What changed in this filing

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Item 7. Management’s Discussion and Analysis

2022-02-22 compared with 2021-02-19 · 253 added, 348 removed, 391 unchanged (61% of the section changed)

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• our use of certain non-GAAP financial measures.

Table of Co ntents

Business Overview

We are committed to improving the sleep of more people, every night, all around the world.

As a global leader in the design, manufacture and distribution of bedding products, we know how crucial a good night of sleep is to overall health and wellness.

As a leading designer, manufacturer, distributor and retailer of bedding products worldwide, we know how crucial a good night of sleep is to overall health and wellness.

Utilizing over a century of knowledge and industry-leading innovation, we deliver award-winning products that provide breakthrough sleep solutions to consumers in over 100 countries.

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North America and International.

Corporate operating expenses are not included in either of the segments and are presented separately as a reconciling item to consolidated results.

These segments are strategic business units that are managed separately based on geography.

In the fourth quarter of 2020, we realigned our business segment reporting to include Mexico within our North America segment, which was previously included in our International segment.

The change in segment reporting aligned with changes in how our global operations are managed.

Our North America segment consists of Tempur and Sealy manufacturing and distribution subsidiaries, joint ventures and licensees located in the U.S., Canada and Mexico.

In 2020, we acquired an 80% ownership interest in a newly formed limited liability company containing substantially all of the assets of the Sherwood Bedding business, which is included in the North America segment.

Our International segment consists of Tempur and Sealy manufacturing and distribution subsidiaries, joint ventures and licensees located in Europe, Asia-Pacific and Latin America (other than Mexico).

Our North America segment consists of manufacturing and distribution subsidiaries, joint ventures and licensees located in the U.S., Canada and Mexico.

Our International segment consists of manufacturing and distribution subsidiaries, joint ventures and licensees located in Europe, Asia-Pacific and Latin America (other than Mexico).

On August 2, 2021, we acquired Dreams Topco Limited and its direct and indirect subsidiaries ("Dreams").

Dreams is also included in the International segment.

Corporate operating expenses are not included in either of the segments and are presented separately as a reconciling item to consolidated results.

We evaluate segment performance based on net sales, gross profit and operating income.

For additional information refer to Note 15, "Business Segment Information," included in Part II, ITEM 8 "Financial Statements and Supplementary Data", of this Report.

Our product brand portfolio includes many highly recognized and iconic brands in the industry, including Tempur-Pedic®, Sealy® featuring Posturepedic® Technology and Stearns & Foster® and our non-branded offerings include value-focused private label OEM products.

Our distinct brands allow for complementary merchandising strategies.

Our highly recognized brands include Tempur-Pedic®, Sealy® and Stearns & Foster® and our non-branded offerings consist of value-focused private label and OEM products.

Our products allow for complementary merchandising strategies and are sold through third-party retailers, our more than 650 company-owned and joint venture operated retail stores worldwide and our e-commerce channel.

Our distribution model operates through an omni-channel strategy.

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Our Direct channel includes company-owned stores, online and call centers.

We have a global manufacturing footprint with approximately 9,000 employees worldwide.

Full year net income for 2021 increased 79.0% and full year diluted earnings per share ("EPS") increased 86.6% to $3.06.

Our growth has been driven by strong demand during the COVID-19 global pandemic as more people are investing in their homes and overall wellness.

We also maintain a strong competitive position within the industry.

We believe the investments that we have made over the past five years have strengthened the long-term foundation of our company and enhanced our competitive position.

The combination of our product superiority, brand strength, manufacturing efficiency and quality, powerful omni-channel distribution platform and substantial cash flow and balance sheet continue to drive market share gains and solid financial performance.

We believe the investments that we have made over the past several years have strengthened the long-term foundation of our company and enhanced our competitive position.

The combination of our product superiority, brand strength, manufacturing efficiency and quality, powerful omni-channel distribution platform, substantial cash flow and fortified balance sheet continue to drive market share gains and solid financial performance.

General Business and Economic Conditions

We believe the bedding industry is now structured for sustained growth.

We believe the bedding industry is structured for sustained growth, driven by product innovation, sleep technology advancements, consumer confidence, housing formations and population growth.

The industry is no longer engaged in uneconomical retail store expansion, startups have shifted from uneconomical strategies to becoming profitable and legacy retailers and manufacturers have become skilled in producing profitable online sales.

In 2020, we began rapidly expanding organically with new distribution partners through our direct channel and the initiation of our OEM business.

We experienced a reduction in total net sales at the outset of the COVID-19 global pandemic within our International business segment in the first quarter.

Order trends reached their lowest point in early April when they had declined approximately 80% as compared to the prior year.

North American order trends significantly improved beginning in late May, and this improvement continued throughout the remainder of the year.

This improvement was primarily due to the reopening of brick-and-mortar stores on a reduced or appointment only basis as restrictions were lifted;

the acceleration of e-commerce business trends;

and a shift in consumer spending habits towards in-home products, including bedding products.

Over the past several years and accelerating during the COVID-19 global pandemic, consumers have shifted their spending habits towards in-home products, including bedding products.

We believe this may be a long-term shift in consumer spending habits, which could continue to favorably impact our industry.

Table of Co ntents

The rapid increase in demand for bedding products has challenged the entire bedding industry and supply chain, including our business.

Additionally, the U.S.

government has mandated that domestic suppliers of certain materials used in the production of bedding products redirect such materials towards the production of personal protective equipment.

The broad-based increase in demand coupled with supply chain constraints, primarily related to an encased innerspring component, has created operational challenges in the production of Sealy and Sherwood products in the U.S.

As a result, the sales growth of Sealy and Sherwood in the second half of 2020 was unfavorably impacted by these supply chain constraints, as we could not fulfill the entire domestic demand for these products.

We expect these supply chain constraints to mitigate significantly by early second quarter of 2021.

The Tempur-Pedic manufacturing process has not been as impacted by supply chain constraints.

Sales trends for early 2021 indicate that growth in the U.S.

and Asia-Pacific has accelerated from the fourth quarter of 2020.

However, sales within certain of our European markets have decelerated from the fourth quarter of 2020 as a result of significant restrictions on retail activity due to renewed government restrictions related to the global COVID-19 pandemic.

We will continue to actively monitor the situation and may take further actions that alter our business operations as may be required by federal, state or local authorities or that we determine are in the best interests of our employees, customers, suppliers and stockholders.

While we are unable to determine or predict the nature, duration or scope of the overall impact the COVID-19 pandemic will have on our business, results of operations, liquidity or capital resources, we believe that it is important to share where the Company stands today, how our response to COVID-19 is progressing and how our operations and financial condition may change as the fight against COVID-19 progresses.

For further information regarding the potential impacts of COVID-19 on the Company, please refer to "Risk Factors" in ITEM 1A of Part I of this Report.

The rapid increase in demand for bedding products has challenged the entire bedding industry and supply chain, including our U.S.

As a result, the U.S.

sales growth in 2021 was unfavorably impacted as we could not fulfill the entire domestic demand for these products.

These supply chain constraints were largely resolved by the end of 2021.

We expect to be better positioned to meet consumer demand in 2022.

During 2021, commodity costs unfavorably impacted our gross margin.

Throughout 2021, we implemented pricing actions to mitigate the dollar impact of these known commodity headwinds.

In January 2022, we implemented further pricing actions designed to offset the dollar impact of these inflationary headwinds.

Product Launches

In our North America segment in 2020, we introduced the Tempur-Ergo Smart Base Collection with Sleeptracker® technology.

In 2021, we are refreshing our Sealy portfolio and launching new models in our Posturepedic Plus™, Posturepedic® and Essentials product lines.

We expect to complete the launch of our Essentials and Posturepedic lines in the second quarter of 2021.

Additionally, we expect to complete the launch of the higher margin Posturepedic Plus line in the second half of the year.

Our global 2021 marketing plan is to aggressively support our innovative bedding products through investing significant marketing dollars to promote our worldwide brands.

We expect to spend a record amount of marketing dollars in 2021 for Tempur-Pedic, Sealy and Stearns & Foster.

In 2022, we plan to complete the rollout of a complete refresh of our North American Sealy portfolio that began in 2021.

The updated Sealy portfolio features new models in our Posturepedic Plus TM , Posturepedic® and Essentials product lines.

We also expect to launch a complete refresh of our North American Stearns & Foster portfolio in 2022.

In the U.S., we plan to launch a Sealy-branded, eco-friendly mattress collection, as well as a Sealy mattress with a best-in-class pressure-relieving gel grid layer at a consumer-appealing, mid-market price point, in 2022.

In our international segment, we expect to begin the launch an all-new line of Tempur® products in Europe and Asia-Pacific in 2022 with the objective of reaching a new segment of international consumers.

This new line of products will broaden Tempur®'s price range with the super-premium average selling price ceiling maintained and the floor expanded into the premium category.

Our global 2022 marketing plan is to aggressively support our innovative bedding products through investing significant marketing dollars to promote our worldwide brands and product launches.

Omni-Channel Distribution Expansion

We have a diversified group of strong retail partners and a rapidly growing direct business.

In 2019, we announced three new or expanded third-party retail relationships in the U.S.

This resulted in the largest expansion of stores in our history.

In 2020, we successfully completed the product rollout to our expanded distribution relationships, realizing robust wholesale channel growth as a result.

We continue to increase our network of third-party retail partners and recently added new distribution at several established retail chains.

We have been focused on building our direct channel, both online and company-owned retail stores.

Due to supply chain constraints, we were not able to fulfill the entire domestic demand for our products in 2021.

As a result, we focused on our existing third-party retailer relationships and did not meaningfully expand domestic distribution through new or existing retail partners during the year.

In 2022, we expect to be better positioned to meet consumer demand and able to reengage with opportunities to expand our distribution through our domestic wholesale channel.

We have been focused on building our direct channel, both online and company-owned retail stores in recent years.

The development of our online business has been particularly important as consumers have grown more comfortable shopping for bedding products online.

Online purchases accelerated during the pandemic and we expect that consumers will continue to lean into this channel in the future.

In 2020, we estimate that 20% of our U.S.

sales occurred online, either through our own website in our direct channel or through our third-party retailer websites in our wholesale channel.

The direct channel growth rate has surpassed the wholesale growth rate over the last few years, and we anticipate the direct channel to continue to grow as a percentage of net sales in future years.

Our North America distribution network expanded in 2020 as we opened 21 new Tempur-Pedic retail stores.

As of December 31, 2020, we had 76 Tempur-Pedic retail stores in operation.

We currently operate over 650 retail stores globally through our wholly-owned and joint venture operations.

We expect to continue to increase our store count organically through opening an average of 60 new stores per year over the next several years.

As of December 31, 2021, we had 88 Tempur-Pedic retail stores throughout the U.S.

We plan to expand our network to 125 to 150 new retail stores in the long-term.

We expect these retail stores to complement our existing third-party retail partners by increasing our products' brand awareness in the local markets.

Table of Co ntents

In addition to our high-end Tempur-Pedic retail stores, we operate Sleep Outfitters, a regional bedding retailer that had 104 stores in 2021.

Additionally, in 2021, we expanded our retail presence in the International segment through our acquisition of Dreams.

Dreams has a successful multi-channel sales strategy, with over 200 brick and mortar retail locations in the U.K., an industry-leading online channel, as well as manufacturing and delivery assets.

In 2020, we expanded our presence into the OEM market by offering non-branded products, including mattresses, pillows, and other bedding products and components at a wide range of price points.

The addition of non-branded offerings expands our capabilities to service third-party retailers and creates opportunity to capture manufacturing profits from bedding brands outside our own.

In 2020, we sold approximately $150 million of OEM bedding products.

In 2021, we plan to grow our sales in the North American OEM business.

Future changes in raw material prices could have an unfavorable impact on our gross margin.

For the year ended December 31, 2020, commodity costs were flat as compared to the same period in the prior year, but were higher than expected for the second half of 2020.

We currently expect commodity costs and inflation to increase into 2021.

During the fourth quarter of 2020, we implemented pricing actions that fully mitigated the anticipated commodity costs increases expected for 2021.

In the first quarter of 2021, commodity costs have increased greater than expected and we will consider additional pricing actions as needed.

Acquisition of Sherwood Bedding

On January 31, 2020, we acquired an 80% ownership interest in a newly formed limited liability company containing substantially all of the assets of the Sherwood Bedding business for a cash purchase price of $39.1 million.

Sherwood Bedding is a major manufacturer in the U.S.

private label and OEM bedding market, and this acquisition of a majority interest marks our entrance into the private label category.

During the first quarter of 2020, we completed the integration of Sherwood Bedding into our portfolio of product brands.

Since the acquisition, we have leveraged our overall brand portfolio to gain additional distribution for Sherwood products.

Acquisition of Innovative Mattress Solutions, LLC ("iMS")

On April 1, 2019, we acquired substantially all of the net assets of iMS in a transaction valued at approximately $24.0 million, including assumed liabilities of $11.0 million as of March 31, 2019 (referred to as the "Sleep Outfitters Acquisition").

The acquisition of this regional bedding retailer furthers our North American retail strategy, which is focused on meeting customer demand through geographic representation and sales expertise.

During the second quarter of 2019, we completed the integration of Sleep Outfitters into the North America segment.

Sleep Outfitters, previously a third party retailer, had historically been part of our Wholesale channel.

Sleep Outfitters' sales have been reclassified into our Direct channel beginning in the second quarter of 2019.

Acquisition of Dreams

On August 2, 2021, we completed the acquisition of Dreams, for a cash purchase price of $476.7 million, which included $49.5 million of cash acquired.

The transaction was funded using cash on hand and bank financing.

As a multi-branded retailer, Dreams sells a variety of products across a range of price points with a margin profile lower than our historical International segment margins.

2021 Results of Operations

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• Gross margin was 43.8% in 2021 as compared to 44.6% in 2020.

Adjusted gross margin, which is a non-GAAP financial measure, was 44.7% in 2020.

There were no adjustments to gross margin in 2019.

• Operating income was $532.1 million, or 14.5% of net sales, as compared to $346.7 million, or 11.2% of net sales, in 2019.

Adjusted operating income, which is a non-GAAP financial measure, was $617.7 million, or 16.8% of net sales, as compared to $392.2 million, or 12.6% of net sales, in 2019.

Operating income and adjusted operating income, which is a non-GAAP financial measure, included $7.9 million of costs associated with temporarily closed company-owned retail stores and sales force retention costs as a result of the novel coronavirus ("COVID-19 charges").

• Operating income was $912.3 million as compared to $532.1 million in 2020.

Adjusted operating income, which is a non-GAAP financial measure, was $918.5 million as compared to $617.7 million in 2020.

• Net income was $624.5 million as compared to $348.8 million in 2020.

Adjusted net income, which is a non-GAAP financial measure, was $651.7 million as compared to $405.7 million in 2020.

• EBITDA, which is a non-GAAP financial measure, increased 57.5% to $737.8 million as compared to $468.4 million in 2019.

Adjusted EBITDA per credit facility, which is a non-GAAP financial measure, increased 53.5% to $779.9 million as compared to $508.1 million in 2019.

Table of Co ntents

• EPS increased to $3.06 as compared to $1.64 in 2020.

Adjusted EPS, which is a non-GAAP financial measure, increased 67.0% to $3.19 as compared to $1.91 in 2020.

Adjusted EPS, which is a non-GAAP financial measure, included $0.03 of COVID-19 charges.

For a discussion and reconciliation of non-GAAP financial measures as discussed above to the corresponding GAAP financial results, refer to the non-GAAP financial information set forth below under the heading "Non-GAAP Financial Information."

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Refer to Part II, ITEM 7A of this Report for a discussion of our foreign currency exchange rate risk.

Table of Co ntents

The following table sets forth the various components of our Consolidated Statements of Income and expresses each component as a percentage of net sales:

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Net income before non-controlling interests 625.0 12.7 349.8 9.5

Net income (loss) attributable to non-controlling interests 1.0 — (0.1) —

Net income attributable to non-controlling interests 0.5 — 1.0 —

Net income attributable to Tempur Sealy International, Inc.

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Diluted 204.3 212.3

Table of Co ntents

Year Ended December 31,

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Total net sales $ 4,930.8 $ 3,676.9 $ 4,079.2 $ 3,159.2 $ 851.6 $ 517.7

Year ended December 31, 2020 compared to year ended December 31, 2019

Net sales increased 34.1%, and on a constant currency basis increased 33.0%.

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• North America net sales increased $920 million, or 29.1%.

Net sales in the Wholesale channel increased $463.2 million, or 19.8%, primarily driven by broad-based demand across our retail partners and new distribution.

Net sales in our Direct channel increased $92.5 million, or 35.6%, primarily driven by growth from our e-commerce business.

On a constant currency basis, North America net sales increased 21.6%.

Net sales in the Wholesale channel increased $777.4 million, or 27.7%, primarily driven by broad-based demand across our retail partners.

Net sales in our Direct channel increased $142.6 million, or 40.5%, primarily driven by strong company-owned sales growth and higher retail sales volume compared to the prior year period, which was impacted by COVID-19.

• International net sales increased $333.9 million, or 64.5%.

On a constant currency basis, our International net sales increased 60.1%.

Net sales in the Wholesale channel were flat on a constant currency basis, which reflects the uneven re-opening of retail in many jurisdictions.

Net sales in the Direct channel increased 5.6% on a constant currency basis, driven by growth from our e-commerce business.

Net sales in the Wholesale channel increased 14.1% on a constant currency basis.

Net sales in the Direct channel increased 186.1% on a constant currency basis, driven by the acquisition of Dreams.

The increase in net sales across all channels was driven by higher sales volume compared to the prior year period, which was impacted by COVID-19.

Year Ended December 31,

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Our Tempur products are exclusively premium priced products.

As sales of our Sealy products increase relative to sales of our Tempur products, our gross margins will be negatively impacted in both our North America and International segments.

If sales of our Sealy products increase relative to sales of our Tempur products, our gross margins will be negatively impacted in both our North America and International segments.

Our gross margin is also impacted by fixed cost leverage based on manufacturing unit volumes;

the cost of raw materials;

operational efficiencies due to the utilization in our manufacturing facilities;

operational productivity due to the utilization in our manufacturing facilities;

product, channel and geographic mix;

the margin profile of acquired subsidiaries;

foreign exchange fluctuations;

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Future changes in raw material prices could have a significant impact on our gross margin.

In 2021, we expect commodity cost inflation to negatively impact gross margin.

In 2021, commodity cost inflation negatively impacted gross margin.

Our margins are also impacted by the growth in our Wholesale channel as sales in our Wholesale channel are at wholesale prices whereas sales in our Direct channel are at retail prices.

Table of Co ntents

Year ended December 31, 2020 compared to year ended December 31, 2019

Gross margin improved 140 basis points.

Gross margin declined 80 basis points.

The principal factors impacting gross margin for each segment are discussed below.

• North America gross margin improved 170 basis points.

The improvement in gross margin was primarily driven by improved fixed cost leverage and productivity on higher unit volumes of 160 basis points and favorable floor model costs of 90 basis points.

These improvements were partially offset by unfavorable product and brand mix of 100 basis points.

Additionally, we incurred $4.0 million of incremental costs related to global pandemic relief efforts, sanitation supplies and services and other items and $0.6 million of operational expansion costs related to the opening of a Sealy manufacturing facility, which partially offset the improvement in gross margin

• International gross margin improved 210 basis points.

The improvement in gross margin was primarily driven by improved fixed cost leverage and productivity on higher unit volumes of 120 basis points and favorable mix of 80 basis points.

Additionally, we incurred $0.5 million of incremental costs related to the global pandemic relief efforts, sanitation supplies and services and other items, which partially offset the improvement in gross margin.

• North America gross margin declined 110 basis points.

The decline in gross margin was primarily driven by price increases to customers without a margin benefit of 120 basis points.

Our gross margin was impacted as sales increased with no change in gross profit dollars, as our pricing actions have been offset the dollar impact of commodities.

• International gross margin declined 280 basis points.

The decline in gross margin was primarily driven by the acquisition of Dreams of 210 basis points and price increases to customers without a margin benefit of 100 basis points.

Dreams' margin profile is lower than our historical international margins as they sell a variety of products across a range of price points.

OPERATING EXPENSES

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General, administrative and other expenses include salaries and related expenses, information technology, professional fees, depreciation and amortization of long-lived assets not used in the manufacturing process, expenses for administrative functions and research and development costs.

Year ended December 31, 2020 compared to year ended December 31, 2019

Year Ended December 31,

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• North America operating expenses increased $80.7 million, or 10.9%, and decreased 330 basis points as a percentage of net sales.

The increase in operating expenses was primarily driven by higher advertising investments, partially offset by decreased customer-related charges.

In 2020, we recorded $11.7 million of customer-related charges in connection with the bankruptcy of Art Van Furniture, LLC and affiliates, whereas in the same prior year period, we recorded $29.8 million of customer-related charges in connection with the bankruptcy of Mattress PAL and resulting liquidity issues of Mattress PAL's affiliates.

The increase in operating expenses was primarily driven by increases in advertising and other selling and marketing investments, offset by incremental bad debt expense primarily related to the bankruptcy of one department store in the U.S.

Additionally, in 2020, we recorded $11.7 million of customer-related charges in connection with the bankruptcy of Art Van Furniture, LLC and affiliates to fully reserve trade receivables and other assets associated with this account and $7.0 million of asset impairment charges related to the write-off of certain sales and marketing assets driven by the macro-economic environment, which were not repeated in 2021.

• International operating expenses increased $116.1 million and decreased 110 basis points as a percentage of net sales.

The increase in operating expenses was primarily driven by $3.8 million of restructuring costs associated with headcount reductions driven by the macro-economic environment and $2.9 million of incremental costs related to global pandemic relief efforts, sanitation supplies and services and other items.

These incremental costs were offset by decreased other selling and marketing investments.

Table of Co ntents

• Corporate operating expenses increased $73.4 million, or 64.7%.

The increase in operating expenses was primarily driven by $49.4 million of non-recurring amortization for our long-term aspirational plan stock-based compensation.

The amount recognized represents the third quarter 2020 cumulative catch-up adjustment and fourth quarter 2020 expense for the long-term aspirational awards, which became probable of vesting during the third quarter of 2020 and vested in the fourth quarter of 2020.

Additionally, we reached the maximum payout for our 2020 performance-based stock compensation and annual incentive compensation plans.

The increase in operating expenses was primarily driven by increases in advertising and other selling and marketing investments, as well as the acquisition of Dreams.

• Corporate operating expenses decreased $42.5 million, or 22.7%.

The decrease in operating expenses was primarily driven by increased amortization for the Company's aspirational plan and other stock-based compensation in 2020.

This decrease was offset by $3.9 million of acquisition-related costs, primarily legal and professional fees associated with the acquisition of Dreams in 2021.

Research and development expenses for the year ended December 31, 2021 were $27.3 million compared to $23.1 million for the year ended December 31, 2020, an increase of $4.2 million, or 18.2%.

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International 200.0 23.5 % 127.6 24.6 % (1.1) %

1,056.7 719.0

Corporate expenses (144.4) (186.9)

Total operating income $ 912.3 18.5 % $ 532.1 14.5 % 4.0 %

Year ended December 31, 2020 compared to year ended December 31, 2019

Operating income increased $380.2 million and operating margin improved 400 basis points.

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• North America operating income increased $265.3 million and operating margin improved 230 basis points.

The improvement in operating margin was primarily driven by improved operating expense leverage of 310 basis points, the improvement in gross margin of 170 basis points and lower customer-related charges.

• International operating income increased $17.3 million and operating margin improved 260 basis points.

The improvement in operating margin was primarily driven by the improvement in gross margin of 210 basis points and improved operating expense leverage of 180 basis points.

These improvements were offset by $3.8 million of restructuring costs associated with headcount reductions driven by the macro-economic environment and $2.9 million of incremental costs related to global pandemic relief efforts, sanitation supplies and services and other items.

• Corporate operating expenses increased $73.4 million, which negatively impacted our consolidated operating margin by 200 basis points.

The increase in operating expenses was primarily driven by $49.4 million of non-recurring amortization for our long-term aspirational plan stock-based compensation.

Additionally, we reached the maximum payout for our 2020 performance-based stock compensation and annual incentive compensation plans.

The improvement in operating margin was primarily driven by improved operating expense leverage of 240 basis points and decreased customer-related charges, offset by the decline in gross margin of 110 basis points.

In 2020, we recorded $11.7 million of customer-related charges in connection with the bankruptcy of Art Van Furniture, LLC and affiliates.

Additionally, in 2020, we recorded $7.0 million of asset impairment charges related to the write-off of certain sales and marketing assets driven by the macro-economic environment, which were not repeated in 2021.

• International operating income increased $72.4 million and operating margin declined 110 basis points.

The decline in operating margin was primarily driven by the decline in gross margin of 280 basis points, offset by operating expense leverage.

• Corporate operating expenses decreased $42.5 million, which positively impacted our consolidated operating margin by 90 basis points.

The decrease in operating expenses was primarily driven by increased amortization for the Company's aspirational plan and other stock-based compensation in 2020.

This decrease was offset by $3.9 million of acquisition-related costs, primarily related to legal and professional fees associated with the acquisition of Dreams recognized in 2021.

INTEREST EXPENSE, NET

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Interest expense, net $ 66.3 $ 77.0 (13.9) %

Year ended December 31, 2020 compared to year ended December 31, 2019

Interest expense, net, decreased $10.7 million, or 13.9%.

The decrease in interest expense, net, was primarily driven by reduced average levels of outstanding debt and lower interest rates on our variable rate debt.

Table of Co ntents

The decrease in interest expense, net, was primarily driven by reduced average levels of outstanding debt and lower interest rates on our debt, primarily offset by $5.2 million of overlapping interest expense for the period between the issuance of the 2029 Senior Notes and the redemption of the 2026 Senior Notes incurred in 2021.

LOSS ON EXTINGUISHMENT OF DEBT

On March 25, 2021, we issued our 2029 Senior Notes.

During the second quarter of 2021, we used the net proceeds from the 2029 Senior Notes primarily to redeem in full our $600.0 million 2026 Senior Notes, at 102.75% of their principal amount, plus the accrued and unpaid interest.

As a result of the redemption, we recognized $18.0 million of loss on extinguishment of debt, which included a prepayment premium of $16.5 million and the write-off of $1.5 million of deferred financing costs.

Additionally, in the first quarter of 2021, we recognized $5.0 million of loss on extinguishment of debt, which includes a prepayment premium of $3.5 million and the write-off of $1.5 million of deferred financing costs, associated with the redemption of the remaining amount outstanding of the 2023 Senior Notes.

Refer to Note 6, "Debt," in our Notes to Condensed Consolidated Financial Statements included in ITEM 8 under Part II for additional information.

INCOME TAX PROVISION

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Income tax provision includes income taxes associated with taxes currently payable and deferred taxes, and includes the impact of net operating losses for certain of our foreign operations.

Year ended December 31, 2020 compared to year ended December 31, 2019

Our income tax provision increased $95.7 million due to an increase in income before income taxes, net of the favorable impact of discrete items.

Our 2020 effective tax rate decreased as compared to 2019 by 540 basis points.

Our 2021 effective tax rate increased as compared to 2020 by 140 basis points.

The effective tax rate as compared to the U.S.

federal statutory tax rate for the year ending December 31, 2020 included a net favorable impact of discrete items, primarily related to the implementation of income tax regulations in 2020 that favorably impacted our taxable global intangible low-taxed income ("GILTI") starting from the year ending December 31, 2018 onward and the vesting of certain stock compensation under our incentive stock compensation plan.

federal statutory tax rate for the year ending December 31, 2021 included a net favorable impact of discrete items, primarily related to excess tax benefits from the vesting of certain stock awards under our incentive stock compensation plan.

The effective tax rate as compared to the U.S.

federal statutory tax rate for the year ended December 31, 2019 included net unfavorable discrete items primarily related to the sale of a certain interest in our Asia-Pacific joint venture and the impact of certain stock compensation.

federal statutory tax rate for the year ended December 31, 2020 included the impact of net favorable discrete items primarily related to the implementation of income tax regulations in 2020 that favorably impacted our global intangible low-taxed income ("GILTI") starting from the year ending December 31, 2018 onward and the excess tax benefits from the vesting of certain stock awards under our incentive stock compensation plan.

Refer to Note 13, "Income Taxes," in our Consolidated Financial Statements included in Part II, ITEM 8 of this Report for further information.

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Principal uses of funds consist of payments of principal and interest on our debt facilities, share repurchases, capital expenditures and working capital needs.

As of December 31, 2021, we had net working capital of $222.2 million, including cash and cash equivalents of $300.7 million, as compared to working capital deficit of $6.4 million, including cash and cash equivalents of $65.0 million, as of December 31, 2020.

At December 31, 2021, total cash and cash equivalents were $300.7 million, of which $188.2 million was held in the U.S.

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Cash used in investing activities from continuing operations increased $408.2 million in 2021 as compared to 2020.

The increase in cash used in investing activities was primarily due to cash used to acquire the Sherwood Bedding business and planned capital expenditures.

Table of Co ntents

Cash used in financing activities from continuing operations increased $319.4 million in 2020 as compared to 2019.

In 2020, we repurchased $331.8 million of our common stock, which included repurchases of $285.9 million under our share repurchase program and $45.9 million which was withheld to satisfy tax withholding obligations related to stock compensation.

In 2019, we repurchased $105.7 million of our common stock, which included repurchases of $102.3 million under our share repurchase program and $3.4 million which was withheld to satisfy tax withholding obligations related to stock compensation.

In 2020, we had net repayments of $184.5 million on our credit facilities, as compared to net repayments of $104.3 million in 2019.

Cash Used in Discontinued Operations

The increase in cash used in investing activities was due to the acquisition of Dreams in the third quarter of 2021.

Cash provided by financing activities from continuing operations increased $599.1 million in 2021 as compared to 2020.

In 2021, we had net funding of $979.3 million as compared to net repayments of $184.5 million in 2020 on our credit facilities.

This increase included proceeds of $1.6 billion from the issuance of our 2029 and 2031 Senior Notes, offset by repayments of $250.0 million of our 2023 Senior Notes and $600.0 million of our 2026 Senior Notes and net borrowings of $229.3 million on our credit facilities.

In 2021, we repurchased $816.3 million of our common stock, as compared to $331.8 million in 2020.

Cash provided by financing activities also decreased due to dividends paid to shareholders of $63.1 million and payments of deferred financing costs of $24.9 million in 2021.

Cash Provided by (Used in) Discontinued Operations

Net cash provided by (used in) operating, investing and financing activities from discontinued operations for the years ended December 31, 2021 and 2020 was not material.

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Capital expenditures totaled $123.3 million and $111.3 million for the year ended December 31, 2021 and 2020, respectively.

We currently expect our 2021 capital expenditures to be approximately $125 million to $140 million, which includes investments in our OEM business and other growth initiatives and maintenance capital expenditures of $75 million.

Our total debt decreased to $1,370.3 million as of December 31, 2020 from $1,547.0 million as of December 31, 2019.

We currently expect our 2022 capital expenditures to be approximately $250 million to $280 million, which includes investments in manufacturing capacity expansion and investments in our other growth initiatives.

We expect to generate operating cash flows sufficient to fully fund our anticipated capital expenditures in 2022.

Our total debt increased to $2,353.2 million as of December 31, 2021 from $1,370.3 million as of December 31, 2020.

Total availability under our revolving senior secured credit facility was $724.3 million as of December 31, 2021, which matures in 2024.

On February 2, 2021 we entered into an amendment to our 2019 Credit Agreement, which increased our revolving credit facility from $425.0 million to $725.0 million.

On March 25, 2021, we issued the 2029 Senior Notes.

The 2029 Senior Notes mature on April 15, 2029 and 4.00% interest is payable semi-annually in arrears on each April 15 and October 15, beginning on October 15, 2021.

On June 15, 2021, we redeemed our $600.0 million 2026 Senior Notes, in full, using net proceeds from our 2029 Senior Notes.

Additionally, on May 26, 2021, we entered into an amendment to our 2019 Credit Agreement.

The amendment provides for a $300.0 million delayed draw term loan.

On July 30, 2021 we drew down the full $300.0 million available under the delayed draw term loan to fund, in part, the Dreams acquisition.

On September 21, 2021, we entered into an additional amendment to the 2019 Credit Agreement to remove the limit to the amount of netted cash that may be deducted from indebtedness for purposes of calculating certain leverage ratios.

On September 24, 2021, we issued the 2031 Senior Notes.

The 2031 Senior Notes mature on October 15, 2031 and 3.875% interest is payable semi-annually in arrears on each April 15 and October 15, beginning on April 15, 2022.

Refer to Note 6, "Debt," in our Consolidated Financial Statements included in Part II, ITEM 8 for further discussion of our debt.

As of December 31, 2020, our ratio of consolidated indebtedness less netted cash to adjusted EBITDA per credit facility, which is a non-GAAP financial measure defined in the 2019 Credit Agreement was 1.68 times.

As of December 31, 2021, our ratio of consolidated indebtedness less netted cash to adjusted EBITDA, which is a non-GAAP financial measure defined in the 2019 Credit Agreement, was 1.81 times.

This ratio is within the terms of the financial covenants for the maximum consolidated total net leverage ratio as set forth in the 2019 Credit Agreement, which limits this ratio to 5.00 times.

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Our debt agreements contain certain covenants that limit restricted payments, including share repurchases and dividends.

The 2019 Credit Agreement, 2023 Senior Notes and 2026 Senior Notes contain similar limitations which, subject to other conditions, allow unlimited restricted payments at times when the ratio of consolidated indebtedness less netted cash to adjusted EBITDA per credit facility remains below 3.5 times.

In addition, these agreements permit limited restricted payments under certain conditions when the ratio of consolidated indebtedness less netted cash to adjusted EBITDA per credit facility is above 3.5 times.

The 2019 Credit Agreement, 2029 Senior Notes and 2031 Senior Notes contain similar limitations which, subject to other conditions, allow unlimited restricted payments at times when the ratio of consolidated indebtedness less netted cash to adjusted EBITDA remains below 3.5 times.

In addition, these agreements permit limited restricted payments under certain conditions when the ratio of consolidated indebtedness less netted cash to adjusted EBITDA is above 3.5 times.

The limit on restricted payments under the 2019 Credit Agreement, 2029 Senior Notes and 2031 Senior Notes is in part determined by a basket that grows at 50% of adjusted net income each quarter, reduced by restricted payments that are not otherwise permitted.

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Both consolidated indebtedness and adjusted EBITDA as used in discussion of the 2019 Credit Agreement are terms that are not recognized under GAAP and do not purport to be alternatives to net income as a measure of operating performance or total debt.

Debt Securities Guaranteed by Subsidiaries

The $450.0 million and $600.0 million aggregate principal amount of 2023 Senior Notes and 2026 Senior Notes (collectively the "Senior Notes"), respectively, are general unsecured senior obligations of Tempur Sealy International and are fully and unconditionally guaranteed on a senior unsecured basis, jointly and severally, by all of Tempur Sealy International’s 100% directly or indirectly owned domestic subsidiaries (together, the "Obligor Group").

The foreign subsidiaries represent the foreign operations of the Company and do not guarantee the Senior Notes.

Table of Co ntents

The Senior Notes rank equally with or senior to all debt of Tempur Sealy International and the Obligor Group, but are effectively junior to all secured debt, including obligations under the 2019 Credit Agreement, to the extent of the value of the assets securing such debt.

Subject to certain restrictions, Tempur Sealy International and the restricted subsidiaries under the applicable indenture may incur additional secured debt.

Claims of creditors of non-guarantor subsidiaries, including trade creditors, and creditors holding debt and guarantees issued by those subsidiaries, and claims of preferred stockholders (if any) of those subsidiaries generally will have priority with respect to the assets and earnings of those subsidiaries over the claims of creditors of the holders of the Senior Notes.

The Senior Notes and each guarantee are therefore effectively subordinated to creditors (including trade creditors) and preferred stockholders (if any) of non-guarantor subsidiaries.

Under the applicable indenture, each guarantee is limited to the maximum amount that would not render the subsidiary guarantor's obligations subject to avoidance under the applicable fraudulent conveyance provisions of the United States Bankruptcy Code or any comparable provision of state law.

By virtue of this limitation, a subsidiary guarantor's obligation under its guarantee could be significantly less than amounts payable with respect to the Senior Notes, or could be reduced to zero, depending upon the amount of other obligations of such guarantor.

A subsidiary guarantor will be released from its obligations under the applicable indenture governing the Senior Notes when:

(a) the subsidiary guarantor is sold or sells all or substantially all of its assets;

(b) the subsidiary is declared "unrestricted" under the applicable indenture;

(c) the subsidiary’s guarantee of indebtedness under the 2019 Credit Agreement (as it may be amended, refinanced or replaced) is released (other than a discharge through repayment);

(d) the requirements for legal or covenant defeasance or discharge of the applicable indenture have been satisfied;

(e) the subsidiary is liquidated or dissolved in accordance with the applicable indenture;

or (f) the occurrence of any covenant suspension.

The Company has accounted for its investments in its subsidiaries under the equity method.

The summarized financial information for the Obligor Group follows.

December 31, 2020

Obligor Group

(in millions)

Net sales to unrelated parties $ 2,902.6

Net sales to non-obligor subsidiaries 67.0

Gross profit 1,274.4

Income from continuing operations 253.6

Net income attributable to Tempur Sealy International, Inc.

Table of Co ntents

Obligor Group

December 31, 2020

(in millions)

Receivables due from non-obligor subsidiaries $ 13.8

Other current assets 418.4

Total current assets 432.2

Loan receivable from non-obligor subsidiaries 184.8

Goodwill and other intangible assets, net 1,092.5

Other non-current assets 741.5

Total non-current assets 2,018.8

Payables due to non-obligor subsidiaries 15.2

Other current liabilities 618.5

Total current liabilities 633.7

Loan payable to non-obligor subsidiaries 14.5

Other non-current liabilities 1,689.2

Total non-current liabilities $ 1,703.7

Share Repurchase Program

Our Board of Directors authorized a share repurchase program in 2016 pursuant to which we were authorized to repurchase shares of our common stock.

The Board of Directors authorized increases to our share repurchase authorization of $194.2 million and $168.7 million during February and October 2020, respectively.

For the year ended December 31, 2020, we had repurchased 6.5 million shares under our share repurchase program for approximately $285.9 million and had approximately $201.6 million remaining under our share repurchase program.

In February 2021, the Board of Directors authorized an increase to our share repurchase authorization to bring the total authorization to $400.0 million.

The Board of Directors authorized increases to our share repurchase authorization of $211.4 million, $325.3 million, $431.5 million and $1,032.3 million during February, April, October and December 2021, respectively.

For the year ended December 31, 2021, we repurchased 19.5 million shares under our share repurchase program for approximately $801.4 million and had approximately $1,400.7 million remaining under our share repurchase program.

Subsequent to year-end, we repurchased an additional 7.7 million shares for approximately $305.0 million.

Share repurchases under this program may be made through open market transactions, negotiated purchases or otherwise, at times and in such amounts as management deems appropriate.

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Repurchases may be made under a Rule 10b5-1 plan, which would permit shares to be repurchased when we might otherwise be precluded from doing so under federal securities laws.

In 2021, subject to market conditions, we expect to repurchase 6.0% of common shares outstanding.

In 2022, subject to market conditions, we expect to repurchase at least 10.0% of common shares outstanding.

We will manage our share repurchase program based on current and expected cash flows, share price and alternative investment opportunities.

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Future Liquidity Sources and Uses

As of December 31, 2020, we had $519.2 million of liquidity, including $65.0 million of cash on hand and $424.9 million available under our revolving senior secured credit facility.

We also had availability of $29.3 million under our securitization facility.

We believe that cash flow from operations, availability under our existing credit facilities and arrangements, current cash balances and the ability to obtain other financing, if necessary, will provide adequate cash funds for our foreseeable working capital needs, necessary capital expenditures and debt service obligations.

Table of Co ntents

Our capital allocation plan is focused on the following to drive shareholder value:

• Invest an incremental $150 million of capital expenditures by 2023 to support our OEM business;

• Initiate a quarterly cash dividend beginning in early 2021, subject to approval by the Board of Directors.

For the first quarter of 2021, the Board of Directors has declared a dividend of $0.07 per share.

The dividend is payable on March 12, 2021 to shareholders of record as of February 25, 2021;

• Repurchase 6.0% of our common stock outstanding per year in the near-term, depending on market conditions;

• Evaluate acquisition opportunities with a focus on strategic acquisitions similar to those we have completed over the past few years.

As of December 31, 2021, we had $1.2 billion of liquidity, including $300.7 million of cash on hand and $724.3 million available under our revolving senior secured credit facility and $160.0 million available under our securitization facility.

Our capital allocation strategy follows a balanced approach focused on supporting the business, returning shareholder value through share repurchases and quarterly dividends as well as opportunistic and strategic acquisition opportunities that enhance our global competitiveness.

Throughout 2021, we took capital structure actions to optimize our balance sheet, through extending the maturities of our long-term debt and lowering our fixed interest rates.

The Board of Directors declared a dividend of 10 cents per share for the first quarter of 2022.

The dividend is payable on March 22, 2022 to shareholders of record as of March 8, 2022.

As of December 31, 2021, we had $2,353.2 million in total debt outstanding and consolidated indebtedness less netted cash, which is a non-GAAP financial measure, of $2,053.7 million.

Leverage based on the ratio of consolidated indebtedness less netted cash to adjusted EBITDA per credit facility, which is a non-GAAP financial measure, was 1.68 times for the year ended December 31, 2020, the lowest in our history.

Leverage based on the ratio of consolidated indebtedness less netted cash to adjusted EBITDA, which is a non-GAAP financial measure, was 1.81 times for the year ended December 31, 2021.

Our target range for our ratio of consolidated indebtedness less netted cash, which is a non-GAAP financial measure, is 2.0 to 3.0 times.

Total cash interest payments related to our borrowings are expected to be between approximately $55 million to $60 million in 2021.

On November 9, 2020, we redeemed $200.0 million of our $450.0 million issued and outstanding 2023 Senior Notes at 101.406% of their principal amount, plus the accrued and unpaid interest.

Additionally, we redeemed the remaining $250.0 million at 101.406% of their principal amount, plus the accrued and unpaid interest in the first quarter of 2021.

The 2019 Credit Agreement provides for a $425.0 million revolving credit facility, a $425.0 million term loan facility, and an incremental facility in an aggregate amount of up to $550.0 million plus the amount of certain prepayments plus an additional unlimited amount subject to compliance with a maximum consolidated secured leverage ratio test.

The 2019 Credit Agreement has a $60.0 million sub-facility for the issuance of letters of credit.

On February 2, 2021 we entered into an amendment to our 2019 Credit Agreement, which provides for an increase in the aggregate commitments under our revolving credit facility from $425.0 million to $725.0 million.

We expect to use the revolving credit facility from time to time to finance working capital needs and for general corporate purposes.

Our debt service obligations could, under certain circumstances, have material consequences to our stockholders.

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For information regarding the impact of COVID-19 on our business, including our liquidity and capital resources, please refer to "Risk Factors" in ITEM 1A of Part I of this Report.

Contractual Obligations

Our contractual obligations and other commercial commitments as of December 31, 2020 are summarized below:

Material Cash Requirements

Our material cash requirements as of December 31, 2021 are summarized below:

(in millions) Payment Due By Period

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(1) Debt excludes finance lease obligations and deferred financing costs.

In the first quarter of 2021, we redeemed the remaining $250.0 million of the 2023 Notes, principally funded by our revolving credit facility.

Accordingly, we have re-characterized the outstanding balance of the 2023 Notes as maturing in 2024, consistent with the maturity date of our revolving credit facility.

(2) Interest payments represent obligations under our debt outstanding as of December 31, 2021, applying December 31, 2021 interest rates and assuming scheduled payments are paid as contractually required through maturity.

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(4) Uncertain tax positions are excluded from this table given the timing of payments cannot be reasonably estimated.

Table of Co ntents

We have no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

Non-GAAP Financial Information

We provide information regarding adjusted net income, adjusted EPS, adjusted gross profit, adjusted gross margin, adjusted operating income (expense), adjusted operating margin, EBITDA, adjusted EBITDA per credit facility, consolidated indebtedness and consolidated indebtedness less netted cash, which are not recognized terms under GAAP and do not purport to be alternatives to net income, earnings per share, gross profit, gross margin, operating income (expense) and operating margin as a measure of operating performance or an alternative to total debt as a measure of liquidity.

We provide information regarding adjusted net income, adjusted EPS, adjusted operating income (expense), adjusted operating margin, EBITDA, adjusted EBITDA, consolidated indebtedness and consolidated indebtedness less netted cash, which are not recognized terms under GAAP and do not purport to be alternatives to net income, earnings per share, gross profit, gross margin, operating income (expense) and operating margin as a measure of operating performance or an alternative to total debt as a measure of liquidity.

We believe these non-GAAP financial measures provide investors with performance measures that better reflect our underlying operations and trends, providing a perspective not immediately apparent from net income, gross profit, gross margin, operating income (expense) and operating margin.

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Year Ended December 31,

(in millions, except percentages and per common share amounts) 2020 2019 % Change % Change Constant Currency (1)

(in millions, except percentages and per common share amounts) 2021 2020 % Change

Net sales $ 4,930.8 $ 3,676.9 34.1 %

Net income $ 624.5 $ 348.8 79.0 %

Adjusted EBITDA per credit facility (1)

Adjusted net income (1)

$ 651.7 $ 405.7 60.6 %

$ 1,088.7 $ 737.8 47.6 %

Adjusted EBITDA (1)

$ 1,135.9 $ 779.9 45.6 %

EPS $ 3.06 $ 1.64 86.6 %

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The following table sets forth the reconciliation of our reported net income to adjusted net income and the calculation of adjusted EPS for the years ended December 31, 2021 and 2020.

Table of Co ntents

Year Ended December 31,

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Loss from discontinued operations, net of tax (1)

Loss on extinguishment of debt (2)

Acquisition-related costs (3)

Overlapping interest expense (4)

Aspirational plan amortization (5)

2 unchanged sentences

Asset impairments (8)

Loss on extinguishment of debt (6)

Restructuring costs (9)

2 unchanged sentences

Facility expansion costs (12)

Charitable stock donation (11)

Acquisition-related costs and other (12)

Credit facility amendment (13)

Other income (13)

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Diluted shares outstanding 204.3 212.3

Adjusted net income included COVID-19 charges of $5.8 million, net of tax, and adjusted earnings per share of $0.03.

Table of Co ntents

(1) Certain subsidiaries in the International business segment are accounted for as discontinued operations and have been designated as unrestricted subsidiaries in the 2019 Credit Agreement.

Therefore, these subsidiaries are excluded from our adjusted financial measures for covenant compliance purposes.

(2) In the third quarter of 2020, we recognized $45.2 million of performance-based stock compensation amortization related to our long-term aspirational awards.

The amount recognized represents the cumulative catch-up adjustment for the long-term aspirational awards that became probable of vesting during the third quarter of 2020.

We recognized an additional $4.2 million in the fourth quarter commensurate with the remaining requisite service period.

(3) In the first quarter of 2020, we recorded $11.7 million of customer-related charges in connection with the bankruptcy of Art Van Furniture, LLC and affiliates to fully reserve trade receivables and other assets associated with this account.

In the fourth quarter of 2019, we recorded $29.8 million of customer-related charges in connection with the bankruptcy of Mattress PAL Holding, LLC ("Mattress PAL") and resulting liquidity issues with Mattress PAL's affiliates.

(4) In the second quarter of 2020, we recorded $4.9 million of incremental operating costs associated with the global pandemic.

In the first quarter of 2020, we recorded $2.3 million of charges related to the global pandemic.

(5) In the second quarter of 2020, we recorded $7.0 million of asset impairment charges related to the write-off of certain sales and marketing assets.

(6) In the fourth quarter of 2020, we recognized $4.2 million of loss on extinguishment of debt associated with the redemption of the 2023 senior notes.

In the third quarter of 2020, we recognized $0.9 million of loss on extinguishment of debt associated with the early repayment of the 364-day term loan.

(7) We incurred $0.4 million and $3.4 million of restructuring costs associated with International headcount reductions driven by the macro-economic environment, in the third and second quarter of 2020, respectively.

(8) In 2020, we recorded $3.6 million of charges related to the adoption of ASU No.

(2) In the year ended December 31, 2021, we recognized $23.0 million of loss on extinguishment of debt associated with the redemption of the 2026 and 2023 senior notes.

In the year ended December 31, 2020, we recognized $5.1 million of loss on extinguishment of debt associated with the redemption of the 2023 senior notes and the early repayment of the 364-day term loan.

(3) In the year ended December 31, 2021, we recognized $6.2 million of acquisition-related costs, primarily related to legal and professional fees and stamp taxes associated with the acquisition of Dreams.

(4) In the year ended December 31, 2021, we incurred $5.2 million of overlapping interest expense during the period between the issuance of the 2029 Senior Notes and the redemption of the 2026 Senior Notes.

(5) In the year ended December 31, 2020, we recognized $49.4 million which represented the cumulative catch-up adjustment for the long-term aspirational awards that became probable of vesting during the third quarter of 2020 and the remaining requisite service period in the fourth quarter of 2020.

(6) In the year ended December 31, 2020, we recorded $11.7 million of customer-related charges in connection with the bankruptcy of Art Van Furniture, LLC and affiliates to fully reserve trade receivables and other assets associated with this account.

(7) In the year ended December 31, 2020, we recorded $7.2 million of incremental operating costs and charges associated with the global pandemic.

Cost of sales included $4.5 million of costs for relief efforts, increased sanitation supplies and services and other items.

Operating expenses included $2.7 million of charges related to increased sanitation supplies and services.

(8) In the year ended December 31, 2020, we recorded $7.0 million of asset impairment charges related to the write-off of certain sales and marketing assets.

(9) In the year ended December 31, 2020, we incurred $3.8 million of restructuring costs associated with International headcount reductions driven by the macro-economic environment.

(10) In the year ended December 31, 2020, we recorded $3.6 million of charges related to the adoption of ASU No.

2016-13, "Financial Instruments - Credit Losses (Topic 326)".

As permitted by the 2019 Credit Agreement, we elected to eliminate the effect of this accounting change within our covenant compliance calculation.

As permitted by the 2019 Credit Agreement, we elected to eliminate the effect of this accounting change within its covenant compliance calculation.

(11) In the fourth quarter of 2020, we recognized $2.3 million of employer-related tax costs related to the aspirational plan compensation.

(10) In the third quarter of 2020, we recorded $0.6 million of costs related to the opening of a Sealy manufacturing facility.

(11) In the fourth quarter of 2019, we recorded an $8.9 million charge related to the donation of common stock at fair market value to certain public charities.

(12) In the first half of 2019, we recorded $6.1 million of acquisition-related and other costs, primarily related to post acquisition restructuring charges and professional fees incurred in connection with the acquisition of substantially all of the net assets of iMS by an affiliate of ours.

(13) In 2019, we recorded $0.7 million of professional fees in connection with the amendment of the 2019 Credit Agreement.

(12) In the year ended December 31, 2020, we recorded $0.6 million of costs related to the opening of a Sealy manufacturing facility.

(13) In the fourth quarter of 2020, we recorded $2.3 million of other income related to the sale of a manufacturing facility.

In the first quarter of 2019, we recorded $7.2 million of other income related to the sale of our interest in a subsidiary of the Asia-Pacific joint venture.

(14) Adjusted income tax provision represents the tax effects associated with the aforementioned items and discrete income tax events.

In 2020, we recorded a $9.5 million discrete income tax benefit upon the vesting of our long-term aspirational plan awards.

In the fourth quarter of 2020, we recorded a $9.5 million discrete income tax benefit upon the vesting of our long-term aspirational plan awards.

Adjusted Gross Profit and Gross Margin and Adjusted Operating Income (Expense) and Operating Margin

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We believe that the use of these non-GAAP financial measures provides investors with additional useful information with respect to the impact of various adjustments as described in the footnotes below.

The following table sets forth the reconciliation of our reported gross profit and operating income (expense) to the calculation of adjusted gross profit and adjusted operating income (expense) for the year ended December 31, 2020.

Table of Co ntents

The following table sets forth our reported gross profit and the reconciliation of our operating income (expense) to the calculation of adjusted gross profit and adjusted operating income (expense) for the year ended December 31, 2021.

We had no adjustments to gross profit for the year ended December 31, 2021.

FULL YEAR 2021

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Gross profit $ 2,158.7 43.8 % $ 1,678.0 41.1 % $ 480.7 56.4 % $ —

Operating income (expense) $ 912.3 18.5 % $ 856.7 21.0 % $ 200.0 23.5 % $ (144.4)

Acquisition-related costs (1)

6.2 — 2.3 3.9

Total adjustments 6.2 — 2.3 3.9

Adjusted operating income (expense) $ 918.5 18.6 % $ 856.7 21.0 % $ 202.3 23.8 % $ (140.5)

(1) In the year ended December 31, 2021, we recognized $6.2 million of acquisition-related costs, primarily related to legal and professional fees and stamp taxes associated with the acquisition of Dreams.

The following table sets forth the reconciliation of our operating income (expense) and operating margin to the calculation of adjusted operating income (expense) and adjusted operating margin for the year ended December 31, 2020:

FULL YEAR 2020

(in millions, except percentages) Consolidated Margin North America Margin International Margin Corporate

Net sales $ 3,676.9 $ 3,159.2 $ 517.7 $ —

Gross profit $ 1,638.4 44.6 % $ 1,332.0 42.2 % $ 306.4 59.2 % $ —

Incremental operating costs (1)

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Adjusted operating income (expense) $ 617.7 16.8 % $ 618.6 19.6 % $ 134.3 25.9 % $ (135.2)

Operating income and adjusted operating income included $7.9 million of COVID-19 charges.

The North America and International business segments included $6.3 million and $1.6 million of these charges, respectively.

(1) In the second quarter of 2020, we recorded $4.9 million of incremental operating costs associated with the global pandemic.

(1) In the year ended December 31, 2020, we recorded $7.2 million of incremental operating costs and charges associated with the global pandemic.

Cost of sales included $4.5 million of costs for relief efforts, increased sanitation supplies and services and other items.

Operating expenses included $2.7 million of charges related to increased sanitation supplies and services.

In the first quarter of 2020, we recorded $2.3 million of charges related to the global pandemic.

(2) In the third quarter of 2020, we recorded $0.6 million of costs related to the opening of a Sealy manufacturing facility.

(3) In the third quarter of 2020, we recognized $45.2 million of performance-based stock compensation amortization related to our long-term aspirational awards.

The amount recognized represents the cumulative catch-up adjustment for the long-term aspirational awards that became probable of vesting during the third quarter of 2020.

We recognized an additional $4.2 million in the fourth quarter commensurate with the remaining requisite service period.

(4) In the first quarter of 2020, we recorded $11.7 million of customer-related charges in connection with the bankruptcy of Art Van Furniture, LLC and affiliates to fully reserve trade receivables and other assets associated with this account.

(5) In the second quarter of 2020, we recorded $7.0 million of asset impairment charges related to the write-off of certain sales and marketing assets.

(6) In 2020, we incurred $3.8 million of restructuring costs associated with International headcount reductions driven by the macro-economic environment.

(7) In 2020, we recorded $3.6 million of charges related to the adoption of ASU No.

(2) In the year ended December 31, 2020, we recorded $0.6 million of costs related to the opening of a Sealy manufacturing facility.

(3) In the year ended December 31, 2020, we recognized $49.4 million which represented the cumulative catch-up adjustment for the long-term aspirational awards that became probable of vesting during the third quarter of 2020 and the remaining requisite service period in the fourth quarter of 2020.

(4) In the year ended December 31, 2020, we recorded $11.7 million of customer-related charges in connection with the bankruptcy of Art Van Furniture, LLC and affiliates to fully reserve trade receivables and other assets associated with this account.

(5) In the year ended December 31, 2020, we recorded $7.0 million of asset impairment charges related to the write-off of certain sales and marketing assets.

(6) In the year ended December 31, 2020, we incurred $3.8 million of restructuring costs associated with International headcount reductions driven by the macro-economic environment.

(7) In the year ended December 31, 2020, we recorded $3.6 million of charges related to the adoption of ASU No.

2016-13, "Financial Instruments - Credit Losses (Topic 326)".

As permitted by the 2019 Credit Agreement, we elected to eliminate the effect of this accounting change within our covenant compliance calculation.

As permitted by the 2019 Credit Agreement, we elected to eliminate the effect of this accounting change within its covenant compliance calculation.

(8) In the fourth quarter of 2020, we recognized $2.3 million of employer-related tax costs related to the aspirational plan compensation.

Table of Co ntents

FULL YEAR 2019

(in millions, except percentages) Consolidated Margin North America Margin International Margin Corporate

Net sales $ 3,106.0 $ 2,603.5 $ 502.5 $ —

Gross profit $ 1,342.2 43.2 % $ 1,055.2 40.5 % $ 287.0 57.1 % $ —

Operating income (expense) $ 346.7 11.2 % $ 349.9 13.4 % $ 110.3 22.0 % $ (113.5)

Customer-related charges (1)

29.8 29.8 — —

Charitable stock donation (2)

Acquisition-related costs and other (3)

6.1 1.7 0.3 4.1

Credit facility amendment (4)

Total adjustments 45.5 40.4 0.3 4.8

Adjusted operating income (expense) $ 392.2 12.6 % $ 390.3 15.0 % $ 110.6 22.0 % $ (108.7)

(1) In the fourth quarter of 2019, we recorded $29.8 million of customer-related charges in connection with the bankruptcy of Mattress PAL and resulting liquidity issues of Mattress PAL's affiliates to fully reserve trade receivables and other assets associated with this account.

(2) In the fourth quarter of 2019, we recorded an $8.9 million charge related to the donation of common stock at fair market value to certain public charities.

(3) In the first half of 2019, we recorded $6.1 million of acquisition-related and other costs, primarily related to post acquisition restructuring charges and professional fees incurred in connection with the acquisition of substantially all of the net assets of iMS by an affiliate of ours.

(4) In the fourth quarter of 2019, we incurred $0.7 million of professional fees in connection with the amendment of the senior secured credit facility.

EBITDA, Adjusted EBITDA per Credit Facility and Consolidated Indebtedness Less Netted Cash

EBITDA, Adjusted EBITDA and Consolidated Indebtedness Less Netted Cash

The following reconciliations are provided below:

• Net income to EBITDA and adjusted EBITDA per credit facility

• Ratio of consolidated indebtedness less netted cash to adjusted EBITDA per credit facility

• Net income to EBITDA and adjusted EBITDA

• Ratio of consolidated indebtedness less netted cash to adjusted EBITDA

• Total debt, net to consolidated indebtedness less netted cash

We believe that presenting these non-GAAP measures provides investors with useful information with respect to our operating performance, cash flow generation and comparisons from period to period, as well as general information about our progress in reducing our leverage.

The 2019 Credit Agreement provides the definition of adjusted EBITDA ("adjusted EBITDA per credit facility").

Accordingly, we present adjusted EBITDA per credit facility to provide information regarding our compliance with requirements under the 2019 Credit Agreement.

The following table sets forth the reconciliation of our reported net income to the calculations of EBITDA and adjusted EBITDA per credit facility for the years ended December 31, 2020 and 2019:

Table of Co ntents

The 2019 Credit Agreement provides the definition of adjusted EBITDA.

Accordingly, we present adjusted EBITDA to provide information regarding our compliance with requirements under the 2019 Credit Agreement.

The following table sets forth the reconciliation of our reported net income to the calculations of EBITDA and adjusted EBITDA for the years ended December 31, 2021 and 2020:

(in millions) December 31, 2021 December 31, 2020

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Interest expense, net 61.1 77.0

Overlapping interest expense (1)

Loss on extinguishment of debt (2)

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Loss from discontinued operations, net of tax (4)

Acquisition-related costs (5)

Earnings from Dreams/Sherwood prior to acquisition (6)

Customer-related charges (7)

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Facility expansion costs (14)

Earnings from Sherwood prior to acquisition (12)

Charitable stock donation (13)

Acquisition-related costs and other (14)

Credit facility amendment (15)

Other income (15)

Adjusted EBITDA per credit facility $ 779.9 $ 508.1

Adjusted EBITDA $ 1,135.9 $ 779.9

Consolidated indebtedness less netted cash $ 2,053.7 $ 1,306.7

Ratio of consolidated indebtedness less netted cash to adjusted EBITDA per credit facility 1.68 times 2.92 times

Table of Co ntents

(1) In the fourth quarter of 2020, we recognized $4.2 million of loss on extinguishment of debt associated with the redemption of the 2023 senior notes.

In the third quarter of 2020, we recognized $0.9 million of loss on extinguishment of debt associated with the early repayment of the 364-day term loan.

(2) In the third quarter of 2020, we recognized $45.2 million of performance-based stock compensation amortization related to our long-term aspirational awards.

The amount recognized represents the cumulative catch-up adjustment for the long-term aspirational awards that became probable of vesting during the third quarter of 2020.

We recognized an additional $4.2 million in the fourth quarter commensurate with the remaining requisite service period.

Ratio of consolidated indebtedness less netted cash to adjusted EBITDA 1.81 times 1.68 times

(1) In the year ended December 31, 2021, we incurred $5.2 million of overlapping interest expense during the period between the issuance of the 2029 Senior Notes and the redemption of the 2026 Senior Notes.

(2) In the year ended December 31, 2021, we recognized $23.0 million of loss on extinguishment of debt associated with the redemption of the 2026 and 2023 senior notes.

(4) Certain subsidiaries in the International business segment are accounted for as discontinued operations and have been designated as unrestricted subsidiaries in the 2019 Credit Agreement.

Therefore, these subsidiaries are excluded from our adjusted financial measures for covenant compliance purposes.

In the fourth quarter of 2019, we recorded $29.8 million of customer-related charges in connection with the bankruptcy of Mattress PAL and resulting liquidity issues with Mattress PAL's affiliates.

(5) In the second quarter of 2020, adjusted EBITDA per credit facility excluded $7.9 million of COVID-19 charges associated with temporarily closed company-owned retail stores and sales force retention costs.

(6) In the second quarter of 2020, we recorded $4.9 million of incremental operating costs associated with the global pandemic.

In the first quarter of 2020, we recorded $2.3 million of charges related to the global pandemic.

(7) In the second quarter of 2020, we recorded $7.0 million of asset impairment charges related to the write-off of certain sales and marketing assets.

(8) In 2020, we incurred $3.8 million of restructuring costs associated with International headcount reductions driven by the macro-economic environment.

(9) In 2020, we recorded $3.6 million of charges related to the adoption of ASU No.

(5) In the year ended December 31, 2021, we recognized $6.2 million of acquisition-related costs, primarily related to legal and professional fees and stamp taxes associated with the acquisition of Dreams.

(6) We completed the acquisition of Dreams on August 2, 2021 and designated this subsidiary as restricted under the 2019 Credit Agreement.

For covenant compliance purposes, we included $40.3 million of EBITDA from this subsidiary for the seven months prior to acquisition in our calculation of adjusted EBITDA for the year ended December 31, 2021.

We completed the acquisition of Sherwood Bedding on January 31, 2020 and designated this subsidiary as restricted under the 2019 Credit Agreement.

For covenant compliance purposes, we included $0.3 million of EBITDA from this subsidiary for the one month prior to acquisition in our calculation of adjusted EBITDA for the trailing twelve months ended December 31, 2020.

(7) In the year ended December 31, 2020, we recorded $11.7 million of customer-related charges in connection with the bankruptcy of Art Van Furniture, LLC and affiliates to fully reserve trade receivables and other assets associated with this account.

(8) In the year ended December 31, 2020, adjusted EBITDA excluded $7.9 million of COVID-19 charges associated with temporarily closed company-owned retail stores and sales force retention costs.

(9) In the year ended December 31, 2020, we recorded $7.2 million of incremental operating costs and charges associated with the global pandemic.

Cost of sales included $4.5 million of costs for relief efforts, increased sanitation supplies and services and other items.

Operating expenses included $2.7 million of charges related to increased sanitation supplies and services.

(10) In the year ended December 31, 2020, we recorded $7.0 million of asset impairment charges related to the write-off of certain sales and marketing assets.

(11) In the year ended December 31, 2020, we incurred $3.8 million of restructuring costs associated with International headcount reductions driven by the macro-economic environment.

(12) In the year ended December 31, 2020, we recorded $3.6 million of charges related to the adoption of ASU No.

2016-13, "Financial Instruments - Credit Losses (Topic 326)".

As permitted by the 2019 Credit Agreement, we elected to eliminate the effect of this accounting change within our covenant compliance calculation.

As permitted by the 2019 Credit Agreement, we elected to eliminate the effect of this accounting change within its covenant compliance calculation.

(13) In the fourth quarter of 2020, we recognized $2.3 million of employer-related tax costs related to the aspirational plan compensation.

(11) In the third quarter of 2020, we recorded $0.6 million of costs related to the opening of a Sealy manufacturing facility.

(12) We completed the acquisition of Sherwood Bedding on January 31, 2020 and designated this subsidiary as restricted under the 2019 Credit Agreement.

For covenant compliance purposes, the Company included $0.3 million of EBITDA from this subsidiary for the one month prior to acquisition in our calculation of adjusted EBITDA per credit facility for the trailing twelve months ended December 31, 2020.

(13) In the fourth quarter of 2019, we recorded an $8.9 million charge related to the donation of common stock at fair market value to certain public charities.

(14) In the first half of 2019, we recorded $6.1 million of acquisition-related and other costs, primarily related to post acquisition restructuring charges and professional fees incurred in connection with the acquisition of substantially all of the net assets of iMS by an affiliate of ours.

(15) In the fourth quarter of 2019, we incurred $0.7 million of professional fees in connection with the amendment of the senior secured credit facility.

(14) In the year ended December 31, 2020, we recorded $0.6 million of costs related to the opening of a Sealy manufacturing facility.

(15) In the fourth quarter of 2020, we recorded $2.3 million of other income related to the sale of a manufacturing facility.

In the first quarter of 2019, we recorded $7.2 million of other income related to the sale of our interest in a subsidiary of the Asia-Pacific joint venture.

Under the 2019 Credit Agreement, the definition of adjusted EBITDA (which we refer to as "adjusted EBITDA per credit facility") contains certain restrictions that limit adjustments to net income when calculating adjusted EBITDA.

Under the 2019 Credit Agreement, the definition of adjusted EBITDA contains certain restrictions that limit adjustments to net income when calculating adjusted EBITDA.

For the year ended December 31, 2021, our adjustments to net income when calculating adjusted EBITDA did not exceed the allowable amount under the 2019 Credit Agreement.

The ratio of consolidated indebtedness less netted cash to adjusted EBITDA per credit facility was 1.68 times for the trailing twelve months ended December 31, 2020.

The ratio of consolidated indebtedness less netted cash to adjusted EBITDA was 1.81 times for the trailing twelve months ended December 31, 2021.

The 2019 Credit Agreement requires us to maintain a ratio of consolidated indebtedness less netted cash to adjusted EBITDA of less than 5.00:1.00 times.

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Consolidated indebtedness less netted cash $ 2,053.7 $ 1,306.7

Table of Co ntents

(1) We present deferred financing costs as a direct reduction from the carrying amount of the related debt in the Consolidated Balance Sheets.

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(2) Netted cash includes cash and cash equivalents for domestic and foreign subsidiaries designated as restricted subsidiaries in the 2019 Credit Agreement.

Critical Accounting Policies and Estimates

Critical Accounting Estimates

Our management is responsible for our financial statements and has evaluated the accounting policies to be used in their preparation.

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We extend volume discounts to certain customers and reflect these amounts as a reduction of net sales.

We estimate the liability for sales returns at the time of sale, based on our level of historical sales returns.

We allow returns following a sale, depending on the channel and promotion.

We allow product returns through certain sales channels and on certain products.

The accrued sales returns in the accompanying Consolidated Balance Sheet, which include a current balance in accrued expenses and other current liabilities and a non-current balance in other non-current liabilities, was $49.8 million and $44.9 million as of December 31, 2021 and 2020, respectively.

Estimated sales returns are provided at the time of sale based on historical sales channel return rates.

Estimated future obligations related to these products are provided by a reduction of sales in the period in which the revenue is recognized.

We considered the impact of recoverable salvage value on sales returns by product in determining its estimate of future sales returns.

We recognized a return asset for the right to recover the goods returned by the customer.

The right of return asset is recognized on a gross basis outside of the accrued sales returns and is not material to our Consolidated Balance Sheets.

Our level of sales returns differs by channel, with our Direct channel typically experiencing the higher rate of returns.

We record an allowance for credit losses for amounts due from third parties that we do not expect to collect.

We estimate the losses over the contractual life using assumptions to capture the risk of loss, even if remote, based principally on how long a receivable has been outstanding.

Other factors considered included historical write-off experience, current and projected economic conditions and also factors such as customer credit, past transaction history with the customer and changes in customer payment terms.

In the event future sales returns claims are higher than our historical experiences, such as a 50 basis point increase, the impacts would not be material to the Consolidated Financial Statements.

The allowance for credit losses is our best estimate of the amount of estimated lifetime credit losses in our accounts receivable.

The allowance for credit losses included in accounts receivable, net in the accompanying Consolidated Balance Sheets was $62.1 million and $71.6 million as of December 31, 2021 and 2020, respectively.

We regularly review the adequacy of its allowance for credit losses.

We estimate losses over the contractual life using assumptions to capture the risk of loss, even if remote, based principally on how long a receivable has been outstanding.

Account balances are charged off against the allowance for credit losses after all reasonable means of collection have been exhausted and the potential for recovery is considered remote.

As of December 31, 2021, our accounts receivable were substantially current.

Other factors considered include historical write-off experience, current economic conditions and also factors such as customer credit, past transaction history with the customer and changes in customer payment terms.

The credit environment in which our customers operate has been relatively stable over the past few years.

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retail sector, with certain key retailer bankruptcies over the last few years.

Total bad debt expense was $35.8 million in 2020, $29.3 million in 2019 and $31.3 million in 2018.

We regularly review the adequacy of our allowance for credit losses based on the latest information available and accrue losses from uncollectible receivables when such losses can reasonably be estimated.

The allowance for credit losses is our best estimate of the amount of probable credit losses in our existing accounts receivable.

Our accounts receivable are substantially current and there were no significant changes to the aging of receivables as a result of the impact of the global pandemic.

The allowance for credit losses included in accounts receivable, net in the accompanying Consolidated Balance Sheets was $71.6 million and $71.9 million as of December 31, 2020 and 2019, respectively.

If circumstances change, for example, due to the occurrence of higher-than-expected defaults or a significant adverse change in a major customer’s ability to meet our financial obligations, estimates of the recoverability of receivable amounts due could be reduced.

Our revenue recognition accounting methodology contains uncertainties because it requires management to make assumptions and to apply judgment to estimate the amount and timing of future sales returns and uncollectible accounts.

Our estimate of the amount and timing of sales returns and uncollectible accounts is based primarily on historical transaction experience.

Table of Co ntents

We have not made any material changes in the accounting methodology we use to measure the estimated liability for sales returns and exchanges or credit losses during the past three fiscal years.

On January 1, 2020, we adopted ASU No.

2016-13, "Financial Instruments - Credit Losses (Topic 326)," which requires entities to estimate expected lifetime credit losses on financial assets and provide expanded disclosures.

The adoption of this standard did not have a material impact on our consolidated financial statements.

We do not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions we use to establish the liability for sales returns and exchanges and credit losses.

However, if actual results are not consistent with our estimates or assumptions, we may be exposed to losses or gains that could be material.

Total bad debt expense was $2.7 million in 2021, $35.8 million in 2020 and $29.3 million in 2019 which were predominantly related to customer bankruptcies which were current on payments at the time proceedings began.

If circumstances change, for example, due to the occurrence of higher-than-expected defaults or a significant adverse change in a major customer’s ability to meet our financial obligations such as bankruptcies, estimates of the recoverability of receivable amounts due could be reduced.

We have not made any material changes in the accounting methodology we use to measure the estimated liability for sales returns or allowance for credit losses during the past three fiscal years.

We do not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions we use to establish the liability for sales returns and credit losses.

However, if actual results are not consistent with our estimates or assumptions which are based on our historical experiences, we may be exposed to losses or gains that could be material.

Income Taxes .

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A valuation allowance is recorded against certain deferred tax assets to reduce the consolidated deferred tax asset to an amount that will, more likely than not, be realized in future periods.

At December 31, 2020 the valuation allowance of $33.5 million was primarily related to certain tax attributes and various foreign jurisdictions.

At December 31, 2021 the valuation allowance of $42.6 million was primarily related to certain tax attributes both domestically and in various foreign jurisdictions.

The valuation allowance is based, in part, on our estimate of future taxable income, the expected utilization of foreign and state tax loss carryforwards, and credits and the expiration dates of such tax loss carryforwards.

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During 2018, we negotiated a settlement with SKAT (the "Settlement") for the tax years 2001 through 2011 (the "Settlement Years").

The Company and SKAT are currently discussing the appropriate administrative process required to implement the Settlement as it relates to the computation of interest.

During this process, the Company continues to maintain an uncertain income tax liability on its balance sheet for tax and interest under the terms of the Settlement.

During 2021, the Company resolved in all material respects the calculation of interest payable to SKAT related to the Settlement Years.

As such, the Danish Tax Matter for the Settlement Years is considered closed in all material respects.

In addition, we have entered into the APA Program for the tax years 2012 through 2022 in which the IRS, on our behalf, will negotiate directly with SKAT the royalty to be paid by the U.S.

subsidiary to the Danish Subsidiary.

We maintain an uncertain income tax liability the tax years 2012 through 2020 that are included in the APA Program.

If we are required to further increase the uncertain tax liability for either or both periods based on a change in facts and circumstances, it could have a material impact on our reported earnings.

We maintain an uncertain income tax liability for the tax years 2012 through 2021 that are included in the APA Program.

If we are required to further increase the uncertain tax liability for any year after the Settlement Years based on a change in facts and circumstances, it could have a material impact on our reported earnings.

Further, if the IRS and SKAT are unable to reach a mutually acceptable agreement with respect to the tax years included in the APA Program, we could be required to make a significant payment to SKAT for Danish tax related to such years, which could have a material adverse effect on our results of operations and liquidity.

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and Danish income tax implications of such outcomes.

The key assumption in these outcomes relates to the underlying royalty rate which the U.S.

subsidiary would be required to pay to the Danish subsidiary.

Assuming the U.S.

IRS and SKAT conclude the APA with a mutually acceptable royalty rate, an increase in that royalty rate (over the rate used in our calculation of both the uncertain tax position and the correlative deferred tax asset associated with the U.S.

tax benefit of the additional royalty expense) will increase the Danish income tax liability resulting from such agreement but also decrease the U.S.

income tax liability associated with the correlative deduction for such additional royalty.

For example, if the royalty rate agreed upon by the IRS and SKAT is 10% more per year than the rate used in our calculations of both the uncertain tax liability and correlative deferred tax asset, our uncertain tax position would increase approximately $8.0 million while the associated deferred tax asset for the U.S.

correlative benefit would increase by approximately $2.2 million.

Thus, the net impact on the income tax provision would be

approximately $5.8 million .

For a description of these matters and additional information please refer to Note 13, "Income Taxes," to the accompanying Consolidated Financial Statements.

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Goodwill and indefinite-lived intangible assets are evaluated for impairment annually as of October 1 and whenever events or circumstances make it more likely than not that impairment may have occurred or when required by accounting standards.

Table of Co ntents

We test goodwill for impairment by comparing the book values to the fair value at the reporting unit level.

Our reporting units are equivalent to our North America and International segments.

We test individual indefinite-lived intangible assets by comparing the book values of each asset to the estimated fair value.

If the fair value exceeds the carrying amount, then no impairment exists.

We test goodwill for impairment at the reporting unit level.

Our reporting units are our North America segment, our International segment excluding Dreams and Dreams.

Dreams was added as a separate reporting unit upon acquisition of the business on August 2, 2021.

We test individual indefinite-lived intangible assets at the brand level.

These assessments may be performed quantitatively or qualitatively.

Using the quantitative approach, we make various estimates and assumptions in determining the estimated fair value of each reporting unit using a combination of discounted cash flow models and valuations based on earnings multiples for guideline public companies in each reporting unit’s industry peer group, when externally quoted market prices are not readily available.

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Additionally, we compare the indicated equity value to our market capitalization and evaluate the resulting implied control premium/discount to determine if the estimated enterprise value is reasonable compared to external market indicators.

We have not made any material changes in 2020 to our reporting units or the accounting methodology we use to assess impairment loss on goodwill and indefinite-lived intangible assets.

The most recent annual impairment tests performed as of October 1, 2020 indicated that the fair values of each of our reporting units and indefinite-lived intangible assets were substantially in excess of their carrying values.

Despite that excess, however, impairment charges could still be required if a divestiture decision were made or other significant economic event were made or occurred with respect to one of our reporting units.

Under the qualitative approach, we review macroeconomic conditions, industry and market conditions and entity specific factors, including strategies and financial performance for potential indicators of impairment.

With the exception of the addition of the Dreams reporting unit, we have not made any changes in 2021 to our reporting units.

Prior to 2021, Management performed an assessment of the impairment of goodwill for our reporting units and indefinite-lived intangible assets using a quantitative approach, which indicated that the fair values of each of our reporting units and indefinite-lived intangible assets were substantially in excess of their carrying values.

In 2021, we elected to qualitatively perform our annual impairment analysis for all reporting units and indefinite-lived intangible assets.

Subsequent to our October 1, 2021 annual impairment test, no indications of impairment were identified.

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However, if actual results are not consistent with our estimates or assumptions, we may be exposed to an impairment charge that could be material.

Business Combinations.

Accounting for acquisitions requires us to recognize separately from goodwill the assets acquired and the liabilities assumed at their acquisition date fair values.

Goodwill as of the acquisition date is measured as the excess of the purchase price over the acquisition date fair values of the assets acquired and the liabilities assumed.

Management estimates the fair value of assets acquired and liabilities assumed based on quoted market prices, the carrying value of the acquired assets and widely accepted valuation techniques, including discounted cash flows and market multiple analyses.

We make various estimates and assumptions in determining the estimated fair value of intangible assets acquired, which include assumptions about the period of time the acquired tradenames will continue to be valuable, projected business results, long-term growth factors, discount rates and royalty rates.

While we use our best estimates and assumptions to accurately value assets acquired and liabilities assumed at the acquisition date, our estimates are inherently uncertain and subject to refinement.

If actual results are materially different than the assumptions used to determine fair value of the assets acquired and liabilities assumed through a business combination, or the useful lives of the acquired intangible assets, it is possible that adjustments to the carrying values of such assets and liabilities will have a material impact on our financial position and results of operations.

Furthermore, if actual results are not consistent with estimates or assumptions, the Company may be exposed to an impairment charge that could materially adversely impact its consolidated financial position and results of operations.

For additional information of our recent acquisitions, please refer to Note 3, "Acquisitions and Divestitures," to the accompanying Consolidated Financial Statements in Part II, ITEM 8 of this report.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7. Management’s Discussion and Analysis