In determining your Sleep Number setting, it's important to note that the higher the number, the firmer the air chamber mattress. Investing can be that way too, especially given the recent deflation at Select Comfort (NASDAQ:SCSS) over the past few weeks.
Even though shares of the bedding specialist have actually inched higher over the past year, a disappointing fourth quarter has investors like myself wondering how the company will fare in 2007.
Challenges to overcome
Can you imagine how long Rip van Winkle and Sleeping Beauty would have snoozed if they'd had the luxury of grabbing some shut-eye on a Select Comfort mattress? Unfortunately, they would have also slept through what promises to be a pivotal year for Select Comfort.
Let's go over some of the things to look out for:
- Comps were off a whopping 9% through the first eight weeks of the December quarter. After spending the last few years producing same-store sales growth of 15% or better, the company slid 9% in the final period, which still leaves it comfortably ahead of where it was two years ago at the store level. However, this is a trend to watch, because any kind of prolonged weakness would indicate that consumer appetite for the high-end beds with dual chambers may be waning.
- The competition isn't going to cut Select Comfort any slack, either. Sealy (NYSE:ZZ) is a box-spring giant, but it has been pitching higher-end foam and spring-free latex mattresses. Tempur-Pedic (NYSE:TPX) will always be thorny with its acclaimed premium mattresses. Private juggernauts like Serta and Simmons also won't take things, pardon the pun, lying down.
- 2006 closed on a sour note, and the projected plunge in fourth-quarter profitability can't rear its head in 2007. The company is broadening its distribution channels, and perhaps there is brand dilution there -- but a wider reach is fine as long as the company can keep its costs in check and the bottom line growing.
Sleeping pretty in 2007?
There are also opportunities here. Before the company proved mortal in the third quarter and stung investors with its fourth-quarter warning, there were plenty of reasons to get excited about Select Comfort, and some of those positives remain.
Let's cover a few of them.
- The company has gradually expanded from providing high-end mattresses for conventional bed settings. Recent introductions include Sleep Number convertible sofas (adjustable) and a deal with Winnebago (NYSE:WGO) for RV mattresses.
- Overseas expansion offers a lot of room to grow, even though the company's international efforts have centered mostly around Canada for now.
- The company still generates 76% of its sales through its retail outlets. E-commerce and direct mail remain a sliver of overall sales, and any upticks there -- particularly through the company's website -- would provide a cost-effective way to grow high-margin sales.
- Margin expansion has fueled the company's meteoric rise over the past few years. The fourth quarter will be the first time in ages that earnings growth doesn't outpace top-line growth. A quick recovery in 2007 is critical and would get Wall Street back on board.
The value of a good night's sleep
Despite the current quarter's hiccup, Select Comfort is sticking to its long-term goals, which include the following:
- Sales growth of between 15% and 20%
- Earnings growth of between 20% and 25%
- Same-store sales growth of between 7% and 12%
If Select Comfort is able to get back into that kind of groove -- and it should be noted that it was trending well above those targets for a few years until its collapse toward the end of 2006 -- shares of the company will be a good value at today's prices.
Really. The company is looking to earn between $0.95 and $0.97 a share this year. Recently lowered Wall Street projections have the company earning $1.07 in 2007. At a recent price of $18, Select Comfort is fetching less than 20 times trailing earnings and just 17 times forward profitability. That is a discount to the company's historical and long-term earnings growth rate.
Am I biased? Perhaps. I own a Sleep Number mattress, and it has changed my life to the point that I became an investor in Select Comfort earlier this year. I am also a subscriber to the Hidden Gems newsletter service, which has been bullish on the stock for more than two years now.
Even our Motley Fool CAPS players are optimistic. A whopping 97% of the players feel that the shares will outpace the market in the future. Am I sold completely? Not a chance. I've seen the "cockroach theory" at play before. You know the old saying -- when you find a roach, others may be waiting to dart out? I've gone through way too many companies where one warning became the prelude to more disappointments. However, I am confident that the economy will hold up and that the viral splendor of glowing Sleep Number testimonials (hint: buy one and thank me later) will get the company going again.
There are few things as important as a good night's sleep. As a Select Comfort investor, I'm hoping that pleasant dreams come and that the bedbugs or, in this case, those pesky roaches -- don't bite.
Check out the other companies featured in "The Motley Fool's 2006 in Review and 2007 Preview" special.
If you're excited by what's been happening at Select Comfort, you can see what other companies have been recommended by Hidden Gems. The newsletter picked Select Comfort in the spring of 2004 and has beaten the market by an average of 25% since its inception.
Longtime Fool contributor Rick Munarriz thinks that a good night's sleep is better than a balanced breakfast to start the day off right. He does own shares in Select Comfort. He is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Fool's disclosure policy is pretty comfy for a disclosure policy.
