UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 2001
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.)
6105 TRENTON LANE NORTH
MINNEAPOLIS, MINNESOTA 55442
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (763) 551-7000
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 [ ]
As of March 31, 2001, 18,055,633 shares of Common Stock of the Registrant were
outstanding.
SELECT COMFORT CORPORATION
AND SUBSIDIARIES
INDEX
Page No.
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PART I: FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
March 31, 2001 and December 30, 2000................................ 3
Consolidated Statements of Operations
for the Three Months ended March 31, 2001
and April 1, 2000................................................... 4
Consolidated Statements of Cash Flows
for the Three Months ended March 31, 2001
and April 1, 2000................................................... 5
Notes to Consolidated Financial Statements.......................... 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations....................... 8
Item 3. Quantitative and Qualitative Disclosures about Market Risk.......... 13
PART II: OTHER INFORMATION
Item 1. Legal Proceedings................................................. 14
Item 2. Changes in Securities and Use of Proceeds......................... 14
Item 3. Defaults Upon Senior Securities................................... 14
Item 4. Submission of Matters to a Vote of Security Holders............... 14
Item 5. Other Information................................................. 15
Item 6. Exhibits and Reports on Form 8-K.................................. 15
PART I: FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SELECT COMFORT CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(UNAUDITED)
MARCH 31, DECEMBER 30,
ASSETS 2001 2000
------------- -------------
Current assets:
Cash and cash equivalents $ 4,532 $ 1,498
Marketable securities - 3,950
Accounts receivable, net of allowance for doubtful
accounts of $283, and $264, respectively 1,376 2,693
Inventories (note 2) 9,701 11,083
Prepaid expenses 5,343 4,741
------------- -------------
Total current assets 20,952 23,965
Property and equipment, net 35,609 37,063
Other assets 3,685 3,644
------------- -------------
Total assets $ 60,246 $ 64,672
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current maturities of long-term debt $ 38 $ 38
Accounts payable 21,993 17,271
Accruals:
Sales returns 4,887 5,284
Warranty costs 7,368 7,181
Compensation, taxes and benefits 6,501 6,238
Other 6,407 6,129
------------- -------------
Total current liabilities 47,194 42,141
Long-term debt, less current maturities 2,409 2,322
Other liabilities 3,774 3,609
------------- -------------
Total liabilities 53,377 48,072
------------- -------------
Shareholders' equity:
Undesignated preferred stock; 5,000,000 shares authorized,
no shares issued and outstanding - -
Common stock, $.01 par value; 95,000,000 shares authorized,
18,055,633 and 17,962,689 shares issued and outstanding, 181 180
respectively
Additional paid-in capital 79,548 79,452
Accumulated deficit (72,860) (63,032)
------------- -------------
Total shareholders' equity 6,869 16,600
------------- -------------
Total liabilities and shareholders' equity $ 60,246 $ 64,672
============= =============
See accompanying notes to consolidated financial statements.
3
SELECT COMFORT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED
-----------------------
MARCH 31, APRIL 1,
2001 2000
---------- ----------
Net sales $ 65,456 $ 76,159
Cost of sales 23,611 27,146
---------- ----------
Gross margin 41,845 49,013
---------- ----------
Operating expenses:
Sales and marketing 44,174 45,273
General and administrative 7,013 8,520
Store closings/asset impairments 346 -
---------- ----------
Total operating expenses 51,533 53,793
---------- ----------
Operating loss (9,688) (4,780)
---------- ----------
Other income (expense):
Interest income 75 375
Interest expense (98) (2)
Equity in loss of affiliate - (182)
Other, net (2) (43)
---------- ----------
Other income (expense), net (25) 148
---------- ----------
Loss before income taxes (9,713) (4,632)
Income tax expense (benefit) 115 (1,634)
---------- ----------
Net loss $ (9,828) $ (2,998)
========== ==========
Net loss per share (note 3) - basic and diluted $ (0.54) $ (0.17)
========== ==========
Weighted average shares - basic and diluted 18,056 17,753
========== ==========
See accompanying notes to consolidated financial statements.
4
SELECT COMFORT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
THREE MONTHS ENDED
------------------------
MARCH 31, APRIL 1,
2001 2000
----------- -----------
Cash flows from operating activities:
Net loss $(9,828) $(2,998)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation and amortization 2,484 2,046
Loss on disposal of assets 347 69
Deferred tax assets - (1,667)
Change in operating assets and liabilities:
Accounts receivable, net 1,411 444
Inventories 1,382 (317)
Prepaid expenses (602) 128
Income taxes - 2,188
Accounts payable 4,722 523
Accrued sales returns (397) 550
Accrued warranty costs 187 859
Accrued compensation, taxes and benefits 263 (69)
Other accrued liabilities 278 194
Other assets (120) 190
Other liabilities 165 345
----------- -----------
Net cash provided by operating activities 292 2,485
----------- -----------
Cash flows from investing activities:
Purchases of property and equipment (1,296) (3,467)
Sales of (investment in) marketable securities 3,950 (1,983)
----------- -----------
Net cash provided by (used in) investing activities 2,654 (5,450)
----------- -----------
Cash flows from financing activities:
Principal payments on debt (9) (32)
Proceeds from issuance of common stock 97 248
----------- -----------
Net cash provided by financing activities 88 216
----------- -----------
Increase (decrease) in cash and cash equivalents 3,034 (2,749)
Cash and cash equivalents, at beginning of period 1,498 7,441
----------- -----------
Cash and cash equivalents, at end of period $ 4,532 $ 4,692
=========== ===========
See accompanying notes to consolidated financial statements.
5
SELECT COMFORT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) BASIS OF FINANCIAL STATEMENT PRESENTATION
The consolidated financial statements for the three months ended March 31, 2001
and April 1, 2000 of Select Comfort Corporation and subsidiaries ("Select
Comfort" or the "Company"), have been prepared by the Company, without audit,
pursuant to the rules and regulations of the Securities and Exchange Commission
and reflect, in the opinion of management, all normal recurring adjustments
necessary to present fairly the financial position of the Company as of March
31, 2001 and December 30, 2000 and the results of operations and cash flow for
the periods presented.
The consolidated financial statements have been prepared on a going-concern
basis, which contemplates the realization of assets and the satisfaction of
liabilities and other commitments in the normal course of business. These
financial statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or the amounts and
classification of liabilities that might be necessary if the Company is unable
to continue as a going concern. The Company's continuation as a going concern is
dependent, among other things, upon obtaining positive cash flow from operations
or upon its ability to raise additional working capital.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with accounting principles generally accepted
in the United States of America have been condensed or omitted pursuant to such
rules and regulations, although management believes the disclosures are adequate
to make the information presented not misleading. These consolidated financial
statements should be read in conjunction with the Company's most recent audited
consolidated financial statements and related notes included in the Company's
Annual Report to Shareholders and its Form 10-K for the fiscal year ended
December 30, 2000. Operating results for the Company on a quarterly basis may
not be indicative of operating results for the full year.
(2) INVENTORIES
Inventories consist of the following (in thousands):
MARCH 31, DECEMBER 30,
2001 2000
------------- -------------
Raw materials $4,693 $ 5,507
Work in progress 46 60
Finished goods 4,962 5,516
------------- -------------
$9,701 $11,083
============= =============
(3) NET LOSS PER COMMON SHARE
The following computations reconcile net loss with net loss per common
share-basic and diluted (in thousands, except per share amounts).
NET PER SHARE
THREE MONTHS ENDED MARCH 31, 2001 LOSS SHARES AMOUNT
--------------------------------- ----------- ----------- ------------
Net loss $(9,828)
-----------
BASIC AND DILUTED EPS
Net loss attributable to common shareholders $(9,828) 18,056 $(0.54)
=========== =========== =============
NET PER SHARE
THREE MONTHS ENDED APRIL 1, 2000 LOSS SHARES AMOUNT
-------------------------------- ----------- ----------- ------------
Net loss $(2,998)
-----------
BASIC AND DILUTED EPS
Net loss attributable to common shareholders $(2,998) 17,753 $(0.17)
=========== =========== =============
6
SELECT COMFORT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(4) LITIGATION
The Company and certain of its former officers and directors have been named as
defendants in a class action lawsuit filed on June 1, 1999, on behalf of Company
shareholders in U.S. District Court in Minnesota. The named plaintiffs, who
purport to act on behalf of a class of purchasers of the Company's common stock
during the period from December 4, 1998 to June 7, 1999, charge the defendants
with violations of federal securities laws. The suit alleges that the Company
and the named directors and officers failed to disclose or misrepresented
certain information concerning the Company during the class period. The
complaint does not specify an amount of damages claimed. The Company believes
that the complaint is without merit and intends to vigorously defend the claims.
The Company and the individual defendants brought a motion to dismiss all claims
on November 10, 1999. The motion was heard by a magistrate judge on December 21,
1999. On January 27, 2000, the magistrate recommended that the claims based on
Section 11 of the federal securities laws be dismissed. The magistrate
recommended that the motion to dismiss be denied with respect to the claims
based on Rule 10b-5 of the federal securities laws. In February 2000, both the
plaintiffs and the defendants formally objected to the magistrate's
recommendation. The objection was made to the United States District Court in
Minnesota. On May 12, 2000, the United States District Court in Minnesota
adopted the recommendation of the magistrate and denied the defendants' motion
to dismiss the Rule 10b-5 claims. The Court also adopted the recommendation of
the magistrate and dismissed the plaintiff's Section 11 claims without prejudice
and with leave to amend.
On March 31, 2000, the Company and certain of its former officers and directors
were named as defendants in a class action lawsuit filed on behalf of the
Company's shareholders in U.S. District Court in Minnesota asserting identical
factual allegations as the consolidated complaint described above. The suit
alleges claims based on Sections 11 and 12(a)(2) of the federal securities laws.
The complaint does not specify an amount of damages claimed. The Company
believes this complaint is without merit and intends to vigorously defend the
claims. The above two class actions were consolidated by the United States
District Court Magistrate on July 24, 2000.
On January 30, 2001, the plaintiffs made a motion to certify a class. The class
certification motion is pending. Discovery relative to this motion has begun.
The Company is a party to other various claims, legal actions, sales tax
disputes, and other complaints arising in the ordinary course of business. In
the opinion of management, any losses that may occur from these other matters
are adequately covered by insurance or are provided for in the consolidated
financial statements and the ultimate outcome of these other matters will not
have a material effect on the consolidated financial position or results of
operations of the Company.
7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THE FOLLOWING DISCUSSION AND ANALYSIS SHOULD BE READ IN CONJUNCTION WITH THE
CONSOLIDATED FINANCIAL STATEMENTS AND THE NOTES THERETO INCLUDED HEREIN. THIS
QUARTERLY REPORT ON FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE
MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. YOU CAN
IDENTIFY FORWARD-LOOKING STATEMENTS BY THOSE THAT ARE NOT HISTORICAL IN NATURE,
PARTICULARLY THOSE THAT USE TERMINOLOGY SUCH AS "MAY," "WILL," "SHOULD,"
"EXPECTS," "ANTICIPATES," "CONTEMPLATES," "ESTIMATES," "BELIEVES," "PLANS,"
"PROJECTED," "PREDICTS," "POTENTIAL" OR "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 THE COMPANY'S
HISTORICAL EXPERIENCE AND ITS PRESENT EXPECTATIONS OR PROJECTIONS. IMPORTANT
FACTORS KNOWN TO SELECT COMFORT THAT COULD CAUSE SUCH MATERIAL DIFFERENCES ARE
IDENTIFIED AND DISCUSSED IN PART I, ITEM 1 OF OUR ANNUAL REPORT ON FORM 10-K FOR
THE FISCAL YEAR ENDED DECEMBER 30, 2000, WHICH DISCUSSION IS INCORPORATED HEREIN
BY REFERENCE. THESE IMPORTANT FACTORS INCLUDE:
o OUR ABILITY TO SECURE DEBT OR EQUITY FINANCING TO SUPPORT WORKING CAPITAL
NEEDS AND GROWTH INITIATIVES;
o OUR ABILITY TO SUCCESSFULLY EXECUTE OUR STRATEGIC INITIATIVES;
o THE EFFICIENCY AND EFFECTIVENESS OF OUR SLEEP NUMBER CAMPAIGN AND OTHER
MARKETING PROGRAMS IN BUILDING PRODUCT AND BRAND AWARENESS, DRIVING TRAFFIC
TO OUR POINTS OF SALE AND IN INCREASING SALES;
o THE LEVEL OF CONSUMER ACCEPTANCE OF OUR PRODUCTS;
o OUR ABILITY TO FULLY EXECUTE AND REALIZE THE BENEFITS OF OUR COST SAVINGS
INITIATIVES;
o OUR ABILITY TO COST-EFFECTIVELY SELL OUR PRODUCTS THROUGH WHOLESALE OR
ALTERNATIVE DISTRIBUTION CHANNELS IN VOLUMES SUFFICIENT TO DRIVE GROWTH AND
LEVERAGE OUR COST STRUCTURE AND ADVERTISING SPENDING;
o OUR ABILITY TO CONTINUOUSLY IMPROVE OUR PRODUCTS TO ACHIEVE NEW AND
ENHANCED CONSUMER BENEFITS, BETTER QUALITY AND REDUCED COSTS;
o OUR ABILITY TO REALIZE INCREASED SALES AND GREATER LEVELS OF PROFITABILITY
THROUGH OUR RETAIL STORES;
o OUR ABILITY TO COST-EFFECTIVELY CLOSE ADDITIONAL UNDERPERFORMING OR
UNPROFITABLE STORE LOCATIONS, OR TO NEGOTIATE RENT CONCESSIONS;
o OUR ABILITY TO HIRE, TRAIN, MANAGE AND RETAIN QUALIFIED RETAIL STORE
MANAGEMENT AND SALES PROFESSIONALS;
o OUR ABILITY TO MAINTAIN COST-EFFECTIVE PRODUCTION AND DELIVERY OF OUR
PRODUCTS;
o OUR ABILITY TO SUCCESSFULLY EXPAND OUR HOME DELIVERY, ASSEMBLY AND MATTRESS
REMOVAL CAPABILITY ON A COST-EFFECTIVE BASIS, AND THE ABILITY OF VARIOUS
THIRD-PARTY PROVIDERS OF DELIVERY, ASSEMBLY AND MATTRESS REMOVAL SERVICES
TO PROVIDE QUALITY SERVICES ON A COST-EFFECTIVE BASIS;
o OUR ABILITY TO SUCCESSFULLY IDENTIFY AND RESPOND TO EMERGING TRENDS IN THE
MATTRESS INDUSTRY;
o THE LEVEL OF COMPETITION IN THE MATTRESS INDUSTRY; AND
o GENERAL ECONOMIC CONDITIONS AND CONSUMER CONFIDENCE.
OVERVIEW
Select Comfort is the leading manufacturer, specialty retailer and direct
marketer of premium quality innovative adjustable-firmness beds and
sleep-related products. Since the introduction of our first air bed product in
1987, we have focused on improving our product, expanding our product line,
building manufacturing and distribution systems and growing our three
distribution channels: retail, direct marketing and e-commerce. Vertically
integrated operations and control over these complementary distribution channels
gives us direct contact with our customers and gives our customers multiple
opportunities to purchase our products. Sales generation is driven primarily by
targeted print, radio, television, and internet media that generate customer
inquiries, as well as by our retail store and internet presence.
Retail operations included 326 stores at March 31, 2001, including 24 leased
departments within larger stores, and 333 stores at December 30, 2000, including
25 leased departments. We have opened two retail stores during 2001 and plan to
open approximately 11 additional retail stores during the remainder of 2001.
During 2000 we closed 27 stores. In the first quarter of 2001 we closed nine
stores and plan to close approximately five additional underperforming retail
stores throughout the balance of 2001. The majority of the costs associated with
these closings were accrued in 2000.
Comparable store sales growth for the three months ended March 31, 2001 and
April 1, 2000 was (6.5)% and 0.2%, respectively. Comparable store sales results
have been and will continue to be influenced by a variety of factors, including
levels of consumer awareness of our products, brand name and store locations,
levels of consumer
8
acceptance of our existing and new products, higher levels of sales in the first
year of operations as each successive class of new stores is opened, comparable
store sales performance in prior periods, the maturation of our store base, the
amount, timing and relative success of promotional events, advertising
expenditures, new product introductions and product line extensions, the quality
and tenure of store-level managers and sales professionals, the amount of
competitive activity, the evolution of store operations, changes in the sales
mix between our distribution channels, and general economic conditions and
consumer confidence.
Advertising expenditures were $33.4 million, $43.4 million and $31.6 million in
2000, 1999 and 1998, respectively. Advertising costs are expensed as incurred as
a component of sales and marketing expenses, although we believe that
advertising expenditures provide significant benefits beyond the period in which
they are expensed. Future advertising expenditures will depend on the
effectiveness and efficiency of the advertising in creating awareness of our
products and brand name, generating consumer inquiries and driving consumer
traffic to retail stores. We anticipate that advertising spend levels in 2001
will approximate those of 2000. Pre-opening costs associated with new retail
stores are also expensed as incurred.
We believe historical operating losses have been primarily the result of an
aggressive retail store opening strategy, a relatively immature store base,
significant marketing, advertising and product development expenditures, and the
development of a substantial corporate infrastructure to support future growth.
Future increases in net sales and the achievement of long-term profitability
will depend upon greater consumer awareness and acceptance of our
adjustable-firmness bed products, improved effectiveness and efficiency of our
marketing and advertising expenditures, the opening and successful performance
of new points of distribution, improvement in the performance of current stores
and our ability to realize the benefits of our cost saving initiatives. There
can be no assurance that we will be able to achieve or sustain historical sales
growth rates, or to achieve profitability in the future, on a quarterly or
annual basis.
Quarterly and annual operating results may fluctuate significantly as a result
of a variety of factors, including increases or decreases in comparable store
sales, the timing, amount and effectiveness of advertising expenditures, any
changes in return rates, the timing of new store openings and related expenses,
competitive factors, net sales contributed by new stores, any disruptions in
third-party delivery services and general economic conditions and consumer
confidence. Our business is also subject to some seasonal influences, with lower
seasonal sales in the second quarter and heavier concentrations of sales during
the fourth quarter holiday season due to increased mall traffic.
A substantial portion of operating expenses is related to sales and marketing
expenses, including costs associated with opening new stores, operating existing
stores and advertising expenditures. The level of such spending cannot be
adjusted quickly and is based, in significant part, on expectations of future
customer inquiries and net sales. Furthermore, a substantial portion of net
sales is often realized in the last month of a quarter with such net sales
frequently concentrated in the last weeks or days of a quarter, due in part to
our promotional schedule. Should the Company experience a shortfall in expected
net sales or in the conversion rate of customer inquiries, we may be unable to
adjust spending in a timely manner and our business, financial condition and
operating results may be materially adversely affected. Our historical results
of operations may not be indicative of the results that may be achieved for any
future fiscal period.
At March 31, 2001, we had net operating loss carryforwards ("NOLs") for federal
income tax purposes of approximately $41.3 million expiring between the years
2003 and 2021. We expect that approximately $1.4 million of these NOLs will
expire unutilized due to an Internal Revenue Code (IRC) Section 382 limitation
resulting from a prior ownership change.
9
FIRST QUARTER RESULTS
Net sales during the first quarter of 2001 were $65.5 million, or 14.1% lower
than the prior year. Lower sales volumes were due primarily to two factors:
o Slowing economic conditions reflected in consumer confidence measures and
lower volumes of mall traffic.
o Our lower levels of advertising spend entering 2001 as compared to 2000.
Advertising during 2000 totaled $33.4 million, or 23% lower than 1999.
Net loss from operations for the first quarter of 2001 totaled $9.7 million as
compared to a net loss from operations of $4.8 million for the first quarter of
2000. Profitability levels have been impacted by the following factors:
o Lower sales volumes.
o Increased advertising in February and March. Our direct marketing
advertising spend levels are higher in the first quarter to take advantage
of more favorable rates and higher response levels. In addition, we began
our new Sleep Number(R) marketing campaign during the first quarter,
targeted toward a broader retail store customer base. Neither of these
efforts have immediate impact on sales volumes.
o Productivity gains. We have experienced overall improvements in our cost
structure which have partially offset the effect of lower sales volumes and
higher first quarter advertising.
LOOKING FORWARD
We remain committed to returning to profitability by year end 2001. Our
strategies focus on the following:
o Rightsizing our cost structure,
o Building consumer awareness,
o Expanding profitable distribution, and
o Improving product quality, innovation and service levels.
We have implemented initiatives to bring our cost structure in line with our
sales volumes with the ultimate objective of making our core bed business
profitable at 2000 sales volumes and to enable funding of awareness building
marketing programs. To date we have identified fixed and variable cost
reductions totaling $35 million, reducing our sales breakeven point by 17%.
Through the first quarter of 2001 we were on track with substantially all cost
savings initiatives. In addition, we have begun to advertise at levels
consistent with the prior year. We believe this increased advertising support
will result in stronger comparisons of year over year sales. Execution of our
strategies during the first and second quarters include the following:
RIGHTSIZING OUR COST STRUCTURE. The economic slowdown in the fourth quarter of
2000 and first quarter of 2001 has required that we further reduce costs to meet
our profitability objectives. These further reductions included ceasing
manufacturing in our Minneapolis, Minnesota plant and further reducing our
corporate staff in April 2001. We reduced our workforce by 76 positions as a
result of these actions. In addition, during the second quarter we launched a
direct marketing outlet for the sale of refurbished products from product
returns, which had previously been discarded.
BUILDING AWARENESS. Initiatives to increase consumer awareness include:
o Sleep Number(R) Campaign. During the first quarter we rolled out our new
Sleep Number advertising campaign to 8 markets, covering 50 stores that,
during 2000, represented 22% of retail sales. The campaign is designed to
increase product and store awareness and drive increased traffic to our
stores by focusing on our unique product benefits. We utilize prime-time TV
and drive-time radio as we attempt to broaden our product appeal to an
expanded target audience.
o Integrated Marketing. As we continue to strive for common messages across
our sales distribution channels, we have integrated the Sleep Number
advertising into our direct marketing efforts. We have developed a new
infomercial incorporating the Sleep Number messages, which will begin
airing in the second quarter. Our national radio personalities (Rush
Limbaugh and Paul Harvey) will be incorporating Sleep Number messages as
well during the second quarter. Store signage and fulfillment materials
have been revised to support the Sleep Number brand.
10
EXPANDING PROFITABLE DISTRIBUTION. An important element of our growth strategy
is to increase opportunities for consumers to become aware of and purchase our
products.
o Expansion of Wholesale Distribution. During the second quarter of 2001 we
will expand our existing wholesale relationship with Gabberts, a leading
home furnishings retailer, from a single store in Minneapolis, to two
additional stores in the Dallas metropolitan area. We are evaluating other
wholesale opportunities and anticipate a limited rollout of wholesale sales
into one or more selected markets during 2001.
o QVC Home Shopping Channel. We continue to expand our relationship with QVC.
During the first quarter of 2001 we successfully completed two QVC shows.
During the second quarter we anticipate two additional shows at increased
sales volumes.
INNOVATION AND CONTINUOUS PRODUCT LINE AND SERVICE LEVEL IMPROVEMENT. We believe
that our future success will depend in part on our ability to continue to lead
the mattress industry in innovation and to continue to improve our product line
and service levels.
We have taken initial steps toward providing in-home delivery, assembly and
mattress removal. To date, in-home delivery and assembly has been provided
through our retail channel and is currently utilized in approximately 12% of our
sales. We began testing mattress removal during the fourth quarter of 2000 and
expect to offer this service in additional markets in 2001.
During the first quarter we upgraded the mattress appearance of our entry
models. We will upgrade our accessory product line early in the second quarter.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the Company's results
of operations expressed as percentages of net sales. Percentage amounts may not
total due to rounding.
THREE MONTHS ENDED
-----------------------
MARCH 31, APRIL 1,
2001 2000
----------- -----------
Net sales 100.0% 100.0%
Cost of sales 36.1 35.6
----------- -----------
Gross margin 63.9 64.4
----------- -----------
Operating expenses:
Sales and marketing 67.5 59.4
General and administrative 10.7 11.2
Store closings/impairments 0.5 0.0
----------- -----------
Total operating expenses 78.7 70.6
----------- -----------
Operating loss (14.8) (6.3)
Other income (expense), net 0.0 0.2
----------- -----------
Loss before income taxes (14.8) (6.1)
Income tax expense (benefit) 0.2 (2.1)
----------- -----------
Net loss (15.0)% (3.9)%
=========== ===========
COMPARISON OF THREE MONTHS ENDED MARCH 31, 2001 WITH THREE MONTHS ENDED APRIL 1,
2000
NET SALES
Net sales decreased 14.1% to $65.5 million for the three months ended March 31,
2001 from $76.2 million for the three months ended April 1, 2000. The decrease
in net sales was due primarily to (i) a $7.8 million decrease in direct
marketing sales, (ii) a $3.3 million decrease from comparable retail stores
sales in 2001 as compared to 2000, and (iii) a $0.7 million decrease in net
sales from the Company's e-commerce channel, offset by an increase of $1.1
million in net sales from the Company's wholesale channel.
11
GROSS MARGIN
Gross margin decreased to 63.9% for the three months ended March 31, 2001 from
64.4% for the three months ended April 1, 2000 primarily due to increased costs
of processing returned product, partially offset by a decrease in our discounted
promotional offerings.
SALES AND MARKETING
Sales and marketing expenses decreased 2.4% to $44.2 million for the three
months ended March 31, 2001 from $45.3 million for the three months ended April
1, 2000, and increased as a percentage of net sales to 67.5% from 59.4% for the
comparable prior-year period. The decrease in the dollar amount of sales and
marketing expenses was primarily due to decreases in selling expenses associated
with lower sales volumes and fewer stores, partially offset by increases in
media and media production expense. Sales and marketing expenses increased as a
percentage of net sales primarily due to increased media and media production
expense and increased retail occupancy expenses.
GENERAL AND ADMINISTRATIVE
General and administrative expenses decreased 17.6% to $7.0 million for the
three months ended March 31, 2001 from $8.5 million for the three months ended
April 1, 2000. The decrease in general and administrative expenses was primarily
due to staffing reductions and reduced occupancy expense resulting from the
consolidation of our two corporate offices and costs associated with a reduction
in force in 2000.
OTHER INCOME (EXPENSE), NET
Other income decreased $173,000 to approximately $25,000 in other expense for
the three months ended March 31, 2001 from $148,000 in other income for the
three months ended April 1, 2000. The decrease is due to lower cash levels
affecting interest income in 2001.
INCOME TAX EXPENSE (BENEFIT)
Income tax expense increased $1.7 million to $115,000 for the three months ended
March 31, 2001 from a $1.6 million benefit for the three months ended April 1,
2000 due to not recognizing an income tax benefit from operating losses in the
three months ended March 31, 2001.
LIQUIDITY AND CAPITAL RESOURCES
Our primary source of liquidity has been the sale of equity securities. We
completed our initial public offering in December 1998, resulting in net
proceeds of $44.6 million, which have been used for (i) the repayment of $15.0
million of debt, (ii) expansion of retail stores, (iii) expansion of
manufacturing capabilities, (iv) the repurchase of 1,220,000 shares of Company
common stock for $12.7 million and (v) the development of information technology
systems.
Net cash provided by operating activities for the three months ended March 31,
2001 was approximately $0.3 million and consisted primarily of increases in
accounts payable and decreases in accounts receivable and inventory, partially
offset by the net loss adjusted for non-cash expenses. Net cash provided by
operating activities for the three months ended April 1, 2000 was approximately
$2.5 million and consisted primarily of increases in accounts payable and
accrued liabilities and the receipt of an income tax refund, partially offset by
the net loss adjusted for non-cash expenses.
Net cash provided by investing activities was approximately $2.7 million for the
three months ended March 31, 2001. Net cash used in investing activities was
$5.5 million for the three months ended April 1, 2000. Investing activities
consisted primarily of purchases of property and equipment for new retail stores
in 2001 and purchases of property and equipment for new retail stores and
manufacturing facilities in 2000. In 2001 we liquidated $4.0 million of
marketable securities to support continuing operations, while in 2000 we
purchased $2.0 million of marketable securities for the investment of excess
cash on hand.
Net cash provided by financing activities was approximately $88,000 for the
three months ended March 31, 2001 and $216,000 for the three months ended April
1, 2000 with proceeds from the issuance of common stock, net of debt repayments.
Financial instruments that potentially subject the Company to concentrations of
credit risk consist principally of investments. The counterparties to the
agreements consist of government agencies and various major corporations of high
credit standing. The Company does not believe there is significant risk of
non-performance by these counterparties because the Company limits the amount of
credit exposure to any one financial institution and any one type of investment.
12
The Company had negative working capital of approximately $26.2 million at March
31, 2001, and $18.2 million at December 30, 2000. The Company has incurred
negative cash flows and has incurred pretax losses from operations of $9.7
million for the three months ended March 31, 2001 and $26.0 million for the year
ended December 30, 2000. Based on these factors, among others, the Company's
auditors have qualified their opinion regarding the Company's fiscal 2000
financial statements to express substantial doubt about the Company's ability to
continue as a going concern. The Company's continuation as a going concern is
dependent, among other things, upon obtaining positive cash flow from operations
and upon its ability to raise additional working capital.
Since the fourth quarter of 2000, the Company has been pursuing working capital
financing from a variety of potential sources. The Company is currently pursuing
a private placement of $8 million to $12 million of senior secured debt
securities convertible into shares of common stock together with detachable
warrants to purchase additional shares of common stock. Consummation of this
financing as contemplated could result in substantial dilution to current
shareholders. Based on discussions with potential investors in this private
placement, the Company believes that it will be able to consummate this
financing in the near term. However, firm commitments have not been received and
significant conditions to closing remain to be met, and therefore no assurance
can be given that it will be able to consummate this financing on satisfactory
terms, or at all. The Company is also pursuing programs to improve its
liquidity, including negotiation of supplier and landlord payment terms, the
reduction of inventory levels and the deferral of capital programs.
While management believes that implementation of its plans to achieve
profitability and obtain additional capital will provide sufficient working
capital to fund operations for the foreseeable future, there is no assurance
that such actions will achieve positive results from operations or adequate
working capital and equity.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
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PART II: OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Select Comfort and certain former officers and directors were named as
defendants in a class action lawsuit initially filed on June 1, 1999 on behalf
of shareholders in U.S. District Court in Minnesota. The named plaintiffs, who
purport to act on behalf of a class of purchasers of our common stock during the
period from December 4, 1998 to June 7, 1999, charge the defendants with
violations of federal securities laws. The suit alleges that we and the named
directors and officers failed to disclose or misrepresented certain information
concerning our business during the class period. The complaint does not specify
an amount of damages claimed. We believe that the complaint is without merit and
intend to vigorously defend the claims.
The Company and the individual defendants brought a motion to dismiss all claims
on November 10, 1999. The motion was heard by a magistrate judge on December 21,
1999. On January 27, 2000, the magistrate recommended that the claims based on
Section 11 of the federal securities laws be dismissed. The magistrate
recommended that the motion to dismiss be denied with respect to the claims
based on Rule 10b-5 of the federal securities laws. In February 2000, both the
plaintiffs and the defendants formally objected to the magistrate's
recommendation. The objection was made to the United States District Court in
Minnesota. On May 12, 2000, the United States District Court in Minnesota
adopted the recommendation of the magistrate and denied the defendants' motion
to dismiss the Rule 10b-5 claims. The Court also adopted the recommendation of
the magistrate and dismissed the plaintiff's Section 11 claims without prejudice
and with leave to amend.
On March 31, 2000, the Company and certain of its former officers and directors
were named as defendants in a class action lawsuit filed on behalf of the
Company's shareholders in U.S. District Court in Minnesota asserting identical
factual allegations as the consolidated complaint described above. The suit
alleges claims based on Sections 11 and 12(a)(2) of the federal securities laws.
The complaint does not specify an amount of damages claimed. The Company
believes this complaint is without merit and intends to vigorously defend the
claims. The above two class actions were consolidated by the United States
District Court Magistrate on July 24, 2000.
On January 30, 2001, the plaintiffs made a motion to certify a class. The class
certification motion is pending. Discovery relative to this motion has begun.
We have agreed to indemnify the individual defendants and to advance reasonable
expenses of defense of the litigation to the individual defendants under
applicable Minnesota corporate law. To date, we have paid an aggregate of $3,891
to the law firm of Briggs & Morgan on behalf of defendant H. Robert Hawthorne.
We are involved in other various claims, legal actions, sales tax disputes, and
other complaints arising in the ordinary course of business. In the opinion of
management, any losses that may occur from these other matters are adequately
covered by insurance or are provided for in the consolidated financial
statements and the ultimate outcome of these other matters will not have a
material effect on the consolidated financial position or results of operations
of the Company.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
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ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
(i) Amendment to Revolving Credit Program Agreement with Conseco
Bank, Inc. dated February 20, 2001.
(ii) Second Amendment to Revolving Credit Program with Conseco
Bank, Inc. dated April 13, 2001.
(b) Reports on Form 8-K
During the quarter ended March 31, 2001, the Company filed three
Current Reports on Form 8-K. The Reports consisted of the
following:
(i) Current Report filed February 5, 2001, announcing comments
on unaudited results for the fourth quarter ended December
30, 2000.
(ii) Current Report filed February 20, 2001, announcing full
unaudited results for the quarter and year ended December
30, 2000.
(iii)Current Report filed April 16, 2001, announcing the filing
of Form 10-K and final audited results for the fourth
quarter and year ended December 30, 2000.
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SIGNATURES
Pursuant to the requirements of the Securities and 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
/s/William R. McLaughlin
--------------------------------------------
May 15, 2001 William R. McLaughlin
President and Chief Executive Officer
(principal executive officer)
/s/James C. Raabe
--------------------------------------------
James C. Raabe
Chief Financial Officer
(principal financial and accounting officer)
16