Mattress Firm Claims Its Real Estate Led To Its Bankruptcy. Why Didn't It Mention Its Real Estate Fraud Lawsuit?

Mattress Firm claims the real estate it added after buying several competing mattress chains was to blame for its descent into bankruptcy.

In its Chapter 11 bankruptcy filing, the company's executives wrote that it has too many stores in redundant locations and would run out of cash by the end of the month if it did not receive bankruptcy protection and close up to 700 stores.

Considering the cause of Mattress Firm's financial woes — it cannot afford to pay the rent on the thousands of stores it now operates — it is notable that there is no mention of an ongoing legal battle the company has been waging in Houston federal court. 

In that lawsuit, Mattress Firm has accused three men of perpetrating a multimillion-dollar fraud against it, alleging that Bruce Levy, Ryan Vinson and Alexander Deitch conspired to commit the retailer to too many leases, signed at above-market rents. In some cases, Mattress Firm claims, the landlords benefiting from the inflated rents are corporations in which Levy, Vinson and Deitch own shares. In other cases, the landlord bribed the trio with exotic trips and luxury gifts, Mattress Firm claims.

The lack of mention of that suit in Mattress Firm's bankruptcy filings casts further doubt on the truth of its fraud allegations, the attorney for one of the defendants in the suit said.

“Our position all along has been that Mattress Firm is scapegoating the defendants in the Texas litigation for a number of bad decisions that they made on a much larger scale,” Schulten Ward Turner & Weiss partner Kevin Ward said. "The bankruptcy is probably the best evidence that we're right."

Ward is representing former Colliers International Atlanta executive Deitch in both his defense and a countersuit against Mattress Firm in Texas. Deitch and former Mattress Firm real estate executives Levy and Vinson, alongside a handful of developers, were all named as co-conspirators in Mattress Firm's suit, which it filed last year.

The lawsuit has turned into a protracted fight, with Deitch countersuing, claiming Mattress Firm's executives, including Chairman and CEO Steve Stagner, had full knowledge of all real estate deals and “weaponized” the real estate department to remove as much competition as it could from different markets. Deitch also alleged that Stagner himself may have privately invested in Mattress Firm real estate deals.

“Mattress Firm's aggressive roll-up was reckless, resulting in massive clustering of stores, assumption of bad locations which needed to be propped up, and astounding redundancies in certain markets,” Deitch's attorneys wrote in the counterclaim.

Mattress Firm, in its bankruptcy filing, is seeking to shutter up to 700 stores across the nation, of which more than 200 have already been identified.

In its bankruptcy filing, Mattress Firm laid out the causes for its current troubles:

• Its acquisitions of competitor chains Back to Bed, Sleep Train and Sleepy's between 2014 and 2016 that led to “cannibalization” among stores close to one another.
• Leadership's “missteps” in rebranding more than 1,300 former Sleepy's and Sleep Train stores to the Mattress Firm banner in a six-month period that led to “inefficiencies throughout [Mattress Firm]'s operations that negatively impacted their bottom line,” attorneys stated in bankruptcy documents.

“As a result [of the rebranding], Mattress Firm stores are in direct competition with other Mattress Firm stores, resulting in disappointing sales performance by many stores in Mattress Firm's retail network,” Mattress Firm's attorneys said. "These under-productive stores are burdening [Mattress Firm] with excessive fixed costs on long-term leases and are diverting sales away from other, more profitable locations."

"Several well-intentioned, but ill-advised marketing and sales promotions ... contributed to significant losses for [Mattress Firm] in 2017 and early 2018, leading to a decline in earnings before taxes from $251M in 2016 to a loss of $81M in 2017," the filing states.

All of these factors are contributing to the prediction that Mattress Firm is poised to lose $150M this year, according to court documents.

According to the filings, Mattress Firm attempted to negotiate lease buyouts to close stores, but by this past summer, realized the only way to reduce its real estate portfolio was through bankruptcy reorganization, which would allow it to access more liquidity for its operations.

Calls to Mattress Firm's attorneys, both in the Texas lawsuit and with bankruptcy, were not returned as of press time. Questions sent to Mattress Firm executives also were not replied to as of press time.

“Speaking on behalf of Madison Development Group only, it has always been Madison's view that the claims against them are devoid of any merit and will ultimately be dismissed,” said Seattle-based law firm Byrnes Keller Cromwell partner Brad Keller, who represents one of the developers Mattress Firm is suing. “It is not surprising therefore to see Mattress Firm trying to pretend, as part of this bankruptcy filing, that this Texas litigation and the claims in it don't exist.”

Kirkland, Washington-based Madison Development was among a handful of developers accused by Mattress Firm in the Texas lawsuit of providing bribes and kickbacks to Deitch, Levy and Vinson to secure a large number of store leases, charging above-market rents, allowing the developers to flip those properties for millions in profits.

It was unclear exactly how many Mattress Firm stores on the initial closure list the company believes were involved in the fraud conspiracy, or how many of them will ultimately be part of the 700-store closure plan.

“So far, a very small percentage of stores [Mattress Firm is] seeking to close now appear to be at issue in the Texas litigation,” Ward said. “Again, that just confirms our belief that their problems are based on global bad decision-making and not these leases. Alex Deitch … always acted in the best interest of Mattress Firm and its clients.”

The bankruptcy does not affect Mattress Firm's lawsuit in Texas, but it does put a halt to counterclaims against the retailer, New York-based Wilk Auslander partner Eric Snyder said.

Snyder is a bankruptcy attorney who has focused on real estate for 30 years. He has no connection to the Mattress Firm case. But Snyder — who does represent the landlords of Mattress Firm stores who have yet to be notified if their stores will shutter — Mattress Firm making no mention of the alleged scheme in its bankruptcy filing doesn't make him raise an eyebrow.

“When you look at the amounts involved, their bigger issue was the acquisition and the cannibalization of the stores,” Snyder said. “I'm not surprised that it's not mentioned.”