Yahoo Finance

Francis Lee

Thank you, Linda. I look forward to working together with you and our teams.
The start of the year has had its challenges. We responded quickly and we'll continue to take actions to put us in the best possible position as a company and for our shareholders. There will be more to come later this year.
Starting our Q1 financial performance. Net sales for the first quarter were $393 million, a decrease of 16% compared to the prior year. Despite the headwinds, we have seen a positive consumer response to our Climate Series beds, which has helped to expand our ARU by approximately 4% versus last year. As Linda will articulate, we are focusing on the efficiency and effectiveness of our marketing to drive a sustainable return on investment in the near term.
An area of continued strength is our gross profit margin, which expanded to 61.2% in the first quarter, up 250 basis points versus last year. This improvement was driven by continued operational efficiencies in our supply chain and manufacturing operations as well as product mix. The strength of the Climate Series, our ClimateCool and Climate360 smart beds is contributing positively to gross profit margin.
Our margin expansion as a result of sustained structural improvements we've made over the past 18 months. We remain committed to aggressively managing operating expenses. First-quarter operating expenses, excluding restructuring and one-time costs, totaled $237 million, which was a $23 million, or 9% improvement over last year. The operating cost improvements are largely the result of lower variable marketing and selling expenses associated with lower net sales.
Adjusted EBITDA for the quarter was $22 million, a decrease of $15 million from the prior year. Adjusted EBITDA margin was 5.6%, 230 basis points lower than prior year. While our gross profit margin rate improved, the decline in net sales and associated loss of fixed cost leverage, pressured adjusted EBITDA margins, and gross adjusted EBITDA, our leverage ratio on a trailing 12-month basis was 4.46 times EBITDAR at the end of the first quarter within the 4.75 times covenant maximum.
Shifting to tariffs, we are closely monitoring the evolving landscape and proactively managing through this dynamic environment. We anticipate the net impact on the P&L to be limited in Q2 based on currently proposed policies and the 90-day pause that is in effect through July 8.
Our sourcing strategies have evolved as part of our ongoing efforts to expand gross profit margin. And those changes have also given us greater flexibility on what we source from where. Our team has re-evaluated our sourcing footprint considering the most recently proposed tariffs. We estimate to the unmitigated impact to be approximately $30 million for 2025, of which approximately $17 million we believe can be offset through thoughtful partnership with our suppliers and leveraging the flexibility of our supply chain.
We are evaluating the levers to mitigate the remainder based on what is best for the company and our customers. Our current financial assessment is based on what we know today, and we will continue to adapt to this highly dynamic situation.
Turning to liquidity, we are actively working within our debt covenants. As we communicated last quarter, we amended our bank agreement, which provides more flexibility with our covenants through 2025. We are managing what's in our control and taking ongoing cost actions, including those that Linda will discuss. We estimate this work will result in $80 million to $100 million of annualized cost reduction from the business as compared to our 2025 structure before related restructuring costs.
Also, we are currently working on ways to optimize our debt capital structure without diluting current shareholders. Our goal is to obtain the most flexibility to execute on our long-term opportunities. As we said on previous calls, we are focused on growing profitability and paying down debt.
As we look to the rest of the year, we are not providing full guidance on this call in part due to the rapidly evolving macroeconomic environment, including consumer sentiment. As you will hear from Linda, we are fundamentally changing how we run our business and anticipate these changes will positively impact our financials model in 2025 and beyond.
That said, I want to provide some directional guide posts around what you can expect from us and the actions we're taking. We expect continued top-line pressure in the near term given that the consumer environment is uncertain. However, from a cost perspective, we are prepared for demand not to improve significantly for the rest of the year if that should be the case.
We expect to maintain the gross profit margin improvements we achieved last year through ongoing material cost reductions, partnership with our suppliers, and efficiencies in our home delivery and logistics operations. Based on what we know today, tariffs could pressure that gross profit margin by approximately 100 basis points.
We are taking a fresh look at our operations, including our organizational structure, our marketing spend efficiency, and our R&D priorities. As I stated, we anticipate reducing our annualized cost by $80 million to $100 million. Approximately 35% of these costs are fixed, including research and development and G&A. 50% are structural changes to our marketing model for greater efficiency, and 15% are volume-driven.
More costs will come out over the next few months. We will see an immediate impact in Q2 and increasing benefits in the back half of the year as we continue to optimize our cost structure.
While we have hard work ahead, we are taking necessary actions now to position the company for a return to growth and profit flow through in the future. You can expect us to be bold in our actions as we take a closer look at our strategy and operations. Our focus on growing profitability and paying down debt remains unwavering. We are committed to creating value for our shareholders in a brand accretive, profitable, and sustainable way over the long term.
I will now turn it back to Linda.

Linda Findley

Thank you, Francis. The team has really stepped up to the challenge and they are excited to make structural changes necessary to get us on the right track.
In the past, we got ahead of ourselves and the consumer. We focused on innovating so far into the future and we lost sight of our core value proposition, helping people get a great night of sleep per night. It's important for us to meet them where they are now and to better communicate the benefits and differentiation of where we are today.
I believe our challenges are fixable in time and the solutions are largely within our control. Sleep Number sits on a strong foundation, and we do not plan to change what makes us stand out. However, as we look to the future, we are taking a different approach to delivering a better experience for our customers and strong returns for our shareholders.
To be successful, we need to be customer obsessed, leveraging our data to understand their needs, challenges, and what truly brings them to purchase and repeat purchase of Sleep Number bed. I have been working with the team to develop a plan forward, and now we're taking action with a heightened sense of urgency.
I see a path to improve our business and performance, both from a cost and the top-line perspective. Some of these initiatives will take time to implement and others are already in progress. Right now, as Francis noted, we have opportunities to further reduce expenses across our organization, building on the efforts in 2023 and 2024. We are rightsizing our spending and working to position the business to weather the current economic environment no matter how long it persists.
Our first priority is to change the way we're organized for maximum efficiency and to bring it closer to our customer. We created a new executive and senior leadership structure designed to consolidate overlapping capabilities and eliminate overspecialized roles. We aligned our product innovation to what our customers value most now and where we can excel.
We centralized our technology teams to support a more seamless customer and team member experience. And lastly, we were bringing end-to-end to end deficiency to our supply chain from sourcing to creation to fulfillment to ensure quality and consistency at every step of the journey.
In addition to this realignment of our leadership team, we've made broader changes across the senior levels of the company. This organizational redesign is part of our efforts to strengthen the company's performance. It will simplify decision making, increase accountability, and remove redundancies to better position us to succeed.
With this change, we reduced our corporate management by 21%. With new leadership in place, we will further streamline the organization under each of these new functions over the coming weeks.
While cost reductions are present across the Board, I want to focus on two key areas that impact both people and budget, marketing and R&D. Given consumer sentiment is likely to remain depressed for the foreseeable future, we are reshaping our marketing and advertising approach to prioritize efficiency and impact. Over the next few months, we have an opportunity to lower our marketing spend as a percentage of revenue.
The team is already developing new digital strategies and benefits-focused messaging designed for our target audiences. While these initiatives will take time to fully materialize, our goal is to establish a new marketing model that delivers more customer engagement from fewer dollars.
To lead this effort, we appointed Amber Minson as our new Chief Marketing Officer. Amber will be responsible for driving sustainable demand generation, brand visibility, and media efficiency to fuel growth. I have witnessed first hand her ability to build and maintain high performing marketing organizations.
As a data-driven CMO, Amber's new perspective on our marketing function is an opportunity to further reassess our spend. We plan to reinvest in marketing when the time is right. But for now, our focus is on doing more with less.
Regarding our R&D organization, we are redirecting its focus and lowering costs. However, with built on innovation, it will continue to be both. However, it's essential that we strike the right balance between enhancing innovation and ensuring the shareholder capital is being used efficiently.
We have an innovative product that delivers up to 28 to 44 minutes of restful sleep per night through full adjustability of firmness, position, and temperature settings, proven through real-world sleep data. No matter if you want to track your sleep data like me or just wake up refreshed because our beds effortlessly adjust to you night after night, without ever looking at your device, our years of innovation meet your needs.
With the only bed backed with 33 billion hours of sleep data and counting, we are ahead of the curve, and that allows us to focus our resources on the here and now of our customers' needs. Specifically, we will deprioritize adjacent opportunities where returns are uncertain or will take longer to realize. Instead, we will focus our resources on maintaining and improving our core technologies and introducing additional advancements while driving costs out of the process.
Together, these initial efforts are the first steps to creating a more efficient and focused company for shareholders, team members, and customers. We expect the collective actions to reduce expenses by about $80 million to $100 million before restructuring costs on an annualized basis as compared to our Q1 2025 cost structure.
Since I joined earlier this month, we have already reduced our Q2 operating expenses by approximately 10% compared to the Q1 2025 cost structure. We're also thinking long term and are evaluating more fundamental changes to position Sleep Number for future success. Now is a natural time to challenge assumptions and question all aspects of our business.
Over the coming weeks, we intend to take a closer look at our strategy and operations. Everything is on the table. We are looking at our supply chain, distribution strategy, product selection, and geographic reach. As I mentioned, our goal is to create a flexible cost structure that will set us up for growth and expansion.
This is just the beginning. We are approaching this work with an open mind and a bias toward bold and rapid action. I look forward to sharing more details about our long-term plan over the coming quarters.
I'm energized to lead this company to the necessary reset. We are already making positive changes and we have a lot of work ahead of us. It will take time and effort. By putting the customer at the center of everything we do and leading into the things that make us great, I believe that we can strengthen Sleep Number to its number 1 position as the leader in sleep wellness.
I see a path to drive long-term sustainable growth and profitability. We had helped people get a better night's sleep for nearly four years by delivering superior products that address to night's problem.
Before we turn to questions, I want to take a moment to thank the entire team. Sleep Number's advantage is more than our product, from the team of talented designers who craft each bed, the experts in our stores and support who genuinely care about customer sleep needs. Our team members are ready for change, and I'm looking forward to their future partnership.
With that, let's open the call to questions. Operator?

Question and Answer Session

Operator

(Operator Instructions) Bobby Griffin, Raymond James.

Alessandra Jimenez

Good evening. This is Alessandra Jimenez on for Bobby Griffin. Thank you for taking our questions. First, welcome, Linda, and we look forward to getting to know you.
First, I just want to -- you've only been in the role for about three weeks, but maybe just on a high level. What do you see are the low-hanging fruit for improvement that we should start to see in 2025? I understand everything's on the table, but some of these aspects I think longer to realize.

Linda Findley

Sure. Thank you very much for the question, and I'm excited to be here. I would say it's really divided into three areas. One is in the marketing space. I feel like there's a huge amount of opportunity for new efficiency in marketing. That would actually help us reduce the costs and reduce marketing as a percentage of revenue while also increasing the productivity of marketing and the efficiency marketing.
But the thing that excites me most about this change is actually that I also think we can deliver more benefits-based messaging as part of this change that will help customers see the value within the Sleep Number bed. Again, whether or not they're looking for all the bells and whistles and the top of line or if they're out looking for something and more of the mid-price range, we want to make sure that we have something for every customer that's truly demonstrates the value. So that's really the marketing side.
The second thing that I have observed is this organizational structure change. Being able to unleash the talent of the team and being able to make decisions faster through more streamlined organization not only saves cost but also improves our ability to function quickly and innovate quickly. Because people will have clearer authority and the ability to make decisions faster, that should speed the organization.
And then the third piece is the key point on R&D. Sleep Number has an incredible innovation history. The original product itself is one of the most innovative products out there. And so the ability to take advantage of all the innovation that's been built up over the years really apply that to customer needs and rethink.
As you were talking -- as you were sort of alluding to, we mentioned that everything is on the table. That innovation that's happened in the past lets us really refocus and say, okay, how do we apply it to today's customer in this environment and make sure we're bringing the right product to the right person at the right time? It's going to be an innovation story still going forward. But that innovation story can be on a much smaller cost space from where it was before and take advantage of all that history of everything that's been built up to really excite customers, which are differentiated products.

Alessandra Jimenez

That's really helpful, and we look forward to learning more as you guys progress.
And then I understand you're not providing guidance at this time, but I wanted to see if you could maybe provide any color on quarter-to-date demand so we can kind of level set our models for the near term.

Francis Lee

Yeah, thanks for the question. As you know, the Q1 results were out, and it's been a challenging environment that we see not just in our industry but overall across many sectors.
Since February, we've seen consumer confidence declined and that's impacted people's willingness to spend, again, not just in our industry but across the Board. So we're focused right now on rightsizing organization, controlling our costs, and really positioning ourselves to create a stable business that can perform no matter what the market conditions are. And we're not simply cutting costs; we're positioning our organization to be more efficient.

Linda Findley

I'm just going to follow up on that a little bit with some additional color, which is obviously, Memorial Day is a very big thing for us and we've already activated around Memorial Day. Our big focus right now though is focusing on preparing for Labor Day and kind of getting the organization resets that.

Alessandra Jimenez

Okay, that's helpful. Best of luck moving through the year.

Linda Findley

Thanks.

Operator

Michael Lasser, UBS.

Dan Silverstein

Hi, good evening. This is Dan Silverstein on for Michael. Thanks for taking our questions. And Linda, look forward to meeting you.

Linda Findley

Same. Thank you.

Dan Silverstein

Just on the overhaul, the marketing engine, what do you view as the biggest opportunities to strengthen the brand and the messaging to consumers? And just as a part of that, Sleep Number's use this partnership model with organizations like the NFL and others in the past. Do you see any opportunity to add some new dimension there? Any color would be greatly appreciated.

Linda Findley

I definitely see an opportunity to add new dimension there. I think that there's a couple of things to note.
So first of all, from a brand and overall product perspective, again, there really isn't a product out there like Sleep Number. And the sort of rabid customer base that you see engaging with the Sleep Number product is really pretty powerful. And if you follow our marketing, you'll notice that we've already made a strong move into more and more real-world customer stories that tell that story from the first-hand perspective.
So I think from a marketing and branding perspective, there's a few different opportunities. One, of course, is leveraging as much as we can on new technologies, new digital processes in order to make sure that our marketing is as effective as possible. And that includes thinking differently about maybe where we place spend and how we think about placing spend in order to drive true audience targeting and also true benefits messaging.
Sleep Number had a long history of technical innovation. And so, you've seen a lot about our features and our functionality, but translating that into a benefits mindset is really what's next on our docket. So that's kind of number one on the marketing side.
On the partnership side, I think the partnership side is extremely interesting. There's been some incredible partnerships over the years. I think there is opportunity to look at all of our partnerships and think about how we might want to continue to optimize them and use them to their maximum benefit.
But the most positive aspects about those partnerships, we have some really unique partnerships that have actually contributed quite a bit to the bottom line of the company and to the innovation side. And what I mean by that is we are actually technically the largest sleep study in the world with 500,000 active sleepers constantly sort of as an ongoing nightly sleep study.
And that data is incredibly powerful because that allows us to improve our product on a regular basis. And we can also use that in our marketing messaging and our other benefits messaging to make people understand how positive that is. So while we will be looking at every partnership and also potential new partnerships, we also will be recognizing where we're getting benefit from some of those partnerships already and make sure that we're actually maximizing that.

Dan Silverstein

Very helpful. And maybe just one more before I pass it along.
Useful to nothing being off the table strategically. With several changes in the competitive landscape in the bedding industry in the past few years, is there an increased appetite to explore wholesale distribution at this point? And any other growth levers you think the new leadership with fresh eyes might take a look at.

Linda Findley

All I can say is our eyes are very, very fresh and everything is on the table.

Dan Silverstein

Okay, thank you.

Operator

Peter Keith, Piper Sandler.

Peter Keith

Thanks. Good afternoon, Linda. Nice to meet you. Congratulations on the new role.

Linda Findley

Thank you so much.

Peter Keith

You had mentioned earlier in the call that you see the company got away from its core value proposition. And I was hoping you could flesh that out with a few more specifics on how you think about where the company got away from that.

Linda Findley

Sure. I think the primary thing that I think about when I say that is when you sleep in a Sleep Number bed, you just simply wake up feeling great. It helps with aches and pains. It helps you get more quality sleep. It's a combination of the fact that you have the adjustability on both sides from a firmness perspective plus temperature control plus the ability to adjust the base. There's just a lot about the core of the Sleep Number innovation that really just makes you more comfortable.
And I think in the process of thinking through the future of the business, there are times where maybe we have added a lot more bells and whistles around the product and thinking very far into the future. And I'm talking like 10, 15 years into the future of what is next, which I think is an incredible place to be and we've done a lot of great work there.
But what I mean by that is I think that we have maybe gotten a little bit further away from really explaining the value of the core Sleep Number proposition to the customer and making sure they just understand they're going to sleep better, like that is just the troops. And so that's a bit of what I mean.
Obviously, again, innovation is still a key part of that. That is how we got to that point of having that ability to just create a better night's sleep. But really what I mean by that statement is we have an opportunity to go back to our customer needs, what they're asking for the most, what they're looking for in our products, and make sure that we are both offering that at the right price point, offering it in the right place and time where they want to buy it, and also making sure that we're being really clear with them about what those benefits are so that they can see them regardless of where they are on that spectrum of what they're looking for. So that's really what I mean by that statement.

Peter Keith

Okay, that's extremely helpful. And just to follow up on that. As you talked about, the team is very focused right now on Labor Day.
Should we expect that there are maybe some product changes or some of this customer feedback that you're taking in? Can you move that quickly by Labor Day? Is that what you mean by the team being focused on that? I'll let you go further out.

Linda Findley

Again, I think that everything's on the table and we're not ready to talk about that yet. But again, everything is on the table. That's all I'll keep saying.

Peter Keith

Fair enough. Okay (multiple speakers)

Linda Findley

Yeah. Clearly, were already moving very quickly, so we plan to continue to do so.

Peter Keith

Okay. I want to make sure I get a question to Francis so he doesn't feel lonely. The tariff quantification is helpful. You mentioned, so it's $13 million of impact right now. I'm guessing that'll all be second half, if you can confirm that.
And then what tariffs level are you baking in for that $13 million impact? Is that China at a full 145%? Or just frame up what's embedded in the $13 million.

Francis Lee

Yeah, so I'll answer your first question around will it be second half. And the answer is yes. As I stated in my prepared remarks, the impact on Q2 will be limited primarily due to the pause on the tariffs going in effect through July 8.
As we look at the balance of the year, we've looked at the totality of where all our materials come from at the various rates. And that's all calculated in that $30 million unmitigated. And then we have $17 million, which we believe we can be offset through some of the actions we're taking. And this $13 million left, which we are going to tackle and address all our levers inclusive of potentially strategic pricing as we go forward.
You asked about China at 145%. Yes, that is the assumption within the China portion of our business. So we've tackled a bunch of it. We know there's some left and we're going to continue to go after it.

Peter Keith

Very good. Thanks so much, guys. Good luck.

Linda Findley

Thank you.

Operator

Brad Thomas, KeyBanc Capital Markets.

Brad Thomas

Hi, good afternoon. And Linda, let me add my congratulations and welcome to Sleep Number.

Linda Findley

Thank you.

Brad Thomas

I want to follow up on the advertising initially. It seems like certainly in this current environment, there's probably some real opportunities for efficiency there. One thing that we have seen over the years with Sleep Number is it has been a pretty well-oiled machine from an advertising perspective, and when it's been changed or dialed back, sometimes that's had a negative impact on sales in the short term.
I was wondering if you could just help us think about how you test and learn on this, what impact, if any, you're thinking there might be if you're reducing total dollars being spent in terms of the sales impact from this.

Linda Findley

So the way that we're looking at the marketing spend right now is to really focus on true efficiency. So I totally agree on past levers when it comes to marketing, but I think this is actually sort of a rethink of the approach and how we would actually think about media spend and creating a little bit of less reliance on the actual dollar amount of media spend and more on focusing on core audiences and the right channels.
So I would say that while -- there are going to be some bumps in the road. Obviously, there's transition time media is bought fairly far out in advance. We're not looking at it from a term of just cutting. We're actually looking at it from a term of reset and thinking about how we also leverage our digital property, meaning the e-commerce site to help drive additional efficiency. So we can deviate from some of the trends of the past where a cost cut would actually automatically result in a lower customer number.
And I think when you look at our numbers overall and you look at the industry numbers, you can see clearly that there's opportunity to increase efficiency and be able to bolster the marketing program and marketing return on ad spend effectively compared to the rest of the industry. So I think there's still headroom there in order to do that.

Brad Thomas

That's really helpful. I mean, if I could follow up on that, just thinking about pricing and promotions over the years, obviously, Sleep Number's done a very good job driving up ticket with innovation. How do you think about the level of promotion that might be necessary in the short term and in the long term?
And how you navigate tariffs? Do you need to raise prices because of tariffs? Or do you want to get more promotional because that's what this industry may require of you right now? How are you thinking about some of that?

Linda Findley

Yeah, I think we have a pretty well-oiled promotional machine, and so we understand how to pull those levers at the right time and in the right way. So that, I think, overall is in pretty good shape, and we can think about pulling those levers as need be.
I think the most important thing when we look at tariffs, as Francis was talking about, we've looked at a lot of different ways to manage the tariff impact across the business. And that includes looking at other costs. That includes looking at our overall sort of process of how we produce, where we produce, using the flexibility that's already been built in our supply chain to try to manage that.
At the same time, we also have a very good understanding of pricing of our product and really think carefully about where we want to leave core pricing the same for some of our core products. And then if we need to take pricing, take it within the right products that are at the right level of margin, and frankly, customer price point in order to make sure that we're balancing the portfolio where every customer can get what they need at the right price.

Brad Thomas

Really helpful. If I could squeeze in one more on stores. I don't think I heard any commentary on stores. How are you thinking about openings versus closures and reviewing the portfolio base at this time?

Francis Lee

Yeah. Right now, incoming into this call, we've maintained our current strategy of store openings and closures, which we've described to you in the past as a very organic and kind of living process where we look at the total DMA and profitability.
I think going forward, as Linda mentioned, everything's on the table. And so as a part of the holistic review of our strategy and operations, we will look at our store fleet and base and what makes most sense with respect to how we go to market along the lines of our distribution channels.

Brad Thomas

Very helpful. Thank you, Francis. Thanks, Linda.

Linda Findley

Thank you.

Operator

As we have no further questions, ladies and gentlemen, this will conclude today's question-and-answer session. I'd like to turn the conference call back over to Linda for any closing remarks.

Linda Findley

Thank you so much. We appreciate everybody joining the call today, and I look forward to meeting a lot of you as we execute our plans in the coming quarters.
In the meantime, if you have any additional questions, please don't hesitate to reach out to us directly. Thank you.

Operator

This concludes today's call. Thank you all for joining. You may now disconnect.