Wednesday, April 6, 2016

MFRM update


MFRM reported earnings for the quarter and full year ended January 2016 a few weeks ago. There were a number of interesting developments, though none that alter the general thesis. The initial write-up focused on MFRM’s acquisition roll-up model, profitability deterioration, liberal usage of non-GAAP reporting metrics, odd definition of comparable store sales, and wrapped up with some relevant valuation context.


In addition to reporting the Q4 and full year results, the earnings release also introduced MFRM’s FY 2016 guidance, provided some more detail around the additional debt financing driven by the acquisition, and announced a ‘real estate optimization’ plan.

Q4 earnings and revenue fell short of consensus expectations, while forward guidance for revenue slightly exceeded views, despite EPS missing consensus for 2016.


As noted in the recently filed 10-K, MFRM decided to postpone closing date for Sleepy’s acquisition until after the close of fiscal 2015. While it is entirely conceivable that all of the necessary work genuinely could not be completed in time to close the Sleepy’s acquisition prior to the fiscal year end, there is the obvious ‘benefit’ that in not doing so, MFRM did not have to disclose a balance sheet with the incremental debt load reflected.





Though anyone who follows the name closely should have a good idea of what the post-Sleepy’s balance sheet looks like, the company’s choice of acquisition closing date means that casual observers will not see the impacted balance sheet for some time (until the next 8-K or 10-Q).
Another interesting (curious) development came about as an analyst on the conference call asked a clarifying question around MFRM’s comparable store sales policy as it relates to newly acquired companies (emphasis added).
Analyst
Okay. And then just definitionaly, I guess as I recall, well, Sleep Train and the Chicago market just entered your comp base in the fourth quarter, just curious why with Sleepy’s you are including it right away is it just what’s the kind of the difference there in approach? What drives that?
MFRM CFO
Yes, so with every single acquisition that we've ever done, we’ve included the e-com and multi-channel sales businesses of the acquisition that we’ve completed. That's been our historical accounting methodology really since the start off when we’re a public company and so for Sleep Train for instance, we included those numbers, but those numbers were really small. It wasn’t as developed the business. And so it’s never been material enough to call out, but that’s been our accounting methodology since we started. And so we didn’t want to change from our historical methodology.
MFRM CEO
Yes, Dan just to clarify, the brick-and-mortars that will come in next year. And I think that’s maybe where the confusion, nature of your question is.
Analyst
I see. Okay. So in another words, the brick-and-mortar component of the comp for Sleepy’s well get the comp until let’s say year from now basically.
MFRM CEO
That’s correct.
MFRM CFO
We are expecting this month, yes.
Analyst  
Okay. And will you be going forward reporting your – will you be breaking out the brick-and-mortar portion of the comp as you report?
MFRM CFO
No, similar to our historical practice, we just wanted to call it out for you upfront because this is really the first time it made a material impact. We wanted to be very transparent with it.
Source: SeekingAlpha
MFRM’s policy, it seems, has been to immediately include acquired companies’ e-commerce revenue within comp store sales as of day one, while deferring acquired companies’ store revenue until the anniversary (as would be expected). This is very curious, and only raises more questions around the difference between MFRM’s reported comp store sales versus what would be expected from a revenue per average store type of calculation.


Finally, with the completion of fiscal 2015, the concern around the deterioration of the cash conversion cycle is somewhat alleviated. Although, this does appear to have come at the expense of margins, as gross margins declined for the fourth straight year.




Overall, the short thesis remains intact, as a multitude of red flags persist. As well, given the amounts of debt that have been piled on the company (when they are ultimately disclosed), the margin for error is getting smaller and smaller.

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