Sleep Number(SNBR) - 2021 Q4 - Annual Report

PART I ITEM 1. BUSINESS Sleep Number Corporation, a vertically integrated company, focuses on improving health through its Sleep Number 360 smart beds and SleepIQ technology, achieving significant financial growth in 2020 Overview Sleep Number Corporation aims to improve health and wellbeing through high-quality sleep, leveraging its vertically integrated model and smart bed technology - Sleep Number Corporation, incorporated in 1987 and publicly traded since 1998 (Nasdaq: SNBR), aims to improve the health and wellbeing of society through higher quality sleep[18][19] - The company leverages its vertically integrated business model and differentiated consumer innovation strategy with Sleep Number 360 smart beds and SleepIQ technology, having improved 13 million lives[19] Financial Highlights In 2020, Sleep Number achieved substantial financial growth, driven by increased net sales, diluted EPS, and cash from operations 2020 Financial Highlights | Metric | 2020 Value | | :--- | :--- | | Net Sales | $1.9 billion (up 9%) | | Diluted EPS | $4.90 (up 81%) | | Cash from Operations | $280 million (up 48%) | - The 2020 fiscal year included an extra week, which benefited net sales by an estimated $41 million and EPS by $0.30[20] - Results reflect accelerated consumer shifts: prioritizing wellbeing, adopting digital health solutions, and preferring purpose-driven brands[20][22] Proprietary Sleep Innovations Sleep Number's core innovation lies in its 360 smart beds and SleepIQ technology, offering personalized comfort and advanced health insights - Sleep Number 360 smart beds offer personalized firmness and comfort, optimized by SleepIQ technology that collects over 19 billion data points nightly[21] - Proprietary SleepIQ technology leverages 9 billion hours of sleep data and AI to advance smart bed hardware and bio-signal features, aiming to detect or prevent serious health conditions[21] - New sleep innovations in 2020 included Nighttime Heart Rate Variability (HRV), Sleep Circadian Insights, and Monthly Sleep Wellness Reports[22][28] - The forthcoming Sleep Number Climate360™ smart bed, unveiled at CES 2020, won 'Best of Innovation' for its personalized temperature technology[23] - The company also offers FlexFit™ smart adjustable bases, SleepIQ Kids k2 beds, and a full line of exclusive bedding products[24][25] Research and Sleep Science R&D is a cornerstone of Sleep Number's strategy, with global operations and collaborations focused on advancing sleep quality and health solutions - R&D is central to Sleep Number's innovations, with global operations in the USA, Europe, and Asia, focusing on smart mattress, adjustable base design, and bedding solutions[26][27] - Accelerated R&D investments include forming an internal SleepIQ health team and growing the patent portfolio to over 350 patents, focusing on sleep quality and thermal solutions[28] Research and Development Expenses (in millions) | Year | Expense | | :--- | :--- | | 2020 | $41 | | 2019 | $35 | | 2018 | $29 | - Collaborations with Mayo Clinic and a Scientific Advisory Board advance sleep research and health solutions[29][32] Exclusive Direct-to-Consumer Distribution Sleep Number employs a direct-to-consumer model, leveraging integrated digital and physical channels to build lasting customer relationships - Sleep Number operates an exclusive direct-to-consumer distribution model, building lifelong customer relationships through integrated digital and physical touchpoints[30][31] - In 2020, the company adapted to COVID-19 with a 'sell-from-anywhere' model, driving a sharp recovery in sales and profitability despite temporary store closures[32] - As of January 2, 2021, Sleep Number operated 602 stores in all 50 states, with over 42% of stores less than five years old[32] 2020 Sales Channel Performance | Metric | Value | | :--- | :--- | | Stores % of Net Sales | 85% | | Average Annual Net Sales per Store | $3.1 million (new record) | | Online, Phone and Chat % of Net Sales | 15% | | Online, Phone and Chat YoY Growth | 108% | Brand Communications Brand communications focus on individualized, engaging content about life-changing sleep, amplified by strategic partnerships and digital platforms - Brand communications focus on individualized, engaging content about life-changing sleep, amplified by strategic partnerships with organizations like the NFL, Thrive Global, and Katie Couric Media[34][35][38] - The company uses a sophisticated media mix, with high-profile video, digital, and social platforms, to drive performance marketing and customer acquisition[35] - Digital capabilities were rapidly accelerated in early 2020, leading to the third straight year of double-digit digital traffic growth[36] - Insider referral and repeat sales represent greater than 45% of the business, driven by engagement with SleepIQ technology and the InnerCircle Rewards program[37] Operations Sleep Number's integrated supply chain and customer service operations are designed to enhance customer experience and reduce costs - Sleep Number's integrated supply chain includes two component manufacturing plants (Irmo, SC; Salt Lake City, UT) and four assembly distribution centers, with two more opening in early 2021[38] - The company aims to pre-assemble 100% of its beds in up to eight planned assembly distribution centers by 2022 to improve customer experience and reduce costs[40] - Home delivery and installation of 360 smart beds are handled by in-house teams or third-party service providers[41] - U.S.-based customer service teams provide post-purchase support and gather insights for product and service improvement[42] Information Systems The company utilizes comprehensive information technology systems to support business operations, analysis, and customer experience - The company utilizes information technology systems for business operations, analysis, and customer experience, including in-store order entry, retail portal, payment processing, telecommunications, e-commerce, data warehouse, and ERP systems[44] Intellectual Property Sleep Number actively protects its product design, function, and technology through a robust portfolio of over 350 worldwide patents and numerous trademarks - Sleep Number holds over 350 worldwide patents and numerous U.S. and foreign trademarks (e.g., Sleep Number®, SleepIQ®, Sleep Number 360®) protecting its product design, function, and technology[28][45][46][48] - The company actively protects and enforces its intellectual property rights, including through litigation[48] Industry and Competition Operating in a competitive sleep-health economy, Sleep Number differentiates itself through proprietary innovations and its exclusive direct-to-consumer model - The U.S. sleep-health economy was estimated at $30-40 billion in 2017, with the traditional bedding industry (mattresses and foundations) at approximately $22 billion retail in 2020[49][50] - Sleep Number is ranked as the 5th largest mattress manufacturer and 2nd largest U.S. bedding retailer for 2019, with an estimated 8% market share[51] - The industry is highly competitive, with traditional manufacturers (e.g., Tempur Sealy, Serta) and new direct-to-consumer 'bed-in-a-box' companies[51][52] - Sleep Number differentiates through proprietary sleep innovations and its exclusive direct-to-consumer distribution model[51] Governmental Regulation and Compliance As a vertically integrated manufacturer and retailer, Sleep Number is subject to extensive federal, state, and local laws and regulations across various operational areas - As a vertically integrated manufacturer and retailer, Sleep Number is subject to extensive federal, state, and local laws and regulations[53] - Compliance areas include product quality and safety (e.g., federal fire retardant standards), environmental protection, labor laws, data security and privacy, and marketing practices[54][55][56] - The company's policy and practice are to comply with all legal and regulatory requirements, with procedures and internal controls designed to promote such compliance[57] Seasonality The business experiences modest seasonal influences, with lower sales in the second quarter and increased sales during holiday or promotional periods - The business is modestly impacted by seasonal influences, with lower sales in the second quarter and increased sales during selected holiday or promotional periods[58] Working Capital Sleep Number maintains minimal working capital requirements through direct sales and an accelerated cash-conversion cycle, supported by a revolving credit facility - Sleep Number operates with minimal working capital requirements due to direct sales, a hybrid 'make-to-stock' production process, and showroom-focused retail stores[59] - The company self-funds operations through an accelerated cash-conversion cycle and has a $450 million revolving credit facility, with an accordion feature up to $600 million[59] - Approximately 52% of 2020 net sales were financed by Synchrony Bank, for which Sleep Number is not liable for customer credit defaults[60] Human Capital Sleep Number fosters a culture emphasizing individuality, diversity, equity, and inclusion, supported by continuous talent management and comprehensive benefits - As of January 2, 2021, Sleep Number employed 4,679 team members, with 2,250 in retail sales, 833 in field services, 408 in customer service, 497 in manufacturing/logistics, and 691 in technology/corporate roles[62] - The company's culture emphasizes individuality, diversity, equity, and inclusion, with a continuous talent management lifecycle centered on learning and development (70/20/10 philosophy)[61][63][64] - Talent management metrics include recruitment, retention, diversity (tracked via a demographics dashboard), continuous listening (surveys), competitive total rewards (all employees participate in variable pay), performance assessments, and workplace safety[64][66] - In 2020, all 4,700 team members received a Sleep Number 360 smart bed as part of the benefits package[66][67] Social Impact Commitment Sleep Number is dedicated to improving societal health through sleep, aiming to help one million young people by 2025 and supporting various community initiatives - Sleep Number is committed to improving society's health and wellbeing through sleep, with a goal to help one million young people by 2025[65] - In 2020, cash donations exceeded $600,000, and the company supported organizations like Make-A-Wish and the National Urban League[65][67] - The manufacturing team refurbished nearly 50,000 N95 masks for frontline healthcare workers during the early days of the COVID-19 pandemic[68] - The company became a signatory to the United Nations Global Compact in 2020, pledging to incorporate its Ten Principles into strategy, culture, and operations, and is committed to ESG initiatives[69][70] Information about our Executive Officers This section lists the key executive officers responsible for Sleep Number's leadership and strategic direction - Key executive officers include Shelly R. Ibach (President and CEO), David R. Callen (EVP and CFO), Melissa Barra (EVP and Chief Sales and Services Officer), Andrea L. Bloomquist (EVP and Chief Innovation Officer), Kevin K. Brown (EVP and Chief Marketing Officer), Samuel R. Hellfeld (SVP and Chief Legal and Risk Officer), Christopher D. Krusmark (SVP and Chief Human Resources Officer), and J. Hunter Saklad (EVP and Chief Supply Chain Officer)[71][72][73][74][75][76][78][79] Available Information SEC filings and corporate governance documents are readily available on the company's website and upon written request - SEC filings (10-K, 10-Q, 8-K) and corporate governance documents (committee charters, Code of Business Conduct) are available free of charge on the company's website (www.SleepNumber.com) and via written request[80][81][82][83] ITEM 1A. RISK FACTORS This section details significant risks that could materially and adversely affect Sleep Number's business, including the ongoing impact of the COVID-19 pandemic on operations, sales, and supply chain Risks Related to Consumer Sentiment and the Availability of Credit Sleep Number's success is highly dependent on discretionary consumer spending and the availability of third-party credit, both vulnerable to economic downturns and the ongoing COVID-19 pandemic - The COVID-19 pandemic has adversely affected business operations, leading to temporary store closures (over 80% initially), sales declines, and impacts on demand, traffic, and macroeconomic factors[85] - The shift to remote work due to COVID-19 amplified risks to IT resources and cybersecurity; new health and safety policies for in-person work may not fully protect against virus spread[86] - The extent and duration of COVID-19's impact remain highly uncertain and unpredictable, depending on future developments like vaccine efficacy and governmental mandates[93] - Success depends on discretionary consumer spending, which is influenced by general economic factors such as growth, confidence, employment, and interest rates[94] - A significant percentage of sales rely on third-party consumer credit programs (e.g., Synchrony Bank); reduced credit availability or changes in terms could harm sales and financial condition[95][96] Risks Related to Our Marketing Strategy and Execution of Total Retail Distribution Strategy The company's growth and profitability depend on effective marketing, maintaining high product quality, and successful execution of its retail distribution strategy, all subject to competitive pressures and evolving consumer behavior - Future growth and profitability depend on the effectiveness and efficiency of marketing messages and advertising expenditures, which may be challenged by changing consumer behavior and competition[97][98] - Reliance on third-party influencers and digital marketing (including increased competitor spending on search terms) poses risks to brand image and marketing efficiency[99][100] - The Total Retail distribution strategy, with significant fixed costs and capital expenditures for stores, requires maintaining and increasing sales per store[101] - Dependence on mall popularity and traffic, as well as the ability to secure suitable new store locations and renew leases on a cost-effective basis, are critical for growth[102][104] - Failure to achieve and maintain high product quality, especially for technologically differentiated beds, could lead to increased returns, warranty claims, negative publicity, and product liability claims[105][106][107] - Ability to grow depends on continuously improving and expanding the product line (adjustable firmness air beds, SleepIQ technology, accessories) and achieving widespread consumer acceptance of new introductions[108] - Intellectual property rights (patents, trademarks) may not adequately protect against infringement, and the company is subject to claims that its products infringe others' IP[109][110] Risks Related to Our Reliance on Third Parties and Reliance on a Global Supply Chain Sleep Number faces significant risks from supply chain disruptions, reliance on third-party logistics, commodity price fluctuations, and global sourcing vulnerabilities - Vulnerability to supply shortages of components (some sole-sourced, e.g., air chambers, adjustable foundations) due to lean manufacturing, global electronic component strain, or supplier disruptions could harm sales and profitability[111][113][114] - Reliance on third parties for timely and cost-effective product delivery to facilities and customers, with risks of labor shortages, liquidity concerns, or increased freight charges[115] - Fluctuations in commodity prices (e.g., electronic componentry, fuel, rubber, foam chemicals) or third-party logistics costs could increase raw material and delivery costs, impacting profitability if not offset by price increases[116] - Global sourcing activities (e.g., air chambers manufactured outside the U.S.) are subject to risks like duties, tariffs, political instability, supply/transportation disruptions (pandemics, strikes), currency fluctuations, and economic uncertainties[117][118] - Operations are exposed to regional risks such as adverse weather conditions, natural disasters, and climate change, which could disrupt sourcing and manufacturing[119][120] Risks Related to Our Vertically Integrated Business Sleep Number faces intense competition from various mattress manufacturers and retailers, and operational disruptions in its manufacturing and distribution centers could significantly impact sales and customer satisfaction - Significant competition from manufacturers of various mattress types, a dominant national mattress retailer, and new direct-to-consumer 'bed-in-a-box' companies, as well as sleep tracking product manufacturers[121][122][123] - Competitors may have greater financial, marketing, and manufacturing resources, broader distribution, and may aggressively compete with new products or pricing strategies[124] - Disruption of operations in the two main manufacturing plants (Irmo, SC; Salt Lake City, UT) or assembly distribution centers could increase costs and delay product deliveries, impacting sales and customer satisfaction[126][127] Risks Related to Legal Compliance and Legal Proceedings The company is subject to evolving government regulations and various legal proceedings, which could lead to operational disruptions, increased costs, fines, or reputational damage - Subject to a wide variety of changing government laws and regulations (employment, trade, advertising, product safety, data privacy), which could disrupt operations, increase compliance costs, or lead to fines and adverse publicity[128][129] - Involved in various legal proceedings (commercial, product liability, employment, intellectual property claims); litigation is unpredictable and could adversely impact business, reputation, and financial results[130] Risks Related to Our Information Systems and Cybersecurity Sleep Number's information systems, containing sensitive company and customer data, are vulnerable to cyber threats, and system upgrades may be costly and disruptive - Information systems containing confidential company, customer (including biometric SleepIQ data), and team member data are vulnerable to cyber threats, which could compromise data security, disrupt business, and harm reputation[131][133] - Improvements or upgrades to information systems to meet evolving business and cybersecurity needs may be costly, time-consuming, and could cause disruptions or security vulnerabilities[134] Risks Related to Our Stock The company's stock price may experience significant fluctuations due to concentrated institutional ownership, overall market performance, and various company-specific factors - A substantial amount of stock is held by a small number of large institutional investors (9 largest holders held ~53% as of Dec 31, 2020), and significant sales by these holders could cause the stock price to fall[135] - The stock price may fluctuate significantly due to overall market performance, changes in financial projections, competitor growth, analyst coverage, and sales by insiders[136] General Risks Future growth and profitability depend on the company's ability to attract, retain, and motivate qualified personnel across all levels of the organization - Future growth and profitability depend on the ability to attract, retain, and motivate qualified personnel across various areas, including management, executives, and retail sales professionals[137] ITEM 1B. UNRESOLVED STAFF COMMENTS The company reported no unresolved staff comments from the Securities and Exchange Commission - No unresolved staff comments were reported[138] ITEM 2. PROPERTIES Sleep Number leases all its retail stores, corporate headquarters, and manufacturing/distribution centers, operating 602 retail stores across all 50 states as of January 2, 2021 Retail Locations Sleep Number leases all its 602 retail store locations across the U.S., typically with initial lease terms of five to ten years - Sleep Number leases all its existing retail store locations, typically with initial lease terms of five to 10 years[139] Retail Store Locations as of January 2, 2021 | State | Retail Stores | State | Retail Stores | State | Retail Stores | | :--- | :--- | :--- | :--- | :--- | :--- | | Alabama | 11 | Louisiana | 9 | Ohio | 21 | | Alaska | 1 | Maine | 2 | Oklahoma | 5 | | Arizona | 11 | Maryland | 13 | Oregon | 7 | | Arkansas | 6 | Massachusetts | 11 | Pennsylvania | 23 | | California | 67 | Michigan | 18 | Rhode Island | 1 | | Colorado | 14 | Minnesota | 15 | South Carolina | 10 | | Connecticut | 6 | Mississippi | 6 | South Dakota | 2 | | Delaware | 2 | Missouri | 12 | Tennessee | 17 | | Florida | 43 | Montana | 4 | Texas | 55 | | Georgia | 21 | Nebraska | 4 | Utah | 7 | | Hawaii | 1 | Nevada | 5 | Vermont | 1 | | Idaho | 3 | New Hampshire | 4 | Virginia | 17 | | Illinois | 21 | New Jersey | 14 | Washington | 15 | | Indiana | 11 | New Mexico | 3 | West Virginia | 4 | | Iowa | 7 | New York | 20 | Wisconsin | 11 | | Kansas | 7 | North Carolina | 21 | Wyoming | 2 | | Kentucky | 8 | North Dakota | 3 | Total | 602 | Manufacturing, Distribution and Headquarters The company's corporate headquarters and manufacturing/distribution centers are all leased facilities, strategically located in Minneapolis, South Carolina, and Utah - The corporate headquarters in Minneapolis, MN, is a 238,000 square-foot leased facility, with the lease running through October 2032[141] - Two manufacturing, assembly, and distribution centers are leased in Irmo, SC (151,000 sq ft) and Salt Lake City, UT (101,000 sq ft), with leases running through June 2026 and July 2025, respectively[142] ITEM 3. LEGAL PROCEEDINGS Sleep Number is involved in various legal proceedings, including commercial, product liability, employment, and intellectual property claims, but does not anticipate a material effect on its financial results - The company is involved in various legal proceedings arising in the ordinary course of business, including commercial, product liability, employment, and intellectual property claims[143][347] - A class action lawsuit under the California Labor Code Private Attorney General Act was settled and received final Court approval on January 8, 2021[348] - A patent infringement lawsuit filed by Level Sleep, LLC was granted summary judgment in favor of Sleep Number on January 14, 2020, with an appeal currently pending[349] - The company does not currently expect the outcome of any pending matters to have a material effect on its consolidated results of operations, financial position, or cash flows[347] ITEM 4. MINE SAFETY DISCLOSURES This item is not applicable to Sleep Number Corporation - Not applicable[144] PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES Sleep Number's common stock trades on Nasdaq under 'SNBR,' with no current plans for cash dividends, but active share repurchases, and has significantly outperformed market indices over the last five years - Common stock trades on The Nasdaq Stock Market LLC (Nasdaq Global Select Market) under the symbol 'SNBR'[146] - As of January 30, 2021, there were approximately 206 holders of record of common stock[146] - The company has not historically paid, and has no current plans to pay, cash dividends on its common stock, but is not restricted from doing so under its Credit Agreement if the leverage ratio does not exceed 3.75:1.00[147][266] Issuer Purchases of Equity Securities (Q4 Fiscal 2020) | Period | Total Number of Shares Purchased | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs | | :--- | :--- | :--- | :--- | :--- | | September 27, 2020 through October 24, 2020 | 338,957 | $63.40 | 338,308 | $415.439 million | | October 25, 2020 through November 28, 2020 | 1,286,921 | $67.03 | 1,280,845 | $329.595 million | | November 29, 2020 through January 2, 2021 | 1,079,070 | $79.67 | 1,040,597 | $246.889 million | | Total | 2,704,948 | $71.62 | 2,659,750 | $246.889 million | - Under the Board-approved $500 million share repurchase program (effective September 19, 2019), $190 million was repurchased in Q4 2020; remaining authorization as of January 2, 2021, was $247 million[148][198][267] Comparative Stock Performance (Indexed to $100 on Jan 2, 2016) | | 01/02/16 | 12/31/16 | 12/30/17 | 12/29/18 | 12/28/19 | 01/02/21 | | :--- | :--- | :--- | :--- | :--- | :--- | :--- | | Sleep Number Corporation | $100 | $106 | $176 | $150 | $232 | $382 | | S&P 400 Specialty Stores Index | $100 | $119 | $92 | $85 | $95 | $114 | | The Nasdaq Stock Market (U.S.) Index | $100 | $109 | $141 | $136 | $187 | $270 | ITEM 6. SELECTED FINANCIAL DATA This section provides a five-year summary of Sleep Number's consolidated financial performance and key operating metrics, highlighting significant growth in 2020 across net sales, net income, and diluted EPS Consolidated Statements of Operations Data (in thousands, except per share) | | 2020 | 2019 | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | :--- | :--- | | Net sales | $1,856,555 | $1,698,352 | $1,531,575 | $1,444,497 | $1,311,291 | | Gross profit | $1,156,000 | $1,051,923 | $927,961 | $897,347 | $810,160 | | Operating income | $184,896 | $112,095 | $92,428 | $91,915 | $76,650 | | Net income | $139,189 | $81,845 | $69,539 | $65,077 | $51,417 | | Diluted EPS | $4.90 | $2.70 | $1.92 | $1.55 | $1.10 | Consolidated Balance Sheet Data (in thousands) | | 2020 | 2019 | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | :--- | :--- | | Cash and cash equivalents | $4,243 | $1,593 | $1,612 | $3,651 | $11,609 | | Total assets | $800,136 | $806,043 | $470,138 | $471,834 | $457,166 | | Borrowings under revolving credit facility | $244,200 | $231,000 | $199,600 | $24,500 | — | | Total shareholders' (deficit) equity | $(223,978) | $(159,431) | $(109,550) | $89,156 | $160,320 | Selected Operating Data | | 2020 | 2019 | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | :--- | :--- | | Stores open at period-end | 602 | 611 | 579 | 556 | 540 | | Average sales per store (000's) | $3,052 | $2,877 | $2,707 | $2,618 | $2,555 | | Percentage of stores with > $2 million in net sales | 67 % | 70 % | 65 % | 61 % | 61 % | | Average revenue per mattress unit - Total Retail | $4,856 | $4,865 | $4,482 | $4,283 | $4,046 | | Total Retail comparable-sales increase | 6 % | 6 % | 3 % | 4 % | 1 % | Non-GAAP Data Reconciliations This section provides reconciliations of non-GAAP financial measures, including Adjusted EBITDA, Free Cash Flow, and Return on Invested Capital (ROIC), to their most directly comparable GAAP measures Adjusted EBITDA Reconciliation (in thousands) | | 2020 | 2019 | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | :--- | :--- | | Net income | $139,189 | $81,845 | $69,539 | $65,077 | $51,417 | | Income tax expense | $36,783 | $18,663 | $16,982 | $25,961 | $24,516 | | Interest expense | $9,021 | $11,591 | $5,911 | $975 | $811 | | Depreciation and amortization | $60,783 | $61,410 | $61,648 | $61,077 | $56,910 | | Stock-based compensation | $21,813 | $16,657 | $11,412 | $15,763 | $11,961 | | Asset impairments | $302 | $185 | $96 | $244 | $74 | | Adjusted EBITDA | $267,891 | $190,351 | $165,588 | $169,097 | $145,689 | Free Cash Flow Reconciliation (in thousands) | | 2020 | 2019 | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | :--- | :--- | | Net cash provided by operating activities | $279,661 | $189,160 | $131,540 | $172,607 | $151,645 | | Less: Purchases of property and equipment | $(37,100) | $(59,239) | $(45,515) | $(59,829) | $(57,852) | | Free cash flow | $242,561 | $129,921 | $86,025 | $112,778 | $93,793 | Return on Invested Capital (ROIC) (in thousands) | | 2020 | 2019 | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | :--- | :--- | | Net operating profit after taxes (NOPAT) | $193,063 | $134,983 | $114,986 | $98,196 | $85,042 | | Average invested capital | $773,413 | $757,361 | $719,055 | $686,436 | $699,576 | | Return on invested capital (ROIC) | 25.0 % | 17.8 % | 16.0 % | 14.3 % | 12.2 % | ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This section provides management's detailed analysis of Sleep Number's financial condition, results of operations, and liquidity, with a primary focus on fiscal year 2020, outlining strategic responses to the COVID-19 pandemic and critical accounting policies - The MD&A provides management's narrative on financial condition, results of operations, liquidity, and factors that may affect future results[161] - The discussion contains forward-looking statements that are subject to risks and uncertainties detailed in the 'Risk Factors' section[160][161] Overview Sleep Number, a purpose-driven company, achieved significant growth in 2020 despite COVID-19 challenges, driven by its vertically integrated model and strategic liquidity management - Sleep Number is a purpose-driven company with 4,700 team members, dedicated to improving lives by individualizing sleep experiences with 360 smart beds and SleepIQ technology[164] - The company operates a vertically integrated business model as the exclusive designer, manufacturer, marketer, retailer, and servicer of Sleep Number beds[165] - Despite a 20% decline in net sales during Q2 2020 due to COVID-19 store closures, 2020 net sales increased 9% and net income increased 70% compared to the prior year[168] - The company implemented precautionary health and safety guidelines, expense management actions (furloughs, reduced hours, rent deferrals, media spending leverage), and liquidity-preserving measures (term loan, temporary suspension of share repurchases and 401(k) match)[170][171][172][195] - The CARES Act provided tax relief, including 100% bonus depreciation, payroll tax credits, and deferred social security tax payments, aiding liquidity[174] Results of Operations Sleep Number's 2020 financial performance demonstrated strong growth in net sales, operating income, and diluted EPS, driven by effective expense management and increased digital sales Fiscal 2020 Financial Highlights | Metric | 2020 Value | Change vs. 2019 | | :--- | :--- | :--- | | Net Sales | $1.9 billion | +9% | | Operating Income | $185 million | +65% | | Operating Income Rate | 10.0% of net sales | +3.4 ppt | | Net Income | $139 million | +70% | | Diluted EPS | $4.90 | +81% | | Cash from Operations | $280 million | +48% | | ROIC | 25.0% | +7.2 ppt | | R&D Expenses | $41 million | +17% | | Share Repurchases | $228 million (3.4M shares) | N/A | - The 2020 fiscal year included an extra week, benefiting net sales by $41 million and diluted EPS by $0.30[174] - Sales per store (Total Retail comparable sales for stores open at least one year) reached a record $3.1 million, 6% higher than 2019[174] Net Sales and Growth Components (2020 vs. 2019) | Metric | 2020 | 2019 | Change (YoY) | | :--- | :--- | :--- | :--- | | Net sales | $1,856.6 million | $1,698.4 million | +9% | | Total Retail % of Net Sales | 99.7% | 99.4% | +0.3 ppt | | Wholesale/Other % of Net Sales | 0.3% | 0.6% | -0.3 ppt | | Total Retail comparable sales change | 6% | 6% | 0 ppt | | Online, Phone and Chat sales growth | 104% | 12% | +92 ppt | | Online, Phone and Chat % of Net Sales | 15% | 8% | +7 ppt | | Total Retail mattress units increase | +10% | N/A | N/A | | Average revenue per mattress unit – Total Retail | $4,856 | $4,865 | -0.2% | Profitability and Expense Rates (2020 vs. 2019) | Metric | 2020 (% of Net Sales) | 2019 (% of Net Sales) | Change (ppt) | | :--- | :--- | :--- | :--- | | Gross profit rate | 62.3% | 61.9% | +0.4 | | Sales and marketing expense rate | 41.5% | 45.2% | -3.7 | | General and administrative expense rate | 8.6% | 8.1% | +0.5 | | Research and development expense rate | 2.2% | 2.1% | +0.1 | | Operating income rate | 10.0% | 6.6% | +3.4 | | Net income rate | 7.5% | 4.8% | +2.7 | - Interest expense, net decreased by $3 million to $9 million in 2020 due to lower average borrowings and a decrease in the weighted-average interest rate[184] - Income tax expense increased to $37 million in 2020 (effective rate 20.9%) from $19 million in 2019 (effective rate 18.6%), both benefiting from discrete tax items[185] Liquidity and Capital Resources Sleep Number maintains strong liquidity through operating cash flows and a revolving credit facility, enabling self-funded operations and strategic capital deployment - Primary liquidity sources are cash flows from operating activities and a $450 million revolving credit facility, expected to be adequate for operations, expansion, and obligations[190] - Net liquidity available under the credit facility was $202 million at January 2, 2021[189][199] - The leverage ratio was 2.2x as of January 2, 2021, well below the maximum of 4.5x allowed by the credit agreement[199] Cash Flow Summary (in millions) | Cash Flow Activity | 2020 | 2019 | | :--- | :--- | :--- | | Operating activities | $279.7 | $189.2 | | Investing activities | $(39.0) | $(56.6) | | Financing activities | $(238.0) | $(132.6) | | Net change in cash and cash equivalents | $2.7 | $0.0 | - Cash provided by operating activities increased by $91 million year-over-year, driven by higher net income and fluctuations in customer prepayments and accounts payable[192] - Net cash used in investing activities decreased to $39 million in 2020 from $57 million in 2019, primarily due to reduced capital spending[193] - Net cash used in financing activities increased to $238 million in 2020 from $133 million in 2019, mainly due to $236 million in common stock repurchases[194] - The company repaid a $75 million term loan in September 2020 and resumed share repurchases in October 2020[187][188] - Synchrony Bank provides revolving credit to qualified customers, with Sleep Number not liable for customer credit defaults[200][201] Critical Accounting Policies and Estimates Critical accounting policies and estimates, including stock-based compensation, warranty liabilities, and revenue recognition, require significant management judgment and assumptions about future events - Critical accounting policies and estimates, including stock-based compensation, warranty liabilities, and revenue recognition, require significant management judgment and assumptions about future events[203][204] - A 10% change in stock-based compensation expense would affect 2020 net income by approximately $1.7 million[205] - A 10% change in warranty liability at January 2, 2021, would affect 2020 net income by approximately $0.9 million[209] - A 10% change in sales returns allowance at January 2, 2021, would affect 2020 net income by approximately $1.9 million[211] Recent Accounting Pronouncements Refer to Note 1, Business and Summary of Significant Accounting Policies, New Accounting Pronouncements, for details on recent accounting pronouncements - Refer to Note 1, Business and Summary of Significant Accounting Policies, New Accounting Pronouncements, for details on recent accounting pronouncements[212] ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Sleep Number is exposed to market-based short-term interest rate changes, which directly impact its net interest expense, but does not use derivative instruments to manage this risk - The company is exposed to changes in market-based short-term interest rates that impact net interest expense[213] - If overall interest rates were one percentage point higher, annual net income would decrease by $1.9 million, based on $244 million of borrowings at January 2, 2021[213] - Sleep Number does not manage its interest-rate volatility risk through the use of derivative instruments[213] ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA This section presents Sleep Number's audited consolidated financial statements for 2020, 2019, and 2018, along with accompanying notes, and highlights warranty liability as a critical audit matter - Includes audited consolidated financial statements: Balance Sheets, Statements of Operations, Shareholders' Equity, and Cash Flows for 2020, 2019, and 2018[215] - Deloitte & Touche LLP expressed an unqualified opinion on the financial statements and the effectiveness of internal control over financial reporting as of January 2, 2021[215][216][225] - The company changed its method of accounting for leases in 2019 due to the adoption of ASU No. 2016-02 Leases (Topic 842) using the modified-retrospective approach[217] - Warranty liability was identified as a critical audit matter due to significant management judgment in estimating future warranty claims, especially for the Sleep Number 360 Smart Bed line with a relatively short claims history[221][222] Consolidated Balance Sheets This section presents Sleep Number's consolidated balance sheets, detailing assets, liabilities, and shareholders' deficit for fiscal years 2020 and 2019 Consolidated Balance Sheets (in thousands) | | January 2, 2021 | December 28, 2019 | | :--- | :--- | :--- | | Assets | | | | Cash and cash equivalents | $4,243 | $1,593 | | Accounts receivable, net | $31,871 | $19,978 | | Inventories | $81,362 | $87,065 | | Total current assets | $181,804 | $160,368 | | Property and equipment, net | $175,223 | $197,421 | | Operating lease right-of-use assets | $314,226 | $327,017 | | Goodwill and intangible assets, net | $72,871 | $73,226 | | Total assets | $800,136 | $806,043 | | Liabilities and Shareholders' Deficit | | | | Borrowings under revolving credit facility | $244,200 | $231,000 | | Accounts payable | $91,904 | $134,594 | | Customer prepayments | $72,017 | $34,248 | | Total current liabilities | $655,944 | $594,774 | | Total liabilities | $1,024,114 | $965,474 | | Total shareholders' deficit | $(223,978) | $(159,431) | Consolidated Statements of Operations This section provides Sleep Number's consolidated statements of operations, detailing net sales, gross profit, operating expenses, and net income for fiscal years 2020, 2019, and 2018 Consolidated Statements of Operations (in thousands, except per share amounts) | | 2020 | 2019 | 2018 | | :--- | :--- | :--- | | Net sales | $1,856,555 | $1,698,352 | $1,531,575 | | Cost of sales | $700,555 | $646,429 | $603,614 | | Gross profit | $1,156,000 | $1,051,923 | $927,961 | | Operating expenses: | | | | | Sales and marketing | $771,195 | $766,922 | $687,380 | | General and administrative | $158,999 | $137,956 | $119,378 | | Research and development | $40,910 | $34,950 | $28,775 | | Total operating expenses | $971,104 | $939,828 | $835,533 | | Operating income | $184,896 | $112,095 | $92,428 | | Interest expense, net | $8,924 | $11,587 | $5,907 | | Income before income taxes | $175,972 | $100,508 | $86,521 | | Income tax expense | $36,783 | $18,663 | $16,982 | | Net income | $139,189 | $81,845 | $69,539 | | Basic net income per share | $5.03 | $2.78 | $1.97 | | Diluted net income per share | $4.90 | $2.70 | $1.92 | | Weighted-average shares – diluted | 28,428 | 30,355 | 36,165 | Consolidated Statements of Shareholders' (Deficit) Equity This section presents Sleep Number's consolidated statements of shareholders' (deficit) equity, detailing changes in common stock, additional paid-in capital, and retained earnings over the past three fiscal years Consolidated Statements of Shareholders' (Deficit) Equity (in thousands) | | Shares (000s) | Common Stock Amount (000s) | Additional Paid-in Capital (000s) | Retained Earnings (Accumulated Deficit) (000s) | Total (000s) | | :--- | :--- | :--- | :--- | :--- | :--- | | Balance at December 30, 2017 | 38,813 | $388 | $0 | $88,768 | $89,156 | | Net income (2018) | — | — | — | 69,539 | 69,539 | | Repurchases of common stock (2018) | (8,402) | (84) | (14,195) | (268,166) | (282,445) | | Balance at December 29, 2018 | 30,868 | $309 | $0 | $(109,859) | $(109,550) | | Net income (2019) | — | — | — | 81,845 | 81,845 | | Repurchases of common stock (2019) | (3,768) | (38) | (23,838) | (131,697) | (155,573) | | Balance at December 28, 2019 | 27,961 | $280 | $0 | $(159,711) | $(159,431) | | Net income (2020) | — | — | — | 139,189 | 139,189 | | Repurchases of common stock (2020) | (3,611) | (36) | (31,405) | (203,710) | (235,151) | | Balance at January 2, 2021 | 25,390 | $254 | $0 | $(224,232) | $(223,978) | Consolidated Statements of Cash Flows This section presents Sleep Number's consolidated statements of cash flows, detailing cash generated from operating, investing, and financing activities for fiscal years 2020, 2019, and 2018 Consolidated Statements of Cash Flows (in thousands) | Cash flows from: | 2020 | 2019 | 2018 | | :--- | :--- | :--- | :--- | | Operating activities | $279,661 | $189,160 | $131,540 | | Investing activities | $(39,018) | $(56,624) | $(45,243) | | Financing activities | $(237,993) | $(132,555) | $(88,336) | | Net increase (decrease) in cash and cash equivalents | $2,650 | $(19) | $(2,039) | | Cash and cash equivalents, at end of period | $4,243 | $1,593 | $1,612 | - Cash provided by operating activities increased by $91 million year-over-year, driven by higher net income and fluctuations in customer prepayments and accrued compensation and benefits[192][242] - Investing activities primarily consisted of purchases of property and equipment ($37.1 million in 2020 vs. $59.2 million in 2019)[242] - Financing activities were dominated by common stock repurchases ($235.6 million in 2020 vs. $165.1 million in 2019)[242] (1) Business and Summary of Significant Accounting Policies This note outlines Sleep Number's vertically integrated business model, fiscal year structure, critical accounting policies, and recent accounting pronouncements - Sleep Number operates a vertically integrated business model, designing, manufacturing, marketing, retailing, and servicing its beds and related products through Total Retail and Wholesale/Other channels[245][246] - The fiscal year ends on the Saturday closest to December 31; fiscal 2020 had 53 weeks, while 2019 and 2018 had 52 weeks[248] - Critical accounting policies include stock-based compensation, warranty liabilities, and revenue recognition, which involve significant estimates and assumptions[250] - Book overdrafts, included in accounts payable, totaled $8 million at January 2, 2021, down from $33 million at December 28, 2019[251] - Inventories are stated at the lower of cost or net realizable value, determined by the first-in, first-out method[254] - Property and equipment are depreciated using the straight-line method over estimated useful lives (e.g., 5 to 15 years for leasehold improvements, 3 to 12 years for computer equipment and software)[255][257] - Goodwill and indefinite-lived intangible assets are tested for impairment annually using a quantitative assessment; no impairment was determined in 2020[260] - Warranty costs are expensed at the time of sale based on historical trends and claim rates, adjusted for current trends[263] - Revenue recognition involves estimates for sales returns and accounting for multiple performance obligations (bed and SleepIQ technology), with SleepIQ revenue recognized straight-line over a four-year estimated life[270][271] - Advertising costs are expensed when the ad first runs; total advertising expense was $253 million in 2020, $242 million in 2019, and $210 million in 2018[279] - The company is self-insured for certain health and workers' compensation claims, with a liability of $11 million at January 2, 2021[280] - Stock-based compensation expense is recorded based on fair value at grant date, with assumptions for volatility, risk-free interest rate, and expected term; performance-based awards are adjusted based on achievement of targets[285][287][288][289][291] - Deferred tax assets and liabilities are recognized for temporary differences, with a valuation allowance established for unrealized portions[295] - The company is dependent on suppliers for materials and components, some of which are sole-source, posing a risk of supply disruption[299] - Adopted FASB Staff Q&A, Topic 840 and 842, for COVID-19 lease concessions, electing to account for them as if no changes to the lease contract were made, continuing straight-line rent expense recognition[300][304] (2) Fair Value Measurements This note details the fair value measurements of debt and equity securities funding the deferred compensation plan, primarily classified as Level 1 inputs - Debt and equity securities funding the deferred compensation plan totaled $12 million at January 2, 2021, and $8 million at December 28, 2019; the majority are classified as Level 1 inputs[305] (3) Inventories This note provides a breakdown of Sleep Number's inventories, including raw materials, work in progress, and finished goods, for fiscal years 2020 and 2019 Inventories (in thousands) | | January 2, 2021 | December 28, 2019 | | :--- | :--- | :--- | | Raw materials | $12,599 | $6,231 | | Work in progress | $103 | $31 | | Finished goods | $68,660 | $80,803 | | Total | $81,362 | $87,065 | Finished Goods Inventories (in thousands) | | January 2, 2021 | December 28, 2019 | | :--- | :--- | :--- | | Finished beds, including retail display beds and deliveries in-transit to those customers who have utilized home delivery services | $21,442 | $24,509 | | Finished components that were ready for assembly for the completion of beds | $28,108 | $40,139 | | Retail accessories | $19,110 | $16,155 | | Total | $68,660 | $80,803 | (4) Property and Equipment This note details Sleep Number's property and equipment, including leasehold improvements, furniture, production machinery, and construction in progress, net of accumulated depreciation Property and Equipment (in thousands) | | January 2, 2021 | December 28, 2019 | | :--- | :--- | :--- | | Leasehold improvements | $115,901 | $115,566 | | Furniture and equipment | $125,292 | $123,161 | | Production machinery, computer equipment and software | $233,249 | $245,175 | | Construction in progress | $7,059 | $6,590 | | Less: Accumulated depreciation and amortization | $(306,278) | $(293,071) | | Total | $175,223 | $197,421 | (5) Goodwill and Intangible Assets, Net This note provides details on Sleep Number's goodwill and intangible assets, including indefinite-lived trademarks and definite-lived developed technologies, along with their amortization schedules - Goodwill remained at $64 million at January 2, 2021, and December 28, 2019; indefinite-lived trade name/trademarks totaled $1.4 million[309] - Developed technologies (definite-lived) had a gross carrying amount of $19 million, with $2 million amortization expense in each of 2020, 2019, and 2018[310][311] - In June 2020, the company purchased $2 million in other definite-lived intangible assets, amortized over an average of nine years[311] Annual Amortization for Definite-Lived Intangible Assets (in thousands) | Year | Amount | | :--- | :--- | | 2021 | $2,403 | | 2022 | $2,403 | | 2023 | $1,431 | | 2024 | $222 | | 2025 | $226 | | Thereafter | $743 | | Total future amortization | $7,428 | (6) Credit Agreement This note details Sleep Number's $450 million revolving credit facility, its maturity, accordion feature, and compliance with financial covenants - The company has a $450 million revolving credit facility, maturing in February 2024, for general corporate purposes, working capital, and stock repurchases[314] - The credit agreement includes an accordion feature to increase the facility from $450 million to $600 million, subject to lenders' approval[314] Credit Facility Summary (in thousands) | | January 2, 2021 | December 28, 2019 | | :--- | :--- | :--- | | Outstanding borrowings | $244,200 | $231,000 | | Outstanding letters of credit | $3,997 | $3,497 | | Additional borrowing capacity | $201,803 | $215,503 | | Weighted-average interest rate | 1.5 % | 3.5 % | - The company was in compliance with all financial covenants as of January 2, 2021, including a maximum leverage ratio of 4.5x (actual 2.2x)[314] (7) Leases This note outlines Sleep Number's operating lease arrangements for its retail, office, and manufacturing spaces, detailing lease costs and future maturities - Sleep Number leases its retail, office, and manufacturing spaces under operating leases, with retail terms typically 5-10 years and office/manufacturing up to 15 years[316] Lease Costs (in thousands) | | 2020 | 2019 | | :--- | :--- | :--- | | Operating lease costs | $90,311 | $86,026 | | Variable lease costs | $1,147 | $1,809 | Maturities of Operating Lease Liabilities (in thousands) as of January 2, 2021 | Year | Amount | | :--- | :--- | | 2021 | $83,856 | | 2022 | $75,516 | | 2023 | $65,527 | | 2024 | $53,669 | | 2025 | $44,750 | | Thereafter | $103,817 | | Total operating lease payments | $427,135 | | Less: Interest | $81,909 | | Present value of operating lease liabilities | $345,226 | - The weighted-average remaining lease term was 6.3 years, and the weighted-average discount rate was 6.9% at January 2, 2021[321] - Deferred cash rent payments of $3.1 million at January 2, 2021, are excluded from the maturities table and included in other current and non-current liabilities[304][321] (8) Shareholders' Deficit This note details Sleep Number's shareholders' deficit, including stock-based compensation expense, common stock repurchases, and net income per share calculations Total Stock-Based Compensation Expense (in thousands) | | 2020 | 2019 | 2018 | | :--- | :--- | :--- | | Stock awards | $19,435 | $14,265 | $8,930 | | Stock options | $2,378 | $2,392 | $2,482 | | Total stock-based compensation expense | $21,813 | $16,657 | $11,412 | - Unrecognized compensation expense for non-vested stock options was $2.9 million (expected over 1.8 years) and for stock awards was $20.3 million (expected over 1.7-1.8 years) at January 2, 2021[326][328] Repurchases of Common Stock (in thousands) | | 2020 | 2019 | 2018 | | :--- | :--- | :--- | | Amount repurchased under Board-approved share repurchase program | $228,111 | $145,900 | $279,101 | | Amount repurchased in connection with the vesting of employee restricted stock grants | $7,040 | $9,673 | $3,344 | | Total amount repurchased (based on trade dates) | $235,151 | $155,573 | $282,445 | - Remaining authorization under the Board-approved share repurchase program was $247 million as of January 2, 2021[330] Net Income per Common Share (in thousands, except per share amounts) | | 2020 | 2019 | 2018 | | :--- | :--- | :--- | :--- | | Net income | $139,189 | $81,845 | $69,539 | | Basic weighted-average shares outstanding | 27,665 | 29,472 | 35,256 | | Diluted weighted-average shares outstanding | 28,428 | 30,355 | 36,165 | | Net income per share – basic | $5.03 | $2.78 | $1.97 | | Net income per share – diluted | $4.90 | $2.70 | $1.92 | (9) Revenue Recognition This note details Sleep Number's revenue recognition policies, including estimates for sales returns and accounting for multiple performance obligations like SleepIQ technology - Revenue is recognized when control of promised goods or services is transferred to customers, in an amount reflecting expected consideration, excluding sales taxes[269] - Accrued sales returns represent a refund liability based on historical return rates, adjusted for current trends[270] - Beds sold with SleepIQ technology have two performance obligations: the bed (satisfied at a point in time) and SleepIQ hardware/software (satisfied over time, recognized straight-line over a four-year estimated life)