Every investor can appreciate a stock that consistently beats the Street without getting ahead of its fundamentals and risking a meltdown. The best stocks offer sustainable market-beating gains, with improving financial metrics that support strong price growth. Let's take a look at what Tempur-Pedic's (NYSE: TPX) recent results tell us about its potential for future gains.

What the numbers tell you
The graphs you're about to see tell Tempur-Pedic's story, and we'll be grading the quality of that story in several ways.

Growth is important on both top and bottom lines, and an improving profit margin is a great sign that a company's become more efficient over time. Since profits may not always be reported at a steady rate, we'll also look at how much Tempur-Pedic's free cash flow has grown in comparison to its net income.

A company that generates more earnings per share over time, regardless of the number of shares outstanding, is heading in the right direction. If Tempur-Pedic's share price has kept pace with its earnings growth, that's another good sign that its stock can move higher.

Is Tempur-Pedic managing its resources well? A company's return on equity should be improving, and its debt to equity ratio declining, if it's to earn our approval.

By the numbers
Now, let's take a look at Tempur-Pedic's key statistics:

TPX Total Return Price Chart

TPX Total Return Price data by YCharts

Passing Criteria

2.5-Year Change*


Revenue Growth > 30% 76.1% Pass
Improving Profit Margin (25.7%) Fail
Free Cash Flow Growth > Net Income Growth 60.1% vs. 139.6% Fail
Improving Earnings per Share 172.3% Pass
Stock Growth (+ 15%) < EPS Growth 29.2% vs. 172.3% Pass

Source: YCharts. *Period begins at end of Q4 2009.

TPX Return on Equity Chart

TPX Return on Equity data by YCharts

Passing Criteria

2.5-Year Change*


Improving Return on Equity 304.9% Pass
Declining Debt to Equity 225.9% Fail

Source: YCharts. *Period begins at end of Q4 2009.

How we got here and where we're going
With four of seven possible passing grades, Tempur-Pedic offers a reasonable, but not strong, case for its value. However, the company's certainly found itself with a more attractive valuation now that its stock's growth has fallen far below that of its bottom line. At the beginning of our tracking period, Tempur-Pedic's P/E was 31. It's since shrunk to less than a third of that earlier level, with a P/E just under double digits today.

Tempur-Pedic made waves earlier this month by announcing the acquisition of smaller rival  Sealy (NYSE: ZZ), a deal that includes assuming the $760 million in debt presently on Sealy's balance sheet. Doing so will more than double Tempur-Pedic's present debt load, which is already five times as large as its available cash. It remains to be seen if Tempur-Pedic can bring Sealy's anemic (and often negative) profit margin more in line with its own.

Tempur-Pedic's already the best value in the mattress sector right now. Mattress Firm's (Nasdaq: MFRM) P/E is roughly double Tempur-Pedic's, and Select Comfort's (Nasdaq: SCSS) is even higher. That discrepancy reflects the difference of analyst opinions on the three companies. Tempur-Pedic's anticipated growth rate next year is 12%, which is half Select Comfort's and even lower than Mattress Firm's. Now that Tempur-Pedic's roughly doubled its expected revenues (Sealy made only $150 million less than its new parent last year), it may be able to draw closer to those high growth rates.

Putting the pieces together
Tempur-Pedic has some of the qualities that make up a great stock, but no stock is truly perfect. Digging deeper can help you uncover the answers you need to make a great buy -- or to stay away from a stock that's going nowhere.

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This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.