Good afternoon and welcome to the Sleep Number Corporation second quarter 2021 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. 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 and welcome to our 2021 second quarter earnings call. My SleepIQ score was 84 last night. As a company with purpose, Sleep Number is keenly focused on innovation and long-term investments that improve the health and well-being of society through higher-quality sleep. Every night our life-changing 360 smart beds with SleepIQ technology deliver an effortless individualized sleep solution that benefits millions of smart sleepers. As consumers continue to prioritize their health, we are driving exceptional demand for our Sleep Number 360 smart beds. And even as consumers increase their travel and entertainment activities we are deepening and broadening our brand relevance. Our unprecedented demand growth combined with global supply chain disruption limited our Q2 deliveries. Our mission-driven team's relentless focus on our customers' experience has led to the acceleration of key initiatives that scale our capabilities, increase our efficiency, and contribute to superior stakeholder value creation. As a result of exceeding our internal expectations we are again raising our full year 2021 EPS guidance. Our new outlook of at least $7.25 compared with EPS of $4.60 for full year 2020 excluding the 53rd week, and is nearly three times our 2019 EPS of $2.70. Our first half performance represents another sales and profit record demonstrating the power of our competitive advantages and benefits of our vertically integrated business model. Specifically, consumer demand for our smart beds in the first half of 2021 was up more than 40% versus 2019, reflecting an acceleration in the second quarter. In fact, since transitioning to all smart beds 12 quarters ago, our average quarterly demand growth accelerated to 18%, significantly outperforming the market and further increasing our market share. Net sales for the first half grew 39% to more than $1 billion and were up 35% over the first half of 2019. Net operating profit grew to a rate of more than 10% of net sales, up 161% from 2020's first half and 166% from 2019. EBITDA was $148 million, up 88% versus the first half of 2020, and EPS was $3.44 for the first half compared with $0.93 a year ago and $0.95 in 2019. We generated year-to-date cash from operations of $161 million, up 86%, and our trailing 12-month return on invested capital was a record 33% as we continue to realize tremendous value from our disciplined capital deployment. We delivered these exceptional results while absorbing the inflationary impacts of a global supply chain that remains challenged by labor and material shortages. Our ability to effectively manage the related challenges is a key benefit of our vertically integrated business model. To better align inventory availability with our accelerated demand, we extended customer delivery windows in late May to four weeks to six weeks. Working closely with partners across our supply and fulfillment chain, we have made significant progress in addressing temporary component shortages. First available delivery dates are now three weeks, and we expect robust delivery volumes for the balance of the year. Our conversion and customer metrics remain strong and steady. We are clearly realizing the benefit of synergies across our purpose, culture, strategy and business model; in our brand relevance and reach; consumer demand and engagement; development of new sleep health innovations; our smart sleep digital ecosystem and investment in key strategic initiatives. Together these synergies are perpetuating sustainable profitable growth and creating substantial value for stakeholders. It starts with emotional digital storytelling, which is amplified by in-house digital capabilities that tailor our message by media types, audience and platform in real time. This strategy is driving double-digit increases in high-quality digital traffic and engagement. And we are converting this strong consumer interest at record levels across all our touch points. Trailing 12 months online and phone sales are now 13% of total sales, up from 7% two years ago, while sales per store now average over $3.5 million on a trailing 12-month basis, up 27% from two years ago. Our SleepIQ health and wellness features, which link quality sleep to daytime well-being, increase engagement with our customers. Our 360 smart bed monthly active usage rate is over 90%, up from 84% a year ago. Here are two examples in our customers’ voice of the sleep health benefits provided by our innovation. Marta from Columbus, Ohio shared, 'as an allergy sufferer I can share this data with my doctor to show the effects of recent treatments on my sleep. Without having this technology and sleep data I would not have noticed important trends or have been able to get at the root cause of my issues.' And Bill from Denver, Colorado said, 'my favorite SleepIQ feature is the Circadian Rhythm Tracker. It helps me adjust my bedtime and awake time routine for better sleep and daytime energy.' This is also my favorite feature. This passionate engagement drives brand advocacy, bolstered by our loyalty program known as Inner Circle rewards, which is resulting in referral and repeat sales approaching 50% of net sales. This level of loyalty is a clear indicator of the relevance of our brand and sustainability of our growth. It has been exciting to see the ongoing impact of this growth flywheel. We continuously invest in, test and refine incremental initiatives to drive performance. Here are some highlights for the back half of 2021. We are extending digital capabilities across our operations including our supply chain. The advancements strengthen fulfillment, responsiveness, reliability and data analytics. We are already seeing customer experience and efficiency gains. We're on track to benefit from approximately 50 net new Sleep Number stores which will contribute about five points of growth in the back half. We just introduced a 360 Innovation Limited Edition smart bed with temperature balancing technology. We're capturing the benefit of additional price increases across our entire line which took effect last week. And we're advancing our brand campaign and launching a new ad featuring Dallas Cowboys quarterback Dak Prescott during the NFL season opener against Tom Brady in the Tampa Bay Buccaneers. The campaign will be supported by our most robust NFL media package to date. On a final note, we are paving the way into the future of sleep health as we extend Sleep Number's leadership in sleep science and research. In the coming months, we'll introduce a sleep health feature to more easily link sleep quality to an individual's overall health. We continue to build our sleep database which now includes nearly 11 billion hours of sleep data. This longitudinal data strengthens our partnership with the world's leading sleep health researchers, physicians, and institutions. The outcome is a long-term data-driven revolution in sleep science and health. The insights we are garnering are not only improving lives; they also have the potential for meaningful positive impact on health at the population level. Last month, we presented the results of two new studies based on real-world sleep number data that shows a potential model for identifying respiratory illness. Research like this demonstrates the value of our data, progresses our understanding of sleep on health, and informs the development of innovative new sleep solutions to further increase brand relevance, customer loyalty, and stakeholder value. The highlights I've shared demonstrate the power and the cumulative benefit of our strategy in our vertically integrated business model. We are on pace for another year of exceptional performance in 2021 and are extremely well positioned for superior long-term growth. The driver behind all of this is our team's dedication to our mission of improving lives by individualizing sleep experiences. Their passion for our customers' well-being is unwavering and unparalleled. Now, David will provide additional financial details on our second quarter performance and outlook for the remainder of 2021.

Thanks, Shelly. Our teams and suppliers have been working tirelessly to manage four consecutive quarters of accelerating unit demand including escalated velocity in Q2. They are expanding output and capacity while navigating temporary component and labor constraints, inflation, and expedited logistics pressures. Despite this, Q2 performance broke top and bottom line second quarter records. Our teams have driven three consecutive years of double-digit average demand growth by continually progressing our differentiated innovations, digital marketing, and experiential retail operations. This momentum is carrying forward into the back half of 2021. We now expect to deliver at least $7.25 in 2021 EPS on at least 35% two-year net sales growth. Demand has temporarily exceeded supply. Component shortages limited output from two third-tier suppliers affecting our deliveries in June and July. COVID-driven labor shortages at a Tier 1 supplier, which have now been resolved, delayed their installation of additional production lines and will constrain our delivery upside through Q3. Our teams and suppliers are working rapidly to more than double production output and deliver capacity to support continued market share gains. Already in 2021, we expanded our home delivery workforce 50% and invested significantly in skill training, our delivery fleet, and digital capabilities. We have also advanced resilient supply partnerships including increased support of second, third, and even fourth tier suppliers. We source from geographically distributed plants and multiple suppliers wherever possible. This modular strategy offers flexibility for greater support capacity to get ahead of the extraordinary demand growth we are driving. In addition to flexible sourcing, our fulfillment approach prioritizes proximity to customers. Sustained double-digit demand growth has led us to accelerate the execution of our outbound logistics network. We have evolved plans to increase flexibility with a total of eight to 10 assembly distribution centers by next year, up from six currently. These will be supported by approximately 25 delivery distribution centers, up from 19 currently. We are opening larger footprint facilities in key markets and investing in higher output assembly equipment, technology, and data analytics. These actions narrow the use of less than truckload carriers to reduce waste, damage, and costs while improving customer experience. Longer term, we envision growing this network to as many as 16 ADCs and 30 to 35 DDCs. Now I'll provide a brief review of our Q2 financial results and expectations for 2021. First, remember that Q2 is normally our seasonally smallest quarter with lower sales and profits. That was not the case this year. Demand growth and operational performance have accelerated each of the last four quarters resulting in record-breaking Q2 results, while we absorbed supply and labor constraints, inbound logistics expediting costs, and inflation on labor, materials, and components. Q2 net sales of $484 million were up 36% versus 2019, and up 70% versus COVID-affected 2020. First half net sales of more than $1 billion grew 35% over the first half of 2019, including 28% two-year unit growth and 4% ARU growth and growth from both comps and new stores. We continue to expect full year net sales growth versus 2019 of at least 35%. Operating profits of nearly $30 million in Q2 and $106 million in the first half are both records. First half operating margin of 10.1% was up 500 basis points versus the first half of 2019. Accelerated demand and digital-based operating efficiencies across the vertical business more than offset $13 million of incremental Q2 input cost pressures. We are activating nearly $100 million in annualized price increases across our products while continuing to deliver value-packed innovative sleep solutions for customers. We continue to prioritize operating profits and EPS growth as we employ the benefits of our vertically integrated operating structure to overcome significant inflation pressures. Despite the pressures on 2021 gross margin, our stronger than expected growth and operating efficiencies are expected to drive full year operating profit margin expansion versus 2019 of more than 300 basis points. Operational efficiencies in sales and marketing drove 470 basis points of two-year leverage in the first half, while we continue to lean into our near-term growth drivers including 20 basis points of deleverage in demand-driving media. Our innovation, sales, and marketing teams operate in lockstep to drive demand, leveraging technology for speed and agility. The outcome is illustrated by the $3.5 million TTM sales per comp store reached in Q2, up 27% in two years with 47% of stores exceeding $3 million. We also leveraged our G&A costs, which include increased investments in IT infrastructure and growth enablers, while we continue to invest in innovation driving R&D. In the first half, 60 basis points of two-year G&A leverage nearly offset 70 basis points of two-year R&D growth. R&D spend is up 78% since the first half of 2019. And we continue to expect 2021 R&D investments of $65 million. Gross margin was 60.5% in Q2, and 61.6% for the first half. This compares favorably to the 61.3% gross margin in the first half of 2019 while absorbing incremental cost headwinds. We now expect more than $50 million of incremental cost pressures in 2021. We have taken pricing actions and our teams are delivering digital and volume-based efficiencies, while tenaciously acting on behalf of customers to ensure service levels. First half 2021 EPS of $3.44 was more than 3.5 times the $0.95 earned in the first half of 2019. These record earnings were achieved while absorbing 120 basis points of two-year income tax headwinds. That pressure was offset through the methodical execution of our efficient capital strategy, which lowered our weighted average share count by nearly 17% versus the first half of 2019. Deploying capital efficiently over the long-term and across all our earnings drivers is delivering superior shareholder value creation, including at least $7.25 of EPS in 2021. While we continue to expect to deliver top and bottom-line growth each quarter of 2021 versus 2019, Q3 deliveries will be limited by supply availability. We expect supplier capacity gains to catch up with our robust demand to support high volume of deliveries in Q4. For modeling purposes, we anticipate about 50% two-year EPS growth in Q3 and exceptional net sales and earnings in the fourth quarter and full year. Turning to our balance sheet and cash flows. Customer prepayments of $119 million reflect accelerated demand growth and larger backlogs. In the first half, we generated record cash from operations of $161 million, investing $32 million in capital projects and $267 million in Sleep Number stock. We continue to expect approximately 650 stores by year-end and greater sales growth contribution from new stores in the back half. Our Q2 ending debt leverage was 2.2 times EBITDAR compared with our longer-term target of 2.5 times to 3 times. At the end of Q2, $500 million remains of our authorization for future repurchases of our stock. Investing in Sleep Number continues to be attractive for shareholder value creation. With the above expected performance and further guidance increase, we expect to generate more than $300 million of cash from operations in 2021. Our liquidity, balance sheet, and team's passion have us well positioned to deliver superior value creation for the balance of 2021 and beyond. At this point, operator, please open the line for questions.

Hi. Good afternoon, everyone. Thanks for taking my questions. I guess I'll just kick it off with some of the commentary you made around pricing and inflation pressure. So, Dave, I believe you said $100 million of pricing, which is about 4% to 5% by my math. And then, $50 million of inflation pressure in the back half of the year. So, is that effectively a wash when we're thinking about a half-year basis, or is that $50 million of inflation pressure incremental to the price increases that you're taking?

Hi, Peter. Thanks for the question. The $50 million incremental cost pressures that I highlighted started in Q2 and progressed through the balance of the year relative to previous expectations. And the $100 million is an annualized number including the price increases we just took last week.

So if I could follow up on a couple of moving pieces. Are the prices going up a little bit more than the input cost or about equal?

There's a timing difference, Peter. So, as we deliver out some of the backlog in Q3, we're going to be absorbing some of that incremental costs before some of the pricing benefit comes through the P&L. So we expect some cost pressure in Q3. That's included in the assumption for 50%, two-year EPS growth that I highlighted for Q3. But then those, I think those pricing increases will then kick in more and then get delivered later in Q3 and the balance of the year.

All in on an annualized basis, the pricing would more than offset.

Okay. Got you. Very good. And another just a financial modeling question but you talked about the 500 basis points of EBIT margin improvement since 2019 in the first half of the year. You've guided now for 300 basis points for the full year going back to 2019. So that implies a pretty notable drop off in the 2-year improvement for the back half. Is it inflation pressures, or what's causing that sequential step down it seems to look bigger than I would have expected?

There has been a sequential improvement in the first half of 2019 compared to the second half. The increased challenge in the latter half is something we are addressing as we focus on operational efficiencies this year and achieve a full year's operating leverage. We are also anticipating higher sales in the second half than in the first half.

Very good. Okay, thanks very much.

You bet.

Hi, good afternoon, Shelly and David, this is Andrew on for Brad. Thanks for taking our questions. I wanted to start by talking about demand. I know that your average quarterly demand growth over the last 12 months grew about 18%. But I was hoping you could give us a little more color on the quarter specifically and perhaps on a month-by-month basis on how things have played out, and if there are any nuances around Memorial Day or more recently around the July fourth weekend? Thank you.

Sure. Hi, Andrew. Well for clarification, the 18% average demand growth is over 12 quarters, so three years ever since we transitioned to our 360 smart beds. So, we felt it was important to share that number because it's been accelerating for the last four quarters. And also, it shows the sustainability in our ability to lap strong performance from the prior year. And that's exactly what happened in the second quarter. So we had accelerated demand in the quarter overall. And then we also demonstrated our ability to lap double-digit growth as we got deeper into the second quarter. And we're therefore really, really pleased and excited about our opportunity here in the back half with very strong initiatives to be able to drive year-over-year performance. Again, this will be our fourth year of lapping the double-digit demand here in the back half. And we're very, very excited about doing so with the initiatives that I outlined.

Got it. Understood. And I wanted to shift back to the near-term supply chain issues that you've been facing. Could you give us a sense for the size of the backlog right now? And given the extended delivery times, have you seen any evidence of higher-than-usual cancellations of orders from customers?

Well, the easy answer to that last part is absolutely not. All of our metrics, we're a very metric-driven organization, are very stable and steady. We've been very pleased with the demand creation. And consumers are demonstrating their willingness to wait for the life-changing benefits of our 360 smart beds. As far as the backlog, we're going to defer or avoid talking about specific amounts. We've been providing a lot of color as to the carryover of demand from one quarter to the next. What you need to know is that we are committed to delivering at least $7.25 of EPS this year in 2021, and that's based on the assumption that we'll deliver at least 35% two-year growth in net sales.

And strong deliveries can be seen in both August and for the remainder of the year.

Understood. That's great to hear. My last question would be whether these supply chain challenges are affecting a specific product line more than others, and if so, how is that influencing your product mix?

No. There were two specific challenges that we had in Q2 with two, third-tier suppliers. Those issues have been resolved, and they impacted our deliveries in June and July. And then I provided additional color about how we're thinking about the shape of the year and that our deliveries in Q3 overall will be somewhat limited by the delay of some additional production equipment that went in place to one of our tier one suppliers. So, we're excited about all of our suppliers and our teams. I have to give them a huge shout out because they've been working tirelessly to work through what is extraordinary demand growth and having to deal with COVID issues, supply chain challenges, and logistics problems. So, shout out congratulations. You guys are killing it. And I am thrilled at the progress that we're making that gives us confidence that supports our upsized guidance for the balance of the year.

Understood. Thank you. That’s all for me. Thank you both.

Great. Thank you, Andrew.

Good afternoon. This is Alessandra Jimenez on for Bobby Griffin. Thank you for taking our question. First, I wanted to follow-up on the backlog. Could you give us any color on how much the supply chain impacted the quarter in terms of sales in 2Q?

Well, as Shelly highlighted, we were at one point at four to six weeks in terms of the first available date for our customer deliveries. And now that's down to three weeks, as we stand here today, those kinds of fluctuations are going to be normal as we go through the balance of the year. We're expecting to continue to drive very strong demand growth through the balance of the year, and that's going to continue to inflate our backlogs. And we expect even with our guidance to have strong backlogs all the way through the end of the year.

Okay. That's helpful. And then a follow-up for me is in the second quarter e-commerce represented about 12% of sales versus 14% in 1Q. Did the step-down in e-commerce penetration have any impact on profitability?

That's a great aspect of our touch points; we are pleased to support our customers in their preferred shopping methods and transaction locations. The mix of our business through different touchpoints can vary and may change quarterly throughout the year. However, we are very happy that it is significantly higher than historical levels. Shelly mentioned in her prepared remarks that it stands at 13% year-to-date, compared to 7% two years ago.

Yes, 13% on a trailing 12-month basis compared to 7% from two years ago. So that gives you a good sustainable number looking at the trailing 12 months. And as I also highlighted, we generated on average more than $3.5 million per store. We're so excited about the level of productivity that we're driving in our stores and online. And we look at that in total. It's one of the benefits of exclusive direct-to-consumer distribution. And we are on track with nearly 30 stores are now averaging over $6 million. So yeah, this is very profitable for us as we continue to put this level of revenue or volume through our assets.

Okay. Perfect. That is very helpful. Thank you and best of luck on the second half.

Thank you.

Good evening. Thanks a lot for taking my questions. Can you provide a little bit more color on the component shortfalls like when did the problems start or what components were impacted? And essentially, what's been done to get the lead times back from four to six weeks to three weeks? And then on the go forward, are you expecting things to progressively improve further from here, or is it going to be more volatile in the near term?

Thanks for the question, Atul. We had two specific supplier challenges that happened late in the quarter. And that's why the shortages impacted our deliveries in June and July. Those have been resolved. And then I highlighted some challenges with some COVID-related labor availability for one of our suppliers that's going to constrain some of our deliveries in Q3. When you're driving the kinds of accelerated demand growth that we have been driving, it's bound to strain your supply chain and that's what we've been managing through. But as I said earlier, we're excited about the progress that we've been making to radically expand capacities in our delivery fulfillment capabilities. So as I said, we're going to be on track starting in August with very strong deliveries through the balance of the year.

Okay. And then as my follow-up question, Shelly, you quoted some very strong demand numbers in the release and some of your competitors are also reporting very strong growth over in the double-digit range. This is all against a backdrop of 1% or even less population growth. So do you worry that this level of unit expansion for the overall industry and for yourselves might be pulling forward some demand from future periods since the trends could drop off in a meaningful way once the environment normalizes? So is that a, a risk that you worry? And b, if that is a risk when do you think that plays out?

Well, Atul, I'm going to start by pointing to the demand creation we at Sleep Number have created by moving to all smart beds. So we've delivered an average demand – quarterly demand growth of 18% over the last 12 quarters, three years of that growth. So that was before you saw these industry trends. And absolutely, the last four quarters we've accelerated our performance. We sell a very differentiated product that is improving people's lives with proven quality sleep. And this is why we are and have been focused on being the innovation leader and creating a product that truly improves one's sleep in their overall health and wellness. And so we see the consumer trends that we anticipated years ago. And those trends include the consumer caring more about their health and well-being and understanding how sleep is impacting their health, and also adapting products and services that are digital like ours. And third, gravitating to brands that have a purpose and our purpose of improving the health and well-being of society through higher quality sleep is a really important one at this time in making a difference and contributing in a meaningful way to society. So those trends are sustainable. We see them continuing to work in Sleep Numbers' favor as we move forward. And then all the initiatives that I talked about in this digital flywheel that we created, this ecosystem that we've created, continuously perpetuates higher levels of engagement of our existing customers and that drives referrals and repeat sales. That's for Sleep Number. We have now nearly 50% of our sales in referrals and repeat and leads to sustainability overall.

Got it. Thank you and good luck with the rest of the year.

Thank you, Atul.

Thanks a lot and good afternoon. My question is around your quarterly production and delivery capacity, assuming you have some pull and shortages, what is that number these days?

Seth, we're not going to get into providing a specific number surrounding our production or delivery. What we will say is that we were impacted somewhat here in Q2 in the month of June, just by a couple of weeks. And we expect to catch that up in the back half primarily in Q4.

And I think the other add that we highlighted is the work that we've been doing the acceleration of our initiatives to expand our capacity and output and we're on track. We're ahead of pace in that regard and feel really well positioned to be able to support our accelerating demand in the months and quarters and years to come.

Just I guess to add to the question Seth though, if you're worried about our ability to keep up with extraordinary demand that we've got, that's not really the challenge. These are temporary constraints that we have overcome. And we're doing things, all the right things that you would expect us to be doing. We have multiple suppliers on key components and we've been doubling capacity at both sides, so that we have plenty of capacity to support extraordinary demand creation as we go forward.

As it relates to that demand creation for the second half of 2021, are you expecting more or less year-over-year demand growth than 18% trend that you've commented on the last three years?

Well, we expect to continue to drive strong performance. There are a lot of elements that Shelly highlighted in her prepared remarks talking about the incremental activities here in the back half, we're just up against now the fourth year of double-digit growth. And so whether the rate grows at the same pace as what we've been talking about to the first quarter – or excuse me, Q4, that trend had been up 12% then it went to 14% in Q1. You can see the acceleration when we talk about all the way back to the back half of 2018, it's now up 18%. That was pretty significant acceleration on a rate basis. But Q2 is one of the smaller dollar quarters, and so on a percentage basis it's different. So now Q3 is going to be one of our largest quarters in terms of dollars. So of course on a rate basis, it's going to be less.

Got it. And my last question regarding the price increases of $100 million. First of all, have they been fully implemented at this point in time?

Yes, we did – you remember that we did some last quarter about $20 million worth. And then the incremental to get to the $100 million annualized we put in last week.

Got it. And do you expect any elasticity of demand to weigh on your demand growth because of the price increases?

Yes, we don't. This is one of those unique advantages of our model between our selling process and discounts and financing and price increases. We can navigate between all of those points, and this is where our innovation and marketing and sales teams work so closely together to be able to optimize performance. So we do expect our price increases to contribute a good three points of growth in ARU in the back half.

If that's the case you're not expecting any demand destruction from price increases and you've been facing inflation in certain areas of the business for a number of months now. Why did you wait so long to take these price increases?

Yes, with our business model we're focused on growing operating profit, and we have achieved about 500 basis points of operating profit growth in the first half over the last two years. We implemented some pricing changes in the first half, and this was the right time to do so as we move into the second half with a $100 per model increase. We still have pricing elasticity in power and beyond, and we like to connect that to the value additions we introduce to our product lines for the customer.

Understood. Thank you.

To add to that, we are focused on EPS growth, expanding operating profit, and increasing market share. We are not simply trying to raise prices to maintain our gross margin rate. Our goal is to create significant value for both our shareholders and stakeholders. We believe the best way to achieve this is by continuing to gain market share and driving growth in operating profits and EPS.

Understood.

It's a combination of everything, Seth. We're going after all of it.

Yes. Thank you for joining us today. We look forward to discussing our third quarter 2021 performance with you in October. Sleep well and dream big.

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