Select Comfort Corp. Form 10-K for the Fiscal Year Ended January 3, 2009

Table of Contents

 
 

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-K

 

 

(Mark one)

x

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the Fiscal Year Ended January 3, 2009

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from _________ to _________.

 

Commission File No. 0-25121

 

 

 

 

SELECT COMFORT CORPORATION
(Exact name of registrant as specified in its charter)


 

 

 

MINNESOTA

 

41-1597886

(State or other jurisdiction of

 

(I.R.S. Employer

incorporation or organization)

 

Identification No.)

 

 

 

9800 59th Avenue North

 

 

Minneapolis, Minnesota

 

55442

(Address of principal executive offices)

 

(Zip code)

 

 

 

Registrant’s telephone number, including area code: (763) 551-7000

 

Securities registered pursuant to Section 12(b) of the Act:


 

 

 

Title of each class

 

Name of each exchange on which registered

Common Stock, par value $.01 per share

 

The NASDAQ Stock Market LLC

 

 

(NASDAQ Global Select Market)

 

 

 

Securities registered pursuant to Section 12(g) of the Act: None

 

Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act.
YES o    NO x

Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
YES o     NO x

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
YES x    NO o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (Section 229.405 of this chapter) is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

 

 

 

Large accelerated filer

o

               Accelerated filer

x

Non-accelerated filer

o (Do not check if a smaller reporting company)

Smaller reporting company

o

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). YES o    NO x

The aggregate market value of the common equity held by non-affiliates of the Registrant as of June 28, 2008, was $68,500,000 (based on the last reported sale price of the Registrant’s common stock on that date as reported by NASDAQ).

As of January 31, 2009, there were 45,300,669 shares of the Registrant’s common stock outstanding.


 
 



DOCUMENTS INCORPORATED BY REFERENCE

          Portions of the registrant’s proxy statement to be furnished to shareholders in connection with its 2009 Annual Meeting of Shareholders are incorporated by reference in Part III, Items 10-14 of this Annual Report on Form 10-K.

          As used in this Form 10-K, the terms “we,” “us,” “our,” the “company” and “Select Comfort” mean Select Comfort Corporation and its subsidiaries and the term “common stock” means our common stock, par value $0.01 per share.

          As used in this Form 10-K, the term “bedding” includes mattresses, box springs and foundations and does not include bedding accessories, such as sheets, pillows, headboards, frames, mattress pads and related products.

          Select Comfort®, Sleep Number®, Comfort Club®, Sleep Better on Air®, The Sleep Number Bed by Select Comfort (logo)®, Select Comfort (logo with double arrow design)®, Firmness Control System™, Precision Comfort®, Corner Lock™, Intralux®, The Sleep Number Store by Select Comfort (logo)®, You can only find your Sleep Number® setting on a Sleep Number Bed by Select Comfort™, Select Comfort Creator of the Sleep Number Bed®, What’s Your Sleep Number® setting?, Grand King®, Sleep Number SofaBed™, Personalized Warmth Collection®, GridZone®, and our stylized logos are trademarks and/or service marks of Select Comfort. This Form 10-K may also contain trademarks, trade names and service marks that are owned by other persons or entities.

          Our fiscal year ends on the Saturday closest to December 31, and, unless the context otherwise requires, all references to years in this Form 10-K refer to our fiscal years. Our fiscal year is based on a 52- or 53-week year. All years presented in this Form 10-K are 52 weeks, except for the 2008 fiscal year ended January 3, 2009 and the 2003 fiscal year ended January 3, 2004, which are 53-week years.

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TABLE OF CONTENTS

 

 

 

 

 

PART I

 

 

2

 

 

 

 

 

Item 1.

Business

 

2

 

 

 

 

 

 

Item 1A.

Risk Factors

 

12

 

 

 

 

 

 

Item 1B.

Unresolved Staff Comments

 

23

 

 

 

 

 

 

Item 2.

Properties

 

24

 

 

 

 

 

 

Item 3.

Legal Proceedings

 

25

 

 

 

 

 

 

Item 4.

Submission of Matters to a Vote of Security Holders

 

25

 

 

 

 

 

PART II

 

 

26

 

 

 

 

 

Item 5.

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

26

 

 

 

 

 

Item 6.

Selected Financial Data

 

29

 

 

 

 

 

Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

30

 

 

 

 

 

Item 7A.

Quantitative and Qualitative Disclosure about Market Risk

 

43

 

 

 

 

 

Item 8.

Financial Statements and Supplementary Data

 

44

 

 

 

 

 

Item 9.

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

 

67

 

 

 

 

 

Item 9A.

Controls and Procedures

 

67

 

 

 

 

 

Item 9B.

Other Information

 

67

 

 

 

 

 

PART III

 

68

 

 

 

 

Item 10.

Directors, Executive Officers and Corporate Governance

 

68

 

 

 

 

 

Item 11.

Executive Compensation

 

68

 

 

 

 

 

Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

 

68

 

 

 

 

 

Item 13.

Certain Relationships and Related Transactions, and Director Independence

 

68

 

 

 

 

 

Item 14.

Principal Accounting Fees and Services

 

68

 

 

 

 

 

PART IV

 

69

 

 

 

 

Item 15.

Exhibits, Financial Statement Schedules

 

69

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PART I

This Annual Report on Form 10-K contains or incorporates by reference certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. For this purpose, any statements contained in or incorporated by reference into this Annual Report on Form 10-K that are not statements of historical fact may be deemed to be forward-looking statements, including but not limited to projections of revenues, results of operations, financial condition or other financial items; any statements of plans, strategies and objectives of management for future operations; any statements regarding proposed new products, services or developments; any statements regarding future economic conditions, prospects or performance; statements of belief and any statement or assumptions underlying any of the foregoing. In addition, we or others on our behalf may make forward-looking statements from time to time in oral presentations, including telephone conferences and/or Web casts open to the public, in press releases or reports, on our Internet Web site or otherwise. We try to identify forward-looking statements in this report and elsewhere by using words such as “may,” “will,” “should,” “could,” “expect,” “anticipate,” “believe,” “estimate,” “plan,” “project,” “predict,” “intend,” “potential,” “continue” or the negative of these or similar terms.

Our forward-looking statements speak only as of the date made and by their nature involve substantial risks and uncertainties. Our actual results may differ materially depending on a variety of factors, including the items discussed in greater detail below under the caption “Risk Factors.” These risks and uncertainties are not exclusive and further information concerning the company and our business, including factors that potentially could materially affect our financial results or condition, may emerge from time to time, including factors that we may consider immaterial or do not anticipate at this time.

We wish to caution readers not to place undue reliance on any forward-looking statement and to recognize that forward-looking statements are predictions of future results, which may not occur as anticipated. We assume no obligation to update forward-looking statements to reflect actual results or changes in factors or assumptions affecting such forward-looking statements. We advise you, however, to consult any further disclosures we make on related subjects in our quarterly reports on Form 10-Q and current reports on Form 8-K that we file with or furnish to the Securities and Exchange Commission.

ITEM 1. BUSINESS

Our Business

Overview

Select Comfort Corporation was founded as a Minnesota-based corporation in 1987 by an entrepreneur who developed and manufactured adjustable firmness mattresses after considering other alternatives such as innerspring and water mattresses. Select Comfort has evolved from a specialty, niche direct marketer, to a nationwide multi-channel business with fiscal 2008 net sales of $609 million.

Our principal business is to develop, manufacture, market and distribute premium quality, adjustable-firmness beds and other sleep-related accessory products. The air-chamber technology of our proprietary Sleep Number bed allows adjustable firmness on each side of the mattress and provides a sleep surface that is clinically proven to provide better sleep quality and greater relief of back pain compared to traditional mattress products. In addition, we market and sell accessories and other sleep related products which focus on providing personalized comfort to complement the Sleep Number bed and provide a better night’s sleep to the consumer. We have a mission-driven culture focused on serving the needs of our customers. Our mission is to improve people’s lives through better sleep. Our goal is to educate our consumers on the importance of a better night’s sleep and the unique benefits of our products.

In 1998, Select Comfort became a publicly-traded company and is listed on The NASDAQ Stock Market LLC (NASDAQ Global Select Market) under the symbol “SCSS.” When used herein, the terms “Select Comfort,” “Company,” “we,” “us” and “our” refer to Select Comfort Corporation, including consolidated subsidiaries.

Competitive Strengths

Differentiated, Superior Product

The unique benefits of our proprietary Sleep Number bed have been validated through clinical sleep research. Clinical sleep research has shown that people who sleep on a Sleep Number bed generally fall asleep faster, experience deeper sleep with fewer disturbances and experience greater relief from back pain than those sleeping on a traditional innerspring mattress. The

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proprietary air-chamber technology of our Sleep Number bed allows adjustable firmness of the mattress at the touch of a button. Our dual chamber technology (two independent air chambers) allows consumers to adjust the firmness on either side of the bed to meet each person’s individual preference.

Distinctive Brand

In 2001, we created the Sleep Number brand. This branding strategy allows our marketing communications to focus on our bed’s distinguishing and proprietary features – adjustable firmness and support for personalized comfort. This is represented by the digital Sleep Number display on the bed’s hand-held remote control, with a brand message hierarchy as follows:

 

 

A Sleep Number® setting represents an ideal level of mattress comfort, firmness and support; and

 

 

You can only find your Sleep Number® setting on a Sleep Number Bed by Select Comfort.

Controlled Selling Environment

Over 90% of our sales are generated through our company-controlled distribution channels – Retail, Direct Marketing and E-Commerce. Our nationwide chain of retail stores provides a unique mattress shopping experience and offers a relaxed environment designed to provide education on the importance of sleep and the products that best fit consumers’ needs. Controlling the selling process enables us to ensure that the unique benefits of our products are effectively communicated to consumers. Our multiple touch-points of service, including sales, delivery and post-sale service, provide several opportunities to communicate with our customers, reinforcing the sale and enabling us to understand and respond quickly to consumer trends and preferences.

Integrated Business Process

We are a vertically-integrated business from production through sales and delivery of our products, which allows us to control quality, cost, price and presentation. The modular design of our Sleep Number bed allows a just-in-time, build-to-order production process which requires minimal inventory in our stores and manufacturing plants, resulting in reduced working capital levels. This just-in-time production process also allows our stores to serve primarily as showrooms, without requiring significant product storage capacity.

Vision and Strategy

For 2007, we ranked as the 5th largest mattress manufacturer according to the June 16, 2008 edition of Furniture/Today, with a 6% market share of industry revenue and 2% market share of industry units. We ranked as the leading U.S. bedding retailer, according to the Top-25 Bedding Retailers report in the August 11, 2008 edition of Furniture/Today. Our vision is to be a leading brand in the bedding industry.

We are executing against a defined strategy which focuses on the following key components:

 

 

 

 

Building brand awareness and increasing store traffic through effective marketing programs;

 

 

 

 

Prudently managing our business in the current economic environment through disciplined controls over costs and cash;

 

 

 

 

Accelerating product innovation to lead the industry in innovative sleep products; and

 

 

 

 

Leveraging our infrastructure in order to facilitate long-term profitability.

Building Brand Awareness

Our most significant growth driver has been building brand awareness. The Sleep Number brand has been integrated into all of our sales channels and throughout our internal and external communication programs. We utilize a media mix that includes television, radio and print advertising in support of our Sleep Number marketing campaign with increasing use of Internet advertising and paid search in our media mix.

We also sell to commercial partners which increases awareness of our brand through media exposure, product sales and word-of-mouth. These commercial partners include the QVC television shopping channel, the luxury motor home market, selected mattress retailers and Radisson Hotels and Resorts® in the U.S., Canada and the Caribbean.

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As of January 3, 2009 we operated 471 company-owned stores in the U.S. In the current economic environment, we are evaluating and reducing our store base, and expect to end 2009 with no more than 420 stores. We may further reduce our store base in 2009 and 2010. We do not expect to expand our store base until we begin generating comparable-store sales growth on a consistent basis. We supplement our company-controlled distribution channels with sales through a limited number of leading home furnishings and specialty bedding retailers.

In 2005, we expanded our distribution network outside the U.S. with a retail partner relationship in Canada. In 2008, the Canadian retail partner relationship grew to 134 doors. During 2007, we formed a strategic alliance with two Australian-based companies to manufacture and distribute Sleep Number beds and accessories in Australia and New Zealand. Our international distribution network was not a significant part of our total distribution network and we do not plan to expand our international distribution during 2009.

Prudently Managing Our Business

We generated positive net income for six consecutive years from 2002 through 2007. Our 2008 operating results were significantly affected by the industry-wide decrease in consumer spending and we realized a net loss of $70.2 million, including $34.6 million of pre-tax asset impairment charges and a $26.8 million pre-tax charge for a deferred tax valuation allowance.

We have taken significant actions to improve our operating results and maintain our liquidity in the current challenging macro-economic environment, including: corporate workforce reductions, reduced capital spending, executing plans to close stores, supply chain cost reduction initiatives, reduced media spending, reductions in fixed and discretionary marketing and selling expenses, and ceasing all activities associated with the implementation of SAP®-based information technology applications. We are also introducing lower product price points and initiating an enhanced promotional strategy designed to stabilize sales. Additionally, we are exploring a range of strategic and financing alternatives to enhance our financial flexibility and improve our liquidity.

Accelerating Innovation

Our goal is to lead the industry in innovative sleep products. We have historically introduced new features and benefits to our Sleep Number beds every two to three years, through a pipeline of research and development (“R&D”) activities. During 2007, we refreshed our entire line of bed models and will do so again in 2009. Our new models emphasize enhanced comfort-layer materials, and several feature advancements in temperature balancing technology. We believe the new line represents the highest-quality, most technologically advanced beds we have ever produced.

Our 2008 innovations included: (i) the launch of the Sleep Number memory foam bed which combines memory foam conforming comfort with the ability to adjust firmness and provide personalized comfort, and (ii) the Sleep Number p6 bed that has enhanced layers of softness and breathable fabrics. The two new mattress models fill-in key price points in our product line-up.

Leveraging our Infrastructure

Our vertically-integrated business model provides multiple sources for efficiency and leverage. Our goal of sustaining improved performance over a multi-year period is based on achieving scale efficiencies (fixed cost utilization) and cost containment initiatives. We also have an ongoing focus on productivity gains through a variety of programs, including the optimization of our hub and spoke network, value engineering, marketing and sales initiatives, and a Six Sigma initiative to improve product and service quality.

Our Products

Mattresses

We offer Sleep Number beds in three series to help consumers choose the bed that is best for them.

 

 

 

 

The Sleep Number bed Classic Series is the classic design with personal adjustability at an affordable price. The series includes the Sleep Number c2, c3 and c4 beds.

 

 

 

 

The Sleep Number bed Performance Series includes our most popular beds, featuring enhanced performance, comfort and a great value. The series includes the Sleep Number p5, p6 and p7 beds.

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The Sleep Number bed Innovation Series is the premier experience in personalized comfort combined with leading-edge innovations in sleep technology. The series includes the Sleep Number i8, i9 and i10 beds.

The Sleep Number bed series are available through our U.S. company-owned distribution channels. Each bed series comes in standard mattress sizes, ranging from twin to king, as well as some specialty mattress sizes. Our bed series vary in features, functionality and price. As you move up the line, the Sleep Number bed series offer enhanced features and benefits, including higher-quality fabrics, additional cushion and padding, higher overall mattress profiles, quieter Firmness Control Systems with additional functions, temperature balancing fabrics, and wireless remote controls as a standard feature.

The contouring support of our Sleep Number beds is optimized when used with our specially designed, proprietary foundation. This durable foundation, used in place of a box spring, is a modular design that can be disassembled and easily moved through staircases, hallways and other tight spaces.

Our U.S. mattress price points range from approximately $699 for the entry-level c2 queen-size mattress to $3,999 for the luxurious Sleep Number i10 queen-size mattress. Our most popular model is the p5 queen-size mattress which sells for approximately $1,699. Actual prices are frequently lower than those quoted due to promotional offerings.

Our unique product design allows us to ship our beds in a modular format to customers throughout the U.S. by United Parcel Service (“UPS”). For an additional fee, customers can take advantage of our home delivery service, which includes bed assembly and optional mattress removal services.

We also manufacture our Sleep Number beds for distribution through our retail partners. Our retail partner beds have different model names, but have similar features and benefits, and sell for similar prices.

Each of our Sleep Number beds (not including our Precision Comfort adjustable foundation) comes with a 30 night in-home trial and better night’s sleep guarantee, which allows customers 30 nights at home to make sure they are completely satisfied with the bed. The customer is responsible for the return shipping costs. Independent durability testing has shown our Sleep Number beds can withstand more than 20 years of simulated use, and each of our Sleep Number beds is backed by our 20-year limited warranty.

Accessories and Other Products

In addition to our mattresses and foundations, we offer a line of accessory bedding products, including specialty pillows, mattress pads, comforters, sheets, bed foundations and leg options. The specialty pillows, available in a variety of sizes, materials and firmness levels, are designed to provide personalized comfort and better quality sleep for stomach, back or side sleepers. We also market our Personal Warmth Collection™, a group of comforters and blankets designed to be warmer on one half of the bed than the other, accommodating varying warmth preferences among couples.

In 2003, we completed the roll-out of our Precision Comfort adjustable foundation to all of our company-owned retail stores. The adjustable foundation enables consumers to raise the head or foot of the bed, and to experience the comfort of massage, using a handheld remote control.

Sales Distribution

Unlike traditional bedding manufacturers, which primarily sell through third-party retailers, over 90% of our net sales are through one of three company-controlled distribution channels – Retail, Direct Marketing and E-Commerce. These channels enable us to control the selling process to ensure that the unique benefits of our products are effectively presented to consumers. Our direct-to-consumer business model enables us to understand and respond quickly to consumer trends and preferences.

Our retail stores accounted for 78% of our net sales in 2008. Average net sales per company-owned store were $984,000 in 2008 versus $1,318,000 in 2007 and $626,000 in 2001, with average sales per square foot of $703 in 2008 versus $1,024 in 2007 and $666 in 2001. In 2008, 45% of our stores generated net sales of over $1,000,000.

Our direct marketing call center and E-Commerce Web site provide national sales coverage, including markets not yet served by one of our retail stores, and accounted for 14% of our net sales in 2008. In addition, these channels provide a cost-effective way to market our products, are a source of information on our products and refer customers to our stores if there is one near the customer.

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Beginning in 2002, we supplemented our sales through semi-exclusive relationships with selected home furnishing retailers and specialty bedding retailers. At the end of 2008, our retail program included six retail partners in the U.S. and Canada with a total of 801 doors. Each retail partner serves a unique geographic market, which enables us to increase sales and leverage our media spending to accelerate brand awareness.

In late 2007, we began distribution in Australia and New Zealand through relationships with an Australian-based manufacturer and an Australian-based retailer. Our total net sales attributable to foreign countries were $5.4 million in 2008, $5.0 million in 2007 and $3.4 million in 2006.

Marketing and Advertising

Awareness among the broad consumer audience of our brand, product benefits and store locations has been our most significant opportunity for growth. The Sleep Number advertising campaign was introduced early in 2001 to support our retail stores in selected markets through our first comprehensive multi-media advertising campaign using prime-time TV, national cable television, infomercials, drive-time radio and newspaper advertisements.

Since 2001, the Sleep Number brand positioning has been integrated into our marketing messages across all of our distribution channels, advertising vehicles and media types. We look to our direct response advertising on national cable TV as an economical means to generate leads for our stores. Through our dedicated call center, we are able to provide the inquiring consumer more information or send a video and brochure. Our total media spending was approximately $92 million in 2008, $110 million in 2007 and $105 million in 2006.

Owners of Sleep Number beds purchased through company-controlled channels are members of our Comfort Club, our customer loyalty program designed primarily to increase referrals and repeat purchases. Each time a referred customer purchases a bed, the referring Comfort Club member receives a $50 coupon for purchase of our products, with increasing benefits for multiple referrals. In 2008, approximately 26,000 new customers bought beds after receiving referrals from our Comfort Club members, and existing owners bought approximately 30,000 additional beds.

Qualified customers are offered revolving credit to finance purchases through a private-label consumer credit facility provided by GE Money Bank. Approximately 37% of our net sales during 2008 were financed by GE Money Bank. In 2005, we entered into an amended and restated agreement with GE Money Bank that extends this consumer credit arrangement through February 15, 2011, subject to earlier termination upon certain events and subject to automatic extensions. Under the terms of our agreement, GE Money Bank sets the minimum acceptable credit ratings, the interest rates, fees and all other terms and conditions of the customer accounts, including collection policies and procedures, and is the owner of the accounts. In connection with all purchases financed under these arrangements, GE Money Bank pays us an amount equal to the total amount of such purchases, net of promotional related discounts, upon delivery to the customer. Consumers that do not qualify for credit under our agreement with GE Money Bank may apply for credit under a secondary program maintained by the company through another provider.

Operations

Manufacturing and Distribution

We have two manufacturing plants, one located in Irmo, South Carolina, and the other in Salt Lake City, Utah, which distribute products in the U.S. and Canada. The manufacturing operations in South Carolina and Utah consist of quilting and sewing of the fabric covers for our beds and final assembly and packaging of mattresses and foundations. In addition, our electrical Firmness Control Systems are assembled in our Utah plant.

We manufacture beds on a just-in-time basis to fulfill orders rather than stocking inventory, which enables us to maintain lower levels of finished goods inventory and operate with limited regional warehousing. Orders are shipped, typically within 48 hours following order receipt, from our manufacturing facilities via UPS or through our company-controlled home delivery, assembly and mattress removal service. Orders are usually received by the customer within five to 14 days from the date of order.

We obtain all of the raw materials and components used to produce our beds from outside sources. A number of components, including our proprietary air chambers, our proprietary blow-molded foundations, and various components for our Firmness Control Systems, as well as fabrics and zippers, are sourced from suppliers who currently serve as our sole source of supply for these components. Beginning in 2005, we initiated work on dual and alternate sourcing, successfully introducing a second source for printed circuit boards and certain foam and fiber components. We will continue working toward dual sourcing on

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targeted components. However, we believe we can obtain these raw materials and components from other sources of supply in the ordinary course of business, if necessary.

Our proprietary air chambers are produced to our specifications by a sole source Eastern European supplier, which has been our sole source of supply of air chambers since 1994. Our agreement with this supplier runs through September 2011 and is thereafter subject to automatic annual renewal unless either party gives 365 days’ notice of its intention not to renew the agreement. We expect to continue this supplier relationship for the foreseeable future.

Our proprietary blow-molded foundations are produced to our specifications by a single domestic supplier under an agreement that expires in December 2012. We expect to continue this supplier relationship for the foreseeable future.

All of the suppliers that produce unique or proprietary products for us have in place either contingency or disaster recovery plans or redundant production capabilities in other locations in order to safeguard against any unforeseen disasters. We review these plans and sites on a regular basis to ensure the supplier’s ability to maintain an uninterrupted supply of materials and components.

Home Delivery Service

Select Comfort’s home delivery, assembly and mattress removal service has contributed to improving the overall customer experience. Our home delivery technicians typically are Sleep Number bed owners who can articulate the benefits of the bed, reinforcing the sales process and ensuring satisfied customers. Approximately 53% of beds sold through our company-owned retail stores in 2008 were delivered by our full-service home delivery team.

In 2003, we expanded the availability of our company-controlled delivery, assembly and removal services to all of our retail markets. In 2007, we continued improving our home delivery efficiency and service by consolidating over 100 individually managed cross-dock distribution locations into a Hub and Spoke network organized around 13 regional hubs.

Customer Service

We maintain an in-house customer service department staffed by customer service representatives who receive extensive training in sleep technology and all aspects of our products and operations. Our customer service representatives field customer calls and also interact with each of our retail stores to address customer questions and concerns. Our customer service team is part of our total quality process, facilitating early identification of emerging trends or issues. They coordinate with engineering, sourcing, manufacturing, and our Six Sigma team to segment these issues, implement immediate solutions and provide inputs for long-term improvements to product and service design.

Research and Development

Our research and development team continuously seeks to improve product performance and benefits based on sleep science. Through customer surveys and consumer focus groups, we seek feedback on a regular basis to help enhance our products. Since the introduction of our first bed, we have continued to improve and expand our product line, including new bed models, a quieter Firmness Control System, wireless remote controls, more luxurious fabrics and covers, and new generations of foams and foundation systems. Our research and development expenses were $3.4 million in 2008, $5.7 million in 2007 and $4.7 million in 2006.

Information Systems

We use information technology systems to operate, analyze and manage our business, to reduce operating costs and to enhance our customers’ experience. Our major systems include an in-store point of sale system, a retail portal system, in-bound and out-bound telecommunications systems for direct marketing and customer service, E-Commerce systems, a data warehouse system and an enterprise resource planning system. These systems are comprised of both packaged applications licensed from various software vendors and internally developed programs. Our production data center and E-Commerce Web site is located in our new state-of-the-art corporate headquarters with redundant environmental systems. We maintain a disaster recovery plan that is tested regularly.

During the fourth quarter of fiscal 2008, we abandoned our plan to implement an integrated suite of SAP®-based applications in 2009. Our plan in the short-term is to maintain our existing information systems capabilities to effectively operate, analyze and manage our business.

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Intellectual Property

We hold various U.S. and foreign patents and patent applications regarding certain elements of the design and function of our products, including air control systems, remote control systems, air chamber features, border wall and corner piece systems, foundation systems, and features related to sofa sleepers with air mattresses, as well as other technology. We have 24 issued U.S. patents, expiring at various dates between March 2009 and June 2022, and five U.S. patent applications pending. We also hold 31 foreign patents and 9 foreign patent applications pending. Notwithstanding these patents and patent applications, we cannot ensure that these patent rights will provide substantial protection or that others will not be able to develop products that are similar to or competitive with our products. To our knowledge, no third party has asserted a claim against us alleging that any element of our product infringes or otherwise violates any intellectual property rights of any third party.

Select Comfort” and “Sleep Number” are trademarks registered with the U.S. Patent and Trademark Office. We have a number of other registered trademarks including our “Select Comfort” logo with the double arrow design, “Select Comfort Creator of the Sleep Number Bed,” “What’s Your Sleep Number?,” “Precision Comfort,” “The Sleep Number Bed by Select Comfort” (logo), “The Sleep Number Store by Select Comfort” (logo), “Comfort Club” and “Sleep Better on Air” and “LuxLayer.” U.S. applications are pending for a number of other marks. Several of these trademarks have been registered, or are the subject of pending applications, in various foreign countries. Each federally registered mark is renewable indefinitely as long as the mark remains in use. We are not aware of any material claims of infringement or other challenges asserted against our right to use these marks.

Industry and Competition

The U.S. bedding manufacturing industry is a mature and generally stable industry. According to the International Sleep Products Association (ISPA), since 1984 the industry has consistently demonstrated growth on a dollar basis, with a 0.3% decline in 2001 and 11.9% decline in 2008 being the only exceptions. According to ISPA, industry wholesale shipments of mattresses and foundations were estimated to be $6.1 billion in 2008, an 11.9% decline compared to $6.9 billion in 2007. We estimate that traditional innerspring mattresses represent approximately 75% of total U.S. bedding sales. Furniture/Today, a furniture industry trade publication, has ranked Select Comfort as the largest U.S. bedding retailer for seven consecutive years, most recently in its August 11, 2008 issue.

Over the 5-year, 10-year and 20-year periods ended 2008, the value of U.S. wholesale bedding shipments increased at compound annual growth rates of 3.2%, 4.2% and 5.0%, respectively. We believe that industry unit growth has been primarily driven by population growth, and an increase in the number of homes (including secondary residences) and the increased size of homes. We believe growth in average wholesale prices resulted from a shift to both larger and higher quality beds, which are typically more expensive.

The bedding industry is highly fragmented and very competitive. Participants in the bedding industry compete primarily on price, quality, brand name recognition, product availability and product performance, including the perceived levels of comfort and support provided by a mattress. There is a high degree of concentration among the three largest manufacturers of innerspring bedding with nationally recognized brand names, including Sealy, which also owns the Stearns & Foster brand name, Serta, and Simmons. Numerous other manufacturers, primarily operating on a regional or niche basis, serve the balance of the bedding market. Simmons and Sealy, as well as a number of smaller manufacturers, have offered air-bed products in recent years. Tempur-Pedic International, Inc., and a number of other mattress manufacturers, offer foam mattress products.

Governmental Regulation and Environmental Matters

Our operations are subject to federal and state consumer protection and other regulations relating to the bedding industry. These regulations vary among the jurisdictions in which we do business, but generally impose requirements as to the proper labeling of bedding merchandise.

A portion of our net sales consists of refurbished products that are assembled in part from components returned to us from customers. These refurbished products must be properly labeled and marketed as refurbished products under applicable laws. Our sales of refurbished products are limited to approximately 24 states, as other states do not allow the sale of refurbished bedding products or have more stringent requirements that we choose not to follow.

The bedding industry is subject to federal fire retardancy standards developed by the U.S. Consumer Product Safety Commission, which became effective nationwide in July 2007. Compliance with these requirements has increased the cost

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and complexity of manufacturing our products, potentially reducing our manufacturing capacity. These regulations also result in higher product development costs as new products must undergo rigorous flammability testing.

The Consumer Product Safety Commission has also adopted, effective as of February 2009, new safety standards applicable to children’s products generally, including some mattress products. Compliance with these standards may increase the cost of manufacturing some of our products.

Our direct marketing and E-Commerce operations are or may become subject to various adopted or proposed federal and state “do not call” and “do not mail” list requirements, limiting our ability to market our products directly to consumers over the telephone, by e-mail or by regular mail.

We are subject to emerging federal, state and foreign data privacy regulations related to the safeguarding of sensitive customer and employee data, which may limit our ability to maintain or use consumer or customer information in our business.

We are subject to federal, state and foreign labor laws, including but not limited to laws relating to occupational health and safety, employee privacy, wages and hours, overtime pay, harassment and discrimination, equal opportunity, and employee leaves and benefits.

We are subject to federal and state laws and regulations relating to pollution and environmental protection. We will also be subject to similar laws in foreign jurisdictions as we further expand distribution of our products internationally.

Our retail pricing policies and practices are subject to antitrust regulations in the U.S., Canada, Australia, New Zealand and other jurisdictions where we may sell our products in the future.

Although we believe that we are in compliance in all material respects with these regulations and have implemented a variety of measures to promote continuing compliance, regulations may change over time and we may be required to incur expenses and/or to modify our operations in order to ensure compliance with these regulations, which could harm our profitability and financial condition. If we are found to be in violation of any of the foregoing laws or regulations, we could become subject to fines, penalties, damages or other sanctions, as well as potential adverse public relations, which could adversely impact our business, reputation, sales, profitability and financial condition.

We are not aware of any national or local provisions which have been enacted regulating the discharge of materials into the environment, or otherwise relating to the protection of the environment, that have materially affected, or will materially affect, our net income or competitive position, or will result in material capital expenditures. During fiscal 2008, there were no material capital expenditures for environmental control facilities and no such material expenditures are anticipated.

Customers

No single customer accounts for 10% or more of our net sales. The loss of distribution through QVC, however, could adversely impact our sales, profitability and financial condition.

Seasonality

Our business is modestly impacted by seasonal influences inherent in the U.S. bedding industry and general retail shopping patterns. The U.S. bedding industry generally experiences lower sales in the second quarter and increased sales during selected holiday or promotional periods.

Working Capital

The component nature of our products allows our stores to serve as product showrooms for our Sleep Number beds. This aspect of our business model allows us to maintain low inventory levels which enables us to operate with minimal working capital. We have historically generated sufficient cash flows to self-fund operations through an accelerated cash-conversion cycle. However, the 2008 decline in our operating performance has significantly affected our ongoing liquidity. As of January 3, 2009, we had outstanding borrowings of $79.2 million, plus $5.9 million under letters of credit, with an additional $5.0 million available under our $90 million credit facility. Pursuant to a series of amendments of our Credit Agreement, the Lenders have deferred to March 31, 2009 a reduction in the amount available under our line of credit from $90 million to $85 million that was previously scheduled to become effective as of December 1, 2008. Also pursuant to these amendments, the Lenders have waived compliance, through the close of business on March 30, 2009, with certain financial covenants under the

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Credit Agreement applicable to fiscal periods ending on or about December 31, 2008, January 31, 2009 and February 28, 2009. Upon expiration of our most recent amendment on March 31, 2009, we will not be in compliance with certain financial covenants under the Credit Agreement. If we are unable to continue to obtain amendments from the Lenders that waive compliance with these financial covenants, the Lenders could place us in default under the terms of the Credit Agreement. In early March 2009, we received a federal income tax refund of approximately $23.0 million. Pursuant to the terms of the Credit Agreement, these funds have been placed in a cash collateral account with the Lenders. We are in discussions with the Lenders regarding the potential use or application of these funds to address our near-term liquidity needs.

We have been exploring a range of strategic and financing alternatives to enhance our financial flexibility. If we are unable to obtain additional capital, we may not be able to fund our operating needs and we could face a risk of default under our Credit Agreement.

Employees

At January 3, 2009, we employed 2,571 persons, including 1,509 retail sales and support employees, 190 direct marketing and customer service employees, 633 manufacturing and logistics employees, and 239 management and administrative employees. Approximately 158 of our employees were employed on a part-time basis at January 3, 2009. Except for managerial employees and professional support staff, all of our employees are paid on an hourly basis plus commissions for sales associates. None of our employees are represented by a labor union or covered by a collective bargaining agreement. We believe that our relations with our employees are good.

Executive Officers of the Registrant

William R. McLaughlin, 52, joined our company in March 2000 as President and Chief Executive Officer. Mr. McLaughlin also served as Chairman of our Board of Directors from May 2004 to February 2008. From December 1988 to March 2000, Mr. McLaughlin served as an executive of PepsiCo Foods International, Inc., a snack food company and subsidiary of PepsiCo, Inc., in various capacities, including from September 1996 to March 2000 as President of Frito-Lay Europe, Middle East and Africa, and from June 1993 to June 1996 as President of Grupo Gamesa, S.A. de C.V., a cookie and flour company based in Mexico.

Shelly R. Ibach, 49, has served as Executive Vice President, U.S. Sales since October 2008. Ms. Ibach joined Select Comfort as Senior Vice President, U.S. Sales - Company Owned Channels in April 2007. From 1982 to 2007, she held various leadership positions within Macy’s North, formerly Marshall Field’s Department Stores - Target Corporation. From 2004 to 2007, Ms. Ibach served as Senior Vice President and General Merchandise Manager for the Home division, within Macy’s North. Other key positions included Vice President - Divisional Merchandise Manager, Director of Planning and Regional Director of Stores.

Mark A. Kimball, 50, has served as Senior Vice President, Legal, General Counsel and Secretary since August 2003. From July 2000 to August 2003, Mr. Kimball served as Senior Vice President, Human Resources and Legal, General Counsel and Secretary. From May 1999 to July 2000, Mr. Kimball served as our Senior Vice President, Chief Administrative Officer, General Counsel and Secretary. For more than five years prior to joining us, Mr. Kimball was a partner in the law firm of Oppenheimer Wolff & Donnelly LLP practicing in the area of corporate finance.

James C. Raabe, 49, has served as Senior Vice President and Chief Financial Officer since April 1999. From September 1997 to April 1999, Mr. Raabe served as our Controller. From May 1992 to September 1997, he served as Vice President – Finance of ValueRx, Inc., a pharmacy benefit management provider. Mr. Raabe held various positions with KPMG LLP from August 1982 to May 1992.

Karen R. Richard, 38, has served as VP, Chief Human Resource & Strategy Officer for Select Comfort Corporation since December 2008. From January 2006 through July 2008, Ms. Richard served as Vice President, Human Resources and prior to that she served as Vice President, Finance supporting Select Comfort’s Consumer Channels and Marketing. Ms. Richard also held a variety of positions in the company’s finance department after joining Select Comfort in May of 1996. From 1993 to 1996, Ms. Richard held various accounting positions with TCF Mortgage Corporation, an affiliate of TCF Financial Corporation.

Kathryn V. Roedel, 48, has served as Executive Vice President, Product Development and Operations since October 2008. Ms. Roedel joined our Company as Senior Vice President, Global Supply Chain in April 2005. From 1983 to 2005, she held leadership positions within two divisions of General Electric Company, in Sourcing, Manufacturing, Quality and Service. From 2003 to March 2005, Ms. Roedel served as the General Manager, Global Supply Chain Strategy for GE Medical Systems. Other key positions included General Manager, Global Quality and Six Sigma; Vice President – Technical Operations and Director/Vice President – Quality Programs for GE Clinical Services, a division of GE Medical Systems.

Wendy L. Schoppert, 42, joined our company as Senior Vice President and General Manager – New Channel Development & Strategy in April 2005 and effective January 2007, became our Senior Vice President – International. In March 2008, Ms. Schoppert also assumed the responsibilities of Chief Information Officer for the company. From 2002 to March 2005,

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Ms. Schoppert led various departments within U.S. Bancorp Asset Management, most recently serving as Head of Private Asset Management and Marketing. From 1996 to 2000, she held several positions with America West Holdings Corporation, including Vice President of America West Vacations and head of the airline’s Reservations division. Prior to 1996, Ms. Schoppert held various finance-related positions at both Northwest Airlines and American Airlines.

Tim Werner, 45, has served as Vice President and Chief Marketing Officer since March 2009. From October 2008 through February 2009 he served as Vice President, Marketing. Mr. Werner served as Vice President, Direct and E-Commerce from October 2007 to September 2008 and as Vice President, Retail Partners developing our Wholesale business from October 2002 to July 2006. Mr. Werner also held a variety of positions in our Direct channel business after joining us in May 1996. From 1986 to 1996, Mr. Werner held marketing positions with L.L. Bean, Inc. and Fingerhut Corporation.

Available Information

We are subject to the reporting requirements of the Exchange Act and its rules and regulations. The Exchange Act requires us to file reports, proxy statements and other information with the Securities and Exchange Commission (“SEC”). Copies of our reports, proxy statements and other information can be read and copied at:

SEC Public Reference Room
100 F Street NE
Washington, D.C. 20549

Information on the operation of the Public Reference Room may be obtained by calling the SEC at 1-800-SEC-0330. The SEC maintains a Web site that contains reports, proxy statements and other information regarding issuers that file electronically with the SEC. These materials may be obtained electronically by accessing the SEC’s home page at http://www.sec.gov.

Our corporate Internet Web site is http://www.selectcomfort.com. Through a link to a third-party content provider, our corporate Web site provides free access to our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 as soon as reasonably practicable after electronic filing with the SEC. These documents are posted on our Web site at www.selectcomfort.com — select the “About Select Comfort” link and then the “Investor Relations” link. The information contained on our Web site or connected to our Web site is not incorporated by reference into this Form 10-K and should not be considered part of this report.

We also make available, free of charge on our Web site, the charters of the Audit Committee, Management Development and Compensation Committee, Corporate Governance and Nominating Committee and Finance Committee as well as our Code of Business Conduct (including any amendment to, or waiver from, a provision of our Code of Business Conduct) adopted by our Board. These documents are posted on our Web site — select the “Investor Relations” link and then the “Corporate Governance” link.

Copies of any of the above referenced information will also be made available, free of charge, upon written request to:

Select Comfort Corporation
Investor Relations Department
9800 59th Avenue North
Minneapolis, MN 55442

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ITEM 1A. RISK FACTORS

Liquidity and Capital Resources and Our Ability to Continue as a Going Concern. We may not have adequate liquidity and capital resources to fund our operating needs and continue as a going concern. We are seeking to raise additional capital through the issuance of debt or equity securities or a combination thereof, which may adversely impact our profitability and may be substantially dilutive to our existing shareholders. If we are unable to obtain additional capital, we may not be able to fund our operating needs, we would face a risk of default under our Credit Agreement and we may not be able to continue as a going concern. Our uncertain financial position may also disrupt relationships with our suppliers and adversely impact our sales.

As of January 3, 2009, we had cash and cash equivalents of $13.1 million and $79.2 million in outstanding borrowings, plus $5.9 million under letters of credit, against our $90 million line of credit. Cash generated from operations and remaining funds available under our existing credit facility may not provide sufficient liquidity for our operating and capital needs. Pursuant to a series of amendments of our Credit Agreement, the Lenders have deferred to March 31, 2009 a reduction in the amount available under our line of credit from $90 million to $85 million that was previously scheduled to become effective as of December 1, 2008. Also pursuant to these amendments, the Lenders have waived compliance, through the close of business on March 30, 2009, with certain financial covenants under the Credit Agreement applicable to fiscal periods ending on or about December 31, 2008, January 31, 2009 and February 28, 2009. In early March 2009, we received a federal income tax refund of approximately $23.0 million. Pursuant to the terms of the Credit Agreement, these funds have been placed in a cash collateral account with the Lenders. We are in discussions with the Lenders regarding the potential use or application of these funds to address our near-term liquidity needs.

Our independent public accounting firm has issued an opinion on our consolidated financial statements stating that the consolidated financial statements have been prepared assuming we will continue as a going concern. The opinion further states that our losses from operations and inability to generate sufficient cash flow to meet obligations and sustain operations raise substantial doubt about our ability to continue as a going concern. This opinion, as well as our uncertain financial position, may disrupt relationships with our suppliers, which may prevent us from obtaining necessary components, supplies or services on acceptable terms or at all, and may adversely impact consumer confidence in our ability to honor our warranty obligations, which may adversely impact our sales, profitability and financial condition.

We are seeking to raise additional capital through the issuance of debt or equity securities and to restructure the credit facility under the Credit Agreement in order to provide adequate financial flexibility and liquidity to fund our operations and to avoid default under the Credit Agreement. The issuance of any additional debt securities or the restructuring of our credit facility could materially and adversely impact our profitability through higher interest costs and other fees. The issuance of additional equity securities could be substantially dilutive to our existing shareholders.

If we are unable to obtain additional capital, we may not be able to finance our operating needs and the Lenders under the Credit Agreement may not continue to defer the reduction in availability under the line of credit or continue to waive compliance with prior or future financial covenants, which may result in a default under the Credit Agreement. A default under the Credit Agreement would enable the Lenders to seek immediate payment in full of any amounts outstanding under the credit facility and to exercise various remedies as secured creditors, which may severely or completely constrain our ability to continue to operate our business as a going concern and may require us to seek protection from creditors through bankruptcy proceedings.

Uncertainty of Future Growth and Profitability. Our future growth and profitability will depend on a number of factors.

After more than five consecutive years of growth in both sales and profitability through fiscal 2006, our sales and profitability declined in 2008 and 2007 versus the prior years. We may not be able to regain growth in sales or improvement in profitability on a quarterly or annual basis in future periods. Our future growth and profitability will be impacted by or dependent upon a number of factors, including but not limited to:

 

 

Liquidity and Capital Resources -- our ability to obtain and maintain adequate liquidity and capital resources to fund our operating and capital needs, including our ability to remain in compliance with the financial covenants and other requirements under our credit agreement;

 

 

General Economic Conditions and Consumer Confidence -- adverse trends in general economic conditions, including in particular adverse trends in the housing market, retail shopping patterns, consumer confidence and credit markets, the uncertainty of the depth and duration of the current economic recession and the uncertainty of the timing and strength of any economic recovery;

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Marketing Effectiveness and Efficiency -- the effectiveness of our marketing messages and the efficiency of our advertising expenditures and other marketing programs in building product and brand awareness, driving traffic to our points of sale and increasing sales;

 

 

Consumer Acceptance -- the level of consumer acceptance of our products, new product offerings and brand image;

 

 

Consumer Credit -- the availability of consumer credit and our ability to provide cost-effective consumer credit options, particularly in light of the current challenges in the consumer credit market; in the event that one or both of our providers of consumer credit determine to impose more stringent credit requirements or terms, our sales could be adversely impacted;

 

 

Execution of Our Retail Distribution Strategy -- our ability to execute our retail store distribution strategy in the current economic environment, including increasing sales and profitability through our existing stores and cost-effectively closing under-performing store locations;

 

 

Sources of Materials and Services -- our ability to secure adequate sources of necessary materials and services at reasonable cost, especially considering our uncertain financial position, our single sources of supply for some components and services, our just-in-time manufacturing processes, potential shortages of commodities, and the macroeconomic environment, which may place financial pressures on our suppliers;

 

 

Inflationary Pressures -- rising fuel and commodity costs, as well as fluctuating currency rates and increasing industry regulatory requirements, which may increase our cost of goods and may adversely impact our profitability or our ability to maintain sales volumes to the extent that we choose to increase prices;

 

 

Competition -- the level of competition in the mattress industry and our ability to successfully identify and respond to emerging and competitive trends in the mattress industry;

 

 

Need for Continuous Product Improvement -- our ability to continuously improve our products to offer new and enhanced consumer benefits, better quality and reduced costs;

 

 

Impact of Federal Flammability Standards -- new federal flammability standards for mattress products effective since mid-2007, which have added compliance and product costs to our business and have added risks of non-compliance, which could disrupt our business;

 

 

Impact of Federal Safety Standards -- new federal safety standards for children’s products, including some mattress products, effective in February 2009, which may add compliance and product costs to our business and have added risks of non-compliance, which could disrupt our business;

 

 

Management Information Systems -- the adequacy of our current management information systems, and our ability to maintain and enhance our management information systems, to meet the evolving requirements of our business and regulatory standards, including evolving payment card industry and federal and state regulatory standards applicable to data privacy and security;

 

 

Retention of Senior Leadership and other Key Employees -- our ability to retain senior leadership and other key employees, including qualified retail store management and sales professionals, in the wake of recent business performance that has not met our expectations;

 

 

International Growth -- our ability to cost-effectively manage and expand our distribution in Canada, Australia and New Zealand; and

 

 

Global Events -- global events, such as terrorist attacks or a pandemic outbreak, or the threat of such events.

We may not be successful in executing our growth strategy or in regaining growth in sales or improvement in profitability. Failure to successfully execute any material part of our strategic plan or growth strategy could harm our sales, profitability and financial condition.

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Dependence on General Economic Conditions and Consumer Spending. We are highly dependent on discretionary consumer spending. Adverse trends in general economic conditions, including in particular the housing market, retail shopping patterns, consumer confidence, credit markets and employment levels, may continue to adversely affect our sales, profitability and financial condition.

The success of our business models depends to a significant extent upon discretionary consumer spending, which is subject to a number of factors, including without limitation general economic conditions, consumer confidence, the housing market, employment levels, business conditions, interest rates, availability of credit, inflation and taxation. Adverse trends in any of these economic indicators may adversely affect our sales, profitability and financial condition. Also, because a high percentage of our net sales are made on credit, any adverse impact on the availability of consumer credit or any increase in interest rates may adversely affect our sales, profitability and financial condition. We are also dependent upon the continued popularity of malls as shopping destinations and the ability of mall anchor tenants and other attractions to generate customer traffic for our retail stores. Any decrease in mall traffic could adversely affect our sales, profitability and financial condition.

Effectiveness and Efficiency of Marketing and Advertising. Our future growth and profitability will depend in large part upon the effectiveness of our marketing messages and the efficiency of our advertising expenditures and other marketing programs in generating consumer awareness and sales of our products.

We are highly dependent on the effectiveness of our marketing messages and the efficiency of our advertising expenditures (which were approximately $92 million in 2008, $110 million in 2007, $105 million in 2006, $89 million in 2005, and $79 million in 2004) in generating consumer awareness and sales of our products. In recent periods, including in particular 2007 and 2008, our marketing messages have not been as effective as in prior periods. If our marketing messages are ineffective or our advertising expenditures and other marketing programs are inefficient in creating awareness of our products and brand name, driving consumer traffic to our points of distribution and motivating consumers to purchase our products, our sales, profitability and financial condition may be adversely impacted.

We plan to significantly reduce our advertising expenditures in 2009 in comparison with prior periods, which may adversely impact our sales, profitability and financial condition.

Our integrated marketing program depends in part on national radio personalities and spokespersons and other nationally known personalities. The loss of these endorsements, or any reduction in the effectiveness of these endorsements, or our inability to obtain additional effective endorsements, could adversely affect our sales, profitability and financial condition.

Dependence on Internet Marketing Programs. Our future growth and profitability will depend in part upon the effectiveness and efficiency of our internet-based advertising programs and upon the prominence of our Web site URLs on internet search engine results.

We believe that consumers are increasingly using the internet as a part of their shopping experience, both to conduct pre-purchase research, particularly with respect to high-end consumer durables, as well as to purchase products. Consumers will typically use one of a small number of internet search engines to research products. These search engines may provide both natural search results and purchased listings for particular key words. In some cases, it may be difficult or impossible to determine how these search engines work, particularly in the area of natural search, and therefore how to optimize placement on those search engines for our Web site URLs and other positive sites for consumers who may be searching for our products or for mattress products or retailers generally. Some of these search engines may permit competitors to bid on our trademarks to obtain high placement in search results when consumers use our trademarks to seek information regarding our products, which may cause confusion among consumers and adversely impact our sales. Some of our competitors may use our trademarks and/or publish false or misleading information on the internet regarding our products or their own products, which may also cause confusion among consumers and adversely impact our sales. In addition, consumers or others may post negative information regarding our products or our company on internet sites or blogs, which could adversely impact our sales.

As a result, our future growth and profitability will depend in part upon the effectiveness and efficiency of our on-line advertising and search optimization programs in generating consumer awareness and sales of our products, and upon our ability to prevent competitors from misusing or infringing our trademarks or publishing false or misleading information regarding our products or their own products. If we are not successful in these efforts, our business, reputation, sales, profitability and financial condition may be adversely impacted.

In addition, if our Web site becomes unavailable for a significant period of time due to failure of our information technology systems or the Internet, our sales, profitability and financial condition could be adversely affected.

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Uncertainty of Consumer Acceptance. Our products represent a significant departure from traditional innerspring mattresses and the failure of our products to achieve market acceptance would harm our sales, profitability and financial condition.

We estimate that innerspring mattress sales represent approximately 75% or more of all mattress sales. Our air chamber technology represents a significant departure from traditional innerspring mattresses. Because no established market for adjustable firmness mattress products existed prior to the introduction of our products in 1988, we faced the challenge of establishing the viability of this market, as well as gaining widespread acceptance of our products. The market for adjustable firmness mattresses is now evolving and our future success will depend upon both the continued growth of this market and increased consumer acceptance of our products. The failure of our products to achieve greater consumer acceptance for any reason would harm our sales, profitability and financial condition.

Dependence on Availability of Consumer Credit. More than one-third of our net sales are financed under a consumer credit program provided by a third party. The termination of this consumer credit program, any material change to the terms of this consumer credit program or in the availability or terms of credit offered to our customers under this consumer credit program, or any delay in securing replacement credit sources, could harm our sales, profitability and financial condition.

In December 2005 we entered into an amended and restated agreement under which GE Money Bank offers our qualified customers a revolving credit arrangement to finance purchases from us. This agreement extends through February 15, 2011, subject to earlier termination upon certain events and subject to automatic extensions.

Under this agreement, GE Money Bank sets the minimum acceptable credit ratings, the interest rates, fees and all other terms and conditions of the customer accounts, including collection policies and procedures, and is the owner of the accounts. Any increase by GE Money Bank in the minimum customer credit ratings necessary to qualify for credit could adversely impact our sales by decreasing the number of customers who can finance purchases. We are liable to GE Money Bank for charge-backs arising out of (i) breach of our warranties relating to the underlying sale transaction, (ii) defective products or (iii) our failure to comply with applicable operating procedures under the facility. We are not liable to GE Money Bank for losses arising out of our customers’ credit defaults.

Our agreement with GE Money bank contains certain financial covenants, including a maximum leverage ratio and a minimum interest coverage ratio. As our recent results placed us outside of these financial covenants, we were required under the terms of the agreement to provide GE money Bank with a $2.7 million letter of credit as collateral security.

Approximately 37% of our net sales during 2008 were financed by GE Money Bank. Consumers that do not qualify for credit under our agreement with GE Money Bank may apply for credit under a secondary program maintained by the company through another provider.

Termination of our agreement with GE Money Bank or with our secondary provider, any material change to the terms of our agreement with either of these providers, or in the availability or terms of credit for our customers from these providers, or any delay in securing replacement credit sources, could harm our sales, profitability and financial condition.

Risks of Retail Store Distribution Strategy. Our future growth and profitability will depend in large part upon our ability to execute our retail store distribution strategy, including increasing sales and profitability through our existing company-controlled stores, which carry significant fixed costs, and cost-effectively closing under-performing stores. If we are unable to regain growth in sales through our company-controlled stores, we may be required to incur significant costs to close underperforming stores, which could harm our profitability and financial condition.

Our company-controlled retail store distribution channel is our largest distribution channel and represents our largest opportunity for growth in sales and improvement in profitability. After several years of consistent growth in comparable store sales results through fiscal 2006, in 2007 we experienced a decline of 11% in our comparable stores sales versus 2006, and in 2008 we experienced a further decline of 25% in our comparable store sales versus 2007. After achieving profitability in the third quarter of 2008, our comparable store sales results declined by 29% in the fourth quarter of 2008 in comparison to fourth quarter of 2007. Our comparable-store sales and other operating results may fluctuate or decline significantly in the future. Many factors affect our comparable-store sales and other operating results and may contribute to fluctuations or declines in these results in the future, including but not limited to:

 

 

The effectiveness of our marketing messages and the efficiency of our advertising expenditures;

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Consumer acceptance of our existing products, new product offerings and brand image;

 

 

Consumer shopping trends, including mall traffic and internet shopping trends, and the increasing availability of retail shopping venues other than traditional retail malls;

 

 

Our ability to successfully hire, train, motivate and retain store-level sales professionals and managers;

 

 

The level and effectiveness of competitive activity;

 

 

The availability of cost-effective consumer credit options through our third-party providers;

 

 

The growth of our other distribution channels, including in particular the wholesale distribution of our products through mattress retailers into markets with existing company-controlled retail stores;

 

 

General economic conditions, including in particular the housing market, retail trends and consumer confidence; and

 

 

Global events, such as terrorist attacks or a pandemic outbreak, or the threat of such events.

Future fluctuations or decreases in our comparable-store sales or other operating results could harm our sales, profitability and financial condition. We may also be required to incur significant costs to close underperforming stores if we are unable to regain growth in sales in under-performing stores. In addition, failure to regain growth in comparable-store sales or other operating results may disappoint securities analysts or investors and result in a decline in our stock price.

Risks of Wholesale Distribution Strategy. We have established wholesale relationships with a limited number of mattress retailers and with the QVC shopping channel. These relationships may not yield the benefits we expect and may adversely impact sales through our company-controlled distribution channels. The loss of a significant wholesale account or the loss of distribution through QVC could adversely impact our sales, profitability and financial condition.

An important element of our growth strategy has been expansion of profitable distribution through our existing company-controlled distribution channels and increasing opportunities for consumers to become aware of, and to purchase, our products through additional points of distribution. We have only limited experience with a small number of mattress retailers and with the QVC shopping channel, and these wholesale relationships may not yield the intended benefits of leveraging our advertising spending and increasing our brand awareness, sales and overall market acceptance of our products. Our wholesale distribution may also adversely impact sales through our company-controlled distribution channels. The gross margin from wholesale sales is also less than the gross margin we generate in our company-controlled channels. The loss of distribution through QVC could adversely impact our sales, profitability and financial condition.

Dependence on Key Suppliers. We rely upon several key suppliers that are, in some instances, the only source of supply currently used by the company for particular materials or components. The failure of one or more of these suppliers or our other key suppliers to supply materials or components for our products on a timely basis, or a material change in the purchase terms for the materials or components, could harm our sales, profitability and financial condition.

We currently obtain all of the materials and components used to produce our beds from outside sources. In several cases, including our proprietary air chambers, our proprietary blow-molded foundations, the wood foundations sold to our wholesale and hospitality channels, our adjustable foundations, various components for our Firmness Control Systems, as well as fabrics and zippers, we have chosen to obtain these materials and components from suppliers who serve as the only source of supply used by the company at this time. While we believe that these materials and components, or suitable replacements, could be obtained from other sources of supply, in the event that any of the company’s current suppliers became unable to supply the relevant materials or components for any reason, and alternatives were not readily available from other sources of supply, our sales, profitability and financial condition could be harmed. If our relationship with either the supplier of our air chambers or the supplier of our blow-molded foundations is terminated, we could have difficulty in replacing these sources since there are relatively few other suppliers capable of manufacturing these components.

We purchase some of our materials and components through purchase orders and do not have long-term purchase agreements with, or other contractual assurances of continued supply, pricing or access from, our suppliers, except for the suppliers of

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our air chambers, blow-molded foundations, foam, circuit boards and various components used for our covers, including fiber, fabrics, thread and tick. If prices for our key materials or components increase and we are unable to achieve offsetting savings through value engineering or increased productivity or we are unable to increase prices to our customers, our profitability and financial condition may be harmed. The loss of one or more of our key suppliers, the failure of one or more of our key suppliers to supply materials or components on a timely basis, or a material change in the purchase terms for our components could harm our sales, profitability and financial condition.

Our uncertain financial position may also disrupt relationships with our suppliers, which may prevent us from obtaining necessary components, supplies or services on acceptable terms or at all.

Inflationary Pressures. Increases in commodity prices, component costs and/or delivery costs could harm our sales, profitability and financial condition.

Recently there have been significant increases or volatility in the prices of certain commodities, including but not limited to fuel, oil, natural gas, rubber, cotton, plastic resin, steel and chemical ingredients used to produce foam. Increases in prices of these commodities may result in significant cost increases for our raw materials and product components, as well as increases in the cost of delivering our products to our customers. To the extent we are unable to offset any such increased costs through value engineering and similar initiatives underway, or through price increases, our profitability and financial condition may be adversely impacted. If we choose to increase prices to offset the increased costs, our unit sales volumes could be adversely impacted.

Risks of Just-In-Time Manufacturing Processes. We utilize “just-in-time” manufacturing processes with minimal levels of raw materials, work in process and finished goods inventories, which could leave us vulnerable to shortages of supply of key components. Any such shortage could result in our inability to satisfy consumer demand for our products in a timely manner and lost sales, which could harm our sales, profitability and financial condition.

We generally assemble our products after we receive orders from customers utilizing “just-in-time” manufacturing processes. Lead times for ordered components may vary significantly and depend upon a variety of factors, such as the location of the supplier, the complexity in manufacturing the component and general demand for the component. Some of our components, including our air chambers, have relatively longer lead times. We generally maintain minimal levels of raw materials, work in process and finished goods inventories, except for our air chambers, of which we generally carry approximately six weeks of inventory. As a result, an unexpected shortage of supply of key components used to manufacture our products, or an unexpected and significant increase in the demand for our products, could lead to inadequate inventory and delays in shipping our beds to customers. Any such delays could result in lost sales, which could harm our profitability and financial condition.

Risks of Foreign Sourcing of Materials. The foreign manufacturing of our air chambers and some of our other components involves risks that could increase our costs, lead to inadequate inventory levels or delays in shipping beds to our customers, which could harm our sales, profitability and financial condition.

Since our air chambers and some of our other components are manufactured outside the United States, our operations could be harmed by the risks associated with foreign sourcing of materials, including but not limited to:

 

 

Political instability resulting in disruption of trade;

 

 

Existing or potential duties, tariffs or quotas that may limit the quantity of certain types of goods that may be imported into the United States or increase the cost of such goods;

 

 

Disruptions in transportation that could be caused by a variety of factors including acts of terrorism, shipping delays, foreign or domestic dock strikes, customs inspections or other factors;

 

 

Any significant fluctuation in the value of the U.S. dollar against foreign currencies; and

 

 

Economic uncertainties, including inflation.

These factors could increase our costs of doing business with foreign suppliers, lead to inadequate inventory levels or delays in shipping beds to our customers, which could harm our sales, profitability and financial condition. If any of these or other factors were to render the conduct of any of our foreign suppliers’ businesses more difficult or impractical, we may have

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difficulty sourcing key components of our products, which could adversely affect our sales, profitability and financial condition.

Dependence on UPS and Other Carriers. We depend upon UPS and other carriers to deliver some of our products to customers on a timely and cost-effective basis. Any significant delay in deliveries to our customers could lead to increased returns and cause us to lose sales. Any increase in freight charges could increase our costs of doing business and harm our sales, profitability and financial condition.

Historically, we have relied to a significant extent on UPS for delivery of our products to customers. For a significant portion of the third quarter of 1997, UPS was unable to deliver our products within acceptable time periods due to a labor strike, causing delays in deliveries to customers and requiring us to use alternative carriers. UPS may not be able to avert labor difficulties in the future or may otherwise experience difficulties in meeting our requirements in the future. From 2000 to 2003, we demonstrated an ability to shift a portion of our product delivery business to FedEx, as necessary. In addition, we either provide directly, or contract with a third party to provide, in-home delivery, assembly and mattress removal services, and in 2003 expanded the availability of this service to all of our retail stores across the country. Despite these alternative carriers, if UPS were to experience difficulties in meeting our requirements, we may not be able to deliver products to all of our customers on a timely or cost-effective basis through any alternative carriers. Any significant delay in deliveries to our customers could lead to increased returns and cause us to lose sales. Any increase in freight charges could increase our costs of doing business and harm our sales, profitability and financial condition.

Risk of Damage to our Manufacturing Facilities. Damage to either of our manufacturing facilities could increase our costs of doing business or lead to delays in shipping our beds, which could result in increased returns and adversely affect future sales.

We have two manufacturing plants, which are located in Irmo, South Carolina and in Salt Lake City, Utah. Unlike other mattress manufacturers, we generally manufacture beds to fulfill orders rather than stocking finished goods inventory. Therefore, the destruction or shutting down of either of our manufacturing facilities for a significant period of time as a result of fire, explosion, act of war or terrorism, flood, hurricane, tornado, earthquake, lightning or other natural disaster could increase our costs of doing business and lead to delays in shipping our beds to customers. Such delays could result in increased returns and adversely affect future sales, which could harm our profitability and financial condition. Due to our make-to-order business model, these adverse consequences to our business may be greater for our company than with other mattress manufacturers.

Competition. The mattress industry is highly competitive. Our business could be harmed by existing competitive pressures or from one or more new entrants into the market.

Our Sleep Number beds compete with a number of different types of mattress alternatives, including standard innerspring mattresses, foam mattresses, waterbeds, futons and other air-supported mattress products sold through a variety of channels, including home furnishings stores, specialty mattress stores, department stores, mass merchants, wholesale clubs, telemarketing programs, television infomercials and catalogs. The mattress industry is characterized by a high degree of concentration among the three largest manufacturers of innerspring mattresses with nationally recognized brand names, including Sealy, which also owns the Stearns & Foster brand, Serta and Simmons. Numerous other manufacturers, primarily operating on a regional or niche basis, serve the balance of the mattress market. Tempur-Pedic International, Inc. and other companies compete in the mattress industry with foam mattress products. A number of mattress manufacturers, including Sealy and Simmons, as well as a number of smaller manufacturers, including low-cost foreign manufacturers, have offered air beds that compete with our products.

We believe that many of our competitors, including in particular the three largest innerspring mattress manufacturers and Tempur-Pedic, have greater financial, marketing and manufacturing resources and better brand name recognition than we do and sell products through broader and more established distribution channels. Our stores and other company-controlled distribution channels compete with other retailers who often provide a wider selection of mattress alternatives than we offer through our channels of distribution, which may place our channels of distribution at a competitive disadvantage. These manufacturing and retailing competitors, or new entrants into the market, may compete aggressively and gain market share with existing and new mattress products, and may pursue or expand their presence in the air bed segment of the market. Some competitors may engage in aggressive advertising strategies that may include false or misleading claims about competitive products and/or our products. Any such competition could inhibit our ability to retain or increase market share, inhibit our ability to maintain or increase prices and reduce our margins, which could harm our sales, profitability and financial condition.

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Need for Continuous Product Improvement. If we are unable to enhance our existing products and develop and market new products that respond to customer needs and achieve market acceptance, we may not be able to regain growth in sales or improvement in profitability.

One of our growth strategies is to continue to lead our industry in product innovation and sleep expertise by enhancing existing products and by developing and marketing new products that deliver personalized comfort and better sleep. We may not be successful in developing or marketing enhanced or new products that will receive acceptance in the marketplace. Further, the resulting level of sales from any of our enhanced or new products may not justify the costs associated with the development and marketing. Any failure to continue to develop and market enhanced or new products in a cost-effective manner could harm our ability to regain growth in sales or growth in profitability.

Adequacy of Management Information Systems. In December 2008, we abandoned plans to implement an SAP®-based enterprise-wide information technology architecture. As a result, we are currently enhancing our existing management information systems to support our existing and anticipated business needs and to comply with evolving payment card industry and state and federal regulatory standards applicable to data privacy and security. This project may take longer and may require more resources to implement than anticipated, may cause distraction of key personnel, and may cause disruptions to our business. Any of these outcomes could impair our ability to achieve critical strategic initiatives and could harm our sales, profitability and financial condition.

We depend upon our management information systems for many aspects of our business. Our current information systems architecture includes some off-the-shelf programs as well as some key software that has been developed by our own programmers, which is not easily modified or integrated with other software and systems and limits the flexibility and scalability of our information systems. Our business will be adversely affected if our management information systems are disrupted or if we are unable to improve, upgrade, integrate or expand our systems to meet business and regulatory requirements. In addition, any failure of our systems and processes to adequately protect customer information from theft or loss could adversely impact our business, reputation, sales, profitability and financial condition.

Risks of Compliance with Governmental Regulations. We are subject to a wide variety of government regulations. Any failure to comply with any of these regulations could harm our business, reputation, sales, profitability and financial condition. We may be required to incur significant expenses or to modify our operations in order to ensure compliance with these regulations.

We are subject to a wide variety of government regulations relating to the bedding industry or to various aspects of our business and operations, including without limitation:

 

 

Regulations relating to the proper labeling of bedding merchandise and other aspects of product handling and sale;

 

 

State regulations related to the proper labeling and sale of bedding products produced in part from refurbished components;

 

 

Federal and state flammability standards applicable generally to mattresses and mattress and foundation sets;

 

 

Federal safety standards applicable to children’s products generally, including some mattresses products;

 

 

Environmental and product safety regulations;

 

 

Consumer protection and data privacy regulations;

 

 

Regulations related to marketing and advertising claims;

 

 

Various federal and state “do not call” or “do not mail” list requirements;

 

 

Federal, state and foreign labor laws, including but not limited to laws relating to occupational health and safety, employee privacy, wages and hours, overtime pay, harassment and discrimination, equal opportunity, and employee leaves and benefits;

 

 

Antitrust regulations in the United States and foreign jurisdictions where we distribute our products;

 

 

Import and export regulations;

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Federal and state tax laws; and

 

 

Federal and state securities laws.

Although we believe that we are in compliance in all material respects with these regulations and have implemented a variety of measures to promote continuing compliance, regulations may change over time and we may be required to incur expenses and/or to modify our operations in order to ensure compliance with these regulations, which could harm our profitability and financial condition. If we are found to be in violation of any of the foregoing laws or regulations, we could become subject to fines, penalties, damages or other sanctions, as well as potential adverse public relations, which could adversely impact our business, reputation, sales, profitability and financial condition.

Risks of Compliance with Flammability Standards. All mattresses and mattress and foundation sets, including ours, became subject to new federal flammability standards and related regulations in July 2007. Compliance with these regulations has increased our product costs, has required modifications to our systems and operations and may increase the risk of disruptions to our business due to ongoing testing to assure compliance or due to regulatory inspections.

The federal Consumer Product Safety Commission adopted new flammability standards and related regulations which became effective nationwide in July 2007 for mattresses and mattress and foundation sets. Compliance with these requirements has resulted in higher materials and manufacturing costs for our products, and has required modifications to our information systems and business operations, further increasing our costs. To the extent we are unable to offset increased costs through value engineering and similar initiatives, or through price increases, our profitability may be adversely impacted. If we choose to increase prices to offset the increased costs, our unit sales volumes could be adversely impacted.

Compliance also requires more complicated manufacturing processes, which may reduce our manufacturing capacity and may require us to expand our manufacturing capacity sooner than otherwise anticipated.

The new regulations require manufacturers to implement quality assurance programs and encourage manufacturers to conduct random testing of products. The new regulations also require maintenance and retention of compliance documentation. These quality assurance and documentation requirements are costly to implement and maintain. If any product testing yields results indicating that any of our products may not meet the flammability standard, or if we obtain test results or other evidence that any of our products may fail to meet the standard or that a material or process used in manufacturing could affect the test performance of our product, we may be required to temporarily cease production and distribution and/or to recall products from the field, and we may be subject to fines or penalties, any of which outcomes could harm our business, reputation, sales, profitability and financial condition. We may also face increased risks of disruptions to our business caused by regulatory inspections.

Risks of Compliance with Safety Standards. All children’s products, including some mattresses, are subject to new consumer product safety standards. Compliance with these regulations may increase our product costs and may require modifications to our systems and operations.

The Consumer Product Safety Improvement Act (CPSIA) establishes new lead and phthalates content standards for certain children’s products, including some mattresses. Portions of the CPSIA, including compliance with the component content standards are effective February 10, 2009. The Consumer Product Safety Commission has stayed the enforcement of the testing and certification requirements for the component testing and certification until February 10, 2010. Compliance with these regulations may increase our product costs and may require modifications to our systems and operations.

Risks of Seasonal Influences. Our business is subject to seasonal influences and a substantial portion of our net sales is often realized in the last month or last few weeks of a quarter, due in part to our promotional schedule and commission structure. As our marketing expenditures are largely based on our expectations of future customer inquiries and net sales, and cannot be adjusted quickly, a failure to meet these expectations may harm our profitability and financial condition.

Our business is subject to some seasonal influences, with typically lower sales in the second quarter, and increased sales during selected holiday or promotional periods. Furthermore, a substantial portion of our sales is often realized in the last month or last few weeks of a quarter, due in part to our promotional schedule and commission structure. The level of our marketing and advertising expenses is based, in significant part, on our expectations of future customer inquiries and net sales

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and cannot be adjusted quickly. If there is a shortfall in expected net sales or in the conversion rate of customer inquiries, we may be unable to adjust our spending in a timely manner and our sales, profitability and financial condition may be harmed.

Product Returns and Warranty Claims. Significant and unexpected return rates under our 30-night trial period, or significant and unexpected warranty claims under our 20-year limited warranty, could harm our sales, profitability and financial condition.

Part of our marketing and advertising strategy focuses on providing a 30-night trial in which customers may return their beds and obtain a refund of the purchase price if they are not fully satisfied with our product. Return rates may not remain within acceptable levels. An unexpected increase in return rates could harm our sales, profitability and financial condition. We also provide our customers with a 20-year limited warranty on our beds. We may receive significant and unexpected claims under these warranty obligations that could exceed our warranty reserves. Warranty claims in excess of our warranty reserves could harm our profitability and financial condition.

Exposure to Product Liability Claims. We may face exposure to product liability claims.

We face an inherent business risk of exposure to product liability claims in the event that the use of any of our products is alleged to have resulted in personal injury or property damage. In the event that any of our products proves to be defective, we may be required to recall or redesign such products. In 2004 and in 2008, we experienced increased returns and adverse impacts on sales, as well as product liability litigation, as a result of media reports related to the alleged propensity of our products to develop mold. We may experience material increases in returns and material adverse impacts on sales or additional litigation in the event any similar media reports were to occur in the future. We maintain insurance against product liability claims, but such coverage may not continue to be available on terms acceptable to us and may not be adequate for liabilities actually incurred. A successful claim brought against us in excess of available insurance coverage, or any claim or product recall that results in significant adverse publicity against us, may have a material adverse effect on our business.

Protection of Our Intellectual Property. If we are unable to protect our intellectual property, we may be unable to prevent other companies from using our technology in competitive products.

We own various U.S. and foreign patents and patent applications related to certain elements of the design and function of our beds and related products. We also own several registered and unregistered trademarks and trademark applications, including in particular our Select Comfort and Sleep Number trademarks, which we believe have significant value and are important to the marketing of our products to customers. In addition to patents and trademarks, we rely upon copyrights, trade secrets and other intellectual property rights and we have implemented several measures to protect our intellectual property and confidential information contained in our products, such as entering into assignment of invention and nondisclosure agreements with certain of our employees. Our ability to compete effectively with other companies depends, to a significant extent, upon our ability to maintain the proprietary nature of our owned intellectual property and confidential information. Our intellectual property rights may not provide substantial protection against infringement or piracy and may be circumvented by our competitors. Our protective measures may not protect our intellectual property rights or confidential information or prevent our competitors from developing and marketing products that are similar to or competitive with our beds or other products. In addition, the laws of some foreign countries may not protect our intellectual property rights and confidential information to the same extent as the laws of the United States. If we are unable to protect our intellectual property, we may be unable to prevent other companies from using our technology or trademarks in connection with competitive products, which could adversely affect our sales, profitability and financial condition.

Intellectual property litigation, which could result in substantial costs to us and the diversion of significant time and effort by our executive management, may be necessary to enforce our patents and trademarks and to protect our trade secrets and proprietary technology. We may not have the financial resources necessary to enforce or defend our intellectual property rights.

We are not aware of any material intellectual property infringement or invalidity claims that may be asserted against us, however, it is possible that third parties, including competitors, may successfully assert such claims. The cost of defending such claims, or any resulting liability, or any failure to obtain necessary licenses on reasonable terms, may adversely impact our sales, profitability and financial condition.

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Dependence on Management and Other Key Employees. The loss of the services of any members of our executive management team could adversely impact our ability to execute our business strategy and growth initiatives and could harm our business.

We are currently dependent upon the continued services, ability and experience of our executive management team, particularly William R. McLaughlin, our Chief Executive Officer. The loss of the services of Mr. McLaughlin or any other member of our executive management team could have an adverse effect on our ability to execute our business strategy and growth initiatives and on our sales, profitability and financial condition. We do not maintain any key person life insurance on any members of our executive management team. Our future growth and success will also depend upon our ability to attract, retain and motivate other qualified personnel.

NASDAQ Listing Requirements. Failure to satisfy NASDAQ Global Select Market listing requirements may result in our common stock being removed from listing on the NASDAQ Global Select Market.

Our common stock is currently listed on the NASDAQ Global Select Market under the symbol “SCSS.” For continued inclusion on the NASDAQ Global Select Market, we must generally maintain, among other requirements, either (a) shareholders’ equity of at least $10 million, a minimum closing bid price of $1.00 per share and a market value of our public float of at least $5 million; or (b) market capitalization of at least $50 million, a minimum closing bid price of $1.00 per share and a market value of our public float of at least $15 million. We currently do not meet these minimum closing bid price and market capitalization requirements. NASDAQ has recently suspended enforcement, through April 20, 2009, of the rules requiring a minimum closing bid price and a minimum market value of public float. After April 20, 2009, however, if we fail to meet the minimum closing bid price or the minimum market value standards described above for at least 30 consecutive trading days, our common stock could be at risk of being removed from listing on the NASDAQ Global Select Market. If our common stock were removed from listing on the NASDAQ Global Select Market, our common stock may be transferred to the NASDAQ Capital Market if we satisfy the listing criteria for the NASDAQ Capital Market, or trading of our common stock may be conducted in the over-the-counter market in the so-called “pink sheets” or, if available, the National Association of Securities Dealer’s “Electronic Bulletin Board.” Consequently, broker-dealers may be less willing or able to sell and/or make a market in our common stock, which may make it more difficult for shareholders to dispose of, or to obtain accurate quotations for the price of, our common stock. Removal of our common stock from listing on the NASDAQ Global Select Market may also make it more difficult for us to raise capital through the sale of our securities.

Risks of International Distribution. Through relationships with other parties, we distribute products in Canada and Australia, which presents some additional risks to our business.

To date, the vast majority of our sales have been made in the U.S. and we have sold only very minimal quantities of products in foreign jurisdictions. In late 2005 we began to distribute our products in Canada through an independent retailer. In late 2007 we entered into relationships with an Australian-based manufacturer and an Australian-based retailer to begin distribution of Sleep Number beds in Australia and New Zealand. Our lack of experience in international distribution presents some risks to our business, including without limitation the need to build awareness of our products and brand in new markets, the need to gain market acceptance for new products that represent a significant departure from traditional bedding products, logistical and systems complexities, different levels of protection of our intellectual property, language and cultural differences, the need to comply with additional and different regulatory requirements, foreign currency exchange risks and political instability.

Although several members of our senior management team have significant experience in international distribution of consumer goods, as a company our experience in this area is limited. The current economic environment and its impact on our business has limited our ability to invest in our international infrastructure, which may adversely impact the sales and profitability of our international operations, as well as the timing of additional international expansion. If we are unable to achieve consumer awareness and market acceptance for our products in foreign jurisdictions, we may not be able to achieve sufficient sales and profitability in our international operations to justify the investment.

Risks of Terrorist Attacks. Additional terrorist attacks in the United States or against U.S. targets, or acts of war or threats of war or the escalation of current hostilities involving the United States or its allies could adversely impact our sales, profitability, financial condition or stock price in unpredictable ways.

Additional terrorist attacks in the United States or against U.S. targets, or acts of war or threats of war or the escalation of current hostilities involving the United States or its allies, or military or trade disruptions impacting our domestic or foreign suppliers of components of our products, may adversely impact our operations, including, but not limited to, causing delays or losses in the delivery of merchandise to us and decreased sales of our products. These events could cause an increase in oil

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or other commodity prices, which could adversely affect our materials or transportation costs, including the costs of delivery of our products to customers. More generally, any of these events could adversely impact consumer confidence and spending or result in increased volatility in the U.S. and worldwide financial markets. These events also could cause, or deepen and prolong, an economic recession in the United States or abroad. Any of these occurrences could have an adverse impact on our sales, profitability and financial condition, and may result in volatility of our stock price.

Risks of Pandemic. An outbreak of Avian Flu or a pandemic, or the threat of a pandemic, may adversely impact our ability to produce and deliver our products or may adversely impact consumer demand.

Concern has grown recently over the possibility of a significant or global outbreak of avian flu or a similar pandemic. A significant outbreak of avian flu, or a similar pandemic, or even a perceived threat of such an outbreak, could cause significant disruptions to our supply chain, manufacturing capability and distribution system that could adversely impact our ability to produce and deliver products, which could result in a loss of sales and adversely impact on our profitability and financial condition. Similarly, such events could adversely impact consumer confidence and consumer demand generally, which could adversely impact our sales, profitability and financial condition.

ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

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ITEM 2. PROPERTIES

Distribution Locations

We currently lease all of our existing retail store locations and expect that our policy of leasing, rather than owning stores will continue. Our store leases generally provide for an initial lease term of five to seven years with a mutual termination option if we do not achieve certain minimum annual sales thresholds. Generally, the store leases require us to pay minimum rent plus percentage rent based on net sales in excess of certain thresholds, as well as certain operating expenses.

The following table summarizes the geographic location of our 471 company-owned stores and 801 retail partner doors as of January 3, 2009:

 

 

 

 

 

 

 

 

 

 

 

 

 

Company-
Owned
Stores

 

Retail
Partner
Doors

 

 

 

Company
Owned
Stores

 

Retail
Partner
Doors

Alabama

 

5

 

-

 

Montana

 

3

 

-

Alaska

 

-

 

3

 

Nebraska

 

3

 

-

Arizona

 

12

 

41

 

Nevada

 

4

 

25

Arkansas

 

4

 

-

 

New Hampshire

 

5

 

-

California

 

48

 

148

 

New Jersey

 

14

 

-

Colorado

 

16

 

-

 

New Mexico

 

2

 

-

Connecticut

 

6

 

-

 

New York

 

15

 

-

Delaware

 

2

 

-

 

North Carolina

 

13

 

31

Florida

 

33

 

56

 

North Dakota

 

2

 

-

Georgia

 

17

 

38

 

Ohio

 

20

 

17

Hawaii

 

-

 

6

 

Oklahoma

 

3

 

6

Idaho

 

1

 

-

 

Oregon

 

4

 

25

Illinois

 

22

 

-

 

Pennsylvania

 

19

 

-

Indiana

 

13

 

13

 

Rhode Island

 

1

 

-

Iowa

 

6

 

-

 

South Carolina

 

6

 

7

Kansas

 

5

 

4

 

South Dakota

 

2

 

-

Kentucky

 

4

 

2

 

Tennessee

 

9

 

14

Louisiana

 

5

 

5

 

Texas

 

39

 

166

Maine

 

2

 

-

 

Utah

 

4

 

-

Maryland

 

12

 

-

 

Vermont

 

1

 

-

Massachusetts

 

8

 

-

 

Virginia

 

13

 

-

Michigan

 

14

 

-

 

Washington

 

13

 

49

Minnesota

 

15

 

-

 

West Virginia

 

1

 

-

Mississippi

 

2

 

2

 

Wisconsin

 

10

 

-

Missouri

 

13

 

9

 

Wyoming

 

-

 

-

 

 

 

 

 

 

Canada

 

-

 

134

 

 

 

 

 

 

Total

 

471

 

801

Manufacturing and Headquarters

We lease our 159,000-square-foot corporate headquarters in Minneapolis, Minnesota. The lease commenced in November 2007 and runs through 2017 with two five-year renewal options.

We also lease approximately 122,000 square feet in Minneapolis, Minnesota that includes our direct marketing call center, our customer service group, our research and development department, and a distribution center that accepts returns and processes warranty claims. This lease expires in 2017 and contains one five-year renewal option.

We lease two manufacturing and distribution centers in Irmo, South Carolina and Salt Lake City, Utah of approximately 105,000 square feet and approximately 101,000 square feet, respectively. We lease the Irmo facility through February 2013, and the Salt Lake City facility through April 2010, with a five-year renewal option thereafter.

To support our accessories business and our program with Radisson Hotels and Resorts, we lease approximately 40,000 square feet in Omaha, Nebraska, through July 2009. We plan to close this facility in 2009 and relocate its operations to our Minneapolis distribution center.

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ITEM 3. LEGAL PROCEEDINGS

On April 25, 2008, a lawsuit was filed against one of our subsidiaries in Superior Court in Santa Clara County, California by one of our customers. The complaint asserted various claims related to products liability, breach of warranty, concealment, intentional misrepresentation and negligent misrepresentation and sought class certification. The complaint alleged that products sold by us prior to 2006 had a unique propensity to develop mold, alleged that the plaintiff suffered adverse health effects, and sought various forms of legal and equitable relief, including without limitation unspecified damages, punitive and exemplary damages, attorneys’ fees and costs, and injunctive relief. We removed the case to the U.S. District Court for the Northern District of California. On September 30, 2008, the Court granted our motion to dismiss and strike the purported class action claims, and allowed the plaintiff leave to amend the complaint. On October 30, 2008, the plaintiff filed an amended complaint alleging facts similar to those asserted in the initial complaint and asserting additional claims, including antitrust and RICO claims. We have filed a motion to dismiss the amended complaint on the same basis that the Court dismissed the original complaint, and our motion remains pending before the Court. As of January 3, 2009, no accrual had been established as we believe that the complaint is without merit and we intend to vigorously defend the claims.

We are involved from time to time in various other legal proceedings arising in the ordinary course of our business, including primarily commercial, employment and intellectual property claims. In accordance with generally accepted accounting principles in the United States, we record a liability in our consolidated financial statements with respect to any of these matters when it is both probable that a liability has been incurred and the amount of the liability can be reasonably estimated. With respect to these other matters, we believe that we have valid defenses to claims asserted against us and we do not expect the outcome of these other matters to have a material effect on our results of operations or financial position. Litigation, however, is inherently unpredictable, and it is possible that the ultimate outcome of one or more claims asserted against us could adversely impact our results of operations or financial position.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Not applicable.

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PART II

ITEM 5. MARKET FOR THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock trades on The NASDAQ Stock Market LLC (NASDAQ Global Select Market) under the symbol “SCSS.” As of February 28, 2009, there were approximately 799 holders of record of our common stock. The following table sets forth the quarterly high and low sales prices per share of our common stock as reported by NASDAQ for the two most recent fiscal years. These quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission, and may not necessarily represent actual transactions.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fourth
Quarter

 

Third
Quarter

 

Second
Quarter

 

First
Quarter

 

Fiscal 2008

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

High

 

 

$

1.96

 

 

 

$

2.83

 

 

 

$

3.97

 

 

 

$

8.32

 

 

Low

 

 

 

0.19

 

 

 

 

1.16

 

 

 

 

1.47

 

 

 

 

3.10

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal 2007

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

High

 

 

$

14.75

 

 

 

$

18.00

 

 

 

$

19.03

 

 

 

$

20.17

 

 

Low

 

 

 

6.11

 

 

 

 

13.90

 

 

 

 

15.94

 

 

 

 

16.77

 

 

Select Comfort has not historically paid cash dividends on its common stock and is restricted from paying dividends under its credit agreement.

Information concerning stock repurchases completed during the fourth quarter of fiscal 2008 is set forth below:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Period

 

Total Number of
Shares
Purchased

 

Average
Price
Paid per
Share

 

Total Number of
Shares
Purchased as Part of
Publicly Announced
Plans
or Programs (1)

 

Approximate Dollar
Value of Shares that
May Yet Be
Purchased Under
the Plans or Programs

 

September 28, 2008 through
October 25, 2008

 

 

 

 

 

 

 

 

 

 

 

 

October 26, 2008 through
November 29, 2008

 

 

 

 

 

 

 

 

 

 

 

 

November 30, 2008 through
January 3, 2009

 

 

 

 

 

 

 

 

$

206,762,000

 

 

Total

 

 

 

 

 

 

 

 

 

 

 


 

 

 

 

 

 

(1)

On April 20, 2007, our Board of Directors authorized the company to repurchase up to an additional $250.0 million of its common stock, bringing the total availability under our share repurchase program to $290.0 million. The Finance Committee of the Board of Directors reviews repurchases under this program on a quarterly basis. There is no expiration date governing the period over which we can repurchase shares. As of January 31, 2009, the total outstanding authorization was $206.8 million. We may terminate or limit the stock repurchase program at any time. We currently have no plans to repurchase shares under this authorization.

26


Table of Contents

Comparative Stock Performance

The graph below compares the total cumulative shareholder return on our common stock over the last five years to the total cumulative return on the Standard and Poor’s (“S&P”) 400 Specialty Stores Index and The NASDAQ Stock Market (U.S.) Index assuming a $100 investment made on January 3, 2004. Each of the three measures of cumulative total return assumes reinvestment of dividends. The stock performance shown on the graph below is not necessarily indicative of future price performance. The information contained in this “Comparative Stock Performance” section shall not be deemed to be “soliciting material” or “filed” or incorporated by reference in future filings with the SEC, or subject to the liabilities of Section 18 of the Securities Exchange Act of 1934, as amended, except to the extent that we specifically request that it be treated as soliciting material or incorporate it by reference into a document filed under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended.

COMPARISON OF FIVE-YEAR CUMULATIVE TOTAL RETURN
AMONG SELECT COMFORT CORPORATION, S&P 400 SPECIALTY STORES INDEX,
AND THE NASDAQ STOCK MARKET (U.S.) INDEX

(LINE GRAPH)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1/3/2004

 

1/1/2005

 

12/31/2005

 

12/30/2006

 

12/29/2007

 

1/3/2009

 

Select Comfort Corporation

 

$

100

 

$

73

 

$

111

 

$

106

 

$

43

 

$

2

 

S&P 400 Specialty Stores Index

 

 

100

 

 

117

 

 

123

 

 

139

 

 

115

 

 

69

 

The NASDAQ Stock Market (U.S.) Index

 

 

100

 

 

108

 

 

111

 

 

122

 

 

134

 

 

79

 

27


Table of Contents

Securities Authorized for Issuance under Equity Compensation Plans

The following table summarizes information about our equity compensation plans as of January 3, 2009:

EQUITY COMPENSATION PLAN INFORMATION

 

 

 

 

 

 

 

 

Plan Category

 

Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights(1)

 

Weighted average
exercise price of
outstanding options,
warrants and rights

 

Number of securities
remaining available
for future issuance
under equity
compensation plans
(excluding securities
reflected in the
first column)

 

Equity compensation plans approved by security holders

 

5,074,000

 

$10.67

 

1,435,000

 

 

 

 

 

 

 

 

 

Equity compensation plans not approved by security holders

 

None

 

Not applicable

 

None

 

 

 

 

 

 

 

 

 

Total

 

5,074,000

 

$10.67

 

1,435,000

 


 

 

 

 

 

 

(1)

Includes the Select Comfort Corporation 1990 Omnibus Stock Option Plan, the Select Comfort Corporation 1997 Stock Incentive Plan and the Select Comfort Corporation 2004 Stock Incentive Plan.

28


Table of Contents

ITEM 6. SELECTED FINANCIAL DATA
(in thousands, except per share and selected operating data, unless otherwise indicated)

The Consolidated Statements of Operations Data and Consolidated Balance Sheet Data presented below have been derived from our Consolidated Financial Statements and should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our Consolidated Financial Statements and Notes thereto included in this Annual Report on Form 10-K. 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year

 

 

 

2008(2)

 

2007

 

2006(1)

 

2005

 

2004

 

2003(2)

 

Consolidated Statements of Operations Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net sales

 

$

608,524

 

$

799,242

 

$

806,038

 

$

689,548

 

$

557,639

 

$

458,489

 

Gross profit

 

 

358,572

 

 

486,415

 

 

490,508

 

 

406,476

 

 

339,838

 

 

285,324

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales and marketing

 

 

332,068

 

 

372,467

 

 

341,630

 

 

286,206

 

 

250,628

 

 

207,400

 

General and administrative

 

 

57,994

 

 

64,351

 

 

65,401

 

 

49,300

 

 

37,826

 

 

33,974

 

Research and development

 

 

3,374

 

 

5,682

 

 

4,687

 

 

2,219

 

 

1,853

 

 

1,295

 

Asset impairment charges

 

 

34,594

 

 

409

 

 

5,980

 

 

162

 

 

 

 

71

 

Operating (loss) income

 

 

(69,458

)

 

43,506

 

 

72,810

 

 

68,589

 

 

49,531

 

 

42,584

 

Net (loss) income

 

$

(70,177

)

$

27,620

 

$

47,183

 

$

43,767

 

$

31,555

 

$

27,102

 

Net (loss) income per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

(1.59

)

$

0.59

 

$

0.89

 

$

0.82

 

$

0.58

 

$

0.55

 

Diluted

 

 

(1.59

)

 

0.57

 

 

0.85

 

 

0.76

 

 

0.53

 

 

0.46

 

Shares used in calculation of net income per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

44,186

 

 

46,536

 

 

52,837

 

 

53,357

 

 

54,015

 

 

49,157

 

Diluted

 

 

44,186

 

 

48,292

 

 

55,587

 

 

57,674

 

 

59,525

 

 

58,916

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated Balance Sheet Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash, cash equivalents and marketable debt securities

 

$

13,057

 

$

7,279

 

$

90,175

 

$

123,091

 

$

101,963

 

$

75,118

 

Working capital

 

 

(90,534

)

 

(70,000

)

 

5,637

 

 

10,158

 

 

23,479

 

 

53,972

 

Total assets

 

 

135,413

 

 

190,489

 

 

228,961

 

 

239,838

 

 

202,033

 

 

153,506

 

Borrowings under revolving credit facility

 

 

79,150

 

 

37,890

 

 

 

 

 

 

 

 

 

Capital lease obligations (non-current)

 

 

621

 

 

 

 

 

 

 

 

 

 

 

Total shareholders’ (deficit) equity

 

 

(41,630

)

 

24,126

 

 

115,694

 

 

121,347

 

 

114,344

 

 

92,201

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Selected Operating Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stores open at period-end(3)

 

 

471

 

 

478

 

 

442

 

 

396

 

 

370

 

 

344

 

Stores opened during period

 

 

19

 

 

45

 

 

51

 

 

40

 

 

31

 

 

27

 

Stores closed during period

 

 

26

 

 

9

 

 

5

 

 

14

 

 

5

 

 

5

 

Retail partner doors

 

 

801

 

 

891

 

 

822

 

 

353

 

 

89

 

 

77

 

Average net sales per store (000’s)(4)

 

$

984

 

$

1,318

 

$

1,493

 

$

1,417

 

$

1,247

 

$

1,101

 

Percentage of stores with more than $1.0 million in net sales(4)

 

 

45

%

 

73

%

 

81

%

 

77

%

 

64

%

 

49

%

Comparable-store sales (decrease) increase(5)

 

 

(25

%)

 

(11

%)

 

7

%

 

15

%

 

16

%

 

31

%

Average square footage per store open during period(4)

 

 

1,410

 

 

1,315

 

 

1,200

 

 

1,121

 

 

1,032

 

 

990

 

Net sales per square foot(4)

 

$

703

 

$

1,024

 

$

1,244

 

$

1,264

 

$

1,208

 

$

1,113

 

Average store age (in months at period end)

 

 

91

 

 

84

 

 

81

 

 

79

 

 

75

 

 

70

 

                                       

 

 

(1)

In the first quarter of fiscal 2006, we adopted the fair value recognition provisions of Statement of Financial Accounting Standards (“SFAS”) No. 123R, “Share-Based Payment,” requiring us to recognize expense related to the fair value of our stock-based compensation awards. We elected the modified prospective transition method and, accordingly, financial results for fiscal years prior to 2006 have not been restated. Stock-based compensation expense for fiscal 2008, 2007 and 2006 was $3,702, $6,252 and $8,325, respectively. Prior to the adoption of SFAS No. 123R, we followed the intrinsic value method in accordance with Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” to account for our employee stock options and employee stock purchase plan. Accordingly, no compensation expense was recognized for share purchase rights granted in connection with the issuance of stock options under our employee stock option plan or employee stock purchase plan; however, compensation expense was recognized in connection with the issuance of restricted and performance shares granted. See Note 6 of the Notes to the Consolidated Financial Statements for additional information regarding stock-based compensation. Stock-based compensation expense (pre-tax) recognized in our financial results for years prior to fiscal 2006 was $793, $405, and $76 in 2005, 2004 and 2003, respectively.

 

 

(2)

Fiscal years 2008 and 2003 had 53 weeks. All other fiscal years presented had 52 weeks.

 

 

(3)

Includes stores operated in leased departments within other retail stores (none in 2008, 2007, 2006 and 2005; and 13 in 2004 and 2003).

 

 

(4)

For stores open during the entire period indicated.

 

 

(5)

Stores are included in the comparable-store calculation in the 13th full month of operation. Stores that have been remodeled or relocated within the same shopping center remain in the comparable-store base. The number of comparable-stores used to calculate such data was 452, 432, 391, 354, 339, and 316 for 2008, 2007, 2006, 2005, 2004 and 2003, respectively. Our 2008 comparable-store sales decrease reflects adjustments for an additional week of sales. Without adjusting for the additional week, comparable-stores sales would have decreased (25%) for 2008. Our 2004 and 2003 comparable-store sales increase reflects adjustments for an additional week of sales in 2003. Without adjusting for the additional week, comparable-store sales would have been 14% for 2004 and 34% for 2003.

29


Table of Contents

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements

The discussion in this Annual Report contains certain forward-looking statements that relate to future plans, events, financial results or performance. You can identify forward-looking statements by those that are not historical in nature, particularly those that use terminology such as “may,” “will,” “should,” “could,” “expect,” “anticipate,” “believe,” “estimate,” “plan,” “project,” “predict,” “intend,” “potential,” “continue” or the negative of these or similar terms. These statements are subject to certain risks and uncertainties that could cause actual results to differ materially from our historical experience and our present expectations or projections. These risks and uncertainties include, among others:

 

 

Our current lack of adequate liquidity and capital resources and our ability to continue as a going concern;

 

 

Current general and industry economic trends;

 

 

Consumer confidence;

 

 

The effectiveness of our marketing messages;

 

 

The efficiency of our advertising and promotional efforts;

 

 

Consumer acceptance of our products, product quality, innovation and brand image;

 

 

Availability of attractive and cost-effective consumer credit options;

 

 

Execution of our retail distribution strategy, including our ability to cost-effectively close under-performing store locations;

 

 

Our dependence on significant suppliers and our ability to maintain relationships with key suppliers, including several sole source suppliers;

 

 

The vulnerability of key suppliers to recessionary pressures, labor negotiations, liquidity concerns or other factors;

 

 

Rising commodity costs and other inflationary pressures;

 

 

Industry competition;

 

 

Our ability to continue to improve our product line;

 

 

Warranty expenses;

 

 

Pending and potentially unforeseen litigation;

 

 

Increasing government regulations, including new flammability standards for the bedding industry and new safety standards for consumer products;

 

 

The adequacy of our management information systems to meet the evolving needs of our business and evolving regulatory standards applicable to data privacy and security;

 

 

Our ability to attract and retain senior leadership and other key employees, including qualified sales professionals; and

 

 

Global events, such as terrorist attacks or a pandemic outbreak, or the threat of such events.

Additional information concerning these and other risks and uncertainties is contained under the caption “Risk Factors” in this Annual Report on Form 10-K.

Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) is intended to provide a reader of our financial statements with a narrative from the perspective of management on our financial condition, results of operations, liquidity and certain other factors that may affect our future results. Our MD&A is presented in seven sections:

 

 

 

 

Overview

 

Results of Operations

 

Liquidity and Capital Resources

 

Outlook

 

Off-Balance-Sheet Arrangements and Contractual Obligations

 

Critical Accounting Policies and Estimates

 

Recent Accounting Pronouncements

30


Table of Contents

Overview

Business Overview

Select Comfort is the leading developer, manufacturer and marketer of premium-quality, adjustable-firmness beds. The air-chamber technology of our proprietary Sleep Number bed allows adjustable firmness on each side of the mattress and provides a sleep surface that is clinically proven to provide better sleep quality and greater relief of back pain compared to traditional mattress products. In addition, we market and sell accessories and other sleep related products which focus on providing personalized comfort to complement the Sleep Number bed and provide a better night’s sleep for consumers.

We generate revenue by selling our products through four complementary distribution channels. Three of these channels: Retail, Direct Marketing and E-Commerce, are company-controlled and sell directly to consumers. Our wholesale channel sells to and through leading home furnishings retailers, specialty bedding retailers, the QVC shopping channel and to several end users such as Radisson Hotels and Resorts®.

Vision and Strategy

Our vision is to be a leading brand in the bedding industry, while improving people’s lives through better sleep.

We are executing against a defined strategy which focuses on the following key components:

 

 

 

 

Building brand awareness and increasing store traffic through effective marketing programs;

 

Managing our business in the current economic environment through disciplined controls over costs and cash;

 

Accelerating product innovation to lead the industry in innovative sleep products; and

 

Leveraging our infrastructure in order to facilitate long-term profitability.

Results of Operations

Fiscal 2008 Summary

Financial highlights for the fiscal year ended January 3, 2009 were as follows:

 

 

 

 

Net loss totaled $70.2 million, or $(1.59) per diluted share, compared with net income of $27.6 million, or $0.57 per diluted share in 2007. The 2008 net loss includes non-cash charges for asset impairments totaling $34.6 million and establishment of a $26.8 million valuation allowance for deferred taxes.

 

 

 

Net sales decreased 24% to $608.5 million, compared with $799.2 million for the prior year, primarily due to a 25% comparable-store sales decline in our company-owned retail stores.

 

 

 

Our 2008 gross profit rate decreased to 58.9% compared with 60.9% for the prior year. The gross profit rate decrease was primarily due to higher commodity and logistics costs including the impact of higher fuel prices, increased material costs for compliance with new fire retardancy standards and for our new bed line launched last year, and the deleveraging impact of the 24% net sales decrease.

 

 

 

Sales and marketing expenses decreased by $40.4 million, but increased to 54.6% of net sales in 2008, compared with 46.6% of net sales for the prior fiscal year. The rate increase was driven by the deleveraging impact of the 24% net sales decrease.

 

 

 

General and administrative expenses declined $6.4 million compared with the prior year primarily due to workforce reductions and other cost reduction initiatives.

 

 

 

Cash provided by operating activities in 2008 totaled $3.0 million, compared with $44.0 million for the prior year.

 

 

 

During 2008, borrowings under our revolving credit facility increased from $37.9 million at December 29, 2007 to $79.2 million at January 3, 2009. We have taken significant actions designed to stabilize sales, reduce our cost structure and improve profitability. We also have been exploring a range of strategic and financing alternatives to enhance our financial flexibility and maintain our liquidity. If we are unable to obtain additional capital, we may not be able to fund our operating needs and we could face a risk of default under our credit agreement.

 

 

 

31


Table of Contents

The following table sets forth, for the periods indicated, our results of operations expressed as dollars and percentages of net sales. Figures are in millions except percentages and earnings per share amounts. Amounts may not add due to rounding differences.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

 

 

$

 

% of
Net Sales

 

$

 

% of
Net Sales

 

$

 

% of
Net Sales

 

Net sales

 

$

608.5

 

 

100.0

%

$

799.2

 

 

100.0

%

$

806.0

 

 

100.0

%

Cost of sales

 

 

250.0

 

 

41.1

 

 

312.8

 

 

39.1

 

 

315.5

 

 

39.1

 

Gross profit

 

 

358.6

 

 

58.9

 

 

486.4

 

 

60.9

 

 

490.5

 

 

60.9

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales and marketing

 

 

332.1

 

 

54.6

 

 

372.5

 

 

46.6

 

 

341.6

 

 

42.4

 

General and administrative

 

 

58.0

 

 

9.5

 

 

64.4

 

 

8.1

 

 

65.4

 

 

8.1

 

Research and development

 

 

3.4

 

 

0.6

 

 

5.7

 

 

0.7

 

 

4.7

 

 

0.6

 

Asset impairment charges

 

 

34.6

 

 

5.7

 

 

0.4

 

 

0.1

 

 

6.0

 

 

0.7

 

Total operating expenses

 

 

428.0

 

 

70.3

 

 

442.9

 

 

55.4

 

 

417.7

 

 

51.8

 

Operating (loss) income

 

 

(69.5

)

 

(11.4

)

 

43.5

 

 

5.4

 

 

72.8

 

 

9.0

 

Other (expense) income, net

 

 

(3.3

)

 

(0.5

)

 

 

 

 

 

3.0

 

 

0.4

 

(Loss) income before income taxes

 

 

(72.7

)

 

(12.0

)

 

43.5

 

 

5.4

 

 

75.8

 

 

9.4

 

Income tax (benefit) expense

 

 

(2.6

)

 

(0.4

)

 

15.8

 

 

2.0

 

 

28.6

 

 

3.6

 

Net (loss) income

 

$

(70.2

)

 

(11.5

%)

$

27.6

 

 

3.5

%

$

47.2

 

 

5.9

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

 

 

2007

 

 

 

2006

 

 

 

Net (loss) income per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

(1.59

)

 

 

 

$

0.59

 

 

 

 

$

0.89

 

 

 

 

Diluted

 

 

(1.59

)

 

 

 

 

0.57

 

 

 

 

 

0.85

 

 

 

 

Weighted-average number of common shares:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

44.2

 

 

 

 

 

46.5

 

 

 

 

 

52.8

 

 

 

 

Diluted

 

 

44.2

 

 

 

 

 

48.3

 

 

 

 

 

55.6

 

 

 

 

The proportion of our total net sales, by dollar volume, from each of our channels during the last three years was as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

Retail

 

78.2

%

 

75.4

%

 

76.2

%

 

Direct

 

7.7

%

 

8.0

%

 

9.4

%

 

E-Commerce

 

6.1

%

 

6.8

%

 

5.6

%

 

Wholesale

 

8.0

%

 

9.8

%

 

8.8

%

 

Total

 

100.0

%

 

100.0

%

 

100.0

%

 

The components of total net sales change, including comparable-store net sales changes, were as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

 

 

Channel
increase/
(decrease)

 

Channel
increase/
(decrease)

 

Channel
increase

 

Comparable stores(1)

 

(25

%)

 

(11

%)

 

7

%

 

Net new stores

 

4

%

 

9

%

 

9

%

 

Retail total

 

(21

%)

 

(2

%)

 

16

%

 

Direct

 

(26

%)

 

(16

%)

 

1

%

 

E-Commerce

 

(32

%)

 

20

%

 

31

%

 

Wholesale

 

(38

%)

 

11

%

 

40

%

 

Total net sales change

 

(24

%)

 

(1

%)

 

17

%

 


 

 

(1)

Stores are included in the comparable-store calculation in the 13th full month of operation. Stores that have been remodeled or relocated within the same shopping center remain in the comparable-store base. Fiscal 2008 included 53 weeks, as compared to 52 weeks in fiscal 2007. Comparable-store sales have been adjusted and reported as if both years had the same number of weeks.

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Table of Contents

The number of company-owned retail stores during the last three years, and independently owned and operated retail partner stores, was as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

Company-owned retail stores:

 

 

 

 

 

 

 

 

 

 

Beginning of year

 

 

478

 

 

442

 

 

396

 

Opened

 

 

19

 

 

45

 

 

51

 

Closed

 

 

(26

)

 

(9

)

 

(5

)

End of year

 

 

471

 

 

478

 

 

442

 

 

 

 

 

 

 

 

 

 

 

 

Retail partner stores

 

 

801

 

 

891

 

 

822

 

Comparison of 2008 and 2007

Net Sales

Net sales in 2008 decreased 24% to $608.5 million, compared with $799.2 million in 2007. The sales decrease was due to a 25% comparable-store sales decline in our company-owned retail stores and decreases in wholesale, E-Commerce and direct channel sales, partially offset by sales from new company-owned retail stores opened in the past 12 months net of stores closed. Total sales of mattress units decreased 30% compared to 2007, while the average selling price per bed (mattress sales only divided by mattress units) in our company-controlled channels increased 4% to $1,764, while sales of other product and services decreased by 17%.

The $190.7 million net sales decrease compared with 2007 was comprised of the following: (i) a $127.1 million net decrease in sales from our company-owned retail stores, comprised of a $149.2 million decrease from comparable-stores and a $22.1 million increase from new stores, net of stores closed; (ii) a $29.5 million decrease in wholesale sales; (iii) a $17.6 million decrease in E-Commerce sales and (iv) a $16.5 million decrease in direct marketing sales.

Gross Profit

The gross profit rate decreased to 58.9% in 2008 compared with 60.9% in 2007. The majority of the gross profit rate decline was driven by higher commodity and logistics costs including the impact of higher fuel prices, increased production costs for our new line of beds and fire-retardant products launched last year, and the deleveraging impact of the 24% net sales decrease. In addition, a sales mix shift to lower margin products reduced the gross profit rate by approximately 0.4 percentage points (“ppt”), compared to the same period one year ago. These items were partially offset by an increase in the percentage of net sales from our retail distribution channel which increased the gross profit rate by approximately 0.5 ppt. Pricing initiatives implemented in our company-owned sales channels also favorably impacted our gross profit rate as compared to the prior year.

Sales and Marketing Expenses

Sales and marketing expenses in 2008 decreased to $332.1 million, or 54.6% of net sales, compared with $372.5 million, or 46.6% of net sales in 2007. The $40.4 million decrease was primarily due to the following: (i) a $17.9 million or 16% reduction in media spending compared with the same period one-year ago and (ii) reduced variable selling expenses due to the net sales decline including lower financing costs, percentage rents and variable store compensation. The 8.0 ppt sales and marketing expense rate increase was principally due to the deleveraging impact of the 24% net sales decline, partially offset by the $40.4 million expense decrease compared with the same period one year ago.

General and Administrative Expenses

General and administrative (“G&A”) expenses decreased $6.4 million to $58.0 million in 2008, compared with $64.4 million in 2007, but increased to 9.5% of net sales, compared with 8.1% in the prior year. The $6.4 million decrease in G&A expenses was primarily due to workforce reductions, reduced stock-based compensation expense, lower depreciation expense and other discretionary spending reductions. The year-over-year decline in stock-based compensation expense was primarily due to an increase in our estimated forfeiture rates resulting from the workforce reductions.

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Research and Development

Research and development (“R&D”) expenses decreased to $3.4 million in 2008 compared with $5.7 million in 2007, and decreased as a percentage of net sales to 0.6% from 0.7%. Fiscal 2007 included additional R&D expenses related to the development of new fire retardant products and an upgrade of our entire line of bed models.

Asset Impairment Charges

Asset impairment charges increased to $34.6 million in 2008, compared with $0.4 million in 2007. During the fourth quarter of fiscal 2008, we elected to abandon our plan to implement an integrated suite of SAP®-based applications and recognized asset impairment charges totaling $27.6 million. During 2008, on a quarterly basis, we reviewed all of our stores for impairment and determined that certain store assets at underperforming stores were impaired. We recognized impairment charges totaling $7.0 million for the difference between the fair value and the carrying amounts of the related long-lived assets. The increase in store asset impairment charges compared to the prior year was due primarily to the deterioration of consumer spending and the more difficult economic environment. We estimate fair values based on the cash-flows expected to be generated by the assets.

During 2007, we determined that certain store assets at underperforming stores were impaired and recognized impairment charges of $0.4 million for the difference between fair value and the carrying amounts of the related long-lived assets.

Other (Expense) Income, Net

Other expense increased to $3.3 million compared with $40,000 in 2007. The $3.2 million increase in other expense was driven by increased interest expense from borrowings under our revolving line of credit due to higher average debt balances and increased interest rates, and lower average cash and investment balances compared to the same period one year ago.

Income Tax (Benefit) Expense

Income tax benefit in 2008 was $2.6 million compared with income tax expense of $15.8 million in 2007. The effective tax rate was (3.5%) and 36.5% in 2008 and 2007, respectively. The change in the effective income tax rate is primarily due to the establishment of a $26.8 million valuation allowance against our deferred tax assets that we recorded in the fourth quarter of fiscal 2008. The remainder of the change in the effective tax rate resulted from the absence of a manufacturing deduction that we realized in 2007 and a higher state income tax rate in 2008, partially offset by a $0.6 million discrete tax benefit adjustment recognized in 2008 related to research and development tax credits for prior years based on the recognition guidance under FASB Interpretations No. 48, Accounting for Uncertainty in Income Taxes.

Comparison of 2007 and 2006

Net Sales

Net sales in 2007 decreased 1% to $799.2 million, compared with $806.0 million in 2006. The sales decrease was due to an 11% comparable-store sales decline in our company-owned retail stores and a decrease in direct channel sales, partially offset by sales from 36 net new company-owned retail stores opened in the past 12 months and sales growth in our E-Commerce and wholesale distribution channels. Total sales of mattress units decreased 1% compared to 2006, and the average selling price per bed (mattress sales only divided by mattress units) in our company-controlled channels was essentially flat at $1,694, while sales of other product and services increased by 2%.

The $6.8 million net sales decrease compared with 2006 was comprised of the following: (i) a $12.2 million decrease in direct marketing sales and (ii) an $11.6 million net decrease in sales from our company-owned retail stores, comprised of a $66.3 million decrease from comparable-stores and a $54.7 million increase from new stores, net of stores closed, partially offset by, (iii) a $9.0 million increase in E-Commerce sales and (iv) an $8.0 million increase in wholesale sales.

Gross Profit

The gross profit rate of 60.9% in 2007 was consistent with the prior year. The gross profit rate benefited from improvements in sourcing, manufacturing productivity and our ongoing implementation of a hub-and-spoke logistics network which reduced our cost of sales. The gross profit rate also benefited from a reduction in warranty costs per unit.

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These items were offset by increased costs to comply with the new open flame fire retardancy standards which became effective for all products manufactured after July 1, 2007 and increased production costs associated with our new line of beds. In addition, the gross profit rate was negatively impacted by a sales mix shift to lower margin products which reduced the gross profit rate by approximately 0.4 ppt.

Sales and Marketing Expenses

Sales and marketing expenses in 2007 increased to $372.5 million, or 46.6% of net sales, compared with $341.6 million, or 42.4% of net sales in 2006. The $30.9 million expense increase was primarily due to operating costs associated with 36 net new stores opened in the past 12 months, an increased use of promotional financing offers and increased media spending. The 4.2 ppt. sales and marketing expense rate increase was primarily due to the deleveraging impact of an 11% comparable-store sales decline and the $30.9 million expense increase compared with the prior year. Total media spending increased 4% compared with 2006 and was 0.7 ppt. higher on a rate basis.

General and Administrative Expenses

General and administrative expenses decreased $1.0 million to $64.4 million in 2007, compared with $65.4 million in 2006, and remained consistent with the prior year on a rate basis. G&A expenses were favorably impacted by a $3.7 million reduction in incentive-based compensation costs compared to the prior year, partially offset by an increase in other expenses of $2.7 million, including increased information technology expenses and occupancy costs.

Research and Development

Research and development expenses increased to $5.7 million in 2007 compared with $4.7 million in 2006, and increased as a percentage of net sales to 0.7% from 0.6%. The dollar and percentage of net sales increases in R&D expenses were the result of continued investment in new product innovation and increased development costs to comply with the new open flame fire retardancy standards.

Asset Impairment Charges

Asset impairment charges decreased to $0.4 million in 2007, compared with $6.0 million in 2006. The 2007 asset impairment charges primarily related to assets at underperforming stores. The 2006 asset impairment charges included $5.4 million for abandoned software in connection with our decision to implement a new SAP® enterprise resource planning system, and $0.6 million related to assets at underperforming stores.

Other (Expense) Income, Net

Other expense was flat in 2007, compared with $3.0 million of other income in 2006. The $3.0 million decrease was driven by lower average cash and investment balances compared with 2006 which resulted in reduced interest income, increased interest expense from borrowings under our revolving line of credit to fund 2007 common stock repurchases and $0.3 million of net realized losses on the sales of marketable debt securities.

Income Tax Expense

Income tax expense decreased to $15.8 million in 2007, compared with $28.6 million in 2006. The effective tax rate was 36.5% and 37.8% in 2007 and 2006, respectively. The lower effective tax rate in 2007 was primarily due to research and development income tax credits recognized in 2007 based on federal tax law changes, and increased tax benefit related to manufacturing deductions.

Liquidity and Capital Resources

As of January 3, 2009, we had cash and cash equivalents of $13.1 million compared with $7.3 million as of December 29, 2007. The $5.8 million increase in cash and cash equivalents was primarily due to $3.0 million of cash provided by operating activities and a $35.8 million net increase in short-term borrowings partially offset by $32.2 million of capital expenditures.

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The following table summarizes our cash flows for the fiscal year ended January 3, 2009, and December 29, 2007 ($ in millions):

 

 

 

 

 

 

 

 

 

 

Fiscal Year Ended

 

 

 

January 3,
2009

 

December 29,
2007

 

Total cash provided by (used in):

 

 

 

 

 

 

 

Operating activities

 

$

3.0

 

$

44.0

 

Investing activities

 

 

(32.2

)

 

37.6

 

Financing activities

 

 

35.0

 

 

(83.1

)

Increase (decrease) in cash and cash equivalents

 

$

5.8

 

$

(1.5

)

Cash provided by operating activities for the fiscal year ended January 3, 2009 and December 29, 2007 was $3.0 million and $44.0 million, respectively. The $41.1 million year-over-year decrease in cash from operating activities was comprised of a $97.8 million decline in net (loss) income and a $5.7 million decrease in cash from changes in operating assets and liabilities, partially offset by a $62.4 million increase in adjustments to reconcile net (loss) income to cash provided by operating activities, which was primarily due to the $34.0 million increase in disposals and impairments of assets and a $26.8 million deferred tax asset valuation allowance recorded in 2008. The year-over-year decrease in cash from changes in operating assets and liabilities was primarily due to a decrease in accounts payable (reduced inventory levels and reduced business volumes, partially offset by extended vendor payment terms) and an increase in income taxes receivables (tax benefit from pre-tax loss in current fiscal year), partially offset by a current-year decrease in inventories (inventories align with reduced sales volume), a current-year decrease in accounts receivable (lower 2008 sales volume), a current-year decrease in prepaid expenses and other assets, and a reduced current-year decrease in accrued compensation and benefits (prior-year’s reduction included payment of fiscal 2006 annual incentive compensation in the first quarter of fiscal 2007).

Net cash used in investing activities was $32.2 million for 2008, compared with net cash provided by investing activities of $37.6 million for the same period one year ago. The $69.8 million decrease in net cash (used in) provided by investing activities was principally due to no proceeds from the sales and maturity of marketable debt securities for 2008, compared with $81.1 million of proceeds from the sales and maturity of marketable debt securities for the same period one year ago, as we liquidated our marketable debt securities in fiscal 2007 to fund common stock repurchases. During 2008, we invested $32.2 million in property and equipment, compared to $43.5 million for the same period one year ago. In both periods, our capital expenditures related primarily to new and remodeled retail stores, and investments in information technology. During 2008 we opened 19 new retail stores, compared with 45 new retail stores opened during the same period one year ago.

Net cash provided by financing activities was $35.0 million for 2008, compared with net cash used in financing activities of $83.1 million for the same period one year ago. The $118.2 million increase in cash provided by (used in) financing activities resulted from $134.5 million of common stock repurchases during 2007 compared with no repurchases for the fiscal 2008, partially offset by a $9.4 million net decrease in short-term borrowings compared with the prior year, a $3.9 million reduction in proceeds from the issuance of common stock related to stock option exercises and employee purchases, a $1.5 million reduction in tax benefits from stock-based compensation and a $1.5 million increase in debt issuance costs related to our amended credit agreement. Book overdrafts are included in the net change in short-term borrowings.

On April 20, 2007, our Board of Directors authorized us to repurchase up to an additional $250 million of our common stock, bringing the total availability under our share repurchase program to $290 million. In the third quarter of 2007, we curtailed our share repurchases following the tightening of credit markets and the continued deterioration in the general economic environment. During 2008 we did not purchase any shares of common stock compared with the purchase of 7.6 million shares of common stock at a total cost of $134.5 million (based on settlement dates) in 2007. As of January 3, 2009, the remaining authorization under our stock repurchase program was $206.8 million. There is no expiration date governing the period over which we can repurchase shares. We currently have no plans to repurchase our common stock.

In June 2006, we entered into a Credit Agreement (the “Credit Agreement”) with a syndicate of banks (the “Lenders”). The Credit Agreement, as amended to date, provides a revolving credit facility in an aggregate amount of $90 million to be used for general corporate purposes (scheduled reductions in availability described below limit our borrowings plus outstanding letters of credit to $85 million as of March 31, 2009 and to $80 million as of July 1, 2009). The Credit Agreement terminates in June 2010.

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The Credit Agreement was amended on February 1, 2008 and on May 30, 2008 to allow greater flexibility under the existing financial covenants, provide additional financial covenants and monthly measurement of financial covenants, modify the credit limit and maturity date, increase the cost of borrowing, provide the Lenders with a collateral security interest in substantially all of our assets and those of our subsidiaries, and impose additional restrictions and covenants with respect to our operations.

We had outstanding borrowings of $79.2 million and $37.9 million, under the credit facility as of January 3, 2009, and December 29, 2007, respectively. We also had outstanding letters of credit of $5.9 million and zero as of January 3, 2009, and December 29, 2007, respectively. Outstanding letters of credit reduce the amounts available under the credit facility. At January 3, 2009, and December 29, 2007, $5.0 million and $62.1 million, respectively, were available under this credit facility. In early March 2009, we received a federal income tax refund of approximately $23.0 million. Pursuant to the terms of the Credit Agreement, these funds have been placed in a cash collateral account with the Lenders. We are in discussions with the Lenders regarding the potential use or application of these funds to address our near-term liquidity needs.

At January 3, 2009, borrowings under the credit facility bore interest at a floating rate and could be maintained as base rate loans (tied to the prime rate, plus a margin of up to 4.00% or the federal funds rate plus 5.00%) or as Eurocurrency rate loans (tied to LIBOR, plus a margin up to 5.0% depending on our leverage ratio, as defined). We also pay certain facility and agent fees. As of January 3, 2009, and December 29, 2007, interest rates on borrowings outstanding under the Credit Agreement were 6.0% and 5.2%, respectively. We are subject to certain financial covenants under the agreement, including a maximum leverage ratio, a minimum interest coverage ratio, minimum EBITDA requirements and capital expenditure limits.

As of January 3, 2009, pursuant to an amendment of the Credit Agreement, the Lenders had waived compliance, through the close of business on January 15, 2009, with the Credit Agreement’s financial covenants as of the end of fiscal year 2008. Pursuant to an amendment of the Credit Agreement entered into as of February 28, 2009, the Lenders waived compliance, through the close of business on March 30, 2009, with (a) the minimum interest coverage ratio covenant of the Credit Agreement for the fiscal periods ending on or about December 31, 2008, January 31, 2009 and February 28, 2009, and (b) the minimum EBITDA covenant of the Credit Agreement for the fiscal period ending on or about December 31, 2008. Upon expiration of our most recent amendment on March 31, 2009, we will not be in compliance with certain financial covenants under the Credit Agreement. If we are unable to continue to obtain amendments from the Lenders that waive compliance with these financial covenants, the Lenders could place us in default under the terms of the Credit Agreement.

We have taken significant actions to improve our operating results and maintain our liquidity in the current challenging macro-economic environment, including corporate workforce reductions, reduced capital spending, executing plans to close stores, supply chain cost reduction initiatives, reduced media spending, reductions in fixed and discretionary marketing and selling expenses, and ceasing all activities associated with the implementation of SAP®-based information technology applications. We recently introduced lower product price points and initiated an enhanced promotional strategy designed to stabilize sales. We have worked with our vendors to extend our payment terms and maintain positive working relationships. In addition, we are considering options to enhance our financial flexibility and fund our operations, including: additional actions to reduce our cost structure and improve profitability, the need to raise equity or debt capital, or the need to amend the financial covenants under our Credit Agreement. Any amendment of the Credit Agreement may significantly increase the cost of credit provided under the credit facility and related expenses, which may adversely impact our profitability. Whether or not we obtain an amendment of the Credit Agreement, we may need to or choose to seek additional capital through the issuance of debt or equity securities. The issuance of any additional debt securities could materially and adversely impact our profitability and financial condition. The issuance of additional equity securities could be substantially dilutive to our existing shareholders.

If we are unable to obtain additional capital, we may not be able to fund our operating needs and we could face a risk of default under our Credit Agreement. A default under the Credit Agreement would enable the Lenders to seek immediate payment in full of any amounts outstanding under the credit facility and to exercise various remedies as secured creditors, which may severely or completely constrain our ability to continue to operate our business as a going concern and may require us to seek protection from creditors through bankruptcy proceedings. Our uncertain financial position may also disrupt relationships with our suppliers. These conditions raise substantial doubt about our ability to continue as a going concern.

Our agreement under which GE Money Bank offers to our qualified customers revolving credit arrangements to finance purchases from us (the “GE Agreement”) contains certain financial covenants, including maximum leverage ratio and minimum interest coverage. As our recent results placed us outside of these financial covenants, we were required under the terms of the GE Agreement to provide GE Money Bank with a $2.7 million letter of credit as collateral security.

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Outlook

We do not plan to provide specific earnings guidance for 2009. However, we have outlined our key business drivers and trends, which we believe will assist investors and analysts in understanding and analyzing our business.


We expect that macro-economic trends and consumer confidence will remain weak throughout 2009, and that our sales will decline commensurate with our peer group. As a result of the significant actions taken to reduce costs, we expect to achieve positive free cash flow and moderately improved profitability in the first quarter and full year 2009, (exclusive of the impact of asset impairments and other special charges incurred in 2008).


Sales assumptions for 2009 include the anticipated opening of 2 new stores and closing of 55 or more stores.


The company has taken actions to reduce 2009 fixed and discretionary costs by more than $80 million in addition to cost reduction and margin improvement actions in 2008 that aggregated to more than $40 million in fiscal 2008. Cost reductions in 2009 included the following:

Product redesign and supply chain restructuring that we believe will reduce product costs by $16 million. We project our gross margin rate to be at or slightly lower than 2008 as product cost reductions will be offset by an increase in promotional activities.


We plan to reduce media expenditures by approximately $30 million and reduce other fixed and discretionary sales and marketing costs by approximately $20 million. Planned store closures will reduce costs by approximately $10 million. Sales and marketing expenses are anticipated to decline by more than 200 basis points in 2009 on lower sales volume. We plan to manage our media investment as a variable cost to sales.


We expect general and administrative expenses to be approximately $48 million in 2009, reflecting reductions in workforce and fixed G&A of approximately $10 million and before consideration of any incentive compensation expense that would be recorded if we exceed our earnings targets.


Capital expenditures are expected to be reduced by $25 million or more in 2009.


Finally, we will continue to analyze our existing manufacturing, distribution and retail operations to optimize our business performance. As a result, in future periods, we may incur restructuring expenses or asset impairment charges.


Off-Balance Sheet Arrangements and Contractual Obligations

Other than our operating leases and $5.9 million of outstanding letters of credit, we do not have any off-balance-sheet financing. A summary of our operating lease obligations by fiscal year is included in the “Contractual Obligations” section below. Additional information regarding our operating leases is available in Item 2, Properties, and Note 4, Leases, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K.

Contractual Obligations

The following table presents information regarding our contractual obligations by fiscal year (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Payments Due by Period(1)

 

 

 

Total

 

< 1 Year

 

1 – 3 Years

 

3 – 5 Years

 

> 5 Years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Short-term debt obligations

 

$

79,150

 

$

79,150

 

$

 

$

 

$

 

Operating leases

 

 

157,889

 

 

34,540

 

 

58,931

 

 

39,401

 

 

25,017

 

Capital leases

 

 

845

 

 

302

 

 

543

 

 

 

 

 

Purchase commitments

 

 

159,200

 

 

64,200

 

 

95,000

 

 

 

 

 

Total

 

$

397,084

 

$

178,192

 

$

154,474

 

$

39,401

 

$

25,017

 

(1) Our unrecognized tax benefits of $155,000 have not been included in the Contractual Obligations table as we are not able to determine a reasonable estimate of timing of the cash settlement with the respective taxing authorities.

Critical Accounting Policies and Estimates

Our consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). In connection with the preparation of our financial statements, we are required to make estimates and assumptions about future events, and apply judgments that affect the reported amounts of assets, liabilities, sales, expenses and the related disclosure. Predicting future events is inherently an imprecise activity and as such requires the use of judgment. Actual results may vary from estimates in amounts that may be material to the financial statements. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that management believes to be relevant at the time our consolidated financial statements are prepared. On a regular basis, management reviews the accounting policies, assumptions, estimates and judgments to ensure that our financial statements are presented fairly and in accordance with GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material.

Our significant accounting policies are discussed in Note 1, Business and Summary of Significant Accounting Policies, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K. Management believes the accounting policies discussed below are the most critical because they require management’s most difficult, subjective or complex judgments, resulting from the need to make estimates about the effect of matters that are inherently uncertain. Management has reviewed these critical accounting policies and estimates and related disclosures with the Audit Committee of our Board.

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Our critical accounting policies and estimates relate to asset impairment charges, stock-based compensation, deferred income taxes, self-insured liabilities, warranty liabilities and revenue recognition.

 

 

 

 

 

Description

 

Judgments and Uncertainties

 

Effect if Actual Results
Differ From Assumptions

Asset Impairment Charges

Long-lived assets other than goodwill and other intangible assets, which are separately tested for impairment, are evaluated for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. We evaluate our long-lived assets for impairment based on estimated future cash flows after considering the potential impact of planned operational improvements, marketing programs, industry economic factors and the profitability of future business strategies.

Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future undiscounted cash flows expected to be generated by the asset plus net proceeds expected from disposition of the asset (if any). When we recognize an impairment loss, the carrying amount of the asset is reduced to estimated fair value based on discounted cash flows, quoted market prices or other valuation techniques.

Assets to be disposed of are reported at the lower of the carrying amount of the asset or fair value less costs to sell. We review store assets for potential impairment based on historical cash flows, lease termination provisions and expected future store operating results.

If we recognize an impairment loss, the adjusted carrying amount of the asset becomes its new cost basis. For a depreciable long-lived asset, the new cost basis will be depreciated (amortized) over the remaining useful life of that asset.

Asset impairment charges totaled $34,594,000, $409,000 and $5,980,000, respectively, for 2008, 2007 and 2006.

 

Our impairment loss calculations contain uncertainties because they require management to make assumptions and to apply judgment to identify events or changes in circumstances indicating the carrying value of assets may not be recoverable, estimate future cash flows, estimate asset fair values, and select a discount rate that reflects the risk inherent in future cash flows.

Expected cash flows may not be realized, which could cause long-lived assets to become impaired in future periods and could have a material adverse effect on future results of operations.

 

We have not made any material changes in our impairment loss assessment methodology during the past three fiscal years.

We believe that our estimates and assumptions used to calculate long-lived asset impairment charges were reasonable and reflect the current economic environment. However, it is reasonably possible that a prolonged economic slowdown or further deterioration of consumer spending may expose us to future impairment charges that could be material.

Alternatively, if consumer spending increases at a higher rate than we anticipated, impaired stores (which continue to operate) could generate higher than expected future cash flows and operating profits.

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Table of Contents

 

 

 

 

 

Description

 

Judgments and Uncertainties

 

Effect if Actual Results
Differ From Assumptions

Stock-Based Compensation

We have a stock-based compensation plan, which includes non-qualified stock options and nonvested share awards, and an employee stock purchase plan. See Note 1, Business and Summary of Significant Accounting Policies, and Note 7, Shareholders’ Equity, to the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K, for a complete discussion of our stock-based compensation programs.

We determine the fair value of our non-qualified stock option awards and the resulting compensation expense at the date of grant using the Black-Scholes-Merton option-pricing model. The most significant inputs into the Black-Scholes-Merton model are exercise price, our estimate of expected stock price volatility and the expected term of the options. Previously, two alternative methods existed for accounting for stock options: the intrinsic value method and the fair value method. Prior to fiscal 2006, we used the intrinsic value method of accounting for stock options and under that standard, no compensation expense was recognized in the financial statements for options granted to employees, or for the discount feature of our employee stock purchase plan.

We determine the fair value of our performance-based nonvested share awards at the date of grant using generally accepted valuation techniques and the closing market price of our stock.

 

Option-pricing models and generally accepted valuation techniques require management to make assumptions and to apply judgment to determine the fair value of our awards. These assumptions and judgments include estimating the future volatility of our stock price, future employee forfeiture rates and future employee stock option exercise behaviors. Changes in these assumptions can materially affect the fair value estimate or future earnings adjustments.

Performance-based nonvested share awards require management to make assumptions regarding the likelihood of achieving personal performance goals.

 

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 determine stock-based compensation expense. However, if actual results are not consistent with our estimates or assumptions, we may be exposed to changes in stock-based compensation expense that could be material.

If actual results are not consistent with the assumptions used, the stock-based compensation expense reported in our financial statements may not be representative of the actual economic cost of the stock-based compensation. Also, if the actual forfeiture rates are not consistent with the assumptions used, it could result in future earnings adjustments.

A 10% change in our stock-based compensation expense for the year ended January 3, 2009, would have affected net income by approximately $220,000 in 2008.

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Description

 

Judgments and Uncertainties

 

Effect if Actual Results
Differ From Assumptions

Deferred Income Taxes

We recognize deferred tax assets and liabilities for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.

Realization of deferred tax assets is dependent on generating sufficient taxable income within the carryback or carryforward periods provided for in the tax law of each applicable tax jurisdiction.

We establish a valuation allowance for any portion of deferred tax assets that are not considered more likely than not to be realized. Our evaluation includes a review of the future reversal of existing taxable temporary differences, future taxable income, taxable income available in carryback periods and tax planning strategies.

Our net deferred tax assets, prior to the valuation allowance, totaled $34.2 million and $32.4 million, respectively, for 2008 and 2007.

 

Our deferred tax valuation allowance contains uncertainties because it requires management to consider all available evidence, both positive and negative, including past operating results and apply judgment on our ability to generate future taxable income sufficient to realize our deferred tax assets.

From 2002 through 2007, we generated income before income taxes on average of $50.6 million. Our 2008 operating results were significantly affected by the industry-wide decrease in consumer spending and we realized a loss before income taxes of $72.7 million, including $34.6 million of asset impairment charges.

Determining that a valuation allowance is not required is difficult to overcome when there is negative evidence which is objective and verifiable, including our significant net loss in the current year. In addition, while our long-term outlook is positive, we expect macro-economic trends and consumer confidence to remain weak throughout 2009, further pressuring our operating results. Thus, we concluded that our ability to rely on our long-term outlook in generating future taxable income was limited due to uncertainty created by our 2008 loss and the weak 2009 macro-economic outlook.

Based on the significant change in the economic environment in the fourth quarter of 2008 and the discussion above, we recorded a $26.8 million charge for deferred tax assets that could not be realized through taxable income earned in available carryback periods. The $26.8 million charge establishes a valuation allowance against deferred tax assets that are not considered more likely than not to be realized.

 

We have not made any material changes in our deferred tax assessment methodology during the past three fiscal years.

If and when our operating performance improves on a sustained basis, our conclusion regarding the need for a $26.8 million deferred tax valuation allowance could change, resulting in the reversal of some or all of the valuation allowance in future periods.

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Description

 

Judgments and Uncertainties

 

Effect if Actual Results
Differ From Assumptions

Self-Insured Liabilities

We are self-insured for certain losses related to health and workers’ compensation claims. However, we obtain third-party insurance coverage to limit our exposure to these claims.

When estimating our self-insured liabilities, we consider a number of factors, including historical claims experience, demographic factors, severity factors and valuations provided by third-party administrators.

Periodically, management reviews its assumptions and the valuations provided by third-party administrators to determine the adequacy of our self-insured liabilities.

 

Our self-insured liabilities contain uncertainties because management is required to make assumptions and to apply judgment to estimate the ultimate cost to settle reported claims and claims incurred but not reported as of the balance sheet date.

 

We have not made any material changes in the accounting methodology used to establish our self-insured liabilities during the past three fiscal years.

We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate our self-insured liabilities. However, if actual results are not consistent with our estimates or assumptions, we may be exposed to losses or gains that could be material.

A 10% change in our self-insured liabilities at January 3, 2009, would have affected net income by approximately $284,000 in 2008.

 

 

 

 

 

Warranty Liabilities

The estimated cost to service warranty claims of customers is included in cost of sales. This estimate is based on historical trends of warranty claims.

We regularly assess and adjust the estimate of accrued warranty claims by updating claims rates for actual trends and projected claim costs.

 

Our warranty liability contains uncertainties because our warranty obligations cover an extended period of time. A revision of estimated claim rates or the projected cost of materials and freight associated with sending replacement parts to customers could have a material adverse effect on future results of operations.

 

We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate our warranty liability. However, if actual results are not consistent with our estimates or assumptions, we may be exposed to losses or gains that could be material.

A 10% change in our warranty liability at January 3, 2009, would have affected net income by approximately $478,000 in 2008.

 

 

 

 

 

Revenue Recognition

Revenue is recognized when the sales price is fixed or determinable, collectability is reasonably assured and title passes. Amounts billed to customers for delivery and set up are included in net sales. Revenue is reported net of estimated sales returns and excludes sales taxes.

We accrue for sales returns at the time revenue is recognized and charge actual returns against the liability when they are received. Our general return policy is to allow returns for up to 30 nights following a sale. We estimate future projected returns based on historical return rates.

 

Our estimates of sales returns contains uncertainties as actual returns may vary from expected rates, resulting in adjustments to net sales in future periods. These adjustments could have a material adverse effect on future results of operations.

 

We have not made any material changes in the accounting methodology used to establish our sales returns allowance during the past three fiscal years.

We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate our sales returns allowance. However, if actual results are not consistent with our estimates or assumptions, we may be exposed to losses or gains that could be material.

A 10% change in our sales returns allowance at January 3, 2009, would have affected net income by approximately $163,000 in 2008.

42


Table of Contents

Recent Accounting Pronouncements

In February 2008, the FASB issued Financial Staff Position (“FSP”) No. 157-2, Effective Date of FASB Statement No. 157, which delays the effective date of SFAS No. 157 (“FSP 157-2”) for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). SFAS No. 157 establishes a framework for measuring fair value and expands disclosures about fair value measurements. FSP 157-2 partially defers the effective date of SFAS No. 157 to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years for items within the scope of this FSP. The adoption of SFAS No. 157 for all nonfinancial assets and nonfinancial liabilities is effective for us beginning January 4, 2009. We do not expect the adoption of FSP 157-2 to have a material impact on our consolidated financial statements.

In April 2008, the FASB issued FSP No. 142-3, Determination of the Useful Life of Intangible Assets (“FSP 142-3”). FSP 142-3 amends the factors to be considered in developing renewal or extension assumptions used to determine the useful life of intangible assets under SFAS No. 142, “Goodwill and Other Intangible Assets.” Its intent is to improve the consistency between the useful life of an intangible asset and the period of expected cash flows used to measure its fair value. This FSP is effective prospectively for intangible assets acquired or renewed after January 1, 2009. We do not expect FSP 142-3 to have a material impact on our consolidated financial statements.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

At January 3, 2009, our short-term debt was comprised primarily of borrowings under our revolving line of credit. We do not currently manage interest rate risk on our debt through the use of derivative instruments.

Borrowings under our revolving credit facility are currently not subject to material interest rate risk. The credit facility’s interest rate may be reset due to fluctuations in a market-based index, such as the prime rate, federal funds rate or LIBOR. A hypothetical 100 basis point change in the interest rate on outstanding borrowings under our credit facility as of January 3, 2009 would change our annual consolidated pre-tax income by $0.8 million.

43


Table of Contents

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and Shareholders
Select Comfort Corporation:

We have audited Select Comfort Corporation’s internal control over financial reporting as of January 3, 2009, based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Select Comfort Corporation’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting appearing under Item 9A of this Form 10-K. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, Select Comfort Corporation maintained, in all material respects, effective internal control over financial reporting as of January 3, 2009, based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Select Comfort Corporation and subsidiaries as of January 3, 2009 and December 29, 2007, and the related consolidated statements of operations, shareholders’ (deficit) equity, and cash flows for each of the fiscal years in the three-year period ended January 3, 2009, and our report dated March 19, 2009 expressed an unqualified opinion on those consolidated financial statements. Our report on the consolidated financial statements included an explanatory paragraph related to the existence of substantial doubt as to the Company’s ability to continue as a going concern.

(-s- KPMG LOGO)

Minneapolis, Minnesota
March 19, 2009

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Table of Contents

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and Shareholders
Select Comfort Corporation:

We have audited the accompanying consolidated balance sheets of Select Comfort Corporation and subsidiaries (the Company) as of January 3, 2009 and December 29, 2007, and the related consolidated statements of operations, shareholders’ (deficit) equity, and cash flows for each of the fiscal years in the three-year period ended January 3, 2009. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedule, as listed in the accompanying index. These consolidated financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Select Comfort Corporation and subsidiaries as of January 3, 2009 and December 29, 2007, and the results of their operations and their cash flows for each of the fiscal years in the three-year period ended January 3, 2009, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company’s losses from operations and inability to generate sufficient cash flow to meet obligations and sustain operations raises substantial doubt about its ability to continue as a going concern. Management’s plans in regard to these matters are also described in Note 1. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.

As described in Note 1 to the consolidated financial statements, the Company adopted the provisions of SFAS 157, Fair Value Measurements, and SFAS 159, The Fair Value Option for Financial Assets and Liabilities, on December 30, 2007 and FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, on December 31, 2006.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Select Comfort Corporation and subsidiaries’ internal control over financial reporting as of January 3, 2009, based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 19, 2009 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.

(-s- KPMG LOGO)

Minneapolis, Minnesota
March 19, 2009

45


Table of Contents

SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Consolidated Balance Sheets
January 3, 2009 and December 29, 2007
(in thousands, except per share amounts)

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

Assets

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

13,057

 

$

7,279

 

Accounts receivable, net of allowance for doubtful accounts of $713 and $876, respectively

 

 

4,939

 

 

18,902

 

Inventories

 

 

18,675

 

 

32,517

 

Income taxes receivable

 

 

25,900

 

 

 

Prepaid expenses

 

 

4,109

 

 

9,816

 

Deferred income taxes

 

 

1,323

 

 

6,796

 

Other current assets

 

 

1,150

 

 

3,833

 

Total current assets

 

 

69,153

 

 

79,143

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

 

53,274

 

 

80,409

 

Deferred income taxes

 

 

5,941

 

 

25,543

 

Other assets

 

 

7,045

 

 

5,394

 

Total assets

 

$

135,413

 

$

190,489

 

 

 

 

 

 

 

 

 

Liabilities and Shareholders’ (Deficit) Equity

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

Borrowings under revolving credit facility

 

$

79,150

 

$

37,890

 

Accounts payable

 

 

40,274

 

 

69,775

 

Customer prepayments

 

 

11,480

 

 

8,327

 

Accruals:

 

 

 

 

 

 

 

Sales returns

 

 

2,744

 

 

3,751

 

Compensation and benefits

 

 

14,575

 

 

14,865

 

Taxes and withholding

 

 

2,938

 

 

4,812

 

Other current liabilities

 

 

8,526

 

 

9,723

 

Total current liabilities

 

 

159,687

 

 

149,143

 

 

 

 

 

 

 

 

 

Warranty liabilities

 

 

5,956

 

 

6,747

 

Capital lease obligations

 

 

621

 

 

 

Other long-term liabilities

 

 

10,779

 

 

10,473

 

Total non-current liabilities

 

 

17,356

 

 

17,220

 

Total liabilities

 

 

177,043

 

 

166,363

 

 

 

 

 

 

 

 

 

Shareholders’ (deficit) equity:

 

 

 

 

 

 

 

Undesignated preferred stock; 5,000 shares authorized, no shares issued and outstanding

 

 

 

 

 

Common stock, $0.01 par value; 142,500 shares authorized, 44,962 and 44,597 shares issued and outstanding, respectively

 

 

450

 

 

446

 

Additional paid-in capital

 

 

4,417

 

 

 

(Accumulated deficit) retained earnings

 

 

(46,497

)

 

23,680

 

Total shareholders’ (deficit) equity

 

 

(41,630

)

 

24,126

 

Total liabilities and shareholders’ (deficit) equity

 

$

135,413

 

$

190,489

 

See accompanying notes to consolidated financial statements.

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Table of Contents

SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Consolidated Statements of Operations
Years ended January 3, 2009, December 29, 2007 and December 30, 2006
(in thousands, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

 

 

 

 

 

 

 

 

 

 

 

Net sales

 

$

608,524

 

$

799,242

 

$

806,038

 

Cost of sales

 

 

249,952

 

 

312,827

 

 

315,530

 

Gross profit

 

 

358,572

 

 

486,415

 

 

490,508

 

 

 

 

 

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

Sales and marketing

 

 

332,068

 

 

372,467

 

 

341,630

 

General and administrative

 

 

57,994

 

 

64,351

 

 

65,401

 

Research and development

 

 

3,374

 

 

5,682

 

 

4,687

 

Asset impairment charges

 

 

34,594

 

 

409

 

 

5,980

 

Total operating expenses

 

 

428,030

 

 

442,909

 

 

417,698

 

Operating (loss) income

 

 

(69,458

)

 

43,506

 

 

72,810

 

Other (expense) income, net

 

 

(3,285

)

 

(40

)

 

3,018

 

(Loss) income before income taxes

 

 

(72,743

)

 

43,466

 

 

75,828

 

Income tax (benefit) expense

 

 

(2,566

)

 

15,846

 

 

28,645

 

Net (loss) income

 

$

(70,177

)

$

27,620

 

$

47,183

 

 

 

 

 

 

 

 

 

 

 

 

Basic net (loss) income per share:

 

 

 

 

 

 

 

 

 

 

Net (loss) income per share – basic

 

$

(1.59

)

$

0.59

 

$

0.89

 

Weighted-average common shares – basic

 

 

44,186

 

 

46,536

 

 

52,837

 

Diluted net (loss) income per share:

 

 

 

 

 

 

 

 

 

 

Net (loss) income per share – diluted

 

$

(1.59

)

$

0.57

 

$

0.85

 

Weighted-average common shares – diluted

 

 

44,186

 

 

48,292

 

 

55,587

 

See accompanying notes to consolidated financial statements.

47


Table of Contents

SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Consolidated Statements of Shareholders’ (Deficit) Equity
Years ended January 3, 2009, December 29, 2007 and December 30, 2006
(in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amount

 

Additional
Paid-In
Capital

 

Retained
Earnings/
(Accumulated
Deficit)

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

Common Stock

 

 

 

 

 

Shares

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at December 31, 2005

 

 

53,598

 

 

536

 

 

56,854

 

 

63,957

 

 

121,347

 

Exercise of common stock options

 

 

1,544

 

 

15

 

 

7,495

 

 

 

 

7,510

 

Exercise of common stock warrants

 

 

75

 

 

1

 

 

 

 

 

 

1

 

Tax benefit from stock-based compensation

 

 

 

 

 

 

9,769

 

 

 

 

9,769

 

Stock-based compensation

 

 

 

 

 

 

8,325

 

 

 

 

8,325

 

Repurchases of common stock

 

 

(3,889

)

 

(39

)

 

(79,700

)

 

 

 

(79,739

)

Issuances of common stock

 

 

216

 

 

2

 

 

1,296

 

 

 

 

1,298

 

Net income

 

 

 

 

 

 

 

 

47,183

 

 

47,183

 

Balance at December 30, 2006

 

 

51,544

 

 

515

 

 

4,039

 

 

111,140

 

 

115,694

 

Exercise of common stock options

 

 

566

 

 

6

 

 

3,483

 

 

 

 

3,489

 

Tax benefit from stock-based compensation

 

 

 

 

 

 

1,887

 

 

 

 

1,887

 

Stock-based compensation

 

 

 

 

 

 

6,252

 

 

 

 

6,252

 

Repurchases of common stock

 

 

(7,617

)

 

(76

)

 

(16,756

)

 

(115,080

)

 

(131,912

)

Issuances of common stock

 

 

104

 

 

1

 

 

1,095

 

 

 

 

1,096

 

Net income

 

 

 

 

 

 

 

 

27,620

 

 

27,620

 

Balance at December 29, 2007

 

 

44,597

 

$

446

 

$

 

$

23,680

 

$

24,126

 

Exercise of common stock options

 

 

61

 

 

1

 

 

92

 

 

 

 

93

 

Tax benefit from stock-based compensation

 

 

 

 

 

 

28

 

 

 

 

28

 

Stock-based compensation

 

 

 

 

 

 

3,702

 

 

 

 

3,702

 

Issuances of common stock

 

 

304

 

 

3

 

 

595

 

 

 

 

598

 

Net loss

 

 

 

 

 

 

 

 

(70,177

)

 

(70,177

)

Balance at January 3, 2009

 

 

44,962

 

$

450

 

$

4,417

 

$

(46,497

)

$

(41,630

)

See accompanying notes to consolidated financial statements.

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Table of Contents

SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Consolidated Statements of Cash Flows
Years ended January 3, 2009, December 29, 2007 and December 30, 2006
(in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

$

(70,177

)

$

27,620

 

$

47,183

 

Adjustments to reconcile net (loss) income to net cash provided by operating activities:

 

 

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

22,186

 

 

24,791

 

 

19,752

 

Stock-based compensation

 

 

3,702

 

 

6,252

 

 

8,325

 

Disposals and impairments of assets

 

 

34,577

 

 

596

 

 

5,912

 

Excess tax benefits from stock-based compensation

 

 

(19

)

 

(1,497

)

 

(8,565

)

Changes in deferred income taxes

 

 

25,075

 

 

(7,280

)

 

(7,665

)

Other, net

 

 

 

 

270

 

 

(68

)

Change in operating assets and liabilities:

 

 

 

 

 

 

 

 

 

 

Accounts receivable

 

 

13,963

 

 

(6,738

)

 

(5,930

)

Inventories

 

 

13,842

 

 

(8,397

)

 

(2,138

)

Income taxes receivable

 

 

(25,900

)

 

 

 

 

Prepaid expenses and other assets

 

 

7,627

 

 

(1,020

)

 

(823

)

Accounts payable

 

 

(20,047

)

 

12,201

 

 

6,091

 

Customer prepayments

 

 

3,153

 

 

(1,225

)

 

(5,166

)

Accrued sales returns

 

 

(1,007

)

 

(156

)

 

(1,496

)

Accrued compensation and benefits

 

 

(250

)

 

(5,179

)

 

(4,782

)

Accrued taxes and withholding

 

 

(1,846

)

 

1,646

 

 

5,198

 

Warranty liabilities

 

 

(1,454

)

 

(719

)

 

2,574

 

Other accruals and liabilities

 

 

(452

)

 

2,866

 

 

974

 

Net cash provided by operating activities

 

 

2,973

 

 

44,031

 

 

59,376

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

 

 

Purchases of property and equipment

 

 

(32,202

)

 

(43,514

)

 

(31,079

)

Investments in marketable debt securities

 

 

 

 

 

 

(28,072

)

Proceeds from sales and maturity of marketable debt securities

 

 

 

 

81,086

 

 

25,940

 

Net cash (used in) provided by investing activities

 

 

(32,202

)

 

37,572

 

 

(33,211

)

Cash flows from financing activities:

 

 

 

 

 

 

 

 

 

 

Net increase (decrease) in short-term borrowings

 

 

35,809

 

 

45,240

 

 

(1,388

)

Repurchases of common stock

 

 

 

 

(134,452

)

 

(77,199

)

Proceeds from issuance of common stock

 

 

651

 

 

4,572

 

 

8,809

 

Debt issuance costs

 

 

(1,472

)

 

 

 

 

Excess tax benefits from stock-based compensation

 

 

19

 

 

1,497

 

 

8,565

 

Net cash provided by (used in) financing activities

 

 

35,007

 

 

(83,143

)

 

(61,213

)

Increase (decrease) in cash and cash equivalents

 

 

5,778

 

 

(1,540

)

 

(35,048

)

Cash and cash equivalents, at beginning of year

 

 

7,279

 

 

8,819

 

 

43,867

 

Cash and cash equivalents, at end of year

 

$

13,057

 

$

7,279

 

$

8,819

 

 

 

 

 

 

 

 

 

 

 

 

Supplemental Disclosure of Cash Flow Information

 

 

 

 

 

 

 

 

 

 

Income taxes (refunded) paid

 

$

(1,313

)

$

20,622

 

$

30,628

 

Interest paid

 

$

3,636

 

$

1,095

 

$

 

Capital lease obligations incurred

 

$

1,032

 

$

 

$

 

Purchases of property and equipment included in accounts payable

 

$

770

 

$

4,960

 

$

2,098

 

See accompanying notes to consolidated financial statements.

49


Table of Contents

SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Notes to Consolidated Financial Statements – (continued)

 

 

(1) Business and Summary of Significant Accounting Policies

Business

Select Comfort Corporation and our wholly-owned subsidiaries (“Select Comfort” or the “Company”) develops, manufactures and markets premium quality, adjustable-firmness beds and related bedding accessories in the United States. In addition, we also sell to wholesale customers in Canada and Australia. We sell through four distribution channels: Retail, Direct, E-Commerce and Wholesale. The percentage of our total net sales from each of our channels during the last three years was as follows:

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

Retail

 

78.2%

 

75.4%

 

76.2%

 

Direct

 

7.7%

 

8.0%

 

9.4%

 

E-Commerce

 

6.1%

 

6.8%

 

5.6%

 

Wholesale

 

8.0%

 

9.8%

 

8.8%

 

Total

 

100.0%

 

100.0%

 

100.0%

 

 

Basis of Presentation, Liquidity and Going Concern

 

The consolidated financial statements include the accounts of Select Comfort Corporation and our subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.

 

In 2008, following several years of generating positive net income, we realized a net loss of $70.2 million, including $34.6 million of asset impairment charges and a $26.8 million charge for the establishment of a deferred tax valuation allowance. Our 2008 operating results were significantly affected by an industry-wide decrease in consumer spending. While we generated $3.0 million of operating cash flows in 2008, the decline in our operating performance and the acceleration of the decline of consumer demand in the fourth quarter of 2008 has affected our liquidity.

 

As of January 3, 2009, we had outstanding borrowings of $79.2 million, plus $5.9 million under letters of credit, with an additional $5.0 million available under our $90 million credit facility. Pursuant to a series of amendments of our Credit Agreement, the Lenders have deferred to March 31, 2009 a reduction in the amount available under our line of credit from $90 million to $85 million that was previously scheduled to become effective as of December 1, 2008. Also pursuant to these amendments, the Lenders have waived compliance, through the close of business on March 30, 2009, with certain financial covenants under the Credit Agreement applicable to fiscal periods ending on or about December 31, 2008, January 31, 2009 and February 28, 2009. In early March 2009, we received a federal income tax refund of approximately $23.0 million. Pursuant to the terms of the Credit Agreement, these funds have been placed in a cash collateral account with the Lenders. Upon expiration of our most recent amendment on March 30, 2009, we will not be in compliance with certain financial covenants under the credit agreement. If we are unable to continue to obtain amendments from the Lenders that waive compliance with these financial covenants, the Lenders could place us in default under terms of our credit agreement. Even if we obtain amendments to our credit agreement, our business may require additional capital in order to fund our operating needs. A default under the Credit Agreement would enable the Lenders to seek immediate payment in full of any amounts outstanding under the credit facility and to exercise various remedies as secured creditors, which may severely or completely constrain our ability to continue to operate our business and may require us to seek protection from creditors through bankruptcy proceedings. Our uncertain financial position may also disrupt relationships with our suppliers.

 

We expect macro-economic trends and consumer confidence to remain weak throughout 2009. We have taken significant actions designed to return the company to profitability and generate positive cash flows to fund our business, including: corporate workforce reductions, reduced capital spending, development of plans to close stores, supply chain cost reduction initiatives, reduced media spending, reductions in fixed and discretionary marketing and selling expenses, and ceasing all activities associated with the implementation of SAP®-based information technology applications. We recently introduced lower product price points and initiated an enhanced promotional strategy designed to stabilize sales. However, further expense reductions may be necessary should our 2009 net sales decline at a steeper rate than we currently expect. In addition to actions to align our cost structure with expected sales declines, we have been exploring a range of strategic and financing alternatives to enhance our financial flexibility.

 

Our ability to continue as a going concern is dependent on various factors, including: macro economic trends, the successful execution of our cost reduction plans, successful negotiation with the Lenders and successful efforts to raise additional capital. Some of these factors are not entirely within our control. These conditions raise substantial doubt about our ability to continue as a going concern.

 

Our financial statements have been prepared on the going concern basis, which assumes the realization of assets and liquidation of liabilities in the normal course of operations. The consolidated financial statement do not include any adjustments relating to the recoverability or classification of recorded asset amounts or the amounts or classification of liabilities should we be unable to continue as a going concern.

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Notes to Consolidated Financial Statements – (continued)

Fiscal Year

Our fiscal year ends on the Saturday closest to December 31. Fiscal years and their respective fiscal year ends are as follows: fiscal 2008 ended January 3, 2009; fiscal 2007 ended December 29, 2007; and fiscal year 2006 ended December 30, 2006. Fiscal 2008 had 53 weeks. Fiscal years 2007 and 2006 each had 52 weeks.

Use of Estimates in the Preparation of Financial Statements

The preparation of consolidated financial statements in conformity with U.S. generally accepted accounting principles (“GAAP”) requires us to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts of sales and expenses during the reporting period. Predicting future events is inherently an imprecise activity and, as such, requires the use of judgment. Illiquid credit markets and declines in consumer spending have combined to increase the uncertainty inherent in such estimates and assumptions. As future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. Changes in those estimates resulting from continuing changes in the economic environment will be reflected in the financial statements in future periods. Our critical accounting policies consist of asset impairment charges, stock-based compensation, deferred income taxes, self-insured liabilities, warranty liabilities and revenue recognition.

Cash and Cash Equivalents

Cash and cash equivalents include highly liquid investments with original maturities of three months or less. Outstanding checks in excess of funds on deposit (“book overdrafts”) totaled $11.7 million and $17.0 million at January 3, 2009, and December 29, 2007, respectively. Book overdrafts are included in accounts payable in our consolidated balance sheets and in financing activities in our consolidated statements of cash flows.

The majority of payments due from third-parties for credit card and debit card transactions are processed within one to three business days. All credit card and debit card transactions that process in less than seven days are classified as cash and cash equivalents. Amounts due for these transactions that are classified as cash and cash equivalents totaled $2.1 million and $4.9 million at January 3, 2009, and December 29, 2007, respectively.

Accounts Receivable

Accounts receivable are recorded net of an allowance for expected losses and consist primarily of wholesale receivables and receivables from third-party financiers for customer credit card purchases. The allowance is recognized in an amount equal to anticipated future write-offs. We estimate future write-offs based on delinquencies, aging trends, industry risk trends and our historical experience.

Marketable Debt Securities

Marketable debt securities included highly liquid investment grade debt instruments with original maturities of greater than 90 days issued by the U.S. government and related agencies and municipalities. We did not hold any marketable debt securities at January 3, 2009, or December 29, 2007.

Investments held had an original maturity of up to 36 months. Marketable debt securities with a remaining maturity of greater than one year were classified as non-current.

Through December 30, 2006, we classified our marketable debt securities as “held-to-maturity” in accordance with Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting Standards (“SFAS”) No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” We historically valued our marketable debt securities at amortized cost

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based upon our intent and ability to hold these securities to maturity. On March 23, 2007, marketable debt securities of $67.8 million with an unrealized net loss of $0.3 million were transferred from “held-to-maturity” classification to “available-for-sale” classification. Investments classified as “available-for-sale” are carried at fair market value. The classification change was made to increase liquidity and fund our common stock repurchase program.

During 2007, marketable debt securities with a cost of $64.4 million were sold at a realized loss of $0.3 million. Realized gains and losses are included in other (expense) income, net in our consolidated statements of operations.

Inventories

Inventories include material, labor and overhead and are stated at the lower of cost or market. Cost is determined by the first-in, first-out method.

Property and Equipment

Property and equipment, carried at cost, is depreciated using the straight-line method over the estimated useful lives of the assets. Leasehold improvements are depreciated over the shorter of the estimated useful lives of the assets or the contractual term of the lease, with consideration of lease renewal options if renewal appears probable. Property under capital lease is comprised of manufacturing equipment, and computer equipment used in our retail operations and corporate support areas. Estimated useful lives of our property and equipment by major asset category are as follows:

 

 

Leasehold improvements

5 to 10 years

Office furniture and equipment

5 to 7 years

Production machinery, computer equipment and software

3 to 7 years

Property under capital lease

3 to 4 years

Other Assets

Other assets include deposits, patents, trademarks and goodwill. Patents and trademarks are amortized using the straight-line method over periods ranging from 10 to 17 years. The carrying value of goodwill at both January 3, 2009, and December 29, 2007, was $2.9 million.

Asset Impairment Charges

We review our long-lived assets and identifiable intangibles for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future undiscounted cash flows expected to be generated by the asset plus net proceeds expected from disposition of the asset (if any). When we recognize an impairment loss, the carrying amount of the asset is reduced to estimated fair value based on discounted cash flows, quoted market prices or other valuation techniques. Assets to be disposed of are reported at the lower of the carrying amount of the asset or fair value less costs to sell. We review store assets for potential impairment based on historical cash flows, lease termination provisions and expected future store operating results.

The test for goodwill impairment is a two-step process, and is performed at least annually. The first step is a comparison of the fair value of the reporting unit with its carrying amount, including goodwill. If this step reflects impairment, then the loss would be measured as the excess of recorded goodwill over its implied fair value. Implied fair value is the excess of fair value of the reporting unit over the fair value of all identified assets and liabilities. Fair value is determined utilizing widely accepted valuation techniques, including quoted market prices and our market capitalization. During the fourth quarter of 2008, we completed our annual impairment testing of goodwill, using the valuation techniques as described above, and determined there was no impairment.

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Notes to Consolidated Financial Statements – (continued)

Warranty Liabilities

We provide a 20-year limited warranty on our adjustable-firmness beds. The customer participates over the last 18 years of the warranty period by paying a portion of the retail value of replacement parts. Estimated warranty costs are expensed at the time of sale based on historical claims rates incurred by us and are adjusted for any current trends as appropriate. Actual warranty claim costs could differ from these estimates. We classify as noncurrent those estimated warranty costs expected to be paid out in greater than one year. The activity in the accrued warranty liabilities account was as follows (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance at
Beginning of
Year

 

Additions
Charged to
Costs and
Expenses

 

Deductions
from Reserves

 

Balance at
End of Year

 

2008

 

$

9,503

 

$

8,083

 

$

9,537

 

$

8,049

 

2007

 

 

10,223

 

 

10,373

 

 

11,093

 

 

9,503

 

2006

 

 

7,649

 

 

13,521

 

 

10,947

 

 

10,223

 

Fair Value of Financial Instruments

The carrying value of cash and cash equivalents, accounts receivable, accounts payable, borrowings under our revolving credit facility, and other current assets and liabilities approximate fair value because of their short-term maturity.

We adopted the provisions of SFAS No. 157, “Fair Value Measurements” on December 30, 2007, the beginning of our 2008 fiscal year. SFAS No. 157 clarifies the principle that fair value should be based on the assumptions market participants would use when pricing an asset or liability and establishes a fair value hierarchy that prioritizes the information used to develop those assumptions. Under the standard, fair value measurements are separately disclosed by level within the fair value hierarchy. SFAS No. 157, as originally issued, was effective for fiscal years beginning after November 15, 2007, with early adoption permitted. However, on February 12, 2008, the FASB issued FASB Staff Position (“FSP”) FAS 157-2, which deferred the effective date of SFAS No. 157 for one year, as it relates to nonfinancial assets and liabilities. Accordingly, our adoption related only to financial assets and liabilities. At January 3, 2009, and December 29, 2007, we had no financial assets or liabilities which required a fair value measurement on a recurring basis. The adoption of this statement had no impact on our consolidated financial statements.

We adopted the provisions of SFAS No. 159, “The Fair Value Option for Financial Assets and Liabilities – Including an Amendment of FASB Statement No. 115” on December 30, 2007, the beginning of our 2008 fiscal year. SFAS No. 159 permits us to choose to measure certain financial assets and liabilities at fair value that are not currently required to be measured at fair value (the “Fair Value Option”). Election of the Fair Value Option is made on an instrument-by-instrument basis and is irrevocable. At the adoption date, unrealized gains and losses on financial assets and liabilities for which the Fair Value Option has been elected are reported as a cumulative adjustment to beginning retained earnings. We did not elect the Fair Value Option as we had no financial assets or liabilities that qualified for this treatment. In the future, if we elect the Fair Value Option for certain financial assets and liabilities, we would report unrealized gains and losses due to changes in their fair value in net income at each subsequent reporting date. The adoption of this statement had no impact on our consolidated financial statements.

Revenue Recognition

Revenue is recognized when the sales price is fixed or determinable, collectability is reasonably assured and title passes. Amounts billed to customers for delivery and set up are included in net sales. Revenue is reported net of estimated sales returns and excludes sales taxes.

We accept sales returns up to 30 nights following the sale. The accrued sales returns estimate is based on historical return rates, which are reasonably consistent from period to period and is adjusted for any current trends as appropriate. If actual returns vary from expected rates, sales in future periods are adjusted.

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Cost of Sales, Sales and Marketing, General and Administrative (“G&A”) and Research & Development (“R&D”) Expenses

The following tables summarize the primary costs classified in each major expense category (the classification of which may vary within our industry):

 

 

Cost of Sales

Costs associated with purchasing, manufacturing, shipping, handling and delivering our products to our stores and customers;

 

 

Physical inventory losses, scrap and obsolescence;

 

 

Related occupancy and depreciation expenses; and

 

 

Estimated costs to service warranty claims of customers.

 

 

Sales & Marketing

Advertising and media production;

 

 

Marketing and selling materials such as brochures, videos, customer mailings and in-store signage;

 

 

Payroll and benefits for sales and customer service staff;

 

 

Store occupancy costs;

 

 

Store depreciation expense; and

 

 

Promotional financing costs.



 

 

G&A

Payroll and benefit costs for corporate employees, including information technology, legal, human resources, finance, sales and marketing administration, investor relations and risk management;

 

 

Occupancy costs of corporate facilities;

 

 

Depreciation related to corporate assets;

 

 

Information hardware, software and maintenance;

 

 

Insurance;

 

 

Investor relations costs; and

 

 

Other overhead costs.

 

 

 

R&D(1)

 

Internal labor and benefits related to research and development activities;

 

 

 

Outside consulting services related to research and development activities; and

 

 

 

Testing equipment related to research and development activities.

 

 

 

(1) Costs incurred in connection with R&D are charged to expense as incurred.

 



Operating Leases

We rent office and manufacturing space under operating leases which, in addition to the minimum lease payments, require payment of a proportionate share of the real estate taxes and certain building operating expenses. We also rent retail space under operating leases which, in addition to the minimum lease payments, may require payment of contingent rents based upon sales levels and payment of a proportionate share of the real estate taxes and certain building operating expenses.

Rent expense is recognized on a straight-line basis over the lease term, after consideration of rent escalations and rent holidays. We record any difference between the straight-line rent amounts and amounts payable under the leases as part of deferred rent, in other current liabilities or other long-term liabilities, as appropriate. The lease term for purposes of the calculation begins on the earlier of the lease commencement date or the date we take possession of the property. At January 3, 2009, and December 29, 2007, deferred rent included in other current liabilities in our consolidated balance sheets was $1.3 million and $0.2 million, respectively, and deferred rent included in other long-term liabilities in our consolidated balance sheets was $4.3 million and $4.7 million, respectively.

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Leasehold improvements that are funded by landlord incentives or allowances under an operating lease are recorded as deferred rent, in other current liabilities or other long-term liabilities, as appropriate and amortized as reductions to rent expense over the lease term.

Lease payments that depend on factors that are not measurable at the inception of the lease, such as future sales levels, are contingent rents and are excluded from minimum lease payments and included in the determination of total rent expense when it is probable the expense has been incurred and the amount is reasonably estimable. Future payments for real estate taxes and certain building operating expenses for which we are obligated are not included in minimum lease payments.

We also lease delivery trucks associated with our home delivery service, which in addition to the minimum lease payments, require payment of a management fee and contain certain residual value guarantee provisions that would become due at the expiration of the operating agreement if the fair value of the leased vehicles is less than the guaranteed residual value. As of January 3, 2009, the maximum guaranteed residual value at lease expiration was $0.6 million. Historically, payments related to these guarantees have been insignificant. We believe the likelihood of funding the guarantee obligation under any provision of the operating lease is remote and thus, we have not recognized a liability.

Pre-opening Costs

Costs associated with the start up and promotion of new store openings are expensed as incurred.

Advertising Costs

We incur advertising costs associated with print and broadcast advertisements. Advertising costs are charged to expense when the ad first runs. Advertising expense was $92.0 million, $109.9 million and $105.3 million, in 2008, 2007 and 2006, respectively. Advertising costs deferred and included in prepaid expenses in our consolidated balance sheets were $0.7 million and $1.3 million as of January 3, 2009, and December 29, 2007, respectively.

Insurance

We are self-insured for certain losses related to health and workers’ compensation claims, although we do obtain third-party insurance coverage to limit exposure to these claims. We estimate our self-insured liabilities using a number of factors including historical claims experience and analysis of incurred but not reported claims. Our self-insurance liability was $4.8 million at January 3, 2009 and December 29, 2007, and is included in other current liabilities in our consolidated balance sheets.

Stock-Based Compensation

We record stock-based compensation expense based on the provisions of SFAS No. 123R, “Share-Based Payment” based on the award’s fair value at the date of grant and the awards that are expected to vest. We recognize stock-based compensation expense over the period during which an employee is required to provide services in exchange for the award, or to their eligible retirement date, if earlier. We use the Black-Scholes-Merton option-pricing model to estimate the fair value of stock options and resulting compensation expense. The most significant inputs into the Black-Scholes-Merton option-pricing model are exercise price, our estimate of expected stock price volatility and the weighted-average expected life of the options. We include as part of cash flows from financing activities the benefit of tax deductions in excess of recognized compensation expense as prescribed in SFAS No. 123R. We adopted SFAS No. 123R at the beginning of 2006 using the modified prospective transition method.

See Note 6, Shareholders’ Equity, for additional information on stock-based compensation.

Income Taxes

We recognize deferred tax assets and liabilities for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is established for any portion of deferred tax assets that are not considered more likely than not to be realized. We evaluate all available positive and negative

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Notes to Consolidated Financial Statements – (continued)

evidence, including the existence of cumulative year losses and our forecast of future taxable income, to assess the need for a valuation allowance on our deferred tax assets.

We recognize the benefits of tax positions based on the provisions of FASB Interpretation (“FIN”) No. 48, “Accounting for Uncertainty in Income Taxes.” FIN No. 48 and related interpretations define when benefits of tax positions in the financial statements are recognized and provides guidance on the derecognition, measurement and classification of income tax uncertainties, along with any related interest and penalties. We adopted FIN No. 48 effective December 31, 2006. The adoption of FIN No. 48 and related interpretations did not materially affect our consolidated financial statements and, as a result, we did not record any cumulative effect adjustment upon adoption.

We classify interest and penalties on tax uncertainties as a component of income tax expense in our consolidated statements of operations.

(Loss) Income Per Share

Basic (loss) income per share excludes dilution and is computed by dividing net (loss) income attributable to common shareholders by the weighted-average number of common shares outstanding during the period. Diluted (loss) income per share includes potentially dilutive common shares consisting of stock options, restricted stock and warrants using the treasury stock method. In 2008, we excluded shares of restricted stock and stock options from our computation of diluted net loss per share, as their inclusion would have had an anti-dilutive effect (i.e., resulted in lower loss per share).

Sources of Supply

We currently obtain materials and components used to produce our beds from outside sources. As a result, we are dependent upon suppliers that in some instances, are our sole source of supply. We are continuing our efforts to dual-source key components. The failure of one or more of our suppliers to provide us with materials or components on a timely basis could significantly impact our consolidated results of operations and net (loss) income per share. We believe we can obtain these raw materials and components from other sources of supply in the ordinary course of business, if necessary.

New Accounting Pronouncements

In February 2008, the FASB issued Financial Staff Position (FSP) No. 157-2, Effective Date of FASB Statement No. 157, which delays the effective date of SFAS No. 157 (“FSP 157-2”) for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). SFAS No. 157 establishes a framework for measuring fair value and expands disclosures about fair value measurements. FSP 157-2 partially defers the effective date of SFAS No. 157 to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years for items within the scope of this FSP. The adoption of SFAS No. 157 for all nonfinancial assets and nonfinancial liabilities is effective for us beginning January 4, 2009. We do not expect the adoption of FSP 157-2 to have a material impact on our consolidated financial statements.

In April 2008, the FASB issued FSP No. 142-3, Determination of the Useful Life of Intangible Assets (“FSP 142-3”). FSP 142-3 amends the factors to be considered in developing renewal or extension assumptions used to determine the useful life of intangible assets under SFAS No. 142, “Goodwill and Other Intangible Assets.” Its intent is to improve the consistency between the useful life of an intangible asset and the period of expected cash flows used to measure its fair value. This FSP is effective prospectively for intangible assets acquired or renewed after January 1, 2009. We do not expect FSP 142-3 to have a material impact on our consolidated financial statements.

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Notes to Consolidated Financial Statements – (continued)

 

 

(2) Inventories

 

 

Inventories consist of the following (in thousands):


 

 

 

 

 

 

 

 

 

 

January 3,
2009

 

December 29,
2007

 

Raw materials

 

$

4,280

 

$

10,685

 

Work in progress

 

 

99

 

 

225

 

Finished goods

 

 

14,296

 

 

21,607

 

 

 

$

18,675

 

$

32,517

 

Our finished goods inventory, as of January 3, 2009, was comprised of $5.6 million of finished beds, including retail display beds and deliveries in-transit to those customers who have utilized home delivery services, $2.7 million of finished components that were ready for assembly for the completion of beds, and $6.0 million of retail accessories.

Our finished goods inventory, as of December 29, 2007, was comprised of $5.9 million of finished beds, including retail display beds and deliveries in-transit to those customers who have utilized home delivery services, $10.0 million of finished components that were ready for assembly for the completion of beds, and $5.7 million of retail accessories.

 

 

(3) Property and Equipment

Property and equipment consist of the following (in thousands):

 

 

 

 

 

 

 

 

 

 

January 3,
2009

 

December 29,
2007

 

Land

 

$

1,999

 

$

1,999

 

Leasehold improvements

 

 

90,720

 

 

94,451

 

Office furniture and equipment

 

 

3,997

 

 

5,109

 

Production machinery, computer equipment and software

 

 

68,130

 

 

81,770

 

Property under capital lease

 

 

1,163

 

 

 

Less: Accumulated depreciation and amortization

 

 

(112,735

)

 

(102,920

)

 

 

$

53,274

 

$

80,409

 

During 2008, 2007 and 2006, we recorded asset impairment charges of $34.6 million, $0.4 million and $6.0 million, respectively. During the fourth quarter of fiscal 2008, we elected to abandon our plan to implement an integrated suite of SAP®-based applications in 2009 and recognized asset impairment charges totaling $27.6 million. In addition, during 2008 and 2007, we reviewed all of our stores for impairment and determined that certain store assets at underperforming stores were impaired. We recognized impairment charges of $7.0 million and $0.4 million, respectively, for the difference between the fair value and the carrying amounts of the related long-lived assets.

Our 2006 asset impairment charges were comprised of $5.4 million resulting from the abandonment of software we had been developing and $0.6 million resulting from the difference between the fair value and carrying amount of the related long-lived assets.

Asset impairment charges is one of our critical accounting estimates and requires management to make estimates about future events including sales growth rates, cash flows and asset fair values. We estimate fair values based on probability-weighted discounted cash flows, quoted market prices or other valuation techniques. Our 2008 quarterly store asset impairment charges reflected the deterioration of consumer spending and the more difficult economic environment as the year progressed. Our impairment calculations assume the ongoing availability of consumer credit and our ability to provide cost-effective consumer credit options. However, the recent tightening of credit standards, for our customers who seek extended financing from our third party financiers, was considered in our estimates. Predicting future events is inherently an imprecise activity. If actual results are not consistent with the estimates and assumptions used in our asset impairment calculations, we may incur additional impairment charges in the near term.

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Notes to Consolidated Financial Statements – (continued)

 

 

(4) Leases

Operating Leases

Rent expense was as follows (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

Facility Rents:

 

 

 

 

 

 

 

 

 

 

Minimum rents

 

$

38,157

 

$

32,663

 

$

27,579

 

Contingent rents

 

 

1,962

 

 

7,564

 

 

9,443

 

Total

 

$

40,119

 

$

40,227

 

$

37,022

 

Equipment rents

 

$

3,412

 

$

2,753

 

$

2,484

 

Capital Leases

During 2008, we entered into capital leases totaling $1.0 million, respectively, for certain computer and manufacturing equipment. At January 3, 2009, $0.3 million was included in other current liabilities and $0.5 million was included in other long-term liabilities in our consolidated balance sheet.

The aggregate minimum rental commitments under operating leases and future maturities of capital leases for subsequent years are as follows (in thousands):

 

 

 

 

 

 

 

 

 

 

Operating

 

Capital

 

2009

 

$

34,540

 

$

302

 

2010

 

 

32,216

 

 

320

 

2011

 

 

26,715

 

 

223

 

2012

 

 

21,982

 

 

 

2013

 

 

17,419

 

 

 

Thereafter

 

 

25,017

 

 

 

 

 

$

157,889

 

$

845

 


 

 

(5) Debt

Credit Agreement

In June 2006, we entered into a Credit Agreement (the “Credit Agreement”) with a syndicate of banks (the “Lenders”). The Credit Agreement, as amended to date, provides a revolving credit facility in an aggregate amount of $90 million to be used for general corporate purposes, which amount decreases to $85 million as of March 31, 2009 and to $80 million as of July 1, 2009. The Credit Agreement terminates in June 2010.

The Credit Agreement was amended on February 1, 2008 and on May 30, 2008 to allow greater flexibility under the existing financial covenants, provide additional financial covenants and monthly measurement of financial covenants, modify the credit limit and maturity date, increase the cost of borrowing, provide the Lenders with a collateral security interest in substantially all of our assets and those of our subsidiaries, and impose additional restrictions and covenants with respect to our operations.

We had outstanding borrowings of $79.2 million and $37.9 million, under the credit facility as of January 3, 2009, and December 29, 2007, respectively. We also had outstanding letters of credit of $5.9 million and zero as of January 3, 2009, and December 29, 2007, respectively. Outstanding letters of credit reduce the amounts available under the credit facility. At January 3, 2009, and December 29, 2007, $5.0 million and $62.1 million, respectively, were available under this credit facility. In early March 2009, we received a federal income tax refund of approximately $23.0 million. Pursuant to the terms of

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Notes to Consolidated Financial Statements – (continued)

the Credit Agreement, these funds have been placed in a cash collateral account with the Lenders. We are in discussions with the Lenders regarding the potential use or application of these funds to address our near-term liquidity needs.

At January 3, 2009, borrowings under the credit facility bore interest at a floating rate and could be maintained as base rate loans (tied to the prime rate, plus a margin of up to 4.00% or the federal funds rate plus 5.00%) or as Eurocurrency rate loans (tied to LIBOR, plus a margin up to 5.0% depending on our leverage ratio, as defined). We also pay certain facility and agent fees. As of January 3, 2009, and December 29, 2007, interest rates on borrowings outstanding under the Credit Agreement were 6.0% and 5.2%, respectively. We are subject to certain financial covenants under the agreement, including a maximum leverage ratio, a minimum interest coverage ratio, minimum EBITDA requirements, and capital expenditure limits.

Pursuant to a series of amendments of the Credit Agreement, the Lenders have deferred to March 31, 2009 a reduction in the amount available under our line of credit from $90 million to $85 million that was previously scheduled to become effective as of December 1, 2008. Also pursuant to these amendments, the Lenders have waived compliance, through the close of business on March 30, 2009, with: (a) the minimum interest coverage ratio covenant of the Credit Agreement for the fiscal periods ending on or about December 31, 2008, January 31, 2009 and February 28, 2009, and (b) the minimum EBITDA covenant of the Credit Agreement for the fiscal period ending on or about December 31, 2008. Upon expiration of our most recent amendment on March 31, 2009, we will not be in compliance with certain financial covenants under the Credit Agreement. If we are unable to continue to obtain amendments from the Lenders that waive compliance with these financial covenants, our bank syndicate could place us in default under the terms of the Credit Agreement. A default under the Credit Agreement would enable the Lenders to seek immediate payment, severely constraining our operating flexibility and our ability to fund our business. Any further amendment of the Credit Agreement may significantly increase the cost of credit provided under the credit facility and related expenses, which may adversely impact our profitability.

In light of these increased uncertainties, we are considering options to enhance our financial flexibility and fund our operations, including the need to raise equity or debt capital. The issuance of any additional debt securities could materially and adversely impact our profitability and financial condition. The issuance of additional equity securities could be substantially dilutive to our existing shareholders.

At January 3, 2009, we had $1.1 million in deferred financing fees related to the Credit Agreement. If the Lenders have the right to demand payment before the Credit Agreement terminates, we would expense any remaining unamortized deferred financing fees.

 

 

(6) Shareholders’ Equity

Stock-Based Compensation Plans

We compensate officers, directors and key employees with stock-based compensation under three stock plans approved by our shareholders in 1990, 1997 and 2004 and administered under the supervision of our Board of Directors (“Board”). At January 3, 2009, a total of 1,435,000 shares were available for future grant under the 2004 stock plan. Stock option awards are granted at exercise prices equal to the closing price of our stock on the date of grant. Generally, options vest proportionally over periods of three to four years from the dates of the grant and expire after ten years. Compensation expense is recognized ratably over the vesting period.

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SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Notes to Consolidated Financial Statements – (continued)

Stock Options

A summary of our stock option activity for the year ended January 3, 2009, is as follows (in thousands, except per share amounts):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock
Options

 

Weighted-
Average
Exercise
Price
per Share

 

Weighted-
Average
Remaining
Contractual
Term
(years)

 

Aggregate
Intrinsic
Value (1)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Outstanding at December 29, 2007

 

 

5,274

 

$

12.40

 

 

5.6

 

$

7,749

 

Granted

 

 

797

 

 

3.43

 

 

 

 

 

 

 

Exercised

 

 

(62

)

 

1.50

 

 

 

 

 

 

 

Canceled/Forfeited

 

 

(935

)

 

14.93

 

 

 

 

 

 

 

Outstanding at January 3, 2009

 

 

5,074

 

$

10.67

 

 

4.9

 

$

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Exercisable at January 3, 2009

 

 

3,537

 

$

9.20

 

 

3.6

 

$

 


 

 

(1)

Aggregate intrinsic value includes only those options where the exercise price is equal to or greater than the share price on the date of grant. As of January 3, 2009, the intrinsic value of all outstanding stock options was zero.

Other information pertaining to options for the years ended January 3, 2009; December 29, 2007; and December 30, 2006 is as follows (in thousands, except per share amounts):

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

 

 

 

 

 

 

 

 

 

 

 

Weighted-average grant date fair value of stock options granted

 

$

1.65

 

$

8.94

 

$

12.69

 

Total intrinsic value (at exercise) of stock options exercised

 

$

115

 

$

6,637

 

$

28,507

 

Cash received from the exercise of stock options

 

$

92

 

$

3,489

 

$

8,809

 

Stock-based compensation expense recognized in the consolidated statements of operations

 

$

2,916

 

$

4,528

 

$

6,612

 

Excess income tax benefits from exercise of stock options

 

$

19

 

$

1,497

 

$

8,565

 

At January 3, 2009, there was $6.4 million of total stock option compensation expense related to non-vested awards not yet recognized, which is expected to be recognized over a weighted-average period of 4.9 years.

Determining Fair Value

We estimated the fair value of stock options granted using the Black-Scholes-Merton option-pricing model and a single option award approach. Forfeitures are estimated using historical experience and projected employee turnover. A description of significant assumptions used to estimate the expected volatility, risk-free interest rate and expected term was as follows:

 

 

 

Expected Volatility – Expected volatility was determined based on implied volatility of our traded options and historical volatility of our stock price.

 

 

 

Risk-Free Interest Rate – The risk-free interest rate was based on the implied yield currently available on U.S. Treasury zero-coupon issues with a term equal to the expected term.

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SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Notes to Consolidated Financial Statements – (continued)

 

 

 

Expected Term – Expected term represents the period that our stock-based awards are expected to be outstanding and was determined based on historical experience and anticipated future exercise patterns, giving consideration to the contractual terms of unexercised stock-based awards.

The assumptions used to calculate the fair value of awards granted during 2008, 2007 and 2006 using the Black-Scholes-Merton option-pricing model were as follows:

 

 

 

 

 

 

 

 

 

 

 

Valuation Assumptions

 

2008

 

2007

 

2006

 

 

 

 

 

 

 

 

 

 

 

 

Expected dividend yield

 

 

0

%

 

0

%

 

0

%

Expected volatility

 

 

52

%

 

50

%

 

50

%

Risk-free interest rate

 

 

2.5

%

 

4.7

%

 

4.7

%

Expected term (in years)

 

 

5.3

 

 

5.2

 

 

5.6

 

Restricted and Performance Stock

We issue restricted and performance stock awards to certain employees in conjunction with our share-based compensation plan. The awards generally cliff-vest from three to five years based on continued employment (“time based”). Compensation expense related to time-based stock awards is determined on the grant-date based on the publicly quoted fair market value of our common stock and is charged to earnings on a straight-line basis over the vesting period. Performance stock may be earned and become vested in a specific percentage depending upon the extent to which the target performance is met as of the last day of the performance cycle (“performance based”). Total compensation expense related to time-based restricted and performance-based stock awards was $0.8 million, $1.7 million and $1.7 million, for the years ended January 3, 2009; December 29, 2007; and December 30, 2006, respectively. There were 38,000 restricted and performance stock awards vested at January 3, 2009. All outstanding restricted and performance stock awards were unvested at December 29, 2007, and December 30, 2006. Restricted and performance stock activity was as follows for the year ended January 3, 2009 (in thousands, except per share amounts):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Restricted
Stock

 

Weighted-
Average
Grant Date
Fair Value

 

Performance
Stock

 

Weighted-
Average
Grant
Date Fair
Value

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Outstanding at December 29, 2007

 

 

428

 

$

15.84

 

 

152

 

$

21.44

 

Granted

 

 

137

 

 

4.05

 

 

173

 

 

3.73

 

Canceled/Forfeited

 

 

(205

)

 

12.63

 

 

(74

)

 

10.26

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Outstanding at January 3, 2009

 

 

360

 

$

13.20

 

 

251

 

$

12.36

 

At January 3, 2009, there was $2.5 million of unrecognized compensation expense related to non-vested restricted and performance share awards, which is expected to be recognized over a weighted-average period of 2.0 years.

Repurchases of Common Stock

On April 20, 2007, our Board authorized the repurchase of up to an additional $250.0 million of our common stock, bringing the total availability under our share repurchase program to $290.0 million. During 2008, we did not repurchase any shares of common stock. During 2007, we repurchased and retired 7,617,000 shares through open market purchases at a cost of $131.9 million (based on trade dates), respectively. During 2006, we repurchased and retired 3,889,000 shares through open market purchases at a cost of $79.7 million (based on trade dates). As of January 3, 2009, the remaining authorization under our share repurchase program was $206.8 million. There is no expiration date governing the period over which we can repurchase shares. We currently have no plans to repurchase our stock under this authorization.

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SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Notes to Consolidated Financial Statements – (continued)

The cost of stock repurchases is first charged to additional paid-in capital. Once additional paid-in capital is reduced to zero, any additional amounts are charged to (accumulated deficit) retained earnings.

Net (Loss) Income per Common Share

The following computations reconcile net (loss) income per share – basic with net (loss) income per share – diluted (in thousands, except per share amounts):

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

$

(70,177

)

$

27,620

 

$

47,183

 

 

 

 

 

 

 

 

 

 

 

 

Reconciliation of weighted-average shares outstanding:

 

 

 

 

 

 

 

 

 

 

Basic weighted-average shares outstanding

 

 

44,186

 

 

46,536

 

 

52,837

 

Effect of dilutive securities:

 

 

 

 

 

 

 

 

 

 

Options

 

 

 

 

1,455

 

 

2,529

 

Warrants

 

 

 

 

 

 

28

 

Restricted shares

 

 

 

 

301

 

 

193

 

Diluted weighted-average shares outstanding

 

 

44,186

 

 

48,292

 

 

55,587

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income per share – basic

 

$

(1.59

)

$

0.59

 

$

0.89

 

Net (loss) income per share – diluted

 

 

(1.59

)

 

0.57

 

 

0.85

 

Additional potentially dilutive stock options totaling 5,124,000, 2,441,000 and 1,077,000 for the years 2008, 2007 and 2006, respectively, have been excluded from diluted EPS because these securities’ exercise prices were greater than the average market price of our common shares. In addition, we excluded 444,000 shares of restricted stock and 212,000 stock options from our computation of diluted net loss per share for 2008, as their inclusion would have had an anti-dilutive effect (i.e., resulted in a lower loss per share).

(7) Other (Expense) Income, Net

Other (expense) income, net, consisted of the following (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

2006

 

Interest income

 

$

90

 

$

1,079

 

$

3,018

 

Interest expense

 

 

(4,434

)

 

(1,163

)

 

 

Write-off unamortized debt cost

 

 

(131

)

 

 

 

 

Capitalized interest expense

 

 

1,190

 

 

314

 

 

 

Realized loss on sales of marketable debt securities

 

 

 

 

(270

)

 

 

Other (expense) income, net

 

$

(3,285

)

$

(40

)

$

3,018

 

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SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Notes to Consolidated Financial Statements – (continued)

(8) Income Taxes

The (benefit) expense for income taxes consisted of the following (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

Current:

 

 

 

 

 

 

 

 

 

 

Federal

 

$

(26,910

)

$

19,454

$

30,572

State

 

 

(732

)

 

3,672

 

5,738

 

 

 

(27,642

)

 

23,126

 

36,310

Deferred:

 

 

 

 

 

 

 

 

 

 

Federal

 

 

26,853

 

(6,348

)

 

(6,387

)

State

 

 

(1,777

)

 

(932

)

 

(1,278

)

 

 

 

25,076

 

(7,280

)

 

(7,665

)

Income tax (benefit) expense

 

$

(2,566

)

$

15,846

$

28,645

Effective tax rates differ from statutory federal income tax rates as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

2006

 

Statutory federal income tax rate

 

 

(35.0

%)

 

35.0

%

 

35.0

%

Valuation allowance

 

 

36.9

 

 

 

 

 

State income taxes, net of federal benefit

 

 

(4.5

)

 

4.1

 

 

3.8

 

Other

 

 

(0.9

)

 

(2.6

)

 

(1.0

)

 

 

 

(3.5

%)

 

36.5

%

 

37.8

%

We file income tax returns with the U.S. federal government and various state jurisdictions. In the normal course of business, we are subject to examination by federal and state taxing authorities. We are no longer subject to federal or state income tax examinations for years prior to 2004.

Deferred Income Taxes

The tax effects of temporary differences that give rise to deferred income taxes were as follows (in thousands):

 

 

 

 

 

 

 

 

 

 

2008

 

2007

 

Deferred tax assets:

 

 

 

 

 

 

 

Current:

 

 

 

 

 

 

 

Compensation and benefits

 

$

2,689

 

$

3,399

 

Warranty and returns liabilities

 

 

1,935

 

 

2,332

 

Deferred rent and lease incentives

 

 

984

 

 

471

 

Other

 

 

609

 

 

614

 

Long-term:

 

 

 

 

 

 

 

Property and equipment

 

 

12,161

 

 

13,502

 

Stock-based compensation

 

 

6,835

 

 

5,443

 

Deferred rent and lease incentives

 

 

3,324

 

 

3,261

 

Warranty liability

 

 

2,008

 

 

2,824

 

Net operating loss, capital loss and tax credit carryforwards

 

 

2,933

 

 

101

 

Other

 

 

719

 

 

487

 

Total gross deferred tax assets

 

 

34,197

 

 

32,434

 

Valuation allowance

 

 

(26,933

)

 

(94

)

Total net deferred tax assets

 

$

7,264

 

$

32,340

 

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SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Notes to Consolidated Financial Statements – (continued)

At January 3, 2009, we had net operating loss carryforwards for state income tax purposes of $71.1 million which will expire between 2011 and 2028.

In accordance with SFAS No. 109, “Accounting for Income Taxes,” we evaluate our deferred income taxes quarterly to determine if valuation allowances are required. SFAS No. 109 requires that companies assess whether valuation allowances should be established for any deferred tax assets that are not considered more likely than not to be realized, using all available evidence, both positive and negative. This assessment considers, among other matters, the nature, frequency, and severity of recent losses, forecasts of future profitability, taxable income in available carryback periods and tax planning strategies. In making such judgments, significant weight is given to evidence that can be objectively verified.

We had a $26.9 million and $94,000 tax valuation allowance at January 3, 2009, and December 29, 2007, respectively. Due to our net loss in 2008, our expectations that macro-economic trends and consumer confidence will remain weak throughout 2009, and uncertainty regarding future taxable income; we determined that it was more likely than not that a portion of our deferred tax assets would not be realized. In the fourth quarter of 2008, we established a $26.8 million valuation allowance against deferred tax assets that could not be realized through taxable income earned in available carryback periods. If and when our operating performance improves on a sustained basis, our conclusion regarding the need for the $26.8 million deferred tax valuation allowance could change, resulting in the reversal of some or all of the valuation allowance in future periods. We also have a $94,000 valuation allowance at January 3, 2009, and December 29, 2007, related to a capital loss carryforward that will expire in 2012 if not utilized.

Unrecognized Tax Benefits

At January 3, 2009, and December 29, 2007, the total amounts of unrecognized tax benefits for uncertain tax positions were $155,000 and $97,000, respectively, that if recognized, would impact the effective tax rate. The amount of unrecognized tax benefits are not expected to change materially within the next 12 months.

A reconciliation of the beginning and ending amounts of unrecognized tax benefits for 2007 and 2008 was as follows (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

Federal
And
State
Tax

 

Accrued
Interest
And
Penalties

 

Gross
Unrecognized
Income Tax
Benefits

 

Balance December 31, 2006

 

$

228

 

$

24

 

$

252

 

Increases related to prior-year tax positions

 

 

 

 

8

 

 

8

 

Decreases related to prior-year tax positions

 

 

(24

)

 

 

 

(24

)

Lapse of statute of limitations

 

 

(107

)

 

(32

)

 

(139

)

Balance December 29, 2007

 

$

97

 

$

 

$

97

 

Decreases related to prior-year tax positions

 

 

(50

)

 

 

 

(50

)

Increases related to prior-year tax positions

 

 

105

 

 

3

 

 

108

 

Balance January 3, 2009

 

$

152

 

$

3

 

$

155

 

In 2008, 2007 and 2006, we included $3,000, $8,000 and $10,000, respectively, of penalties and interest in income tax (benefit) expense.

(9) Employee Benefit Plans

Profit Sharing and 401(k) Plan

Under our profit sharing and 401(k) plan, eligible employees may defer up to 50% of their compensation on a pre-tax basis, subject to Internal Revenue Service limitations. Each year, we may make a discretionary contribution equal to a percentage of the employee’s contribution. Beginning in the fourth quarter of fiscal 2008, due to the challenging business environment, we

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SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Notes to Consolidated Financial Statements – (continued)

discontinued our discretionary 401(k) contribution. During 2008, 2007 and 2006, our contributions, net of forfeitures, were $1.9 million, $2.8 million and $2.5 million, respectively.

Employee Stock Purchase Plan

We had an employee stock purchase plan (“ESPP”) which permitted employees to purchase our common stock at a 5% discount based on the average price of the stock on the last business day of the offering period (calendar quarter basis). Purchases were funded by employee payroll deductions during the offering period. Employees purchased 236,847 shares in 2008, 68,670 shares in 2007 and 60,464 shares in 2006 under this plan. At January 3, 2009, and December 29, 2007, ESPP participants had accumulated $132,000 and $192,000, respectively, to purchase our common stock. We discontinued our ESPP plan at the beginning of 2009.

(10) Commitments and Contingencies

On April 25, 2008, a lawsuit was filed against one of our subsidiaries in Superior Court in Santa Clara County, California by one of our customers. The complaint asserted various claims related to products liability, breach of warranty, concealment, intentional misrepresentation and negligent misrepresentation and sought class certification. The complaint alleged that products sold by us prior to 2006 had a unique propensity to develop mold, alleged that the plaintiff suffered adverse health effects, and sought various forms of legal and equitable relief, including without limitation unspecified damages, punitive and exemplary damages, attorneys’ fees and costs, and injunctive relief. We removed the case to the U.S. District Court for the Northern District of California. On September 30, 2008, the Court granted our motion to dismiss and strike the purported class action claims, and allowed the plaintiff leave to amend the complaint. On October 30, 2008, the plaintiff filed an amended complaint alleging facts similar to those asserted in the initial complaint and asserting additional claims, including antitrust and RICO claims. We have filed a motion to dismiss the amended complaint on the same basis that the Court dismissed the original complaint, and our motion remains pending before the Court. As of January 3, 2009, no accrual had been established as we believe that the complaint is without merit and we intend to vigorously defend the claims.

We are involved from time to time in various other legal proceedings arising in the ordinary course of our business, including primarily commercial, employment and intellectual property claims. In accordance with generally accepted accounting principles in the United States, we record a liability in our consolidated financial statements with respect to any of these matters when it is both probable that a liability has been incurred and the amount of the liability can be reasonably estimated. With respect to these other matters, we believe that we have valid defenses to claims asserted against us and we do not expect the outcome of these other matters to have a material effect on our consolidated results of operations or financial position. Litigation, however, is inherently unpredictable, and it is possible that the ultimate outcome of one or more claims asserted against us could adversely impact our results of operations or financial position. We expense legal costs as incurred.

Consumer Credit Arrangements

We refer customers seeking extended financing to certain third party financiers (“Card Servicers”). The Card Servicers, if credit is granted, establish the interest rates, fees, and all other terms and conditions of the customer’s account based on their evaluation of the creditworthiness of the customers. As the receivables are owned by the Card Servicers, at no time are the receivables purchased or acquired from us. We are not liable to Card Servicers for our customers’ credit defaults. In connection with customer purchases financed under these arrangements, the Card Servicers pay us an amount equal to the total amount of such purchases, net of promotional related discounts. The amounts financed and uncollected from Card Servicers under the program were included in accounts receivable and totaled $1.0 million and $2.3 million as of January 3, 2009, and December 29, 2007, respectively.

Termination of our agreements with Card Servicers, any material change to the terms of agreements with Card Servicers or in the availability or terms of credit for our customers from Card Servicers, or any delay in securing replacement credit sources, could materially affect our consolidated results of operations or financial position.

Our agreement under which GE Money Bank offers to our qualified customers revolving credit arrangements to finance purchases from us (the “GE Agreement”) contains certain financial covenants, including maximum leverage ratio and minimum interest coverage. As our recent results placed us outside of these financial covenants, we were required under the terms of the GE Agreement to provide GE Money Bank with a $2.7 million letter of credit as collateral security.

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SELECT COMFORT CORPORATION
AND SUBSIDIARIES

Notes to Consolidated Financial Statements – (continued)

Commitments

As of January 3, 2009, we had $159.2 million of inventory purchase commitments with our suppliers as part of the normal course of business. There are a limited number of supply contracts that contain penalty provisions for failure to purchase contracted quantities. We do not expect potential payments under these provisions to materially affect our consolidated results of operations or financial position.

(11) Summary of Quarterly Financial Data (unaudited)

The following is a condensed summary of actual quarterly results for 2008 and 2007 (in thousands, except per share amounts):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

Fourth

 

Third

 

Second

 

First

 

Net sales

 

$

131,073

 

$

157,231

 

$

152,055

 

$

168,165

 

Gross profit

 

 

73,246

 

 

97,756

 

 

90,644

 

 

96,926

 

Operating (loss) income

 

 

(50,217

)

 

2,052

 

 

(10,251

)

 

(11,042

)

Net (loss) income

 

 

(57,436

)

 

983

 

 

(6,591

)

 

(7,133

)

Net (loss) income per share – diluted

 

 

(1.30

)

 

0.02

 

 

(0.15

)

 

(0.16

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2007

 

Fourth

 

Third

 

Second

 

First

 

Net sales

 

$

190,672

 

$

213,070

 

$

178,991

 

$

216,509

 

Gross profit

 

 

111,542

 

 

131,178

 

 

109,527

 

 

134,168

 

Operating income

 

 

2,799

 

 

19,077

 

 

4,803

 

 

16,827

 

Net income

 

 

2,168

 

 

11,863

 

 

2,912

 

 

10,677

 

Net income per share – diluted

 

 

0.05

 

 

0.26

 

 

0.06

 

 

0.21

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

ITEM 9A. CONTROLS AND PROCEDURES

Conclusions Regarding the Effectiveness of Disclosure Controls and Procedures

We maintain disclosure controls and procedures, as defined in Exchange Act Rule 13a-15(e), that are designed to ensure that information required to be disclosed by the company in the reports that it files or submits under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized, and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to the company’s management, including its principal executive officer and principal financial officer, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Our management, with the participation of our chief executive officer and chief financial officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this annual report. Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this annual report.

Management’s Report on Internal Control Over Financial Reporting

Select Comfort’s management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Our internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Our internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Select Comfort’s management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f). Management, with the participation of our principal executive officer and principal financial officer, evaluated the effectiveness of our internal control over financial reporting based on the framework in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this evaluation under these criteria, management concluded that our internal control over financial reporting was effective as of January 3, 2009.

Fourth Quarter Changes in Internal Control Over Financial Reporting

There were no changes in the Company’s internal control over financial reporting during the quarter ended January 3, 2009 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

ITEM 9B. OTHER INFORMATION

None.

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PART III

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

The information under the captions “Election of Directors,” “Corporate Governance” and “Section 16(a) Beneficial Ownership Reporting Compliance” in our Proxy Statement for our 2009 Annual Meeting of Shareholders is incorporated herein by reference. Information concerning our executive officers is included in Part I of this report under the caption “Executive Officers of the Registrant.”

We have adopted a Code of Business Conduct applicable to our directors, officers and employees (including our principal executive officer, principal financial officer, principal accounting officer and controller). The Code of Business Conduct is available on the Investor Relations section of our Web site at http://www.selectcomfort.com. In the event that we amend or waive any of the provisions of the Code of Business Conduct applicable to our principal executive officer, principal financial officer, principal accounting officer and controller, we intend to disclose the same on our Web site at http://www.selectcomfort.com.

ITEM 11. EXECUTIVE COMPENSATION

The information under the caption “Executive Compensation” in our Proxy Statement for our 2009 Annual Meeting of Shareholders is incorporated herein by reference.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

The information under the caption “Equity Compensation Plan Information” in Item 5 of this Annual Report on Form 10-K and the information under the caption “Stock Ownership of Management and Certain Beneficial Owners” in our Proxy Statement for our 2009 Annual Meeting of Shareholders is incorporated herein by reference.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

The information under the caption “Corporate Governance” in our Proxy Statement for our 2009 Annual Meeting of Shareholders is incorporated herein by reference.

ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES

The information under the caption “Approval of Selection of Independent Registered Public Accounting Firm” in our Proxy Statement for our 2009 Annual Meeting of Shareholders is incorporated herein by reference.

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PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES

 

 

(a)

Consolidated Financial Statements and Schedule

 

 

(1)

Consolidated Balance Sheets

 

 

 

Consolidated Statements of Operations

 

 

 

Consolidated Statements of Shareholders’ Equity

 

 

 

Consolidated Statements of Cash Flows

 

 

 

Notes to Consolidated Financial Statements

 

 

 

Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting

 

 

 

Report of Independent Registered Public Accounting Firm on Consolidated Financial Statements and Financial Statement Schedule

 

 

(2)

Consolidated Financial Statement Schedule

 

 

 

The following Report and financial statement schedule are included in this Part IV.

 

 

 

Schedule II – Valuation and Qualifying Accounts

 

 

 

All other schedules are omitted because they are not applicable or the required information is included in the consolidated financial statements or notes thereto.

 

 

(3)

Exhibits

      The exhibits to this Report are listed in the Exhibit Index below.

      We will furnish a copy of any of the exhibits referred to above at a reasonable cost to any shareholder upon receipt of a written request. Requests should be sent to: Select Comfort Corporation, Investor Relations Department, 9800 59th Avenue North, Minneapolis, Minnesota 55442.

      The following is a list of each management contract or compensatory plan or arrangement required to be filed as an exhibit to this Annual Report on Form 10-K pursuant to Item 15(c):

 

 

 

 

1.

Select Comfort Corporation 1990 Omnibus Stock Option Plan, as amended and restated

 

 

 

 

2.

Select Comfort Corporation 1997 Stock Incentive Plan, as amended and restated

 

 

 

 

3.

Form of Incentive Stock Option Agreement under the 1990 and 1997 Stock Plans

 

 

 

 

4.

Form of Performance Based Stock Option Agreement under the 1990 and 1997 Stock Plans

 

 

 

 

5.

Select Comfort Corporation 2004 Stock Incentive Plan (Amended and Restated as of January 1, 2007)

 

 

 

 

6.

Form of Nonstatutory Stock Option Award Agreement under the 2004 Stock Incentive Plan

 

 

 

 

7.

Form of Restricted Stock Award Agreement under the 2004 Stock Incentive Plan

 

 

 

 

8.

Form of Performance Stock Award Agreement under the 2004 Stock Incentive Plan

 

 

 

 

9.

Form of Nonstatutory Stock Option Award Agreement (Subject to Performance Adjustment) under the 2004 Stock Incentive Plan

 

 

 

 

10.

Select Comfort Profit Sharing and 401(K) Plan – 2007 Restatement

 

 

 

 

11.

Select Comfort Executive Investment Plan, as Amended and Restated October 29, 2008

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12.

Select Comfort Executive and Key Employee Incentive Plan

 

 

 

 

13.

Employment Letter from the Company to William R. McLaughlin dated March 3, 2000

 

 

 

 

14.

Employment Letter from the Company to William R. McLaughlin dated March 2, 2006

 

 

 

 

15.

Letter Agreement between William R. McLaughlin and Select Comfort Corporation dated as of February 21, 2008

 

 

 

 

16.

Amended and Restated Non-Statutory Stock Option Agreement between Select Comfort Corporation and William R. McLaughlin dated as of April 22, 2008

 

 

 

 

17.

Separation Agreement between the Company and Catherine B. Hall dated October 22, 2008

 

 

 

 

18.

Employment Letter from the Company to Kathryn V. Roedel dated March 8, 2005

 

 

 

 

19.

Employment Letter from the Company to Wendy L. Schoppert dated March 15, 2005

 

 

 

 

20.

Employment Letter from the Company to Mark A. Kimball dated April 22, 1999

 

 

 

 

21.

Summary of Executive Health Program

 

 

 

 

22.

Summary of Executive Tax and Financial Planning Program

 

 

 

 

23.

Amended and Restated Select Comfort Corporation Executive Severance Pay Plan

 

 

 

 

24.

First Amendment to Amended and Restated Select Comfort Corporation Executive Severance Pay Plan

 

 

 

 

25.

Summary of Non-Employee Director Compensation

 

 

 

 

26.

Amended and Restated Select Comfort Corporation Non-Employee Director Equity Plan

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

 

 

 

SELECT COMFORT CORPORATION

 

(Registrant)

 

 

 

Dated: March 19, 2009

By:

     /s/ William R. McLaughlin

 

 

     William R. McLaughlin

 

 

     Chief Executive Officer

 

 

     (principal executive officer)

 

 

 

 

By:

     /s/ James C. Raabe

 

 

     James C. Raabe

 

 

     Chief Financial Officer

 

 

     (principal financial and accounting officer)

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POWER OF ATTORNEY

Know all persons by these presents, that each person whose signature appears below constitutes and appoints William R. McLaughlin, James C. Raabe and Mark A. Kimball, and each of them, as such person’s true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for such person and in such person’s name, place and stead, in any and all capacities, to sign any and all amendments to this Report, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in connection therewith, as fully to all intents and purposes as such person might or could do in person, hereby ratifying and confirming that all said attorneys-in-fact and agents, or any of them or their or such person’s substitute or substitutes, may lawfully do or cause to be done by virtue thereof.

Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the date or dates indicated.

 

 

 

 

 

NAME

 

TITLE

 

DATE

 

 

 

 

 

/s/ Ervin R. Shames

 

Chairman of the Board

 

March 16, 2009

Ervin R. Shames

 

 

 

 

 

 

 

 

 

/s/ William R. McLaughlin

 

Director

 

March 19, 2009

William R. McLaughlin

 

 

 

 

 

 

 

 

 

/s/ Thomas J. Albani

 

Director

 

March 13, 2009

Thomas J. Albani

 

 

 

 

 

 

 

 

 

/s/ Christine M. Day

 

Director

 

March 19, 2009

Christine M. Day

 

 

 

 

 

 

 

 

 

/s/ Stephen L. Gulis, Jr.

 

Director

 

March 13, 2009

Stephen L. Gulis, Jr.

 

 

 

 

 

 

 

 

 

/s/ Christopher P. Kirchen

 

Director

 

March 10, 2009

Christopher P. Kirchen

 

 

 

 

 

 

 

 

 

/s/ David T. Kollat

 

Director

 

March 12, 2009

David T. Kollat

 

 

 

 

 

 

 

 

 

/s/ Brenda J. Lauderback

 

Director

 

March 13, 2009

Brenda J. Lauderback

 

 

 

 

 

 

 

 

 

/s/ Michael A. Peel

 

Director

 

March 11, 2009

Michael A. Peel

 

 

 

 

 

 

 

 

 

/s/ Jean-Michel Valette

 

Director

 

March 17, 2009

Jean-Michel Valette

 

 

 

 

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SELECT COMFORT CORPORATION
EXHIBIT INDEX TO ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED JANUARY 3, 2009

 

 

 

 

 

Exhibit
No.

 

Description

 

Method Of Filing

 

 

 

 

 

3.1

 

Third Restated Articles of Incorporation of the Company, as amended

 

Incorporated by reference to Exhibit 3.1 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended January 1, 2000 (File No. 0-25121)

 

 

 

 

 

3.2

 

Articles of Amendment to Third Restated Articles of Incorporation of the Company

 

Incorporated by reference to Exhibit 3.1 contained in Select Comfort’s Current Report on Form 8-K filed May 16, 2006 (File No. 0-25121)

 

 

 

 

 

3.3

 

Restated Bylaws of the Company

 

Incorporated by reference to Exhibit 3.1 contained in Select Comfort’s Current Report on Form 8-K filed May 21, 2007 (File No. 0-25121)

 

 

 

 

 

10.1

 

Net Lease Agreement dated December 3, 1993 between the Company and Opus Corporation

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Registration Statement on Form S-1, as amended (Reg. No. 333-62793)

 

 

 

 

 

10.2

 

Amendment of Lease dated August 10, 1994 between the Company and Opus Corporation

 

Incorporated by reference to Exhibit 10.2 contained in the Select Comfort’s Registration Statement on Form S-1, as amended (Reg. No. 333-62793)

 

 

 

 

 

10.3

 

Second Amendment to Lease dated May 10, 1995 between the Company and Rushmore Plaza Partners Limited Partnership (successor to Opus Corporation)

 

Incorporated by reference to Exhibit 10.3 contained in Select Comfort’s Registration Statement on Form S-1, as amended (Reg. No. 333-62793)

 

 

 

 

 

10.4

 

Letter Agreement dated as of October 5, 1995 between the Company and Rushmore Plaza Partners Limited Partnership

 

Incorporated by reference to Exhibit 10.4 contained in Select Comfort’s Registration Statement on Form S-1, as amended (Reg. No. 333-62793)

 

 

 

 

 

10.5

 

Third Amendment of Lease, Assignment and Assumption of Lease and Consent dated as of January 1, 1996 among the Company, Rushmore Plaza Partners Limited Partnership and Select Comfort Direct Corporation

 

Incorporated by reference to Exhibit 10.5 contained in Select Comfort’s Registration Statement on Form S-1, as amended (Reg. No. 333-62793)

 

 

 

 

 

10.6

 

Fourth Amendment to Lease dated June 30, 2003 between Cabot Industrial Properties, L.P. (successor to Rushmore Plaza Partners Limited Partnership) and Select Comfort Direct Corporation

 

Incorporated by reference to Exhibit 10.6 contained in Select Comfort’s Annual report on Form 10-K for the fiscal year ended January 3, 2004 (File No. 0-25121)

 

 

 

 

 

10.7

 

Fifth Amendment to Lease dated August 28, 2006 between Cabot Industrial Properties, L.P. (successor to Rushmore Plaza Partners Limited Partnership) and Select Comfort Direct Corporation

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Quarterly report on Form 10-Q for the quarter ended September 30, 2006 (File No. 0-25121)

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Exhibit
No.

 

Description

 

Method Of Filing

 

 

 

 

 

10.8

 

Lease Agreement dated as of September 19, 2002 between the Company and Blind John, LLC (as successor to Frastacky (US) Properties Limited Partnership)

 

Incorporated by reference to Exhibit 10.6 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 28, 2002 (File No. 0-25121)

 

 

 

 

 

10.9

 

Lease Agreement dated September 30, 1998 between the Company and ProLogis Development Services Incorporated

 

Incorporated by reference to Exhibit 10.12 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 28, 2002 (File No. 0-25121)

 

 

 

 

 

10.10

 

Net Lease Agreement (Build-to-Suit) by and between Opus Northwest LLC, as Landlord, and Select Comfort Corporation, as Tenant, dated July 26, 2006

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Quarterly report on Form 10-Q for the quarter ended July 1, 2006 (File No. 0-25121)

 

 

 

 

 

10.11

 

Select Comfort Corporation 1990 Omnibus Stock Option Plan, as amended and restated

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Quarterly Report on Form 10-Q for the quarter ended October 2, 1999 (File No. 0-25121)

 

 

 

 

 

10.12

 

Select Comfort Corporation 1997 Stock Incentive Plan, as amended and restated

 

Incorporated by reference to Exhibit 10.8 contained in Select Comfort’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2001 (File No. 0-25121)

 

 

 

 

 

10.13

 

Form of Incentive Stock Option Agreement under the 1990 and 1997 Stock Plans

 

Incorporated by reference to Exhibit 10.16 contained in the Company’s Registration Statement on Form S-1, as amended (Reg. No. 333-62793)

 

 

 

 

 

10.14

 

Form of Performance Based Stock Option Agreement under the 1990 and 1997 Stock Plans

 

Incorporated by reference to Exhibit 10.17 contained in Select Comfort’s Registration Statement on Form S-1, as amended (Reg. No. 333-62793)

 

 

 

 

 

10.15

 

Select Comfort Corporation 2004 Stock Incentive Plan (Amended and Restated as of January 1, 2007)

 

Incorporated by reference to Exhibit 10.16 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 30, 2006 (File No. 0-25121)

 

 

 

 

 

10.16

 

Form of Nonstatutory Stock Option Award Agreement under the Select Comfort Corporation 2004 Stock Incentive Plan

 

Incorporated by reference to Exhibit 10.28 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 31, 2005 (File No. 0-25121)

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Exhibit
No.

 

Description

 

Method Of Filing

 

 

 

 

 

10.17

 

Form of Restricted Stock Award Agreement under the Select Comfort Corporation 2004 Stock Incentive Plan

 

Incorporated by reference to Exhibit 10.29 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 31, 2005 (File No. 0-25121)

 

 

 

 

 

10.18

 

Form of Performance Stock Award Agreement under the Select Comfort Corporation 2004 Stock Incentive Plan

 

Incorporated by reference to Exhibit 10.30 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 31, 2005 (File No. 0-25121)

 

 

 

 

 

10.19

 

Form of Nonstatutory Stock Option Award Agreement (Subject to Performance Adjustment) under the Select Comfort Corporation 2004 Stock Incentive Plan

 

Incorporated by reference to Exhibit 10.20 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 30, 2006 (File No. 0-25121)

 

 

 

 

 

10.20

 

Select Comfort Profit Sharing and 401(K) Plan – 2007 Restatement

 

Incorporated by reference to Exhibit 10.22 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 30, 2006 (File No. 0-25121)

 

 

 

 

 

10.21

 

Select Comfort Executive Investment Plan, as Amended and Restated October 29, 2008

 

Filed herewith.

 

 

 

 

 

10.22

 

Select Comfort Executive and Key Employee Incentive Plan

 

Incorporated by reference to Exhibit 10.22 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 30, 2000 (File No. 0-25121)

 

 

 

 

 

10.23

 

Employment Letter from the Company to William R. McLaughlin dated March 3, 2000

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Quarterly Report on Form 10-Q for the quarter ended April 1, 2000 (File No. 0-25121)

 

 

 

 

 

10.24

 

Employment Letter from the Company to William R. McLaughlin dated March 2, 2006

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed March 6, 2006 (File No. 0-25121)

 

 

 

 

 

10.25

 

Letter Agreement between William R. McLaughlin and Select Comfort Corporation dated as of February 21, 2008

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed February 27, 2008 (File No. 0-25121)

 

 

 

 

 

 

 

 

 

 

10.26

 

Amended and Restated Non-Statutory Stock Option Agreement between Select Comfort Corporation and William R. McLaughlin dated as of April 22, 2008

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed April 24, 2008 (File No. 0-25121)

 

 

 

 

 

 

 

 

 

 

10.27

 

Separation Agreement between the Company and Catherine B. Hall dated October 22, 2008

 

Filed herewith.

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Exhibit
No.

 

Description

 

Method Of Filing

 

 

 

 

 

10.28

 

Employment Letter from the Company to Kathryn V. Roedel dated March 8, 2005

 

Incorporated by reference to Exhibit 10.17 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 31, 2005 (File No. 0-25121)

 

 

 

 

 

10.29

 

Employment Letter from the Company to Wendy L. Schoppert dated March 15, 2005

 

Incorporated by reference to Exhibit 10.18 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 31, 2005 (File No. 0-25121)

 

 

 

 

 

10.30

 

Employment Letter from the Company to Mark A. Kimball dated April 22, 1999

 

Incorporated by reference to Exhibit 10.25 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended January 1, 2000 (File No. 0-25121)

 

 

 

 

 

10.31

 

Summary of Executive Health Program

 

Incorporated by reference to Exhibit 10.36 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 31, 2005 (File No. 0-25121)

 

 

 

 

 

10.32

 

Summary of Executive Tax and Financial Planning Program

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed January 3, 2005 (File No. 0-25121)

 

 

 

 

 

10.33

 

Amended and Restated Select Comfort Corporation Executive Severance Pay Plan, dated as of August 21, 2008

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed August 21, 2008 (File No. 0-25121)

 

 

 

 

 

10.34

 

First Amendment to Amended and Restated Select Comfort Corporation Executive Severance Pay Plan

 

Filed herewith

 

 

 

 

 

10.35

 

Summary of Non-Employee Director Compensation

 

Incorporated by reference to Exhibit 10.32 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 31, 2005 (File No. 0-25121)

 

 

 

 

 

10.36

 

Amended and Restated Select Comfort Corporation Non-Employee Director Equity Plan

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed May 1, 2006 (File No. 0-25121)

 

 

 

 

 

10.37

 

Supply Agreement dated October 3, 2006 between the Company and Supplier (1)

 

Incorporated by reference to Exhibit 10.39 contained in Select Comfort’s Annual Report on Form 10-K for the fiscal year ended December 30, 2006 (File No. 0-25121)

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Exhibit
No.

 

Description

 

Method Of Filing

 

 

 

 

 

10.38

 

Amended and Restated Private Label Consumer Credit Card Program Agreement dated as of December 14, 2005 between GE Money Bank and Select Comfort Corporation and Select Comfort Retail Corporation (1)

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed December 20, 2005 (File No. 0-25121)

 

 

 

 

 

10.39

 

First Amendment to Amended and Restated Private Label Consumer Credit Card Program Agreement dated as of April 23, 2007 between GE Money Bank and Select Comfort Corporation and Select Comfort Retail Corporation

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed April 27, 2007 (File No. 0-25121)

 

 

 

 

 

10.40

 

Second Amendment to Amended and Restated Private Label Consumer Credit Card Program Agreement dated as of February 1, 2008 between GE Money Bank and Select Comfort Corporation and Select Comfort Retail Corporation

 

Incorporated by reference to Exhibit 10.3 contained in Select Comfort’s Current Report on Form 8-K filed February 7, 2008 (File No. 0-25121)

 

 

 

 

 

10.41

 

Amended and Restated Exclusive Supplier Agreement between Radisson Hotels International, Inc. and Select Comfort Corporation (1)

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2007 (File No. 0-25121)

 

 

 

 

 

10.42

 

Credit Agreement dated as of June 9, 2006 among Select Comfort Corporation, the subsidiary borrowers from time to time party thereto, JPMorgan Chase Bank, National Association, as Administrative Agent, Bank of America, N.A., as Syndication Agent and JPMorgan Chase Bank, National Association, Bank of America, N.A., Citicorp USA, Inc., Wells Fargo Bank, National Association and Branch Banking and Trust Co., as Lenders

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed June 14, 2006 (File No. 0-25121)

 

 

 

 

 

10.43

 

Amendment No. 1 to Credit Agreement dated as of June 28, 2007 among Select Comfort Corporation, the subsidiary borrowers from time to time party thereto, JPMorgan Chase Bank, National Association, as Administrative Agent, Bank of America, N.A., as Syndication Agent and JPMorgan Chase Bank, National Association, Bank of America, N.A., Citicorp USA, Inc., Wells Fargo Bank, National Association and Branch Banking and Trust Co., as Lenders

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed February 7, 2008 (File No. 0-25121)

 

 

 

 

 

10.44

 

Amendment No. 2 to Credit Agreement dated as of February 1, 2008 among Select Comfort Corporation, the subsidiary borrowers from time to time party thereto, JPMorgan Chase Bank, National Association, as Administrative Agent, Bank of America, N.A., as Syndication Agent and JPMorgan Chase Bank, National Association, Bank of America, N.A., Citicorp USA, Inc., Wells Fargo Bank, National Association and Branch Banking and Trust Co., as Lenders

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed February 7, 2008 (File No. 0-25121)

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Exhibit
No.

 

Description

 

Method Of Filing

 

 

 

 

 

10.45

 

Amendment No. 3 to Credit Agreement dated as of May 30, 2008 among Select Comfort Corporation, the subsidiary borrowers from time to time party thereto, JPMorgan Chase Bank, National Association, as Administrative Agent, Bank of America, N.A., as Syndication Agent and JPMorgan Chase Bank, National Association, Bank of America, N.A., Citicorp USA, Inc., Wells Fargo Bank, National Association and Branch Banking and Trust Co., as Lenders

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed June 2, 2008 (File No. 0-25121)

 

 

 

 

 

10.46

 

Amendment No. 4 to Credit Agreement dated as of December 2, 2008 among Select Comfort Corporation, the subsidiary borrowers from time to time party thereto, JPMorgan Chase Bank, National Association, as Administrative Agent, Bank of America, N.A., as Syndication Agent and JPMorgan Chase Bank, National Association, Bank of America, N.A., Citicorp USA, Inc., Wells Fargo Bank, National Association and Branch Banking and Trust Co., as Lenders

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed December 8, 2008 (File No. 0-25121)

 

 

 

 

 

10.47

 

Amendment No. 5 to Credit Agreement dated as of January 2, 2009 among Select Comfort Corporation, the subsidiary borrowers from time to time party thereto, JPMorgan Chase Bank, National Association, as Administrative Agent, Bank of America, N.A., as Syndication Agent and JPMorgan Chase Bank, National Association, Bank of America, N.A., Citicorp USA, Inc., Wells Fargo Bank, National Association and Branch Banking and Trust Co., as Lenders

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed January 8, 2009 (File No. 0-25121)

 

 

 

 

 

10.48

 

Amendment No. 6 to Credit Agreement dated as of January 15, 2009 among Select Comfort Corporation, the subsidiary borrowers from time to time party thereto, JPMorgan Chase Bank, National Association, as Administrative Agent, Bank of America, N.A., as Syndication Agent and JPMorgan Chase Bank, National Association, Bank of America, N.A., Citicorp USA, Inc., Wells Fargo Bank, National Association and Branch Banking and Trust Co., as Lenders

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed January 22, 2009 (File No. 0-25121)

 

 

 

 

 

10.49

 

Amendment No. 7 to Credit Agreement dated as of January 31, 2009 among Select Comfort Corporation, the subsidiary borrowers from time to time party thereto, JPMorgan Chase Bank, National Association, as Administrative Agent, Bank of America, N.A., as Syndication Agent and JPMorgan Chase Bank, National Association, Bank of America, N.A., Citicorp USA, Inc., Wells Fargo Bank, National Association and Branch Banking and Trust Co., as Lenders

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed February 5, 2009 (File No. 0-25121)

 

 

 

 

 

10.50

 

Amendment No. 8 to Credit Agreement dated as of February 28, 2009 among Select Comfort Corporation, the subsidiary borrowers from time to time party thereto, JPMorgan Chase Bank, National Association, as Administrative Agent, Bank of America, N.A., as Syndication Agent and JPMorgan Chase Bank, National Association, Bank of America, N.A., Citicorp USA, Inc., Wells Fargo Bank, National Association and Branch Banking and Trust Co., as Lenders

 

Incorporated by reference to Exhibit 10.1 contained in Select Comfort’s Current Report on Form 8-K filed March 2, 2009 (File No. 0-25121)

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Table of Contents

 

 

 

 

 

Exhibit
No.

 

Description

 

Method Of Filing

 

 

 

 

 

21.1

 

Subsidiaries of the Company

 

Filed herewith

 

 

 

 

 

 

 

 

 

 

23.1

 

Consent of Independent Registered Public Accounting Firm

 

Filed herewith

 

 

 

 

 

24.1

 

Power of Attorney

 

Included on signature page

 

 

 

 

 

31.1

 

Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

Filed herewith

 

 

 

 

 

31.2

 

Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

Filed herewith

 

 

 

 

 

32.1

 

Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

Filed herewith

 

 

 

 

 

32.2

 

Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

Filed herewith

 

 

 

 

 

 

(1)

Confidential treatment has been granted by the Securities and Exchange Commission with respect to designated portions contained within document. Such portions have been omitted and filed separately with the Securities and Exchange Commission pursuant to Rule 24b-2 of the Securities and Exchange Act of 1934, as amended.

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Table of Contents

SELECT COMFORT CORPORATION AND SUBSIDIARIES
Schedule II – Valuation and Qualifying Accounts
(in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Description

 

Balance at
Beginning
of Period

 

Additions
Charged to
Costs and
Expenses

 

Deductions
From Reserves

 

Balance at End
of Period

 

Allowance for doubtful accounts

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

$

876

 

$

814

 

$

977

 

 

713

 

2007

 

 

529

 

 

1,035

 

 

688

 

$

876

 

2006

 

 

552

 

 

676

 

 

699

 

 

529

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accrued sales returns

 

 

 

 

 

 

 

 

 

 

 

 

 

2008

 

$

3,751

 

$

34,410

 

$

35,417

 

$

2,744

 

2007

 

 

3,907

 

 

43,716

 

 

43,872

 

 

3,751

 

2006

 

 

5,403

 

 

42,508

 

 

44,004

 

 

3,907

 

 

 

 

 

80