The unaudited pro forma financial information is not necessarily indicative of what actual results would have been had the transactions occurred at the beginning of the periods presented, nor does it purport to indicate the results of future operations of the Company.

Inventories consisted of the following:

Inventories are stated at the lower of standard cost or market value. The Company evaluates the need for inventory valuation adjustments associated with obsolete, slow-moving and nonsaleable inventory by reviewing current transactions and forecasted product demand on a quarterly basis.

The changes in the carrying amount of goodwill for the quarter ended March 31, 2006 are as follows:

The Company evaluates goodwill for impairment annually or more frequently if events or changes in circumstance indicate that such assets might be impaired. Intangible assets with finite useful lives are tested for impairment whenever events or changes in circumstance indicate that such assets might be impaired. The remaining useful lives of intangible assets with finite useful lives are evaluated annually to determine whether events or circumstances warrant changes in the estimated useful lives of such assets.

2005 Long Term Incentive Plan

In 2005, the Company’s shareholders approved the Company’s 2005 Long Term Incentive Plan (the “Plan”). The Plan permits flexibility in types of awards, and specific terms of awards, which allow future awards to be based on then-current objectives for aligning compensation with increasing long-term shareholder value. The Plan authorizes the Company to issue up to 4,000,000 shares of common stock.

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Adoption of SFAS 123(R)

Effective the beginning of the first quarter ofJanuary 1, 2006, the Company adopted the provisions of SFASStatements of Financial Accounting Standards (“SFAS”) No. 123 (revised 2004),Share-Based Payment (“SFAS 123(R)”) for its share-based compensation plans which requireplan using the recognition of the fair value of stock-based compensation in net income.modified prospective transition method. The Company recognizes compensation expense arising from share-based payments over the requisite service periods of the individual grants, which generally equal the vesting periods.

Prior to January 1, 2006, the Companypreviously accounted for share-based paymentsthe plan under the recognition and measurement principles of APBAccounting Principles Board (“APB”) Opinion No. 25,Accounting for Stock Issued to Employees (“APB 25” or “Opinion 25”) and related interpretations and disclosuresdisclosure requirements established by SFAS 123,Accounting for Stock-Based Compensation, and SFAS No. 148,Accounting for Stock-Based Compensation — Transition and Disclosure. In March 2005, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 107,Share-Based Payment (“SAB 107”), relating to SFAS 123(R). The Company has applied the provisions of SAB 107 in its adoption of SFAS 123(R).

Under APB 25, no expense was recorded in the Company did not record stock-based compensation cost in net income becausestatement for the exercise price ofCompany's stock options equaled thegranted at fair market price of the underlying stock on the grant date.value. The pro forma effectseffect on net income for stock options werewas instead disclosed in a footnote to the financial statements.

The Company adopted SFAS 123(R) using

Expense was recorded in the modified prospective transition method. Under this method, the provisions of SFAS No. 123(R) apply to allincome statement for restricted stock awards and stock options granted or modified afterbelow fair market value on the date of adoption. Allgrant.

Under SFAS 123(R), the Company recognizes compensation expense from share-based compensation cost is measured atpayments over the grant date, based on the estimated fair valuerequisite service periods of the award, and is recognized as expense overindividual grants, which generally equal the employee’s requisite service period. The unrecognized expense of awards unvested at the date of adoption, determined under the original provisions of SFAS No. 123, will be recognized in net income in the periods after the date of adoption. Prior periods are not restated.

The Company recognized pre-tax stock option related compensation expense in the amount of $0.7 million for the three months ended March 31, 2006. As of March 31, 2006, the Company had outstanding options for the purchase of up to 2,728,835 shares of common stock, of which approximately 1,687,592 were antidilutive.

vesting periods. Consistent with prior years, the fair value of each option grant under the Plan wasis estimated at the date of grant using the Black-Scholes-Merton option pricing model which requires extensive use of accounting judgment and financial estimation, including estimates of the expected volatility of the Company’s common stock price over the expected term, the risk-free interest rate, the dividend yield, estimates of the expected term option holders will retain their vested stock optionsawards before exercising them, and the number of optionsawards that will be forfeited prior to the completion of their vesting requirements. Application of alternative assumptions could produce significantly different estimates of the fair value of stock-based compensation and consequently the related amounts of compensation cost recognized in the Condensed Consolidated Statements of Operations.

As of March 31, 2006, the total remaining unrecognized compensation cost related to non-vested stock options was $5.7 million and this future expense will be recognized over the expected life of the stock options which currently extends to 2010. The weighted average remaining vesting period of these awards is 3.0 years.

The Company is continuing to evaluate the method it will utilize to calculate the Windfall Tax Pool and as a result has not determined the amount as of March 31, 2006.Income.

The following table illustrates the effect on net income and net incomeearnings per share as if the Company had applied the fair value recognition provisions of SFAS No. 123 to its share-based payments for the periods prior to adoption of SFAS 123(R):

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The pro forma amounts may not be indicativeAs a result of adopting SFAS 123(R) on January 1, 2006, the effects on reportedCompany's income before income taxes and net income for future periods due to the effect of options vesting over a period of years, the granting of stock compensation awards in future years and option cancellations associated with employee terminations.

The Company’s calculations of stock-based compensation expense for the three months ending March 31,ended June 30, 2006 are $0.7 and 2005 were made using$0.4 lower, respectively, than if it had continued to account for share-based compensation under Opinion 25. The Company's income before income taxes and net income for the Black-Scholes-Merton option-pricing model. six months ended June 30, 2006 are $1.4 and $0.9 lower, respectively, than if it had continued to account for share-based compensation under Opinion 25. The Company's basic and diluted earnings per share for the three and six months ended June 30, 2006 are $0.02 and $0.04, respectively, lower than if it had continued to account for share-based compensation under APB 25. The Company did not capitalize any of its share-based compensation costs.

Stock Options

Stock option awards are granted with an exercise price equal to the market price of the Company’s stock on the date prior to the grant date and generally vest based on four years of continuous service and have a seven year contractual term. A summary of the Company’s stock option plan activity for the three months ended June 30, 2006 is as follows:

A summary of the Company’s stock option plan activity for the six months ended June 30, 2006 is as follows:

The fair value of the Company’s stock option grantsawards was estimated assuming the following weighted average assumptions for the three months ending March 31, 2006 and 2005, as follows:assumptions:

Expected life represents the period that the Company’s stock-based awards are expected to be outstanding and was determined based on historical experience of similar awards, giving consideration to the contractual terms of the stock-based awards and vesting schedules. The risk-free interest rate is based on the implied U.S. Treasury zero coupon yield curve in effect in the month of grant. Expected dividend yield is calculated based on the authorization by the Company’s Board of Directors of the payment of the 2006 quarterly dividends in amount of $0.10 per share. Expected volatility utilized in the model is calculated using the daily historical volatility of the Company’s stock price overprice. When estimating forfeitures, the last three years and four years for the three months ending March 31, 2006 and 2005, respectively. The risk-free interest rate is based on the implied U.S. Treasury zero coupon yield curve in effect at the time of grant. The model incorporates exercise and post-vesting forfeiture assumptionsCompany considers historical termination as well as anticipated retirements based on an analysis of historical data. The expected lives of the grants are based on the weighted average historical life of the vested stock options.

A summary of the Company’s stock option plan activity as of December 31, 2005, and changes during the three month period ending March 31, 2006, is presented below:

The weighted average grant date fair value per share for the 537,150 stock options granted during the three month period ending March 31, 2006 was $5.24. The total intrinsic value of stock options exercised during the three month period ending March 31, 2006 was $81,140.

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The following summarizes information about stock options which are outstanding and exercisable as of March 31, 2006:

Prior to 2006, the Company granted certain stock options at an exercise price $2.00 (two dollars) per share below the market price on the date of the grant. The Company recognized compensation expense of $0.1 million in the first quarter of 2005 related to that option grant. At December 31, 2005, the option grant arrangement was amended to eliminate the original discount per share.

Stock Options

Stock options are granted to employees at exercise prices equal to the fair market value of the Company’s stock at the date of the grant. Generally, stock options granted to employees fully vest four years from the date of the grant and have a contractual term of seven years.

Performance Units

BeginningStarting in December 2005, the Company granted performance units which entitleunit awards to members of its executive team. The performance unit awards vest if the Company’s executive team to receive sharesCompany meets earnings targets set by the Compensation Committee of the Company’s common stock when certain Company financial targets are met.Board of Directors. The Company valuesfair value of the performance units usingis based on the closing market price of the Company’s common stock on the date preceding the grant date and is amortized over the estimated requisite service period when it becomes probable that the performance targets are expected to be met. The amount of stock-based compensation expense is based on the number of performance unit awards ultimately expected to vest, and therefore it has been reduced for estimated forfeitures.

As of June 30, 2006, there was approximately $2.7 million of total unrecognized stock-based compensation costs related to performance units none of which were vested. As of June 30, 2006, the intrinsic value of the grant. The Company recognizes the total amount in the consolidated statement of shareholders’ equity for theperformance units was approximately $2.4 million; there were no performance units in the comparable period the units are granted. In subsequent periods, theof fiscal 2005. The Company recordsdid not record any compensation expense as the unearned compensation is amortized over the expected term. The Company recorded expense of $0.1 million and $0 related to amortizing this unearned compensationthe performance unit awards in the quartersthree and six month periods ended March 31, 2006 and 2005, respectively.

June 30, 2006. A summary of the Company’s performance units for the period ended March 31, 2006 is presented below:

Restricted Stock, service based

As of June 30, 2006, a total of 3,000 shares of service based restricted stock awards were outstanding. Restricted shares are granted to key employees and directors of the Company and vest based on years of service. The fair value of the restricted stock awards is based on the closing market price of the Company’s common stock on the date preceding the grant date and is amortized on a straight line basis over the service period.

As of June 30, 2006, there was approximately $37,000 of total unrecognized stock-based compensation costs related to service based restricted stock awards none of which were vested. Stock-based compensation expense recognized for the three and six months of 2006 was approximately $4,000 and $8,000, respectively, and is based on the number of restricted stock awards ultimately expected to vest, and therefore has been reduced for estimated forfeitures. Restricted stock awards vest annually over three years of service. There were no performance units issued or outstanding at March 31,service based restricted stock awards in the comparable periods of fiscal 2005.

3.	INVENTORIES

Inventories consisted of the following:

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Intangible assets, exclusive of goodwill, consisted of the following:

Identifiable intangible assets such as license agreements, patents, and trademarks are recorded at cost, or when acquired as part of a business combination, at estimated fair value. Identifiable intangible assets are amortized based on when they provide the Company with economic benefit, or using the straight-line method, over their estimated useful life of one to twenty years. Amortization expense related to intangible assets at June 30, 2006 is estimated to be $1.5 million annually for each of the five succeeding years.

Accrued liabilities consistedconsist of the following:

Warranty reserve activity for the six months ended June 30, 2006 and 2005 was as follows:

Warranty costs are estimated based on the Company’s experience and are charged to cost of sales as sales are recognized or as such estimates change. Warranty reserve activity for the three months ended March 31, 2006 and 2005 is as follows:

In November 2005, the Company entered into an unsecured credit agreement with two domestic lending institutions. In March 2006, the Company amended its credit facility. The agreement, as amended, provides for a revolving credit facility for a maximum commitment of $65 million, includes revolving loans, letters of credit and swing loans, and matures on November 17, 2010. The credit facility also includes an option for the Company to reduce the amount of maximum commitment from time to time. Under this credit facility, borrowings bear interest based at either the Prime Rate, Federal Funds Effective Rate or Eurodollar rates plus the applicable margin for either Base Rate Loans or Eurodollar Loans based upon the Company’s consolidated leverage ratio. The credit facility has a default rate of two percent in excess of the rate otherwise applicable, and provides for a facility fee at the annual rate equal to the applicable Facility Fee Rate in effect on the payment date and is payable quarterly on the average daily total commitment amount in effect during the quarter. As of June 30, 2006, the borrowing limit under the Revolver was $65 million of which $55.9 million was available. As of June 30, 2006, the interest rate on the outstanding borrowings of $3.4 million was 5.8%. The interest rates ranged between 5.025% and 5.275% on the amount of borrowings outstanding as of December 31, 2005. As of June 30, 2006, the Company had $5.7 million in standby letters of credit with Asian vendors which reduced the balance available under the credit facility.

Under the terms of the credit facility, the Company may use proceeds for working capital and other general corporate purposes, including acquisitions. The terms of the credit facility also allow the use of funds for the repurchase of shares of the Company’s common stock in an aggregate amount not to exceed $30 million until the fixed charge coverage ratio is equal to or greater than 1.20 to 1.00. The credit facility, as amended, contains certain financial and non-financial covenants with which the Company was in compliance as of June 30, 2006.

In 2005, The Company issued a $1.5 million non-interest bearing promissory note ($1.3 million, net of imputed interest) as part of the purchase price of the Belko Canada acquisition. The note is payable in full in May 2008. As of June 30, 2006, the Company reached an agreement with the noteholder to settle the entire amount of the note in fiscal 2006; therefore, the remaining balance of the note was classified as a current liability in the Consolidated Balance Sheets.

As part of the acquisition of Pearl Izumi, the Company became obligated on two non-interest bearing notes of $4.4 million and $0.9 million, net of imputed interest. The $4.4 million note requires payments of $0.3 million in February 2006, and $0.15 million per quarter beginning March 2007 through December 2016. The $0.9 million note requires payments of $0.15 million per quarter beginning September 2005 through December 2006.

Excluding Switzerland, the accounts of our foreign operations are measured using the local currency as the functional currency. These accounts are then translated into U.S. dollars using the current rate method with translation gains and losses accumulated as comprehensive income component of stockholders’ equity. For our Swiss operations, the local currency, the Swiss Franc, is remeasured to the functional currency, the Euro, with the related gains or losses recognized in current period net income.

Comprehensive income, and its components arenet of taxes, was as follows:

Accumulated other comprehensive income at March 31, 2006

For the three and 2005 is due to thesix months ended June 30, 2006, foreign currency translation adjustmentgains amounted to approximately $1.1 and $1.2 million, respectively, and are recorded as part of Other Income in the financial statementsConsolidated Statement of Income. Such amounts were approximately $0.1 in each of the Company’s foreign subsidiaries.comparative periods of fiscal 2005.

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Basic earnings per share is computed on the basis of the weighted average number of common shares outstanding. Diluted earnings per share is computed on the basis of the weighted average number of common shares outstanding plus the effect of outstanding stock options calculated using the treasury stock method. Net income for the calculation of both basic and diluted earnings per share is the same as reported net income for all periods.

The calculation of weighted-average outstanding shares is as follows:

In March 2005, the Company’s Board of Directors authorized the repurchase of up to $100 million of the Company’s common stock in open-market transactions, at times and in such amounts as management deems appropriate, depending on market conditions and other factors. The authorization expires on March 31, 2008, unless extended by the Board of Directors. The repurchase program does not obligate the Company to acquire any specific number of shares or acquire shares over any specified period of time. During 2005, the Company acquired 830,700 shares of common stock at an average price of $18.82 per share for a total cost of $15.6 million. No shares were repurchased during the quarterthree and six months ended March 31,June 30, 2006.

In March 2006,As further discussed in Note 6, the Company signed an amended revolvinghas a credit agreement providing that for the period commencing on January 1, 2006 until such time as the fixed charge coverage ratio shallfacility, proceeds from which may be equal to or greater than 1.20 to 1.00, the Company may only make capital distributionsused for the repurchase of additional shares of the Company’s common stock in an aggregate amount not to exceed $30 million.million until the fixed charge coverage ratio is equal to or greater than 1.20 to 1.00.

GuaranteesLegal Matters – From time to time, the Company arranges for commercial leases or other financing sources to enable certain of its commercial customers to purchase the Company’s equipment. While most of these financings are without recourse, in certain cases the Company provides a guarantee or other recourse provisions to the independent finance company of all or a portion of the lease payments in order to facilitate the sale of the commercial equipment. In such situations, the Company ensures that the transaction between the independent leasing company and the commercial customer represents a

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sales-type lease. The Company monitors the payment status of the lessee under these arrangements and provides a reserve under SFAS No. 5, “Accounting for Contingencies,” in situations when collection of the lease payments is not probable. At March 31, 2006 and 2005, the maximum contingent liability under all recourse and guarantee provisions, including recourse and guarantee provisions was approximately $3.1 million and $4.4 million, respectively. As of March 31, 2006 and 2005, lease terms on outstanding commercial customer financing arrangements was between 3 and 7 years. A reserve for estimated losses under recourse provisions of $247,000 and $75,000 has been recorded based on historical loss experience and is included in accrued expenses at March 31, 2006 and 2005, respectively. In accordance with FASB Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,” the Company has also recorded additional liability and corresponding reduction of revenue of $11,000 and $36,000 for the three months ended March 31, 2006 and 2005, respectively, for the estimated fair value of the Company’s guarantees issued during the period. The fair value of the guarantees was determined based on the estimated risk premium a bank or similar institution would require in order to extend financing to a customer in the absence of a third-party guarantee. This liability is being reduced over the life of each respective guarantee. In most cases if the Company is required to fulfill its obligations under the guarantee, it has the right to repossess the equipment from the commercial customer. It is not practical to estimate the approximate amount of proceeds that would be generated from the sale of these assets in such situations.

The Company has an agreement with a financing company to provide second tier financing for consumers. Under normal circumstances, funding for this reserve comes from a percentage of each sale held back by the financing company. In the event that the financing company experiences higher consumer default rates than specified under our contract, we are required to pay an additional amount to the financing company.

Legal Matters – We are involved in various claims, lawsuits and other proceedings from time to time. Such litigation involves uncertainty as to possible losses we may ultimately realize when one or more future events occur or fail to occur. We accrue and charge to income estimated losses from contingencies when it is probable (at the balance sheet date) that an asset hasa liability had been impaired or liability incurred and the amount of loss can be reasonably estimated. Differences between estimates recorded and actual amounts determined in subsequent periods are treated as changes in accounting estimates (i.e., they are reflected in the financial statements in the period in which they are determined to be losses, with no retroactive restatement).estimates. The Company estimates the probability of losses on legal contingencies based on the advice of internal and external counsel, the outcomes from similar litigation, the status of the lawsuits (including settlement initiatives), legislative developments, and other factors. Due to the numerous variables associated with these

judgments and assumptions, both the precision and reliability of the resulting estimates of the related loss contingencies are subject to substantial uncertainties. We regularly monitor our estimated exposure to these contingencies and, as additional information becomes known, may change our estimates significantly. A significant change in our estimates, or a result that materially differs from our estimates, could have a significant impact on our financial position, results of operations and cash flows.

In November 2005, the Company proceeded to trial in Salt Lake City, Utah in a case filed by ICON Health & Fitness, Inc. (“ICON”) claiming false advertising involving the Company’s advertising and promotion going back to 1987 for certain elements of its Bowflex home gyms and claiming trademark infringement for the name placed on a treadmill belt sold in 2002. On November 15, 2005, the jury returned a verdict in favor of ICON in the amount of $7.8 million which the Court subsequently increased to $8.1 million. By an order dated April 3,21, 2006, the Court refused to modify the amount of the jury verdict. The Company has filed a notice of appeal of this judgment and has posted the necessary bond with the Court for the appeal. The Company, based on discussion with its legal counsel, believes the verdict is inconsistent with the law and the evidence presented at trial andtrial. Further, the Company believes that the evidence does not support the damage award and thatthus the likelihood of loss is neither probable nor is the amount of potential loss estimable. Thus,Therefore, no accrual has been recorded by the

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Company has not accrued any material amounts for this case. The Company will continue to vigorously contest this verdict and will appeal to the appropriate federal circuit court. Company.

In December 2002, the Company filed suit against ICON in the Federal District Court, Western District of Washington (the “District Court”) alleging infringement by ICON of the Company’s Bowflex patents and trademarks. The Company sought injunctive relief, monetary damages and its fees and costs. In October 2003, the District Court dismissed the patent infringement claims. The Company appealed the District Court’s decision to the United States Court of Appeals for the Federal Circuit (the “Appeals Court”) and in November 2003, the Appeals Court overruled the District Court and reinstated the patent infringement claims. In May 2005, the District Court again dismissed the patent infringement case against ICON. The Company has appealed this case to the Appeals Court, which has previously ruled in favor of the Company in two separate appeals on this matter.

In July 2003, the District Court ruled in favor of the Company on a motion for preliminary injunction on the issue of trademark infringement and entered an order barring ICON from using the trademark “CrossBow” on any exercise equipment. In its ruling, the District Court concluded that the Company showed “a probability of success on the merits and irreparable injury” on its trademark infringement claim. In August 2003, the Appeals Court granted ICON a temporary stay regarding the motion for a preliminary injunction, which enjoined ICON from using the trademark “CrossBow.” This stay allowed ICON to continue using the trademark “CrossBow” until a decision was issued by the Appeals Court. In June 2004, the Appeals Court issued its decision upholding the issuance of an injunction and preventing ICON from selling exercise equipment using the trademark “CrossBow” pending trial on the trademark issue. A trial date has been set for October 2006 in the District Court on this claim.

There have been no other significant subsequent developments relating to the commitments and contingencies reported in the Company's most recent Annual Report on Form 10-K.

In addition to the matters described above, from time to time the Company is subject to litigation, claims and assessments that arise in the ordinary course of business, including disputes that may arise from intellectual property related matters. Many of our legal matters are covered in whole or in part by insurance. Management believes that any liability resulting from such matters will not have a material adverse effect on the Company’s financial position, results of operations, or cash flows.

Guarantees

From time to time, the Company arranges for commercial leases or other financing sources with third parties to enable certain of its commercial customers to purchase the Company’s commercial products. While most of these financing arrangements are without recourse, in certain cases the Company provides a guarantee or other recourse provisions to the independent finance company of all or a portion of the lease payments in order to facilitate the sale of the commercial products. In such situations, the Company ensures that the transaction between the independent leasing company and the commercial customer represents a sales-type lease. The Company monitors the payment status of the lessee under these arrangements and provides a reserve under SFAS No. 5,Accounting for Contingencies, in situations when collection of the lease payments is not probable. At June 30, 2006 and December 31, 2005, the maximum contingent liability under all recourse and guarantee provisions was approximately $3.1 million and $4.1 million, respectively. At June 30, 2006, lease terms on outstanding commercial customer financing arrangements were between 3 and 7 years. A reserve for estimated losses under recourse provisions of approximately $247,000 and $70,000 was recorded based on historical loss experience and is included in accrued expenses at June 30, 2006 and December 31, 2005, respectively. In accordance with FASB Interpretation No. 45,Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, the Company has also recorded a liability and corresponding reduction of revenue for the estimated fair value of the Company’s guarantees issued during those periods. The fair value of the guarantees was determined based on the estimated risk premium a bank or similar institution would require in order to extend financing to a customer in the absence of a third-party guarantee. This liability is being reduced over the life of each respective guarantee. In most cases if the Company is required to fulfill its obligations under the guarantee, it has the right to repossess the

products from the commercial customer. It is not practical to estimate the approximate amount of proceeds that would be generated from the sale of these assets in such situations.

The Company has an agreement with a financing company to provide second tier financing for consumers. Under normal circumstances, funding for this reserve comes from a percentage of each sale held back by the financing company. In the event that the financing company experiences higher consumer default rates than specified under our contract, the Company will be required to pay an additional amount to the financing company. As of June 30, 2006, we have accrued approximately $286,000 for this liability.

As of June 30, 2006, the Company also had approximately $5.7 million in outstanding commercial letters of credit expiring between December 2006 and January 2007.

In early 2006,The Company’s operating segments are evidence of the Company reorganized its leadership structure of the Company's internal organization and are organized to allow vertical teams to focus on specific business opportunities in the Company’s worldwide market place. The Company’s chief executive officer appointed a president to each business segment to be responsible for the growth and development of that business segment. The Company identified three business segments as follows:

The Fitness Equipment Business is responsible for the design, production, marketing and selling of branded health and fitness equipment sold under the Nautilus, Bowflex, Schwinn Fitness and Stairmaster brand names. The Fitness Equipment Business is responsible for servicing customers within the Americas, which includes the United States, Mexico, Canada and South America.

The International Equipment Business is responsible for the marketing and selling of branded health and fitness equipment sold under the Nautilus, Bowflex, Schwinn Fitness and Stairmaster brand names. The International Equipment Business is responsible for servicing customers outside of the Americas.

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The Fitness Apparel Business is responsible for the design, production, marketing and selling of branded healthfitness apparel, footwear and fitness apparelaccessory products sold primarily under the Pearl Izumi brand.brand in both domestic and international markets.

The three business segments are supported by teams that provide services to support the entire entity including finance and reporting, information technology, legal, human resources, research and development as well as other centralized functions. Management does not allocate expenses from the centralized functions to the business segments. As a result, the business segments operating results are reviewed based on revenue and gross profit.

RevenuesNet sales from external customers for the Company’s consolidated operations arewere as follows:

Gross profitsprofit from external customers for the Company’s consolidated operations arewas as follows:

Assets from the Company’s three operating segments were as follows:

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FORWARD-LOOKING STATEMENTS

Certain statements contained in this Form 10-Q, including, without limitation, statements containing the words “could,” “may,” “will,” “should,” “plan,” “believes,” “anticipates,” “estimates,” “predicts,” “expects,” “projections,” “potential,” “continue,” and words of similar import, constitute “forward-looking statements.” Investors are cautioned that all forward-looking statements involve risks and uncertainties, and various factors could cause actual results to differ materially from those in the forward-looking statements. From time to time and in this Form 10-Q, we may make forward-looking statements relating to our financial performance, including the following:

Numerous factors could affect our actual results, including the following:

We describe certain of these and other key risk factors elsewhere in more detail in this Form 10-Q and in our most recent Annual Report on Form 10-K. Although we believe the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, or achievements. Except to the extent required by the federal securities laws, we undertake no obligation to update publicly any forward-looking statements to reflect new information, events, or circumstances after the date of this Form 10-Q or to reflect the occurrence of unanticipated events.

EXECUTIVE OVERVIEW

Nautilus, Inc. (the “Company”) is a leading marketer, developerThis Management’s Discussion and manufacturerAnalysis of branded healthFinancial Condition and fitness products sold under such well-known names as Nautilus, Bowflex, Schwinn Fitness, StairMaster, Trimline and Pearl Izumi. Our products are distributed through diversified direct, retail and commercial sales channels, both domestically and internationally. We market and sell a varietyResults of branded products that are

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targeted at specific locations where people shop or exercise. Nautilus, StairMaster and Pearl Izumi brands are most commonly marketed through the commercial and high-end speciality retail markets, while the Bowflex and Schwinn Fitness branded products are marketed primarily through retail and direct sales channels. Our product marketing includes direct response marketing utilizing a combination of television commercials, infomercials, response mailings, the Internet, catalog, and inbound/outbound call centers. It also includes a sales force and dealer network marketing to retail organizations, health clubs, government agencies, hotels, corporate fitness centers, colleges, universities and assisted living facilities worldwide.

First Quarter 2006 Results

Net sales for the quarter were $185.0 million, compared to $156.4 million in the same quarter of 2005, an increase of 18.3%. Gross profit margins decreased to 42.9% in the first quarter of 2006 compared to 49.1% in the first quarter of 2005, as a result of changes in product mix, increased costs for distribution and transportation as well as increased manufacturing costs related to new products. These factors led to lower operating income in the first quarter of $8.7 million or 4.7% of net sales compared to $14.1 million or 9.0% of net sales in the first quarter of 2005. Diluted earnings per share for the quarter were 16 cents, compared to 28 cents a year ago. The Company recorded stock compensation expenses during the first quarter of 2006 totaling $0.7 million. The comparative diluted earnings per share for the prior period, taking stock compensation into account is 26 cents per share.

RESULTS OF OPERATIONS

This Operations (“MD&A&A”) should be read in conjunction with our Interim Consolidated Financial Statements and related notes included elsewhere in this report.report as well as with the MD&A in our most recent Annual Report on Form 10-K. We believe that period-to-period comparisons of our operating results are not necessarily indicative of future performance. You should consider our prospects in light of the risks, expenses and difficulties frequently encountered by companies that operate in evolving markets. We may not be able to successfully address these risks and difficulties and, consequently, we cannot assure you of any future growth or profitability.

OVERVIEW

Nautilus, Inc. (“we,” “us,” “our” or “Company”) is a leading marketer, developer and manufacturer of branded health and fitness products sold under well-known names such as Nautilus, Bowflex, Schwinn Fitness, StairMaster and Pearl Izumi. Our products are distributed through diversified direct, retail and commercial sales channels, both domestically and internationally. We describe certainmarket and sell a variety of thesebranded products that are targeted at specific locations where people shop or exercise. Nautilus, StairMaster and other key riskPearl Izumi brands are most commonly marketed through the commercial and high-end specialty retail markets, while the Bowflex and Schwinn Fitness branded products are marketed primarily through retail and direct sales channels. Our product marketing includes direct response marketing utilizing a combination of television commercials, infomercials, response mailings, the Internet, catalog, and inbound/outbound call centers to sell our products directly to customers. It also includes a sales force and dealer

network marketing to retail organizations, health clubs, government agencies, hotels, corporate fitness centers, colleges, universities and assisted living facilities worldwide.

Summary of the Second Quarter 2006 Results

Net sales for the second quarter of 2006 were $137.6 million, compared to $129.6 million in the same quarter of 2005, an increase of 6.2%. Gross profit margins decreased to 44.0% in the second quarter of 2006 compared to 44.8% in the same quarter of 2005, as a result of changes in product and channel mix and increased costs for distribution and transportation. These factors elsewhereled to lower quarterly operating income of $1.6 million or 1.2% of net sales compared to $3.8 million or 2.9% of net sales in more detailthe second quarter of 2005. Diluted earnings per share for the quarter were 5 cents, compared to 10 cents a year ago. The Company recorded stock compensation expenses totaling $0.7 million and zero during the second quarter of 2006 and 2005, respectively.

CRITICAL ACCOUNTING ESTIMATES AND ASSUMPTIONS

The preparation of financial statements in this Form 10-Qconformity with U.S. GAAP requires estimates and assumptions that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities in the consolidated financial statements. As described by the Securities and Exchange Commission, critical accounting estimates and assumptions are those that may be material due to the levels of subjectivity and judgment necessary to account for highly uncertain matters or the susceptibility of such matters to change, and that have a material impact on the financial condition or operating performance of the company. There were no changes to our critical accounting estimates and assumptions in the three and six month periods ended June 30, 2006. Refer to our most recent Annual Report on Form 10-K.10-K for a complete description of our critical accounting estimates and assumptions.

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STATEMENTRESULTS OF OPERATIONS DATA –FOR THE THREE MONTHS ENDED MARCH 31JUNE 30, 2005 AND 2006

The following tables present certain consolidated financial data as a percentage of net sales and statement of operationsincome data comparing results for the first quarter ofthree months ended 2006 and 2005:

Statement of Income Data

(In Thousands)

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COMPARISON OF THE QUARTERS ENDED MARCH 31, 2006 AND 2005

Net Sales

Net sales were $185.0$137.6 million in the firstsecond quarter of 2006 compared to $156.4$129.6 million in the first quartersame period of 2005, an increase of $28.6$8.0 million or 18.3%6.2%. The increase is primarily attributable to the acquisition of the Fitness Apparel Business in the third quarter of 2005.2005, offset by an $8.8 million decrease in sales of the Fitness Equipment Business.

Fitness Equipment Business

Total net sales for the Fitness Equipment Business were $108.9 million in the second quarter of 2006 compared to $117.6 million in the same period of 2005, a decrease of $8.8 million or 7.5%. The decrease is primarily attributable to sales declines from the direct channel as discussed below.

Net sales from the commercial channel were $18.0$16.2 million in the firstsecond quarter of 2006 compared to $17.2$17.7 million in the first quartersame period of 2005, an increasea decrease of $0.8$1.5 million or approximately 4.5%8.5%. Commercial sales which include sales to health clubs, hotels and living complexes, represented approximately 11.8%14.9% of our total net sales in the quarter.current quarter compared to 15.1% in the same period of 2005. The increasedecrease in net sales is attributableprimarily due to new and innovative products being offeredthe commercial grade TreadClimber which had higher sales in the second quarter of 2005 as a newly launched product than in the second quarter of 2006 when the product was reintroduced to the market place.with enhanced components to improve quality.