ITEM 1. BUSINESS.
OVERVIEW
Founded in 1870, Simmons is one of the world’s largest mattress manufacturers, manufacturing and marketing a broad range of products under our well-recognized brand names. The majority of our products are conventional innerspring mattresses and foundations that utilize our Pocketed Coil® and patented Advanced Pocketed Coil™ technologies and are marketed under our Beautyrest®, Beautyrest Black®, Beautyrest NxG™ and Beautyrest Studio™ brand names. In addition, we manufacture and market open coil innerspring mattresses under our DeepSleep® and BeautySleep® brand names and specialty (non-innerspring) visco-elastic products that utilize a patented NxG™ Advanced Memory Foam under our ComforPedic by Simmons™ brand name and specialty products made from natural latex under our Natural Care® brand names. We manufacture, sell and distribute our premium branded bedding products principally to retail and hospitality customers throughout the U.S. and Canada. Additionally, we license our intellectual property to international companies that manufacture and sell our premium branded bedding products throughout the world and to U.S. and Canadian manufacturers and distributors of bedding accessories, furniture, airbeds and other products. We sell products through a diverse North American base of approximately 3,300 retailers, representing over 15,500 outlets, including furniture stores, specialty sleep shops, department stores, furniture rental stores, mass merchandisers and juvenile specialty stores.
We believe that we are the industry leader in product innovation which helps drive unit sales and average unit selling price (“AUSP”) increases. Over our almost 140-year history, we have developed numerous innovations, including the first mass-produced innerspring mattress, the Pocketed Coil® and patented Advanced Pocketed Coil™ innersprings, the “Murphy Bed,” the Hide-a-Bed® sofa and our patented “no flip” mattress. We have proven research and development capabilities which we apply to design, develop, manufacture and market innovative sleep products that provide consumers with a better night’s sleep.
We operate 19 conventional bedding manufacturing facilities and two juvenile bedding manufacturing facilities strategically located throughout the U.S., Canada and Puerto Rico and, because we have national in-house manufacturing capabilities, we have the ability to service multi-state accounts, maintain consistent quality of products and leverage research and development activities. Our just-in-time manufacturing capability enables us to manufacture and ship almost all orders to our retail customers within five business days of receiving their order and also minimizes our working capital requirements.
As of December 27, 2008, Simmons Bedding was not in compliance with certain covenants of its $540.0 million senior credit facility and was operating under a forbearance agreement with Simmons Bedding’s senior lenders. On January 15, 2009, Simmons Bedding did not make a scheduled payment of interest due on its $200.0 million 7.875% senior subordinated notes (the “Subordinated Notes”) resulting in a default under the indenture governing the Subordinated Notes. As a result, we entered into a forbearance agreement with more than a majority of the outstanding Subordinated Notes holders, pursuant to which such noteholders have agreed to refrain from enforcing their respective rights and remedies under the Subordinated Notes and the related indenture. Both forbearance agreements, as amended, with our senior lenders and the noteholders provide a forbearance period through June 30, 2009 and, upon meeting certain conditions, a further extension to July 31, 2009. We incurred fees and expenses in connection with the forbearance agreements and related amendments.
As a condition to the forbearance agreement with our senior lenders, we initiated a financing restructuring process in December 2008. A special committee of independent directors was formed by our board of directors on January 23, 2009 to evaluate and oversee proposals for restructuring our debt obligations, including seeking additional debt or equity capital and evaluating various strategic alternatives of the Company. There can be no assurance that we will be successful in implementing a restructuring. If we are unable to successfully complete a restructuring, comply with the terms of the forbearance agreements, or extend the forbearance periods as needed to successfully complete a restructuring, our payment obligations under the senior credit facility and the Subordinated Notes may be accelerated. If there is an acceleration of payments under the senior credit facility or the Subordinated Notes, then Holdings would be in default under its Discount Notes and Simmons Holdco would be in default under its Toggle Loan. We would not have the ability to repay any amounts accelerated under our various debt obligations without obtaining additional equity and/or debt financing. An acceleration of payments could result in a voluntary filing of bankruptcy by, or the filing of an involuntary petition for bankruptcy against, Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates. Due to the possibility of such circumstances occurring, we are seeking a negotiated restructuring, including a restructuring of our debt obligations and/or sale of us, our affiliates or our assets, which could occur pursuant to a pre-packaged, pre-arranged or voluntary bankruptcy filing. Any bankruptcy filing could have a material adverse effect on our business, financial condition, liquidity and results of operations. The considerations above raise substantial doubt about our ability to continue as a going concern. For further information regarding our debt covenant violations and related forbearance agreements please see Item 1A
ITEM 1A. RISK FACTORS.
Our business, financial condition and liquidity, as well an investment in our and our affiliates’ securities, involve substantial risks and uncertainties, including those described below.
Risks Related to Our Liquidity and Restructuring
We are not in compliance with certain covenants under the senior credit facility and the indenture governing the Subordinated Notes, and as a result we have entered into related forbearance agreements. If we are unable to successfully complete a restructuring, comply with the terms of the forbearance agreements, or extend the forbearance period as needed to complete a restructuring, our payment obligations under the senior credit facility and the Subordinated Notes may be accelerated, which could lead to a bankruptcy filing. A bankruptcy filing would subject our business and operations to certain risks and have a negative effect on the value of our debt.
Simmons Bedding’s senior credit facility requires us to maintain specified consolidated financial ratios and satisfy certain consolidated financial tests. At September 27, 2008, December 27, 2008 and March 28, 2009, Simmons Bedding was not in compliance with the maximum leverage financial covenant and certain other covenants contained in its senior credit facility. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Debt - Senior Credit Facility.” As a result, as of November 12, 2008, Simmons Bedding has operated under a forbearance agreement with its senior lenders. Pursuant to the forbearance agreement, the senior lenders agreed to, among other things, forbear from exercising their default related rights and remedies under the senior credit facility through March 31, 2009, subject to earlier termination in some circumstances. Simmons Bedding entered into amendments to the forbearance agreement on March 25, 2009 and May 27, 2009 with its senior lenders, whereby the senior lenders extended their forbearance period through May 31, 2009 and June 30, 2009, respectively, and upon meeting certain conditions, a further extension to July 31, 2009. We have incurred fees and expenses in connection with this forbearance agreement and related amendments. In addition, we have entered into deposit account control agreements with our senior lenders that may limit our access to cash held in such accounts in the case of an event of default under the senior credit facility.
On January 15, 2009, Simmons Bedding did not make the scheduled payment of interest due on its Subordinated Notes resulting in a default under the indenture governing the Subordinated Notes. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Debt - Subordinated Notes.” On February 4, 2009, Simmons Bedding and the holders of more than a majority of the outstanding Subordinated Notes entered into a forbearance agreement, pursuant to which such holders have agreed to refrain from enforcing their respective rights and remedies under the Subordinated Notes and the related indenture through March 31, 2009. Simmons Bedding entered into amendments to the forbearance agreement on March 25, 2009 and May 27, 2009, whereby such holders extended their forbearance period through May 31, 2009 and June 30, 2009, respectively, and upon meeting certain additional conditions, a further extension to July 31, 2009. Pursuant to the terms of the forbearance agreement, such holders have agreed to take any actions that are necessary to prevent an acceleration of the payments due under the Subordinated Notes during the forbearance period. Because such holders represent more than a majority of the Subordinated Notes, they have the power under the indenture to rescind any acceleration of the Subordinated Notes by either the trustee or the other holders of the Subordinated Notes. We have incurred fees and expenses in connection with this forbearance agreement and related amendments.
If we are unable to successfully complete a restructuring, comply with the terms of the forbearance agreements, or extend the forbearance period as needed to successfully complete a restructuring, our payment obligations under the senior credit facility and the Subordinated Notes may be accelerated. If there is an acceleration of payments under the senior credit facility or the Subordinated Notes, then Holdings would be in default under its Discount Notes and Simmons Holdco would be in default under its Toggle Loan. We would not have the ability to repay any amounts accelerated under our various debt obligations without obtaining additional equity and/or debt financing. An acceleration of payments could result in a voluntary filing of bankruptcy by, or the filing of an involuntary petition for bankruptcy against, Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates. Due to the possibility of such circumstances occurring, we are seeking a negotiated restructuring, including a restructuring of our debt obligations and/or sale of us, our affiliates or our assets, which could occur pursuant to a pre-packaged, pre-arranged or voluntary bankruptcy filing.
Any bankruptcy by or against us or our affiliates would subject our business and operations to various risks, including (i) the incurrence of significant costs, including expenses for legal counsel and professional advisors, (ii) difficulty maintaining or increasing our sales, (iii) difficulty obtaining and maintaining relationships with dealers, suppliers and vendors, which may require us to pay them on a current cash basis, (iv) difficulty in maintaining our manufacturing operations, (v) difficulty in retaining and motivating key employees or recruiting new employees, (vi) difficulty in maintaining or obtaining sufficient financing to fund our operations and any reorganization plan and meet future obligations, (vii) potential defaults under our contractual obligations such as leases and (viii) the incurrence of cancellation of indebtedness income that is equal to or in excess of our accrued net operating losses and that could result in an increase in our cash tax payments and our effective tax rate and reduce our cash flows from operations. In addition, we may not be able to successfully develop or consummate a plan of reorganization that is acceptable to the bankruptcy court and our creditors, investors and other stakeholders. Any bankruptcy filing would adversely impact the ability of Simmons Bedding, THL-SC, Holdings or Simmons Holdco to repay their respective debt. Any debt or equity holder of Simmons Bedding, Holdings or Simmons Holdco could suffer the loss of a significant part or all of its loan or investment as a result of a bankruptcy filing.
We and our affiliates currently have substantial indebtedness that we or our affiliates may be unable to extend, refinance or repay, and we are seeking to implement a restructuring. Any restructuring could have a negative impact on our business and liquidity and investments in the debt and equity securities of Simmons Bedding, Holdings, and Simmons Holdco. In addition, a restructuring may not be successful. A restructuring or a failure to implement a restructuring could result in a bankruptcy filing, which would have a material adverse effect on our business, financial conditions, liquidity and operations, raise substantial doubt about our ability to continue as a going concern and effect the value of our debt.
We currently have a substantial amount of debt that we may be unable to extend, refinance or repay. If we are unable to refinance or extend our debt, or such debt is accelerated due to our default because we are unable to comply with the terms of the forbearance agreements or otherwise, or if we are unable to extend the forbearance periods as needed to successfully complete a restructuring, our assets will not be sufficient to repay such debt in full, and our available cash flow will not be adequate to maintain our current operations. A special committee of independent directors was formed by our board of directors to evaluate and oversee proposals for a restructuring and/or sale of Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates or the assets of Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates, which could likely occur pursuant to a pre-packaged, pre-arranged or voluntary filing of bankruptcy. Such bankruptcy filing could have the material adverse impacts described above. In addition, any restructuring may require us to obtain debtor-in-possession financing which may not be available in the amounts required, on acceptable terms, on a timely basis or at all. Current credit market conditions could make it more difficult to obtain acceptable debtor-in-possession financing or to refinance our indebtedness as part of any restructuring. If we are unable to obtain any requisite debtor-in-possession financing, we may not be able to successfully implement our restructuring. There can be no assurance that we will be successful in implementing a restructuring.
Even if we are successful in implementing a restructuring, the terms of such restructuring could have a negative impact on our business and liquidity, including (i) limiting our ability to borrow additional amounts for working capital, capital expenditures, debt service or refinancing or to fund operations, (ii) limiting our ability to use or prohibiting our use of any operating cash flow to pay dividends to service our or Simmons Holdco’s debt or fund our business, (iii) limiting our ability to capitalize on our business opportunities and react to competitive pressures and regulatory changes and (iv) limiting our ability or increasing the costs to refinance our debt. In addition, if the restructuring and any related bankruptcy filing involves the sale of Simmons Bedding or its assets, we may not have any remaining operating assets to generate cash flow to repay the debt of Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates and the proceeds may not be sufficient to repay such debt in full, and, as a result, any debt or equity holder of Simmons Bedding, Simmons or Simmons Holdco could suffer the loss of a significant part or all of its loan or investment.
If we are unable to successfully complete a restructuring, comply with the terms of the forbearance agreements or extend the forbearance periods prior to a successful completion of a restructuring, our senior lenders and holders of Subordinated Notes will be entitled to accelerate their debt upon the termination of the forbearance agreements. If there is an acceleration of payments under the senior credit facility, then Simmons Bedding would be in default under its Subordinated Notes, Holdings would be in default under its Discount Notes, and Simmons Holdco would be in default under its Toggle Loan. We would not have the ability to repay any amounts accelerated under our various debt obligations without obtaining additional equity and/or debt financing. An acceleration of payments could result in a voluntary filing of bankruptcy by Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates or the filing of an involuntary petition for bankruptcy against Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates, which would have the material adverse impacts described above.
Our financial statements have been prepared assuming that we will continue as a going concern. However, if we do not retain the necessary financing to meet our obligations and pay our liabilities when they come due or restructure our debt in a manner satisfactory to our lenders, it could result in a voluntary filing of bankruptcy by Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates or the filing of an involuntary petition for bankruptcy against Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates, which would have the material adverse impacts described above.
The factors described in this Annual Report on Form 10-K, including in the footnotes to our consolidated financial statements, raise substantial doubt about our ability to continue as a going concern. Our financial statements do not include any adjustments that might result from this uncertainty. In addition, our independent registered public accounting firm has included an explanatory paragraph expressing substantial doubt about our ability to continue as a going concern in their audit report for the fiscal year ended December 27, 2008. No assurances can be made regarding our ability to satisfy our liquidity and working capital requirements, to obtain the necessary financing to meet our obligations and pay our liabilities when they come due or our ability to successfully complete a restructuring. Failure to successfully implement a restructuring on a timely basis or at all would result in depleting our available funds and not being able to pay our obligations when they become due and continue as a going concern. Failure to satisfy such obligations and our other liquidity and working capital requirements could result in a voluntary filing of bankruptcy by Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates or the filing of an involuntary petition for bankruptcy against Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates, which would have the material adverse impacts described above.
We have received a notice of defaults under the indenture governing the Discount Notes and we may receive additional notices under our debt obligations in the future. If we are unable to cure these defaults under the Discount Notes, payment under our Discount Notes could be accelerated, and could result in further defaults under the senior credit facility and the Subordinated Notes, as well as a default under the Toggle Loan or our other debt obligations.
On April 14, 2009, we received a notice sent on behalf of holders of the Discount Notes, purporting to own more than 25% of the $269.0 million principal amount of the outstanding Discount Notes, pursuant to which such holders have notified us that our failure to furnish to the holders of the Discount Notes (i) a Quarterly Report on Form 10-Q for the quarter ended September 27, 2008 and (ii) an Annual Report on Form 10-K for the fiscal year ended December 27, 2008, each as required under the indenture governing the Discount Notes, constitutes defaults thereunder. Under the indenture governing the Discount Notes, we have until June 13, 2009 to cure these defaults. In addition, having received the notice, if we fail to cure these defaults by June 13, 2009, the forbearance periods under both the forbearance agreements pertaining to the senior credit facility and the Subordinated Notes will terminate. By the filing of this Annual Report on Form 10-K for fiscal year ended December 27, 2008 and the simultaneous filing of the Quarterly Report on Form 10-Q for the quarter ended September 27, 2008, we have cured these defaults within the specified cure period. We have not filed the Quarterly Report on Form 10-Q for the first quarter ended March 28, 2009, and we may receive further notices of default related to such failure or other defaults under the Discount Notes or the Toggle Loan.
If we are unable to cure these or any other defaults, payments under our debt obligations could be accelerated, and result in defaults under the senior credit facility, the Subordinated Notes, the Discount Notes, the Toggle Loan or our other debt obligations. A default or an acceleration of payments under our debt obligations could result in a voluntary filing of bankruptcy by Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates or the filing of an involuntary petition for bankruptcy against Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates, which would have the material adverse impacts described above.
The senior credit facility and the indentures related to our debt instruments contain various covenants which limit management’s discretion in the operation of our business.
The senior credit facility and the indentures related to the Subordinated Notes, the Discount Notes and the Toggle Loan and the existing forbearance agreements related to the senior credit facility and the Subordinated Notes contain various provisions which limit management’s discretion in managing our business by, among other things, restricting our ability to:
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borrow money;
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pay dividends on stock or repurchase stock;
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make certain types of investments and other restricted payments;
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create liens;
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sell certain assets or merge with or into other companies;
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enter into certain transactions with affiliates;
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sell stock in certain of our subsidiaries; and
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restrict dividends or other payments from our subsidiaries.
In addition, the senior credit facility requires Simmons Bedding to meet certain financial ratios. Covenants in the senior credit facility require Simmons Bedding to use a portion of the proceeds it receives in specified debt or equity issuances to repay outstanding borrowings under its senior credit facility.
Even if we are able to refinance or extend our indebtedness or enter into a successful restructuring plan, our substantial indebtedness could still adversely affect our financial health and reduce the cash available to support our business and operations.
On a consolidated basis, we are currently highly leveraged. As of December 27, 2008, we had $988.2 million of total indebtedness outstanding and less than $0.1 million available on our revolving loan under our senior credit facility. Even if we are able to successfully complete a restructuring, we may still maintain some indebtedness. Any indebtedness could have important consequences. For example, it could:
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make it more difficult for Simmons to satisfy its obligations with respect to our outstanding debt, and a failure to comply with any financial and other restrictive covenants could result in an event of default under our debt instruments and agreements;
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increase our vulnerability to general adverse economic and industry conditions;
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require us to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness, thereby reducing the availability of our cash flow to fund working capital, capital expenditures, acquisitions and investments and other general corporate purposes;
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limit our flexibility in planning for, or reacting to, changes in our business and the markets in which we operate;
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increase our vulnerability to interest rate increases, as borrowings under the senior credit facility and certain other debt are at variable rates, resulting from financial market conditions, ratings downgrades or other factors;
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place us at a competitive disadvantage compared to our competitors that have less debt; and
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limit, among other things, our ability to borrow additional funds.
In addition, we may be able to incur additional indebtedness in the future. If new debt is added, the related risks described above could intensify.
Each of Holdings and Simmons Holdco is a holding company with no operations. Each of Holdings and Simmons Holdco may not have access to the cash flow and other assets of its subsidiaries that may be needed to make payments on its respective debt obligations.
Holdings is a holding company that conducts no operations. Its primary assets are deferred financing fees and the capital stock of THL-SC, which in turn is a holding company that conducts no operations and the only assets of which are the capital stock of Simmons Bedding. Simmons Holdco is our parent company and it has no material assets other than its ownership of our capital stock. Operations are conducted through Simmons Bedding and its subsidiaries, and Holdings’ ability to make payments on the Discount Notes and Simmons Holdco’s ability to make payments on the Toggle Loan are solely dependent on the earnings and distribution of funds from Simmons Bedding and its subsidiaries through loans, dividends or otherwise. However, none of Holdings’ or Simmons Holdco’s subsidiaries is obligated to make capital contributions, dividends, loans or other payments available to it for payment on the Discount Notes or the Toggle Loan. The terms of the senior credit facility and the forbearance agreements significantly restrict Simmons Bedding from paying dividends and otherwise transferring assets to Holdings or to Simmons Holdco, except for administrative, legal and accounting services. Further, the Subordinated Notes significantly restrict Simmons Bedding and its subsidiaries from paying dividends to Holdings or to Simmons Holdco and otherwise transferring assets to Holdings or to Simmons Holdco. Given the restrictions in Simmons Bedding’s existing debt instruments, we currently anticipate that, in order to pay interest on or the principal amount at maturity of the Discount Notes or Toggle Loan, we would be required to adopt one or more alternatives, such as refinancing all of our indebtedness, selling our equity securities or the equity securities or assets of Simmons Bedding, or seeking capital contributions or loans from our affiliates. There can be no assurance that any of the foregoing actions could be effected as part of the restructuring on satisfactory terms, if at all, or that any of the foregoing actions would enable us to refinance our indebtedness or pay interest on or the principal amount of the Discount Notes or Toggle Loan, or that any of such actions would be permitted by the terms of any other debt instruments of ours or our subsidiaries then in effect. In addition, it is likely that any restructuring that we would implement would not enable us to make any further payments on the Discount Notes or Toggle Loan, and as a result, any equity or debt holder of Simmons Bedding, Holdings or Simmons Holdco could suffer the loss of a significant part or all of its loan or investment.
The actions of Simmons Holdco’s controlling stockholder could conflict with the interests of the holders of our debt.
Simmons Holdco’s stockholders include affiliates of THL, affiliates of Fenway Partners and certain members of our management and directors. As of December 27, 2008, affiliates of THL owned 71.1% of all voting stock. THL has the ability to elect all of the members of our board of directors, subject to certain voting agreements under our stockholders’ agreement, appoint new management and approve any action requiring the approval of our stockholders. The directors have the corporate authority, subject to any restrictions under our debt and forbearance agreements, to make decisions affecting our capital structure, including the issuance of additional indebtedness, the terms of any restructuring and the declaration of dividends. In February 2007, Simmons Holdco borrowed $300.0 million under the Toggle Loan to distribute $278.3 million to certain of Holdings’ then existing stockholders. In 2004, the net proceeds of the issuance of the $269.0 million aggregate amount of the Discount Notes were used to pay a dividend to stockholders. In addition, transactions may be pursued that could enhance THL’s equity investment while involving risks to our interests or the interests of our investors. In particular, these and other actions of Simmons Holdco’s controlling stockholder could negatively impact the debt or equity holders of Simmons Bedding, Holdings or Simmons Holdco.
We are vulnerable to interest rate risk with respect to our debt, which could lead to an increase in interest expense and reduce our cash available for operations.
We are subject to interest rate risk in connection with our variable rate indebtedness. Interest rate changes could increase the amount of our interest payments and thus negatively impact our future earnings and cash flows. Our annual interest expense on our floating rate indebtedness will increase by $0.5 million for each 1/8th percentage point increase in interest rates.
Risks Related to Our Business
Deteriorating economic conditions could negatively affect our revenues and profitability.
General U.S. and world economic conditions have weakened significantly, and we expect this weakness to continue in 2009. The unemployment rate is expected to continue to rise, consumer confidence and spending, including spending on larger homes or second homes, has decreased dramatically and the stock market remains extremely volatile. In addition, tightening credit markets and related interest rate increases for, and limitations on availability of, consumer credit could negatively impact consumer purchases of our mattresses. Given these expected economic conditions, it will be more difficult for us to grow revenue and achieve profitability. In the fourth quarter of 2008, we significantly lowered our projected future operating results for both our Domestic and Canada reporting units based on deterioration of consumer spending and increased material costs. In addition, in an economic recession or under other adverse economic conditions, customers and vendors may be more likely to fail to meet contractual terms or their payment obligations. Such failures will impact our cash flow and ability to repay our indebtedness. A further decline in economic conditions may have continued material adverse effect on our business.
We operate in the highly competitive bedding industry, and if we are unable to compete successfully, we may lose customers and our sales may decline.
The bedding industry is highly competitive. There are approximately 550 bedding manufacturers in the U.S. The top six manufacturers (including us) accounted for approximately 68% of the conventional bedding industry’s wholesale revenues in 2007 and the top 15 accounted for 81% of wholesale revenues, according to Furniture/Today, an industry publication. The highly competitive nature of the bedding industry means we are continually subject to the potential loss of market share or the inability to gain market share, difficulty in raising prices, and margin reductions. We may not be able to compete effectively in the future. In addition, some of our principal competitors may be less highly-leveraged, have greater access to financial or other resources, have lower cost operations and/or be better able to withstand changing market conditions.
Regulatory requirements relating to our products may increase our costs, alter our manufacturing processes and impair our product performance.
Our products are and will continue to be subject to regulation in the U.S. and Canada by various federal, state, provincial and local regulatory authorities. In addition, other governments and agencies in other jurisdictions regulate the sale and distribution of our products. Compliance with these regulations may negatively impact our business. For example, the products manufactured, distributed and sold by the Company come within the scope of several provisions of the Consumer Product Safety Improvement Act of 2008 (“CPSIA”), which was signed into law on August 14, 2008. CPSIA Section 102 requires that as of November 12, 2008, a Certificate of Compliance (“COC”) issued by the manufacturer accompany all products subject to regulation by the CPSC, that the COC be provided to all distributors and retailers to whom such regulated product is shipped, and that the COC be available for inspection upon request of the CPSC. All of the products subject to regulation by the CPSC that we manufacture were accompanied by a COC in advance of the November 12, 2008 deadline, and we are able to produce the COCs upon request, in accordance with current federal law. Further, CPSIA Section 101 establishes limitations on the levels of lead that may be present in certain products intended for use by children; similarly, CPSIA Section 108 regulates the levels of certain phthalates which may be present in certain products intended for use by children. Many of the juvenile products manufactured or distributed by us are subject to and comply with these regulations. We are currently preparing to meet the requirements of CPSIA Section 104, which final rule is to be issued August 14, 2009. CPSIA Section 104 will require registration of certain children’s products. We will continue to monitor rulemaking by the CPSC and to work toward compliance with additional requirements of the CPSIA, particularly with respect to juvenile products sold by us, and expect to be in full compliance in advance of the respective effective dates. We incurred and will continue to incur significant costs related to the new standards. In addition, the CPSC and other regulatory agencies may also adopt new laws, rules and regulations relating to other standards. Our product solutions will not necessarily meet all future standards. Compliance with such new laws, rules and regulations may increase our costs, alter our manufacturing processes and impair the performance of our products. Further, any bankruptcy filing by or against us could adversely affect our ability to comply with new laws, rules or regulations on a timely basis.
Legal and regulatory requirements may impose costs or charges on us that impair our business and reduce our profitability
Our marketing and advertising practices could become the subject of proceedings before regulatory authorities or the subject of claims by other parties which could require us to alter or end these practices or adopt new practices that are not as effective or are more expensive. In addition, our operations are subject to federal, state, provincial and local laws and regulations relating to pollution, environmental protection, occupational health and safety and labor and employee relations. We may not be in complete compliance with all such requirements at all times. Under various environmental laws, we may be held liable for the costs of remediation of releases of hazardous substances at any properties currently or previously owned or operated by us or at any site to which we sent hazardous substances for disposal. Such liability may be imposed without fault, and the amount of such liability could be material. We are subject to investigation under various labor and employment laws and regulations by both governmental entities and employees and former employees. Should liability be imposed as a result of such activity, particularly in the context of class or multi-plaintiff litigation, our profitability could be reduced. Further, any bankruptcy filing by or against us or our affiliates would result in significant expense for legal counsel and professional advisors.
Our new product launches may not be successful, which could cause a decline in our market share and our level of profitability.
Each year we invest significant time and resources in research and development to improve our product offerings. In addition, we incur increased costs in the near term associated with the introduction of new product lines, including training of our employees in new manufacturing, sales processes, and the production and placement of new floor samples for our customers. We are subject to a number of risks inherent in new product introductions, including development delays, failure of new products to achieve anticipated levels of market acceptance, and costs associated with failed product introductions. In addition, we have a limited ability to increase prices on existing products, and any failure of new product introductions may reduce our ability to sell our products at appropriate price levels. Further, any bankruptcy filing by or against us or our affiliates could adversely affect our ability to improve our product offerings.
We may experience further fluctuations in our operating results due to seasonality, which could make sequential quarter to quarter comparison an unreliable indication of our performance.
We have historically experienced and expect to continue to experience seasonal and quarterly fluctuations in net sales and operating income. Our third quarter sales are typically higher than our other fiscal quarters. We attribute this seasonality principally to retailers’ sales promotions related to the 4th of July and Labor Day holidays. This seasonality means that a sequential quarter to quarter comparison may not be a good indication of our performance or how we will perform in the future.
We rely on a relatively small number of suppliers and third-party providers, and if we experience difficulty with a major supplier or a major third-party provider, we may have difficulty finding alternative sources. This could disrupt our business.
We purchase substantially all of our conventional bedding raw materials centrally to obtain volume discounts and achieve economies of scale. We obtain a large percentage of our raw materials from a small number of suppliers. For the year ended December 27, 2008, we purchased approximately 74% of our raw materials from ten suppliers. As a result of the current economic climate, our suppliers have experienced and may in the future experience disruptions in their relationships with their suppliers, which disrupt their ability to provide us with requisite supplies and negatively impact our manufacturing. Any future supply disruptions could adversely affect our ability to manufacture our products and sales.
We have supply agreements with several suppliers including L&P, Foamex, and National Standard Company. However, there is no guarantee that we will be able to renew these agreements. With the exception of certain products of L&P, Foamex and National Standard Company, we believe that we can readily replace our supply, if or when the need arises, within 90 days as we have already identified and use alternative resources.
L&P supplies the majority of certain bedding components (including certain spring components, insulator pads, wire, fiber, quilt backing and flange material) to the U.S. bedding industry. In 2008, we purchased approximately 30% of our raw materials from L&P. To ensure an adequate supply of various components, we have entered into agreements with L&P, generally expiring in the year 2010, for the supply of certain spring components. Among other things, these agreements generally require us to purchase a majority of our requirements of several components from L&P. National Standard Company is our exclusive supplier for the stranded wire used in our Advanced Pocketed Coil™ products. Foamex is our exclusive supplier for NxG™ visco-foam used in all of our Comforpedic® and Beautyrest NxG™ products.
Because we may not be able to find alternative sources for some of these components on terms as favorable to us as we currently receive, or at all, our business, financial condition and results of operations could be impaired if we lose L&P, Foamex or National Standard Company as a supplier. Further, if we do not reach committed levels of purchases, various additional payments could be required to be paid to L&P, and certain sales volume rebates or exclusivity to certain products could be lost.
Additionally, our domestic operations primarily utilize two third-party logistics providers which, in the aggregate, accounted for approximately 62% of our outbound wholesale shipments for the year ended December 27, 2008.
Any bankruptcy filing by or against us or our affiliates could adversely affect our ability to obtain new or maintain existing relationships with suppliers and third-party providers. Any instability of, or change in our relationship with, these providers could materially disrupt our business.
We are subject to fluctuations in the cost and availability of raw materials, which could increase our costs or disrupt our production.
The major raw materials that we purchase for production are foam, wire, spring components, lumber, cotton, insulator pads, innersprings, foundation constructions, fabrics and roll goods consisting of fiber, ticking and non-wovens. The price and availability of these raw materials, as well as the cost of fuel to transport our products to market, are subject to market conditions affecting supply and demand. Our material costs continue to be impacted by the higher prices for steel and petroleum based products, which principally affects the cost of foam, innerspring and foundation components. During 2007 and 2008, the cost of these components remained elevated above historical averages. Further, the price of lumber we obtain from Canada has increased as a result of increased tariffs and may increase due to adverse fluctuations in exchange rates. Additionally, during 2007 and 2008, our distribution costs were negatively impacted by the rapid rise in diesel prices. Our financial condition and results of operations may be impaired by further increases in raw material and diesel costs to the extent we are unable to pass those higher costs on to our customers. In addition, if these materials are not available on a timely basis or at all, we may not be able to produce our products, and our sales may decline.
Because we depend on our significant customers, a decrease or interruption in their business with us could reduce our sales and profits.
Our top five customers collectively accounted for approximately 26% of our bedding shipments for the year ended December 27, 2008. Most of our customer arrangements are by purchase order or are terminable at will. Several of our customer arrangements are governed by long-term supply agreements. A substantial decrease or interruption in business from our significant customers could result in a reduction in net sales, an increase in bad debt expense or the loss of future business, any of which could impair our business, financial condition or results of operations. Additionally, the expiration of a long-term supply agreement could result in the loss of future business, or the payment of additional amounts to secure a contract renewal or an increase in required advertising support, any of which could impair our business, financial condition or results of operations. Further, if our customers seek bankruptcy protection, they could act to terminate all or a portion of their business with us, originate new business with our competitors and terminate or assign our long-term supply agreements, which could impair our results of operations. Any loss of revenue from our major customers, including the non-payment or late payment of our invoices, could materially adversely affect our business, results of operations and financial condition.
Retailers may, and in the past some of our retailers did, consolidate, undergo restructurings or reorganizations, or realign their affiliations. These events may result, and have temporarily resulted, in a decrease in the number of stores that carry or carried our products, an increase in the ownership concentration in the retail industry, and/or our being required to record significant bad debt expense. Retailers may decide to carry only a limited number of brands of mattress products, which could affect our ability to sell our products to them on favorable terms, if at all, and could negatively impact our business, financial condition or results of operations. Any bankruptcy by or against us or our affiliates could adversely affect our relationship with retailers, which could impair our business, financial condition or results of operations.
If our cost cutting measures are not successful, we may become less competitive.
A variety of factors could prevent us from achieving our goal of better aligning our product offerings and cost structure with customer needs in the current business environment through reducing our operating expenses and eliminating redundancies. For example, our efforts to consolidate our plants could cause our other facilities to have to operate above optimal capacity and could increase distribution expenses. If we receive unanticipated orders, these incremental volumes could be unprofitable due to the higher costs of operating above our optimal capacity. In addition, we may not be able to sufficiently increase capacity to meet any increased demand. As a result, we may not achieve our expected cost savings in the time anticipated, or at all. In such case, our results of operations and profitability may be negatively impacted, making us less competitive and potentially causing us to lose market share.
A change or deterioration in labor relations or the inability to renew our collective bargaining agreements could disrupt our business operations and increase our costs, which could negatively impact sales and decrease our profitability.
At eight of our 21 manufacturing facilities our employees (approximately 56% of our workforce) are represented by various labor unions with separate collective bargaining agreements. Our collective bargaining agreements are typically negotiated for two- to five-year terms. We may not be able to renew these contracts on a timely basis or on favorable terms. It is possible that labor union efforts to organize employees at additional non-union facilities may be successful. It is also possible that we may experience labor-related work stoppages in the future. Any of these developments could disrupt our business operations or increase costs, which could negatively impact our sales and profitability.
The loss of the services of any member of our executive leadership team could impair our ability to execute our business strategy and negatively impact our business, financial condition and results of operations.
We depend on the continued services of our executive leadership team, including Stephen Fendrich, our President and Chief Operating Officer; Dominick Azevedo, our Executive Vice President - Sales; William Creekmuir, our Executive Vice President and Chief Financial Officer; Kristen McGuffey, our Executive Vice President and General Counsel; Timothy Oakhill, our Executive Vice President - Marketing and Licensing; and Kimberly Samon, our Executive Vice President - Human Resources. The loss of any of our key officers could impair our ability to execute our business strategy and negatively impact our business, financial condition and results of operations. We have non-compete agreements with our executive leadership team. We do not carry key man insurance for any of our management executives. Any bankruptcy filing by or against us or our affiliates could adversely affect our ability to retain and motivate our executive leadership team or other key employees.
Our international operations are subject to foreign exchange, tariff and tax risks and our ability to expand in certain international markets is limited by the terms of licenses we have granted to manufacture and sell Simmons products.
We currently conduct significant operations in Canada. Our Canadian operations are subject to fluctuations in currency exchange rates, the potential imposition of trade restrictions, and tariff and other tax increases. We have also limited our ability to independently expand in certain international markets where we have granted licenses to manufacture and sell Simmons products. Fluctuations in the currency exchange rate between the U.S. dollar and the Canadian dollar may affect our shareholders equity and our financial condition or results of operations. In addition, as a result of a recent tax treaty between the United States and Canada, the withholding tax on transfers of cash from our Canadian operations to our U.S. operations has increased substantially which could impact our results of operations.
We have substantial funds held at few financial institutions that exceed the insurance coverage offered by the FDIC, the loss of which would have a severe negative affect on our operations and liquidity.
As of December 27, 2008, we had approximately $54.9 million held in accounts at few financial institutions in the United States, Canada and Puerto Rico. Although the FDIC insures deposits in banks and thrift institutions up to $250,000 per eligible account, the amount that we have deposited at these banks substantially exceeds the FDIC limit. If any of the financial institutions where we have deposited funds were to fail, we may lose some or all of our deposited funds that exceed the FDIC’s $250,000 insurance coverage limit. Such a loss would have a severe negative effect on our operations and liquidity.
We have retirement plans that are currently under funded and we will be required to make cash payments to the plans, reducing the cash available for our business.
We have a registered combined non-contributory defined benefit and defined contribution pension plan for substantially all of the employees of Simmons Canada and a retirement compensation arrangements (“RCA”) for certain senior officials of Simmons Canada. As of December 27, 2008, the projected benefit obligation exceeded the fair value of the plan assets of the defined benefit segment of the pension plan (“Pension Plan”) by $2.9 million. As of December 27, 2008, the fair value of the plan assets exceeded the projected benefit obligation of the RCA by $0.7 million. We expect to make estimated minimum funding contributions totaling approximately $1.1 million in 2009 related to the Pension Plan. No contributions are expected for the RCA in 2009. We also have unfunded supplemental executive retirement plans (“SERP”) for certain former executives. As of December 27, 2008, we had a liability of $3.1 million related to the SERP and anticipate making contributions to the SERP of $0.2 million in 2009. If the performance of the assets in the Pension Plan do not meet our expectations, or if other actuarial assumptions are modified, our future cash payments to the Pension Plan could be higher than we expected.
If we are not able to protect or maintain our trademarks, patents, trade secrets and other intellectual property, we may not be able to prevent competitors from developing similar products or from marketing in a manner that capitalizes on our trademarks, patents and other intellectual property.
Brands and branded products are very important to our business. We have a large number of well-known trademarks and service marks registered in the U.S., Canada and abroad, and we continue to pursue many pending applications to register marks domestically and internationally. We also have a significant portfolio of patents and patent applications that have been issued or are being pursued both domestically and abroad. In addition, certain marks, trade secrets, know-how and other proprietary materials that we use in our business are not registered or subject to patent protection. Our intellectual property is important to the design, manufacture, marketing and distribution of our products and services.
To compete effectively with other companies, we must maintain the proprietary nature of our owned and licensed intellectual property and maintain our trade secrets, know-how and other proprietary materials. Despite our efforts, we cannot eliminate the following risks:
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it may be possible for others to circumvent our trademarks and service marks, patents and other rights;
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our products and promotional materials, including trademarks, service marks, may now or in the future violate the proprietary rights of others;
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we may be prevented from using our own trademarks, service marks, product designs or manufacturing technology, if challenged;
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it may be cost prohibitive to enforce or defend our trademarks, service marks, patents and other rights;
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our pending applications regarding trademarks, service marks and patents may not result in marks being registered or patents being issued;
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we may be unable to protect our technological advantages when our patents expire; and
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our trade secrets, know-how and other proprietary materials may be revealed to the public or our competitors and no longer provide protection for the related intellectual property.
The nature and value of our intellectual property may be affected by a change in law domestically or abroad. In light of the political and economic circumstances in certain foreign jurisdictions, our rights may not be enforced or enforceable in foreign countries even if they are validly issued or registered.
While we do not believe that our overall success depends upon any particular intellectual property rights, any inability to maintain the proprietary nature of our intellectual property could have a material negative effect on our business. For example, an action to enforce our rights, or an action brought by a third party challenging our rights, could impair our financial condition or results of operations, either as a result of a negative ruling with respect to our use, the validity or enforceability of our intellectual property or through the time consumed and legal costs involved in bringing or defending such an action.
We may face exposure to product liability claims, which could reduce our liquidity and profitability and reduce consumer confidence in our products.
We face an inherent business risk of exposure to product liability claims if the use of any of our products results in personal injury or property damage. In the event that any of our products prove to be defective or if they are determined not to meet state or federal legal requirements, we may be required to recall or redesign those products, which could be costly and impact our profitability. We maintain insurance against product liability claims, but such coverage may not continue to be available on terms acceptable to us and such coverage may not be adequate to cover types of liabilities actually incurred. A successful claim brought against us if not fully covered by available insurance coverage, or any claim or product recall that results in significant adverse publicity against us, could have a material negative effect on our business and/or result in consumers purchasing fewer of our products, which could also reduce our liquidity and profitability.
An increase in our return rates or an inadequacy in our warranty reserves could reduce our liquidity and profitability.
Our return rates may not remain within our historical levels. An increase in return rates could significantly impair our liquidity and profitability. We also generally provide our customers with a limited warranty against manufacturing defects on our conventional innerspring and specialty bedding products of ten and 20 to 25 years, respectively. Our juvenile bedding products generally have warranty periods ranging from five years to a lifetime. The historical costs to us of honoring warranty claims have been within management’s expectations. However, as we have released new products in recent years, many new products are fairly early in their product life cycles. Because our products have not been in use by our customers for the full warranty period, we rely on the combination of historical experience and product testing for the development of our estimate for warranty claims. However, our actual level of warranty claims could prove to be greater than the level of warranty claims we estimated based on our products’ performance during product testing. We have also experienced non-warranty returns for reasons generally related to order entry errors, shipping damage, and to accommodate customers. If our warranty and non-warranty reserves are not adequate to cover future claims, their inadequacy could reduce our liquidity and profitability.
Additional terrorist attacks in the U.S. or against U.S. targets or actual or threats of war or the escalation of current hostilities involving the U.S. or its allies could negatively impact our business, financial condition or results of operations.
Additional terrorist attacks in the U.S. or against U.S. targets, or threats of war or the escalation of current hostilities involving the U.S. or its allies, or military or trade disruptions impacting our domestic or foreign suppliers of components of our products, may impact our operations, including, but not limited to, causing supply chain disruptions and decreased sales of our products. These events could also cause an increase in oil or other commodity prices, which could adversely affect our raw materials or transportation costs. More generally, any of these events could cause consumer confidence and spending to decrease. These events also could cause or act to prolong an economic recession in the U.S. or abroad. Any of these occurrences could have a significant impact on our business, financial condition or results of operations.
An outbreak of swine flu or a pandemic, or the threat of a pandemic, may adversely impact our ability to produce and deliver our products or may adversely impact consumer demand.
A significant outbreak of swine flu, or a similar pandemic, or even a perceived threat of such an outbreak, could cause significant disruptions to our supply chain, manufacturing capability, corporate support infrastructure or distribution system that could adversely impact our ability to produce and deliver products. Similarly, such events could cause significant adverse impacts on consumer confidence and consumer demand generally. Any of these occurrences could have a significant impact on our business, financial condition or results of operations.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS.
None.
ITEM 2.
ITEM 2. PROPERTIES.
Our corporate offices are located at One Concourse Parkway, Atlanta, Georgia 30328. We also maintain corporate offices in Ontario, Canada for our Canadian operations and a research and development facility in Atlanta, Georgia. The following table sets forth selected information regarding our manufacturing facilities as of December 27, 2008 (square footage in thousands):
(1) These facilities only manufacture juvenile products.
(2) The Bramalea, Ontario and Mableton, Georgia facilities ceased production in August and September 2008, respectively. The Mableton, Georgia facility lease expired on May 31, 2009 and the Bramalea, Ontario facility lease will expire on August 31, 2012.
We believe that our facilities, taken as a whole, have adequate productive capacity and sufficient manufacturing equipment to conduct business at levels exceeding current demand.
In addition, as of December 27, 2008, we operated seven retail outlet stores through our World of Sleep subsidiary. In the first quarter of 2009, we closed one of the retail outlet stores.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS.
From time to time, we have been involved in various legal proceedings. In November 2008, three former employees filed a wrongful dismissal class action against our subsidiary, Simmons Canada Inc., on behalf of themselves and a proposed class comprised of the unionized former employees who were terminated as a result of our closure of our Bramalea, Ontario facility in September 2008. We have entered into tentative settlement agreements with the plaintiffs, however, the agreement will not be final until certain conditions are met, including plaintiffs' obtaining leave of court to dismiss the case. Based on the settlement agreements, we have recognized an expense which is included as restructuring charges on our 2008 consolidated statement of operations and comprehensive income. With the exception of this matter, we believe that all current litigation is routine in nature, incidental to the conduct of our business and not material.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
There is no established public trading market for any class of our common equity. As of December 27, 2008, there was one holder of record for our common stock. As of December 27, 2008, there were 56 holders of record of class A common stock and 115 holders of record of class B common stock of Simmons Holdco, which owns 100% of our common stock.
During 2007, Simmons Holdco paid $278.3 million of merger consideration to then existing class A stockholders. Any payment of future dividends or distributions and the amounts thereof will be dependent upon our earnings, fiscal requirements and other factors deemed relevant by our board of directors. Our ability to pay dividends is restricted by the terms of the forbearance agreements, senior credit facility, Discount Notes and Subordinated Notes.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA.
SELECTED HISTORICAL CONSOLIDATED FINANCIAL AND OTHER OPERATING DATA
Set forth below is our selected historical consolidated financial and other operating data. We derived our historical statement of operations and balance sheet data for 2004, 2005, 2006, 2007 and 2008 from our audited consolidated financial statements.
As a result of the SCUSA Disposition and Canada Acquisition, the historical consolidated financial and other data for the periods presented exclude SCUSA’s operating results for the periods subsequent to August 2006 and include Simmons Canada’s operating results for the periods subsequent to November 2006.
The accompanying selected historical consolidated financial and other operating data contain all adjustments that, in the opinion of management, are necessary to present fairly our financial position for the periods presented. All adjustments in the periods presented herein are normal and recurring in nature unless otherwise disclosed. The information presented below should be read in conjunction with our “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and our audited consolidated financial statements and related notes and other financial information appearing elsewhere herein.
(1)
Certain general and administrative costs were reclassified from selling, general and administrative expenses to cost of products sold. Selling, general and administrative expense decreased and cost of products sold increased $5.4 million and $4.8 million for 2005 and 2004, respectively.
(2)
In the fourth quarter of fiscal 2008, we significantly lowered our projected future operating results for both our Domestic and Canada reporting units based on deterioration of consumer spending and increased material costs. Based on the lower projected future operating results, we determined that the forecasted earnings and cash flows of the reporting units no longer supported their goodwill and trademark carrying values. As a result, non-cash pretax goodwill and trademark impairment charges were recognized for our Domestic reporting unit of $294.0 million and $225.8 million, respectively, and non-cash pretax goodwill and trademark impairment charges were recognized for our Canada reporting unit of $9.9 million and $17.9 million, respectively.
(3) Includes the following items to the extent applicable for the periods presented: stock based compensation expense, restructuring charges, transaction expense, and licensing revenues.
(4) In the first quarter of fiscal 2006, we adopted Statement of Financial Accounting Standard (“SFAS”) No. 123 (revised 2004), Share-Based Payments (“SFAS 123R”). Under SFAS 123R, the fair value of our stock-based compensation awards on the date of grant are recognized as an expense over the vesting period. Prior to the adoption of SFAS 123R, we used the intrinsic value method to account for our stock based awards for our employees and directors in accordance with Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”), as permitted by SFAS No. 123, Accounting for Stock-Based Compensation. Under APB 25, compensation cost was measured at the date of grant as the excess of the fair value of the award over the purchase price and recognized as an expense over the vesting period. Upon adoption of SFAS 123R, we made a one-time cumulative adjustment of less than $0.1 million to record an estimate of future forfeitures on all outstanding restricted stock awards.
(5) Defined as current assets (excluding cash and assets held for sale), less current liabilities (excluding current maturities of long-term debt and liabilities held for sale).
(6) In the first quarter of 2007, we adopted FASB Interpretation 48, Accounting for Uncertainty in Income Taxes (“FIN 48”). FIN 48 prescribes a recognition threshold and measurement criteria for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. As a result of the adoption of FIN 48, we recognized an $18.3 million increase in our liability for uncertain tax positions. This was accounted for as a decrease in retained earnings of $2.2 million, and increases in goodwill and deferred tax assets of $12.6 million and $3.5 million, respectively.
(7) In the fourth quarter of 2007, we adopted Statement of Financial Accounting Standards No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans - an amendment of FASB Statements No. 87, 88, 106 and 132(R) (“SFAS 158”). SFAS 158 requires the recognition of the overfunded or underfunded status of a defined benefit post retirement plan as an asset or liability on the Company’s balance sheet and the recognition of changes in the funded status in the year in which the changes occur through comprehensive income. SFAS 158 also requires the measurement of the funded status of a plan as of the date of the Company’s year end balance sheet. This pronouncement does not require prior periods to be restated to reflect the impact of SFAS 158. The Company adopted SFAS 158 on December 29, 2007. The adoption of the pronouncement reduced accumulated other comprehensive income by $0.4 million and did not impact the Company’s results of operations or cash flows.
(8) Earnings before interest, taxes, depreciation and amortization (“EBITDA”) is a non-GAAP financial measure that we define as net income before interest expense, income taxes, depreciation, amortization and impairment charges. We use EBITDA, adjusted for other unusual, non-cash or non-recurring items, as a tool to measure our operating performance and, after applying various adjustments, as a basis for determining the following:
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the allocation of our resources;
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the return on investment of acquisitions and major cash expenditures;
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the compensation of our management;
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the vesting of our restricted stock and stock options;
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the valuation of our common stock; and
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our compliance with debt covenants.
We use EBITDA as a tool for measuring our operating performance because we are and have historically had a highly-leveraged capital structure which results in significant interest expense and minimal cash tax expense. We believe EBITDA provides useful information to the holders of our notes and security analysts by assisting them in making informed investment decisions as we have historically been valued and sold based upon multiples of EBITDA. EBITDA differs from Adjusted EBITDA, which is defined by our senior credit facility (see “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources”).
EBITDA has important limitations as an analytical tool, and should not be considered in isolation or as a substitute for analysis of our results as reported under GAAP. For example, EBITDA does not reflect:
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our cash expenditures, or future requirements, for capital expenditures or contractual commitments;
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changes in, or cash requirements for, our working capital needs;
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the significant interest expense, or the cash requirements necessary to service interest or principal payments, on our debts and Simmons Holdco debts;
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tax payments that represent a reduction in cash available to us; and
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any cash requirements for the assets being depreciated and amortized that may have to be replaced in the future.
Because of these and other limitations, we report our results under GAAP and use EBITDA to measure our performance. The following table presents for the periods set forth below a reconciliation of our net income (loss) to EBITDA (amounts in millions):
ITEM 7.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
OVERVIEW
We are one of the world’s largest mattress manufacturers, manufacturing and marketing a broad range of products under our well-recognized brand names. The majority of our products are conventional innerspring mattresses and foundations that utilize our Pocketed Coil® and Advanced Pocketed Coil™ technologies and are marketed under our Beautyrest®, Beautyrest Studio™, Beautyrest Black®, and Beautyrest NxG™ brand names. In addition, we manufacture and market open coil innerspring products under our DeepSleep® and BeautySleep® brand names, specialty (non-innerspring) visco-elastic products that utilize a patented NxG™ Advanced Memory Foam under our ComforPedic by Simmons™ brand name and specialty products made from natural latex foam under our Natural Care® brand name. We manufacture, sell and distribute our premium branded bedding products principally to retail and hospitality customers throughout the U.S. and Canada. Additionally, we license our intellectual property to international companies that manufacture and sell our premium branded bedding products throughout the world and to U.S. and Canadian manufacturers and distributors of bedding accessories, furniture, water beds, airbeds and other products. We sell products through a diverse North American base of approximately 3,300 retailers, representing over 15,500 outlets, including furniture stores, specialty sleep shops, department stores, furniture rental stores, mass merchandisers and juvenile specialty stores.
In November 2006, we purchased Simmons Canada, a former licensee of Simmons and one of the largest bedding manufacturers in Canada. In August 2006, we sold our specialty sleep retail stores, SCUSA, and now operate only as a manufacturer and distributor of bedding products principally to retailers or hospitality customers. Following the acquisition of Simmons Canada and disposition of SCUSA, we have two reportable segments organized by geographic area, Domestic (U.S. including Puerto Rico) and Canada. In 2008, we derived approximately 87.6% of our net sales from our Domestic segment.
In June 2007, we also expanded our specialty bedding platform by acquiring the ComforPedic® brand of specialty mattresses and pillows which utilize NxG™ Advanced Memory Foam. Also during 2007, we re-engineered all of our products to be compliant with the CPSC’s new open flame resistance standard for the bedding industry that went into effect on July 1, 2007 and rolled the new compliant products out to our customers during the first half of 2007. In the process, we incurred $6.7 million of one-time manufacturing costs related to the conversion and the rollout of new products, including inefficiencies that occurred as a result of the disruption of our production processes. Our re-engineered products have added flame-retardant materials which have increased the costs our products. Additionally, we incurred $19.2 million of incremental selling costs (floor sample discounts, marketing materials, etc.) in comparison to 2006 related to the rollout of our new products to our customers.
During 2008, our Domestic conventional bedding net sales decreased $94.2 million, or 9.4%, compared to 2007. We attribute the decrease to an overall mattress industry downturn as a result of slowing consumer spending.
Our material costs continued to be impacted by the higher prices for steel and petroleum based products, which principally affects the cost of our foam, innerspring and foundation components. During 2007 and 2008, the cost of these components remained elevated above historical averages. Additionally, our distribution costs were negatively impacted by the rapid rise in diesel prices during these periods. Due to the significant increase in inflation we experienced during the last half of 2007 and throughout 2008, we have taken steps to eliminate costs from our overall cost structure and have plans to further eliminate additional costs from our future cost structure to help offset the inflation. In 2008, we completed two salaried workforce reductions and closed two conventional bedding manufacturing facilities located in Mableton, Georgia and Bramalea, Ontario. In September 2008, our Chairman and Chief Executive Officer, Charles R. Eitel, resigned and his duties were assumed by Stephen G. Fendrich, our President and Chief Operating Officer, and the executive committee of our board of directors. As a result of these actions, we incurred pre-tax restructuring charges associated with severance and fringe benefits and lease facility costs totaling $10.2 million in 2008.
In addition, to partially offset inflationary pressures, we implemented a price increase for our Domestic innerspring products that targets retail price points above $1,000 and all foundations in November 2007 and implemented a price increase for our Domestic innerspring products that targets retail price points below $1,000 in March 2008. In June 2008, we implemented a further price increase on our Beautyrest®, ComforPedic by SimmonsTM and Natural Care® products and foundations. These price increases in the aggregate raised our prices on average by 9.7%.
As of December 27, 2008, Simmons Bedding was not in compliance with certain covenants of its $540.0 million senior credit facility and was operating under a forbearance agreement with Simmons Bedding’s senior lenders. On January 15, 2009, Simmons Bedding did not make a scheduled payment of interest due on its Subordinated Notes resulting in a default under the indenture governing the Subordinated Notes. As a result, we entered into a forbearance agreement with more than a majority of the outstanding Subordinated Notes holders, pursuant to which such noteholders have agreed to refrain from enforcing their respective rights and remedies under the Subordinated Notes and the related indenture. Both forbearance agreements, as amended, with our senior lenders and the noteholders provide a forbearance period through June 30, 2009 and, upon meeting certain conditions, a further extension to July 31, 2009. We incurred fees and expenses in connection with the forbearance agreements and related amendments.
As a condition to the forbearance agreement with our senior lenders, we initiated a financing restructuring process in December 2008. A special committee of independent directors was formed by our board of directors on January 23, 2009 to evaluate and oversee proposals for restructuring our debt obligations, including seeking additional debt or equity capital and evaluating various strategic alternatives of the Company. There can be no assurance that we will be successful in implementing a restructuring. If we are unable to successfully complete a restructuring, comply with the terms of the forbearance agreements, or extend the forbearance periods as needed to successfully complete a restructuring, our payment obligations under the senior credit facility and the Subordinated Notes may be accelerated. If there is an acceleration of payments under the senior credit facility or the Subordinated Notes, then Holdings would be in default under its Discount Notes and Simmons Holdco would be in default under its Toggle Loan. We would not have the ability to repay any amounts accelerated under our various debt obligations without obtaining additional equity and/or debt financing. An acceleration of payments could result in a voluntary filing of bankruptcy by, or the filing of an involuntary petition for bankruptcy against, Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates. Due to the possibility of such circumstances occurring, we are seeking a negotiated restructuring, including a restructuring of our debt obligations and/or sale of us, our affiliates or our assets, which could occur pursuant to a pre-packaged, pre-arranged or voluntary bankruptcy filing. Any bankruptcy filing could have a material adverse effect on our business, financial condition, liquidity and results of operations. The considerations above raise substantial doubt about our ability to continue as a going concern. For further information regarding our debt covenant violations and related forbearance agreements please see Item 1A “Risk Factors - Risks Related to Our Liquidity” and Item 7 “Management’s Discussion and Analysis of Financial Conditions and Results of Operations - Liquidity and Capital Resources.”
CRITICAL ACCOUNTING POLICIES
In preparing our consolidated financial statements in conformity with GAAP, we must make decisions that impact the reported amounts and the related disclosures. Those decisions include the selection of the appropriate accounting principles to be applied and the assumptions on which to base estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. We evaluate our estimates and judgments on an on-going basis. We believe the critical accounting policies described below require management’s more significant judgments, assumptions and estimates.
Allowance for doubtful accounts. We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. We evaluate the adequacy of the allowance on a periodic basis. The evaluation includes consideration of a review of historical loss experience, the aging of the receivable balances, adverse situations that may affect a customer’s ability to pay the receivable, and prevailing economic conditions. If the result of the evaluation of the reserve requirements differs from the actual aggregate allowance, adjustments are made to the allowance. This evaluation is inherently subjective, as it requires estimates that are susceptible to revision as more information becomes available. As of December 27, 2008 and December 29, 2007, our accounts receivable balance was $95.9 million and $120.0 million, net of the allowances for doubtful accounts, discounts and returns of $5.4 million and $4.6 million, respectively. For 2008, 2007 and 2006, we recorded provisions for bad debt of $7.8 million (0.8% of net sales), $4.3 million (0.4% of net sales) and $1.0 million (0.1% of net sales), respectively, in our results of operations.
Impairment of goodwill. We test goodwill for impairment at the reporting unit level on an annual basis in the fourth quarter by comparing the fair value of its reporting units to their carrying values. Additionally, goodwill is tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of an entity below its carrying value. These events or circumstances could include a significant change in the business climate, legal factors, operating performance indicators, competition, sale or disposition of a significant portion of the business or other factors. The performance of the test involves a two-step process. The first step of the impairment test involves comparing the fair values of the applicable reporting units with their aggregate carrying values, including goodwill. If the carrying amount exceeds the fair value of the reporting unit, we perform the second step of the goodwill impairment test to determine the amount of impairment loss. The second step of the goodwill impairment test involves comparing the implied fair value of the affected reporting unit’s goodwill with the carrying value of that goodwill.
Determining the fair value of a reporting unit is judgmental in nature and requires the use of significant estimates and assumptions including revenue growth rates and operating margins, discount rates and future market conditions, among others. Fair value of our reporting units is generally determined based on an equal weighting of the market approach and income approach methodologies. The market approach estimates fair value by applying multiples of potential earnings, such as EBITDA, of similar public entities. Management believes this approach is appropriate because it provides a fair value using multiples from entities with operations and economic characteristics similar to our reporting units. The income approach is based on projected future debt-free cash flow that is discounted to present value using factors that consider the timing and risk of the future cash flows. Management believes this approach is appropriate because it provides a fair value estimate based upon the reporting units expected long-term operating and cash flow performance. The income approach also incorporates the potential impact of cyclical downturns, anticipated changes in product sales mix and inflation and other changes in product costs that could occur in the reporting unit and its industry. The income approach is based on a reporting unit’s five year projections of operating results and cash flows that are discounted using the estimate of the market based weighted average cost of capital for the bedding industry. The future operating projections are based on consideration of past performance and the projections and assumptions used in our current operating plans. Such assumptions are subject to change as a result of changing economic and competitive conditions.
In the fourth quarter of 2008, we significantly lowered our projected future operating results for both our Domestic and Canada reporting units based on deterioration of consumer spending and increased material costs. Our five year projections of operating results assumed that the current economic downturn would continue through 2009, followed by recovery in the second half of 2010 through 2011, and long-term industry growth rates for 2012 and beyond. Operating margin assumptions during the five year projection periods were consistent with the Company’s historical averages. We used a 17% discount rate to calculate the terminal value of our reporting units, which was higher than the 14% discount rate used in 2007. Our discount rate increased principally as a result of higher risk premiums associated with the our debt due to the combination of the Company being in violation of certain debt covenants and disruptions in the credit market as of the testing date. A one percentage point increase in the discount rate would have decreased the fair value of the Domestic and Canada reporting units by $15.0 million and $2.0 million, respectively. A one percentage point decrease in the discount rate would have increased the fair value of the Domestic and Canada reporting units by $15.0 million and $2.5 million, respectively. We used a long-term growth factor of 4% to calculate the terminal value of its reporting units, which is consistent with the rate used in 2007. Based on the lower projected future operating results, we determined that the forecasted earnings and cash flows of the reporting units no longer supported their carrying value of goodwill. As a result, non-cash pretax goodwill impairment charges were recognized for our Domestic and Canada reporting units of $294.0 million and $9.9 million, respectively. We did not recognize any goodwill or trademark impairment charges for 2007 and 2006.
Intangible Assets. Definite-lived intangible assets are amortized using the straight-line method, which we believe is most appropriate, over their estimated period of benefit, ranging from ten to twenty-five years. Since we have the intent and ability to renew our trademarks and our branded products have a long history of being a market leader in the bedding industry, we determined that our trademarks will generate cash flows for an indefinite period of time and consider trademarks to be indefinite-lived intangible assets. Indefinite-lived intangible assets are not amortized. We review the useful lives of definite-lived and indefinite-lived intangible assets every reporting period.
We evaluate indefinite-lived intangible assets for impairment at least annually or whenever events or circumstances indicate their carrying value might be impaired. The carrying value of an indefinite-lived intangible asset is considered impaired when its carrying value exceeds its fair market value. In such an event, an impairment loss is recognized equal to the amount of that excess.
Fair value of our trademarks is determined using a relief of royalty method. The relief of royalty method assumes that, in lieu of ownership, a company would be willing to pay a royalty in order to exploit the related benefits of the trademarks. This approach is dependent on a number of factors, including estimate of future operating projections, royalty rates for trademarks, and a discount rate. The future operating projections are based on consideration of past performance and the projections and assumptions used in our current operating plans. Such assumptions are subject to change as a result of changing economic and competitive conditions. The royalty rate is based on a combination of our existing agreements to license its trademarks to third-parties and licenses within the furniture and household products industry. The discount rate is based upon the estimate of the market based weighted average cost of capital for the bedding industry. As a result of our lowering our projected future operating results due to deterioration of consumer spending and increased material costs, we recognized a trademark impairment charge in 2008 related to our Domestic and Canada reporting segments of $225.8 million and $17.9 million, respectively. We did not recognize any trademark impairment charges in 2007 and 2006.
Warranty accrual. The conventional innerspring bedding products that we currently manufacture generally include a ten-year non-prorated warranty. The conventional specialty bedding products that we currently manufacture generally include a non-prorated warranty of 20 to 25 years. Our juvenile bedding products have warranty periods ranging from five years to a lifetime. We record the estimated cost of warranty claims when products are sold. Our new products undergo extensive quality control testing and are primarily constructed using similar techniques and materials of our historical products. Therefore, we estimate the cost of warranty claims based on historical sales and warranty returns and the current average costs to settle a warranty claim. We include the estimated impact of recoverable salvage value in the calculation of the current average costs to settle a warranty claim.
The following table presents a reconciliation of our warranty accrual for fiscal years 2008, 2007 and 2006 (in thousands):
Co-operative advertising and rebate programs. We enter into agreements with many of our customers to provide funds for advertising and promotion of our products. We also enter into volume and other rebate programs with certain customers whereby funds may be rebated to the customer based on meeting certain sales targets or other metrics. When sales are made to these customers, we record accrued liabilities pursuant to these agreements. Based on achievement of sales levels, management regularly assesses these liabilities based on forecasted and actual sales and claims. In assessing the liabilities, management makes judgment decisions based on its knowledge of customer purchasing habits to determine whether all the co-operative advertising earned will be used by the customer and whether the customer will meet the requirements to receive rebates. Additionally, management must determine whether the co-operative advertising costs meet the requirement for classification as selling, general and administrative expense versus a reduction of sales. Co-operative advertising costs are classified as a selling expense when the customer provides proof of advertising our products and our payments to the customer are less than or equal to the cost of the advertisement. Costs of our co-operative advertising and rebate programs totaled $148.3 million, $146.4 million and $126.5 million for 2008, 2007 and 2006, respectively.
Pensions. We have a registered combined non-contributory defined benefit and defined contribution pension plan for substantially all of the employees of Simmons Canada. Under the Pension Plan, benefits are based upon an employee’s earnings and years of credited service. The registered defined benefit plan is funded based on the funding requirements of applicable government regulations. In addition, we have retirement compensation arrangements (“RCA”) for certain senior officials of Simmons Canada which provide retirement benefits in addition to the Pension Plan. As of December 27, 2008, the projected benefit obligation exceeded the fair value of the plan assets of the Pension Plan by $2.9 million. As of December 27, 2008, the fair value of the plan assets exceeded the projected benefit obligation of the RCA by $0.7 million. We expect to make estimated minimum funding contributions totaling approximately $1.1 million in 2009 related to the Pension Plan. No contributions are expected for the RCA in 2009. We also have unfunded SERP for certain former executives. As of December 27, 2008, we had a liability of $3.1 million related to the SERP and anticipate making contributions to the SERP of $0.2 million in 2009. Pension expenses and the pension obligations are actuarially determined and are affected by our assumptions with respect to the discount rate for obligations, the future rate of increase in compensation levels, and the long term rate of return on plan assets. The assumed discount rate is based upon a portfolio of high-grade corporate bonds, which are used to develop a yield curve. This yield curve is applied to the expected duration of the pension obligation. The rate of increase in compensation levels is based on our assessment of the current and future economic environment and overall salary trends. The expected long-term rate of return considers the allocation of plan assets, the historical performance of total plan assets, and economic and other indicators of future performance.
Income taxes. In the first quarter of 2007, we adopted FIN 48, which prescribes a recognition threshold and measurement criteria for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. As a result of the adoption of FIN 48, we recognized an $18.3 million increase in our liability for uncertain tax positions. This was accounted for as a decrease in retained earnings of $2.2 million, and increases in goodwill and deferred tax assets of $12.6 million and $3.5 million, respectively.
Our annual tax rate is based on our income, statutory tax rates and tax planning opportunities available to us in the various jurisdictions in which we operate. Significant judgment is required in determining our annual tax expense and in evaluating our tax positions. We establish reserves to remove some or all of the tax benefit of any of our tax positions at the time we determine that the positions become uncertain based upon one of the following: (i) the tax position is not “more likely than not” to be sustained, (ii) the tax position is “more likely than not” to be sustained, but for a lesser amount, or (iii) the tax position is “more likely than not” to be sustained, but not in the financial period in which the tax position was originally taken. For purposes of evaluating whether or not a tax position is uncertain, (i) we presume the tax position will be examined by the relevant taxing authority that has full knowledge of all relevant information, (ii) the technical merits of a tax position are derived from authorities such as legislation and statutes, legislative intent, regulations, rulings and case law and their applicability to the facts and circumstances of the tax position, and (iii) each tax position is evaluated without considerations of the possibility of offset or aggregation with other tax positions taken. We adjust these reserves, including any impact on the related interest and penalties, in light of changing facts and circumstances, such as the progress of a tax audit.
A number of years may elapse before a particular matter for which we have established a reserve is audited and finally resolved. The number of years with open statutes varies depending on the tax jurisdiction. The tax benefit that has been previously reserved because of a failure to meet the “more likely than not” recognition threshold would be recognized in our income tax expense in the first interim period when the uncertainty disappears under any one of the following conditions: (i) the tax position is “more likely than not” to be sustained, (ii) the tax position, amount, and/or timing is ultimately settled through negotiation or litigation, or (iii) the statute of limitations for the tax position has expired.
Tax law may require items to be included in the tax return at different times than when these items are reflected in the consolidated financial statements. As a result, the annual tax rate reflected in our consolidated financial statements is different than that reported in our tax return (our cash tax rate). Some of these differences are permanent, such as expenses that are not deductible in our tax return, and some differences reverse over time, such as depreciation expense. These timing differences create deferred tax assets and liabilities. Deferred tax assets and liabilities are determined based on temporary differences between the financial reporting and tax bases of assets and liabilities. The tax rates used to determine deferred tax assets or liabilities are the enacted tax rates in effect for the year in which the differences are expected to reverse. Based on the evaluation of all available information, we recognize future tax benefits, such as net operating loss carryforwards, to the extent that realizing these benefits is considered more likely than not. We will have to generate $54.1 million of taxable income to fully recognize the tax benefits of our net operating loss carryforwards for federal income tax purposes of $18.9 million as of December 27, 2008. We will have to generate $108.5 million of taxable income to fully recognize the tax benefits of our net operating loss carryforwards for state income tax purposes of $7.7 million as of December 27, 2008.
We evaluate our ability to realize the tax benefits associated with deferred tax assets by analyzing our forecasted taxable income using both historical and projected future operating results, the reversal of existing temporary differences, taxable income in prior carryback years (if permitted) and the availability of tax planning strategies. A valuation allowance is required to be established unless we determine that it is more likely than not that we will ultimately realize the tax benefit associated with a deferred tax asset. As of December 27, 2008 and December 29, 2007, we had a valuation allowance on our deferred tax assets of $22.8 million and $9.3 million, respectively.
Additionally, deferred tax liabilities are not recorded for undistributed earnings of our foreign subsidiaries that are deemed to be indefinitely reinvested in the foreign jurisdiction.
Self-Insurance liabilities. We retain a portion of the risks related to our general liability, product liability, automobile, worker’s compensation and health insurance programs. The exposure for unpaid claims and associated expenses, including incurred but not reported losses, generally is estimated with the assistance of external actuaries and by considering pending claims and historical trends and data. The estimated accruals for these liabilities could be affected if future occurrences or loss developments significantly differ from utilized assumptions. The estimated liability associated with settling unpaid claims is included in accrued liabilities. As of December 27, 2008 and December 29, 2007, we had recorded $5.7 million and $5.3 million for liabilities for exposures to unpaid self-insured claims.
Litigation and contingent liabilities. From time to time, we are parties to or targets of lawsuits, claims, investigations and proceedings, including product liability, personal injury, patent and intellectual property, commercial, contract, environmental, health and safety, and employment matters, which are handled and defended in the ordinary course of business. We accrue a liability for such matters when it is probable that a liability has been incurred and the amount can be reasonably estimated. We believe the amounts reserved are adequate for such pending matters; however, results of operations could be negatively affected by significant litigation adverse to us.
RESULTS OF OPERATIONS
The following table sets forth historical consolidated financial information as a percent of net sales:
YEAR ENDED DECEMBER 27, 2008 COMPARED TO YEAR ENDED DECEMBER 29, 2007
Net Sales. Our net sales decreased $98.1 million, or 8.7%, to $1,028.7 million for 2008 compared to $1,126.8 million for 2007 principally due to a decline in our Domestic net sales. Our Domestic segment net sales decreased $94.2 million, or 9.4%, to $908.2 million (includes $7.3 million of inter-segment net sales) for 2008 compared to $1,002.4 million (includes $0.9 million of inter-segment net sales) for 2007. Our Domestic segment net sales declined primarily as a result of decreases in our conventional bedding unit volume of 14.1%, or $136.5 million, which was offset slightly by an increase in our average unit selling price (“AUSP”) of 5.6%, or $46.4 million, compared to 2007. Our Domestic segment unit volume decreased principally due to an overall U.S. mattress industry downturn as a result of slowing consumer spending in the current economic recession. Our improvement in Domestic segment AUSP was primarily attributable to (i) our product price increases implemented in November 2007, March 2008 and June 2008 and (ii) a shift in our product sales mix to our higher priced products.
Our Canada segment net sales increased $2.5 million, or 2.0%, to $127.8 million for 2008 compared to $125.3 million for 2007. In local currency, our Canada segment net sales decreased for 2008 by 0.1% compared to 2007. The sales decrease was due to a decline in conventional bedding AUSP of 3.5%, partially offset by an increase in conventional bedding unit volume of 5.2%. Our Canada segment unit volume increased principally due to the success of our 2008 Canadian product line, introduced in the first quarter of 2008, and promotional pricing. Our Canadian segment AUSP decreased principally due to promotional pricing and a shift in sales mix to lower priced products. In September 2008, we implemented a price increase on our Canadian product lines.
Gross Profit. Our consolidated gross profit decreased $70.7 million to $379.9 million (36.9% of consolidated net sales) for 2008 compared to $450.6 million (40.0% of consolidated net sales) for 2007. Our Domestic segment gross profit decreased $60.8 million to $351.0 million (38.6% of Domestic segment net sales) for 2008 compared to $411.8 million (41.1% of Domestic segment net sales) for 2007. Our Domestic segment gross margin decrease of 2.5 percentage points for 2008 compared to 2007 was due principally to an increase in our conventional bedding material cost per unit and manufacturing cost per unit of 12.3% and 5.5%, respectively. Our material cost per unit increased primarily due to (i) the addition of flame retardant materials to meet the CPSC’s open flame resistance standard which went into effect July 1, 2007; (ii) inflation in the costs of raw materials, particularly in the prices of steel and foam; and (iii) a change in our sales mix to products with higher material content. Our manufacturing cost per unit increased principally due to our fixed manufacturing costs being absorbed by fewer units.
Our Canada segment gross profit decreased $9.9 million to $28.9 million (22.6% of Canada segment net sales) for 2008 compared to $38.8 million (31.0% of Canada segment net sales) for 2007. Our Canada segment gross margin decreased 8.4 percentage points due primarily to (i) the purchasing of product from the Domestic segment following the closure of our Bramalea, Ontario facility at a higher cost than to produce the product; (ii) a shift in sales mix to products with lower gross margin; (iii) inflation in material costs; and (iv) manufacturing inefficiencies related to the new product line introduced in January 2008.
Selling, General and Administrative Expenses (“SG&A”). Our consolidated SG&A decreased $17.3 million to $328.9 million (32.0% of consolidated net sales) for 2008 compared to $346.3 million (30.7% of consolidated net sales) for 2007. Our Domestic segment SG&A decreased $19.6 million to $301.8 million (33.2% of Domestic segment net sales) for 2008 compared to $321.3 million (32.1% of Domestic segment net sales) for 2007. In 2007, our Domestic segment incurred significantly higher product rollout costs as a result of the introduction of our current Beautyrest® product line in 2007. As a result of not introducing a new Beautyrest® product line and other cost savings initiatives, our Domestic segment had $24.0 million less fixed selling and brand development expenses for 2008 compared to 2007. Our Domestic segment also had lower salaries and fringe benefits of $3.8 million in 2008 compared to 2007 principally due to reduced management bonus expense and less employees. Partially offsetting these decreases in 2008, our Domestic segment had higher volume variable selling and distribution expenses of $0.9 million despite lower sales volumes principally due to a $6.8 million increase in co-operative advertising expense. Our co-operative advertising expense increased due to a shift in our sales mix to customer and products with higher subsidies and more co-operative advertising costs being classified as a selling expense rather than a reduction of sales for 2008 compared to 2007. Our Domestic SG&A for 2008 compared to 2007 also included an increase of (i) bad debt expense of $3.5 million primarily as a result of Mattress Discounters Corp. filing for reorganization under Chapter 11 of the Bankruptcy Code in August 2008; (ii) depreciation expense of $1.6 million principally due to the implementation of our new enterprise resource planning (“ERP”) system; and (iii) consulting and professional fees of $0.7 million principally due to costs incurred related to the forbearance agreements and associated debt restructuring activities. In addition, our Domestic SG&A for 2008 included a one-time retiree healthcare plan curtailment charge of $1.5 million associated with the closure of our Mableton, Georgia facility in September 2008.
Our Canada segment SG&A increased $2.9 million to $27.8 million (21.7% of Canada segment net sales) for 2008 from $25.0 million (19.9% of Canada segment net sales) for 2007. Our Canada segment SG&A increased principally due to a $1.7 million pension plan curtailment/contractual termination benefits charge in 2008 as a result of the closure of our Bramalea, Ontario facility in September 2008. In addition, our Canada segment SG&A for 2008 increased due to higher distribution expense as a result of increased sales volumes, increased diesel fuel costs and more miles driven following the shift of Bramalea, Ontario production to other manufacturing facilities.
Goodwill and Trademark Impairment Charges. During 2008, we recognized a total non-cash charge of $547.6 million related to the impairment of goodwill and trademarks associated with our Domestic and Canada reporting units. The impairment resulted from our 2008 annual impairment testing of goodwill and trademarks performed in the fourth quarter of 2008. The impairment charges were a result of our lowering our projected future operating results due to decreases in consumer spending and increased material costs. No such impairments were identified in 2007.
Restructuring Charges. For 2008, we recognized pretax restructuring costs of $10.2 million. No such costs were recognized for 2007. The restructuring charges primarily relate to (i) severance and benefits in connection with two salaried workforce reductions announced and completed in 2008 in response to the downturn in the economy since the second half of 2007 and (ii) severance, benefits and lease facility costs associated with the closure of our Mableton, Georgia and Bramalea, Ontario manufacturing facilities announced and completed in 2008.
Amortization of Intangibles. For 2008, amortization of intangibles increased $0.2 million to $6.3 million from $6.1 million for 2007.
Licensing Revenues. For 2008, licensing revenues decreased $0.6 million, or 5.8%, to $9.5 million from $10.1 million for 2007. In 2007, we recognized additional royalties generated from licensee sales audits of previous years. No additional royalties were recognized from sales audits in 2008.
Interest Expense. For 2008, interest expense decreased $2.7 million to $73.5 million from $76.2 million for 2007. The decreased interest expense was primarily due to lower LIBOR base rates on our senior credit facility. Our non-cash interest expense, which includes accretion of our Discount Notes and the amortization of deferred financing fees, increased $2.5 million to $25.1 million for 2008 compared to $22.6 million for 2007.
Interest Income. For 2008, interest income decreased $0.1 million to $0.4 million from $0.5 million for 2007.
Income Taxes. The combined federal, state, and foreign effective income tax rate of (14.7)% for 2008 differs from the federal statutory rate of 35.0% primarily due to goodwill impairment deductions for book purposes that are not deductible for tax purposes. The combined federal, state, and foreign effective income tax rate of 26.6% for 2007 differs from the federal statutory rate of 35.0% primarily due to a decrease in the U.S. multi-state and Canada federal tax rates applied to deferred items and the reversal of valuation allowances, partially offset by an increase in our liabilities for uncertain tax positions.
YEAR ENDED DECEMBER 29, 2007 COMPARED TO YEAR ENDED DECEMBER 30, 2006
Net Sales. Our net sales increased $165.2 million, or 17.2%, to $1,126.8 million for 2007 compared to $961.6 million for 2006. Our consolidated net sales for 2007 included $125.4 million of net sales associated with our Canada segment, which was acquired in November 2006 ($12.7 million of net sales included in our consolidated net sales for 2006). Our consolidated net sales for 2006 included $49.0 million of net sales associated with our retail operations, which were sold in August 2006. Our Domestic segment net sales, which exclude the net sales associated with our Canada segment and our former retail operations, increased $102.4 million, or 11.4%, to $1,002.4 million for 2007 compared to $900.0 million for 2006. Our Domestic segment net sales improved primarily as a result of increases in our conventional bedding unit volume of 10.6%, or $91.3 million, and our AUSP of 1.3%, or $12.8 million, compared to 2006. Our Domestic segment unit volume increased principally due to strong demand for our Beautyrest®, Beautyrest BlackTM and DeepSleep® products, which we attribute to more effective marketing and brand development. Additionally, our sales growth benefited from our products being competitive across a broad range of price points, effective selling practices and strong customer relationships. Our improvement in Domestic segment AUSP was primarily attributable to the increase in products at higher price points exceeding the increase in products sold at lower price points.
Gross Profit. Our consolidated gross profit increased $33.1 million to $450.6 million (40.0% of consolidated net sales) for 2007 compared to $417.5 million (43.4% of consolidated net sales) for 2006. Our decline in consolidated gross margin was principally due to the sale of our former retail operations in August 2006, which sold products at higher gross margins than our wholesale operations, and the acquisition of Simmons Canada in November 2006, which sells products at lower gross margins than our Domestic segment. Our consolidated gross profit for 2007 included a full year of gross profit from our Canada segment, acquired November 2006, of $38.8 million (31.0% of Canada segment net sales), an increase of $35.3 million compared to 2006. Our consolidated gross profit for 2006 included $32.9 million of gross profit associated with our former retail operations (net of eliminations between our wholesale and retail operations), which operated with a gross margin of 67.2% during that period.
Our Domestic segment gross profit increased $30.7 million to $411.8 million (41.1% of Domestic segment net sales) for 2007 compared to $381.1 million (42.3% of Domestic segment net sales) for 2006. Our Domestic segment gross margin decrease of 1.2 percentage points for 2007 compared to 2006 was due principally to an increase in our conventional bedding material cost per unit and manufacturing cost per unit of 5.9% and 0.3%, respectively. Our material cost per unit increased primarily due to the addition of flame retardant materials to meet the CPSC’s new regulations relating to open flame resistance standards for the mattress industry that became effective on July 1, 2007 and the change in our sales mix to products with higher material content. Our manufacturing cost per unit increased principally due to manufacturing inefficiencies during the first half of 2007 of $4.4 million resulting from the transition to the new product lines and one-time conversion costs of $2.3 million related to complying with the CPSC’s new open flame resistance standard.
SG&A. Our consolidated SG&A increased $34.4 million to $346.3 million (30.7% of consolidated net sales) for 2007 compared to $311.8 million (32.4% of consolidated net sales) for 2006. Our consolidated SG&A for 2007 included $24.9 million of expenses related to our Canada segment (19.9% of Canada segment net sales) acquired in November 2006, an increase of $22.5 million compared to 2006. Our consolidated SG&A for 2006 included $28.2 million of expenses associated with our former retail operations (45.9% of retail net sales). Our Domestic segment SG&A increased $40.1 million to $321.3 million (32.1% of Domestic segment net sales) for 2007 from $281.2 million (31.2% of Domestic segment net sales) for 2006. Our Domestic segment SG&A increased due principally to higher (i) product roll-out costs of $19.2 million resulting primarily from the roll-out of the Beautyrest® 2007 product line that occurred in the first half of 2007; (ii) variable selling expenses of $9.2 million due to incremental unit volume partially offset by lower co-op advertising expenditures due to a shift in sales mix; (iii) consulting and professional fees of $6.5 million due primarily to implementation of a new ERP system, implementation of various cost savings initiatives, and assistance with acquisition integration; (iv) bad debt expense of $3.4 million as a result of increased customer bankruptcies and the overall economic environment; and (iv) salaries and fringe benefits of $3.3 million principally due to increased headcount, partially offset by lower management bonuses.
Amortization of Intangibles. For 2007, amortization of intangibles increased $0.5 million to $6.1 million from $5.7 million for 2006.
Licensing Revenues. For 2007, licensing revenues increased $1.4 million, or 16.0%, to $10.1 million from $8.7 million for 2006. Licensing revenues increased principally as a result of additional royalties generated from licensee sales audits of previous years.
Interest Expense. For 2007, interest expense decreased $5.1 million to $76.2 million from $81.3 million for 2006. Interest expense for 2006 included deferred financing fees and refinancing costs of $6.0 million that were expensed due to the refinancing of our senior credit facility in May 2006 (the “Refinancing”). Excluding the expenses associated with the Refinancing, interest expense increased $0.9 million for 2007 compared to 2006 due principally to more accretion of our Discount Notes. Our non-cash interest expense, which includes accretion of our Discount Notes and the amortization of deferred financing fees, increased $1.2 million to $22.6 million for 2007 compared to $21.4 million for 2006.
Interest Income. For 2007, interest income decreased $0.8 million to $0.5 million from $1.3 million for 2006.
Income Taxes. The combined federal, state, and foreign effective income tax rate of 26.6% for 2007 differs from the federal statutory rate of 35.0% primarily due to a decrease in the U.S. multi-state and Canada federal tax rates applied to deferred items and the reversal of valuation allowances, partially offset by an increase in our liabilities for uncertain tax positions. The combined federal, state, and foreign effective income tax rate of 33.9% for 2006 differs from the federal statutory rate of 35.0% primarily due to a larger book versus tax gain on the sale of SCUSA, partially offset by an increase in tax reserves and the effect of state income taxes.
LIQUIDITY AND CAPITAL RESOURCES
Our principal sources of cash to fund liquidity needs have been (i) cash provided by operating activities of Simmons Bedding and its subsidiaries and (ii) borrowings available under Simmons Bedding’s senior credit facility. Restrictive covenants in our debt agreements and forbearance agreements restrict our ability to pay cash dividends and make other distributions. Our primary use of funds consists of payments for funding working capital increases, capital expenditures, customer supply agreements, principal and interest for our debt, distributions to service Simmons Holdco’s debt, and acquisitions. As of December 27, 2008, we had $54.9 million of cash on hand and less than $0.1 million of availability to borrow under Simmons Bedding’s revolving loan facility. As of May 2, 2009, we had $57.5 million of cash on hand.
As of December 27, 2008, Simmons Bedding was not in compliance with certain covenants of its $540.0 million senior credit facility and was operating under a forbearance agreement with Simmons Bedding’s senior lenders. On January 15, 2009, Simmons Bedding did not make a scheduled payment of interest due on its Subordinated Notes resulting in a default under the indenture governing the Subordinated Notes. As a result, we entered into a forbearance agreement with more than a majority of the outstanding Subordinated Notes holders, pursuant to which such noteholders have agreed to refrain from enforcing their respective rights and remedies under the Subordinated Notes and the related indenture. Both forbearance agreements, as amended, with our senior lenders and the noteholders provide a forbearance period through June 30, 2009 and, upon meeting certain conditions, a further extension to July 31, 2009. We incurred fees and expenses in connection with the forbearance agreements and related amendments.
As a condition to the forbearance agreement with our senior lenders, we initiated a financing restructuring process in December 2008. A special committee of independent directors was formed by our board of directors on January 23, 2009 to evaluate and oversee proposals for restructuring our debt obligations, including seeking additional debt or equity capital and evaluating various strategic alternatives of the Company. There can be no assurance that we will be successful in implementing a restructuring. If we are unable to successfully complete a restructuring, comply with the terms of the forbearance agreements, or extend the forbearance periods as needed to successfully complete a restructuring, our payment obligations under the senior credit facility and the Subordinated Notes may be accelerated. If there is an acceleration of payments under the senior credit facility or the Subordinated Notes, then Holdings would be in default under its Discount Notes and Simmons Holdco would be in default under its Toggle Loan. We would not have the ability to repay any amounts accelerated under our various debt obligations without obtaining additional equity and/or debt financing. An acceleration of payments could result in a voluntary filing of bankruptcy by, or the filing of an involuntary petition for bankruptcy against, Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of our affiliates. Due to the possibility of such circumstances occurring, we are seeking a negotiated restructuring, including a restructuring of our debt obligations and/or sale of us, our affiliates or our assets, which could occur pursuant to a pre-packaged, pre-arranged or voluntary bankruptcy filing. Any bankruptcy filing could have a material adverse effect on our business, financial condition, liquidity and results of operations. The considerations above raise substantial doubt about our ability to continue as a going concern.
There are substantial risks related to our liquidity. For further information regarding these risks, please see Item 1A “Risk Factors - Risks Related to Our Liquidity.”
The following table summarizes our changes in cash (in millions):
Year Ended December 27, 2008 Compared With the Year Ended December 29,
Cash flows from operating activities. For 2008 compared to 2007, our cash flows from operations decreased $52.8 million. The decrease in our cash flow from operations resulted principally from our lower operating results combined with a $9.1 million increase in our working capital (excluding deferred debt issuance costs classified as a current asset in 2008). Our operating results declined in 2008 principally due to lower sales volumes combined with inflation in our material costs resulting in lower gross profit. Our working capital (excluding deferred debt issuance costs), as a percentage of annual net sales, increased to 2.0% as of December 27, 2008 compared to 1.0% as of December 29, 2007. Our working capital increased principally due to a decrease in accounts payable and accrued liabilities of $40.8 million as a result of our sales decrease and timing of vendor and customer payments.
Cash flows used in investing activities. For 2008, our cash flow used in investing activities included $17.1 million for purchases of property, plant and equipment compared to $25.1 million in 2007. For 2007, our cash used in investing activities also included $15.4 million for the ComforPedic Acquisition.
Cash flows provided by (used in) financing activities. For 2008, our financing activities resulted in a $32.8 million source of cash due to borrowings under Simmons Bedding’s revolving loan facility of $64.5 million, which was partially offset by dividend payments to Simmons Holdco of $29.1 million for the payment of interest on Simmons Holdco’s Toggle Loan. For 2007, our financing activities resulted in a $20.9 million use of cash due principally to a $15.0 million voluntary payment on Simmons Bedding’s senior credit facility and a $5.0 million dividend to Simmons Holdco.
Year Ended December 29, 2007 Compared With the Year Ended December 30,
Cash flows from operating activities. For 2007 compared to 2006, our cash flows from operations decreased $36.1 million. The decrease in cash flow from operations resulted primarily from our working capital being a $5.2 million use of cash in 2007 compared to being a $10.6 million source of cash in 2006. Our working capital, as a percentage of net sales, increased to 1.0% as of December 27, 2008 compared to 0.7% as of December 29, 2007. Our working capital was a use of cash in 2007 principally due to a $27.9 million increase in our accounts receivable balance as a result of (i) our sales growth and (ii) our days sales outstanding slowing to 41 days at December 27, 2008 compared to 35 days at December 29, 2007. Our days sales outstanding slowed principally due to customer sales mix and more customers paying based on invoice terms instead of paying early to receive a cash discount. Partially offsetting the increase in receivables, our accrued liabilities increased $21.8 million for 2007 compared to 2006 as a result of the timing of cash payments.
Cash flows used in investing activities. For 2007, our cash flows used in investing activities included $25.1 million for purchases of property, plant and equipment and $15.4 million for the ComforPedic Acquisition. For 2006, our cash used in investing activities included the purchase of Simmons Canada for $113.1 million, net of cash acquired, and capital expenditures of $13.6 million, which were partially offset by the proceeds from the sale of SCUSA of $52.4 million. Our increased purchases of property, plant and equipment in 2007 was principally due to an ongoing upgrade to our Domestic segment ERP system and new manufacturing equipment to help meet increased demand for our products.
Cash flows used in financing activities. For 2007, our financing activities resulted in a $20.9 million use of cash due principally to a $15.0 million voluntary payment on our senior credit facility and a $5.0 million dividend to Simmons Holdco. For 2006, our financing activities resulted in a $31.6 million use of cash due principally to mandatory and voluntary payments on our senior credit facility totaling $29.9 million.
Debt
As of December 27, 2008, our debt outstanding was $988.2 million compared to $901.5 million as of December 29, 2007. Our outstanding debt was primarily Simmons Bedding’s senior credit facility and Subordinated Notes and Holdco’s Discount Notes.
Senior Credit Facility
The senior credit facility provides for a $75.0 million revolving loan facility and a $465.0 million tranche D term loan facility. The revolving loan under the senior credit facility will expire on the earlier of (a) December 19, 2009 or (b) as revolving credit commitments under the facility terminate. As of December 27, 2008, under the revolving loan facility, Simmons Bedding had $64.5 million of borrowings and $10.4 million that was reserved for its reimbursement obligations with respect to outstanding letters of credit. Simmons Bedding incurs an unused line fee of 0.50% per annum on the unused portion of its revolving loan facility.
The tranche D term loans under the senior credit facility will expire on December 19, 2011. The tranche D term loan has a mandatory principal payment of $113.5 million on March 31, 2011 and quarterly mandatory principal payments of $117.2 million from June 30, 2011 through maturity on December 19, 2011. Depending on Simmons Bedding’s leverage ratio, it may be required to prepay a portion of the tranche D term loan with up to 50% of its excess cash flow (as defined in the senior credit facility) from each fiscal year. Simmons Bedding was not required to prepay a portion of the tranche D term loan in fiscal year 2008.
The senior credit facility bears interest at our choice of the Eurodollar Rate or Base Rate (both as defined), plus the applicable interest rate margins. The weighted average interest rate per annum in effect as of December 27, 2008 for the tranche D term loan was 9.6%. The senior credit facility is guaranteed by THL-SC and all of Simmons Bedding’s material domestic subsidiaries. Simmons Bedding has pledged substantially all of its assets to the senior credit facility.
The senior credit facility requires Simmons Bedding to maintain certain financial ratios, including cash interest coverage (adjusted EBITDA to cash interest expense) and total leverage (net debt to adjusted EBITDA) ratios. Adjusted EBITDA (as defined in the senior credit facility) differs from the term “EBITDA” as it is commonly used. In addition to adjusting net income to exclude interest expense, income taxes, depreciation and amortization, Adjusted EBITDA, as we interpreted the definition of Adjusted EBITDA from the senior credit facility, also adjusts net income by excluding items or expenses not typically excluded in the calculation of “EBITDA” such as management fees; other non-cash items reducing consolidated net income (including, without limitation, non-cash purchase accounting adjustments and debt extinguishment costs); any extraordinary, unusual or non-recurring gains or losses or charges or credits; and any reasonable expenses or charges related to any issuance of securities, investments permitted, permitted acquisitions, recapitalizations, asset sales permitted or indebtedness permitted to be incurred; less other non-cash items increasing consolidated net income (loss), all of the foregoing as determined on a consolidated basis for Simmons Bedding in conformity with GAAP.
The financial covenants are as follows:
1)
A minimum cash interest coverage ratio, with compliance levels ranging from cash interest coverage of no less than 2.75:1.00 for December 27, 2008 and 3.00:1.00 from March 31, 2009 through each fiscal quarter ending thereafter.
2)
A maximum leverage ratio, with compliance levels ranging from total leverage of no greater than 4.50:1.00 for December 27, 2008 and 4.00:1.00 from March 31, 2009 through each fiscal quarter ending thereafter.
As of September 27, 2008, Simmons Bedding was not in compliance with the maximum leverage financial covenant and certain other covenants contained in its senior credit facility. In response thereto, Simmons Bedding was unable to negotiate a waiver of such defaults with its senior lenders and entered into the First Forbearance Agreement and Second Amendment to the Second Amended and Restated Credit and Guaranty Agreement (“First Forbearance Agreement”) on November 12, 2008 and the Second Forbearance Agreement and Third Amendment to the Second Amended and Restated Credit and Guaranty Agreement and First Amendment to the Pledge and Security Agreement (the “Second Forbearance Agreement”) on December 10, 2008 with its senior lenders. Based on the terms of the First Forbearance Agreement, the senior lenders agreed to, among other things, forbear from exercising their default-related rights and remedies under the senior credit facility against Simmons Bedding through December 10, 2008, provided that Simmons Bedding satisfied certain conditions. The Second Forbearance Agreement extended the forbearance period through March 31, 2009, subject to earlier termination in some circumstances. Simmons Bedding entered into (i) that certain First Amendment to Second Forbearance Agreement; Fourth Amendment to the Second Amended and Restated Credit and Guaranty Agreement and Second Amendment to the Pledge and Security Agreement (the “First Amendment to the Second Forbearance Agreement”) on March 25, 2009, pursuant to which the senior lenders extended the forbearance period under the Second Forbearance Agreement through May 31, 2009 and, upon satisfaction of certain conditions, July 31, 2009 and (ii) that certain Second Amendment to Second Forbearance Agreement; Fifth Amendment to the Second Amended and Restated Credit and Guaranty and Third Amendment to the Pledge and Security Agreement (the “Second Amendment to the Second Forbearance Agreement” and, together with the First Amendment to the Second Forbearance Agreement, the “Amendment to the Second Forbearance Agreement”) on May 27, 2009, pursuant to which the senior lenders extended the forbearance period under the Second Forbearance Agreement through June 30, 2009 and, upon satisfaction of certain conditions, July 31, 2009.
During the forbearance period, the senior lenders will provide no additional loans or financial accommodation to Simmons Bedding except for the issuance, renewal, extension or replacement of letters of credit and revolving loans provided in certain limited circumstances related to the letters of credit as set forth in the forbearance agreements. In addition, Simmons Bedding will not be permitted to, directly or indirectly, incur indebtedness or liens, make investments or restricted junior payments, or consummate any asset sales, except in the ordinary course of business, during the forbearance period.
During the forbearance period under the First Forbearance Agreement, the applicable margin on the revolving loans and tranche D term loans increased 2.0% per annum above the rate otherwise applicable. The Second Forbearance Agreement amended the senior credit facility to, among other things:
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Increase the applicable margin for both the revolving loans and the tranche D term loans to either Base Rate plus 5.285% per annum or Eurodollar Rate plus 6.285% per annum;
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Establish a floor for the Base Rate and Eurodollar Rate of 3.25% and 4.25%, respectively, per annum at the earlier of the termination of the Second Forbearance Agreement or March 31, 2009;
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Eliminate the 2% per annum penalty rate applicable to overdue payments of principal or interest; and
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Make interest payable on the revolving loans and tranche D term loans as of the last business calendar day of each month.
The Second Forbearance Agreement also required Simmons Bedding to enter into deposit account control agreements with respect to all its bank accounts, with certain exceptions. The Second Forbearance Agreement included certain covenants including:
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Minimum liquidity requirements whereby Simmons Bedding will maintain a daily cash balance of not less than $2.5 million for any two consecutive business days and an average daily cash balance of not less than $7.5 million for any five consecutive business days;
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Provide a long-term business plan to the senior lenders by January 7, 2009;
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Commence a process to solicit new debt and/or equity investment by January 9, 2009;
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Provide a potential restructuring proposal to the senior lenders by January 26, 2009; and
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Increased financial reporting requirements
As of December 27, 2008, Simmons Bedding was in compliance with the covenant requirements of the Second Forbearance Agreement.
The Amendment to the Second Forbearance Agreement amended the senior credit facility to, among other things, increase the applicable margin for both revolving loans and tranche D term loans to either Base Rate plus 6.25% per annum or Eurodollar Rate plus 7.25% per annum.
During the forbearance period, as extended by the Amendment to the Second Forbearance Agreement, Simmons Bedding met its requirements, in addition to the other covenants set forth in the Second Forbearance Agreement, to (a) provide the legal and financial advisors to the senior lenders with weekly updates on the ongoing restructuring process and (b) facilitate a meeting between certain senior lenders and the selected bidders before April 17, 2009.
In connection with the First Forbearance Agreement, Simmons Bedding agreed to pay (a) the senior lenders who approved the agreement a forbearance fee equal to 0.125% of the aggregate outstanding amount of such lender’s outstanding debt under the senior credit facility and (b) the fees and expenses of the lender’s counsel in connection with the First Forbearance Agreement. In connection with the Second Forbearance Agreement, Simmons Bedding agreed to pay (a) the senior lenders who approved the agreement a forbearance fee equal to 0.5% of the aggregate outstanding amount of such lender’s outstanding debt under the senior credit facility and (b) the fees and expenses of the lender’s counsel and financial advisor in connection with the Second Forbearance Agreement. The Company capitalized the lender fees of $3.3 million, of which $1.3 million were paid in 2009, and expensed the third party fees associated with the forbearance agreements.
Subordinated Notes
Simmons Bedding’s Subordinated Notes bear interest at the rate of 7.875% per annum, which is payable semi-annually in cash in arrears on January 15 and July 15. The Subordinated Notes mature on January 15, 2014 and are subordinated in right of payment to all existing and future senior indebtedness of Simmons Bedding.
The Subordinated Notes are redeemable at our option beginning January 15, 2009 at prices decreasing from 103.9% of the principal amount thereof to par on January 15, 2012 and thereafter. We are not required to make mandatory redemption or sinking fund payments with respect to the Subordinated Notes.
Simmons Bedding did not make a scheduled payment of $7.9 million of interest due on January 15, 2009 on the Subordinated Notes resulting in an event of default under the indenture governing the Subordinated Notes. Such event of default enabled the holders of the Subordinated Notes to declare the full amount of the Subordinated Notes immediately due and payable. On February 4, 2009, Simmons Bedding and more than a majority of the outstanding Subordinated Notes holders approved a Forbearance Agreement to the indenture governing the Subordinated Notes (“Subordinated Forbearance Agreement”), pursuant to which such noteholders have agreed to refrain from enforcing their respective rights and remedies under the Subordinated Notes and the related indenture through March 31, 2009. In connection with the Subordinated Forbearance Agreement, Simmons Bedding agreed to pay the fees and expenses of the legal and financial advisors of the committee to the noteholders. Simmons Bedding entered into amendments to the Subordinated Forbearance Agreement on March 25, 2009 and May 27, 2009, whereby a majority of the noteholders extended their forbearance period through May 31, 2009 and June 30, 2009, respectively, and upon meeting certain conditions, a further extension to July 31, 2009. Pursuant to the terms of the Subordinated Forbearance Agreement, the noteholders party to the Subordinated Forbearance Agreement have the obligation to take any actions that are necessary to prevent an acceleration of the payments due under the Subordinated Notes during the forbearance period. Because the noteholders party to the Subordinated Forbearance Agreement represent more than a majority of the Subordinated Notes, they have the power under the indenture to rescind any acceleration of the Subordinated Notes by either the trustee or the minority holders of the Subordinated Notes. In consideration for their entry into the amendment to the Subordinated Forbearance Agreement, the noteholders party to the Subordinated Forbearance Agreement received an amendment fee equal to 0.5% of the aggregate outstanding amount of such holder’s Subordinated Notes.
The indenture for the Subordinated Notes requires Simmons Bedding to comply with certain restrictive covenants, including restrictions on dividends, and limitations on the occurrence of indebtedness, certain payments and distributions, and sales of Simmons Bedding’s assets and stock.
Discount Notes
Our Discount Notes, with an aggregate principal amount at maturity of $269.0 million, bear interest at the rate of 10.0% per annum payable semi-annually in cash in arrears on June 15 and December 15 of each year commencing on June 15, 2010. Prior to December 15, 2009, interest accrues on the Discount Notes in the form of an increase in the accreted value of the Discount Notes. Our ability to make payments on the Discount Notes is dependent on the earnings and distribution of funds from Simmons Bedding to Holdings. Simmons Bedding is prohibited from making certain distributions under the forbearance agreements.
The Discount Notes are redeemable at the our option beginning December 15, 2009 at prices decreasing from 105.0% of the principal amount thereof to par on December 15, 2012 and thereafter. We are not required to make mandatory redemption or sinking fund payments with respect to the Discount Notes.
If any of the Discount Notes are outstanding on June 15, 2010, we are obligated to redeem for cash a portion of each Discount Note then outstanding in an amount equal to (i) the excess of the aggregate amount of accrued and unpaid interest and original issue discount on the Discount Notes over (ii) the issue price of the Discount Notes multiplied by the yield to maturity of the Discount Notes (the “Mandatory Principal Redemption Amount) plus a premium equal to 5.0% (one-half of the coupon) of the Mandatory Principal Redemption Amount. No partial redemption or repurchase of the Discount Notes pursuant to any other provision of the indenture will alter the our obligation to make this redemption with respect to any Discount Notes then outstanding. Assuming no redemptions prior to June 15, 2010, we would be obligated to make a mandatory principal payment of $90.2 million and an interest and premium payment of $18.0 million on June 15, 2010.
The indenture for the Discount Notes requires Holdings to comply with certain restrictive covenants, including a restriction on dividends; and limitations on the incurrence of indebtedness, certain payments and distributions, and sales of Holdings’ assets and stock. Pursuant to the reporting covenants contained in the indentures governing Discount Notes, we agreed to furnish its holders of the Discount Notes all quarterly and annual reports that would be required to be filed with the SEC if we were required to file such reports. We failed to timely file our Quarterly Reports on Form 10-Q for the quarters ended September 27, 2008 and March 28, 2009 and our Annual Report on Form 10-K for the fiscal year ending December 27, 2008 (the “Financial Reports”) with the SEC resulting in the Company’s non-compliance with the reporting covenants. The Company has 60 days after receiving notice from the lenders to cure the non-compliance by providing such information to the lenders. If the Company was unable to cure the non-compliance, there would be an event of default under the indenture governing the Discount Notes.
On April 14, 2009, we received a notice sent on behalf of holders of the Discount Notes, purporting to own more than 25% of the $269.0 million principal amount of the outstanding Discount Notes, pursuant to which such holders have notified us that our failure to furnish to the holders of the Discount Notes (i) a Quarterly Report on Form 10-Q for the third quarter ended September 27, 2008 and (ii) an Annual Report on Form 10-K for the fiscal year ended December 27, 2008, each as required under the indenture governing the Discount Notes, constitutes defaults thereunder. With the filing of this Annual Report on Form 10-K for the fiscal year ending December 27, 2008 along with the filing of the Quarterly Report on Form 10-Q for the third quarter ended September 27, 2008, we have cured these defaults. We have not received notice of non-compliance with the reporting covenant for the Quarterly Report on Form 10-Q for the first quarter ended March 28, 2009. If we receive such notice and were unable to cure the non-compliance within 60 days of receiving such notice, there would be an event of default under the indenture governing the Subordinated Notes.
Toggle Loan
We do not guarantee or have any of our assets pledged as collateral under Simmons Holdco’s $300 million Toggle Loan. The Toggle Loan is structurally subordinated in right of payment to any of our existing and future liabilities. Although we are not obligated to make cash distributions to service principal and interest on the Toggle Loan, Simmons Holdco is dependent on our cash flow to meet the interest and principal payments under the Toggle Loan. The Toggle Loan is not included in our financial statements. During 2008, we provided $29.1 million of cash to Simmons Holdco, reflected as a dividend in our financial statements, so that Simmons Holdco could pay interest on the Toggle Loan, repurchase shares of its common stock, and pay operating expenses of Simmons Holdco. Under the terms of the credit agreement governing the Toggle Loan, Simmons Holdco may elect to pay future interest in cash or add such interest to the principal amount of the Toggle Loan. However, the Second Forbearance Agreement, as amended, prohibits the Company from making distributions to its parent companies during the forbearance period, except in the ordinary course of business. Accordingly, Simmons Holdco has elected to make its February and August 2009 interest payments on the Toggle Loan by adding such interest to the principal amount of the Toggle Loan. The Toggle Loan matures in February 2012. An acceleration of indebtedness under the senior credit facility, Subordinated Notes or Discount Notes would trigger an event of default under the Toggle Loan.
Contractual Obligations and Commercial Commitments
The following table sets forth our contractual obligations and other commercial commitments as of December 27, 2008 (in millions):
In addition, under the terms of the management agreement entered into in connection with the THL Acquisition, Simmons Bedding is required to pay an affiliate of THL an aggregate fee of no less than $1.5 million a year. The second forbearance agreement prohibits us from paying the THL management fee in cash subsequent to December 10, 2008. Under the terms of the management agreement, it will be terminated by THL upon the consummation of an equity offering and Simmons Bedding will be required to pay THL a termination fee equal to the net present value of the fees payable to THL for a period of seven years from the date of termination. In connection with our restructuring efforts, we have agreed to reimburse the directors of THL for certain legal fees. The management fee is not included in the contractual obligations table.
In 2008, we provided Simmons Holdco $29.1 million of cash in the form of a dividend so that Simmons Holdco could pay cash interest on the Toggle Loan. Simmons Holdco has elected to make its February and August 2009 interest payments on the Toggle Loan by adding such interest to the principal amount of the Toggle Loan. Simmons Holdco may elect to pay future interest in cash or add such interest to the principal amount of the Toggle Loan. The Toggle Loan matures in February 2012. Although we are not an obligor on or guarantor of the Toggle Loan, nor are we obligated to make cash distributions to service principal and interest on the Toggle Loan, Simmons Holdco is dependent on us to make cash distributions to it to make future cash interest and principal payments to service its debt. The interest payment on the Toggle Loan is not included in the contractual obligations table.
Because we are uncertain as to if or when settlements may occur, the contractual obligation table does not reflect our FIN 48 net liability of $17.6 million related to uncertain tax positions. Details regarding this liability are presented in Note B of the Notes to the Consolidated Financial Statements of this Form 10-K.
We anticipate making contributions to the Pension Plan and FAS 106 Plans of approximately $1.1 million and $0.7 million, respectively, in 2009 and no contributions are expected for the RCA in 2009. The contributions principally represent contributions required by funding regulations. Details regarding this liability are presented in Note O of the Notes to the Consolidated Financial Statements of this Form 10-K.
SEASONALITY/OTHER
Our third quarter sales are typically higher than our other fiscal quarters. We attribute this seasonality principally to retailers’ sales promotions related to the 4th of July and Labor Day holidays. For the last five years, third quarter sales have represented on average 27% of our consolidated net sales.
Most of our sales are by short term purchase orders. Because our level of production is generally prompted to meet customer demand, we have a negligible backlog of orders. Most finished goods inventories of bedding products are physically stored at manufacturing locations until shipped (usually within days of manufacture).
RECENTLY ISSUED ACCOUNTING STANDARDS
See Note B in the Notes to our Consolidated Financial Statements in Item 8 for a full description of recent accounting pronouncements, including the expected dates of adoption and estimated effects on our results of operations and financial condition, which is incorporated herein by reference.
FORWARD LOOKING STATEMENTS
“Safe Harbor” statement under the Private Securities Litigation Reform Act of 1995.
This Annual Report on Form 10-K includes forward-looking statements that reflect our current views about future events and financial performance. Words such as “estimates,” “expects,” “anticipates,” “projects,” “plans,” “intends,” “believes,” “forecasts” and variations of such words or similar expressions that predict or indicate future events, results or trends, or that do not relate to historical matters, identify forward-looking statements. The forward-looking statements in this report speak only as of the date of this report. These forward-looking statements are expressed in good faith and Simmons believes there is a reasonable basis for them. However, there can be no assurance that the events, results or trends identified in these forward-looking statements will occur or be achieved. Investors should not rely on forward-looking statements because they are subject to a variety of risks, uncertainties, and other factors that could cause actual results to differ materially from Simmons’s expectations. These factors include, but are not limited to: (i) competitive pressures in the bedding industry; (ii) general economic and industry conditions; (iii) the success of our new products and the future costs to rollout such products; (iv) legal and regulatory requirements; (v) interest rate and credit market risks; (vi) compliance with covenants in, and any defaults under, our debt agreements or instruments; (vii) our ability to comply with the terms of the forbearance agreements, including meeting restructuring milestones, obtain further extensions to the forbearance periods or to develop and implement an organized financial restructuring on acceptable terms, on a timely basis or at all, as well as compliance by the lenders and note holders with the terms of the forbearance agreements; (viii) increased cost of credit and associated fees resulting from the forbearance extensions and any waiver or modification of the senior credit facility by the lenders or any waiver or modification of the Subordinated Notes or other indebtedness; (ix) Simmons being required to immediately repay all amounts outstanding under the senior credit facility resulting from the noncompliance with the covenants which could in turn result in a default under the indebtedness of Simmons as well as Simmons Holdco’s indebtedness; (x) our relationships with and viability of its suppliers; (xi) fluctuations in our costs of raw materials and energy prices; (xii) our relationship with and viability of significant customers and licensees; (xiii) our ability to increase prices on our products and the effect of these price increases on its unit sales; (xiv) an increase in our return rates and warranty claims; (xv) our labor relations; (xvi) encroachments on our intellectual property; (xvii) our product liability claims; (xviii) our level of indebtedness; (xix) foreign currency exchange rate risks; (xx) our future acquisitions; (xxi) our ability to achieve the expected benefits from any personnel realignments; (xxii) higher bad debt expense as a result of increased customer bankruptcies due to instability in the economy and slowing consumer spending; (xxiii) our ability to maintain sufficient liquidity to operate its business; and (xxiv) other risks and factors identified from time to time in our reports filed with the SEC.
All forward-looking statements attributable to us or persons acting on our behalf apply only as of the date of this Annual Report on Form 10-K and are expressly qualified in their entirety by the cautionary statements included in this Annual Report on Form 10-K. Except as may be required by law, we undertake no obligation to publicly update or revise forward-looking statements which may be made to reflect events or circumstances after the date made or to reflect the occurrence of unanticipated events.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The following discussion about our risk-management activities includes forward-looking statements that involve risk and uncertainties. Actual results could differ materially from those projected in the forward-looking statements. See Item 1 “Business - Forward-Looking Statements” for additional information.
Market Risk
The principal market risks to which we are exposed that may adversely affect our results of operations and financial position include changes in future foreign currency exchange rates, interest rates, commodity prices and equity prices. We seek to minimize or manage these market risks through normal operating and financing activities and through the use of derivative instruments, where practicable. We do not trade or use instruments with the objective of earning financial gains on the market fluctuations, nor do we use instruments where there are not underlying exposures.
Foreign Currency Exposures
As a result of our acquisition of Simmons Canada, our earnings are affected by fluctuations in the value of Canadian dollar (Simmons Canada’s functional currency) as compared to the currencies of Simmons Canada’s foreign denominated purchases (principally the U.S. dollar). Foreign currency forward contracts are used in some instances as economic hedges against the earnings effects of such fluctuations. The Company had no forward contracts outstanding at December 27, 2008.
Interest Rate Risk
We are exposed to market risks from changes in interest rates. Our senior credit facility and certain of our other debt instruments are floating rate debt. We currently do not have a hedging program in place to manage fluctuations in long-term interest rates.
On December 27, 2008, we had floating rate debt of $533.4 million. All other factors remaining unchanged, a hypothetical 10% increase or decrease in interest rates on our floating rate debt would impact our income before income taxes by $4.2 million in 2008.
Commodity Price Risk
The major raw materials that we purchase for production are foam, wire, spring components, lumber, cotton, insulator pads, innerspring, foundation constructions, fabrics and roll goods consisting of foam, fiber, ticking and non-wovens. The price and availability of these raw materials are subject to market conditions affecting supply and demand. In particular, the price of many of our goods can be impacted by fluctuations in petrochemical and steel prices. Additionally, our distribution costs can be impacted by fluctuations in diesel prices. We currently do not have a hedging program in place to manage fluctuations in commodity prices.
Equity Price Risk
Our defined benefit plans hold investments in both equity and fixed income securities. Our annual contribution amount to such plans is dependent upon, among other things, the return on the plans’ assets. The annual contribution amount could increase if equity prices decrease. Our estimated contributions to the plans for 2009 are $1.1 million.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholder of Simmons Company:
In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a)(1) present fairly, in all material respects, the financial position of Simmons Company and its subsidiaries at December 27, 2008 and December 29, 2007, and the results of their operations and their cash flows for each of the three years in the period ended December 27, 2008 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the index appearing under Item 15(a)(2) presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
The accompanying consolidated financial statements have been prepared assuming the Company will continue as a going concern. As discussed in Note A to the consolidated financial statements, the Company's non-compliance with its debt covenants, its inability to make scheduled debt repayments and uncertainty about the ability to obtain alternative financing arrangements within the next twelve months raise substantial doubt about the Company's ability to continue as a going concern. Management’s plans in regards to these matters are also described in Note A. The consolidated financial statements do not include any adjustments that might result from the outcome of these uncertainties.
As discussed in Note B to the consolidated financial statements, Simmons Company and its subsidiaries changed their method of accounting for uncertainty in income taxes as of December 31, 2006 and their method of accounting for defined benefit pension and other postretirement plans as of December 29, 2007.
/s/ PricewaterhouseCoopers LLP
April 9, 2009, except for Note S to the consolidated financial statements, as to which the date is May 27, 2009
SIMMONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(In thousands)
SIMMONS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands)
SIMMONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER’S EQUITY
(In thousands, except share amounts)
SIMMONS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Simmons Company Notes to Consolidated Financial Statements
NOTE A - BASIS OF PRESENTATION, LIQUIDITY AND ABILITY TO CONTINUE AS A GOING CONCERN
Company
Simmons Company and its subsidiaries (collectively the “Company” or “Simmons”) is one of the world’s largest mattress manufacturers, manufacturing and marketing a broad range of products under our well-recognized brand names, including Beautyrest®, Beautyrest Black TM, ComforPedic by SimmonsTM, Natural Care®, Beautyrest BeginningsTM, BeautySleep®, and Deep Sleep®. The Company manufactures, sells and distributes its premium branded bedding products principally to retail and hospitality customers, throughout the U.S. and Canada, and licenses its intellectual property to international companies that manufacture and sell the Company’s premium branded bedding products throughout the world. Additionally, the Company has licensed its intellectual property to U.S. and Canadian manufacturers and distributors of bedding accessories, furniture, air beds and other products. The Company sells products through a diverse North American base of approximately 3,300 retailers, representing over 15,500 outlets, including furniture stores, specialty sleep shops, department stores, furniture rental stores, mass merchandisers and juvenile specialty stores.
Simmons Company (“Simmons Company” or “Holdings”) is a holding company with no material assets other than its ownership of the common stock of its wholly-owned subsidiary, THL-SC Bedding Company (“THL-SC”), which is also a holding company with no material assets other than its ownership of the common stock of its wholly-owned subsidiary, Simmons Bedding Company. All of Simmons Company’s business operations are conducted by Simmons Bedding Company and its subsidiaries (collectively “Simmons Bedding”). Simmons Bedding is a wholly-owned subsidiary of Simmons Company as a result of Holdings’ acquisition of Simmons Holdings, Inc. on December 19, 2003 (the “THL Acquisition”).
During 2006, the Company sold its subsidiary Sleep Country USA, LLC (“SCUSA”), which operated specialty sleep stores, and purchased Simmons Canada Inc. (“Simmons Canada”), a former licensee of Simmons and one of the largest bedding manufacturers in Canada (see Note D - Acquisitions and Dispositions).
During 2007, the Company acquired certain assets of Comfor Products, Inc. (the “ComforPedic Acquisition”), a specialty producer of foam mattresses and pillows, for $15.4 million (including transaction expenses) plus additional cash and equity consideration based on future operating performance (see Note D - Acquisitions and Dispositions).
In February 2007, the Company merged with another entity to become a wholly-owned subsidiary of Simmons Holdco, Inc. (“Simmons Holdco”), a holding company established to borrow $300.0 million under a senior unsecured loan (“Toggle Loan”) to fund a distribution of $278.3 million to the then existing class A stockholders of the Company (see Note C - Merger and Distribution to Stockholders).
Liquidity
As of December 27, 2008, the Company had $54.9 million of cash and cash equivalents and no availability to borrow additional amounts from its revolving loan under Simmons Bedding’s senior credit facility. The Company’s outstanding borrowings consisted of Simmons Bedding’s senior credit facility of $529.5 million, Simmons Bedding’s Subordinated Notes, Simmons Bedding’s industrial revenue bonds of $13.6 million, and Holding’s Discount Notes.
As of December 27, 2008, Simmons Bedding was operating under a forbearance agreement with a majority of its senior lenders as a result of Simmons Bedding failing to meet certain covenants of the senior credit facility as of September 27, 2008. Pursuant to the forbearance agreement, the senior lenders agreed to, among other things, forbear from exercising their default related rights and remedies under the senior credit facility through March 31, 2009, subject to earlier termination in some circumstances. Simmons Bedding entered into amendments to the forbearance agreement on March 25, 2009 and May 27, 2009 with its senior lenders, whereby the senior lenders extended their forbearance period through May 31, 2009 and June 30, 2009, respectively, and upon meeting certain conditions, a further extension to July 31, 2009.
Simmons Company Notes to Consolidated Financial Statements
On January 15, 2009, Simmons Bedding did not make a scheduled payment of interest due on its Subordinated Notes resulting in a default under the indenture governing the Subordinated Notes. On February 14, 2009 such default matured into an event of default, which enabled the holders of the Subordinated Notes to declare the full amount of the Subordinated Notes immediately due and payable. On February 4, 2009, Simmons Bedding and a majority of the outstanding Subordinated Notes holders entered into a forbearance agreement, pursuant to which those noteholders have agreed to refrain from enforcing their respective rights and remedies under the Subordinated Notes and the related indenture through March 31, 2009. Simmons Bedding entered into amendments to the forbearance agreement on March 25, 2009 and May 27, 2009 with a majority of the Subordinated Notes holders, whereby those noteholders extended their forbearance period through May 31, 2009 and June 30, 2009, respectively, and upon meeting certain conditions, a further extension to July 31, 2009. Pursuant to the terms of the forbearance agreement, the noteholders party to the Subordinated Forbearance Agreement have the obligation to take any actions that are necessary to prevent an acceleration of the payments due under the Subordinated Notes during the forbearance period. Because the noteholders party to the Subordinated Forbearance Agreement represent more than a majority of the Subordinated Notes, they have the power under the indenture to rescind any acceleration of the Subordinated Notes by either the trustee or the minority holders of the Subordinated Notes.
Simmons Company failed to file its Quarterly Reports on Form 10-Q for the quarters ended September 27, 2008 and March 28, 2009 and its Annual Report on Form 10-K for the fiscal year ended December 27, 2008 (the “Financial Reports”) with the SEC resulting in the non-compliance with the reporting covenants of the Subordinated Notes, Discount Notes and Toggle Loan. The Company has 60 days after receiving notice from the lenders to cure the non-compliance by providing such information to the lenders. On April 14, 2009, Holdings received notification of non-compliance from the holders of the Discount Notes. With the filing of this Annual Report on Form 10-K for the fiscal year ending December 27, 2008 along with the filing of the Quarterly Report on Form 10-Q for the third quarter ended September 27, 2008, the Company has cured these defaults. The Company has not received notice of non-compliance with the reporting covenant for the Quarterly Report on Form 10-Q for the first quarter ended March 28, 2009. If the Company received such notice and were unable to cure the non-compliance within 60 days of receiving such notice, there would be an event of default under the indenture governing the Subordinated Notes. The Company has not received notification of non-compliance from the Toggle Loan lenders.
As a condition to the forbearance agreement with the senior lenders, the Company initiated a financing restructuring process in December 2008. A special committee of independent directors was formed by our board of directors on January 23, 2009 to evaluate and oversee proposals for restructuring its debt obligations, including seeking additional debt or equity capital and evaluating various strategic alternatives of the Company. There can be no assurance that the Company will be successful in implementing a restructuring. If the Company is unable to successfully complete a restructuring, comply with the terms of the forbearance agreements, or extend the forbearance periods as needed to successfully complete a restructuring, Simmons Bedding’s payment obligations under the senior credit facility and the Subordinated Notes may be accelerated. If there is an acceleration of payments under the senior credit facility or the Subordinated Notes, then Holdings would be in default under its Discount Notes and Simmons Holdco would be in default under its Toggle Loan. Simmons Bedding, Holdings, and Simmons Holdco would not have the ability to repay any amounts accelerated under their various debt obligations without obtaining additional equity and/or debt financing. An acceleration of payments could result in a voluntary filing of bankruptcy by, or the filing of an involuntary petition for bankruptcy against, Simmons Bedding, THL-SC, Holdings, Simmons Holdco or any of their affiliates. Due to the possibility of such circumstances occurring, the Company is seeking a negotiated restructuring, including a restructuring of its debt obligations and/or sale of the Company, its affiliates or its assets, which could occur pursuant to a pre-packaged, pre-arranged or voluntary bankruptcy filing. Any bankruptcy filing could have a material adverse effect on the Company’s business, financial condition, liquidity and results of operations. The considerations above raise substantial doubt about the Company’s ability to continue as a going concern. At December 27, 2008, the Company has recorded all amounts outstanding under the senior credit facility, Subordinated Notes and Discount Notes as a current liability in the accompanying consolidated balance sheet. The unamortized debt issuance costs associated with the senior credit facility, Subordinated Notes and Discount Notes were recorded as a current asset in the accompanying consolidated balance sheet at December 27, 2008 (see Note J - Debt, which contains further information on the Company’s debt and the related forbearance agreements).
Basis of Presentation
The accompanying consolidated financial statements include the accounts of Simmons Company and its wholly- and majority-owned subsidiaries. All significant intercompany accounts and transactions have been eliminated in the preparation of the consolidated financial statements. The fiscal year of the Company ends on the last Saturday in December. The fiscal years for the consolidated financial statements presented consist of 52-week periods.
The accompanying consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”) and are presented on the basis that the Company is a going concern. The going concern assumption contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. Such financial statements include estimates and assumptions that affect the reported amount of assets and liabilities, and the amounts of revenues and expenses. Actual results could differ from those estimates.
Simmons Company Notes to Consolidated Financial Statements
NOTE B - PRINCIPAL ACCOUNTING POLICIES
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments with an initial maturity of three months or less to be cash equivalents. Cash equivalents are stated at cost, which approximates market value.
ACCOUNTS RECEIVABLE AND ALLOWANCE FOR DOUBTFUL ACCOUNTS
Accounts receivable consists of trade receivables and miscellaneous receivables recorded net of customer credits and allowances for doubtful receivables, discounts and returns. The Company maintains allowances for estimated losses resulting from the inability of its customers to make required payments. If the financial condition of the Company’s customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. The Company evaluates the adequacy of the allowance on a periodic basis. The evaluation includes historical loss experience, the aging of the receivable balances, adverse situations that may affect the customer’s ability to pay the receivable, and prevailing economic conditions. If the evaluation of the reserve requirements differs from the actual aggregate allowance, adjustments are made to the allowance. This evaluation is inherently subjective, as it requires estimates that are susceptible to revision as more information becomes available. Our allowance for doubtful accounts was $3.6 million and $2.7 million as of December 27, 2008 and December 29, 2007, respectively. The Company recorded provisions for bad debt of $7.8 million, $4.3 million and $1.0 million for 2008, 2007 and 2006, respectively.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out method) or net realizable value. The cost of inventories includes raw materials, direct labor and manufacturing overhead costs. The Company expenses abnormal amounts of idle facility costs, freight and handling costs as incurred. The Company allocates fixed production overheads to conversion costs based on the normal capacity of the production facilities. The Company provides inventory reserves for excess, obsolete or slow-moving inventory based on changes in customer demand, technology developments and other economic factors.
CUSTOMER SUPPLY AGREEMENTS
The Company from time to time enters into long-term supply agreements with its customers. The Company capitalizes any initial cash or credit memos provided to its customers that are subject to refundability and reduce sales for any initial cash or credit memos provided to its customers that are not subject to refundability. The capitalized costs are included in other assets in the accompanying consolidated balance sheets and are amortized as a reduction of sales based on the terms of the supply agreements. The terms of the supply agreements generally range from one to five years. The consideration used for long-term supply agreements are included in the net change in operating activities “other, net” in the accompanying consolidated statements of cash flows. Amortization related to these contracts was $16.1 million, $10.6 million and $12.3 million in 2008, 2007 and 2006, respectively.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment is recorded at cost less accumulated depreciation. Depreciation expense is determined principally using the straight-line method over the estimated useful lives for financial reporting and accelerated methods for income tax purposes. Expenditures that substantially increase asset values or extend useful lives are capitalized. Expenditures for maintenance and repairs are expensed as incurred. Leasehold improvements are depreciated no longer than the lease term, except when the lease renewal has been determined to be reasonably assured and failure to renew the lease imposes a penalty on the Company. When property items are retired or otherwise disposed of, amounts applicable to such items are removed from the related asset and accumulated depreciation accounts and any resulting gain or loss is credited or charged to income. Useful lives are generally as follows:
Computer software costs which are capitalized consist of (a) certain external direct costs of materials and services incurred in developing or obtaining internal use software and (b) payroll and payroll-related costs for employees who are directly associated with and who devote time to the project. Costs incurred during the preliminary project stage or for data conversion activities, training, maintenance, or overhead are expensed as incurred. Costs that cannot be separated between maintenance of, and relatively minor upgrades and enhancements to, internal use software are also expensed as incurred. The capitalized computer software costs are included in office furniture and equipment and start depreciating when the software is substantially complete and placed in service.
Simmons Company Notes to Consolidated Financial Statements
GOODWILL
The Company tests goodwill for impairment at the reporting unit level on an annual basis in the fourth quarter by comparing the fair value of its reporting units to their carrying values. Additionally, goodwill is tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of an entity below its carrying value. These events or circumstances could include a significant change in the business climate, legal factors, operating performance indicators, competition, sale or disposition of a significant portion of the business or other factors. The performance of the test involves a two-step process. The first step of the impairment test involves comparing the fair values of the applicable reporting units with their aggregate carrying values, including goodwill. If the carrying amount exceeds the fair value of the reporting unit, the Company performs the second step of the goodwill impairment test to determine the amount of impairment loss. The second step of the goodwill impairment test involves comparing the implied fair value of the affected reporting unit’s goodwill with the carrying value of that goodwill.
Determining the fair value of a reporting unit is judgmental in nature and requires the use of significant estimates and assumptions including revenue growth rates and operating margins, discount rates and future market conditions, among others. Fair value of the Company’s reporting units is generally determined based on an equal weighting of the market approach and income approach methodologies. The market approach estimates fair value by applying multiples of potential earnings, such as EBITDA, of similar public entities. Management believes this approach is appropriate because it provides a fair value using multiples from entities with operations and economic characteristics similar to the Company’s reporting units. The income approach is based on projected future debt-free cash flow that is discounted to present value using factors that consider the timing and risk of the future cash flows. Management believes this approach is appropriate because it provides a fair value estimate based upon the reporting units expected long-term operating and cash flow performance. The income approach also incorporates the potential impact of cyclical downturns, anticipated changes in product sales mix and inflation and other changes in product costs that could occur in the reporting unit and its industry. The income approach is based on a reporting unit’s five year projections of operating results and cash flows that are discounted using the estimate of the market based weighted average cost of capital for the bedding industry. The future operating projections are based on consideration of past performance and the projections and assumptions used in the Company’s current operating plans. Such assumptions are subject to change as a result of changing economic and competitive conditions. As a result of the Company lowering of its projected future operating results due to deterioration of consumer spending and increased material costs, the Company recognized a goodwill impairment charge in 2008 related to its Domestic and Canada reporting units of $294.0 million and $9.9 million, respectively. The Company did not recognize any goodwill impairment charges in 2007 and 2006.
INTANGIBLE ASSETS
Definite-lived intangible assets are amortized using the straight-line method, which the Company believes is most appropriate, over their estimated period of benefit, ranging from ten to twenty-five years. Since the Company has the intent and ability to renew its trademarks and the Company’s branded products have a long history of being a market leader in the bedding industry, the Company determined that its trademarks will generate cash flows for an indefinite period of time and consider trademarks to be indefinite-lived intangible assets. Indefinite-lived intangible assets are not amortized. The Company reviews the useful lives of definite-lived and indefinite-lived intangible assets every reporting period.
The Company evaluates indefinite-lived intangible assets for impairment at least annually or whenever events or circumstances indicate their carrying value might be impaired. The carrying value of an indefinite-lived intangible asset is considered impaired when its carrying value exceeds its fair market value. In such an event, an impairment loss is recognized equal to the amount of that excess.
Fair value of the Company’s trademarks is determined using a relief of royalty method. The relief of royalty method assumes that, in lieu of ownership, a company would be willing to pay a royalty in order to exploit the related benefits of the trademarks. This approach is dependent on a number of factors, including estimate of future operating projections, royalty rates for trademarks, and a discount rate. The future operating projections are based on consideration of past performance and the projections and assumptions used in the Company’s current operating plans. Such assumptions are subject to change as a result of changing economic and competitive conditions. The royalty rate is based on a combination of the Company’s existing agreements to license its trademarks to third-parties and licenses within the furniture and household products industry. The discount rate is based upon the estimate of the market based weighted average cost of capital for the bedding industry. As a result of the Company lowering of its projected future operating results due to deterioration of consumer spending and increased material costs, the Company recognized a trademark impairment charge in 2008 related to its Domestic and Canada reporting segments of $225.8 million and $17.9 million, respectively. The Company did not recognize any trademark impairment charges in 2007 and 2006.
Simmons Company Notes to Consolidated Financial Statements
IMPAIRMENT OF LONG-LIVED ASSETS
The Company reviews all of its long-lived assets for impairment whenever events or circumstances indicate their carrying value may not be recoverable. Management reviews whether there has been impairment by comparing anticipated undiscounted future cash flows from operating activities with the carrying value of the asset. The factors considered by management in this assessment include operating results, trends and prospects, as well as the effects of obsolescence, demand, competition and other economic factors. If impairment is deemed to exist, management would record an impairment charge equal to the excess of the carrying value over the fair value of the impaired assets.
DEBT ISSUANCE COSTS
The Company capitalizes costs associated with the issuance of debt and amortizes the cost as additional interest expense over the lives of the debt using the effective interest rate method. Upon prepayment of the related debt, the Company recognizes a proportional amount of the related debt issuance costs as additional interest expense. Amortization of debt issuance costs of $2.1 million, $2.0 million and $7.6 million in 2008, 2007 and 2006, respectively, is included as a non-cash component of interest expense in the accompanying consolidated statements of operations and comprehensive income (loss). Included in the 2006 amortization of debt issuance costs are $5.0 million of costs expensed in connection with the Company amending its senior credit facility and repaying the senior unsecured term loan in 2006.
TREASURY STOCK
Common stock repurchased by the Company is recorded at cost as a reduction of stockholder’s equity. The Company uses the first-in first-out method of determining the cost of treasury stock that is subsequently reissued. The difference between the cost of treasury stock and the reissuance price is added or deducted from additional paid in capital or retained earnings.
REVENUE RECOGNITION
The Company recognizes revenue, net of estimated returns, when title and risk of ownership passes, which is generally upon delivery of shipments. An insignificant portion of the Company’s revenue is derived from inventory held on consignment with certain customers. The Company recognizes revenue on inventory held on consignment when the title and risk of ownership have transferred to the customer, which is when the inventory held on consignment is used. The Company accrues for estimated costs of warranties, co-op advertising costs, promotional monies and cash discounts at the time the corresponding sales are recognized. Sales are presented net of cash discounts, rebates, returns and certain consideration provided to customers such as co-operative advertising funds, promotional monies, and amortization of supply agreements. The Company uses historical trend information regarding returns to reduce sales for estimated future returns. The Company provides an allowance for bad debts for estimated uncollectible accounts receivable, which is included in selling, general and administrative expenses in the accompanying consolidated statements of operations and comprehensive income (loss).
REBATES
The Company provides volume rebates to certain customers for the achievement of various purchase volume levels. The Company recognizes a liability for the rebate at the point of revenue recognition for the underlying revenue transactions that result in progress by the customer towards earning the rebate. Measurement of the liability is based on the estimated number of customers that will ultimately earn the rebates. Once the rebate is earned, the Company provides the customer cash or a credit memo that is netted against the accounts receivable balance. Rebates were $36.5 million, $36.4 million and $20.2 million in 2008, 2007 and 2006, respectively, and are included as a reduction of sales in the accompanying consolidated statements of operations and comprehensive income (loss).
PRODUCT DELIVERY COSTS
The Company incurred $58.9 million, $60.6 million and $54.4 million in shipping and handling costs associated with the delivery of finished mattress products to its customers in 2008, 2007 and 2006, respectively. These costs are included in selling, general and administrative expenses in the accompanying consolidated statements of operations and comprehensive income (loss).
Simmons Company Notes to Consolidated Financial Statements
STOCK BASED EMPLOYEE COMPENSATION
The Company adopted the provisions of Statement of Financial Accounting Standard (“SFAS”) No. 123 (Revised 2004), Share Based Payment (“SFAS 123R’) on January 1, 2006 (the first day of the 2006 first quarter). Under SFAS 123R, the fair value of the Company’s stock based awards on the date of grant are recognized as an expense over the vesting period. Fair value of the stock is determined by the Company’s board of directors. Simmons Holdco’s enterprise value fluctuates based upon its operating performance, changes in market multiples for comparable publicly traded companies and changes in transaction multiples paid for companies with similar operations as the Company.
The Company used the modified prospective application method of transition under SFAS 123R. Under the modified prospective application method, the Company applies SFAS 123R for new awards granted after January 1, 2006 and for unvested awards as of January 1, 2006. Upon adoption of SFAS 123R, the Company made a one-time cumulative adjustment of less than $0.1 million to record an estimate of the future forfeitures on all outstanding equity awards. Additionally, the Company netted its deferred compensation related to awards issued prior to the adoption of SFAS 123R against additional paid in capital.
FOREIGN CURRENCY
Subsidiaries located outside of the U.S. use the local currency as the functional currency. Assets and liabilities are translated at exchange rates in effect at the consolidated balance sheet date and income and expense accounts at average exchange rates during the year. Resulting translation adjustments are recorded directly to accumulated other comprehensive income (loss), a separate component of stockholder’s equity and are not tax effected since they relate to investments, which are permanent in nature. Foreign currency transactions gains and losses are recognized as incurred in selling, general and administrative expenses in the accompanying consolidated statements of operations and comprehensive income (loss). The Company recognized a foreign currency transaction loss of $1.0 million for 2008, gain of $0.6 million in 2007, and loss of $0.5 million in 2006.
PRODUCT DEVELOPMENT COSTS
Costs associated with the development of new products and changes to existing products are charged to expense as incurred. These costs amounted to approximately $2.9 million, $2.8 million and $2.4 million in 2008, 2007 and 2006, respectively. Such costs are included in selling, general and administrative expense in the accompanying consolidated statements of operations and comprehensive income (loss).
ADVERTISING COSTS
The Company records the cost of advertising, including co-operative advertising, as an expense or a reduction of sales when incurred or no later than when the advertisement appears or the event is run. Co-operative advertising costs are recorded as a selling expense when the customer provides proof of advertising the Company’s products and the payments made to the customer are less than or equal to the cost of the advertisement. Co-operative advertising costs are recorded as a reduction of sales whenever the costs do not meet the criteria for classification as a selling expense. Advertising costs which were recorded as a reduction of sales in the accompanying consolidated statements of operations and comprehensive income (loss) were $23.6 million, $28.6 million and $24.6 million in 2008, 2007 and 2006, respectively. Advertising costs which were recorded as selling, general and administrative expenses in the accompanying consolidated statements of operations and comprehensive income (loss) were $91.6 million, $87.0 million and $89.8 million in 2008, 2007 and 2006, respectively.
Simmons Company Notes to Consolidated Financial Statements
INCOME TAXES
Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rate is recognized in income in the period that includes the enactment date. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts more likely than not to be realized. As of December 27, 2008 and December 29, 2007, we had valuation allowances of $22.9 million and $9.3 million, respectively, against the deferred tax assets related to certain tax loss and certain tax credit carryforwards.
The determination of the Company’s provision for income taxes requires significant judgment, the use of estimates, and the interpretation and application of complex tax laws. Significant judgment is required in assessing the timing and amounts of deductible and taxable items and the probability of sustaining uncertain tax positions. The benefit of uncertain tax positions are recorded in the Company’s financial statements only after determining a more-likely-than-not probability that the uncertain tax positions will withstand challenge, if any, from taxing authorities. When facts and circumstances change, management reassesses these probabilities and records any changes in the financial statements as appropriate.
In the first quarter of 2007, the Company adopted FASB Interpretation 48, Accounting for Uncertainty in Income Taxes (“FIN 48”). FIN 48 clarifies the accounting for income tax by prescribing a minimum recognition threshold a tax position is required to meet before being recognized in the financial statements. FIN 48 also provides guidance on derecognition, measurement, classification, interest and penalties, accounting in interim periods, disclosure and transition. As a result of the adoption of FIN 48, the Company initially recognized an $18.3 million increase in its liability for uncertain tax positions on the first day of its fiscal year 2007. This was accounted for as a decrease in retained earnings of $2.2 million, and increases in goodwill and deferred tax assets of $12.6 and $3.5 million, respectively.
WARRANTIES
The conventional innerspring bedding products that the Company currently manufactures generally include a non-prorated warranty of ten years. The conventional specialty bedding products that the Company currently manufactures generally include a non-prorated warranty of twenty to twenty-five years. The Company’s juvenile bedding products have warranty periods ranging from five years to a lifetime. The Company records the estimated cost of warranty claims when its products are sold. The Company’s new products undergo extensive quality control testing and are generally constructed using similar techniques and materials of our historical products. Therefore, the Company estimates the cost of warranty claims based on historical sales and warranty returns and the current average costs to settle a warranty claim. The Company includes the estimated impact of recoverable salvage value in the calculation of the current average costs to settle a warranty claim.
The following table presents a reconciliation of the Company’s warranty accrual for 2008, 2007 and 2006 (in thousands):
Simmons Company Notes to Consolidated Financial Statements
PENSION AND OTHER POST-EMPLOYMENT BENEFITS
Pension expense and obligations are actuarially determined and are affected by the Company’s assumptions with respect to the discount rate for obligations, the future rate of increase in compensation levels, and the long term rate of return on plan assets. The assumed discount rate is based upon a portfolio of high-grade corporate bonds, which are used to develop a yield curve. This yield curve is applied to the expected duration of the pension obligation. The rate of increase in compensation levels is based on the Company’s assessment of the current and future economic environment and overall salary trends. The expected long-term rate of return considers the allocation of plan assets, the historical performance of total plan assets, and economic and other indicators of future performance.
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans - an amendment of FASB Statements No. 87, 88, 106 and 132(R) (“SFAS 158”). SFAS 158 requires the recognition of the overfunded or underfunded status of a defined benefit post retirement plan as an asset or liability on the Company’s consolidated balance sheet and the recognition of changes in the funded status in the year in which the changes occur through comprehensive income. SFAS 158 also requires the measurement of the funded status of a plan as of the date of the Company’s year end consolidated balance sheet. This pronouncement does not require prior periods to be restated to reflect the impact of SFAS 158. The Company adopted SFAS 158 on December 29, 2007. The adoption of the pronouncement did not impact the Company’s results of operations or cash flows.
The following table summarizes the incremental effect of SFAS 158 adoption on the individual line items in the consolidated balance sheet at December 29, 2007 (in thousands):
ENVIRONMENTAL COSTS
Environmental expenditures that relate to current operations are expensed or capitalized when it is probable that a liability exists and the amount or range of amounts can be reasonably estimated. Remediation costs that relate to an existing condition caused by past operations are accrued when it is probable that the costs will be incurred and can be reasonably estimated.
Simmons Company Notes to Consolidated Financial Statements
FINANCIAL INSTRUMENTS AND SIGNIFICANT CONCENTRATIONS OF RISK
The carrying amount of the Company’s financial instruments, consisting of cash and cash equivalents, accounts receivable, accounts payable and certain other liabilities, approximate fair value due to their relatively short maturities.
Under Statement of Financial Accounting Standard (“SFAS”) No. 157, Fair Value Measurements (“SFAS 157”), fair value is defined as the exit price, or the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants as of the measurement date. SFAS 157 also establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs market participants would use in valuing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company's assumptions about the factors market participants would use in valuing the asset or liability developed based upon the best information available in the circumstances. The hierarchy is broken down into three levels:
Level 1 - Quoted prices (unadjusted) in active markets for identical assets or liabilities;
Level 2 - Quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, and inputs (other than quoted prices) that are observable for the asset or liability, either directly or indirectly;
Level 3 - Unobservable inputs for which little or no market activity exists.
The fair value of the Company’s tranche D term loan, Subordinated Notes and Discount Notes is based on Level 1 inputs, quoted market prices as of December 27, 2008, which management believes incorporates the Company's nonperformance risk and credit risk. The following table compares the carrying values and estimated fair values of the Company’s tranche D term loan, Subordinated Notes and Discount Notes at December 27, 2008 (in millions).
Cash and cash equivalents are maintained with several major financial institutions in the U.S., Canada and Puerto Rico. Deposits held with banks may exceed the amount of insurance provided on such deposits. Generally, these deposits may be redeemed upon demand. Additionally, the Company monitors the financial condition of such institutions and considers the risk of loss remote.
The Company’s accounts receivable arise from sales to numerous customers in a variety of markets principally throughout the U.S., Canada and Puerto Rico. The Company performs periodic credit evaluations of its customers’ financial condition and generally does not, in most cases, require collateral. The Company’s five largest customers aggregated approximately 26%, 23% and 25% of sales for each of 2008, 2007 and 2006, respectively, and no single customer accounted for over 10% of the sales in any of those years.
The Company uses short-term foreign currency swaps within the normal course of business as economic hedges principally to manage foreign currency exchange rate risk. The Company recognizes foreign currency swaps as either an asset or liability measured at its fair value. The changes in fair value of the foreign currency swaps are recognized through current period income. The counterparties to the Company’s foreign currency swap agreements are major financial institutions. The Company has not experienced non-performance by any of its counterparties. As of December 27, 2008, the Company had no foreign currency swaps outstanding.
SELF-INSURANCE
The Company retains a portion of the risks related to its general liability, product liability, automobile, worker’s compensation and health insurance programs. The exposure for unpaid claims and associated expenses, including incurred but not reported losses, generally is estimated with the assistance of external actuaries and by factoring in pending claims and historical trends and data. The estimated accruals for these liabilities could be affected if future occurrences or loss developments significantly differ from utilized assumptions. The estimated liability associated with settling unpaid medical and worker’s compensation claims is included in accrued liabilities. As of December 27, 2008 and December 29, 2007, the Company had a liability for exposures to unpaid self-insured claims of $5.7 million and $5.3 million, respectively.
Simmons Company Notes to Consolidated Financial Statements
RECENTLY ISSUED ACCOUNTING STANDARDS
In September 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 157, Fair Value Measurements (“SFAS 157”). SFAS 157 addresses the measurement of fair value by companies when they are required to use a fair value measure for recognition or disclosure purposes under GAAP. SFAS 157 provides a common definition of fair value to be used throughout GAAP, which is intended to make the measurement of fair value more consistent and comparable and improve disclosures about those measures. SFAS 157 clarifies the principal that fair value should be based on the assumptions market participants would use when pricing an asset or liability and establishes a fair value hierarchy that prioritizes the information used to develop those assumptions. In February 2008, the FASB issued Financial Statement Position (“FSP”) No. 157-1, Application of FASB Statement No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement under Statement 13, which removed leasing transactions accounted for under Statement 13 and related guidance from the scope of SFAS 157, and FSP No. 157-2, Partial Deferral of the Effective Date of Statement 157 (“FSP 157-2”), which deferred the effective date of SFAS 157 for all non-financial assets and liabilities, except those that are recognized or disclosed in the financial statements at fair value at least annually, to fiscal years beginning after November 15, 2008. The Company implemented SFAS 157 for financial assets and liabilities at the beginning of its fiscal year 2008 and elected to defer the adoption of SFAS 157 for non-financial assets and liabilities until the beginning of its fiscal year 2009 as allowed under FSP 157-2. The implementation of SFAS 157 for financial assets and liabilities did not have a material impact on the Company’s consolidated financial position and results of operations. The Company is still assessing the impact that adopting SFAS 157 for non-financial assets and liabilities will have to its consolidated financial position and results of operations. The major categories of non-financial assets and liabilities that are measured at fair value, for which the Company has not yet applied the provisions of SFAS 157, are as follows: reporting units measured at fair value in the first step of the Company’s goodwill impairment testing and indefinite-lived intangible assets measured at fair value for impairment testing. In October 2008, the FASB issued FASB Staff Position No. FAS 157-3, Determining the Fair Value of a Financial Asset When the Market for that Asset Is Not Active (“FSP 157-3”), which clarifies the application of SFAS 157 as it relates to the valuation of financial assets in a market that is not active for those financial assets. This guidance was effective in October 2008 and includes those periods for which financial statements have not been issued. The Company currently does not have financial assets that are valued using inactive markets; therefore, FSP 157-3 will not have an impact on the Company’s consolidated financial statements and results of operations.
In December 2007, the FASB issued SFAS 141 (Revised 2007), Business Combinations (“SFAS 141R”). SFAS 141R replaces FASB Statement No. 141, Accounting for Business Combinations. SFAS 141R requires that the acquisition method of accounting be used in all business combinations and for an acquirer to be identified for each business combination. SFAS 141R defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as the date that the acquirer achieves control. It requires an acquirer to recognize the assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree at the acquisition date, measured at their fair values as of that date. SFAS 141R will be effective for the Company’s business combinations for which the acquisition date is on or after the beginning of fiscal year 2009. The impact on the Company of adopting SFAS 141R will depend on the nature, terms and size of the business combinations completed after the effective date.
In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements (“SFAS 160”). SFAS 160 amends ARB No. 51, Consolidated Financial Statements. SFAS 160 establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. It clarifies that a noncontrolling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements. SFAS 160 is effective for the Company as of the beginning of fiscal year 2009. The Company currently does not have a non-controlling interest in a subsidiary; therefore, the adoption of SFAS 160 will not have an impact on the Company’s consolidated financial statements and results of operations.
In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities (“SFAS 161”). SFAS 161 enhances the disclosure framework of FASB Statement No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended (“SFAS 133”). SFAS 161 expands the disclosures to provide an enhanced understanding of (1) how and why an entity uses derivative instruments; (2) how derivative instruments and related hedged items are accounted for under SFAS 133 and its related interpretations; and (3) how derivative instruments affect an entity’s financial position, financial performance, and cash flows. SFAS 161 is effective for the Company as of the beginning of fiscal year 2009. The Company currently has no derivative instruments; therefore, the adoption of SFAS 161 will not have an impact on the Company’s disclosures.
In December 2008, the FASB issued FASB Staff Position FSP 132(R)-1, Employers Disclosures about Postretirement Benefit Plan Assets (“FSP 132(R)-1”), which provides additional guidance on an employers' disclosures about plan assets of a defined benefit pension or other post retirement plan. This interpretation is effective for financial statements issued for fiscal years ending after December 15, 2009. The Company is in the process of evaluating the impact of this guidance on its disclosures.
In April 2008, the FASB issued FASB Staff Position No. 142-3, Determination of the Useful Lives of Intangible Assets (“FSP 142-3”), which amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under SFAS 142, Goodwill and Other Intangible Assets. This staff position will be effective for the Company at the beginning of fiscal year 2009. The Company is in the process of evaluating the impact of this guidance on its consolidated financial statements and results of operations.
Simmons Company Notes to Consolidated Financial Statements
NOTE C - MERGER AND DISTRIBUTION TO STOCKHOLDERS
On February 9, 2007, Simmons Company completed a merger with Simmons Merger Company, a wholly-owned subsidiary of Simmons Holdco, with Simmons Company being the surviving entity and a wholly-owned subsidiary of Simmons Holdco (the “Merger”). As a result of the Merger, the Company’s treasury stock and the issued and outstanding class A and class B common stock were retired and the Company issued 100 shares of new common stock with a $0.01 par value to Simmons Holdco. After the Merger, the ownership structure of Simmons Holdco was identical to the ownership structure of Simmons Company prior to the Merger. The Merger was treated for accounting purposes as a recapitalization whereby the historical common stock and additional paid-in capital have been recast as if the Merger occurred retroactively.
In the Merger, class A stockholders of the Company also received merger consideration equal to their remaining invested capital plus a preferred return on their invested capital. Additionally, Simmons Holdco assumed the rights and obligations of the Company’s Equity Incentive Plan (“Incentive Plan”) and all restricted stock issuances and stock options granted under the Incentive Plan. Since the Incentive Plan provides a compensation incentive for the employees of the Company to perform services, the stock-based compensation expense related to the awards issued under the Incentive Plan is recorded as an expense of the Company and a contribution of capital to the Company by Simmons Holdco.
In connection with the Merger, Simmons Holdco borrowed $300.0 million under the Toggle Loan to fund $278.3 million of merger consideration distributed to the Company’s then existing class A stockholders. For further information on the Toggle Loan (see Note P - Commitments and Contingencies).
NOTE D - ACQUISITIONS AND DISPOSITIONS
Purchase of Certain Assets of CP Holdco, Inc. (“Comfor Products”)
On June 29, 2007, the Company acquired certain intellectual property and other assets of Comfor Products (the “ComforPedic Acquisition”), a specialty producer of foam mattresses and pillows, for $15.4 million (including transaction expenses) plus additional cash and equity consideration based on future operating performance. Following the acquisition, the Company began marketing and selling foam mattresses and pillows under the ComforPedic by SimmonsTM brand name.
The Company recorded the acquisition using the purchase method of accounting and, accordingly, the purchase price has been allocated to the assets acquired and liabilities assumed based on their estimated fair market values. All future payments attributable to the purchase price will be recorded as additional goodwill.
Purchase of Simmons Canada Inc. (“Simmons Canada”)
On November 15, 2006, the Company acquired Simmons Canada, a former licensee of the Company and a leading manufacturer of mattresses in Canada, for $113.1 million in cash (the “Canada Acquisition”). The Canada Acquisition was funded from cash on hand and $20 million of borrowings on the Company’s revolving loan. Simmons Canada is now a wholly-owned subsidiary of the Company and the results of operations of Simmons Canada have been included in the Company’s consolidated financial statements since the November 15, 2006 acquisition date. The Canada Acquisition provides the Company with direct access to the conventional mattress and foundations market in Canada where Simmons Canada was already one of the leading mattress manufacturers by selling Simmons branded products.
The Company recorded the Canada Acquisition using the purchase method of accounting and, accordingly, the purchase price has been allocated to the assets acquired and liabilities assumed based on their fair values. Fair value of the assets and liabilities assumed was determined based on, but not limited to, discounted expected future cash flows for trademarks and non-contractual customer relationships and current replacement costs for fixed assets.
The following table summarizes the allocation of the purchase price to the fair values of the assets acquired and liabilities assumed as of the date of the acquisition (in thousands):
Simmons Company Notes to Consolidated Financial Statements
The intangible assets acquired include non-contractual customer relationships of $17.7 million and trademarks of $45.1 million. The non-contractual customer relationships have a weighted average life of twenty years and will be amortized using the straight line method, which best reflects the utilization of the economic benefits of the agreements. The trademarks have an indefinite life. Goodwill includes a portion of value for assembled workforce which is not separately classified from goodwill. The purchased intangibles and goodwill are not deductible for income tax purposes.
Since the Canada Acquisition was a purchase of stock, the respective tax bases of the assets and liabilities were not changed. As a result, a net deferred tax liability was recorded as of the acquisition date to reflect the difference between the fair value of the assets and liabilities under purchase accounting and the historical tax bases of the assets and liabilities. The reversal of such differences in the future will be recorded through the tax provision.
Sale of SCUSA
On August 29, 2006, the Company sold its subsidiary, SCUSA, to an affiliate of The Sleep Train, Inc. (“Sleep Train”) for net cash proceeds of $52.4 million (“SCUSA Disposition”). The Company recorded a net gain of $43.3 million. This disposition resulted in the Company selling all of its retail bedding segment assets.
Concurrent with the sale of SCUSA, the Company entered into a multi-year supply agreement with Sleep Train which will result in the Company having a significant ongoing interest in the cash flows of SCUSA. Since the Company has an ongoing interest in the cash flows of SCUSA, the Company did not report the gain on disposition or SCUSA’s results of operations as discontinued operations in the accompanying consolidated statements of operations and comprehensive income (loss).
Pro Forma Financial Data
The ComforPedic Acquisition is not considered significant to the Company’s consolidated balance sheet and consolidated statements of operations and comprehensive income (loss). Therefore, pro forma information has not been presented.
The unaudited pro forma consolidated net sales and net income for 2006 were $1,019.3 million and $18.9 million, respectively, and assume that both the Canada Acquisition and the SCUSA Disposition were completed as of the beginning of the Company’s 2006 fiscal year.
The pro forma data may not be indicative of the results that would have been obtained had these events actually occurred at the beginning of the period presented, nor does it intend to be a projection of future results.
NOTE E - RESTRUCTURING CHARGES
In June and October 2008, the Company announced workforce reductions in response to the downturn in the economy since the second half of 2007. These workforce reductions were completed in 2008. Associates terminated under these announced workforce reductions were offered certain benefits including severance, outplacement services and health insurance. The Company recognized a pre-tax restructuring charge for severance and benefits of $3.8 million in 2008 related to these planned workforce reductions, which will be payable through March 2010. The Company will not incur expenses after March 2010 associated with these workforce reductions.
On August 15, 2008, the Bramalea, Ontario facility’s office and production workers, all members of the Canada Auto Workers Union Local 513 (“CAW 513”), ceased work and commenced a strike against the facility. As the strike continued, the Company evaluated its various alternatives, and decided to initiate the actions required to permanently shut down the facility due to the financial impact of the strike and its effect on customers and revenues. The closure of the Ontario Plant was announced on September 8, 2009. In connection with the facility closure, the National Automobile, Aerospace, Transportation and General Workers Union of Canada and its Local 513 filed an unfair labor practice charge and three former production employees filed a wrongful termination claim against the Company on behalf of themselves and a class of similarly situated former employees. In June 2009, the Company entered into tentative settlement agreements as to both disputes, although certain conditions, including obtaining leave of court to dismiss the class action must be met before the settlements will be final. An estimated settlement amount has been recorded as part of the restructuring severance and benefits.
In September 2008, the Company announced and completed the closure of its Mableton, Georgia manufacturing facility. The decision to close the Mableton facility resulted from the current macroeconomic environment and lower manufacturing requirements.
The Company recognized a pre-tax restructuring charge in 2008 related to the closure of the facilities of $4.7 million, which consisted of $2.4 million in severance and benefits and $2.3 million in lease facility costs. In addition to the costs recognized in 2008, the Company anticipates incurring certain other cash charges related to the closure of the facilities that will be expensed as incurred. These additional charges include cost principally related to maintaining the unoccupied leased facilities and the relocation of manufacturing equipment. While the estimate of these costs, in total, is not yet final, the Company currently expects that the costs will total approximately $1.4 million to be incurred through the first quarter of 2010.
In September 2008, Charles R. Eitel resigned as Chairman and Chief Executive Officer of the Company and entered into a written separation agreement with the Company. Mr. Eitel assumed the role of Vice Chairman of the Board of Directors. The Company recorded a restructuring charge in 2008 of $1.7 million related to severance and benefits payable until September 2010 under the separation agreement.
Simmons Company Notes to Consolidated Financial Statements
The following table represents the pre-tax restructuring charges related to the above initiatives, including facility closures and organizational changes, recognized during the fiscal year ended December 27, 2008, for each operating segment (in thousands):
The Company incurred no restructuring charges in 2007 and 2006.
The following table reconciles the accrued restructuring charges discussed above for the year ended December 27, 2008 (in thousands):
NOTE F - INVENTORIES
Inventories consisted of the following as of December 27, 2008 and December 29, 2007 (in thousands):
Simmons Company Notes to Consolidated Financial Statements
NOTE G - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consisted of the following as of December 27, 2008 and December 29, 2007 (in thousands):
Depreciation expense for 2008, 2007 and 2006 was $16.9 million, $13.3 million and $10.1 million, respectively. Interest capitalized in 2008 and 2007 was less than $0.1 million in 2008 and $0.8 million in 2007. No interest was capitalized for 2006. The unamortized computer software costs included in office furniture and equipment at December 27, 2008 and December 29, 2007 was $17.8 million and $11.8 million, respectively. The amortization of computer software costs included within depreciation expense for 2008, 2007 and 2006 was $3.4 million, $1.8 million and $1.5 million, respectively.
NOTE H - GOODWILL AND OTHER INTANGIBLE ASSETS
Intangible assets consisted of the following as of December 27, 2008 and December 29, 2007 (in thousands):
The aggregate amortization expense associated with the definite-lived intangible assets for the year ended December 27, 2008 was $6.3 million. The estimated amortization expense for definite-lived intangible assets for each of next five years is $6.2 million.
In the fourth quarter of 2008, the Company significantly lowered its projected future operating results for both its Domestic and Canada reporting units based on deterioration of consumer spending and increased material costs. The Company’s five year projections of operating results assumed that the current economic downturn would continue through 2009, followed by recovery in the second half of 2010 through 2011, and long-term industry growth rates for 2012 and beyond. Operating margin assumptions during the five year projection periods were consistent with the Company’s historical averages. The Company used a 17% discount rate to calculate the terminal value of its reporting units, which was higher than the 14% discount rate used in 2007. The Company’s discount rate increased principally as a result of higher risk premiums associated with the Company’s debt due to the combination of the Company being in violation of a debt covenant and disruptions in the credit market as of the testing date. A one percentage point increase in the discount rate would have decreased the fair value of the Domestic and Canada reporting units by $15.0 million and $2.0 million, respectively. A one percentage point decrease in the discount rate would have increased the fair value of the Domestic and Canada reporting units by $15.0 million and $2.5 million, respectively. The Company used a long-term growth factor of 4% to calculate the terminal value of its reporting units, which is consistent with the rate used in 2007. Based on the lower projected future operating results, the Company determined that the forecasted earnings and cash flows of the reporting units no longer supported their carrying value of goodwill. As a result, non-cash pretax goodwill impairment charges were recognized for its Domestic and Canada reporting units of $294.0 million and $9.9 million, respectively. Also, as a result of the Company’s lowered projected future operating results, the carrying value of its trademarks exceeded their fair value. As a result, non-cash pretax trademark impairment charges were recognized for its Domestic and Canada reporting segments of $225.8 million and $17.9 million, respectively. The Company did not recognize any goodwill or trademark impairment charges for 2007 and 2006.
Simmons Company Notes to Consolidated Financial Statements
The table below shows the changes in the carrying amount of goodwill by the reportable segment for the year ended December 27, 2008 (in thousands):
NOTE I - ACCRUED LIABILITIES
Accrued liabilities consisted of the following as of December 27, 2008 and December 29, 2007 (in thousands):
NOTE J -DEBT
Debt consisted of the following as of December 27, 2008 and December 29, 2007 (in thousands):
Simmons Company Notes to Consolidated Financial Statements
Senior Credit Facility
The senior credit facility provides for a $75.0 million revolving loan facility and a $465.0 million tranche D term loan facility. The revolving loan under the senior credit facility will expire on the earlier of (a) December 19, 2009 or (b) as revolving credit commitments under the facility terminate. As of December 27, 2008, under the revolving loan facility, the Company had $64.5 million of borrowings and $10.4 million that was reserved for the Company’s reimbursement obligations with respect to outstanding letters of credit. The Company incurs an unused line fee of 0.50% per annum on the unused portion of its revolving loan facility.
The tranche D term loans under the senior credit facility will expire on December 19, 2011. The tranche D term loan has a mandatory principal payment of $113.5 million on March 31, 2011 and quarterly mandatory principal payments of $117.2 million from June 30, 2011 through maturity on December 19, 2011. Depending on Simmons Bedding’s leverage ratio, it may be required to prepay a portion of the tranche D term loan with up to 50% of its excess cash flow (as defined in the senior credit facility) from each fiscal year. The Company was not required to prepay a portion of the tranche D term loan in fiscal year 2008.
The senior credit facility bears interest at the Company’s choice of the Eurodollar Rate or Base Rate (both as defined), plus the applicable interest rate margins. The weighted average interest rate per annum in effect as of December 27, 2008 for the tranche D term loan was 9.6%. The senior credit facility is guaranteed by THL-SC and all of Simmons Bedding’s material domestic subsidiaries, and Simmons Bedding has pledged substantially all of its assets to the senior credit facility.
The senior credit facility requires Simmons Bedding to maintain certain financial ratios, including cash interest coverage (adjusted EBITDA to cash interest expense) and total leverage (net debt to adjusted EBITDA) ratios. Adjusted EBITDA (as defined in the senior credit facility) differs from the term “EBITDA” as it is commonly used. In addition to adjusting net income to exclude interest expense, income taxes, depreciation and amortization, Adjusted EBITDA, as the Company interpreted the definition of Adjusted EBITDA from the senior credit facility, also adjusts net income by excluding items or expenses not typically excluded in the calculation of “EBITDA” such as management fees; other non-cash items reducing consolidated net income (including, without limitation, non-cash purchase accounting adjustments and debt extinguishment costs); any extraordinary, unusual or non-recurring gains or losses or charges or credits; and any reasonable expenses or charges related to any issuance of securities, investments permitted, permitted acquisitions, recapitalizations, asset sales permitted or indebtedness permitted to be incurred, less other non-cash items increasing consolidated net income (loss), all of the foregoing as determined on a consolidated basis for Simmons Bedding in conformity with GAAP.
The financial covenants are as follows:
1) A minimum cash interest coverage ratio, with compliance levels ranging from cash interest coverage of no less than 2.75:1.00 for December 27, 2008 and 3.00:1.00 from March 31, 2009 through each fiscal quarter ending thereafter.
2) A maximum leverage ratio, with compliance levels ranging from total leverage of no greater than 4.50:1.00 for December 27, 2008 and 4.00:1.00 from March 31, 2009 through each fiscal quarter ending thereafter.
For the quarter ended September 27, 2008, Simmons Bedding was not in compliance with the maximum leverage financial covenant and certain other covenants contained in its senior credit facility. In response thereto, Simmons Bedding was unable to negotiate a waiver of such defaults with its senior lenders and entered into the First Forbearance Agreement and Second Amendment to the Second Amended and Restated Credit and Guaranty Agreement (“First Forbearance Agreement”) on November 12, 2008 and the Second Forbearance Agreement and Third Amendment to the Second Amended and Restated Credit and Guaranty Agreement and First Amendment to the Pledge and Security Agreement (the “Second Forbearance Agreement”) on December 10, 2008 with its senior lenders. Based on the terms of the First Forbearance Agreement, the senior lenders agreed to, among other things, forbear from exercising their default-related rights and remedies under the senior credit facility against Simmons Bedding through December 10, 2008, provided that Simmons Bedding satisfied certain conditions. The Second Forbearance Agreement extended the forbearance period through March 31, 2009, subject to earlier termination in some circumstances. Simmons Bedding entered into (i) that certain First Amendment to Second Forbearance Agreement; Fourth Amendment to the Second Amended and Restated Credit and Guaranty Agreement and Second Amendment to the Pledge and Security Agreement (the “First Amendment to the Second Forbearance Agreement”) on March 25, 2009, pursuant to which the senior lenders extended the forbearance period under the Second Forbearance Agreement through May 31, 2009 and, upon satisfaction of certain conditions, July 31, 2009 and (ii) that certain Second Amendment to Second Forbearance Agreement; Fifth Amendment to the Second Amended and Restated Credit and Guaranty Agreement and Third Amendment to the Pledge and Security Agreement (the “Second Amendment to the Second Forbearance Agreement” and, together with the First Amendment to the Second Forbearance Agreeement, the “Amendment to the Second Forbearance Agreement”) on May 27, 2009, pursuant to which the senior lenders extended the forbearance period under the Second Forbearance Agreement through June 30, 2009 and, upon satisfaction of certain conditions, July 31, 2009.
During the forbearance period, the senior lenders will provide no additional loans or financial accommodation to Simmons Bedding except for the issuance, renewal, extension or replacement of letters of credit and revolving loans provided in certain limited circumstances related to the letters of credit as set forth in the forbearance agreements. In addition, Simmons Bedding will not be permitted to, directly or indirectly, incur indebtedness or liens, make investments or restricted junior payments, or consummate any asset sales, except in the ordinary course of business, during the forbearance period.
Simmons Company Notes to Consolidated Financial Statements
During the forbearance period under the First Forbearance Agreement, the applicable margin on the revolving loans and tranche D term loans increased 2.0% per annum above the rate otherwise applicable. The Second Forbearance Agreement amended the senior credit facility to, among other things:
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Increase the applicable margin for both the revolving loans and the tranche D term loans to either Base Rate plus 5.285% per annum or Eurodollar Rate plus 6.285% per annum;
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Establish a floor for the Base Rate and Eurodollar Rate of 3.25% and 4.25%, respectively, per annum at the earlier of the termination of the Second Forbearance Agreement or March 31, 2009;
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Eliminate the 2% per annum penalty rate applicable to overdue payments of principal and interest; and
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Make interest payable on the revolving loans and tranche D term loans as of the last business calendar day of each month.
The Second Forbearance Agreement also required Simmons Bedding to enter into deposit account control agreements with respect to all its bank accounts, with certain exceptions. The Second Forbearance Agreement included certain covenants including:
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Minimum liquidity requirements whereby Simmons Bedding will maintain a daily cash balance of not less than $2.5 million for any two consecutive business days and an average daily cash balance of not less than $7.5 million for any five consecutive business days;
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Provide a long-term business plan to the senior lenders by January 7, 2009;
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Commence a process to solicit new debt and/or equity investment by January 9, 2009;
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Provide a potential restructuring proposal to the senior lenders by January 26, 2009; and
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Increased financial reporting requirements
As of December 27, 2008, the Company was in compliance with the covenant requirements of the Second Forbearance Agreement.
The Amendment to the Second Forbearance Agreement amended the senior credit facility to, among other things, increase the applicable margin for both revolving loans and tranche D term loans to either Base Rate plus 6.25% per annum or Eurodollar Rate plus 7.25% per annum.
During the forbearance period, as extended by the Amendment to the Second Forbearance Agreement, Simmons Bedding met its requirement, in addition to the other covenants set forth in the Second Forbearance Agreement, to (a) provide the legal and financial advisors to the senior lenders with weekly updates on the ongoing restructuring process and (b) facilitate a meeting between certain senior lenders and the selected bidders before April 17, 2009.
In connection with the First Forbearance Agreement, Simmons Bedding agreed to pay (a) the senior lenders who approved the agreement a forbearance fee equal to 0.125% of the aggregate outstanding amount of such lender’s outstanding debt under the senior credit facility and (b) the fees and expenses of the lender’s counsel in connection with the First Forbearance Agreement. In connection with the Second Forbearance Agreement, Simmons Bedding agreed to pay (a) the senior lenders who approved the agreement a forbearance fee equal to 0.5% of the aggregate outstanding amount of such lender’s outstanding debt under the senior credit facility and (b) the fees and expenses of the lender’s counsel and financial advisor in connection with the Second Forbearance Agreement. The Company capitalized the lender fees of $3.3 million, of which $1.3 million will be paid in 2009, and expensed the third party fees associated with the forbearance agreements.
Simmons Company Notes to Consolidated Financial Statements
Subordinated Notes
Simmons Bedding’s Subordinated Notes bear interest at the rate of 7.875% per annum, which is payable semi-annually in cash in arrears on January 15 and July 15. The Subordinated Notes mature on January 15, 2014 and are subordinated in right of payment to all existing and future senior indebtedness of Simmons Bedding.
The Subordinated Notes are redeemable at the option of the Company beginning January 15, 2009 at prices decreasing from 103.9% of the principal amount thereof to par on January 15, 2012 and thereafter. The Company is not required to make mandatory redemption or sinking fund payments with respect to the Subordinated Notes.
Simmons Bedding did not make a scheduled payment of $7.9 million of interest due on January 15, 2009 on the Subordinated Notes resulting in an event of default under the indenture governing the Subordinated Notes. Such event of default enabled the holders of the Subordinated Notes to declare the full amount of the Subordinated Notes immediately due and payable. On February 4, 2009, Simmons Bedding and a majority of the outstanding Subordinated Notes holders approved a Forbearance Agreement to the Indenture (“Subordinated Forbearance Agreement”), pursuant to which such noteholders have agreed to refrain from enforcing their respective rights and remedies under the Subordinated Notes and the related indenture through March 31, 2009. In connection with the Subordinated Forbearance Agreement, Simmons Bedding agreed to pay the fees and expenses of the legal and financial advisors of the committee to the noteholders. Simmons Bedding entered into amendments to the Subordinated Forbearance Agreement on March 25, 2009 and May 27, 2009, whereby the majority of the outstanding Subordinated Notes holders extended their forbearance period through May 31, 2009 and June 30, 2009, respectively, and upon meeting certain conditions, a further extension to July 31, 2009. Pursuant to the terms of the Subordinated Forbearance Agreement, the noteholders party to the Subordinated Forbearance Agreement have the obligation to take any actions that are necessary to prevent an acceleration of the payments due under the Subordinated Notes during the forbearance period. Because the noteholders party to the Subordinated Forbearance Agreement represent more than a majority of the Subordinated Notes, they have the power under the indenture to rescind any acceleration of the Subordinated Notes by either the trustee or the minority holders of the Subordinated Notes. In consideration for their entry into the amendment to the Subordinated Forbearance Agreement, the noteholders party to the Subordinated Forbearance Agreement received an amendment fee equal to 0.5% of the aggregate outstanding amount of such holder’s Subordinated Notes.
The indenture for the Subordinated Notes requires Simmons Bedding to comply with certain restrictive covenants, including restrictions on dividends, and limitations on the occurrence of indebtedness, certain payments and distributions, and sales of Simmons Bedding’s assets and stock.
Discount Notes
The Company’s senior discount notes, with an aggregate principal amount at maturity of $269.0 million, bear interest at the rate of 10.0% per annum payable semi-annually in cash in arrears on June 15 and December 15 of each year commencing on June 15, 2010. Prior to December 15, 2009, interest accrues on the Discount Notes in the form of an increase in the accreted value of the Discount Notes. The Company’s ability to make payments on the Discount Notes is dependent on the earnings and distribution of funds from Simmons Bedding to Holdings.
The Discount Notes are redeemable at the Company’s option beginning December 15, 2009 at prices decreasing from 105.0% of the principal amount thereof to par on December 15, 2012 and thereafter. The Company is not required to make mandatory redemption or sinking fund payments with respect to the Discount Notes.
If any of the Discount Notes are outstanding on June 15, 2010, the Company is obligated to redeem for cash a portion of each Discount Note then outstanding in an amount equal to (i) the excess of the aggregate amount of accrued and unpaid interest and original issue discount on the Discount Notes over (ii) the issue price of the Discount Notes multiplied by the yield to maturity of the Discount Notes (the “Mandatory Principal Redemption Amount) plus a premium equal to 5.0% (one-half of the coupon) of the Mandatory Principal Redemption Amount. No partial redemption or repurchase of the Discount Notes pursuant to any other provision of the indenture will alter the obligation of the Company to make this redemption with respect to any Discount Notes then outstanding. Assuming no redemptions prior to June 15, 2010, the Company would be obligated to make a mandatory principal payment of $90.2 million and an interest and premium payment of $18.0 million on June 15, 2010.
The indenture for the Discount Notes requires Holdings to comply with certain restrictive covenants, including a restriction on dividends; and limitations on the incurrence of indebtedness, certain payments and distributions, and sales of Holdings’ assets and stock. Pursuant to the reporting covenants contained in the indentures governing Discount Notes, the Company agreed to furnish its holders of the Discount Notes all quarterly and annual reports that would be required to be filed with the SEC if the Company was required to file such reports. Simmons Company failed to file its Financial Reports with the SEC resulting in the Company’s non-compliance with the reporting covenants. The Company has 60 days after receiving notice from the lenders to cure the non-compliance by providing such information to the lenders. If the Company was unable to cure the non-compliance, there would be an event of default under the indenture governing the Discount Notes.
On April 14, 2009, the Company received a notice sent on behalf of holders of the Discount Notes, purporting to own more than 25% of the $269.0 million principal amount of the outstanding Discount Notes, pursuant to which such holders have notified the Company that its failure to furnish to the holders of the Discount Notes (i) a Quarterly Report on Form 10-Q for the third quarter ended September 27, 2008 and (ii) an Annual Report on Form 10-K for the fiscal year ended December 27, 2008, each as required under the indenture governing the Discount Notes, constitutes defaults thereunder. With the filing of this Annual Report on Form 10-K for the fiscal year ending December 27, 2008 along with the filing of the Quarterly Report on Form 10-Q for the third quarter ended September 27, 2008, the Company has cured these defaults. The Company has not received notice of non-compliance with the reporting covenant for the Quarterly Report on Form 10-Q for the first quarter ended March 28, 2009. If the Company receives such notice and were unable to cure the non-compliance within 60 days of receiving such notice, there would be an event of default under the indenture governing the Discount Notes.
Simmons Company Notes to Consolidated Financial Statements
Toggle Loan
The Company does not guarantee or have any of our assets pledged as collateral under Simmons Holdco’s $300 million Toggle Loan. The Toggle Loan is structurally subordinated in right of payment to any of the Company’s existing and future liabilities. Although the Company is not obligated to make cash distributions to service principal and interest on the Toggle Loan, Simmons Holdco is dependent on the Company’s cash flow to meet the interest and principal payments under the Toggle Loan. The Toggle Loan is not included in the Company’s financial statements. During the 2008, the Company provided $29.1 million of cash to Simmons Holdco, reflected as a dividend in the financial statements of the Company, so that Simmons Holdco could pay interest on the Toggle Loan, repurchase shares of its common stock, and pay operating expenses of Simmons Holdco. Under the terms of the credit agreement governing the Toggle Loan, Simmons Holdco may elect to pay future interest in cash or add such interest to the principal amount of the Toggle Loan. However, the Second Forbearance Agreement, as amended, prohibits the Company from making distributions to its parent companies during the forbearance period, except in the ordinary course of business. Accordingly, Simmons Holdco has elected to make its February and August 2009 interest payments on the Toggle Loan by adding such interest to the principal amount of the Toggle Loan. The Toggle Loan matures in February 2012. An acceleration of indebtedness under the senior credit facility, Subordinated Notes or Discount Notes would trigger an event of default under the Toggle Loan.
Aggregate Long-Term Debt Maturities
As a result of Simmons Bedding not being in compliance with the covenants of the senior credit facility and the forbearance period ends within one year of December 27, 2008, the Company has recorded all amounts outstanding under the senior credit facility as a current portion of debt as of December 27, 2008 in the accompanying consolidated balance sheet. Since the Subordinated Notes and Discount Notes contain default provisions whereby the note holders can accelerate amounts due under both notes if the senior lenders accelerate amounts due under the senior credit facility, the Company recorded all amounts outstanding under the Subordinated Notes and Discount Notes as a current portion of debt as of December 27, 2008 in the accompanying 2008 consolidated balance sheet.
Future maturities of debt, exclusive of the Discount Notes unamortized original issue discount of $23.9 million, as of December 27, 2008 are as follows (in thousands):
NOTE K - LEASES AND OTHER COMMITMENTS
The Company leases certain manufacturing, office, show room, research and outlet retail facilities and equipment under operating leases. The Company’s lease expense was $24.3 million, $23.6 million and $25.3 million for 2008, 2007 and 2006, respectively. The Company’s lease expense for 2006 included $5.8 million associated with the Company’s retail operations, which were disposed of in August 2006 (see Note D - Acquisitions and Dispositions).
The following is a schedule of the future minimum rental payments required under operating leases that have initial or remaining non-cancelable lease terms in excess of one year as of December 27, 2008 (in thousands):
Simmons Company Notes to Consolidated Financial Statements
The Company has the option to renew certain manufacturing facility leases, with the longest renewal period extending through 2027. Most of the operating leases provide for increased rent payments tied to increases in general price levels.
The Company has various purchase commitments with certain suppliers in which the Company is committed to purchase approximately $30.6 million of raw materials from these vendors in 2009. If the Company does not reach the committed level of purchases, various additional payments could be required to be paid to these suppliers or certain sales volume rebates could be lost.
NOTE L - LICENSING
The Company licenses internationally (excluding Canada) the Simmons® and Beautyrest® trademarks, and many of its other trademarks, processes and patents to third-party manufacturers which produce and distribute Simmons® branded conventional bedding products within their designated territories. These licensing agreements allow the Company to reduce exposure to political and economic risks abroad by minimizing investments in those markets. The Company has 16 foreign licensees and eight sub-licensees. These foreign licensees have rights to sell Simmons-branded products in over 100 countries.
Additionally, the Company has ten domestic and Canadian third-party licensees. Some of these licensees manufacture and distribute juvenile furniture and healthcare-related furniture, and non-bedding upholstered furniture. Additionally, the Company has licensed the Simmons® trademark and other trademarks, generally for limited terms, to manufacturers of occasional use airbeds, futons, comforters, pillows, mattress pads, blankets, and other products.
Licensing revenues are recorded as earned, based upon the sales of licensed products by the Company’s licensees. For 2008, 2007 and 2006 the Company’s licensing agreements as a whole generated royalties and technology fees of approximately $9.5 million, $10.1 million and $8.7 million, respectively.
NOTE M - STOCK BASED COMPENSATION
Under Simmons Holdco’s incentive plans, the Company is authorized to grant up to 821,775 shares of class B common stock of Simmons Holdco as options, restricted stock, warrants or other stock based awards to the management, directors and consultants of the Company. Vesting of awards is subject to the achievement of performance and service criteria. As of December 27, 2008, the Company had issued restricted stock awards, stock option awards and warrants under the incentive plans. Since the Company determined in 2008 that it was unlikely to meet future vesting performance targets for the unvested awards, the Company reversed all previously recognized compensation expense and accruals associated with the unvested awards. Non-cash stock compensation expense/(benefit) recorded in connection with the awards was $(0.4) million for 2008, less than $0.1 million for 2007 and $0.8 million for 2006. The Company paid $0.1 million and $0.7 million in 2008 and 2007, respectively, to settle vested stock based awards.
NOTE N - INCOME TAXES
The components of the provision for income taxes are as follows (in thousands):
Simmons Company Notes to Consolidated Financial Statements
Income (loss) before income taxes consisted of the following:
The reconciliation of the statutory federal income tax rate to the effective income tax rate for 2008, 2007 and 2006 provision for income taxes is as follows (in thousands):
Components of the Company’s net deferred income tax liability as of December 27, 2008 and December 29, 2007 is as follows (in thousands):
Simmons Company Notes to Consolidated Financial Statements
As of December 27, 2008, the Company had U.S. federal net operating loss carryforwards of $54.1 million. If not used, these carryforwards will expire in varying amounts between 2023 and 2028. Additionally, as of December 27, 2008, the Company had state net operating loss carryforwards of $108.5 million and Canadian net operating loss carryforwards of $10.8 million. If not used, state operating loss carryforwards will expire in varying amounts between 2009 and 2028, and the Canadian net operating loss will expire in 2028.
As of December 27, 2008, the Company had $4.9 million of general business tax credits, $4.3 million of foreign tax credits, and $1.8 million of minimum tax credits available to offset future payments of U.S. federal income tax. If not used, the general business and foreign tax credits will expire in varying amounts between 2013 and 2028. The minimum tax credits can be carried forward indefinitely. The Company also had $2.3 million of state income tax credits, expiring in varying amounts between 2009 and 2025 and $0.1 million of non-U.S. tax credits available to offset future payments of foreign income tax, which can be carried forward indefinitely. A change in ownership of the Company could potentially limit the utilization of the Company’s net operating losses and tax credit carryforwards.
Realization of the tax benefits of net operating loss carryforwards and tax credit carryforwards is dependent upon the company’s ability to generate sufficient future taxable income in the appropriate taxing jurisdictions and within the applicable carryforward periods. After giving consideration to current forecasts of future taxable income and the expiration period of the carryforward tax benefits, the Company has recorded valuation allowances to offset substantially all net deferred income tax assets.
As of December 27, 2008, a valuation allowance of $22.9 million was recorded for the deferred tax assets related to the following carryforward tax benefits: federal net operating losses ($5.9 million), certain state net operating losses ($6.6 million), foreign tax credits ($3.8 million), general business tax credits ($2.4 million), certain state income tax credits ($2.3 million), federal minimum tax credits ($1.8 million), and foreign jurisdiction income tax credits ($0.1 million). The Company established the valuation allowance for its foreign tax credit carryforwards in the fourth quarter of 2006. As a direct result of the acquisition of Simmons Canada and the impact of such acquisition on the Company’s calculation of net foreign source income, the Company does not believe at the present time that it will be able to fully utilize its foreign tax credits. With respect to state tax benefit carryforwards, the valuation allowance that was originally established in 2005 has been adjusted to reflect additional state tax benefits recognized in 2006, 2007 and 2008 for which the Company does not believe it is more-likely-than-not that such benefits will be realized after giving consideration to the expiration period of the state tax benefit carryforwards and current forecasts of future state taxable income.
As of December 29, 2007, the Company had a valuation allowance of $9.3 million for the deferred tax assets related to the following carryforward tax benefits: foreign tax credits ($2.8 million), certain state net operating loss carryforwards ($4.2 million), certain state income tax credits ($2.2 million), and foreign jurisdiction income tax credits ($0.1 million).
Cumulative undistributed losses of the Company's international subsidiaries totaled approximately $12.2 million as of December 27, 2008.
In the normal course of business, the Company provides for uncertain tax positions and the related interest and penalties and adjusts its unrecognized tax benefits and accrued interest and penalties accordingly. As of December 27, 2008, the total gross amount of unrecognized tax benefits was $19.9 million. Included therein was $17.7 million of net tax benefits that, if recognized, would impact the Company’s effective tax rate. As of December 29, 2007, the total gross amount of unrecognized tax benefits was $20.1 million. Included therein was $6.6 million of net tax benefits that, if recognized, would impact the Company’s effective tax rate. A reconciliation of the beginning and ending balance of unrecognized tax benefits follows (in thousands):
The Company does not expect any significant changes to the unrecognized tax benefits within twelve months of the reporting date.
The Company classifies interest and penalties related to uncertain income tax positions as income tax expense. As of December 27, 2008 and December 29, 2007, the Company’s uncertain tax positions included interest of $0.9 million and $0.7 million, and penalties of $0.5 million and $0.3 million, respectively.
The Company and its subsidiaries file income tax returns in the U.S., Canada, and Puerto Rico, as well as in multiple state and provincial jurisdictions therein. With few exceptions, the Company is no longer subject to income tax examinations by any taxing authorities for years prior to 1999. The Company is not currently under any U.S., Canada, or Puerto Rico federal income tax audit, nor have there been any notices received of any such anticipated audits. The Company and its subsidiaries are however subjected to occasional state audits. None of the current state income tax audits include any proposed adjustments that would be considered significant, individually or in total, for which reserves have not already been accrued.
Simmons Company Notes to Consolidated Financial Statements
NOTE O - RETIREMENT PLANS
PENSION AND POST RETIREMENT PLANS
In connection with the Canada Acquisition, the Company assumed Simmons Canada’s registered combined non-contributory defined benefit and defined contribution pension plan for substantially all of the employees of Simmons Canada. Under the registered defined benefit plan segment (“Pension Plan”), benefits are based upon an employee’s earnings and years of credited service. The registered defined benefit plan is funded based on the funding requirements of applicable government regulations. In addition, the Company assumed Simmons Canada’s retirement compensation arrangements (“RCA”) for certain senior officials of Simmons Canada which provide retirement benefits in addition to the registered defined benefit plan.
The Company also provides post retirement health care and life insurance benefits (“FAS 106 Plans”) for a small group of current and former employees. The Company accrues the cost of providing post retirement benefits, including medical and life insurance coverage, during the active service period for certain employees. The FAS 106 Plans are unfunded.
The measurement of the Pension Plan, RCA and FAS 106 Plans was as of December 27, 2008 and December 29, 2007 for each respective period. The following table sets forth summarized information for the funded status of the Pension Plan, RCA and FAS 106 Plans (in thousands):
Simmons Company Notes to Consolidated Financial Statements
The following table sets forth the amounts recognized in the accompanying consolidated balance sheets (in thousands):
The accumulated benefit obligation of the Pension Plan was $17.3 million and $22.6 million as of December 27, 2008 and December 29, 2007, respectively.
The actuarial present value of the benefit obligation of the Pension Plan, RCA and FAS 106 Plans as of December 27, 2008 and December 29, 2007 were determined based on the following weighted average assumptions:
The net periodic cost related to the Pension Plan, RCA and FAS 106 Plans included the following components (in thousands):
Simmons Company Notes to Consolidated Financial Statements
The one time curtailment gain of $0.6 million and a contractual termination benefits charge of $2.3 million both related to the pension plan as a result of the closure of our Bramalea, Ontario plant. The one time curtailment loss of $1.5 million related to the FAS 106 Plans resulted from the closure of our Atlanta, Georgia plant (see Note E - Restructuring Charges).
The other changes in plan assets and benefit obligations recognized in other comprehensive income included the following pre-tax components (in thousands):
The estimated net loss for the Pension Plan and RCA Plan that will be amortized from accumulated other comprehensive income into net periodic benefit cost over the next fiscal year will be zero and $0.1 million, respectively. The estimated net loss and transition obligation for the FAS 106 Plans that will be amortized from accumulated other comprehensive income into net periodic benefit cost over the next fiscal year are $0.2 million and $0.2 million, respectively.
The obligations and net periodic cost for the FAS 106 Plans are determined based on assumptions relating to health care cost increases. These assumptions do not have a significant effect on the obligations or net periodic cost. A 1% increase or decrease in the assumed health care cost trend rate would not have a material effect on the obligations or components of net periodic cost.
The assumed discount rate is based upon a portfolio of high-grade corporate bonds, which are used to develop a yield curve. This yield curve is applied to the expected duration of the pension obligation.
The allocation, by asset category, of the assets of the Pension Plan and RCA as of December 27, 2008 and December 29, 2007 was as follows:
Simmons Company Notes to Consolidated Financial Statements
The Company’s investment strategy for the Pension Plan and RCA is to maximize the long-term rate of return on plan assets within an acceptable level of risk. The Pension Plan investment policy establishes a target allocation range for each asset class and the fund is managed using these guidelines. The target allocation of the plans is 60% equity securities and 40% debt securities. The plans use a number of investment approaches including equity and fixed income funds in which the underlying securities are marketable in order to achieve this target allocation. The expected rate of return was determined by modeling the expected long-term rates of return for each asset class held by the plan based on current economic conditions.
The following table sets forth the expected benefit payments related to the Pension Plan and the RCA to be paid out in the periods indicated (in thousands):
The Company anticipates making contributions to the Pension Plan and FAS 106 Plans of approximately $1.1 million and $0.7 million, respectively, in 2009 and no contributions are expected for the RCA in 2009. The contributions to the Pension Plan principally represent contributions required by funding regulations.
OTHER PLANS
The Company has a defined contribution 401(k) plan for substantially all of its U.S. employees other than certain union employees that participate in multi-employer pension plans sponsored by a union. In 2008, 2007 and 2006, the Company made contributions to the 401(k) plan and the defined contribution segment of the Pension Plan in the aggregate of $4.7 million, $4.6 million and $4.1 million, respectively.
The Company also makes contributions to multi-employer pension plans in the U.S. and Canada sponsored by various unions for the Company’s employees who are members of a union. In 2008, 2007 and 2006, the Company made contributions of $1.6 million, $1.9 million and $1.7 million, respectively, in the aggregate to such plans. In addition, the Company maintains unfunded supplemental executive retirement plans (“SERP”) for certain employees and former employees of the Company. The Company had an accrued liability of $3.1 million and $3.2 million as of December 27, 2008 and December 29, 2007, respectively for the SERP.
Simmons Company Notes to Consolidated Financial Statements
NOTE P - COMMITMENTS AND CONTINGENCIES
From time to time, the Company has been involved in various legal proceedings. In November 2008, three former employees filed a wrongful dismissal class action against the Company’s subsidiary, Simmons Canada Inc., on behalf of themselves and a proposed class comprised of the unionized former employees who were terminated as a result of the Company’s closure of its Bramalea, Ontario facility in September 2008. In June 2009, the Company entered into tentative settlement agreements with the plaintiffs, however, the agreement will not be final until certain conditions are met, including plaintiffs' obtaining leave of court to dismiss the case. With the exception of this matter, the Company believes that all litigation is routine in nature and incidental to the conduct of the Company’s business, and that none of this litigation, if determined adversely to the Company, would have a material adverse effect on the Company’s financial condition or results of its operations.
The Company does not guarantee or have any of our assets pledged as collateral under Simmons Holdco’s $300 million Toggle Loan. The Toggle Loan is structurally subordinated in right of payment to any of the Company’s existing and future liabilities. Although the Company is not obligated to make cash distributions to service principal and interest on the Toggle Loan, Simmons Holdco is dependent on the Company’s cash flow to meet the interest and principal payments under the Toggle Loan. The Toggle Loan is not included in the Company’s financial statements. During the 2008, the Company provided $29.1 million of cash to Simmons Holdco, reflected as a dividend in the financial statements of the Company, so that Simmons Holdco could pay interest on the Toggle Loan, repurchase shares of its common stock, and pay operating expenses of Simmons Holdco. Under the terms of the credit agreement governing the Toggle Loan, Simmons Holdco may elect to pay future interest in cash or add such interest to the principal amount of the Toggle Loan. However, the Second Forbearance Agreement, as amended, prohibits the Company from making distributions to its parent companies during the forbearance period, except in the ordinary course of business. Accordingly, Simmons Holdco has elected to make its February and August 2009 interest payments on the Toggle Loan by adding such interest to the principal amount of the Toggle Loan. The Toggle Loan matures in February 2012. An acceleration of indebtedness under the senior credit facility, Subordinated Notes or Discount Notes would trigger an event of default under the Toggle Loan.
NOTE Q - SEGMENT INFORMATION
As a result of the Canada Acquisition and SCUSA Disposition (see Note D - Acquisition and Disposition), the Company has determined that it has two reportable segments organized by geographic area, Domestic (including Puerto Rico) and Canada. Both segments manufacture, sell and distribute premium branded bedding products to retail customers and institutional users of bedding products, such as the hospitality industry.
The Company evaluates segment performance and allocates resources based on net sales and Adjusted EBITDA. Adjusted EBITDA differs from the term “EBITDA” as it is commonly used. In addition to adjusting net income to exclude interest expense, income taxes, depreciation and amortization, Adjusted EBITDA also adjusts net income by excluding items or expenses not typically excluded in the calculation of “EBITDA” such as management fees and unusual or non-recurring items as defined by the Company’s senior credit facility. Management believes the aforementioned approach is the most informative representation of how management evaluates performance. Adjusted EBITDA does not represent net income or cash flow from operations as those terms are defined by GAAP and does not necessarily indicate whether cash flows will be sufficient to fund cash needs.
The following table summarizes our segment information for the years ended December 27, 2008, December 29, 2007, and December 30, 2006 (in thousands):
Simmons Company Notes to Consolidated Financial Statements
Simmons Company Notes to Consolidated Financial Statements
Simmons Company Notes to Consolidated Financial Statements
* Other consists of retail operations prior to the sale of Sleep Country USA, LLC in August 2006.
Simmons Company Notes to Consolidated Financial Statements
NOTE R - RELATED PARTY TRANSACTIONS
In connection with the THL Acquisition, the Company entered into a management agreement (“THL management agreement”) with THL pursuant to which THL renders certain advisory and consulting services to the Company. In consideration of those services, the Company agreed to pay THL management fees equal to the greater of $1.5 million or an amount equal to 1.0% of the consolidated Adjusted EBITDA of Simmons Bedding for such fiscal year, but before deduction of any such fee. The fees are paid semi-annually. The Company also reimburses THL for all out-of-pocket expenses incurred by THL in connection with their services provided under the THL management agreement. The second forbearance agreement prohibits the Company from paying the THL management fee in cash subsequent to December 10, 2008. In connection with our restructuring efforts, we have agreed to reimburse the directors of THL for certain legal fees.
Included in selling, general and administrative expenses in the accompanying Consolidated statements of operations and comprehensive income (loss) was $1.8 million for 2008 and $1.7 million for 2007 and 2006 related to the management fees and expenses for services provided by THL to the Company. As of December 27, 2008 and December 27, 2007, the Company had accrued management fees and expenses of $0.6 million and $0.1 million; respectively, in the accompanying consolidated balance sheets.
NOTE S - SUBSEQUENT EVENTS
On November 12, 2008, Simmons Bedding entered into a forbearance agreement with a majority of its senior lenders to refrain from exercising their default related rights and remedies under the senior credit facility. Since November 12, 2008, Simmons Bedding entered into another forbearance agreement with a majority of its senior lenders on December 10, 2008 and amended that forbearance agreement on March 25, 2009 and May 27, 2009 to, among other things, extend the forbearance period initially contemplated under the original agreement. The last amendment on May 27, 2009 extended the forbearance period through June 30, 2009 and, upon meeting certain conditions July 31, 2009.
On January 15, 2009, Simmons Bedding did not make a scheduled payment of interest due on its Subordinated Notes resulting in a default under the indenture governing the Subordinated Notes. As a result, Simmons Bedding has subsequently entered into a forbearance agreement with more than a majority of the outstanding Subordinated Notes holders, pursuant to which such noteholders have agreed to refrain from enforcing their respective rights and remedies under the Subordinated Notes and the related indenture. Simmons Bedding entered into amendments to the forbearance agreement on March 25, 2009 and May 27, 2009 with a majority of its noteholders, whereby those noteholders extended their forbearance periods through May 31, 2009 and June 30, 2009, respectively, and upon meeting certain additional conditions, a further extension to July 31, 2009.
As a condition to the forbearance agreement with the senior lenders, the Company initiated a financing restructuring process in December 2008. A special committee of independent directors was formed by the Company’s board of directors on January 23, 2009 to evaluate and oversee proposals for restructuring its debt obligations, including seeking additional debt or equity capital and evaluating various strategic alternatives of the Company. There can be no assurance that the Company will be successful in implementing a restructuring. If the Company is unable to successfully complete a restructuring, comply with the terms of the forbearance agreements, or extend the forbearance periods as needed to successfully complete a restructuring, our payment obligations under the senior credit facility and the Subordinated Notes may be accelerated. If there is an acceleration of payments due under the senior credit facility or the Subordinated Notes, then Holdings would be in default under its Discount Notes and Simmons Holdco would be in default under its Toggle Loan. Simmons Bedding, Holdings, and Simmons Holdco would not have the ability to repay any amounts accelerated under their various debt obligations without obtaining additional equity and/or debt financing. An acceleration of payments could result in a voluntary filing of bankruptcy by, or the filing of an involuntary petition for bankruptcy against, Simmons Bedding, THL-SC, Holdings, Simmons Holdco and/or any of their affiliates. Due to the possibility of such circumstances occurring, the Company is seeking a negotiated restructuring, including a restructuring of its debt obligations and/or sale of the Company, its affiliates or its assets, which could occur pursuant to a pre-packaged, pre-arranged or voluntary bankruptcy filing. Any bankruptcy filing could have a material adverse effect on the Company’s business, financial condition, liquidity and results of operations. The considerations above raise substantial doubt about the Company’s ability to continue as a going concern.
In connection with the closure of the Company’s Bramalea, Ontario facility, the National Automobile, Aerospace, Transportation and General Workers Union of Canada and its Local 513 filed an unfair labor practice charge and three former production employees filed a wrongful termination claim against the Company on behalf of themselves and a class of similarly situated former employees. In June 2009, the Company has entered into tentative settlement agreements as to both disputes, although certain conditions, including obtaining leave of court to dismiss the class action must be met before the settlements will be final. An estimated settlement amount has been recorded in 2008 as part of the restructuring severance and benefits.
Simmons Company Notes to Consolidated Financial Statements
NOTE T - GUARANTOR / NON-GUARANTOR STATEMENTS
Simmons Bedding’s Subordinated Notes are fully and unconditionally guaranteed, on a joint and several basis, and on an unsecured, senior subordinated basis by Holdings and THL-SC (the “Parent Guarantors”) and all of Simmons Bedding’s active domestic subsidiaries (the “Subsidiary Guarantors”). All of the Subsidiary Guarantors are 100% owned by Simmons Bedding. None of Simmons Bedding’s direct or indirect subsidiaries located in U.S. territories or outside of the United States guarantee the Subordinated Notes (the “Non-Guarantor Subsidiaries”). The Supplemental Consolidating Condensed Financial Statements provide additional guarantor/non-guarantor information.
Supplemental Consolidating Condensed Statements of Operations
For the Year Ended December 27, 2008
(In thousands)
Simmons Company Notes to Consolidated Financial Statements
Supplemental Consolidating Condensed Statements of Operations
For the Year Ended December 29, 2007
(In thousands)
Simmons Company Notes to Consolidated Financial Statements
Supplemental Consolidating Condensed Statements of Operations
For the Year Ended December 30, 2006
(In thousands)
Simmons Company Notes to Consolidated Financial Statements
Supplemental Consolidating Condensed Balance Sheets
As of December 27, 2008
(In thousands)
Simmons Company Notes to Consolidated Financial Statements
Supplemental Consolidating Condensed Balance Sheets
As of December 29, 2007
(In thousands)
Simmons Company Notes to Consolidated Financial Statements
Supplemental Consolidating Condensed Statements of Cash Flows
For the Year Ended December 27, 2008
(In thousands)
Simmons Company Notes to Consolidated Financial Statements
Supplemental Consolidating Condensed Statements of Cash Flows
For the Year Ended December 29, 2007
(In thousands)
Simmons Company Notes to Consolidated Financial Statements
Supplemental Consolidating Condensed Statements of Cash Flows
For the Year Ended December 30, 2006
(In thousands)
ITEM 9.
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
ITEM 9A(T).
ITEM 9A(T). CONTROLS AND PROCEDURES.
Disclosure Controls and Procedures
The Company maintains a set of disclosure controls and procedures designed to ensure that information required to be disclosed by the Company in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized, and reported, within the time periods specified in SEC rules and forms. An evaluation was carried out under the supervision and with the participation of the Company's management, including the President and Chief Operating Officer (“President”) and the Chief Financial Officer ("CFO"), of the effectiveness of the Company’s disclosure controls and procedures. Based on that evaluation, the President and CFO have concluded that the Company's disclosure controls and procedures are effective as of December 27, 2008.
Management's Report on Internal Control over Financial Reporting
Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting. The Company’s internal control over financial reporting is a process designed under the supervision of the Company’s President and CFO to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Company’s financial statements for external purposes in accordance with U.S. generally accepted accounting principles.
The Company’s internal control over financial reporting includes policies and procedures that:
Pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect transactions and dispositions of assets of the Company;
Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and the directors of the Company; and
Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the Company’s financial statements.
Management has assessed the effectiveness of its internal control over financial reporting as of December 27, 2008 based on the framework established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). Based on this assessment, management has determined that the Company’s internal control over financial reporting was effective as of December 27, 2008.
This annual report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to temporary rules of the SEC that permit the Company to provide only management’s report in this annual report.
Changes in Internal Control over Financial Reporting
There has been no change in our internal control over financial reporting, as defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act, identified in connection with the evaluation that occurred during the fourth quarter of 2008 that has materially affected our internal control over financial reporting.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
MANAGEMENT AND DIRECTORS
Our directors and principal officers and their positions and ages as of May 1, 2009 are as follows:
The present principal occupations and recent employment history of each of our principal officers and directors listed above is as follows:
Stephen G. Fendrich joined us in February 2003 in connection with our acquisition of SC Holdings, Inc. (“SC Holdings”) and has served as President and Chief Operating Officer since January 2008. In October 2008, Mr. Fendrich assumed leadership of the Company from Mr. Eitel, our former Chairman and Chief Executive Officer (“CEO”), while maintaining his current position of President and Chief Operating Officer. Prior to assuming his current position, Mr. Fendrich served as Executive Vice President - Sales from August 2005 through December 2007 and prior to that served as President and CEO of our subsidiaries, SC Holdings and SCUSA, which Mr. Fendrich joined in September 2002. Prior to joining SC Holdings and SCUSA, Mr. Fendrich was Executive Vice President of Franchise Stores for The Mattress Firm from February 2002 to September 2002. From November 2000 to February 2002, Mr. Fendrich performed consulting work for The Mattress Firm franchises. From 1986 to November 2000, Mr. Fendrich held various positions with The Mattress Firm including Vice President and Chief Financial Officer and Vice President of Finance and Real Estate. Mr. Fendrich was one of the founders of The Mattress Firm in 1986.
Dominick A. Azevedo joined us in May 1997 and has served as Executive Vice President - Sales since January 2008. Prior to assuming his current position, Mr. Azevedo served as Senior Vice President of Sales from July 2007 to January 2008 and served as Senior Vice President of Sales - East from May 2007 to July 2007. Between June 1998 and May 2007, Mr. Azevedo served in various Vice President of Sales positions for our company. Prior to joining the Company, Mr. Azevedo held various positions in retail management from 1979 to 1997 for Rhodes Furniture, Huffman Koos and Dean Carpet.
William S. Creekmuir joined us in April 2000 and serves as Executive Vice President, Chief Financial Officer, Treasurer and Assistant Secretary. Mr. Creekmuir is our Principal Financial Officer. Mr. Creekmuir served as one of our directors from April 2000 to August 2004. Prior to joining us, Mr. Creekmuir served as Executive Vice President, Chief Financial Officer, Secretary and Treasurer of LADD Furniture, Inc. (“LADD”), a publicly traded furniture manufacturer. Prior to joining LADD in 1992, he worked 15 years with the international public accounting firm KPMG in their audit practice, the last five years of which he was a partner, including partner in charge of their national furniture manufacturing practice. Mr. Creekmuir is also Chairman of the Statistics Committee of ISPA, a member of the Board of Advisors to the Martha and Spencer Love School of Business at Elon University, a member of the Advisory Board of Art Van Furniture, Inc. and a Certified Public Accountant.
Kristen K. McGuffey joined us in November 2001 and has served as Executive Vice President, General Counsel and Secretary since March 2007. Prior to assuming her current position, Ms. McGuffey served as Senior Vice President - General Counsel and Secretary since August 2002 and prior to that served as Vice President - General Counsel and Assistant Secretary. Prior to joining us, from March 2000 to October 2001, Ms. McGuffey was employed by Viewlocity, Inc., with the most recent position of Executive Vice President and General Counsel. From March 1997 to February 2000, Ms. McGuffey was a partner of and, prior to that, an associate at Morris, Manning & Martin LLP.
Timothy F. Oakhill joined us in January 1997 and has served as Executive Vice President - Marketing and Licensing since March 2007. Prior to assuming his current position, Mr. Oakhill served as Senior Vice President - Marketing and Licensing since July 2005. Prior July 2005, Mr. Oakhill served as Vice President - International and Domestic Licensing since January 2004. Prior to January 2004, Mr. Oakhill managed various Simmons brands, including Beautyrest® from August 2003 to January 2004, and BackCare® and Deep Sleep® from January 1997 to August 2003. Prior to joining us, Mr. Oakhill served as Marketing Manager for Eastman - Kodak Company and as an account supervisor for Bates Worldwide.
Kimberly A. Samon joined us in April 2006 and has served as Executive Vice President - Human Resources and Assistant Secretary since March 2007. Prior to assuming her current position, Ms. Samon served as Senior Vice President - Human Resources and Assistant Secretary. Prior to joining us, from April 2004 to April 2006, Ms. Samon was a co-founder and partner of the law firm W. Edwin Litton, LLC and a co-owner and chief executive officer of Olivia Litton International, a human resource consulting company. From April 2003 to February 2004, Ms. Samon was a Director - Human Resources, East for Fedex Corporation’s office and print center business unit, formerly Kinko’s Inc. From April 2002 to March 2003, Ms. Samon was a Human Resource Practice Leader for Lacerte Technologies, Inc. From January 1998 to December 2001, Ms. Samon worked for HQ Global Workplaces, Inc., in various positions including Senior Vice President and Chief People Office/Labor and Employment Counsel.
Mark F. Chambless joined us in May 1995 and has served as Senior Vice President, Corporate Controller and Assistant Secretary since June 2007. Prior to this position, Mr. Chambless served as Vice President, Corporate Controller and Assistant Secretary from December 2005 to June 2007 and as Vice President and Corporate Controller from February 2000 to December 2005. Mr. Chambless was the Corporate Controller from November 1995 through February 2000, and prior to that served as a Divisional Controller. Mr. Chambless is the Principal Accounting Officer for our company. Prior to joining us, Mr. Chambless worked nine years at Sealy Corporation where he held various positions including Plant Controller, Operations Manager and Divisional Controller.
Charles R. Eitel joined us in January 2000 and has served as Vice Chairman of the Board of Directors since October 2008. Prior to assuming his current position, Mr. Eitel served as our Chairman of the Board of Directors and Chief Executive Officer from January 2000 through September 2008. Prior to joining us, Mr. Eitel served as President and Chief Operating Officer of Interface, Inc., a leading global manufacturer and marketer of floor coverings, interior fabrics and architectural raised floors. Prior to serving as Chief Operating Officer, he held the positions of Executive Vice President of Interface, President and Chief Executive Officer of the Floor Coverings Group, and President of Interface Flooring Systems, Inc. Mr. Eitel is also a director of Duke Realty Corporation. Mr. Eitel is a past Chairman of the Board of Directors of the ISPA.
Todd M. Abbrecht has been a director of our company since December 2003, following the consummation of the THL Acquisition. Mr. Abbrecht is a Managing Director of Thomas H. Lee Partners, which he joined in 1992. Prior to joining the firm, Mr. Abbrecht was in the mergers and acquisitions department of Credit Suisse First Boston. Mr. Abbrecht is also a director of Aramark Corporation, Dunkin’ Brands, Inc. and Warner Chilcott Holdings Company, Limited.
William P. Carmichael became a director of our company in May 2004. Mr. Carmichael co-founded The Succession Fund in 1998. Prior to forming The Succession Fund, Mr. Carmichael had 26 years of experience in various financial positions with global consumer product companies, including Senior Vice President with Sara Lee Corporation, Senior Vice President and Chief Financial Officer of Beatrice Foods Company, and Vice President of Esmark, Inc. Mr. Carmichael is also a director of Cobra Electronics Corporation, The Finish Line, Inc., and Spectrum Brands, Inc. (“Spectrum Brands”). Mr. Carmichael is also Chairman of the Board of Trustees of the Columbia Funds Series Trust, Columbia Funds Master Investment Trust, Columbia Funds Variable Insurance Trust I and Columbia Funds Series Trust II. Mr. Carmichael is a Certified Public Accountant. Mr. Carmichael served as a director of Spectrum Brands when it declared bankruptcy on February 3, 2009.
David A. Jones has been a director of our company since December 2003, following the consummation of the THL Acquisition. Mr. Jones has been Senior Advisor to Oakhill Capital Partners since February 2008. Mr. Jones served as the non - executive Chairman of the Board of Directors of Spectrum Brands from May 2007 to September 2007 and as the Chairman of the Board of Directors and Chief Executive Officer of Spectrum Brands from September 1996 to May 2007. From 1996 to April 1998, he also served as President of Spectrum Brands. From 1995 to 1996, Mr. Jones was President, Chief Executive Officer and Chairman of the Board of Directors of Thermoscan, Inc. Mr. Jones is also a director of Pentair, Inc.
B. Joseph Messner became a director of our company in August 2004. Mr. Messner served as the Chairman of the Board of Directors and Chief Executive Officer of Bushnell Outdoor Products from 1999 through September 2008. Mr. Messner was President and CEO of First Alert, Inc. from 1996 through 1999. Mr. Messner is a member of Wind Point Partners Executive Advisor Group.
Scott A. Schoen has been a director of our company since December 2003, following the consummation of the THL Acquisition. Mr. Schoen is co-President of Thomas H. Lee Partners, which he joined in 1986. Prior to joining the firm, Mr. Schoen was in the Private Finance Department of Goldman, Sachs & Co. Mr. Schoen is also a director of The Nielsen Company. Mr. Schoen is a member of the Board of Trustees of Spaulding Rehabilitation Hospital Network and is also a member of the President’s Council of the United Way of Massachusetts Bay. He is also a member of the Advisory Board of the Yale School of Management and the Yale Development Board. Mr. Schoen served as a director of Syratech Corporation when it declared bankruptcy on February 16, 2005 and was a director of Refco Group Ltd. when it declared bankruptcy on October 17, 2005.
George R. Taylor has been a director of our company since December 2003, following the consummation of the THL Acquisition. Mr. Taylor is a Managing Director at Thomas H. Lee Partners, which he joined in 1996. Prior to joining the firm, Mr. Taylor was at ABS Capital Partners. Mr. Taylor is also a director of Progressive Moulded Products, Ltd. Mr. Taylor served as a director of Syratech Corporation when it declared bankruptcy on February 16, 2005.
COMPOSITION OF OUR BOARD OF DIRECTORS
Our board of directors currently consists of seven members. Each of our directors will hold office until his successor has been elected and qualified. Our executive officers are elected by and serve at the discretion of our Board of Directors. There are no family relationships between any of our directors or executive officers. Our independent directors, as defined by the New York Stock Exchange, are Messrs. Carmichael, Jones, and Messner.
COMMITTEES OF OUR BOARD OF DIRECTORS
Our board of directors has established a special committee, an executive committee, an audit committee, a compensation committee and a nominating and governance committee.
Special Committee: The members of the special committee are Messrs. Carmichael and Messner. The special committee was formed by the board of directors on January 23, 2009 for Simmons Bedding and January 30, 2009 for Simmons Holdco, Holdings and THL-SC to evaluate and oversee proposals for the restructuring of our debt obligations, including evaluating other strategic alternatives for Simmons Holdco and its subsidiaries.
Executive Committee: The members of the executive committee are Messrs. Carmichael and Messner. The executive committee was formed by the board of directors in connection with the transition of the management of the operations of the Company from Mr. Eitel, our former Chairman and CEO, to Mr. Fendrich, our President and Chief Operating Officer, on October 1, 2008. The initial members of the executive committee were Messrs. Jones, Messner and Schoen. On January 23, 2009, Messrs. Jones and Schoen were replaced as members of the committee with Mr. Carmichael. The committee was formed to perform specific tasks as requested by the board; to provide advice and guidance to senior management concerning the operations of the company; and to perform regular reporting to the board on the committees’ activities.
Audit Committee: The members of the audit committee are Messrs. Carmichael, Jones and Taylor. The audit committee is governed by a board of directors approved charter stating its responsibilities. The audit committee oversees management regarding the conduct and integrity of our financial reporting, systems of internal accounting and financial and disclosure controls. The audit committee reviews the qualifications, engagement, compensation, independence and performance of our independent auditors, their conduct of the annual audit and their engagement for any other services. The audit committee also oversees management regarding our legal and regulatory compliance and the preparation of an annual audit committee report as required by the SEC. In addition, the board of directors has determined that William P. Carmichael, an independent director, is an “audit committee financial expert” as defined by the SEC rules.
The audit committee has discussed with the independent auditors the matters required to be discussed by the statement on Auditing Standards No. 61, as amended, as adopted by the Public Company Accounting Oversight Board (“PCAOB”) in Rule 3200T. The audit committee has received the written disclosures and the letter from the independent accountants required by Independence Standards Board No. 1, as adopted by the PCAOB in Rule 3600T, and has discussed with the independent accountants the independent accountants’ independence. Based on such review and discussions, the audit committee recommended to the board of directors that the audited financial statements be included in this Annual Report on Form 10-K.
Compensation Committee: The members of the compensation committee are Messrs. Abbrecht and Schoen. The compensation committee is responsible for our general compensation policies, and in particular is responsible for setting and administering the policies that govern executive compensation, including determining and approving the compensation of our senior executive officers; reviewing and approving management incentive compensation policies and programs; and reviewing and approving equity compensation programs and exercising discretion over the administration of such programs.
Nominating and Governance Committee: The members of the nominating and governance committee are Messrs. Abbrecht, Messner and Schoen. The purpose of the nominating and governance committee is to identify, screen and review individuals qualified to serve as directors. The nominating and governance committee also develops and recommends to the board of directors approval of, if appropriate, and overseeing implementation of our corporate governance guidelines and principles including the Simmons Code of Ethics for Chief Executive and Senior Financial Officers (“Code of Ethics”) and the Simmons Code of Conduct and Ethics. The nominating and governance committee also reviews on a regular basis our overall corporate governance policies and recommends improvements when necessary.
From time to time, the board of directors may contemplate establishing other committees.
Compensation Committee Interlocks and Insider Participation
None of our executive officers serve as a member of the board of directors or compensation committee of any entity that has one or more of its executive officers serving as a member of our board of directors or compensation committee.
CODE OF ETHICS
We have a Code of Ethics within the meaning of 17 CFR Section 229.406 that applies to our CEO, CFO and Corporate Controller. Our Code of Ethics is available on our website (www.simmons.com). If we make an amendment to this Code of Ethics, or grant a waiver from a provision of this Code of Ethics then we will make any required disclosure of such amendment or waiver on our website or in a current report on Form 8-K filed with the SEC.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
Compensation Discussion and Analysis
The following discussion and analysis of compensation arrangements of our named executive officers for 2008 should be read together with the compensation tables and related disclosures set forth below. This discussion contains forward looking statements that are based on our current plans, considerations, expectations and determinations regarding future compensation programs. Actual compensation programs that we adopt may differ materially from currently planned programs as summarized in this discussion.
Introduction
We are privately owned and controlled by THL, a private equity fund. THL beneficially owned approximately 71.1% of our issued and outstanding fully-diluted capital stock as of December 27, 2008, including the period in which the 2008 compensation elements for our executive officers were determined, and held three of seven seats on our board of directors.
Our compensation strategy, as it relates to named executive officers, has been designed to support and complement the successful long-term growth of the Company. Our objective in compensating our executive officers is to increase the enterprise value for our shareholders.
In September 2008, Mr. Eitel, who had served as our Chairman and Chief Executive Officer, resigned from the Company and his duties were assumed by Mr. Fendrich, our President and Chief Operating Officer, and the Executive Committee. Mr. Eitel remains a Vice Chairman of our board. In March 2009, Robert P. Burch, our former Executive Vice President - Operations, resigned from the Company and his duties were assumed by Mr. Fendrich and Mr. Burch’s previous direct reports. Our current executive officers other than Mr. Fendrich are Mr. Creekmuir, our Executive Vice President, Chief Financial Officer, Treasurer and Assistant Secretary; Mr. Azevedo, our Executive Vice President - Sales; Ms. Samon, our Executive Vice President - Human Resources and Assistant Secretary; Ms. McGuffey, our Executive Vice President, General Counsel and Secretary; and Mr. Oakhill, our Executive Vice President - Marketing and Licensing (collectively referred to as the “executive leadership team” or “ELT”). Our highly compensated named executive officers for 2008, as defined by the SEC, are Messrs. Fendrich, Creekmuir, Burch, Azevedo, Oakhill and Eitel.
Corporate Governance
Compensation Committee Authority
Executive officer compensation is administered by the compensation committee of our board of directors, which is composed of two members following the resignation of Mr. Eitel in September 2008. Mr. Eitel served on the compensation committee until September 25, 2008. Mr. Schoen has served as the compensation committee chairman and Mr. Abbrecht has served as a member since the THL Acquisition. Each member approved the compensation arrangements described in this compensation discussion and analysis. Our board of directors appoints the compensation committee members and delegates to the compensation committee the direct responsibility for, among other matters:
· approving, in advance, the compensation and employment arrangements for our senior executive officers;
· reviewing and approving management incentive compensation policies and programs; and
· reviewing and approving equity compensation programs and exercising discretion over the administration of such programs.
The compensation committee met three times in 2008.
Role of Compensation Experts
Pursuant to its charter, the compensation committee is authorized to obtain at our expense compensation surveys, reports on the design and implementation of compensation programs for directors, officers and employees, and other data and documentation as the compensation committee considers appropriate. In addition, the compensation committee has the authority to retain and terminate any outside counsel or other experts or consultants engaged to assist it in the evaluation of compensation of our directors and executive officers. The compensation committee relied on past consulting advice, new survey data, as well as the factors below in deciding executive compensation for 2008:
· the qualifications, skills and experience level of the respective executive officer;
· the position, role and responsibility of the respective executive officer in the company; and
· the general business and particular compensation experience and knowledge of the compensation committee’s members.
Role of Our Executive Officers in the Compensation Process
Prior to his resignation, Mr. Eitel was actively involved in providing recommendations to the compensation committee in its evaluation and design of 2008 compensation programs for our executive officers, including the recommendation of individual compensation levels for executive officers other than himself. Mr. Eitel relied on market data on similar-sized manufacturing companies provided by survey data and his own personal experience serving in the capacity as our chief executive officer or executive officer of other companies as well as publicly available information for comparable compensation guidance. Mr. Eitel provided this specific market information to the compensation committee. Mr. Eitel attended all of the compensation committee’s meetings while a committee member. Ms. Samon, Executive Vice President of Human Resources, worked closely with Mr. Eitel to offer market data and to prepare recommendations to the compensation committee.
Executive Officer Compensation Strategy and Philosophy
Our executive officer compensation strategy has been designed to attract and retain highly qualified executive officers and to align their interests with those of investors by linking significant components of executive officer compensation with the achievement of specific business and strategic objectives and our overall financial performance. We seek to employ executive officers who are financially and ethically driven and accordingly, we offer a compensation package that places a significant amount of total compensation at risk by providing a substantial form of it as equity incentives. Because we are a mid-size company with significant growth targets, we also ensure that base salaries for executives are competitive to that of larger companies.
It has been our view that the total compensation for executive officers should consist of the following components:
· base salaries;
· annual cash incentive awards;
· long-term equity incentive compensation; and
· certain perquisites and other benefits
Historically, we have considered long-term equity incentive compensation to be the most important element of our compensation program for executive officers. Since the THL Acquisition, THL has expected our executive management team to significantly increase the enterprise value of our company. We believe that meaningful equity participation by each executive officer is the primary motivating factor that will result in significant increases in enterprise value and sales growth. This belief is reflected in the aggregate awards of restricted stock and stock options that have been made to our executive officers.
It has been our philosophy that optimal alignment between stockholders and named executive officers is best achieved by providing a greater amount of total compensation in the form of equity rather than cash based salary. Accordingly, we have designed total compensation programs for our executive officers to provide base compensation levels, annual cash incentive award opportunities and long-term incentive compensation awards that are economically equivalent to typical programs available for comparable executive officers in similarly sized companies. The compensation committee determined compensation levels that it concluded were appropriate based on market data, the general business and particular compensation experience and knowledge of its members gained from working with private equity owned companies and with public companies.
Our 2008 incentive compensation program elements were primarily structured to reward our executive officers for achieving certain financial and business objectives, including the following:
· achieving company-wide Adjusted EBITDA targets; and
· achieving company-wide sales targets.
We believe that the attainment of these specific financial objectives assists in the fulfillment of certain of our strategic objectives, namely:
· to increase our enterprise value;
· to grow our company in an efficient manner; and
· to conserve and optimally utilize cash resources for the future growth of our business.
Components of Compensation
Base Salaries
The base salaries of our named executive officers are reviewed on an annual basis as well as at the time of a promotion or other material change in responsibilities. Adjustments in base salary are based on an evaluation of market data, our company-wide performance and the individual executive’s contribution to our performance. All executive officers’ compensation is reviewed in December for compensation adjustments to take place on January 1 of the following calendar year. For the 2009 year, our named executive officers elected not to take base salary increases.
Annual Cash Incentive Awards
2008 Management Bonus Plan. Our named executive officers participated in an annual cash incentive award program, the 2008 Management Bonus Plan. This program is available to administrative staff and professionals, managers, senior managers and executive officers. The purpose of each executive officer’s 2008 Management Bonus Plan was to create financial incentives aligned with the overriding objective of increasing enterprise value.
In March 2008, the compensation committee approved financial targets established for us. These targets included the achievement of specified threshold levels of EBITDA, adjusted for certain non-recurring or non-cash items as allowed under our senior credit facility, (“Adjusted EBITDA”) and revenue, adjusted to exclude certain payments to customers recorded as reductions of revenue under GAAP, (“Adjusted Revenue”) for our 2008 fiscal year. These financial targets and the associated performance levels that were established represented the factors that the compensation committee deemed most important and which, if achieved, would likely result in an increase in enterprise value. The specific performance levels were determined with reference to our 2008 budget, which we used to manage our day-to-day business and were determined by our board of directors as representing an aggressive level of growth and financial performance for us in 2008.
Our 2008 financial targets were based on an Adjusted EBITDA target of $204.4 million and an Adjusted Revenue target of $1,392.9 million.
To be eligible to receive a bonus under the plan, we must achieve 91% of the Adjusted EBITDA target and 91% of the Adjusted Revenue. The bonus target is weighted 85% toward achieving the Adjusted EBITDA target and 15% toward achieving the Adjusted Revenue target. The portion of the bonus target related to Adjusted EBITDA is prorated as follows:
The portion of the bonus target related to Adjusted Revenue was prorated from 0% to 100% for Adjusted Revenue between $1,253.6 million and $1,392.9 million.
Each executive officer was eligible to receive a “bonus” factor which was applied to performance achieved beyond reaching the 100% target. For every percent increase over the financial target, Mr. Eitel’s bonus target increases 5% and Messrs. Fendrich’s, Creekmuir’s, Burch’s, Azevedo’s and Oakhill’s increase 4%.
The following table summarizes, for each highly compensated named executive officer, the target cash incentive awards under the 2008 Management Bonus Plan. Due to our performance, no cash incentive awards were due under the 2008 Management Bonus Plan; however, the compensation committee elected to pay discretionary bonuses, which included certain named executive officers.
Long-Term Incentive Compensation
Overview
We administer a long-term incentive compensation awards through the Third Amended and Restated Equity Incentive Plan (“Equity Plan”). The purpose of the Equity Plan is to provide an incentive to management to continue their employment over a long term and to align their interests with those of the Company and its stockholders by providing a stake in our continued growth and success. The plan permits awards of stock options, stock appreciation rights, restricted stock awards, stock units and dividend equivalent rights.
We have awarded restricted stock and stock option awards as the primary form of equity compensation. We have generally considered and made equity awards under three circumstances:
· upon hiring new executive officers, vice-presidents and directors;
· as a result of promotion; and
· to existing executive officers, vice-presidents and directors after evaluating internal equity across the management team.
Restricted stock and stock option awards that we have granted vest upon attainment of performance-based measures. Performance-based awards are forfeitable if specified financial performance targets are not achieved within a specified period of time.
Restricted Stock and Stock Option Practices
We have awarded all stock options to purchase our common stock to executive officers at the fair value of the common stock on the grant date. We have not back-dated any option awards. The fair value of all options granted was determined by our board of directors based on a recommendation from the compensation committee, which utilized a contemporaneous independent valuation of our common stock provided to us by a third-party valuation firm that the compensation committee engaged for such purpose.
As a privately owned company, there has been no market for our common stock. Accordingly, in 2008, we had no program, plan or practice pertaining to the time of stock option grants to executive officers coinciding with the release of material non-public information.
Perquisites and Other Personal Benefits
We provide certain perquisites to our executives. These perquisites provide flexibility to the executives and increase travel efficiencies, allowing more productive use of executive time, in turn allowing greater focus on company-related activities. More detail on these perquisites may be found in the narrative following the Summary Compensation Table.
Compensation Committee Evaluation of Executive Officer Compensation for 2009
In the fourth quarter of 2008, the compensation committee evaluated executive officers’ pay and approved the cash bonuses for 2009 as follows:
Ø established 2009 periodic cash bonus targets that are calculated as a percentage of the participant’s base salary, with performance metrics which provide for a range of payments in the given period beginning with no bonus below threshold performance metrics, and up to additional bonus payouts for exceeding the performance metrics; and
Ø established performance metrics for achieving a cash bonus which are directly linked to our 2009 operating budget.
Based on current market data and conditions, our named executive officers elected to forgo salary increases in 2009.
Tax Implications of Executive Compensation
We do not believe that Section 162(m) of the Internal Revenue Code, which limits deductions for executive compensation paid in excess of $1.0 million, would be applicable, and accordingly, our compensation committee did not consider its impact in determining compensation levels for our highly compensated executive officers in 2008.
Accounting Implications of Executive Compensation
The Summary Compensation and Director Compensation Tables below used the principles set forth in SFAS 123R to recognize expense for new awards granted after January 1, 2006 and for unvested awards as of January 1, 2006. The non-cash stock compensation expense for stock-based awards that we grant is recognized ratably over the requisite vesting period. We continue to believe that stock options, restricted stock and other forms of equity compensation are an essential component of our compensation strategy, and we intend to continue to offer these awards in the future.
Summary Compensation Table for Fiscal Years 2008, 2007 and 2006
The following table sets forth the aggregate compensation awarded to, earned by or paid to our highly compensated executive officers for 2008, 2007 and 2006.
(1) Reflects annual base salary.
(2) Reflects management bonus earned for achieving financial performance targets and/or discretionary bonuses received.
(3) Reflects the stock based compensation expense recognized under SFAS 123(R). For a discussion of assumptions made in the valuation, see “Note M - Stock-Based Compensation” to our audited financial statements included elsewhere in this Annual Report on Form 10-K. In 2008, we determined that the Company was unlikely to meet future vesting performance targets for the unvested awards, therefore the unvested awards had no market value as of December 27, 2008 and we reversed all stock compensation expense recognized in prior years associated with unvested awards in 2008.
(4) Reflects perquisites that we paid for (i) employer contributions to our 401(k) plan of $13,800, $6,750 and $6,600 for 2008, 2007 and 2006, respectively; (ii) an annual car allowance of $9,000 for 2008, 2007 and 2006; (iii) life-insurance and long-term disability insurance premiums of $1,582 for 2008 and 2007 and $1,345 for 2006; (iv) financial consulting expense of $5,000 for 2007 and 2006; (v) annual physical exam of $2,500 for 2008 and $3,375 for 2007; (vi) mattress sets of $1,930, $1,255 and $4,616 for 2008, 2007 and 2006, respectively; (vii) non-business travel expenses of $1,143 for 2006; (viii) personal use of the corporate jet of $760 for 2006; (ix) reimbursement of selling expenses related to the sale of Mr. Fendrich’s personal residence of $235,678 for 2006; (x) relocation allowance of $12,803 for 2006; and (xi) the assumption of taxes for certain taxable benefits of $2,233, $1,621 and $142,712 for 2008, 2007 and 2006, respectively.
(5) Reflects perquisites that we paid for (i) employer contributions to our 401(k) plan of $13,800, $13,500 and $13,200 for 2008, 2007 and 2006, respectively; (ii) an annual car allowance of $9,000 for 2008, 2007 and 2006; (iii) life-insurance and long-term disability insurance premiums of $5,255 for 2008, 2007 and 2006; (iv) mattress sets of $2,837, $1,021 and $3,936 for 2008, 2007 and 2006, respectively; (v) financial consulting expense of $5,000 for 2006; (vi) fees paid to serve as a director of a subsidiary of $280 for 2006; and (vii) the assumption of taxes for certain taxable benefits of $1,850, $2,548 and $3,009 for 2008, 2007 and 2006, respectively.
(6) Reflects perquisites that we paid for (i) employer contributions to our 401(k) plan of $6,900, $6,750 and $6,600 for 2008, 2007 and 2006, respectively; (ii) an annual car allowance of $9,000 for 2008, 2007 and 2006; (iii) financial consulting expense of $5,000 for 2008, 2007 and 2006; (iv) life-insurance and long-term disability insurance premiums of $2,497 for 2008 and 2007 and $2,162 for 2006; (v) annual physical exam of $2,500 for 2008 and 2007 and $4,625 for 2006; (vi) non-business travel expense of $5,712 and $4,958 for 2007 and 2006, respectively; (vii) mattress sets of $1,773, $4,654 and $4,194 for 2008, 2007 and 2006, respectively; (viii) relocation allowance of $23,282 for 2006; and (ix) the assumption of taxes for certain taxable benefits of $2,201, $1,201 and $13,406 for 2008, 2007, and 2006, respectively.
(7) Reflects perquisites that we paid for (i) employer contributions to our 401(k) plan of $13,800, $12,944 and $11,642 for 2008, 2007 and 2006, respectively; (ii) life-insurance and long-term disability insurance premiums of $5,881 for 2008; (iii) annual physical exam of $3,375 for 2008; (iv) relocation allowance of $145,664 and $13,458 for 2008 and 2007, respectively; and (v) the assumption of taxes for certain taxable benefits of $71,943 and $4,840 for 2008 and 2007, respectively.
(8) Reflects perquisites that we paid for (i) employer contributions to our 401(k) plan of $13,800, $13,500 and $13,200 for 2008, 2007 and 2006, respectively; (ii) financial consulting expense of $5,000 for 2008 and 2007; (iii) life-insurance and long-term disability insurance premiums of $2,143 for 2008 and $1,203 for 2007 and 2006; (iv) annual physical exam of $2,500 for 2008 and 2007 and $4,000 for 2006; (v) business school tuition and associated travel expense of $67,082 and $37,180 for 2008 and 2007; (vi) fees paid to serve as a director of a subsidiary of $284 and $560 for 2007 and 2006, respectively; (vii) mattress sets of $1,167 for 2007; and (viii) the assumption of taxes for certain taxable benefits of $1,250, $1,201 and $1,922 for 2008, 2007 and 2006, respectively.
(9) Reflects perquisites that we paid for (i) personal use of corporate jet of $81,410, $116,685 and $160,299 for 2008, 2007 and 2006, respectively; (ii) commuting expenses from Mr. Eitel’s principle residence to our corporate headquarters of $23,398, $10,138 and $15,583 for 2008, 2007 and 2006, respectively; (iii) employer contributions to our 401(k) plan of $6,900, $13,500 and $13,200 for 2008, 2007 and 2006, respectively; (iv) an annual car allowance of $9,000 for 2008 and $12,000 for 2007 and 2006, respectively; (v) mattress sets of $5,746, $9,104 and $11,691 for 2008, 2007 and 2006, respectively; (vi) life-insurance and long-term disability insurance premiums of $7,537 for 2008 and $13,742 for 2007 and 2006; (vii) club membership dues of $4,120, $8,743 and $7,678 for 2008, 2007 and 2006, respectively; (viii) the assumption of taxes for certain taxable benefits of $13,537, $3,570 and $6,933 for 2008, 2007 and 2006, respectively; (ix) non-business travel expenses of $2,713 for 2006; (x) severance of $210,000 for 2008; (xi) annual physical exam of $2,683 for 2008; and (xii) consulting fees of $107,500 for 2008.
Grants of Plan-Based Awards in Fiscal Year 2008
During fiscal year 2008, no grants were made to our named executive officers pursuant to our equity incentive plans.
Executive Employment Arrangements
Messrs. Eitel and Creekmuir entered into executive employment agreements with us in December 2003, which were amended in 2005 and 2007. Mr. Fendrich entered into an executive employment agreement with us in December 2007 that was effective January 1, 2008. Messrs. Eitel’s, Creekmuir’s and Fendrich’s agreements have two-year terms with evergreen renewal provisions and contain usual and customary restrictive covenants, including two-year non-competition provisions, non-disclosure of proprietary information provisions, provisions relating to non-solicitation/no hire of employees or customers and non-disparagement provisions. In the event of a termination without “cause” or departure for “good reason,” the terminated executives are entitled to severance equal to two years salary plus an amount equal to their pro-rated bonus for the year of termination.
Mr. Burch’s offer of employment contained usual and customary restrictive covenants, including a two-year non-compete, a duty of non-disclosure, and provision relating to non-solicitation/no hire of employees or customers and non-disparagement. Mr. Burch received no compensation in connection with his departure from our company in 2009. Messrs. Avezedo’s and Oakhill’s offer of employment contains usual and customary restrictive covenants, including a one-year non-compete, a duty of non-disclosure, and provision relating to non-solicitation/no hire of employees or customers and non-disparagement. In the event of a termination with “cause” or departure for “good reason,” Messrs. Avezedo and Oakhill are entitled to severance equal to one year of salary.
Potential Post-Employment Payments and Payments on a Change in Control
The information below describes and quantifies certain compensation that would become payable under existing arrangements if the named executive’s employment had terminated on December 27, 2008, given the named executive’s compensation as of such date and based on our fair value of the stock price on that date. These benefits are in addition to benefits available generally to salaried employees, such as distributions under our 401(k) plan and accrued vacation pay. Due to the number of factors that affect the nature and amount of any benefits provided upon the events discussed below, any actual amounts paid or distributed may be different. Factors that could affect these amounts include the timing during the year of any such event and our stock price.
(1) For termination for other than cause or good reason by the Company or for good reason by the executive, Messrs. Creekmuir, Fendrich and Burch would be entitled to twice their annual salary, and Messrs. Azevedo and Oakhill would be entitled to their annual salary.
(2) We shall contribute to Messrs. Creekmuir’s and Fendrich’s (including dependents) coverage under our medical, dental and vision plans for a period of up to two years following termination for other than cause or good reason. After termination, Mr. Creekmuir (including spouse) can continue his coverage under our medical, dental and vision plans at the executive’s COBRA rates until death of the executive and his spouse.
None of our named executive officers have c provisions in their agreements that provide for a cash payout in connection with a change of control of the Company.
Outstanding Equity Awards at 2008 Fiscal Year-End
The following table reflects all outstanding equity awards held by our named executive officers as of December 27, 2008:
(1)
Mr. Fendrich’s and Mr. Azevedo’s stock option awards vest ratably over a four year period based on the Company meeting annual Adjusted EBITDA targets starting in 2008.
(2)
Mr. Azevedo’s stock option award vests ratably over a four year period based on the Company meeting annual Adjusted EBITDA targets starting in 2007.
(3)
The unvested restricted stock awards can only vest based on a change of control resulting in Simmons Holdco’s meeting a certain multiple of money target.
(4)
In 2008, we determined that the Company was unlikely to meet future vesting performance targets for the unvested awards, therefore the unvested awards had no market value as of December 27, 2008.
Option Exercises and Stock Vested in 2008
Since the Company failed to meet the awards vesting targets, none of the restricted stock or stock option awards vested. No stock options were exercised in 2008.
DIRECTOR COMPENSATION
In 2008, directors who also served as employees or who were affiliated with significant stockholders received no compensation for serving on our board of directors. Non-employee directors not affiliated with a significant stockholder receive director fees of $25,000 per year plus an additional $5,000 for each special board or audit, compensation or nominating and governance committee meeting that they attend in person and an additional $1,000 for such meetings that they attend telephonically. In addition, non-employee directors not affiliated with a significant stockholder serving on the executive committee received additional director fees of $20,000 per month from October 1, 2008 through January 22, 2009. After January 23, 2009, directors serving on the executive committee received director fees of $7,500 per month and directors serving on the special committee received director fees of $7,500 per month. For each executive and special committee meeting, the directors attend after January 23, 2009 an additional $5,000 for the first day of the meeting and $2,500 for each consecutive additional day for meetings attended in person and an additional $1,000 for the meetings that they attend telephonically.
All members of our board of directors are reimbursed for their usual and customary expenses incurred in connection with attending all board and other committee meetings. Upon joining our board of directors, each of the non-employee directors not affiliated with a significant stockholder were granted restricted stock awards of 2,500 shares of our class B common stock, which is subject to time and performance-based vesting.
The following table sets for the aggregate compensation awarded to, earned by or paid to our directors during 2008.
Director Compensation for the 2008 Fiscal Year
(1)
Reflects the stock based compensation expense recognized under SFAS 123(R). For a discussion of assumptions made in the valuation, see “Note M - Stock-Based Compensation” to our audited financial statements included elsewhere in this Annual Report on Form 10-K. In 2008, we determined that the Company was unlikely to meet future vesting performance targets for the unvested awards, therefore the unvested awards had no market value as of December 27, 2008 and we reversed all stock compensation expense recognized in prior years associated with unvested awards in 2008.
COMPENSATION COMMITTEE REPORT ON EXECUTIVE COMPENSATION
The compensation committee is responsible for our general compensation policies, and in particular is responsible for setting and administering the policies that govern executive compensation. The compensation committee evaluates the performance of our ELT and determines the compensation levels for the same.
The objective of the compensation committee is to establish policies and programs to attract and retain key executives, and to reward performance by these executives which benefit us. The primary elements of executive compensation are base salary, annual cash incentive awards, long-term equity incentive compensation awards and certain other perquisites and other benefits. The salary is based on factors such as the individual executive officer’s position, role and level of responsibility in the Company; the qualifications, skills, performance and experience of the respective executive officer; and a comparison to similar positions in the Company and in comparable companies. The annual cash incentive awards are currently based on our performance measured against attainment of financial objectives. Long-term equity incentive awards generally have vesting schedules tied to the achievement of our certain financial objectives and are intended to align management’s interests with ours and our stockholders in promoting our long-term growth. Further information on each of these compensation elements follows.
Salaries
For the other executive officers, base salaries are adjusted annually by the ELT, following a review by the member of the ELT to whom the executive officer reports. In the course of the review, performance of the individual with respect to specific objectives is evaluated, as are any increases in responsibility, and competitive salaries, internally and externally, for similar positions. The specific objectives for each executive officer are set by the particular ELT member to whom the executive officer reports, and will vary annually for each executive position based on our objectives.
Annual Cash Bonuses
Certain of our employees are eligible, pursuant to their offers of employment, to receive annual cash bonuses based on our performance measured against attainment of financial objectives.
Long-Term Equity Incentive Awards
We adopted the Equity Plan and ComforPedic Incentive Plan to provide incentives to our management and independent directors and our affiliates by granting them restricted stock, warrants and stock option awards of our class B common stock. These awards granted to management are intended to provide an incentive for management to continue their employment over a long term and to align their interests with ours by providing a stake in the same. The compensation committee recommends grants to the board which determines whether such grants are appropriate. In making such recommendations, the compensation committee takes into account the total number of shares available for grant, prior grants outstanding, and estimated requirements for future grants. In addition, the committee considers the performance of the executive position held and length of employment with us in determining an individual’s award. The compensation committee also recommends modifications to the terms of award to the board. Individual awards take into account the individual’s level within the organization, scope of responsibilities and performance.
Other Benefits
Periodically, the compensation committee assesses the other benefits provided to our executive officers and other managers.
The compensation committee continually reviews our compensation programs to ensure the overall package is competitive, balanced, and that proper incentives and rewards are provided.
The compensation committee has reviewed the compensation discussion and analysis and discussed that analysis with management. Based on its review and discussions with management, the committee recommended to our board of directors that the compensation discussion and analysis be included in the Company’s Annual Report on Form 10-K for 2008.
Compensation Committee:
Todd M. Abbrecht
Scott A. Schoen
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information regarding our beneficial ownership, by each member of the board of directors, each of our named executive officers, and each member of our board of directors and our executive officers as a group. As a result of the Merger, our securityholders exchanged their shares of Simmons Company for shares of Simmons Holdco that are identical to the type and number of Simmons Company shares prior to the Merger. Simmons Holdco outstanding securities consisted of 3,821,099 shares of class A common stock and 684,481 shares of class B common stock as of June 1, 2009. The class B common stock was issued to employees pursuant to a restricted stock agreement under the Equity Plan. See Item 13
Item 13 “Certain Relationships and Related Party Transactions - Amended and Restated Certificate of Incorporation of Simmons Company.” The class A common stock and class B common stock generally have identical voting rights. To our knowledge, each such stockholder has sole voting and investment power as to the common stock shown unless otherwise noted. Beneficial ownership of the common stock listed in the table has been determined in accordance with the applicable rules and regulations promulgated under the Exchange Act.
*
less than 1%
(1)
Includes interests owned by each of Thomas H. Lee Equity Fund V, L.P., Thomas H. Lee Parallel Fund V, L.P., Thomas H. Lee Equity (Cayman) Fund V. L.P., Thomas H. Lee Investors Limited Partnership, 1997 Thomas H. Lee Nominee Trust, Great-West Investors LP, Putnam Investment Holdings, LLC, Putnam Investments Employees’ Securities Company I, LLC, and Putnam Investments Employees’ Securities Company II, LLC. Thomas H. Lee Equity Fund V, L.P. and Thomas H. Lee Parallel Fund V, L.P. are Delaware limited partnerships, whose general partner is THL Equity Advisors V, LLC, a Delaware limited liability company. Thomas H. Lee Equity (Cayman) Fund V, L.P. is an exempted limited partnership formed under the laws of the Cayman Islands, whose general partner is also THL Equity Advisors V, LLC, which is registered in the Cayman Islands as a foreign company. Thomas H. Lee Investors Limited Partnership (f/k/a THL-CCI Limited Partnership) is a Massachusetts limited partnership, whose general partner is THL Investment Management Corp., a Massachusetts corporation. Thomas H. Lee Advisors, LLC, a Delaware limited liability company, is the general partner of Thomas H. Lee Partners, a Delaware limited partnership, which is the sole member of THL Equity Advisors V, LLC. The 1997 Thomas H. Lee Nominee Trust is a trust with US Bank, N.A. serving as Trustee. Thomas H. Lee has voting and investment control over common shares owned of record by the 1997 Thomas H. Lee Nominee Trust.
Scott A. Schoen is co-President of Thomas H. Lee Advisors, LLC and a Vice President of THL Investment Management Corp. Todd M. Abbrecht is a Managing Director of Thomas H. Lee Advisors, LLC and a vice president of THL Investment Management Corp. George R. Taylor is a Managing Director of Thomas H. Lee Advisors, LLC. Each of Messrs. Schoen, Abbrecht and Taylor may be deemed to beneficially own class A common shares held of record by Thomas H. Lee Equity Fund V, L.P., Thomas H. Lee Parallel Fund V, L.P. and Thomas H. Lee Equity (Cayman) Fund V. L.P. Furthermore, each of Messrs. Schoen and Abbrecht may be deemed to beneficially own class A common shares held of record by Thomas H. Lee Investors Limited Partnership. Each of these individuals disclaims beneficial ownership of such common shares except to the extent of their pecuniary interest therein.
The address of Thomas H. Lee Equity Fund V, L.P., Thomas H. Lee Parallel Fund V, L.P., Thomas H. Lee Equity (Cayman) Fund V, L.P., Thomas H. Lee Investors Limited Partnership, the 1997 Thomas H. Lee Nominee Trust, Scott A. Schoen, Todd M. Abbrecht and George R. Taylor is 100 Federal Street, Boston, Massachusetts 02110.
Putnam Investment Holdings, LLC, Putnam Investments Employees’ Securities Company I, LLC and Putnam Investments Employees’ Securities Company II, LLC are co-investment entities of Thomas H. Lee Partners and each disclaims beneficial ownership of any securities other than the securities held directly by such entity. The address for the Putnam entities is One Post Office Square, Boston, Massachusetts 02109.
The address of Great-West Investors LP is c/o Great-West Life & Annuity Insurance Company, 8515 C. Orchard Road 3T2, Greenwood Village, Colorado 80111.
(2)
Includes interest owned by Simmons Holdings, LLC; FPIP, LLC and FPIP Trust, LLC. Peter Lamm and Richard Dresdale have voting and/or investment control over the shares held by Fenway Partners Capital Fund II, L.P. The address for Fenway Capital Fund II, L.P. is 152 West 57th Street, 59th Floor, New York, New York 10019.
(3)
The address of Charles R. Eitel, Dominick A. Azevedo, William S. Creekmuir, Stephen G. Fendrich, Kristen K. McGuffey, Timothy F. Oakhill, Kimberly A. Samon, David A. Jones, William P. Carmichael, and B. Joseph Messner is c/o Simmons Company, One Concourse Parkway, Suite 800, Atlanta, Georgia 30328.
(4)
Pursuant to a securityholders agreement, the CEO or, in absence of a CEO, the CFO has the voting power of the employees and executive officers as to their Class A and vested Class B common stock shown. For the unvested Class B shares, the employees and executive officers are required to vote their common stock in the same manner as the majority stockholder.
(5)
Includes shares held in trust for or by immediate family members.
(6)
Excludes 30,000 shares, 2,000 shares and 9,560 shares of class B common stock that may be acquired upon the vesting and exercise of non-qualified stock options held by Mr. Fendrich, Ms. Samon, and Mr. Azevedo, respectively. All of Mr. Fendrich’s and Ms. Samon’s stock options and 6,120 of Mr. Azevedo stock options vest ratably over a four year period based on the Company meeting certain annual Adjusted EBITDA targets starting in 2008. Mr. Azevedo’s remaining stock options vest ratably over a four year period based on the Company meeting certain annual Adjusted EBITDA targets starting in 2007. Since the Company did not meet the Adjusted EBITDA target for 2007 and 2008, 7,500 of Mr. Fendrich’s stock options, 500 of Ms. Samon’s stock options, and 3,250 of Mr. Azevedo’s stock options did not vest and can only vest based on the change of control provisions of the stock option agreement.
EQUITY COMPENSATION PLAN INFORMATION
The following table sets forth information as of December 27, 2008 regarding our equity compensation plans. The plans pursuant to which we may make equity grants is the Equity Plan that was approved by our board of directors and securityholders on November 30, 2006 and The Simmons Manufacturing Co., LLC’s Comfor-Pedic Division Incentive Plan (“ComforPedic Incentive Plan”). As a result of the Merger, our Equity Plan was assumed by Simmons Holdco.
Column (a) of the table excludes restricted stock awards issued under the Equity Plan, which authorizes the board of directors to grant up to 821,775 shares of class B common stock through options, restricted stock awards, or other awards to our employees, directors and consultants. As of December 27, 2008, we had issued restricted stock awards and stock options under the Equity Plan and warrants under the ComforPedic Incentive Plan. The shares shown in column (c) are remaining shares of class B common stock available for issuance after taking into consideration the shares of class B common stock issued as a restricted stock award or underlying stock options and warrants granted.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
SEC regulations require that we disclose any transaction, or series of similar transactions, since the beginning of 2008, or any contemplated transactions, in which the Company was or is to be a participant, in whom the amount involved exceeds $120,000 and in which any of the following persons had or will have a direct or indirect material interest:
-
our directors or nominees for director;
-
our executive officers;
- persons owning more than 5% of our outstanding voting securities; or
- the immediate family members of any of the persons identified in the preceding three bullets.
The SEC refers to these types of transactions as related person transactions and to the persons listed in the bullets as related persons. The SEC is concerned about related person transactions because such transactions, if not properly monitored, may present risks of conflicts of interest or the appearance of conflicts of interest.
Review and Approval of Related Person Transactions. We review all relationships and transactions in which the Company and our directors and executive officers or their immediate family members are participants to determine whether such persons have a direct or indirect material interest. Our legal department, working together with our outside legal advisors, is responsible for the development and implementation of processes and controls to obtain information from our directors and executive officers with respect to related person transactions and for then determining, based on the facts and circumstances, whether we or a related person has a direct or indirect material interest in the transaction. Each director and executive officer annually completes a questionnaire to identify their related interests and persons, and to notify us of changes in that information. As required under SEC rules, transactions that are determined to be directly or indirectly material to us or a related person are disclosed under this Item of our Annual Report on Form 10-K.
MANAGEMENT AGREEMENT
Pursuant to the management agreement entered into in connection with the THL Acquisition, THL Managers V, LLC renders certain advisory and consulting services to Simmons Bedding. In consideration of those services, Simmons Bedding agreed to pay to THL Managers V, LLC, an affiliate of Thomas H. Lee Partners L.P., semi-annually, an aggregate per annum management fee equal to the greater of:
-
$1,500,000; or
-
an amount equal to 1.0% of the consolidated earnings before interest, taxes, depreciation and amortization of Simmons Bedding for such fiscal year, but before deduction of any such fee.
Simmons Bedding paid management fees, inclusive of expenses, of $1.8 million in 2008.
Simmons Bedding also agreed to indemnify THL Managers V, LLC and its affiliates from and against all losses, claims, damages and liabilities arising out of or related to the performance by Thomas H. Lee Partners Managers V, LLC of the services pursuant to the management agreement. In connection with our restructuring efforts, we have agreed to reimburse the directors of THL for certain legal fees.
AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF SIMMONS COMPANY
We have amended and restated our Certificate of Incorporation to eliminate different classes of common stock. Our second Amended and Restated Certificate of Incorporation previously provided for two classes of common stock - class A common stock, earning a preferred return of 6% per annum, and class B common stock. Class A common stock was held by THL, Fenway Partners, directors, former directors and those members of management who elected to acquire such shares in connection with the THL Acquisition. Our third Amended and Restated Certificate of Incorporation sets forth a single class of common stock, identical in all respects and entitling the holders thereof to the same rights and privileges, subject to the same qualifications, limitations and restrictions.
SECURITYHOLDERS’ AGREEMENT AND EQUITY REGISTRATION RIGHTS AGREEMENT
In connection with the Merger, the Securityholders’ Agreement and the Registration Rights Agreement were terminated, and substantially similar documents were entered into among Simmons Holdco and its securityholders.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Aggregate fees which were billed to us by our principal accountants, PricewaterhouseCoopers LLP, for audit services related to the two most recent fiscal years was $984,374 and $925,261 for 2008 and 2007, respectively. Audit services consist of fees for the audit of the Company’s annual consolidated financial statements, the review of financial statements included in the Company’s quarterly Form 10-Q reports, and the services that an independent auditor would customarily provide in connection with subsidiary audits, statutory requirements, regulatory filings, registration statements and similar engagements for the fiscal year, such as comfort letters, attest services, consents, and assistance with review of documents filed with the SEC. Audit Fees also include advice on accounting matters that arose in connection with or as a result of the audit or the review of periodic consolidated financial statements and statutory audits the non-U.S. jurisdictions require. We have not been billed for any services other than audit services for the two most recent fiscal years.
Policy on Audit Committee Pre-Approval of Audit and Permissible Non-Audit Services of Independent Auditor
The Audit Committee is responsible for appointing, setting compensation, and overseeing the work of the independent auditor. The Audit Committee has established a policy regarding pre-approval of all audit and permissible non-audit services provided by the independent auditor. The Audit Committee has approved the pre-authorization of audit and non-audit services up to $50,000.
PART IV
ITEM 15.
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a)(1)
The following consolidated financial statements of Simmons Company and its subsidiaries are included in Part II, Item 8:
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Operations and Comprehensive Income (Loss) for the years ended December 27, 2008, December 29, 2007 and December 30, 2006
Consolidated Balance Sheets at December 27, 2008 and December 29,
Consolidated Statements of Changes in Stockholder’s Equity (Deficit) for the years ended December 27, 2008, December 29, 2007 and December 30, 2006
Consolidated Statements of Cash Flows for the years ended December 27, 2008, December 29, 2007 and December 30, 2006
Notes to the Consolidated Financial Statements
(a)(2)
Financial Statement Schedule
Schedule II - Valuation Accounts
(a)(3)
The exhibits to this report are listed in section (b) of Item 15 below.
(b) Exhibits:
The following exhibits are filed with or incorporated by reference into this Form 10-K. For the purposes of this exhibit index, references to “Simmons Bedding” include Simmons Bedding, both prior to and following the transactions that occurred on December 19, 2003. The exhibits which are denominated by an asterisk (*) were previously filed as a part of, and are hereby incorporated by reference from either the (i) Registration Statement on Form S-4 under the Securities Act of 1933 for Simmons Bedding, File No. 333-76723 (referred to as “1999 S-4”), (ii) Quarterly Report on Form 10-Q for the quarter ended September 30, 2000 for Simmons Bedding (referred to as “9/30/00 10-Q”), (iii) Quarterly Report on Form 10-Q for the quarter ended March 30, 2002 for Simmons Bedding (referred to as “3/30/02 10-Q”), (iv) Annual Report on Form 10-K for the year ended December 28, 2002 for Simmons Bedding (referred to as “2002 10-K”), (v) Annual Report on Form 10-K for the year ended December 27, 2003 for Simmons Bedding (referred to as “2003 10-K”), (vi) Current Report on Form 8-K filed September 2, 2004 for Simmons Bedding (referred to as “9/02/04 8-K”), (vii) registration statement on Form S-4 under the Securities Act of 1933 for Simmons Company, File No. 333-124138 (referred to as “2005 S-4”), (viii) Current Report on Form 8-K filed August 4, 2005 for Simmons Bedding (referred to as “8/4/05 8-K”), (ix) Current Report on Form 8-K filed September 21, 2005 for Simmons Bedding (referred to as “9/21/05 8-K”), (x) Current Report on Form 8-K filed December 13, 2005 for Simmons Bedding (referred to as “12/13/05 8-K”), (xi) Current Report on Form 8-K filed December 19, 2005 for Simmons Bedding (referred to as “12/19/05 8-K”), (xii) Current Report on Form 8-K filed April 4, 2006 for Simmons Company (referred to as “4/6/06 8-K”), (xiii) Current Report on Form 8-K filed April 19, 2006 for Simmons Company (referred to as “4/19/06 8-K”), (xiv) Current Report on Form 8-K filed April 24, 2006 for Simmons Company (referred to as “4/24/06 8-K), (xv) Current Report on Form 8-K filed May 31, 2006 for Simmons Company (referred to as “5/31/06 8-K”), (xvi) Quarterly Report on Form 10-Q for the quarter ended July 1, 2006 for Simmons Company (referred to as “7/1/06 10-Q”), (xvii) Quarterly Report on Form 10-Q for the quarter ended September 30, 2006 for Simmons Company (referred to as “9/30/06 10-Q”), (xviii) Current Report on Form 8-K filed October 5, 2006 for Simmons Company (referred to as “10/5/06 8-K”), (xix) Current Report on Form 8-K filed December 6, 2006 for Simmons Company (referred to as “12/6/06 8-K”), (xx) Current Report on Form 8-K filed February 12, 2007 (referred to as “2/12/07 8-K”), (xxi) Current Report on Form 8-K filed June 8, 2007 (referred to as “6/8/07 8-K”), (xxii) Current Report on Form 8-K filed December 7, 2007 (referred to as “12/7/07 8-K”), (xxiii) Annual Report on Form 10-K for the year ended December 29, 2007 for Simmons Company (referred to as “2007 10-K”), (xxix) Quarterly Report on Form 10-Q for the quarter ended June 28, 2008 for Simmons Company (referred to as “6/28/08 10-Q”), (xxx) Quarterly Report on Form 10-Q for the quarter ended September 27, 2008 for Simmons Company (referred to as “9/27/08 10-Q), (xxxi) Current Report on Form 8-K filed December 10, 2008 for Simmons Company (referred to as “12/10/08 8-K”), (xxxii) Current Report on Form 8-K filed February 17, 2009 for Simmons Company (referred to as “2/17/09 8-K”) and (xxxiii) Current Report on Form 8-K filed March 30, 2009 for Simmons Company (referred to as “3/30/09 8-K”). Exhibits filed herewith have been denoted by a pound sign (#).
EXHIBIT INDEX
Number
Description
*2.1
Agreement and Plan of Merger dated as of December 19, 2003, by and between THL Bedding Company and Simmons Holdings, Inc. (2003 10-K)
*2.2
Agreement and Plan of Merger dated as of December 19, 2003, by and between Simmons Company and Simmons Holdings, Inc. (2003 10-K)
*3.1
Amended and Restated Certificate of Incorporation of Simmons Company. (2005 S-4)
*3.1.1
Certificate of Amendment to the Amended and Restated Certificate of Incorporation of THL Bedding Holding Company. (2005 S-4)
*3.1.2
Second Amended and Restated Articles of Incorporation of Simmons Company. (12/06/06 8-K)
*3.1.3
Third Amended and Restated Certificate of Incorporation of Simmons Company. (2/12/07 8-K)
*3.2
Certificate of Ownership and Merger of Simmons Company with and into Simmons Holdings, Inc. (2003 10-K)
*3.2.1
The Merger Agreement dated February 7, 2007 by and among Simmons Holdco, Inc., Simmons Merger Company and Simmons Company. (2/12/07 8-K)
*3.3
Amended and Restated By-laws of Simmons Company. (2005 S-4)
*4.1
Indenture (including form of note) dated as of December 19, 2003, among Simmons Bedding Company (f/k/a THL Bedding Company), the Guarantors party thereto and Wells Fargo Bank Minnesota, National Association, as trustee. (2003 10-K)
*4.2
Indenture (including form of note) dated as of December 15, 2004 between Simmons Company and Wells Fargo Bank, National Association, as trustee. (2005 S-4)
*4.3
Exchange and Registration Rights Agreement dated December 15, 2004 among Simmons Company and the Initial Purchasers. (2005 S-4)
*10.1
Lease Agreement at Concourse between Concourse I, Ltd., as Landlord, and Simmons Bedding, as Tenant, dated as of April 20, 2000, as amended. (9/30/00 10-Q)
*10.1.1
Second Amendment to Lease Agreement at Concourse between Teachers Concourse, LLC, as Landlord, and Simmons Bedding, as Tenant, dated as of October 6, 2006. (9/30/06 10-Q)
#10.1.2
Third Amendment to Lease Agreement at Concourse between Teachers Concourse, LLC, as Landlord, and Simmons Bedding, as Tenant, dated as of October 1, 2008.
*10.2
Loan Agreement, dated as of November 1, 1982, between the City of Janesville, Wisconsin and Simmons Bedding, as successor by merger to Simmons Manufacturing Company, Inc., relating to $9,700,000 City of Janesville, Wisconsin Industrial Development Revenue Bond, Series A. (1999 S-4)
*10.3
Loan Agreement between the City of Shawnee and Simmons Bedding relating to the Indenture of Trust between City of Shawnee, Kansas and State Street Bank and Trust Company of Missouri, N.A., as Trustee, dated as of December 1, 1996 relating to $5,000,000 Private Activity Revenue Bonds, Series 1996. (1999 S-4)
*10.4
Loan Agreement dated as of December 12, 1997 between Simmons Caribbean Bedding, Inc. and Banco Santander Puerto Rico. (1999 S-4)
*10.5
Simmons Retirement Savings Plan adopted February 1, 1987, as amended and restated January 1, 2002. (3/30/02 10-Q)
*10.5.1
First Amendment to the Simmons Retirement Savings Plan effective for years beginning after December 31, 2001. (3/30/02 10-Q)
*10.6
Retirement Plan for Simmons Company Employees adopted October 31, 1987, as amended and restated May 1, 1997. (3/30/02 10-Q)
*10.7
First Amendment to the Retirement Plan for Simmons Company Employees effective for years ending after December 31, 2001. (3/30/02 10-Q)
*10.8
Stock Purchase Agreement dated as of November 17, 2003, by and among Simmons Holdings, Inc., THL Bedding Company and the sellers named therein. (2003 10-K)
*10.9
ESOP Stock Sale Agreement dated as of November 21, 2003, by and among Simmons Holdings, Inc., State Street Bank and Trust Company, solely in its capacity as trustee, of the Simmons Company Employee Stock Ownership Trust, and THL Bedding Company. (2003 10-K)
*10.10
Amendment to Employee Stock Ownership Plan Trust Agreement dated as of December 16, 2003, between Simmons Company and State Street Bank and Trust Company, as trustee under the Trust Agreement. (2003 10-K)
*10.11
Management Agreement dated as of December 19, 2003, by and between Simmons Company and THL Managers V, LLC. (2003 10-K)
*10.12
Senior Manager Restricted Stock Agreement dated as of December 19, 2003, between THL Bedding Company and Charles R. Eitel. (2003 10-K)
*10.12.1
Senior Manager Amended and Restated Restricted Stock Agreement dated as of April 17, 2006, among Simmons Company and Charles R. Eitel. (4/24/06 8-K)
*10.12.2
First Amendment to Amended and Restated Restricted Stock Agreement dated as of January 10, 2007, among Simmons Company and Charles R. Eitel. (2007 10-K)
*10.12.3
Second Amendment dated June 30, 2008 to the Amended and Restated Restricted Stock Agreement dated April 17, 2006 among LLLP Eitel Investments and Simmons Holdco, Inc. (6/28/08 10-Q)
*10.13
Senior Manager Restricted Stock Agreement dated as of December 19, 2003, between THL Bedding Company and William S. Creekmuir. (2003 10-K)
*10.13.1
Senior Manager Amended and Restated Restricted Stock Agreement dated as of April 17, 2006, among Simmons Company and William S. Creekmuir. (4/24/2006 8-K)
*10.13.2
First Amendment to Amended and Restated Restricted Stock Agreement dated as of January 10, 2007, among Simmons Company and William S. Creekmuir. (2007 10-K)
*10.13.3
Second Amendment dated June 30, 2008 to the Amended and Restated Restricted Stock Agreement dated April 17, 2006 among William S. Creekmuir and Simmons Holdco, Inc. (6/28/08 10-Q)
*10.14
Employment Agreement dated as of December 19, 2003, among THL Bedding Holding Company, Simmons Company and Charles R. Eitel. (2003 10-K)
*10.14.1
Supplement to Employee Agreement dated December 7, 2005 between Charles R. Eitel and Simmons Company and Simmons Bedding Company. (12/13/05 8-K)
*10.14.2
Second Supplement to Employee Agreement dated December 5, 2007 between Charles R. Eitel and Simmons Holdco, Simmons Company and Simmons Bedding Company. (2007 10-K)
*10.15
Employment Agreement dated as of December 19, 2003, among THL Bedding Holding Company, Simmons Company and William S. Creekmuir. (2003 10-K)
*10.15.1
Supplement to Employee Agreement dated December 9, 2005 between William S. Creekmuir and Simmons Company and Simmons Bedding Company. (12/13/05 8-K)
*10.15.2
Second Supplement to Employee Agreement dated December 5, 2007 between William S. Creekmuir and Simmons Holdco, Simmons Company and Simmons Bedding Company. (2007 10-K)
*10.16
Amended and Restated Credit and Guaranty Agreement, dated as of August 27, 2004, among Simmons Bedding Company, as Company, THL-SC Bedding Company and certain subsidiaries of the Company, as Guarantors, the financial institutions listed therein, as Lenders, UBS Securities LLC, as Joint Lead Arranger and as Co-Syndication Agent, Deutsche Bank AG, New York Branch, as Administrative Agent and Collateral Agent, General Electric Capital Corporation, as Co-Documentation Agent, CIT Lending Services Corporation, as Co-Documentation Agent, and Goldman Sachs Credit Partners L.P., as Sole Bookrunner, a Joint Lead Arranger and as Co-Syndication Agent. (9/02/04 8-K)
*10.16.1
First Amendment dated December 16, 2005 to the Amended and Restated Credit and Guaranty Agreement dated as of August 27, 2004. (12/19/05 8-K)
*10.16.2
Second Amended and Restated Credit and Guaranty Agreement, dated as of May 25, 2006, among Simmons Bedding Company, as Company, THL-SC Bedding Company and certain subsidiaries of the Company, as Guarantors, the financial institutions listed therein, as Lenders, Goldman Sachs Credit Partners L.P., as Sole Bookrunner, Lead Arranger and Syndication Agent, Deutsche Bank AG, New York Branch, as Administrative Agent and Collateral Agent, General Electric Capital Corporation, as Co-Documentation Agent and CIT Lending Services Corporation, as Co-Documentation Agent. (5/31/06 8-K)
*10.16.3
First Amendment dated February 9, 2007 to the Second Amended and Restated Credit and Guaranty Agreement dated May 25, 2006. (2/12/07 8-K)
*10.16.4
Second Forbearance Agreement; Third Amendment to the Second Amended and Restated Credit and Guaranty Agreement and First Amendment to the Pledge and Security Agreement. (12/10/08 8-K)
*10.16.5
First Amendment to Second Forbearance Agreement; Fourth Amendment to the Second Amended and Restated Credit and Guaranty Agreement and Second Amendment to the Pledge and Security Agreement. (3/30/09 8-K)
*10.17
Senior Unsecured Term Loan and Guaranty Agreement, dated December 19, 2003, among THL Bedding Company, as Company, THL-SC Bedding Company and certain subsidiaries of the Company, as Guarantors, the financial institutions listed therein, as Lenders, Goldman Sachs Credit Partners L.P., as Sole Bookrunner, a Joint Lead Arranger and as Co-Syndication Agent, UBS Securities LLC, as Joint Lead Arranger and as Co-Syndication Agent, and Deutsche Bank AG, New York Branch, as Administrative Agent. (2003 10-K)
*10.18
Assumption Agreement, dated December 19, 2003, made by Simmons Holdings, Inc., Simmons Company and certain subsidiaries of Simmons, as Guarantors, in favor of Deutsche Bank, AG, New York Branch, as Administrative Agent for banks and other financial institutions or entities, the Lenders, parties to the Credit Agreement and Term Loan Agreement. (2003 10-K)
*10.19
Pledge and Security Agreement dated December 19, 2003, between each of the grantors party thereto and Deutsche Bank AG, New York Branch, as the Collateral Agent. (2003 10-K)
*10.20
Stock Option Plan. (2002 10-K)
*10.21
Simmons Company Employee Stock Ownership Plan adopted January 31, 1998, as amended and restated December 29, 2001. (3/30/02 10-Q)
*10.21.1
First Amendment to the Simmons Company Employee Stock Ownership Plan effective for years ending after December 31, 2001. (3/30/02 10-Q)
*10.22
Offer of Employment dated as of July 14, 2005, among Simmons Bedding and Robert P. Burch. (8/4/05 8-K)
*10.22.1
Non-Compete Agreement dated as of July 14, 2005, among Simmons Bedding and Robert P. Burch. (8/4/05 8-K)
*10.23
Employment Agreement dated as of December 7, 2007 between Simmons Holdco, Inc., Simmons Bedding Company and Stephen G. Fendrich. (12/7/07 8-K)
*10.24
Restricted Stock Agreement dated as of September 9, 2005, between Simmons Company and Robert P. Burch. (9/21/05 8-K)
*10.24.1
Amended and Restated Restricted Stock Agreement dated as of April 17, 2006, among Simmons Company and Robert P. Burch. (4/24/06 8-K)
*10.24.2
First Amendment to Amended and Restated Restricted Stock Agreement dated as of January 10, 2007, among Simmons Company and Robert P. Burch. (2007 10-K)
*10.24.3
Second Amendment dated June 30, 2008 to the Amended and Restated Restricted Stock Agreement dated April 17, 2006 among Robert P. Burch and Simmons Holdco, Inc. (6/28/08 10-Q)
*10.25
Restricted Stock Agreement dated as of March 31, 2006, between Simmons Company and Stephen G. Fendrich. (4/6/06 8-K)
*10.25.1
Amended and Restated Restricted Stock Agreement dated as of April 18, 2006, between Simmons Company and Stephen G. Fendrich. (4/24/06 8-K)
*10.25.2
First Amendment to Amended and Restated Restricted Stock Agreement dated as of January 10, 2007, among Simmons Company and Stephen G. Fendrich. (2007 10-K)
*10.25.3
Second Amendment dated June 30, 2008 to the Amended and Restated Restricted Stock Agreement dated March 31, 2006 among Stephen G. Fendrich and Simmons Holdco, Inc. (6/28/08 10-Q)
*10.26
General Release and Separation Agreement dated as of March 31, 2006, among Simmons Bedding, Simmons Company and Rhonda C. Rousch. (4/19/06 8-K)
*10.27
Employment Agreement dated as of November 10, 2006, among Simmons Company, Simmons Bedding Company and Gary S. Matthews. (9/30/06 10-Q)
*10.28
Unit Purchase Agreement by and among ST San Diego, LLC, Sleep Country USA, Inc., SC Holdings, Inc. and Simmons Bedding Company. (7/1/06 10-Q)
*10.29
General Release and Separation Agreement dated as of June 7, 2007, among Simmons Bedding, Simmons Company and Gary S. Matthews. (6/8/07 8-K)
*10.30
Amended and Restated Restricted Stock Agreement dated as of April 14, 2006 for December 2003 issuance, between Simmons Company and Timothy Oakhill. (2007 10-K)
*10.30.1
First Amendment to Amended and Restated Restricted Stock Agreement dated as of January 10, 2007, between Simmons Company and Timothy Oakhill. (2007 10-K)
*10.31
Amended and Restated Restricted Stock Agreement dated as of April 14, 2006 for September 2005 issuance, between Simmons Company and Timothy Oakhill. (2007 10-K)
*10.31.1
First Amendment to Amended and Restated Restricted Stock Agreement dated as of January 10, 2007, between Simmons Company and Timothy Oakhill. (2007 10-K)
*10.31.2
Second Amendment dated June 30, 2008 to the Amended and Restated Restricted Stock Agreement dated April 17, 2006 among Timothy F. Oakhill and Simmons Holdco, Inc. (6/28/08 10-Q)
*10.32
Restricted Stock Agreement dated as of September 29, 2006, between Simmons Company and Timothy Oakhill. (10/5/06 8-K)
*10.32.1
First Amendment to Amended and Restated Restricted Stock Agreement dated as of January 10, 2007, between Simmons Company and Timothy Oakhill. (2007 10-K)
*10.32.2
Second Amendment dated June 30, 2008 to the Restricted Stock Agreement dated September 29, 2006 among Timothy F. Oakhill and Simmons Holdco, Inc. (6/28/08 10-Q)
*10.33
Employee Letter Agreement dated January 9, 2006 among Simmons Company, Simmons Bedding Company and Timothy F. Oakhill. (2007 10-K)
*10.34
Stock Option Agreement dated January 16, 2008 among Simmons Holdco, Inc. and Stephen G. Fendrich. (2007 10-K)
*10.34.1
First Amendment dated June 30, 2008 to the Stock Option Agreement dated January 16, 2008 among Stephen G. Fendrich and Simmons Holdco, Inc. (6/28/08 10-Q)
*10.35
Forbearance Agreement to Indenture. (2/17/09 8-K)
*10.35.1
Amendment No. 1 to Forbearance Agreement to Indenture. (3/30/09 8-K)
*10.36
General Release and Separation Agreement between Charles R. Eitel, Simmons Holdco, Inc., Simmons Company, THL-SC Bedding Company, and Simmons Bedding Company dated September 30, 2008. (9/27/08 10-Q)
#10.37
Restricted Stock Agreement dated March 31, 2006 between Simmons Company and Dominick A. Azevedo.
#10.37.1
Amended and Restated Restricted Stock Agreement dated as of April 17, 2006, between Simmons Company and Dominick A. Azevedo.
#10.38
Stock Options Agreement dated July 11, 2007 between Simmons Holdco, Inc. and Dominick A. Azevedo.
#10.39
Stock Options Agreement dated January 16, 2008 between Simmons Holdco, Inc. and Dominick A. Azevedo.
#10.40
Employee Letter Agreement dated September 28, 2008 among Simmons Holdco, Inc. and Dominick A. Azevedo.
#12.1
Computation of ratio of earnings to fixed charges
*21.1
Subsidiaries of Simmons Company (2007 10-K)
#31.1
Certification of President and Chief Operating Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
#31.2
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
#32.1
Certification of President and Chief Operating Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
#32.2
Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
SIMMONS COMPANY
SCHEDULE II - VALUATION ACCOUNTS
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
SIMMONS COMPANY
(Registrant)
June 10, 2009
By: /s/ William S. Creekmuir
William S. Creekmuir, Executive Vice President,
Chief Financial Officer, Treasurer and Assistant Secretary (Principal Financial Officer)
KNOW ALL THESE PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints William S. Creekmuir, jointly and severally, his or her attorneys-in-fact, each with full power of substitution, for him in any and all capacities, to sign any and all amendments to this Form 10-K, and to file the same, with exhibits thereto and other documents in connection therewith, with the SEC, hereby ratifying and confirming all that each said attorneys-in-fact or his substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
/s/ Stephen G. Fendrich
Stephen G. Fendrich
President and Chief Operating Officer
June 10, 2009
(Principal Executive Officer)
/s/ Todd M. Abbrecht
June 10, 2009
Todd M. Abbrecht, Director
/s/ William P. Carmichael
June 10, 2009
William P. Carmichael, Director
/s/ Charles R. Eitel
June 10, 2009
Charles R. Eitel, Vice-Chairman of the Board of Directors
/s/ David A. Jones
June 10, 2009
David A. Jones, Director
/s/ B. Joseph Messner
June 10, 2009
B. Joseph Messner, Director
/s/ Scott A. Schoen
June 10, 2009
Scott A. Schoen, Director
/s/ George R. Taylor
June 10, 2009
George R. Taylor, Director
/s/ Mark F. Chambless
June 10, 2009
Mark F. Chambless, Senior Vice President - Corporate
Controller and Assistant Secretary (Principal Accounting Officer)