Thanks, Michelle. 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 and A. Forward looking statements that we make during this call are made pursuant to the Safe Harbor's provisions of the Private Securities Litigation Reform Act of 1995.
Investors are cautioned that forward looking statements including 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 ks and the company's quarterly reports on Form 10 Q under the heading Special Note Regarding Forward Looking Statements and our 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 temperssealy.com and also filed with the SEC. With that introduction, I will turn the call over to Mark Sarberry.
Thanks, Mark. Good evening, everyone, and thanks for joining us. Today, I will provide an overview of our performance in the Q3 and then discuss the progress we're making on our key strategic growth initiatives in 2014. I'll then turn the call over to Dale, who will provide details on the Q3 financial results and our updated 2014 guidance. Our performance during the Q3 was strong.
We executed well on our strategic initiatives, which led to better than expected sales and a solid increase in earnings. In total, our 3rd quarter sales increased 12.5 percent with double digit growth across each of our 3 business segments and adjusted EPS increased 21%. So far in 2014, we've generated $181,000,000 of operating cash flow and have lowered our total debt by $190,000,000 Tempur North America performed very well and we're encouraged by the growth in share gains we are seeing. Sales were an all time quarterly record, up 16% in Q3 and after starting the year in negative territory are now up 7% year to date. The new products are doing very well and our focus on adjustable basis over the past year is paying off.
The new Tempur Cloud and Contour beds have reignited growth of Tempur Pedic. They've been the fastest growing new products in our history. The innovative easy refresh top cover and the integrated smart climate system have been clear differentiators and received well by consumers and retailers alike. Another important development has been the growth in adjustable base. Now adjustable base sales have been growing for Tempur Pedic in each of the past 10 years, but we've seen a major acceleration in 2014.
We attribute this to our newly expanded offering and a greater selling focus by retailers and RSAs. During Q3, orders for adjustable bases were unprecedented, especially around our Labor Day Live It UP promotion. Now this did result in product availability challenges, Now this did result in product availability challenges
and we did our
best to minimize impact to our customers during the period and we have since meaningfully stepped up our inventory. But to give you some context, our attach rates in Q3 were nearly double the rate of last year. Tempur North America's margins are also getting better, both gross and operating margins. However, they were somewhat lower than we expected due to the significant increase in adjustable base mix. We're also pleased with the growth of Sealy.
Sealy sales increased 11% in total, but were up 16% in the U. S. Like Tempur, Sealy is gaining share and in the U. S. Is up 11% year to date.
We attribute the success to our strong product range and increased distribution with some of our most important customers. Fosterpedic, which was introduced last year, continues to do very well. And the new Stearns and Foster, Sealy and Optimum products that were introduced this year are also growing nicely. However, Sealy's margins were lower than our plan. This can be explained to a large extent by manufacturing inefficiencies resulting from near record demand.
And I want to thank our entire operations team for the long hours and hard work that was put into meeting this demand. Still, we need greater consistency and predictability from our supply chain operations. We have recently begun a major initiative to improve productivity and flexibility across the entire CD manufacturing footprint. Tempur International also had good growth, although slightly lower than we had planned. Tempur sales were up mid single digits with growth in Asia and Latin America.
Europe, however, remains uneven. And we saw further weakness in Central Europe in markets like Germany and Benelux. As we discussed in July, we acquired the Seabee brand rights in Japan and Continental Europe. And in quarter 3, we began rolling out Stearns and Foster and Seabee Hybrid products to a select number of customers in Europe. These rollouts have been slower out of the gate than we'd expected, which led to some pressure on profitability in Q3.
That said, we remain confident that there is significant opportunity, and we expect better performance with more meaningful sales and earnings contribution in 2015. I will now talk briefly about our 4 key growth initiatives, which as you know, our product innovation, marketing, our desire to be easiest to do business with and international expansion. As we look into 2015, we see another strong year of innovation. Our plans call for several Tempa and CD product line introductions that we believe have the potential to generate significant incremental growth. Like we did with our 2014 launches, we're working with our key retailers and using consumer research and testing to ensure their success in the marketplace.
I'm not going to provide specific details on these new products tonight for obvious competitive reasons, but look forward to sharing them with you early next year. In addition to innovation, we're also making good progress with respect to our marketing initiatives. During the Q3, we maintained a healthy rate of advertising and are planning for a solid rate of investment in the Q4. Our new national TV ads, which feature real Tempur Pedic owners with our new mattresses and adjustable bases, have been very effective. And together with a double digit increase in TV ad impressions, they are driving traffic into retail stores as well as increasing website traffic and retailer locator searches.
We also continue to support Stearns and Foster, Optimum and Fosterpedic with consumer advertising including TV, digital and print. The 3rd strategic initiative is our commitment to being the easiest to do business with. We continue to improve our distribution and warehouse network to capitalize on shipping Tempur and Sealy products together and have recently announced the integration of our Tempur and Sealy U. S. Sales forces.
Both initiatives will help improve customer service. The organization has worked hard over the last 18 months to integrate the 2 businesses. And following the combination of the sales forces, the consolidation will be effectively complete. The integration has gone overall has gone very well and cost synergies continue to be captured at a faster rate than projected. Our 4th strategic initiative is international expansion in new and existing geographies.
I just mentioned our recent acquisitions of Sealy Brand Rights in Japan and Europe and we're also advancing several other initiatives around the world. Earlier this month, amended our credit agreement to give us greater flexibility to pursue acquisition opportunities, including licensees, distributors and joint ventures. To summarize, we entered 2014 with an aggressive plan to reposition our company for growth by investing in new products and marketing. It required a significant investment, but it is paying off. It's great to be back in a position where we're reporting double digit growth.
However, we have work to do in improving our margins and that will be a key focus going forward. We look forward to providing you an update on our progress when we report early next year. And in addition, we plan to present a thorough review of our long term strategy and outlook at our next Investor Day in New York on February 18, 2015. With that, I'll now hand the call over to Dale.
Thanks, Mark. I'll focus my commentary on the Q3 2014 financial results and then discuss our updated 2014 guidance. 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's a notable variance from the prior year. Consolidated net sales for the Q3 were $827,400,000 up 12.5 percent versus last year. As Mark stated, we're very pleased to report double digit growth in each of our three business segments and are particularly encouraged by Tempur and Sealy's U.
S. Performance. Tempur North America net sales increased 15.8% and were driven by strong demand for our new cloud and contour products in an adjustable basis. Bedding net sales increased 19.5% on a unit increase of approximately 14%. Within bedding, sales of adjustable bases were up over 50%.
Sales of other products declined 22%. By channel, Tempur North America retail sales were up 18% and direct sales declined 16%. Tempur International net sales were up 10.9% and on a constant currency basis up 10.7%. Growth was driven by a combination of higher Tempur sales and initial sales from Sealy Japan and Europe. Bedding net sales increased 11% on a unit increase of 11%.
By channel, Tempur International retail sales increased 10% and direct sales increased 35%. Sealy sales increased 10.9%, driven by strong growth in the U. S. Bedding product sales were up 11% and retail channel sales increased 15%. 3rd quarter consolidated GAAP gross margin was 38 0.5% as compared to 40.6% in the prior year.
Gross margin declines in Tempur International and Sealy were partially offset by an increase in Tempur North America. By segment, the primary drivers were as follows. In Tempur North America, gross margin increased primarily due to operational efficiencies, offset partially by a higher mix of adjustable In Tempur International, gross margin declined due primarily to the Sealy related start up costs in Europe. In Sealy, gross margin declined due to operating inefficiencies exacerbated by a greater than anticipated surge in demand as well as unfavorable foreign exchange and certain one time items. We had anticipated our Q3 gross margin to be approximately 41%.
The variance versus our expectation can be attributed approximately 50% to a higher mix of adjustable basis, 25% to Sealy operational inefficiencies and 25% to Sealy start up costs in Europe. From an operating expense perspective, the higher sales resulted in operating expense leverage and we were able to offset most of the gross margin decline. Consolidated advertising expenses of $92,000,000 were 11.1% of sales versus 12% last year and other operating expenses were also lower as a percentage of sales. Consolidated operating income was $87,100,000 in the Q3 of 2014 and included $10,500,000 of integration costs related to the Sealy acquisition. This compares to operating income of $81,200,000 in the Q3 of 2013, which included $8,500,000 of transaction and integration costs.
Interest expense was $25,300,000 and included a $3,300,000 accelerated amortization of deferred financing costs related to a $125,000,000 voluntary debt pay down of company's Term A and Term B loans in September of 2014. The 3rd quarter tax rate was 37% and reflects a discrete tax item associated with the repatriation of foreign earnings. The pro form a tax rate was 28.2%. Net income attributable to non controlling interest reduced our net income by $400,000 in the Q3 versus no impact in the prior year. This reduction is related to our Comfort Revolution joint venture.
As you know, the results of Comfort Revolution are fully consolidated into our reported results. And to the extent there is net income generated, it is adjusted to reflect our 45 percent ownership interest. In Q4, we expect a $1,000,000 reduction in net income attributable to non controlling interest. 3rd quarter GAAP earnings per share was $0.60 as compared to $0.65 per share last year. Adjusted earnings per share were $0.88 in the 3rd quarter as compared to adjusted EPS of $0.73 in the prior year.
Now turn to cash flow and balance sheet for a brief review. Operating cash flow during the quarter was $109,000,000 and free cash flow was $95,000,000 The strong cash flow generation in the quarter allowed for us to voluntarily pay down $125,000,000 of Term A and Term B loans in September 2014. Year to date, operating cash flow is $181,000,000 and free cash flow is $151,000,000 At the end of the 3rd quarter, our cash conversion cycle improved 7 days due primarily to improved payables in inventory. At September 30, 2014, the company had consolidated funded debt less qualified cash of $1,600,000,000 The ratio of consolidated funded debt less qualified cash to adjusted EBITDA was 4.1 times calculated in accordance with the company's senior secured credit facility. A calculation of this ratio is included in the press release.
Now I'd like to address our 2014 guidance. Today, the company updated its financial guidance for 2014. The company currently expects net sales to be in the range of $2,970,100,000 to $3,000,000,000 This reflects growth of approximately 7% to 8% compared to 2013 had we owned Sealy for all of 2013 and adjusted EBITDA to be in the range of $405,000,000 to $415,000,000 and adjusted earnings per share to be in the range of $2.60 to $2.70 The factors driving our updated guidance are as follows. So far in October, we are growing well, but at a slower rate than we were in Q3. Our customers and industry sources report that sales have been slower in October.
The high end of guidance assumes a pickup in sales related to Black Friday and the low end reflects a continuation of these slower trends. We expect gross and operating margins to continue to improve in Q4, but they will be lower previous expectations. On a year over year basis, our updated guidance implies sales growth for Q4 in the range of 7% to 11% with adjusted EBITDA growth in a range of 11% to 21% and adjusted earnings per share growth in a range of 23% to 38%. Our adjusted EBITDA and adjusted EPS guidance is pro form a and as noted in the press release does not include costs related to the disposal of the 3 U. S.
Innerspring component facilities, transaction and integration costs related to the Sealy acquisition, discrete tax items associated with the repatriation of foreign earnings or certain non recurring interest expense and financing costs. In considering our guidance, it's possible that our actual performance will vary depending on the success of our new initiatives, macroeconomic conditions and competitive activities or the consequences of other risk factors we've identified in our press release and SEC filings. As noted in our press release, our guidance and these expectations are based on information available at the time of the release and are subject to changing conditions, many of which are outside the company's control. With that, operator, please open the line for questions. Michelle?
Our first question comes from Keith Hughes of SunTrust. Your line is open.
Thank you.
You've talked
a lot about gross margins and
some of the
things that happened in the quarter. Is there are these problems going to persist into next year? Do you think you can solve most of them towards the end of this year? Any kind
of view on that would be helpful.
Yes, Keith. If we look at the 3 pieces, so in Tempur North America fundamentally it was a mix change. We had very good performance in Tempur North America both on the top line and in the margins. The mix of adjustable basis was significantly higher than what we had anticipated. As you know, adjustable basis have a little bit lower margin, so that just muted that.
I would say, we hope that one continues, because bottom line, it's a good thing to sell more adjustable bases. On the Sealy side, where again, we had very good growth, but we had a surge in demand that exacerbated some manufacturing inefficiencies. That's something that we absolutely are focused on that we're actually going to be working hard on. We want to improve the performance there. It will take some time to get it completely to where we want to be, but it's underway and we should see some gradual improvement.
Certainly, there are a couple of one time items in the quarter that we would not expect to repeat. FX also, particularly the Canadian dollar to U. S. Dollar relationship continues to give us some gas there. That doesn't look like it's getting better anytime soon.
But so we do expect improvement in Sealy. And from a Tempur International standpoint, the key thing there is was different than what we expected was just the timing and the rollout of the new Sealy product lines in Europe. And the thing that caused some delay and some issue there was getting our contract manufacturers up to speed, getting them efficient. We've made some progress there. We think that we're on the right track.
It's not completely where we need it to be from a throughput and a volume and a cost standpoint, but it's making good progress. We would expect that to be much better as we get into next year.
The adjustable base sales, the surging numbers, is that both in Tempur Feeding as well as Sealed?
Yes. It was up in both, but predominantly Sealed predominantly Tempur was where we saw a huge increase in adjustable basis.
And you're reporting those in
the Tempur North America segment. Is that correct?
Correct.
And then final question on advertising. Is that something you're looking to flex up or down over the next quarter or 2?
This over the next quarter, we're going to continue on the cadence that we've been on, which is a function of both. We're seeing the benefit of 3 things. One is that we are investing and we're doing it on what we call an always on basis where the ads we always have ads on. We're not we had tried spiking it, but it's much more efficient to keep it always on. Secondly, the new ads are working really quite well.
We're very pleased with them. And third is that we have been effective when we combine the buying with Sealy of getting an improved GRPs per dollar and we're seeing the grow our sales we anticipate the growth of the advertising at a commensurate rate.
Okay. Thank you.
Our next question comes from Brad Thomas of KeyBanc Capital Markets. Your line is open.
Thanks. Good afternoon. Just a couple of follow ups on sales. I guess, first, with respect to the Q4, Dale or Mark, could you give us a little more color around what you're seeing in terms of the run rate or the outlook by segment?
As Dale said, we obviously had a very strong growth in the Q3. We're seeing good growth in the Q4. It's just at a lower rate than it was. And we anticipate good growth for the Q4 in Tempur and Sealy and most of international. As we've said, there is some weakness in Central Europe and frankly that continues.
But in general, we are expecting growth across the board.
Great. And then what was the revenue benefit from the licensee acquisitions in the 3rd quarter? And what's the expectation for the Q2
call
that
we We said at the Q2 call that we expected $20,000,000 to $25,000,000 in revenue. And we thought that would be kind of in the 10 ish million in the Q3 and 15 ish in the Q4. Well, we did about 5 in the Q3. In the Q4 right now based on where we're at, we would expect that to be closer to to 10%. So it is starting to ramp.
We are starting to get a better flow of product, but we still have some issues around getting the product produced in the contract manufacturer, getting it to the quality, etcetera. So we're being very picky, very exact about our needs. And if that means a little bit slower rollout, that's what it's good what it is. But that also means that you're doing we've made some investment in infrastructure, etcetera, that is not getting revenue against it. So that's why it's causing us a little bit of a gas here in the second half.
But next going into next year, we see it as a big opportunity.
Great. And is that for both Japan and Europe? Or was that just Europe specifically you were talking about?
Yes. I mean we had some startup issues in both Japan and Europe. But predominantly where we are having some contract manufacturing startup concerns is in Europe.
Okay. And just one more for me, if you don't mind. With oil prices having pulled back, could you just comment on what you're seeing out of your chemical suppliers and any potential relief on raw material costs for you that you might realize in the coming quarters here?
Yes. That's a great question. Kind of interesting. Certainly, with oil pulling back, things like diesel are a little bit better. But interestingly enough, as we've talked over the years, the chemicals that go into polyurethane foam do not always trend exactly with where oil is and what oil is doing.
We've actually seen some price pressure in the chemicals that we buy or the foam both on Tempur and Sealy foams and that's partly because of some global supply constraints on those chemicals right now. So even though oil has pulled back a little bit, we are seeing some commodity price pressure on the chemicals.
Our next question comes from Peter Keith of Piper Jaffray. Your line is open.
Hi, thanks. Good afternoon. I guess a follow-up on Keith's question regarding the manufacturing issues related to Sealy. Clearly, it sounds like there's going to be some gross margin pressure in the Q4. Is this a type of issue that could extend with gross margin pressure into 2015 as well?
It's likely to have as Dale said, the initial start up is going to continue into the 2nd sorry, into the Q4 and it will carry on into the beginning of next year. But what we do believe is that that the projections that we have had for this there's nothing that we've seen that's systemic. The change is what we thought was going to happen. It's just going to take a little longer. Having said that, the margins of these new Sealy products are not going to be identical to the Tempur margins just by for reasons of their construction or where they're sold and so on.
So we haven't broken that out fully. But they are consistent with our there's nothing we've seen that's changing our expectations in the long term. It's just a question of a rollout right now.
But I guess, I think Mark you were I was asking about the Sealy U. S. Business. I think were you just talking about the international business there?
Oh, forgive me. I was talking about international. What sorry, repeat your question. Forgive me. I thought you were talking about Sealy.
Yes. So Sorry, the gross margins were pressured with Sealy U. S. Because of some of the constraints on manufacturing with the surge of demand. Is that issue it's clearly going to continue into Q4.
Does that continue into 2015?
No. I mean, I think that the issue as Dale said, it's an area of focus. It's an area that we it's something that we really are focusing on. It will continue to some extent in Q4, which is what we said. And what we anticipate though is that this is something that's going to the specific issues are not going to continue, but the continuous improvement of the productivity and flexibility is something that we see in the over the period of 2015 is something that we actually hope to be a benefit.
It's something we see to be a good opportunity. Right now though, we're just trying to deal with what has been an issue that was caused by a variety of to some extent, one off issues, but that doesn't really matter. We want to get it so that it's more predictable and more flexible going forward. And ultimately, we believe that there's opportunity there.
Okay. Thank you. And then,
so clearly
the sales are very strong. So we're happy to see that. I guess, you did mention that some production issues with the adjustables and Sealy because of the strong demand. Does that have an impact a negative impact on revenue at all with Q3?
I mean, possibly a bit, but not a lot. I mean, to be honest, as I said, our operations team worked very hard on both the Sealy and the Tempur side. There were some frankly, we did have some shortages of adjustable bases. And as I said, the demand was really very, very good much ahead of what we expected. And we were able to meet the vast majority of the requirements.
And we have built up our inventory now in anticipation that that fundamental trend is going to continue. So we may have lost a little, but not much.
Okay. And then last for me to circle back with you on the Sealy Europe rollout. I understand you want to keep it slow. Could you give us maybe a qualitative view on the initial retailer interest and maybe how the demand for slots is coming relative to your expectations?
It is really early. So what I'm going to give you is really anecdotal. I mean, in fact, it is very early. Retailer reaction has been quite positive. The retailers like it.
They like the positioning. They like the products. They like the products. They like the positioning and they like the fact that they're quite unique. And the positioning is being the oldest and best known American brand is working well.
In the stores where we have had the product long enough for it to kind of really test it over a period, we're getting sell through very consistent with what we expected. But quite frankly, I'm not I don't expect you and I'm not even projecting from that because it's too little of a test and too short of a time. But on the other hand, nothing we've seen is inconsistent with what we expected.
Our next question comes from Sam Reid of Barclays. Your line is open.
Thank you so much for taking my questions. I actually have 2 U. S. Specific questions here. First, would you be able to comment specifically on the performance of optimum adjustable basis during the quarter?
I know that was something you called out last quarter. And then just kind of looking for some more follow-up there. And then secondly, would you be able to provide some color with respect to how much incremental Stearns and Foster placement impacted your business during the quarter? Thanks so much.
On the Optimum front, it's Optimum overall with the relaunched Optimum is doing well. Optimum adjustable bases are growing, but frankly they're growing off a small base. So it's a small part of the overall. It's still to be honest, it's still an opportunity that we perceive. It's something that very we believe there's a great opportunity there.
We know that customers who have it value it, but it's something that there's still we're growing, but it's still a small number. As far as the Stearns and Foster placement is getting the placement is growing. We're growing one of the reasons that's driving our growth is we are getting more distribution for Stearns and Foster. And so that is that has worked well.
Got you.
Thank you so much.
Thanks.
Our next question comes from Josh Borystein of Longbow Research. Your line is
open. Hi. Good afternoon and thanks for taking my questions. On the supply issue with the bases, you talked that you said you didn't think it had that much impact on the top line. Did it have any impact on margins?
Or was there any issues with expedited shipping? Or there are other things that led you to have a negative impact on the margin?
Sure. Josh, this is Dale. The surge in demand on the adjustables absolutely we had some expediting costs. We had some extra shipping costs. We had some moving product around the country costs.
There was some extra costs there. And that's all part of the when we talk about Tempur North America, we saw a very, very good improvement in the profitability in Tempur North America. We saw good margin improvement. That mix shift part of that mix shift relationship of adjustables being a much higher percent of the business, an element there was also we had quite a bit of expediting costs in the Q3 to meet the demand. So that will ease as we move into the Q4 and we expect Tempur North American margins to continue to improve.
Okay. Thanks for that. And switching to Europe, could you you talked about some continued weakness in Central Europe, which you pointed out last quarter. Could you maybe just walk around some of the other major geographies, including Asia and tell us what you saw in the quarter?
Asia is obviously a very big place and there are different pockets within it. And I but bottom line is Asia is doing well. Korea, for example, is doing very well. Japan is doing well. So the but bottom line is Asia is doing well.
There are pockets in Europe that are doing quite well. Spain, for example, is doing well. But it's and the U. K. Is doing well.
But it's the same ones that we said last time. Germany and Benelux the German speaking countries are slower.
Okay. And just a final one for me. Just looking ahead into 2015 a little bit, I realize we can expect some investments in the first half of the year as that's ongoing in one of the 4 key strategic growth initiatives. But should we expect the same level of investment as we did in the first half of twenty fifteen as we saw in the first half of twenty fourteen?
And by investments you mean in new products?
Yes.
Yes. What we I mean you have to differentiate a little bit between the two lines here for the U. S, because the Sealy products Sealy, Stearns and Fosterants have a more regular cadence. This year, we had a big growth in Stearns and Foster and we won't repeat that next year. On the other hand, there are other products that we will I don't want to go into details on this, but there are other products that we will be launching on a sort of 2 year cycle that will affect Sealy going forward.
Tempur, on the other hand, had a very major introduction this year in 2014. And as I said in our comments, we have some very some new products that we're very excited about starting in 2015. However, in terms of scale, it's going to be smaller than it was this year, in terms of scale of new product launch investment.
Okay. Thank you very much.
Yeah.
Our next question comes from Jessica Mace of Nomura. Your line is open.
Hi, good afternoon.
Hi, Jessica.
My first question is on the international business. I was wondering if you could talk about how the margin performed in the quarter excluding the impact of the rollout in for Sealy in Europe and Japan?
Yes. Basically our international business excluding the rollout and start up of Sealy in both Japan and Europe, the international business met our expectations from a margin standpoint. The top line was a little bit less than what we would have expected. But if you strip out those, profitability was still down in our international business and that was predominantly related to FX as we've talked about before. So the cross currency etcetera, but that was built into our revised outlook and expectation and it came in where we had thought it was.
The thing that was different was the cost and the timing of the Chile rollout was what came in different than what we expected.
Understood. And then just to clarify that I understand what I heard before. It sounds like those Sealy businesses in Japan and Europe longer term the margin outlook is a little bit lower than the existing Tempur International business. Is there anything you can quantify for us on that differential?
Yes. The gross margins on the international
Sealy business for Japan and Europe would be a little bit lower
than the Tempur
on the International Sealy Business for Japan and
Europe would be a little bit lower than the Tempur margins. However, from an operating margin standpoint, we would expect them to be EBIT contributive. We would expect them to almost be similar in margin rate to our current international Tempur business because they're being built on top of an existing infrastructure. So we're not having to add all the infrastructure that's in place. So the gross margin can be a little bit lower, but you're not having as much a lot of incremental operating costs.
So you get you end up with very good EBIT numbers.
Makes sense. And then just finally on the commentary on October so far, is there anything you can point to that's going on in the category or that might be short term in nature that could give you any visibility into these trends picking up?
I mean, there's not really. I don't think there's anything fundamental happening in the industry. I think that we there was a we had and the industry had a very good Labor Day. And that may be having something of an effect in the short term. But I'm not hearing anything.
I've not seen anything that makes me think there's some systemic change.
I think maybe one thing is over the last several years there has been a kind of shift in emphasis in the Q4 towards Black Friday. So the whole industry we've seen some change in the seasonality where more of the quarter is occurring in the November late November early December time period. So that I mean that could be it.
Our next question comes from Budd Bugatch of Raymond James. Your line is open.
Good afternoon, guys. This is actually Bobby filling in for Budd. I appreciate you guys taking my questions.
Hey, Bobby. Dale, can
you give us the margins gross margin and operating margin by segment as you typically do?
Absolutely. And keep in mind these are GAAP. So Tempur North America in the 3rd quarter gross margin 42.8 percent and Tempur International, 56.6 percent Sealy, 30.9 percent. So Tempur North America was up year over year about 80 basis points. Tempur International was down a little over 300 basis points.
Sealy was down about 370 basis points. From an operating margin standpoint, Tempur North America and this includes corporate expense, 11 point 3%, which is up 3.90 basis points year over year Tempur International 17.2%, which is down about 500 basis points and Sealy 8.3%, which is down about 200 basis points.
All right. Thank you. And then based off kind of your earlier comments about the adjustable basis, is that is it roughly 125 basis point drag? My quick math kind of got me to on the Tempur North America margin.
Well, we said it was about 100 basis points on the company. So on the Tempur North America, it's more than that. So I mean, for the business versus what we expected, we were down about a couple of 100 basis points and about half of that was because of the adjustables. So it was a big impact on Tempur North America.
Do you care to quantify that? Or can you help me out get a number wrapped around that from that to try to get to maybe a number on that?
Based on the size of Tempur North America relative to the whole business, you're looking at it. It diluted Tempur North America's gross margins by 2 50 basis points or more.
Okay. I appreciate that. And then just one additional one on the margins. Can you help can you maybe walk from last year's 60% gross margin international to this year's 56.6% and kind of bucket out what impact currency had in some of the other moving parts in that? Yeah.
Was
actually in the neighborhood of including the floor models, was actually in the neighborhood of including floor models and some of the start up costs etcetera. That was almost 2.80 basis points of the year over year decline in Tempur International and then FX. The cross currency impact was in the 40 basis point range, a little bit of country mix in there. But the biggest on a year over year basis, the biggest impactor was the cost associated with starting up Sealy.
I appreciate that. Thank you. And that's it for my questions. And best of luck going forward.
Thank you. Our next question comes from Karru Martinson of Deutsche Bank. Your line is open.
Good afternoon. I was wondering if you could provide a little color in terms of kind of a sell through at the price points. Are you seeing consumers continuing to trade up? Or is there resistance at their traditional levels?
We're seeing good response to the Tempur products. And the Tempur average unit selling prices are doing very well. In fact, they're going up. So we're not seeing resistance per se. I mean, it's what I don't think one can deduce is that the whole market is moving up.
I don't think one can say that the entire market is moving up. But if you look at our portfolio, our portfolio is. And obviously, some of the Stearns and Foster products are doing very well and the high end hybrid postopaedics, for example, are doing well. So but I think that frankly, that's because we're gaining share. I don't think that's a fundamental thing that the industry or the consumers as a whole are moving up.
Okay. And when you look at the capacity constraints that you experienced here and we'll see a little bit going forward here, I mean, are you seeing any floor space or spots being taken away from you? Or how are the retailers handling those constraints?
No. I mean, we haven't been no, we haven't been if anything, we're gaining spots. So I think one of the things that we are very focused on, kind of a core component of the strategy of the combination of Tempur and Sealy is to have a line of products that are complementary so that they don't duplicate each other. And so insofar as we have a range of products, we take pride in the fact that everyone has a role and it satisfies the need of a different consumer. And if we can do that as well as take the average selling unit selling price up, then we're moving in the right direction.
And you combine that with an increased proportion of products being sold with an adjustable base that takes yet higher the average ticket price. Thank you
very much guys. Appreciate it.
Yeah.
Our next question comes from Katherine Lin of Bank of America. Your line is open.
Hi, this is Katherine. I'm on for Denise Tye. I was wondering just on Germany and Benelux, I know it's been soft in for a while, but has there been any improvement? And just why do you think the market is still so soft there?
There's a variety of reasons. It's quite it's obviously a big country and a variety of reasons. There is a degree which is macroeconomic. And then there are other issues where there is some new product introductions of very different to the Tempur type of product, which are at the lower end, but which are growing in Germany. There is some traditionally, Germany doesn't have very many a small proportion of spring mattresses.
And there are spring mattresses that are being imported and sold in Germany, which is affecting the overall market. So there is it's sort of an anomaly within Europe, but that is what's happening.
Okay. Got it. Thanks. And just on some of the new products you introduced in Las Vegas in July, I was wondering how those have been performing and what are you expecting from them in 4Q in 2015?
Obviously, the big focus for the from a Tempur point of view has been the products that were announced in January. We did roll out some new pillows that are just rolling out. The big launch from a Sealy front was the Sealy entry level product range, the Sealy brand. And we're quite excited about those. They're doing really quite well.
We're very proud of them. They're great products. And it's a product range that is a very good value for the money and a very good looking product and is getting a very positive response from retailers. We're quite excited about it.
Thanks.
Our next question comes from Carlo Casella of JPMorgan. Your line is open.
Hi. This is Paul Semenour on the line for Carlo Casella. You mentioned that you amended your credit agreement earlier this month. What are your priorities there for your licensees and JVs? And do you expect to have opportunity to buy in licensees?
And what your comfort with leverage is there?
Yes. Well, we're not going to run down a priority list. But from a strategy standpoint, we want to unify the brand. And we're talking the Sealy brand here to the extent possible globally. So there are opportunities out there.
There's that was the reason why we amended the agreement was to have more flexibility to be able to go after some of those opportunities. We did just a quarter ago did Japan and Europe. We've got some startup that's there in terms of getting those going and but we'll get through that here relatively quickly. And then we'll focus on other opportunities. But there are a number of different opportunities in different parts of the world.
But from a strategy standpoint, we want to unify the brand and the business. Anything you want to add Mark?
No. I mean, I think one of the things that is important is we as we've said before, there are going to be acquisitions that will make strategic acquisitions. And what we were able to do with this new structure is that it just gives us an increased amount of flexibility so that as things become available, we can move very quickly. But there's obviously, we're not going to list what all the things we're working on, although to say this is an ongoing thing and it's something that we're always working on in the background in a variety of different areas.
Got it. And then how high do you think you'd take leverage if you found the right deal?
Well, we're still limited. The leverage in we have a leverage covenant. The leverage covenant is right now under the new agreement 4.75, which is what it was under the old agreement. Under the old agreement, the covenant stepped down pretty dramatically over the next year, where under the new agreement it still steps down, but it steps down over a multiyear period as opposed to over the next year. So what would we do?
At a minimum at a max, it would be what we could do under the agreement. But we don't have a per se this is where we want to be. We're going to keep reducing our leverage unless there's a deal that makes sense that changes the trajectory a little bit. But our current credit agreement requires us to meet certain leverage levels over time.
Perfect. Thank you so much.
Our next question comes from Josh Boorstin of Lombro Research. Your line is open.
Hi. Just a follow-up on that last question on the balance sheet. You delevered a little bit. It sounded like ahead of expectations. What are your plans going forward for further deleveraging the balance sheet and paying down debt?
Well, I think as I just said, our expectations are we will short of coming to a conclusion that we to transact on an acquisition opportunity, the focus is to continue to delever. And if we didn't buy something, a licensee, a joint venture or something, then we would continue to delever. And we'd continue to delever in the direction that we had previously anticipated, which was each year cash flow is going to go to reducing debt. If what the adjustment in the credit agreement does though is it gives us the opportunity to take advantage of some of the global opportunities that may come our way.
Okay. Thanks. And then just last on the Tempur Breeze, you talked last quarter about launching the Breeze in Asia. Where what countries is the Breeze currently in? I know it's in Germany, but any other countries in Europe?
Any countries in Asia right now?
It's all over the place. It's all over now and it's doing well. It's a very well received product. People like it.
I know you had mentioned Marc that it was a little more cannibalistic of existing Tempur mattresses than originally anticipated. Is that still the case?
Yes. That continues to be the case. I mean, it's a very popular product. It is to a larger extent than we'd anticipated cannibalistic. But it's a good product because it expands.
It's not only that it's well liked, it's sort of new it keeps us front of mind not only for the consumer, but also for the RSAs and for the retailers around the world. So it's a good product. It is more cannibalistic for example than the Breeze is in America.
Great. Thanks guys.
Yes.
At this time, I'm showing no further questions. I'd like to turn the call over to Mark Savory for any further remarks.
Thank you. We look forward to talking with you all again early next year when we host our Q4 earnings conference call. Thanks for joining us this evening.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone have a great day.