Mattress Firm (MFRM) Sleepy Deal Offers Near-Term Risk But Long-Term Gains - UBS
Michael Lasser from UBS thinks the Sleepy's deal raises Mattress Firm Holding Corp. (NASDAQ: MFRM) long term earnings potential while it elevates near term risk.
MFRM's purchase of Sleepy's puts the final piece in place for it to become the dominant national bedding retailer as it takes out the most obvious competitor of scale that it might have faced in more markets over time.
The company expects to operate the Sleepy’s infrastructure & brand for the foreseeable future so there will be future sources of cost savings to draw upon to generate earnings growth down the road.
The analyst thinks this should put the ultimate synergy level above & beyond the $40 mm it promised. This targeted savings level would take Sleepy’s EBITDA margin to 10% (from its recent level of 6%) despite its stores being located in some of the most densely populated markets in the country. This suggests that there is a significant opportunity to improve the productivity of these locations (from the recent level of ~$1mm in sales per store).
The combined company can earn ~$5 of EPS in ’18E on a combined OM of 7.4%. However, this only assumes that Sleepy’s sees 2% annual top-line growth (its CAGR is 9% since ’10) and reaches an EBITDA margin (ex synergies) of ~6.5%. This earnings potential should help the company alleviate some of the debt burden it is assuming from this transaction (with a leverage ratio of 4-5x).
The purchase price of Sleepy’s at 11x LTM EBITDA absorbs some of the NT accretion. It translates to $730k per store, which is towards the higher end of what it has paid in the past.
With the announcement of the Sleepy's deal, MFRM pre-announced its 3Q results. It noted its comp increased 3.8% in 3Q, ahead of the 1.3% consensus est. Also, it narrowed its FY EPS guidance to $2.33 to $2.42. In order to achieve the implied 4Q range of $0.51 to $0.62, it needs to achieve ~85 bps of adj OM expansion in 4Q. It’s moving in the right direction, but the outlook is not without uncertainty.
No change to the Buy rating or $57 PT based on 20x CY'16E adj. EPS.
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Shares of Mattress Firm Holding Corp. closed at $49.36 yesterday.