Earnings Call Transcript - SNBR Q1 2020

Operator, Operator

Welcome to Sleep Number's Q1 2020 Earnings Conference Call. All lines have been placed in a 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.

Dave Schwantes, Vice President of Finance and Investor Relations

Good afternoon and welcome to the Sleep Number Corporation first quarter 2020 earnings conference call. Thank you for joining us. I am Dave Schwantes, Vice President of Finance and Investor Relations. With me today are Shelly Ibach, our President and CEO; and David Callen, our Chief Financial Officer. The three of us are in our Minneapolis offices for the call today, but are social distancing as we sit apart in our conference room. 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.

Shelly Ibach, President and CEO

Good afternoon and welcome to our 2020 first quarter earnings call. My SleepIQ score was 83 last night. In just a few short weeks, our live businesses and economy have radically changed and we are all navigating an unfamiliar environment. The COVID-19 pandemic is a human and economic crisis unlike anything our world has ever experienced. Our hearts go out to the health care workers, our team, customers, partners, and all the families and businesses who have been hurt by this virus. As a purpose-driven company, we have focused our energy and resources on keeping our team members safe. Serving our customers and ensuring our business continuity. We have closely adhered to the guidelines provided by the CDC and national and local governments. As a result, our headquarters, labs, customer service, and store teams began working remotely mid-March. And by March 31st, 80% of our stores were closed. Our teams have quickly implemented innovative, alternative solutions to serve our customers and support our operations. As we announced two weeks ago, we have taken swift actions to preserve our financial flexibility, increase liquidity, and control expenses. In mid-March, we drew down the remaining $262 million available under our revolving credit facility and added $75 million in cash through a term loan on April 3rd. We began executing more than $150 million of expense reductions and have decreased capital deployment plans by more than $100 million. We made the difficult decision to furlough or reduce hours for approximately 70% of our team members. And we reduced Board, senior leadership, and company-wide compensation and benefits through variable incentive programs and other actions. These near-term measures are necessary to effectively manage through the current environment. In parallel, we remain intently focused on retaining our Sleep leadership position, market share gains, and superior shareholder value creation as this crisis abates and the economy recovers. Our significant competitive advantages enabled exceptional first quarter results and extended the double-digit demand growth trend of our prior six consecutive quarters through the second week of March. Disciplined execution of our differentiated consumer innovation strategy produced record first quarter results, despite the severe adverse impact caused by COVID-19 on demand in the back half of March. Q1 results included 11% net sales growth to $473 million with a 7% comparable gain, and five points from new stores; 61% growth in net operating profit to 11% of net sales; 70% growth in earnings per share to $1.36; and 54% growth in free cash flow to $75 million. During the quarter, units grew 10% and average revenue per unit rose 2%, driving a 240 basis point increase in gross margin rate to nearly 64%. These results reflect accelerating consumer demand for the health and wellness benefits provided by our revolutionary 360 smart beds. In addition to improved operating efficiencies, we drove a strong premium mix across good, better, and best with growth in the attachment of our smart bases with Partner Snore and foot warming features. Our ability to drive growth from both ARU and units over time is a key outcome of our strategy. Importantly, these consistent top decile results are the real underlying potential for our business and the performance we expect to return to after this unprecedented crisis. The near-term challenges caused by the pandemic are substantial. However, the strength of our business and balance sheet and the measures we have taken in recent weeks combined with our highly engaged and resilient team give me great confidence in our ability to rebound with strength. Here are a few highlights which demonstrate our agility and innovative mindset to ensure business continuity under the current circumstances. With closed stores and a significant media reduction, we refocused our April marketing efforts to target our loyal insiders and brand advocates. We often highlight how important our referral and repeat business is, which represents more than 45% of our overall sales. Our ability to quickly lean into these lifelong relationships in this time of uncertainty is a powerful advantage and performance driver. We implemented numerous digital CRM solutions to enable customers to easily engage and transact with us while retaining the value of our relationship-based selling model. Our new digital capabilities include a blended operating model of team members selling from home via phone and chat, open stores, and online. As a result of our actions, the composition of our sales in April include approximately 25% of our sales coming from closed stores, another 25% from open stores, and 50% of our sales from online live chat and phone with online sales up 250% over the prior year. We also implemented customer self-service digital solutions including service requests, rescheduling, and a contact-less delivery solution. Results include sustaining levels of service with approximately 80% of our markets open for home delivery and record high customer satisfaction scores. As a result of these pivots, our sales orders per day have steadily improved in April. During the last two weeks of March, as government mandates closed 80% of our stores, our sales orders also abruptly declined almost 80% compared to the prior year. With the actions we've taken, our sales have improved to down approximately 50% in April. We rapidly modified our manufacturing operations and supply chain to reflect our lower near-term sales outlook. In addition, we are working with our suppliers on plans for acceleration in an ambiguous time frame. These actions demonstrate the agility, real-time visibility and controls inherent in our vertically integrated business model, as well as the seasoned leadership, responsible resilience, and purpose-driven commitment of our team. As the pandemic redefines how we all live, shop, and work; these further advancements in our digital capabilities and technology will be part of how we operate in the future. I couldn't be more proud of our Sleep Number team during this difficult time. And I am deeply grateful for their tenacity and ingenuity. Every day, I see evidence that they are making a difference for each other, our customers, our company, and our community. Our Irmo South Carolina manufacturing plant for example is supporting the South Carolina Hospital Association by refurbishing nearly 200,000 N95 masks, fulfilling a much-needed supply for health care workers. Sleep Number has forged a strong positive connection between proven quality sleep and overall wellness. The current environment has heightened individuals' concerns about their immunity and emotional and mental resilience. It is more important than ever for society to benefit from the proven quality sleep that our life-changing 360 smart beds provide. Near-term, we plan to advance our exclusive 360 smart bed software features to provide all of our SleepIQ customers with personalized wellness reporting, circadian rhythm and heart rate variability insights, delivering a deeper understanding of the link between sleep and overall health and wellness. We also moved our new 360 smart bed launch from the second to the third quarter when in-store operations and media spend are expected to be recovering from current low levels. Though, we were prepared to launch in April, our business model responsiveness is allowing us to postpone introduction without adverse impact to inventory, marketing, or training. We expect this kind of agility combined with our mission-driven culture to enable us to quickly rescale our store, manufacturing, and logistics operations. We are excited for the launch of this new line to be an important part of our rebound. Given the uncertainty around the impact and duration of COVID-19, we withdrew our 2020 guidance. We expect the existing government-mandated closures to continue to place meaningful pressure on sales through May and to a lesser extent into June, followed by a gradual recovery in the back half of the year. As we have more clarity, we will continue to share updates on our outlook. We are doing everything in our power financially, strategically, and operationally to effectively navigate through this crisis, continue to keep our team and customers safe, and help our communities achieve higher quality sleep. We are extremely grateful to our valued partners and suppliers for their support which has been instrumental in ensuring our business continuity. Consumer demand for our life-changing 360 smart beds was exceptional going into the pandemic, and we expect it to be exceptional after this crisis. Our digital traffic remains at double-digit increases over the prior year. Our brand metrics remain at all-time high and we will use this dislocation to accelerate our mission and strategic opportunity around health and wellness.

David Callen, Chief Financial Officer

Thank you, Shelly. I'd like to add my best wishes for the health and safety of your loved ones through this unprecedented challenge. The depth of this crisis and the duration of the recovery are unknowable. That makes business planning and financial forecasting in this environment extremely complex. We've pressure tested our liquidity forecast with a variety of inputs including some severe what-if scenarios. One example was to model our liquidity if sales were just 20% of the prior year for the balance of 2020. That model indicated our current liquidity would take us deep into the fourth quarter. Now an 80% sales decline is not realistic, since it's materially worse than our actual experience. However, it does illustrate the sufficiency of our liquidity and the variety of inputs we've considered to effectively manage the business in a highly uncertain environment. While we are not providing guidance today, we are sharing one set of possible outcomes we used to inform our cost and capital deployment decisions. With nearly all states under some form of stay-at-home order, we expect the most COVID-19 impact on consumers and businesses here in the second quarter. Therefore, we modeled Q2 sales at about half of the prior year. Also remember that Q2 is our seasonally low sales and cash generation quarter. While no one knows what government mandates may still be in effect, we assume consumer confidence and business conditions will improve through the back half of the year. One of our models assumes a Q3 sales decline versus the prior year of about half the Q2 decline. Then with the benefit of the extra week, we modeled Q4 sales to be about flat with the prior year. Based on these quarterly models and our cost and capital deployment cuts, our net debt would peak at the end of Q2 with a leverage ratio still below our 4.5 times EBITDA covenant. They also indicate free cash consumption of more than $50 million in the first half this year and generation of more than $50 million in the back half. What's important to understand is that we are actively managing all the levers in our control to balance near-term financial risks with our commitment to sustain our advantaged strategy. Our orientation for long-term performance embraces an approach now that enables us to rebound from this challenge with pace. This bias informs the actions we've taken to date. Our priority, along with the safety of our teams and customers, is capital preservation, but a meaningful and abrupt decline in daily sales in mid-March prompted the immediate suspension of our share repurchases. We also drew down the revolver and kicked off the accordion expansion process. These actions were taken out of caution rather than need, as our modeling indicates we'll repay the $75 million loan unused at the end of its 364-day term. The realities of COVID-19 are dynamic. Each week we learn more. The actions we've taken to date are based on the modeling I've outlined today. Our approach is to preserve maximum flexibility to rebound quickly should business conditions improve faster. Alternatively, if conditions worsen, other actions are certainly available and will be pursued as needed. Having control of our vertically integrated business model enables us to be nimble. We will continue to act with pace. Other actions across our business to preserve liquidity and profits include: real-time adjustments to our component flow to properly balance our inventory enabled by our close ongoing partnerships with suppliers; deferral or negotiated concessions from important marketing partners; rent deferrals for stores and operating locations impacted by COVID-19 mandatory closures, plus advantaged accounting treatment for those deferrals; decisions to close approximately 25 stores on month-to-month leases with high probability for sales, transfers, and the profits associated; labor and sales tax recoveries under the CARES Act; and continued evaluation of other liquidity sources, including the remaining accordion availability of $75 million and other liquidity markets, though we expect to meet our liquidity needs in 2020 from operating cash flow and existing credit facilities. The fundamentals of our business and our balance sheet are strong as a result of years of prioritized investment and our decisive actions in recent weeks. We continue to execute for the long-term as we allocate capital. Given the current environment, we are preserving flexibility by prioritizing projects with more immediate benefits to profits. For example, our store investments generally have a two-year payback. So we have delayed about half of the planned 2020 store actions. On the other hand, the cost-benefit assessment of our new $3.5 million assembly distribution center in Los Angeles indicated we should proceed as planned. We expect lower total cost of operations when this ADC replaces the existing hub in early May. The business disruption from the COVID-19 pandemic and our related actions to date will delay but not derail the significant value-creating prospects of our business. Our continuously improving initiatives across the business that delivered compelling value creation in 2019 did so again in the first quarter of 2020. The financial performance in the first quarter highlights the strength of the business. Our net sales of $473 million grew 11%, including 7% comparable and five points from new stores. Units were up 10% and ARU grew 2%. Average trailing 12-month sales per store of $2.9 million grew 7% with 32% of our stores generating more than $3 million per store. Online and phone sales in Q1 grew 21% over the prior year. Our Q1 gross margin improved 240 basis points over the prior year's first quarter with favorable mix and operating efficiencies more than offsetting delivery labor inflation. We also drove a 350 basis point increase in our net operating profit rate to 11% of net sales while spending to support our near- and long-term growth drivers, including a 25% year-over-year increase in our R&D spending. These investments plus approximately $3 million in net COVID-19 payroll costs were partially offset by approximately $6 million lower broad participation cash incentive compensation. With sales up 11% in the quarter and operating profit up 61%, our earnings per diluted share grew 70% to $1.36, while absorbing approximately $0.11 of income tax headwind year-over-year. The utility of our infrastructure drove a 37% increase in trailing 12-month cash from operations, a 19.1% ROIC, and a Q1 ending leverage ratio of 2.6 times EBITDAR. We ended the quarter with $239 million of cash on our balance sheet and added another $75 million through our new facility funded on April 3. These metrics convey the health of our business ahead of COVID-19. They also provide insights into how we'll overcome the challenge ahead. Sleep Number innovations improve health and wellness while being highly attainable with a value-packed starting price of $999 for our C2 360 Smart Bed. We expect demand to grow significantly, as we are able to reopen stores and consumer confidence improves. We also expect investors to again be rewarded over time. Cheryl, at this point please open the line for clarifying questions.

Operator, Operator

The first question comes from John Baugh of Stifel. Please go ahead. Your line is open.

John Baugh, Analyst

Thank you. Good afternoon. Congrats on the great first quarter and kudos to management sharing in the economic pain. I'm going to jump right in. Could you talk, Shelly, to any states, maybe Florida, that have recently opened and what exactly is happening with your stores, if anything, in those states or what you anticipate near-term in states that open?

Shelly Ibach, President and CEO

Sure, John. As we examine the stores that have reopened or are currently open, there's variation depending on the state, reflecting local conditions whether at the county or state level. This creates noticeable differences throughout the country. Some markets have reopened with low transactions and traffic, yet customers are entering the stores in an environment close to normal. In other states where we've reopened, customer visits heavily rely on our outreach efforts to draw them in. It's quite different from state to state. Typically, our business operates consistently across the nation without significant fluctuations in traffic. While there can be brief weather-related impacts, these are always short-term. Overall, things tend to be stable, but we're observing some differences now. What I really like about what we've learned and executed over these last four weeks is our team's ability to rise above their circumstances and utilize innovative solutions to continue to drive performance. It is so impressive, John. It speaks to our mission-driven culture and the tenacity that our team has to figure out a way. And so, we're not sitting here in a situation where we're opening stores and then dependent on our marketing driving in traffic, because of our relationship-based selling model and the lead strategy that we have and the ongoing relationships with our insiders which represent such a significant portion of our business, gives us the ability to drive performance. And I'm really pleased with what we've been able to accomplish over the last four weeks in unbelievable circumstances.

John Baugh, Analyst

Yes, it's unprecedented for sure. I'm curious about how your customers, whether they come in through your marketing efforts or just walk in, feel about lying on a bed and how you are managing that anxiety. Traditionally, new customers engage in the process of finding their Sleep Number by trying out the beds, so I'm interested in how you are handling this aspect.

Shelly Ibach, President and CEO

So John, we have been diligently following CDC guidelines from the start regarding social distancing, hygiene, and sanitation. Our stores maintain low traffic and low occupancy, and we also offer private appointments. We have multiple ways to engage with our customers while ensuring a clean and cautious environment. We have dedicated hours for elderly and vulnerable populations as necessary. From the outset, our priority has been to keep our team members and customers safe while contributing to our communities and maintaining business continuity. We have continuously adapted to find the best path forward. As I mentioned earlier, in some markets, customer behavior is quite normal, while in others, there is more apprehension. However, our approach and the small store environment, where there is typically only one customer at a time, effectively alleviate any concerns. Our team remains professional and has gained significant experience, leading to a positive situation overall.

John Baugh, Analyst

All right. And then my last question just is clarity maybe for David. Could you walk us through again the April comments? It was down 80%? It was down 50%? That walk us through precisely orders versus shipments that wasn't quite clear? Thank you.

Shelly Ibach, President and CEO

John, you're asking for clarity around Q1 performance? Sure. Well I'm actually going to start with Q1, because I think it just helps understand the performance intervals. So we came into Q1 with momentum into our seventh quarter of double-digit demand. And we had a sales growth of up 17% quarter-to-date through the second week of March. And then we were hit with the results of the COVID-19 pandemic and our sales have roughly declined. And by the end of March, by March 31st, we had 80% of our stores closed and our sales were down nearly 80% at that time as well. And every week through April, we've been able to improve. We look at right now our average revenue per day, as well as the week and different trend lines three days, ten days, seven days. And we've been able to steadily improve our performance with all of the different digital capabilities and new selling model that we've been able to create. And so we've had consistent improvement and now we're looking at April of being down approximately 50%.

John Baugh, Analyst

Great. Thank you for that. And congrats in the tough environment. Very good luck. Good job.

Shelly Ibach, President and CEO

Thank you, John.

Operator, Operator

Your next question is from Brad Thomas of KeyBanc Capital. Please go ahead. Your line is open.

Brad Thomas, Analyst

Hi, thanks for taking my question for all the color. I just want to follow up on John's last question and talk a little bit about the sales in April. You gave some details on this in the prepared remarks, Shelly, but of the sales that you converted in April, could you talk a little bit about how much of that dollar value came from maybe an Internet purchase? And how much of that came from a customer that didn't even go into a store? I'm just trying to understand the strength of your business for customers that may not even go into a store and how much of that business to be retained if the consumer wants to stay away from stores for some time.

Shelly Ibach, President and CEO

Yeah. Brad, when you look at the composition of sales in April, I'll start here. 25% came from stores that are closed. So that means Sleep professionals selling from their home either over the phone or via chat, so no customer interaction at all. 25% was generated from stores that are open and that's a mix of phone calls and follow-ups and customers coming into the store. And then 50% of the total sales came from online chat and phone through our more traditional channel method.

Brad Thomas, Analyst

That's very useful. Now, regarding the cost side of things, you mentioned a scenario where second-quarter revenues could potentially decline by around 50%. Can you provide some insight into what operating income might look like if revenues follow that trend for the second quarter? Additionally, could you help us understand the cost run rate in this context?

David Callen, Chief Financial Officer

Yeah. Brad, I'm not going to provide guidance. We've pulled our guidance for a reason. This is a very unusual circumstance that we're all working our way through and trying to predict what will happen and when is a bit futile. Now what we've provided you is some of the modeling that we've used to help us make decisions. We certainly need to make decisions in this environment. We've done that. However, you can bet that we are going to be working hard to deliver the best possible results that we can and we'll continue to update you and the rest of the group as we progress through the year.

Brad Thomas, Analyst

Okay. Fair enough. Thank you all so much and good luck.

David Callen, Chief Financial Officer

Thanks, Brad.

Shelly Ibach, President and CEO

Thanks, Brad.

Operator, Operator

Your next question is from Bobby Griffin of Raymond James. Please go ahead. Your line is open.

Bobby Griffin, Analyst

Good afternoon everybody. Thanks for taking my questions and I congratulate you on a great first quarter.

David Callen, Chief Financial Officer

Thanks, Bobby.

Bobby Griffin, Analyst

The first question I want to discuss, Dave, is about the recovery process. Can you explain your approach to opening stores? Is it based on individual markets or specific stores? If some demand returns slower than anticipated, do you have the flexibility to keep certain stores closed in those markets until the demand picks up?

Shelly Ibach, President and CEO

Yeah. Bobby, we follow our local and national government mandates for reopening stores. So that is our approach following CDC guidelines and the government mandates. And we are reopening as such. We have, with our unique selling model and process, as a vertically integrated company, we're able to generate business and we've demonstrated that in every single situation to date. So I'll give you the example of last week. We reopened 44 stores last week. And these 44 stores were in a variety of different states, with different community environments, and each and every store was able to generate a decent demand for their business. Now, it came in different ways. Some markets had traffic, some did not, and this is where we're able to utilize and really focus on our insiders right now, our brand advocates, as well as the significant digital traffic we have to be able to build that relationship and convert sales.

Bobby Griffin, Analyst

Okay. That's helpful. And I appreciate that example. Secondly, can you talk about from the consumer financing side of your business? The Synchrony financing program is an important program, has been very successful. It's a completely different type of slowdown than the last recession. But what exactly are you hearing from them in terms of consumer credit availability? Or what are you seeing in terms of consumer credit availability within your program?

David Callen, Chief Financial Officer

Well, Bobby, counterparty risk is certainly something that we keep very close to as well and have been tightly connected with Synchrony and their management team. We connect with them on a regular basis. And their business is very different obviously from the last recession. Back in 2008, 2009, they were part of a bigger company that was cash-constrained versus today. They are highly cash capitalized. And so, they have significant deposits on accounts, and their balance sheet is very strong. So, they have continued to reiterate to me that they're in it with us. They love our customer base. We tend to skew a little higher income and a little bit older and they love our customer base. And their only business is – as a publicly traded company as well is generating business through their credit operations. And so they're in it with us, and they've committed that that's going to continue.

Bobby Griffin, Analyst

Thank you, Dave. Thank you, Shelly. It’s very helpful. Best of luck in the second quarter.

David Callen, Chief Financial Officer

Thanks, Bobby.

Shelly Ibach, President and CEO

Thank you, Bobby.

Operator, Operator

Your next question is from Peter Keith of Piper Sandler. Please go ahead. Your line is open.

Peter Keith, Analyst

Hey guys. Good afternoon. And, yeah, really nice Q1 guys that well shaped out to be quite a strong quarter. It still finished quite strong. I'd even say, expectations were down 50% in April much better than we were expecting. Shelly, I wanted to ask you just about the advertising and how you're approaching that in terms of pulling back on the advertising spend? And is there any delay effect where maybe the heavy advertising of March is helping April, but pullback in April could impact May or June. How do you think about that kind of a ripple effect over a couple of weeks or a couple of months?

Shelly Ibach, President and CEO

Thank you, Peter. We reacted promptly in March when we noticed a drop in sales, which brings us back to mid-March. There could be some lingering effects in April as customers become aware, but we haven't shut down completely. We significantly reduced our media spending, aligning it with our sales increases, which shows how much we've scaled back. However, we're still seeing strong double-digit digital traffic, which is encouraging, along with improved metrics for brand satisfaction, indicating the high demand we've experienced. We've just completed our sixth consecutive quarter of double-digit growth, meaning this is the third quarter where we are comparing against last year's double-digit sales growth. This demonstrates the robustness of demand for the 360 smart beds.

Peter Keith, Analyst

Okay. I also just wanted to understand maybe the mix of sales and attach rate with adjustable bases. It sounded like your orders are kind of running down 50% and you would expect sales in April to be right down 50%. So, maybe really no change to the mix. But could you confirm that for us just in terms of ARU and attach rate?

Shelly Ibach, President and CEO

Yes, we definitely have a change in mix. Currently, 50% of our sales come from online, phone, and chat, which is quite different from our usual composition. Our in-store selling process offers a better average revenue per unit, which highlights the quality of the in-store experience and our team members' interactions. Thus, we are seeing a shift in mix. A significant advantage of our strategy is that we can foster growth in both average revenue per unit and units sold, ideally achieving growth in both areas. This is evident annually and especially in a quarter like Q1, where we see substantial growth in both categories. We are also pleased with our 64% gross margin in Q1. During this time, particularly in April, we will experience fluctuations in average revenue per unit and mix, which will affect margins as well. We might not see the same attach rate as before, and with an increase in online sales, our mix might shift downwards. It's important to note that these changes are temporary and we are committed to improving performance from both areas while experimenting with various tactics. We quickly adapted our strategy for April to boost sales by focusing more on insiders, reducing the need for extensive marketing, and we are satisfied with what we’ve achieved through our competitive advantages.

Peter Keith, Analyst

Okay, that's great. Certainly, I think down 50% is much better than we would have expected at this point. And lastly for me is just on the deliveries because people have to have Sleep Number or agents come into their home to assemble the beds, has there been any pushback on that maybe customers are hesitant or delaying some of the shipments? Just kind of understanding how that could carry forward in the coming months.

Shelly Ibach, President and CEO

We have continued to achieve results in about 80% of the market, up from a previous low of around 75%. This improvement is clearly in line with following CDC guidelines and maintaining all necessary sanitary precautions. People want their beds, especially as many find themselves without one, and many are realizing the significance of quality sleep for their overall health and wellness. They are seeking out beds that provide proven quality sleep. Additionally, we have introduced the option for customers to reschedule their orders online, which is particularly advantageous given marketplace changes, making the process efficient and effective for both customers and us.

Peter Keith, Analyst

Okay, that's very helpful. Thanks a lot and good luck.

David Callen, Chief Financial Officer

Thanks, Peter.

Operator, Operator

Your next question is from Atul Maheswari of UBS. Please go ahead. Your line is open.

Atul Maheswari, Analyst

Good evening. Thanks a lot for taking my questions. So when you did the stress test on sales being down 80% for the full year, what fixed cost did you assume in that analysis? There's obviously rent for your stores and for your manufacturing or distribution facilities. And then you have the corporate center cost. So what other fixed costs did you assume? And are you able to size or quantify these costs for us in any way?

David Callen, Chief Financial Officer

At our level, all of our costs are variable, which makes it an unusual model to operate under, as it's not a typical business situation. This required significant reductions in our cost structure across the board. Our goal was to be conservative with our assumptions in order to manage our liquidity burn effectively and support the business for as long as possible. This is just one of many scenarios we considered. I mentioned it as an example, but I wouldn't recommend using it to project our expectations for the business this year. However, the commentary I provided about our free cash usage in the first half compared to the free cash generation in the latter half illustrates a more reasonable framework for what we’re observing so far.

Atul Maheswari, Analyst

Understood. Thank you. That's very helpful. And just as my follow-up. In the past, what percentage of your sales involve delivery and assembly of products at customers' homes? And then along those lines on your contactless delivery initiative, can you just provide a little bit more color on how you're going about it? And so for example, are you providing some sort of an online tutorial to your shoppers so that they can assemble the beds themselves? Just any color here would be very helpful. Thank you.

Shelly Ibach, President and CEO

With our smart beds, all of our beds are home delivered. And that's a change that transpired when we moved to all smart beds seven quarters ago. Regarding the contactless delivery, we're in early stages of it. We've just been testing it here in the last couple of weeks, but it's essentially assembling the bed for the customer and delivering it complete in their garage or adjacent. So no, we do not have here's how you assemble it online. It is a specific response to a customer who wants this type of delivery. It's very small in the percentage, but importantly we have a solution.

Atul Maheswari, Analyst

Understood. Thank you and good luck with the rest of the year.

Operator, Operator

Your next question is from Curtis Nagle of Bank of America. Please go ahead. Your line is open.

Curtis Nagle, Analyst

Great. Thanks very much for taking my questions. First one, I just wanted a quick follow-up on the question on Synchrony. Are you guys seeing at this point any tightening in terms of the standards or the credit standards that they're putting through? Or do you have an expectation that that could occur? And if you could remind us what percent of sales credit accounts for?

David Callen, Chief Financial Officer

Sure. We have not seen any tightening at all. And I don't really expect that to happen in the near term. Obviously, credit conditions for some of their customers may be different than what they're seeing with our portfolio. But they've been an exceptional partner for us engaged with us and being creative about how to do business in this environment, and we very much appreciate that partnership. About half of our business in 2019 was financed.

Curtis Nagle, Analyst

Yes. Great. Thank you for that detail. And then just a quick one in terms of, I guess, just order and cost flow. I'm just curious if the demand falls, you guys started to see in the second half of March shift to P&L in March or perhaps it didn't until 2Q given that there's a lag between orders and when deliveries occur.

David Callen, Chief Financial Officer

Curtis, I'm not sure I understood that clearly. Are you inquiring about costs related to COVID-19?

Curtis Nagle, Analyst

Yes. So the question I'm asking is essentially about a revenue and cost recognition issue. You experienced a significant decline in demand and orders in the latter part of March. Did this impact your March figures, or did it extend into the second quarter due to the delay between when orders are placed and when deliveries happen, affecting when costs are recognized?

David Callen, Chief Financial Officer

Right. Shelly highlighted that both 2Q through the second week we had really strong demand. In the last three weeks of the quarter, demand was affected as were deliveries. The close she highlighted as well, that at one point a portion of our delivery capability was shut down as well of about a quarter of the country. And so there was some impact in Q1 on our deliveries and our demand capabilities in total demand within the quarter.

Curtis Nagle, Analyst

Thanks very much. I appreciate.

David Callen, Chief Financial Officer

Okay, Curtis.

Operator, Operator

Your last question is from Seth Basham of Wedbush. Please go ahead. Your line is open.

Seth Basham, Analyst

Thanks a lot and good afternoon. My first question is just a clarifying question to the last one. Just thinking about the timing of the impact on the P&L from the slowdown in activity at the end of the quarter, given that lag between the time that you take orders and you actually deliver them. I would presume that most of the P&L impact both on top and bottom lines from that slowdown didn't occur in the first quarter. It occurred in the second quarter. Is that correct?

David Callen, Chief Financial Officer

Well, a couple of things you can point to is, look, our demand as Shelly highlighted was up 17% quarter-to-date through March second week in March. And we posted net sales growth of 11%. So there was certainly some impact on our total sales recognition in the quarter in the first quarter. Certainly would have been much stronger if not for COVID-19 if that's what you're looking for. In terms of costs, clearly we had cost impacts in the quarter as well. We didn't have the efficiencies of our operations those last three weeks as well. Our factories weren't as busy things of that nature. So we absorbed quite a bit of cost pressure those last three weeks.

Seth Basham, Analyst

Got you. And second point of clarification is just on the April commentary of negative 50% sales rate. Is that a current run rate? Or is that a month-to-date figure?

David Callen, Chief Financial Officer

That was month-to-date.

Seth Basham, Analyst

Month-to-date. Okay. And so presumably, it was worse than that beginning of April and it's improved better in that at this point in time.

David Callen, Chief Financial Officer

Yes. As Shelly mentioned, the situation was even more challenging in the last couple of weeks in March, but it has consistently improved each week this month.

Seth Basham, Analyst

Got it. And then the last question I had is thinking about the scenario analysis that you laid out with cash generation of $50 million in the second half based on your sales assumptions, et cetera. There's obviously some cost assumptions involved in that scenario. And I understand that you're not going to provide any insight into exactly what you're thinking from a cost management standpoint. But just more broadly, how are you thinking about your labor management as demand ramps back up? How are you going to bring back labor relative to your sales? Can you manage that pretty fluidly?

David Callen, Chief Financial Officer

Yes. I think the evidence is in the decisiveness we've already demonstrated, Seth. I think, having 70% of our teams on either furlough or reduced hours and then labor cost reduction initiatives on a lot of other fronts as well, across the entire company. And we've taken about a quarter of our costs out of our operating expenses from what we planned the balance that last nine months of the year. And we believe that we'll be cautious on bringing labor back. We obviously want to see demand come before we start to accelerate our labor, but they do go hand in hand in some cases and we'll manage that very closely.

Seth Basham, Analyst

And related to that, when you think about the risk of losing employees that you have on furlough? Is that contemplating your plans? Is that a real risk?

David Callen, Chief Financial Officer

Well certainly. We think of our team members as family, and the pain we felt when making those decisions is challenging, but it is necessary for the overall health of the business. We are taking actions to drive strong performance more quickly so that we can bring people back sooner. This is certainly a priority for everyone.

Seth Basham, Analyst

Okay. And last question is just on labor. In terms of when you're operating a store, what's the minimum labor requirement to operate that store on a daily basis?

David Callen, Chief Financial Officer

Well it depends because we've actually gone to a modified hour structure, so it's less than it once was. And so, we're able to staff our stores with a couple of people where in the past it was a minimum of three across the country.

Seth Basham, Analyst

Understood. All right. Thank you very much and best of luck.

David Callen, Chief Financial Officer

Thanks a lot, Seth.

Operator, Operator

There are no further questions at this time. I will turn the call over to the company for closing remarks.

Dave Schwantes, Vice President of Finance and Investor Relations

Thank you for joining us today. We look forward to discussing our second quarter 2020 performance with you in July. Sleep well and dream big.

Operator, Operator

This concludes today's conference call. Thank you for your participation. You may now disconnect.