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Typically, it's the disruptive tech stocks that swing like Tarzan on the exchanges, but for whatever reason, mattress companies do the same thing. It would appear that mattress manufacturing and selling is a rather boring, stable business, but if you take a look at the charts for the top companies, they look like a panoramic photo of the Himalayas. For this earnings season, two of the hottest mattress sellers both saw top lines soar, but while one's stock followed suit, the other one crashed. What happened with Select Comfort (NASDAQ: SCSS ) , and should investors be worried?
In the final quarter of 2012, Select Comfort made some great progress. Net sales were up a very healthy 17% to a company record of $221 million. That did nothing, though, to assuage the concerns of Wall Street analysts, who were expecting a higher EPS -- $0.32 vs. the actual $0.22. What caused the drop in bottom-line earnings? Marketing malfunctions and other big-time spending. According to company management, Select Comfort increased its media spending and exposure in October. This appears to have been costly and, all in all, a failed experiment. Though they're not broken down specifically, sales and marketing accounted for 46.3% of the company's net sales compared to 43.8% the year before. That equates to a more than $19 million increase. Investors should expect the marketing expenses to correct for the next quarter.
The company is also in the midst of overhauling product lines and attempting to appeal to a larger customer base. This means heavy research and development expenses -- to the tune of $1.9 million for the three-month quarter versus $1.19 million in 2011's comparable period. What investors and analysts seem to be ignoring here is that these are long-term expenses expected to yield long-term results. One cannot simply flick a switch and instantly generate returns. Select Comfort is trying to build a better company down the line and, in my opinion, wisely sacrificing some up-front profit.
More evidence to my point is the company's full-year growth, which is truly impressive. For the year, net sales shot up 26% to $935 million -- far above 2011's $753 million. Company-controlled comps were up 23%. Comparable store sales are one of the most important metrics in evaluating a retail business, and this is a phenomenal gain. Operating margins hit a record 13.4%, steaming ahead toward the company's 2015 goal of 15%.
This week, investors saw their Select Comfort shares decline nearly 17%. In my opinion, this means two things -- if you want to dollar-cost-average your investment down, now is a wonderful time to do so. If you don't own Select Comfort at this time, but realize that the company is headed to over $1 billion in sales next year and owns two of the biggest airbed companies in the world, now is a great time to jump in.
Yes, it's true, I think Select Comfort is a great company. I thought it was a great company seven months ago -- when analysts saw softened (pun intended) mattress demand and thought Select Comfort and Tempur-Pedic were headed for the Dumpster. During the last six months of the year, the stock gained more than 16%.
For some reason, these mattress stocks are very volatile, and analysts seem to forget that we are in the midst of a major housing turnaround -- one that includes plenty of new homes needing new mattresses. It's frustrating to see your stock plummet double digits in one day, but for those who keep a watchful eye, a stock like Select Comfort is a great way to boost returns if you buy the oversold dips.
For 2013, I see Select Comfort continuing to outperform on an annual basis. There may be a midyear dip, just like last year. But according to the company's 10-K, the U.S. mattress business is moderately seasonal, with the second quarter typically the softest. For the long-term investor, these trends are irrelevant.
Select Comfort is an industry leader with rising sales, improving margins, and a great management team. I give it an enthusiastic thumbs-up in my CAPS portfolio.