Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is intended to provide a reader of our financial statements with a narrative from the perspective of management on our financial condition, results of operations, liquidity and certain other factors that may affect our future results. Our MD&A is presented in seven sections:

• Risk Factors

• Overview

• Results of Operations

• Liquidity and Capital Resources

• Outlook

• Off-Balance-Sheet Arrangements and Contractual Obligations

• Critical Accounting Policies

Risk Factors

The following discussion and analysis should be read in conjunction with the Condensed Consolidated financial Statements and the Notes thereto included herein. This quarterly report on Form 10-Q contains certain forward-looking statements that relate to future plans, events, financial results or performance. You can identify forward-looking statements by those that are not historical in nature, particularly those that use terminology such as "may," "will," "should," "could," "expect," "anticipate," "believe," "estimate," "plan," "project," "predict," "intend," "potential," "continue" or the negative of these or similar terms. These statements are subject to certain risks and uncertainties that could cause actual results to differ materially from our historical experience and our present expectations or projections. These risks and uncertainties include, among others:

• Our current lack of adequate liquidity and capital resources and our ability to continue as a going concern;

• Current general and industry economic trends and consumer confidence;

• The efficiency and effectiveness of our marketing messages, advertising and promotional efforts;

• Consumer acceptance of our products, product quality, innovation and brand image;

• Availability of attractive and cost-effective consumer credit options;

• Execution of our retail distribution strategy, including our ability to cost-effectively close under-performing store locations;

• Our dependence on significant suppliers and our ability to maintain relationships with key suppliers, including several sole source suppliers;

• The vulnerability of key suppliers to recessionary pressures, labor negotiations, liquidity concerns or other factors;

• Rising commodity costs and other inflationary pressures;

• Industry competition;

• Our ability to continue to improve our product line;

• Warranty expenses;

• Pending and potentially unforeseen litigation;

• Increasing government regulations, including new flammability standards for the bedding industry and new safety standards for consumer products;

• The adequacy of our management information systems to meet the evolving needs of our business and evolving regulatory standards applicable to data privacy and security;

• Our ability to attract and retain senior leadership and other key employees, including qualified sales professionals; and

• Global events, such as terrorist attacks or a pandemic outbreak, or the threat of such events.

Additional information concerning these and other risks and uncertainties is contained under the caption "Risk Factors" in our Annual Report on Form 10-K (as amended) and in this Quarterly Report.

We have no obligation to publicly update or revise any of the forward-looking statements contained in this quarterly report on Form 10-Q.

Overview

Business Overview

Select Comfort is the leading developer, manufacturer and marketer of premium-quality, adjustable-firmness beds. The air-chamber technology of our proprietary Sleep Numberฎ bed allows adjustable firmness on each side of the mattress and provides a sleep surface that is clinically proven to provide better sleep quality and greater relief of back pain compared to traditional mattress products. In addition, we market and sell accessories and other sleep related products which focus on providing personalized comfort to complement the Sleep Number bed and provide a better night's sleep for consumers.

We generate revenue by selling our products through four complementary distribution channels. Three of these channels: Retail, Direct Marketing and E-Commerce, are company-controlled and sell directly to consumers. Our wholesale channel sells to and through leading home furnishings retailers, specialty bedding retailers, the QVC shopping channel and to several end users such as Radisson Hotels and Resortsฎ.

Vision and Strategy

Our vision is to be a leading brand in the bedding industry, while improving people's lives through better sleep.

We are executing against a defined strategy which focuses on the following key components:

• Building brand awareness and increasing store traffic through effective marketing programs;

• Managing our business in the current economic environment through disciplined controls over costs and cash;

• Accelerating product innovation to lead the industry in innovative sleep products; and

• Leveraging our infrastructure in order to facilitate long-term profitability.

Results of Operations

Quarterly and Annual Results

Quarterly and annual operating results may fluctuate significantly as a result of a variety of factors, including increases or decreases in sales, the timing, amount and effectiveness of advertising expenditures, any changes in sales return rates or warranty experience, the timing of new store openings and related expenses, net sales contributed by new stores, the timing of promotional offerings, competitive factors, changes in commodity costs, any disruptions in supplies or third-party service providers, seasonality of retail sales, timing of QVC shows and wholesale sales, consumer confidence and general economic conditions. Furthermore, a substantial portion of our net sales is often realized in the last month of a quarter, due in part to our promotional schedule and commission structure. As a result, we may be unable to adjust spending in a timely manner, and our business, financial condition and operating results may be significantly harmed. Our historical results of operations may not be indicative of the results that may be achieved for any future period.

Highlights

Key financial highlights for the three months ended April 4, 2009 were as follows:

• Net loss totaled $2.7 million, or ($0.06) per diluted share, compared with a net loss of $7.1 million, or ($0.16) per diluted share, for the same period one year ago. Operating income was $0.3 million for the first quarter of 2009, compared with an operating loss of $11.0 million last year.

• Net sales decreased 17% to $139.6 million, compared with $168.2 million for the same period one year ago, primarily due to a 14% comparable-store sales decline for our company-owned retail stores.

• Our gross profit rate increased to 58.6% of net sales, compared with 57.6% of net sales for the same period last year. The gross profit rate increase was primarily due to actions taken to improve manufacturing efficiencies, partially offset by an increase in promotional costs to generate customer traffic and drive sales.

• Sales and marketing expenses decreased 26% to $67.3 million, or 48.2% of net sales, compared with $90.6 million, or 53.9% of net sales, for the same period one year ago.

• General and administrative expenses declined $2.8 million compared with the prior year period primarily due to workforce reductions and other cost reduction initiatives.

• Cash from operating activities totaled $24.1 million for the first three months of 2009, compared with $14.6 million for the same period one year ago. Operating cash flows for the first three months of 2009 included a $23.0 million refund of income taxes associated with the prior year's loss. On April 17, 2009, the $23.0 million refund was used to reduce outstanding debt under the credit facility.

• During the first three months of 2009, borrowings under our revolving credit facility decreased from $79.2 million at January 3, 2009 to $74.3 million at April 4, 2009. We have taken significant actions designed to stabilize sales, reduce our cost structure and improve profitability. We also have been exploring a range of strategic and financing alternatives to enhance our financial flexibility and maintain our liquidity. If we are unable to obtain additional capital, we may not be able to fund our operating needs and we could face a risk of default under our credit agreement.

The following table sets forth, for the periods indicated, our results of operations expressed as dollars and percentages of net sales. Figures are in millions, except percentages and per share amounts. Amounts may not add due to rounding differences.

                                                     Three Months Ended
                                             April 4, 2009      March 29, 2008
Net sales                                   $ 139.6   100.0%   $  168.2   100.0%
Cost of sales                                  57.8    41.4%       71.2    42.4%
Gross profit                                   81.8    58.6%       96.9    57.6%

Operating expenses:
Sales and marketing                            67.3    48.2%       90.6    53.9%
General and administrative                     13.3     9.6%       16.2     9.6%
Research and development                        0.5     0.3%        0.9     0.5%
Asset impairment charges                        0.4     0.3%        0.3     0.2%
Total operating expenses                       81.5    58.4%      108.0    64.2%
Operating income (loss)                         0.3     0.2%      (11.0 )  (6.6% )
Other expense, net                             (1.8 )  (1.3% )     (0.2 )  (0.1% )
Loss before income taxes                       (1.5 )  (1.1% )    (11.3 )  (6.7% )
Income tax expense (benefit)                    1.2     0.9%       (4.2 )  (2.5% )
Net loss                                    $  (2.7 )  (1.9% ) $   (7.1 )  (4.2% )

Net loss per share:
Basic                                          $  (0.06)           $  (0.16)
Diluted                                        $  (0.06)           $  (0.16)
Weighted-average number of common shares:
Basic                                             44.7               44.1
Diluted                                           44.7               44.1

The percentage of our total net sales, by dollar volume, from each of our channels was as follows:

Three Months Ended

                    April 4,   March 29,
                      2009       2008
Percent of sales:
Retail                 79.1%       78.7%
Direct                  6.0%        7.5%
E-Commerce              5.5%        6.9%
Wholesale               9.4%        6.9%
Total                 100.0%      100.0%

The components of total sales growth, including comparable-store sales changes, were as follows:

                                  Three Months Ended
                                 April 4,    March 29,
                                   2009        2008
Sales change percentage rates:
Comparable-store sales               (14% )       (25% )
Net closed stores/other               (3% )         5%
Retail total                         (17% )       (20% )
Direct                               (34% )       (32% )
E-Commerce                           (34% )       (19% )
Wholesale                             14%         (37% )
Total sales change                   (17% )       (22% )

The number of company-operated retail stores and independently owned and operated retail partner doors was as follows:

                                Three Months Ended
                               April 4,   March 29,
                                 2009       2008

Company-owned retail stores:
Beginning of period                 471         478
Opened                                -           7
Closed                              (30 )        (4 )
End of period                       441         481

Retail partner doors                838         774

Comparison of Three Months Ended April 4, 2009 with Three Months Ended March 29, 2008

Net sales

Net sales decreased 17% to $139.6 million for the three months ended April 4, 2009, compared with $168.2 million for the same period one year ago. The sales decrease was due to a 14% comparable-store sales decline in our company-owned retail stores, a year-over-year decline in the number of retail stores we operated, and a decrease in E-Commerce and direct channel sales, partially offset by an increase in wholesale channel sales. Total sales of mattress units decreased 12% compared to the same period one year ago, and the average selling price per bed (mattress sales only divided by mattress units) in our company-controlled channels increased 2% to $1,666, while sales of other products and services decreased by 20%.

The $28.6 million net sales decrease compared with the same period one year ago was comprised of the following: (i) a $21.9 million net decrease in sales from our company-owned retail stores, comprised of a $17.2 million decrease from comparable-stores and a $4.7 million decrease from the net decline in the number of stores we operated; (ii) a $4.4 million decrease in direct sales; and (iii) a $3.9 million decrease in E-Commerce channel sales; partially offset by, (iv) a $1.6 million increase in wholesale sales.

Gross profit

The gross profit rate increased to 58.6% of net sales for the three months ended April 4, 2009, compared with 57.6% for the same period one year ago. A majority of the gross profit rate increase was due to improved manufacturing efficiencies and actions taken to reduce supply chain and logistics costs which added approximately 3.0 percentage points ("ppt") to our first quarter gross profit rate compared to the same period last year. During the fourth quarter of 2008 and the first quarter of 2009, we resized our manufacturing and logistics operations to better align with current customer demand. In addition, lower warranty expenses increased the first quarter gross profit rate by 1.0 ppt compared with the same period one year ago. These items were partially offset by: (i) an increase in promotional costs to generate customer traffic and drive sales in this more challenging macro-economic environment; and (ii) an increase in the percentage of net sales from our lower-margin wholesale distribution channels which decreased the gross profit rate by 2.0 ppt.

Sales and marketing expenses

Sales and marketing expenses for the three months ended April 4, 2009 decreased 26% to $67.3 million, or 48.2% of net sales, compared with $90.6 million, or 53.9% of net sales, for the same period one year ago. The $23.3 million decrease was primarily due to the following: (i) a 36% reduction in media spending compared to the same period one year ago; (ii) reduced variable and fixed selling expenses due to the net sales decline and store closings including lower financing costs, percentage rent expense, and store compensation and benefits; and (iii) lower depreciation expense due to store closings and prior periods' store asset impairments. The sales and marketing expense rate declined 5.7 ppt compared to the same period one year ago despite the deleveraging impact of the 17% sales decline, benefiting from our cost reduction initiatives.

General and administrative expenses

General and administrative ("G&A") expenses decreased 17% to $13.3 million for the three months ended April 4, 2009, compared with $16.2 million for the same period one year ago. The $2.8 million decrease in G&A expenses was primarily due to reduced compensation and benefit costs resulting from workforce reductions and discretionary spending cuts. The G&A expense rate of 9.6% of net sales for the three months ended April 4, 2009 was consistent with the prior year.

Research and development expenses

Research and development ("R&D") expenses decreased to $0.5 million for the first quarter of fiscal 2009 compared with $0.9 million for the same period one year ago, and decreased as a percentage of net sales to 0.3% from 0.5% for the comparable prior-year period.

Asset impairment charges

On a quarterly basis, we review all of our stores for impairment. Other long-lived assets are evaluated for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. We recognize impairment charges for the difference between the fair value and the carrying amounts of the related long-lived assets. We generally estimate the fair value of our store assets using the income approach based on the present value of cash flows expected to be generated by the assets in accordance with SFAS No. 157, Fair Value Measurements.

During the three months ended April 4, 2009, we recognized impairment charges of $0.4 million related to assets at certain stores expected to close prior to their normal lease termination dates. During the three months ended March 29, 2008, we determined that certain assets at underperforming stores were impaired and recognized impairment charges of $0.3 million.

Other expense, net

Other expense, net was $1.8 million for the three months ended April 4, 2009, compared with $0.2 million for the same period one year ago. The $1.5 million increase in other expense, net was driven by increased interest expense from borrowings under our revolving line of credit due to higher average debt balances and increased interest rates compared to the same period one year ago.

Income tax expense (benefit)

Income tax expense was $1.2 million for the three months ended April 4, 2009, compared with an income tax benefit of $4.2 million for the same period one year ago. The effective tax rate was negative 78.7% for the first quarter of 2009 compared with 36.8% for the same period one year ago. During the three months ended April 4, 2009, we recorded $0.9 million of discrete tax expense adjustments as we increased our deferred tax valuation allowance due to the uncertainty regarding future taxable income. In addition, the first quarter of 2009's estimated annual effective tax rate includes the impact of an additional deferred tax valuation allowance that we expect to record during fiscal 2009 based on the guidance in SFAS No. 109, Income Taxes.

Liquidity and Capital Resources

As of April 4, 2009, we had cash and cash equivalents of $3.1 million compared with $13.1 million as of January 3, 2009. The $9.9 million decrease in cash and cash equivalents was primarily due to a $23.0 million increase in restricted cash (pursuant to an agreement with the Lenders) and a $9.8 million net decrease in short-term borrowings, partially offset by $24.1 million of cash provided by operating activities (which includes a $23.0 million refund of income taxes associated with the prior year's loss).

The following table summarizes our cash flows for the three months ended April 4, 2009, and March 29, 2008 ($ in millions):

                                                    Three Months Ended
                                                  April 4,      March 29,
                                                    2009          2008
         Total cash provided by (used in):
         Operating activities                    $     24.1    $      14.6
         Investing activities                         (24.3 )        (10.3 )
         Financing activities                          (9.8 )         (5.4 )
         Decrease in cash and cash equivalents   $     (9.9 )  $      (1.1 )

Cash provided by operating activities for the three months ended April 4, 2009, and March 29, 2008 was $24.1 million and $14.6 million, respectively. The $9.5 million year-over-year increase in cash from operating activities was comprised of a $4.4 million reduction in our net loss compared to the same period one year ago, a $2.6 million increase in adjustments to reconcile net loss to cash provided by operating activities, and a $2.5 million increase in cash from changes in operating assets and liabilities. The year-over-year increase in cash from changes in operating assets and liabilities was primarily due to a reduction in income taxes receivable as we received a $23.0 million cash refund of income taxes resulting from the carryback of 2008 losses to prior years. Other changes in operating assets and liabilities include a current-year increase in accounts payable (timing of payments and extended payment terms), partially offset by a current year increase in accounts receivable (timing of wholesale sales and receipts), a current year increase in prepaid expenses and other assets (timing of rent and advertising obligations), a lower current-year decrease in inventories (both years reflect efforts to align inventories with lower sales volume), and a current year decrease in accrued compensation and benefits (changes in employee severance obligations and timing of bi-weekly payroll cash payments).

Net cash used in investing activities was $24.3 million for the three months ended April 4, 2009 compared with $10.3 million for the same period one year ago. The $14.0 million increase in net cash used in investing activities was principally due to our $23.0 million tax cash refund generated by the prior year's loss resulting in an increase in restricted cash in accordance with the terms of our credit facility. During the first three months of fiscal 2009, we invested $1.2 million in property and equipment, compared with $10.3 million for the same period one year ago. During fiscal 2009 we expect to limit our purchases of property and equipment to business-critical expenditures. During the first three months of fiscal 2009 we did not open any new retail stores, compared with seven new retail stores opened during the same period one year ago.

Net cash used in financing activities was $9.8 million for the three months ended April 4, 2009, compared with $5.4 million for the same period one year ago. The $4.3 million increase in cash used in financing activities resulted from a greater current-year net decrease in short-term borrowings under our revolving line of credit, partially offset by a $0.1 million reduction in proceeds from the issuance of common stock related to stock option exercises and employee stock purchases. Book overdrafts are included in the net change in short-term borrowings.

On April 20, 2007, our Board of Directors authorized us to repurchase up to an additional $250 million of our common stock, bringing the total availability under our share repurchase program to $290 million. In the third quarter of 2007, we curtailed our share repurchases following the tightening of credit markets and the continued deterioration in the general economic environment. During 2008 and the three months ended April 4, 2009, we did not purchase any shares of our common stock. As of April 4, 2009, the remaining authorization under our stock repurchase program was $206.8 million. There is no expiration date governing the period over which we can repurchase shares. We currently have no plans to repurchase our common stock.

In June 2006, we entered into a Credit Agreement (the "Credit Agreement") with a syndicate of banks (the "Lenders"). The Credit Agreement, as amended to date, provides a revolving credit facility in an aggregate amount of $85 million (scheduled to be reduced to $80 million as of July 1, 2009) for general corporate purposes. The Credit Agreement terminates in June 2010.

The Credit Agreement was amended on February 1, 2008 and on May 30, 2008 to allow greater flexibility under the existing financial covenants, provide additional financial covenants and monthly measurement of financial covenants, modify the credit limit and maturity date, increase the cost of borrowing, provide the Lenders with a collateral security interest in substantially all of our assets and those of our subsidiaries, and impose additional restrictions and covenants with respect to our operations.

We had outstanding borrowings of $74.3 million and $79.2 million, under the credit facility as of April 4, 2009, and January 3, 2009, respectively. We also had outstanding letters of credit of $5.5 million and $5.9 million as of April 4, 2009, and January 3, 2009, respectively. Outstanding letters of credit reduce the amounts available under the credit facility. At April 4, 2009, and January 3, 2009, $5.2 million and $5.0 million, respectively, were available under this credit facility.

In March 2009, we received a $23.0 million federal income tax refund associated with the carryback of 2008 losses to prior years. Pursuant to an agreement with the Lenders, these funds were placed in a restricted cash account. On April 17, 2009, these funds were used to reduce outstanding debt under the credit facility. On May 8, 2009, the credit facility was amended to include an availability covenant that caps the amount available under the credit facility at the aggregate amount of the Lenders' commitments less $15 million, or a net aggregate availability of $70 million. The amount outstanding under this facility, including letters of credits, was approximately $55.9 million as of May 8, 2009, leaving remaining availability of approximately $14.1 million. Cash requirements are expected to increase from current levels during the second quarter, which will require continued support and accommodation from the Lenders. We have been working closely with the Lenders and expect to continue to do so as we work toward a longer-term financing solution.

At April 4, 2009, borrowings under the credit facility bore interest at a floating rate and could be maintained as base rate loans (tied to the prime rate, plus a margin of up to 4.00%). We also pay certain facility and agent fees. As of April 4, 2009, and January 3, 2009, interest rates on borrowings outstanding under the Credit Agreement were 7.3% and 6.0%, respectively. We are subject to certain financial covenants under the agreement, including a maximum leverage ratio, a minimum interest coverage ratio, minimum EBITDA requirements and capital expenditure limits.

Pursuant to a series of amendments of our Credit Agreement, the Lenders have waived compliance, through the close of business on May 30, 2009, with certain financial and other covenants under the Credit Agreement applicable to fiscal periods ending on or about December 31, 2008 through April 30, 2009. If not for this waiver from the Lenders, we would not be in compliance with the covenants under the Credit Agreement.

We have taken significant actions to improve our operating results and maintain our liquidity in the current challenging macro-economic environment, including corporate workforce reductions, reduced capital spending, executing plans to close stores, supply chain cost reduction initiatives, reduced media spending, . . .