I’m a believer in growth stocks. As an analyst for our Motley Fool Rule Breakers service, I think you should be a believer, too. But even I have to admit some growth stories are bogus, hence this regular series.

Next up: Tempur Pedic (NYSE: TPX). Is this mattress maker the real thing? Let’s get right to the numbers.

Foolish facts

Metric

Tempur Pedic

CAPS stars (5 max) ***
Total ratings 454
Percent bulls 89.6%
Percent bears 10.4%
Bullish pitches 74 out of 113
Highest rated peers Mohawk Industries, Leggett & Platt

Data current as of Oct. 20.

For years, Fools have been reticent when it comes to Tempur Pedic. That finally appears to be changing, and for good reason. Last week, the company reported earnings that beat the consensus analyst estimate by $0.06. Tempur Pedic also raised guidance for the third time this year, Reuters reports.

“[Tempur Pedic is] coming out with new more affordable line to attract buyers who are interested in product but who currently won't pay top dollar. New line coming out at a good time for lower priced models based on [the] economy,” Foolish investor NEVERFADE wrote in July.

Good point. The Cloud line of mattresses has proven extremely popular, CEO Mark Sarvary said in a conference call with analysts. A high-end addition to the Cloud line, the Cloud Luxe, debuted during the quarter and is already gaining traction. “Retailer interest in the Luxe is high and we believe it will also help us grow share and improve average price,” Sarvary said.

The elements of growth

Metric

Last 12 Months

2009

2008

Normalized net income growth

97.6%

19.2%

(49.5%)
Revenue growth

36.4%

(10.4%)

(16.2%)
Gross margin

49.4%

47.4%

43.2%

Receivables growth

20.9%

5.8%

(39%)
Shares outstanding

69.2 million

75.1 million

74.8 million

Source: Capital IQ, a division of Standard & Poor’s.

It’s pleasing to me that Sarvary is pursuing premium prices where possible. As this table shows, that strategy produces good results. Let’s review:

  • First, revenue and net normalized net income is accelerating. Both are necessary for sustainable growth.
  • But net income is growing faster because of premium pricing. Tempur Pedic’s margins are up more than 6 percentage points in two years!
  • Healthy share buybacks also contributed to the earnings surge. According to Capital IQ, the mattress maker has repurchased $250 million in common stock over the past year.
  • Finally, receivables are now growing slower than revenue. Inventory is up 40% over the past year, but that’s only a slight premium to sales growth over the same period and makes sense with Tempur Pedic raising guidance heading into Q4.

Competitor and peer check-up

Company

Normalized Net Income Growth (3 years)

Ethan Allen Interiors (NYSE: ETH) Not measurable
Sealy Corp. (NYSE: ZZ) (39.1%)
Select Comfort (Nasdaq: SCSS) Not measurable
Tempur Pedic (0.6%)

Source: Capital IQ. Data current as of Oct. 20.

Tempur Pedic looks better than most competitors in this table, but it’s also not reflective of recent steps the company has taken to separate itself from competitors. The introduction of the Cloud Collection late last year, for example.

Grade: Sustainable
Strategically, Tempur Pedic appears to have positioned itself for growth. But is the promise worth the price? I think so, yes. The stock trades for a reasonable 14.4 times consensus 2011 earnings, and its 1.15 PEG ratio represents a modest premium to the 14.3% annual earnings growth analysts expect over the long term. As such, I’ve rated the stock to outperform in my CAPS portfolio.

Now it’s your turn to weigh in. Do you like Tempur Pedic at these levels? Let the debate begin in the comments box below. You can also ask Tim to evaluate a favorite growth story by sending him an email, or replying to him on Twitter.

Interested in more info on Tempur Pedic? Add it to your watchlist here by clicking here.