what's driving that?
Curt, I would look at inventory and say the days are a little bit up, and that's partly, I mean, that's exclusively driven by the sales shortfall. If you look at the cadence of sales in the quarter, we were planning obviously for more, and with our Tempur as well as working across raw material, et cetera, we build in advance of that. Days were up four days, and you should see improvement in those metrics going forward.
Thank you. We have a follow-up question from the line of Carla Casella with JP Morgan. Your question, please.
Hi, this is Mei again on for Carla. I was wondering if you'd clarify for us the revolver drawing and availability in the quarter?
Sure. I mean, we basically were at One second. Let me take a look at something. Yeah. We were undrawn.
Thank you. Ladies and gentlemen, this concludes our question and answer session for today. I would now like to hand the call back over to management for closing comments and remarks.
Thank you. To the 7,000 plus employees worldwide, thank you for what you do every day to make the company successful. To our retail partners, thank you for your outstanding representation of our brands. To our shareholders and lenders, thank you for your confidence in Tempur Sealy leadership team and its board of directors. This ends our call today. Thank you, operator.
Thank you. Ladies and gentlemen, this concludes today's program, and you may all disconnect. Everybody have a wonderful day.