Somnigroup International - Earnings Call - Q4 2011
January 24, 2012
Transcript
Speaker 7
As a reminder, today's conference call is being recorded. Now I would like to turn the conference over to Mr. Barry Hytner.
Speaker 3
Thanks, Matthew, and thank you to everyone for participating in today's call. Joining me in our Lexington headquarters are Mark Group, President and CEO, and Dale Williams, Executive Vice President and CFO. After prepared remarks, we will open the call for Q&A. Forward-looking statements that we make during this call are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that forward-looking statements, including the company's expectations regarding sales and earnings, involve uncertainties. Actual results may differ due to a variety of factors that could adversely affect the company's business. The factors that could cause actual results to differ materially from those identified include economic, competitive, operating, and other factors discussed in the press release issued today.
These factors are also discussed in the company's SEC filings, including the company's annual report on Form 10-K under the headings Special Note Regarding Forward-Looking Statements and Risk Factors. Any forward-looking statement speaks only as of the date on which it is made, and the company undertakes no obligations to update any forward-looking statements. The press release, which contains a reconciliation of non-GAAP financial measures to the most directly comparable GAAP measures, is posted on the company's website at somnigroup.com and filed with the SEC. I would like to welcome Barry Hytner, our new Vice President of Investor Relations, who joined us earlier this month. Last year, I took on additional responsibilities as Senior Vice President of Global Business Development in addition to IR. Over the last year, our business development initiatives have ramped, and Barry's hiring will allow me to be fully dedicated to this area.
As many of you know, Barry has covered the company as a sell-side analyst for many years and was twice named Best on the Street by the Wall Street Journal for his coverage of home construction and furnishings. Barry reports directly to Dale Williams, and he is joining us on the call today. With that introduction, it is my pleasure to turn the call over to Mark Group.
Speaker 4
Thanks, Barry. Good evening, everyone, and thanks for joining us. We're pleased with the performance throughout 2011, and the fourth quarter was a good end to a very strong year. Fourth quarter sales were up 25%, and earnings per share increased 27%. For the year, sales were up 28%, and earnings per share increased 47%. In a few moments, Dale will provide details of the fourth quarter and full-year financial results, as well as our 2012 guidance. First, I'd like to talk about the progress we made on our key strategic initiatives in 2011 and discuss the key drivers for the company in 2012. Just as a reminder, our four strategic initiatives are: number one, make sure that everyone knows that they would sleep better on Somnigroup by investing in brand marketing.
Number two, make sure that there is a Somnigroup mattress and pillow that appeal to everyone by expanding and strengthening our product line. Number three, make sure that Somnigroup is available to everyone by gaining broad, high-quality distribution. Number four, make sure that we continue to deliver the best sleep by investing in R&D and consumer research. We have made progress on all these initiatives in 2011. Sales growth was strong, both in the U.S. and overseas, and we have gained share domestically and around the world. This growth was driven primarily by the success of our new products and our increased investments in advertising, as well as by continued expansion and distribution. The new Cloud collection continues to grow in the U.S. and has been very successful in its first year of launch internationally.
The Contour collection, which was launched in 2011 in the U.S., has also exceeded our expectations. We increased our brand advertising to record levels, with our total investment in 2011 almost $150 million. The Ask Me campaign in the U.S. continues to be successful at communicating the benefits of Somnigroup, and it's a flexible platform that allows us to focus communication as appropriate. The Weightless campaign, which we launched in Germany, France, and the UK, has also proved successful, driving incremental volume in each of these countries. We've also gained substantial distribution, doors, and slots both in the U.S. and overseas. As the Cloud line ramps internationally, we've increased the number of Somnigroup slots with our retailers in every market. Now let's turn to our strategic focus areas for 2012.
We're very excited about the next stage of our plan to become the world's favorite mattress and pillow brand and to continue on our path toward our $2 billion goal. We'll continue to implement the four initiatives of our strategy, and specifically, in 2012, we'll broaden our product range, increase our consumer communication, raise advocacy with our retail customers, and gain distribution. First, on new products. There are consumer segments that we do not currently address, and one of our four initiatives is to use R&D to ensure there is a Somnigroup International mattress and pillow that appeals to everyone. As we did with the Cloud collection, we've identified another major opportunity to expand our appeal and meaningfully grow our business. The $1,000 to $2,000 price band represents a very large market segment that we currently do not address in a meaningful way.
In fact, in the U.S., this segment has the same dollar value as all the segments above $2,000 added together. I'm excited to announce that we will be introducing a three-bed line with varying feels priced at $1,499 per queen set next week at the Las Vegas bedding show. The introduction of this line effectively doubles the size of our addressable market. We spent the last two years developing this collection, and it's the most researched product we have ever launched. It is both consumer-preferred to the competitive set and vastly incremental to our existing product portfolio. Initial retailer feedback has been very positive, and we expect to gain considerable incremental spots. While we know you will likely have many questions, we're going to save the rest of the details for Las Vegas. Internationally, we will be continuing the successful rollout of the Cloud collection. In both the U.S.
and overseas, we expect distribution gains, both in the form of additional doors and additional slots. Secondly, we will increase our brand advertising globally. We continue to see that investments in advertising are effective and have a positive ROI around the world. Further, we find that increasing rates of advertising drives increased share and profitability. In 2011, we tested heavy up marketing in 29 local markets in the U.S. and saw a very positive result. In 2012, we will significantly expand the test and monitor the results, and if it works as expected, we will ramp the program across the country. Additionally, in 2012, we're increasing our investment in brand advertising in Germany, France, and the UK and introducing TV campaigns to additional markets, including Japan, Italy, and Australia.
Our confidence is high that advertising there will have a very positive impact on awareness and sales in these new markets, just as it had in Europe last year. To maximize the success of our new products and our advertising, we're also very committed to ensuring that our retailers remain strong advocates of the Somnigroup International line. We previously announced that we will be taking price increases on selected items within the range, and in Vegas, we'll be announcing a new promotion structure, both of which will increase dealer profitability from selling Somnigroup International products. In addition, we have found that in those markets where retailers integrate their advertising with our national campaign, the results for both us and the retailers are dramatically improved. During 2012, we will work with retailers across the country to create and run impactful advertising that is integrated with Somnigroup International national advertising.
Lastly, a couple of contextual comments before I hand over the call to Dale. The environment we are operating in remains challenging. Clearly, the macro environment, particularly in Europe, is uncertain. Our retailer feedback, both in the U.S. and around the world, indicates that traffic levels remain inconsistent. Our plans are based on a series of initiatives, including a new product offering in the U.S., which has yet to be sold to a single consumer. Therefore, we will remain flexible and will review our plans and be prepared to adjust accordingly throughout the year. Having said that, we remain focused on driving meaningful growth for many years to come. We have a small but growing share today, and we'll continue to build on that with our investments in marketing and new product introductions. In a few weeks, at our Investor Day, we'll discuss our new five-year plan.
With that, I'll now hand the call over to Dale.
Speaker 6
Thanks, Mark. I'll focus my commentary on the financials and our 2012 guidance. Let's begin with an overview. In total, fourth quarter net sales were $367 million, an increase of 25% over the same period last year. On a constant currency basis, net sales increased 24%. North American sales were up 26%, and the international segment net sales increased 25%. On a constant currency basis, international net sales increased 21%. Now, by channel, in North American retail, net sales were $225 million, an increase of 25%. Our North American direct channel increased by 44% to $21 million. International retail sales were $94 million, up 28% and up 23% on a constant currency basis. By product, mattresses were up 26%, driven by a 22% increase in units. North American mattress sales increased 24% on a 14% increase in units, reflecting favorable price and mix.
In the international segment, mattress sales increased 33%, driven by a 36% unit increase. On a constant currency basis, international mattress sales were up 29%. The modest decline in AUSP was related to our new futon product in Japan and associated floor models. Total pillow net sales increased by 16% on an 11% increase in units. North American pillow sales increased 15% on a unit growth of 10%. International pillow sales were up 17% on a 12% increase in units. On a constant currency basis, international pillow sales increased 13%. Sales of our other products, which include items that are normally sold along with a mattress, were up 28% in total and up 36% in North America and 10% internationally. Gross margin for the quarter was 52.1%, up 20 basis points year on year, and down 30 points sequentially.
On a year-over-year basis, gross margin improved related to the following: favorable mix, improved efficiencies in manufacturing related to our productivity program, and fixed cost leverage related to higher production volumes. These benefits were largely offset by higher commodity costs and the costs associated with U.S. shipments to support our Danish manufacturing facility. On a sequential basis, gross margin declined as we shipped slightly more product to Europe from our U.S. factories than initially anticipated as our international sales continued to trend higher. However, as of the end of the year, we are no longer shipping product to Europe. Our European factory is now producing at record levels and capable of fulfilling our international growth plan. Our fourth quarter operating profit was $85.8 million, or 23.4%. Operating expenses were up, reflecting an increased investment in brand advertising to drive growth.
SG&A expenses include a couple of items that I would like to address. As we've previously disclosed, there's a variable component in our long-term incentive plans. In light of our strong 2011 results and continued positive outlook, we took a one-time charge to catch up our accrual of approximately $2 million. Partially offsetting this charge was a favorable adjustment of $1.8 million to the earnout payment related to a prior acquisition. Interest expense was $3.5 million. The tax rate was 32.2%, modestly down, reflecting the benefit of NOLs in certain foreign subsidiaries. EPS was $0.84 as compared to $0.66 per diluted share in the fourth quarter of 2010. Now, we'll summarize the income statement for the full year 2011. Sales were up 28% in total and 25% on a constant currency basis. North American sales were up 30%, and international sales were up 24%.
On a constant currency basis, international sales increased 16%. Operating margins improved 180 basis points to 24%. Full-year earnings per share were $3.18. Next, I'll turn to the balance sheet and cash flow for a brief review. Our accounts receivable balance was up, reflecting sales levels. However, our DSOs were flat from last year. Inventories were up $21 million year on year, but flat from last quarter. This quarter, we generated $70 million of operating cash flow, and capital expenditures were $11 million. We increased debt by $76 million to $585 million to partially fund share repurchases, which totaled 2.3 million shares for a total cost of $128.5 million in a quarter. Our cash balance increased by $8 million, was 1.5 times at year-end, within our targeted range of 1.5 to 2 times.
Over the long term, we expect continued growth in sales, earnings, and cash flow, which together with low capital needs will enable us to continue to return value to stockholders. We are pleased that our board has authorized a new $250 million share repurchase program for 2012. Now, I'd like to address our guidance for full year 2012. We currently expect net sales to range from $1.6 billion to $1.65 billion, and we currently expect earnings per share to range from $3.80 to $3.95 per diluted share. We project our gross margin for the full year to be up as much as 200 basis points at the high end of our guidance range and slightly less than this at the low end. Our gross margin projections assume continued productivity and volume leverage, partially offset by higher commodity costs.
Also, as a reminder, our 2011 gross margin was negatively impacted by 50 basis points due to the system upgrade issue I referenced earlier. We project our operating margin for the full year to expand by nearly 100 basis points, despite our continued investment in strategic initiatives to drive long-term growth. However, in the first quarter, as compared to the fourth quarter, while we are expecting gross margins to increase slightly, operating margins will contract slightly as we start the heavy-up investment in marketing. We anticipate interest expense for the full year to be approximately $19 million. We anticipate capital expenditures will be approximately $50 million, which includes the cost to build our new office in Lexington. We anticipate the full year tax rate to be approximately 33.3%, and we are using a share count of 66 million shares for the full year.
This share count does not assume any benefit from a potential reduction in shares outstanding related to the company's new repurchase program. In conclusion, our guidance reflects that it is a long year with many new strategic initiatives and products. Therefore, we believe it is prudent to plan the year as I have outlined. Now, before we open the call for Q&A, I would like to address our recent sales trends. In the fourth quarter, we experienced improving growth rates by month. In the first quarter, sales trends through the first 23 days have continued to be strong, and we are very pleased with that. As noted in our press release, our guidance and these expectations are based on information available at the time of the release and are subject to changing conditions, many of which are outside the company's control.
One final comment, I would like to thank Barry for his outstanding leadership of investor relations over the last seven years, and we're excited about the contributions he is making in his new role. With that, operator, please open the line for questions.
Speaker 7
Thank you. Ladies and gentlemen, if you would like to queue up to ask a question, please press star, then one on your touch-tone keypad. If your question has been answered or you wish to remove yourself from the queue at any time, you may do so by pressing the pound button. Once again, if you would like to queue up to ask a question, please press star and then one. In the interest of fielding questions from as many participants as possible, we would ask that you please limit yourself to two questions at a time and then re-queue for any additional questions. Our first question comes from John Baugh with Stifel Nicolaus. Your line is open.
Speaker 1
Thank you. Good afternoon and congratulations. Just quickly to clarify, that 50 basis point hit to the systems, was that a Q4 or 2011 total impact? Secondly, how should we think about, as a percentage of revenue, the ad spend in 2012? Thanks.
Speaker 6
Hey, John. This is Dale. Yeah, the 50 basis points is looking at the full year. Of course, that impacted Q3 and Q4. It was concentrated in those two quarters, mostly in Q4. On the advertising spend, in 2011, our advertising spend was in the $10.5 million range. Right now, we're planning for 2012 advertising to be in the vicinity of 13%.
Speaker 1
How would that break out, Dale, between the U.S. and international?
Speaker 6
Just like the 10.5 was actually pretty balanced, the 13 is also going to be fairly balanced between the two poles.
Speaker 1
Is that going to be a heavy emphasis on the newly introduced product or general brand marketing?
Speaker 4
Mark here. It will be broadly focused across the range, and will obviously be different by region and by geography, depending on the situation there. In the U.S., the new product will be featured in the advertising, but we'll go into the details of that in Vegas. The broad answer to the question is it will be across the range, and it's obviously a very important part of our strategy going forward.
Speaker 1
Thanks for taking my question. Thank you.
Speaker 7
Thank you. Our next question in queue is from Bradley Thomas with KeyBank Capital. Your line is now open.
Speaker 2
Thanks. Good afternoon. Wanted to just follow up on the revenue guidance for next year. I was hoping you could provide a little more color on your expectations for the North American segment versus international and what you baked in for FX.
Speaker 6
Yeah, Brad, right now, we believe that from an overall standpoint, we're going to see actually fairly balanced growth this year. We think the U.S. will continue to perform, but the international business growth rate has picked up. Right now, we're thinking it's going to be fairly balanced. From an FX standpoint, while FX was a help for most of 2011, the amount of benefit that we got from FX declined as the year went on. Our expectation for 2012 at this stage is that FX will be neutral, and if rates were to stay basically where they are right now, that's where it would come out.
Speaker 2
Great. In terms of the guidance, Dale, could you give us some color around what you're factoring in in terms of raw materials and what the run rate looks like right now based on what you saw in the fourth quarter?
Speaker 6
Yeah, as usual, when we're planning a year, we try to assume, at least on the commodity side, that we're going to see price increases because that's something that's completely out of our control. Right now, what we have built into our guidance would be that we would see a mid to high single-digit impact on commodities. How that would play out versus 2011, currently, you would expect a little bit more impact in the first half than in the second half because we saw inflationary commodity prices as 2011 went on. The first half was lower than the second half on commodity costs, so we would expect a little bit more impact of that in the first half as compared to the second half.
Speaker 2
That's great. If I could just ask Mark one last question here. I know you want to save discussion of the new line until next week, but when I think about when you guys rolled out the Cloud the first time, the biggest question was cannibalization. I was hoping maybe you could talk a little bit about what you've done to try and make sure this new line does not cannibalize existing sales.
Speaker 4
You were right the first time. I don't want to talk about this until we get to Vegas. Please, we'll see you in Vegas, and we'll take you through it. It's obviously something that we thought about a lot. I think when you see the product, you see how it's positioned and marketed, you'll understand what we've done. It's not something I want to go into on the call today.
Speaker 2
Fair enough. I look forward to seeing you next week.
Speaker 4
Thanks. Good, me too.
Speaker 7
Thank you. Once again, ladies and gentlemen, if you do have a question, please press star, then one on your touch-tone keypad. If you wish to leave the queue, you may do so by pressing the pound button. Our next question comes from Bud Bugach with Raymond James. Your line is open.
Speaker 0
Good evening, and my congratulations to you on a terrific year as well.
Speaker 4
Thanks.
Speaker 0
Just on the gross margin, if we could get a little more quantification of the items that maybe affected you sequentially from third quarter to fourth quarter, what they did, because you had, I think, Dale, expected gross margins to be up sequentially in the fourth quarter.
Speaker 6
Yeah, we did. We thought at the time that we did the third quarter call that we would see a slight improvement in gross margins sequentially. If you recall, at the time, we said that we thought that the cost impact of supporting the international business from the U.S. factories would cost us $3 to $4 million. Basically, in our planning, we had $3 million baked in. It ended up, because, as you can see, the international business performed really well in the fourth quarter, it ended up being a little over $4 million. I would emphasize that by the end of the year, the shipping had stopped. The productivity of the Danish plant is at record levels, and we're very comfortable that the Danish plant now will support all the growth plans for the international business for years to come.
Speaker 0
Okay. Congratulations on that. Normally, in your filings, I think you provide segment gross margins and operating margins, and I suspect the K has been done or all the audit is done. Could you possibly give it to us before the filing, maybe what the percentages were for international versus domestic, or do we need to wait for the filing?
Speaker 6
I think it'd be easier to wait for the filing. I don't have that sitting here in front of me, but we'll be filing our K in the next several days.
Speaker 0
Okay. Finally, just make sure I've got the numbers right. If you do 13% advertising to sales ratio, it looks like advertising on pure dollars will be up around $60 million year over year to something like $210 million. Is that the plan?
Speaker 6
That's in the neighborhood, yes.
Speaker 0
Nice neighborhood. Thank you very much, and good luck with that.
Speaker 6
I will.
Speaker 0
See you in Vegas.
Speaker 4
That is right. It's a very important number. It's a very important part of our strategy. The only thing that I do want you and everybody else to understand is that, like we do everything else, we test, test, test. This is the result. This is our plan as we stand here today. We've tested everything in both the U.S. and the markets that I referred to and overseas. As we roll this out, we will continue to test. This is our best plan or our best expectation. It's going to be something that we'll discuss at the investor conference in February. Hopefully, we'll see you there, and we'll take you through it in more detail. It's a very important part of what's driving the strategy going forward, both in terms of growth and in terms of continuing to build upon what is already a very strong brand.
Speaker 0
I agree. Congratulations, and we'll see you in Vegas, Mark. Thank you very much.
Speaker 4
Thanks, Bud.
Speaker 7
Thank you. Our next question comes from Leah Villalobos with Longbow Research. Your line is open.
Speaker 8
Hi. Good evening. I was just hoping you could talk a little bit more about the recent trends. You mentioned some recent strengthening here toward the end of the fourth quarter and beginning of the year. If there's anything in specific that you're seeing that's driving that.
Speaker 6
Yeah, it's hard to dig underneath it. Certainly, there was a promotion in the fourth quarter that seemed to do well. We did see both domestically and internationally. On the domestic side, we saw improving trends in the business as the quarter went on. Internationally, we saw very, very good trends throughout the quarter. Through the third quarter, we were seeing the international business pick up that continued through the fourth quarter. In terms of the first, the start of this year, we're 23 days in. We're very pleased with how the business is performing. Again, on both sides, both the international business and the North American business are performing well. It's early in the quarter, and this can be a fluctuating industry. We don't take 23 days lightly, but we also don't project it out forever.
Speaker 8
Sure. Okay. In terms of door count, could you give us an update of where you ended the quarter and what your assumptions are for 2012?
Speaker 6
Sure. On the domestic side, furniture and bedding doors, we ended right about 7,500. We were up a few hundred, almost 250 doors in the fourth quarter. Internationally, we ended at almost 5,300 doors, again up almost 100 doors in the fourth quarter. For 2012, you know we don't give specific door guidance anymore, but we would expect both internationally and domestically to continue to see some expansion of doors. The overall door growth internationally last year was actually fairly limited. That was a combination of the difficult environment in Europe. There was quite a bit of culling, so there was a bit of a netting going on. Overall, we didn't add a ton of doors over there. Frankly, because of the environment and the uncertainty in that kind of environment, you want to make sure that your existing retailers are performing very well and are very healthy.
We're very comfortable with that at this stage. Over time, we do expect a lot more door opportunity internationally than what we did in 2011.
Speaker 8
Okay. When you say over time, do you think that begins in 2012? Are we looking beyond 2012?
Speaker 6
The biggest uncertainty is what's going on over there.
Speaker 8
Sure.
Speaker 6
Our business is performing very well, but the overall macro environment in Europe continues to be a question. We'll see how it plays out. We do expect over the next several years to add quite a few doors internationally, both in Europe and in Asia.
Speaker 8
Okay. Great. Thanks. I look forward to seeing you next week.
Speaker 6
Thanks, Leah.
Speaker 7
Thank you. Once again, if you would like to queue to ask a question, please press star, then one. If you wish to leave the queue, you may do so by pressing the pound button. Our next question is from Joshua Pollard with Goldman Sachs. Your line is open.
Speaker 5
Thanks for taking my question. Let me just clarify one thing. Does your new guidance incorporate the impact from your new product launch? I just wasn't sure if that was the case.
Speaker 4
Yes, it does, Joshua.
Speaker 5
Okay. Great. Your pricing expectations for 2012, is there any chance you could give us some more clarity on where you expect pricing to go for your base product? I'm not sure if you guys want to look at it on the same store sales basis, just given that you're introducing a lower price point product.
Speaker 4
We're making a variety of pricing adjustments across the range of different products. It doesn't apply to every product, and it doesn't apply to some of the key price points, like $19.99 and $29.99 and so on. It's a spread across the whole range. Those price increases, together with the new product and everything else, are all incorporated into both the top line and the gross margin assumptions for the full year.
Speaker 5
When you guys think about 2012 and the store level advertising, can you dig a little bit deeper about what you guys are planning to do on that end and if that's a change in strategy versus what your approach was in 2011?
Speaker 4
It's not a change in strategy. What we're finding, as I said, is that where retailers and we are advertising in an integrated manner, it works very well. We've tested that throughout the country, and it works very well from one side to the other. It's something that we're going to continue to focus on. It's something, as I said, that we're going to expand this year, but we're going to continue to test as we expand. It's also something that we'll talk about in the context of the overall advertising in the Investor Day. Again, it's something that I'd like to talk more about in the context of the whole picture when we're all together in New York in a couple of weeks.
Speaker 5
Okay, great. Thanks.
Speaker 7
Thank you. Our next question is from Joe Altabello with Oppenheimer. Your line is open.
Speaker 2
Thanks. Good afternoon, guys. Just a couple of quick ones. First, in terms of the new mattress line, obviously, you don't want to go into too much technical detail ahead of Vegas, but could you just give us a sense of the timing of when we'll see those in stores in the U.S. and overseas?
Speaker 4
Yeah. The new product will be in stores in the U.S. in the second quarter. At the moment, it's not planned to roll out overseas this year.
Speaker 2
Great. In terms of the market opportunity, you mentioned that this increases your addressable market by about 50%. How does that compare to what you guys thought with Cloud going in?
Speaker 4
Actually, it's 100%. The way to think about this is if you imagine that the size of the market, I mean, this is not precise math. I'm not going to, but if you think about it like this, approximately half of the population prefers a soft mattress and half prefers a firm mattress. When we introduced Cloud, we essentially went for the other half of those people who were in the price range of Somnigroup International, but who until then did not have a product that appealed to them because they didn't have a soft one. There was only a firm. We considered that to be a doubling. If you consider now what we're talking about, we're doubling that doubling.
We're essentially, if you compare it to the size of the market that we were addressing prior to the introduction of the Cloud, in broad terms, addressing a market that is four times as big as the market we were addressing.
Speaker 2
Got it. That's helpful. Just one last one. In terms of the competition, we've obviously seen a ton of new beds in the VISCO arena. It doesn't seem like they've had much of an impact on you guys thus far in terms of market share. Have you seen any evidence that they're helping the overall pie to grow in terms of VISCO at this point?
Speaker 4
Obviously, we've had competitors of different types, VISCO, Latex, and so on, over the years, and we will continue to. This is a tough market with some very good competitors in it, and they will continue to introduce products. This is what we anticipate. As you said, from our point of view, we've grown quite nicely this year and this quarter, and we've seen share gains throughout the period. What I think is the fundamental thing that we're seeing is that consumers are increasingly prepared to pay a premium for a product that will enable them to sleep better. What's happening is that what we're seeing, and we think it is a pretty fundamental shift, is that the consumer is coming to this premium-priced product. That is what's driving our growth. I think it's attracting other people as well, but it's driving our growth.
The way we look at how to capitalize on that opportunity is by continuing to innovate with products that have greater differentiation and preference with consumers. As you know, all new products that we introduce are tested against not only our existing products but also against the competitive set. What we look to do is to capitalize on this fundamental trend by continuing to have products that are both genuinely differentiated and preferred by consumers. We're quite excited about the situation as it stands right now.
Speaker 2
Got it. I'm sorry, just one last one. In terms of the gross margin on the new line, how does that compare to your fleet average?
Speaker 4
First of all, we're not going to talk about the new line at all until Vegas. Secondly, we don't break out margins by life.
Speaker 2
Okay. Great. Thank you.
Speaker 4
Thank you.
Speaker 7
Thank you. Our next question in queue comes from Bobby Griffin with Barclays Capital. Your line is open.
Speaker 5
Hi. Good evening, guys. The question I have is, when you look at the Cloud in the first year in Europe, how is it performing there versus the first year domestically?
Speaker 6
The Cloud has performed extremely well in Europe. I think that the way that we rolled the Cloud out was different in Europe than how we rolled it out in the U.S. The market size is different. There is a slight difference in preference around firm versus soft in the U.S. versus Europe. Europe skews a little bit firmer. It's not a night and day difference, but it does skew a little bit firmer. Every market that we put the Cloud in, the Cloud did very well. The Cloud on the international side of the business has done pretty much what we saw in the U.S. It has significantly expanded our market reach. It's really helped grow the business.
In combination, as Mark said in his comments, the markets where we had a combination of the Cloud and the advertising, we saw really dynamic growth because as we built consumer interest, they were more likely to have a product in the store that they liked because we had three different feels. The advertising and the Cloud together really built on each other well.
Speaker 4
I think it's that one of the things that is, in some ways, even more important in international than it is in the U.S. is the fact that people perceived, the average consumer perceived, that there was only one Tempur. This was very much another Tempur. What has been exciting is about how fast it has rolled out, but also, as a result, how much of a benefit it's gained in slots. What the retailers in international or in Europe in particular focus on is what we call the collections, which is the original Tempur, the Cloud, and the Sensation. This has been a very important sea change in sort of strategic perspective on what Tempur is.
Speaker 5
Great. My second question is, I guess five or six years ago, you guys did the original that was at $1,200. How much of a % of sales did that generate at that point in time, and how would that really differ versus what you're doing today at the $1,500 price point?
Speaker 4
The original was a product that, frankly, was candidly just an existing product that then was bespecced in order to sell it for a lower price. It was never very successful. I would encourage you to come to Vegas and see what we've done here. This is a completely different thing, and the degree of product development, research and development, new product, or new technology invention, consumer research is unparalleled. I would really encourage you to come to Vegas and see it, and I think you'll answer that question.
Speaker 5
Thanks very much, Mark.
Speaker 4
Thank you.
Speaker 7
Next question in queue is from Keith Hughes of Raymond James. Your line is open.
Speaker 0
Thank you. You had referred in the prepared comments to a different dealer incentive structure, I believe, is the way you phrased it. Could you give any more details what that means?
Speaker 4
I'm not going to go into great detail on this again, and I sound a little bit like a broken record. I'll talk about it more in Vegas. Here's the bottom line: as we have, over time, increased our gross margins, which we have systematically year after year, we have tried to make it sort of a win-win game for us and the retailer. Making sure that as we grow as a share of the market, not only do the retailers share in that growth from the top line, but also from a bottom-line perspective.
We are looking at ways, and we have done this before, but we are, once again, with the modifications to the way that promotions are going to be structured, it's going to enable us to give retailers greater profitability from selling Somnigroup, which is exciting and is part of what we believe is part of our long-term win-win process as we grow over time. I'm not going to go into more detail than that, but I'll be happy to do it in Vegas.
Speaker 0
Okay, that's for 2012 in a program. Is that correct?
Speaker 4
Yeah, that's right.
Speaker 0
Dale, for 2012, you had broken up as you were giving the details of the guidance. Did you say something on gross margins for 2012?
Speaker 6
Yeah, we expect gross margin to be up about 200 basis points, 1,000.
Speaker 0
200 basis points. Okay.
Speaker 6
Final quote, margin to be up about 100 basis points.
Speaker 0
On the increased advertising you mentioned earlier, is there going to be a new campaign besides the Ask Me campaign, or just a further development of that?
Speaker 4
First of all, remember that the Ask Me campaign is the American campaign. There's a variation of that in most of the rest of the world, and that's because there's a different status of knowledge about the product in most of the rest of the world. The Ask Me campaign still has very good legs. We'll continue to evolve it. As I said in the prepared comments, not only is it a good tool, not only does it work well, it is customizable, and we can change it to incorporate new messages. We found that it was quite powerful when we introduced Cloud, for example, or the Ergo base. We will continue to use it.
At some stage, we'll move and we'll change it, but it will take a lot of thought and, as you can imagine, a lot of research before we're going to do that because this has been a real winner for us.
Speaker 0
All right. Thank you.
Speaker 7
Thank you. The next question comes from Eric Hollowetty of Stephens Incorporated. Your line is open.
Speaker 2
Actually, my questions have been answered, so we'll see you in Vegas. Thank you.
Speaker 6
All right. Thanks, sir.
Speaker 7
Thank you. In that case, we will go to Peter Keith with Piper Sandler. Your line is open.
Speaker 5
Hi. Good afternoon, everyone. Thanks for taking the question. Dale, just, someone had just asked about gross margin, with the 200 basis points. I just wanted to clarify something you said in the initial comments. It sounds like the drivers to that will be the manufacturing efficiencies, offset by some higher input costs. Were there any other components that I may have missed?
Speaker 6
Yeah, you know, for gross margin in 2012, the drivers are, as you said, basically our productivity initiatives continuing to drive impact in the business. We will also see some improvement from volume leverage. We're talking about reasonable growth here in that more volume through the factories gives us volume leverage. As Mark mentioned, there is a price increase, so it'll be, it's not as big an impact as we've seen in the last couple of years, but there'll be a small positive benefit of price. On the flip side, the primary drive negative that we're dealing with right now is commodity, our expectations around commodities. That's just, you know, we try to take a negative view on commodities every year as we start the year, and that's served us well over time.
Speaker 5
Okay, it looks like, within that, are you then anticipating that mix will be somewhat accretive overall to your gross margin for the year?
Speaker 6
Mix is a component of gross margin, and right now, we think that the mix is overall, kind of fairly neutral.
Speaker 5
For 2012?
Speaker 6
Yes.
Speaker 5
Okay. What about, just to stay in that same theme for Q4, it sounded like it was one of the key margin drivers. What were the main components of that mixed benefit?
Speaker 6
On the mixed benefit, essentially, you've on a year-over-year basis, you had last year, we were rolling out the Cloud Lux. Now the Cloud Lux is well established. It's a product that performs very well in the U.S. market. Cloud Lux is certainly a positive mixed driver in the business. On the international side, you know, we saw actually a little bit of negative mix because, you know, units were growing faster than dollars, but that was related to a new futon product that was rolling out in Japan.
Speaker 5
Is the Contour line playing into mix at all? I believe that replaced a Contour.
Speaker 6
Yeah, absolutely. Contour, I shouldn't have forgot Contour. That absolutely is a positive mixed driver. The Contour is performing very well. As Mark said, it's exceeded our expectations. The Contour itself as a line is a little bit higher priced than what it replaced. That is a positive mixed driver that we've seen in the 3Q and 4Q also.
Speaker 5
Okay. Great. Thanks for the feedback and look forward to seeing you next week.
Speaker 7
Thank you. Our next question is from John Anderson with William Blair. Your line is open.
Speaker 2
Good afternoon. Thanks for taking the question. You said a little bit bigger picture question on your dealers. How are your dealers thinking about allocation of space to premium and maybe more specific specialty? I'm just thinking of that in the context of kind of the Cloud, which was highly incremental in terms of slots per store for you. With the rollout of the new product in 2012, presumably, you know, we're looking for that to be incremental as well. Just trying to understand, as this mix shift occurs within the business, how receptive the retailers are to moving in this direction and opening up more slots, not just for Somnigroup International, but for others who are looking to play more broadly in the space.
Speaker 4
As I said a little earlier, I think the thing that is happening is that consumers are increasingly prepared to invest in superior premium mattresses where they're confident that they can sleep, that it will improve the quality of their sleep. I think that trend is going to continue. As you know, we're talking about these new products at $1,499. As you know, the traditional break point for premium is $1,000, so we're obviously clearly into the premium mattress arena. I also know that I think that there is a large proportion of the consumers who, and this is the purpose of this price point, will want to compete and will want to consider beds that are superior but can't reach all the way to the highest levels of premium. I think that retailers will give space for those things that will appeal to their consumer base.
I think that there's a lot of room. I think there's a lot of room there. In fact, historically or recently, over the last period, 12 to 24 months, the growth in the industry has come from the premium and the lowest end of the lowest price points. This is an area where retailers and consumers are looking for opportunities to drive more growth. Consumers will come if there's something that is superior and meets their needs and is designed for them. I think slots will follow volume.
Speaker 2
Okay. One quick question, just on the multi-year cost-saving program. I think you just completed year three of that program. I'm just wondering where you are from the 700 basis points of targeted cost savings. Do we think about that terminating at the end of 2012, or is it just one step in a process that extends beyond that? Thanks.
Speaker 6
Good question. We are not focused anymore on that 700 basis points improvement. We're approaching it. In 2012, we'll basically hit that. The program has changed over time. It is now a continuous program. There's not a specific goal. The goal is every year, we're going to find ways to improve the cost and drive cost out of the business and help improve margins, funding the growth initiatives that the business is undertaking. The team is doing a great job. They've got great plans well into the future in terms of the directions they're going to go and how they're going to get there.
Some of these things take time because even if you have a great idea and you go do it and it appears to work, you have to then put test product through lifecycle testing to make sure you're not impacting the properties or the feel or the durability of the product. Everything that we do from a cost standpoint is fully vetted. There's a long runway of opportunity ahead of us on this program.
Speaker 2
Thanks, Mark. Thanks, Dale. Look forward to seeing you next week in Vegas.
Speaker 6
You too.
Speaker 7
Thank you. The next question comes from Joshua Pollard with Goldman Sachs. Your line is open.
Speaker 5
Hey, again.
Speaker 2
Sorry.
Speaker 5
I've got a great mute button. It works very, very well. Can you provide an update on the Cloud expansion internationally, sort of where you are and if there are any markets or doors where you guys are still not quite there? That should be a tailwind for your international growth. Also, talk about whether or not there's an international product launch component for Vegas.
Speaker 4
On the Cloud for international, the Cloud is still in its first year. The Cloud is still in its first year of launch anywhere internationally. It takes 12 to 18 months just to get seated. As you can see in the U.S., we're continuing to grow Cloud. Everywhere where it is, it's relatively new. There is still a lot of opportunity in countries throughout where it's already been launched. For example, in the UK, it was only launched in the fourth quarter of last year. In the UK, it's a very new phenomenon. There are other countries where that's true as well. I would consider Cloud essentially halfway through its rollout, is how I think about it. In terms of new product introduction in general, we don't do international new product announcements in Vegas because we don't have international customers come to Vegas in general, or very few.
We'll tend to do that in forums more convenient for retailers in the countries that we're selling in, in Europe and in Asia. There is no major product announcement like what we're going to show in Vegas next week for international currently scheduled, although believe me, there are many things in the pipeline. Is that mute button still working?
Speaker 5
Yes, actually, it is. You're very successful mute functions. My other question was, it's been a little while since you guys have acquired one of your third-party distributors. Is that still part of the strategy?
Speaker 6
Thank you, Joshua. We acquired it pre in July, so six months is not a long time. Absolutely, that is a part of the ongoing international growth strategy, continuing to expand markets. The third-party distributor network is a good way to seed a market, get in, get started. As we see that there's an opportunity or we think that a market growth potential is not doing what we think we could do with it, periodically, we'll take one over. That is something that we will continue to do into the future at the appropriate time. It's not something that we schedule out and certainly not something we'll talk about in advance of getting deals done.
Speaker 5
Okay. Great. Thanks, guys.
Speaker 7
Thank you. I show a follow-up question from Eric Hollowetty of Stevens Incorporated. Your line is open.
Speaker 2
Yeah, Dale, earlier in response to a question, I believe you said that the new $1,499 queen product would be hitting stores starting in the second quarter of this year. Is it reasonable to assume that the rollout for this domestically might look much as it did for something like the Cloud, where it was kind of an 18-month type of timeframe, or might it be closer to something like a Contour, which was more of a fast track, or you know, might it be somewhere in between? Any color you can put on that?
Speaker 6
Yeah, I would think it would be more in between. The Cloud was more of an extended rollout. It was one product at a time. Here we're rolling out a collection, but it's new. The Contour was very concentrated because it was a new collection, but it was replacing existing products on the floor. It was both in ours and the retailer's interest to make that transition very quick and swift, and it went very well. The new product line will be somewhere in between, not quite as fast as the Contour, but it should not take, hopefully, as long as the Cloud.
Speaker 2
Okay. Great. Thanks very much.
Speaker 7
Thank you. I show a follow-up from Keith Hughes of SunTrust. Your line is open.
Speaker 0
Thanks. Just to confirm, the $1,499 you're referring to, is that for a queen set on one of the new models? Hello?
Speaker 6
Correct.