Sleep Number Corporation

Welcome to Sleep Numbers Q3 2024 Earnings Conference Call. All lines have been placed in the listen-only mode until the question and answer session. Today's call is being recorded. If anyone has any objections, you may disconnect at this time. I would like to introduce Dave Schwantes, Vice President of Finance and Investor Relations. Thank you. You may begin.

Good afternoon and welcome to the Sleep Number Corporation Third Quarter 2024 Earnings Conference Call. Thank you for joining us. I am Dave Schwanes, Vice President of Finance and Investor Relations. With me today are Shelley Eibach, our Chair, President, and CEO, and Frances Lee, our Chief Financial Officer. This telephone conference is being recorded and will be available on our website at sleepnumber.com. Please refer to the details in our news release to access the replay. Please also refer to our news release for a reconciliation of certain non-GAAP financial measures and supplemental financial information included in the news release or that may be discussed on this call. The primary purpose of this call is to discuss the results of the fiscal period just ended. However, our commentary and responses to your questions may include certain forward-looking statements. These forward-looking statements are subject to a number of risks and uncertainties outlined in our earnings news release and discussed in some detail in our annual report on Form 10-K and other periodic filings with the SEC. The company's actual future results may vary materially. I will now turn the call over to Shelly for her comments.

Good afternoon, everyone, and thank you for joining us. My Sleep IQ score was 76 last night. In addition to announcing our 2024 third quarter results today, We also announced that I will retire as board chair, president, and chief executive officer no later than the 2025 annual shareholders meeting. In keeping with Sleep Number's established succession plan, the board has engaged an independent executive search firm to help identify my successor. To further support an effective transition, I will serve as strategic advisor to this new CEO and board through the end of 2025. I am filled with gratitude for our team's deep commitment to our mission and purpose, which has inspired innovations like our revolutionary smart bed and digital wellness platform that have improved almost 16 million lives. These life-changing innovations combined with our company's remarkable culture, vertically integrated business model, and operating model transformation give me tremendous confidence in sleep numbers enduring, competitive advantages, and stakeholder value creation. The company also announced additional board and governance changes today, consistent with our deliberate, longstanding practice of aligning the company's strategic evolution with progressive board composition and governance. Details of these changes are described in today's separate CEO Retirement Release and Associated Letter to Shareholders. Now shifting to our third quarter results. Throughout the past year, we have taken ongoing action to transform our operating model for greater financial resilience across a range of economic environments. During the third quarter, our initiatives drove fraud-based efficiencies and a gross margin rate improvement to 60.8%, resulting in third quarter adjusted EBITDA of $28 million, which was in line with our expectations, even with persistent weakness in consumer demand. I am proud of our team for their agility and stellar execution in delivering these results. This increased financial resilience combined with our innovation superiority position us to accelerate into the demand recovery when it comes. Sleep Number is fit, lean, and generating cash in a challenging macroeconomic environment. With ongoing top-line pressure from the betting industry's third year in a recession, we did not experience the demand improvement in Q3 we had expected, and are furthermore not planning for improvement in the fourth quarter. As a result, we are lowering our full-year adjusted EVA guidance to a range of $115 to $125 million. We are outpacing our 2024 targets of $40 to $45 million in operating expense savings and 100 basis points of gross margin rate expansion. Our Q3 gross margin rate of 60.8% was 340 basis points better than prior year. In our year-to-date gross margin rate of 59.5% was 150 basis points above prior year. Q3 operating expenses were down $17 million year-over-year before restructuring costs, and year-to-date operating expenses were down $60 million. Our actions to transform our operating model are furthering flexibility and resilience in our cost of acquisition, cost of goods, cost to serve, and R&D G&A leverage. Highlights include deepening audience segmentation in our marketing strategies, sustaining material cost reductions in our go-forward gross margin rates, increasing demand-adjusted efficiencies in our manufacturing and end-to-end fulfillment network, and reducing R&D and indirect operating expenses supported by our restructuring efforts towards more variable costs. As a result of these rigorous actions, we now expect 2024 full-year operating expenses to be down approximately $75 million versus prior year, which will deliver a two-year operating expense improvement pre-restructuring cost approaching $160 million. We are confident in the sustainability of our more durable operating model as we continue to navigate this weak demand market. Consumer spending in our category and other high ticket discretionary products remains disappointing, and it continues to lag macroeconomic metrics. We believe consumers will require additional interest rate cuts that improve their financial position. and increase their purchasing power before returning to spending on these categories. With the betting industry and sleep number lapping two years of double-digit demand declines in the third quarter, we had expected a sequential improvement from the first half of the year. However, our Q3 demand was largely unchanged from first half performance. The two strongest periods in the quarter were July 4th weekend and Labor Day weekend with low single-digit growth. This concentration in the biggest sale weekends was much more marked these past two years than in prior years when consumer response was spread out over the weeks leading up to the event. This cautious shopping behavior is representative of a more scrutinizing consumer who is budget conscious, needs more time to make a decision than in prior years, and concentrates their purchases during promotional events for maximum value. We expect pressured sales trends to continue in the near term with the economy, U.S. election, and geopolitical conditions presenting ongoing uncertainty. In this environment, we are leaning into both our strong brand and innovation superiority. First, we are deepening initiatives focused on our brand differentiators in media and marketing segmentation to more effectively reach and activate the current limited number of attenders considering mattresses. Second, we are strengthening our market leadership position in temperature balancing sleep solutions to increase customer consideration and conversion. Earlier this month, we introduced the revolutionary climate cool smart bed. This new smart bed expands our assortment and price points of active temperature innovation, which includes our award-winning climate 360 smart bed and the dual temp layer. This new climate series, now set in all suite number stores, addresses one of the most important issues affecting sleepers, temperature challenges. More than two-thirds of sleepers report they sleep too hot or too cold. In addition to addressing temperature fluctuations through active temperature management, the Climate Series Smart Beds feature scientifically backed cooling programs that are designed to provide deeper, more comfortable sleep. The Climate Series Smart Beds are resonating with these target customers and are accretive to our gross margin rate. In summary, we are continuing to take actions that improve our financial resilience and durability as we simultaneously lean into Sleep Number's clear competitive advantages, including proprietary sleep innovations that deliver proven quality sleep through our sleep wellness platform with millions of smart sleepers connected to our brand and our vertically integrated business model. with exclusive direct-to-consumer selling in nearly 650 stores and online, and an efficient manufacturing and fulfillment network. Our transformation progress, combined with rigorous execution of our differentiated strategy, positions us when the market growth returns to capitalize on our innovation leadership, accelerate our profitable growth, generate strong free cash flow, and deliver increased value for all stakeholders. In closing, I want to thank our entire Sleep Number team for their passion, resilience, and stellar execution in a difficult retail environment. Their dedication to our mission and best in class effort are driving new innovations and financial results that serve as a strong foundation for return to growth as market conditions improve. Now, Francis will provide additional details about our performance and outlook for the year.