Mattress Firm's (Nasdaq:MFRM) first quarter was a strong one with adjusted earnings per share (EPS) up 23% to $0.38 with 32% revenue growth to $276 million. More importantly, it reaffirmed its 2013 guidance originally provided in March. While business looks good for the Houston-based mattress retailer, you can't always judge a book by its cover. I'll take a closer look at its numbers to see if its stock is worth buying.
Double-Digit Growth
Anytime you can grow the top line and bottom-line by double digits, you're doing something right. As a result of this growth its stock is up approximately 60% as of June 5. That compares favorably with peers Tempur Sealy International (NYSE:TPX) and Select Comfort (Nasdaq:SCSS), which are up 33% and down 18% respectively. Since going public at $19 in November 2011, Mattress Firm's total return has doubled. There's no question it's done well for J.W. Childs, the private equity firm that acquired it for $450 million in January 2007. It put approximately $145 million in equity into the deal financing the rest. As of June 5 it's sitting on $633 million in unrealized gains or a 440% return on investment over a six year period. I imagine J.W. Childs will want to divest its remaining 54% interest in the near future.

SEE: How To Decode A Company’s Earnings Reports

Revenue Quality
In the first quarter Mattress Firm saw a $66.2 million increase in revenue year-over-year. If you exclude the revenue from its acquired stores, it actually experienced a much less robust 7.6% increase in revenue or $15.9 million. That's not bad until you consider that it paid $234,000 for each Mattress Giant store, $64,000 more than the cost of opening one of its stores from scratch. Worse still the average Mattress Giant store generates about 75% of the revenue of one of its own. So while it's gaining speed to market it's overspending by as much as 38% per store in order to gain market share more quickly. That's a recipe for disaster if the acquired stores don't match the sales levels of their new stores. In its Q1 press release it shows a chart that its acquired stores in both 2011 and 2012 are doing better today than prior to their acquisition. However, it's less certain if they are meeting its new stores in terms of productivity.
New Stores
Mattress Firm finished the end of April with 1,096 stores, about 1,404 away from its goal of 2,500. It anticipates opening as many as 120 stores in fiscal 2013 for a net increase of 95 stores after accounting for the estimated closure of 25 stores. Adding 95 per year it's going to take the company almost 15 years to meet its target. Given the unpredictability of the bedding industry, I see it making more acquisitions in the next couple of years. With each store costing $170,000 ($245,000 before landlord inducements) to open, it will spend approximately $29 million on new stores in 2013 and an additional $28 million for other capital improvements. That's about $10 million less than it spent this past year. If it wants to get bigger it will have to spend more.
Debt Levels
Mattress Firm's acquisitions were effectively paid for with proceeds from its IPO. Although it used most of the proceeds to pay down $84 million in a loan facility that was charging 16% interest, it turned around and secured $300 million in potential financing at rates no higher than 3.8%, choosing to draw on about $250 million of it to acquire several mattress businesses in 2012 as well as open stores, etc. The problem is that it's whittled its cash down to less than $2 million and its free cash flow (FCF) for the trailing twelve months is just $10 million. Assuming it generates operating cash flow of $90 million in 2013, it will have free cash flow of ($57 million Capex) of $33 million, providing it with enough cash to buy approximately 141 stores from the competition but leaving it with no cash to pay down debt, etc. Therefore, it's hard to see how it can make any future acquisitions without ramping up the borrowing.

SEE: Operating Cash Flow: Better Than Net Income?

Bottom Line
Currently Mattress Firm's enterprise value is 12.6 times EBITDA. That's not bad when compared to peers like Tempur Sealy or Select Comfort. However, when you compare it to a retail peer like Williams-Sonoma (NYSE:WSM), which has better operating margins, almost no debt and $252 million in cash, yet whose enterprise value is just 8.8 times EBITDA, you really should reconsider why you're considering Mattress Firm in the first place. If its growth you're after, Williams-Sonoma's internet business will give you plenty of action.
In my opinion this stock is not worth more than $40 a share and until it can generate better free cash flow, you're not going to change my mind. I'm definitely going to sleep on it. For now I'll pass. 

At the time of writing, Will Ashworth did not own shares in any of the companies mentioned in this article.

Related Articles
  1. Investing Basics

    5 Tips For Investing In IPOs

    Thinking of investing in IPOs? Here are five things to remember before jumping into these murky waters.
  2. Fundamental Analysis

    How To Decode A Company's Earnings Reports

    Read between the lines to decipher a company's true financial condition.
  3. Fundamental Analysis

    Interpreting A Company's IPO Prospectus Report

    Learn to decipher the secret language of the IPO prospectus report - it can tell you a lot about a company's future.
  4. Investing Basics

    How To Evaluate A Company's Balance Sheet

    Asset performance shows how what a company owes and owns affects its investment quality.
  5. Markets

    How To Evaluate The Quality Of EPS

    Companies can manipulate their numbers, so you need to learn how to determine the accuracy of EPS.
  6. Stock Analysis

    How Toyota Succeeds at Home and Abroad (TM)

    Japan's biggest car manufacturer is also one of North America's biggest, delighting shareholders with its high profit margins.
  7. Budgeting

    Trunk Club Review: Is It Worth It?

    Take a close look at one of the best-known online clothing services in the country, and determine whether it's a good fit for your style and budget.
  8. Budgeting

    HelloFresh Review: Is It Worth It?

    Discover one of the world's most successful meal subscription services, and learn more about how the service operates and what it costs.
  9. Stock Analysis

    Starbucks: Profiting One Cup at a Time (SBUX)

    Starbucks is everywhere. But is it a worthwhile business? Ask the shareholders who've made it one of the world's most successful companies.
  10. Stock Analysis

    How Medtronic Makes Money (MDT)

    Here's the story of an American medical device firm that covers almost every segment in medicine and recently moved to Ireland to pay less in taxes.
  1. How does a cost-of-living adjustment (COLA) affect my salary?

    Some companies build salary adjustments into their compensation structures to offset the effects of inflation on their employees. ... Read Full Answer >>
  2. Where can you buy NetSpend reload packs?

    You can only purchase NetSpend reload packs at Giant Eagle, Albertsons, Roundy's and Pathmark supermarkets. NetSpend cards ... Read Full Answer >>
  3. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  4. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  5. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  6. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
Trading Center