COLDWATER CREEK INC - 10-Q Quarterly Report

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act):

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:

Coldwater Creek Inc., together with its wholly-owned subsidiaries (the “Company”), a Delaware corporation headquartered in Sandpoint, Idaho, is a multi-channel, specialty retailer of women’s apparel, accessories, jewelry and gift items. The Company operates in two reportable operating segments: Retail and Direct. The Company’s Retail Segment consists of its full-line retail stores, resort stores and outlet stores. The Company’s Direct Segment consists of its catalog and Internet-based e-commerce businesses.

The Company has four wholly-owned subsidiaries. Three of these subsidiaries currently have no substantive assets, liabilities, revenues or expenses. The fourth subsidiary, Aspenwood Advertising, Inc., produces, designs and distributes catalogs and other advertising materials used in Coldwater Creek’s business.

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. Intercompany balances and transactions have been eliminated.

References to a fiscal year refer to the calendar year in which such fiscal year commences. The Company’s floating fiscal year-end typically results in 13-week fiscal quarters and a 52-week fiscal year, but will occasionally give rise to an additional week resulting in a 14-week fiscal fourth quarter and a 53-week fiscal year. References to three-month periods, or fiscal quarters, refer to the quarter ended on the date indicated.

The Company’s interim consolidated financial statements have been prepared by the management of Coldwater Creek pursuant to the rules and regulations of the Securities and Exchange Commission. These consolidated financial statements have not been audited. In the opinion of management, these consolidated financial statements contain all adjustments necessary to fairly present the Company’s consolidated financial position, results of operations and cash flows for the periods presented. The adjustments consist solely of normal recurring adjustments. Certain information and note disclosures normally included in consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted. However, the Company believes that the disclosures are adequate to make the information presented not misleading. These statements should be read in conjunction with the audited consolidated financial statements, and related notes, included in the Company’s most recent Annual Report on Form 10-K for the fiscal year ended January 29, 2005.

The Company’s consolidated financial position, results of operations and cash flows for these interim periods are not necessarily indicative of the financial position, results of operations or cash flows to be realized in future periods.

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts and timing of revenue and expenses, the reported amounts and classification of assets and liabilities, and the disclosure of contingent assets and liabilities. Examples of these estimates and assumptions are embodied in the Company’s sales returns accrual and its inventory obsolescence calculation. These estimates and assumptions are based on the Company’s historical results as well as management’s future expectations. The Company’s actual results could vary from its estimates and assumptions.

Certain amounts in the consolidated financial statements for the prior fiscal year’s interim period have been reclassified to be consistent with the current fiscal year’s interim presentation. These reclassifications had no impact on the Company’s consolidated financial position, results of operations or cash flows for the periods presented.

Additionally, the common stock outstanding, retained earnings and net income per share amounts for all periods presented reflect two 50% stock dividends, each having the effect of a 3-for-2 stock split, declared by the Company’s Board of Directors on June 12, 2004 and February 12, 2005.

The Company restated its consolidated balance sheet at May 1, 2004 and its consolidated statements of operations and cash flows for the three months ended May 1, 2004. The restatement also affects the other quarterly periods of fiscal 2004, the balance sheet at January 31, 2004 and the consolidated statements of operations and cash flow for the fiscal year then ended as well as periods prior to fiscal 2004. The restatement corrects an error relating to the Company’s recognition of rent expenses under Financial Accounting Standards Board Technical Bulletin No. 85-3, “Accounting for Operating Leases with Scheduled Rent Increases.” For additional information regarding this restatement, see “Note 2. Significant Accounting Policies, Restatement of Prior Financial Information” to the consolidated financial statements contained in the Company’s Annual Report on Form 10-K for fiscal 2004. The Company did not amend its previously filed Quarterly Reports on Form 10-Q for the restatement, therefore the financial statements and related financial information contained in such reports should no longer be relied upon. Throughout this Form 10-Q, all referenced amounts for affected prior periods and prior period comparisons reflect the balances and amounts on a restated basis.

As a result of this restatement, the Company’s financial results have been adjusted as follows (in thousands, except per share data):

Inventories primarily consist of merchandise purchased for resale. Inventory in the Company’s distribution center is stated at the lower of first-in, first-out or market. Inventory in the Company’s full-line retail stores, resort stores and outlet stores is stated at the lower of weighted average cost or market.

Catalog costs include all direct costs associated with the development, production and circulation of direct mail catalogs and are accumulated as prepaid catalog costs until such time as the related catalog is mailed. Once mailed, these costs are reclassified as deferred catalog costs and are amortized into selling, general and administrative expenses over the expected sales realization cycle, typically several weeks.

The Company incurs certain preparation and training costs prior to the opening of a retail store. These pre-opening costs are expensed as incurred and are included in selling, general and administrative expenses. Pre-opening costs were approximately $0.6 million and $0.4 million during the first quarters of fiscal 2005 and fiscal 2004, respectively.

Certain of the Company’s operating leases contain predetermined fixed escalations of the minimum rental payments to be made during the original term of the lease (which includes the build-out period). For these leases, the Company recognizes the related rental expense on a straight-line basis over the life of the lease commencing on the date the Company takes possession of a store, which occurs prior to commencement of the lease and approximately 60 to 90 days prior to the opening of a store. In the early years of a lease with rent escalations the recorded rent expense will exceed the actual cash payments made and the difference between the two amounts is recorded as a deferred credit under the caption “deferred rents” on the balance sheet. In the later years of a lease with rent escalations the recorded rent expense will be less than the actual cash payments made and the difference between the two amounts reduces the previously recorded deferred credit. Deferred credits related to rent escalation were $7.5 million, $7.1 million and $5.6 million at April 30, 2005, January 29, 2005, and May 1, 2004, respectively.

Additionally, certain of the Company’s operating leases contain terms which obligate the landlord to remit cash to the Company as an incentive to enter into the lease agreement. These lease incentives are commonly referred to as “tenant allowances”. The Company records a receivable for the amount of the tenant allowance when it takes possession of a store. At the same time, a deferred credit is established in an equal amount under the caption “deferred rents” on the balance sheet. The tenant allowance receivable is reduced as the cash is received from the landlord. The deferred credit is amortized as a reduction to rent expense over the period over which rental expense is recognized for the lease. Deferred credits related to tenant allowances, including the current portion, were $43.5 million, $38.0 million and $28.1 million at April 30, 2005, January 29, 2005 and May 1, 2004, respectively

Customer list rental income is netted against selling, general and administrative expenses. An accrual for rental income and rental expense, as applicable, is established at the time the related catalog is mailed to the names contained in the rented lists. The amounts of income netted against selling, general and administrative expense are as follows:

Basic earnings per share (“EPS”) is calculated by dividing income applicable to common shareholders by the weighted average number of shares of the Company’s common stock (the “Common Stock”) outstanding for the year. Diluted EPS reflects the potential dilution that could occur under the Treasury Stock Method if potentially dilutive securities, such as stock options, were exercised or converted to Common Stock. Should the Company incur a net loss, potentially dilutive securities are excluded from the calculation of diluted EPS as they would be antidilutive.

On June 12, 2004 and February 12, 2005, the Company’s Board of Directors declared two 50% stock dividends having the cumulative effect of a 2.25-for-1 stock split on its issued Common Stock. The Common Stock outstanding, retained earnings and net income per share amounts reported for all periods presented reflect these two stock dividends.

As allowed by SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure – an amendment of FASB Statement No. 123” and by SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”), the Company has retained the compensation measurement principles of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees”, (“APB 25”), and its related interpretations, for stock options. Under APB No. 25, compensation expense is recognized based upon the difference, if any, at the measurement date between the market value of the stock and the option exercise price. The measurement date is the date at which both the number of options and the exercise price for each option are known.

In December 2004, the FASB issued Statement No. 123R, “Share-Based Payment” (“SFAS 123R”), which revises SFAS 123 and supercedes APB 25. As a result, the pro forma disclosures previously permitted under SFAS 123 will no longer be an alternative to financial statement recognition. In April 2005, the Securities and Exchange Commission (the “SEC”) announced the adoption of a rule that amends the compliance date for SFAS 123R. This rule requires companies to implement the provisions of SFAS 123R by the first quarter of the fiscal year beginning after June 15, 2005. Accordingly, the Company is required to adopt the provisions of SFAS 123R in the first quarter of fiscal 2006. See “Recently Issued Accounting Standards Not Yet Adopted” below for further details.

The following table presents a reconciliation of the Company’s actual net income to its pro forma net income had compensation expense for the Company’s 1996 Stock Option/Stock Issuance Plan been determined using the compensation measurement principles of SFAS No. 123 (in thousands except for per share data):

The above effects of applying SFAS No. 123 are not indicative of future amounts. Additional awards may be made in the future.

In calculating the preceding, the fair value of each option grant was estimated on the date of grant using the Black-Scholes option-pricing model and the following weighted average assumptions:

In November 2004, the FASB issued SFAS No. 151, “Inventory Costs – an amendment of ARB No. 43, Chapter 4” (“SFAS No. 151”). SFAS No. 151 amends ARB 43, Chapter 4, to clarify that abnormal amounts of idle facility expense, freight, handling costs, and wasted materials (spoilage) should be recognized as current-period charges. In addition, SFAS No. 151 requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. The Company will adopt the provisions of SFAS No. 151, effective January 29, 2006 for its fiscal 2006 consolidated financial statements.

Management currently believes that adoption of the provisions of SFAS No. 151 will not have a material impact on the Company’s consolidated financial statements.

In December 2004, the FASB issued SFAS No. 123R, “Share-Based Payment,” (“SFAS 123R”) which revises FASB issued SFAS No. 123, “Accounting for Stock-Based Compensation.” (“SFAS 123”) and supersedes Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” (“APB 25”). SFAS 123R requires a public entity to measure the cost of employee services received in exchange for an award of equity instruments (including grants of employee stock options) based on the grant-date fair value of the award (with limited exceptions). That cost will be recognized over the period during which an employee is required to provide service in exchange for the award—the requisite service period (usually the vesting period). The pro forma disclosures previously permitted under SFAS 123 will no longer be an alternative to financial statement recognition. See “Accounting for Stock Based Compensation” above for the pro forma net income and earnings per share amounts for the three-month periods ended April 30, 2005 and May 1, 2004, as if the Company had used a fair-value based method similar to the methods required under SFAS 123R to measure compensation expense for employee stock-based compensation awards. The provisions of SFAS 123R are effective for the first quarter of the fiscal year beginning after June 15, 2005. Accordingly, the Company is required to adopt SFAS 123R in its first quarter of fiscal 2006. The Company is currently evaluating the provisions of SFAS 123R. The impact on net income on a quarterly basis is expected to be comparable to the amounts presented above under the caption “Accounting for Stock Based Compensation”. However, the impact on net income may vary depending upon a number of factors including, but not limited to, the price of the Company’s stock and the number of stock options the Company grants.

In May 2005, the FASB issued Statement No. 154, “Accounting Changes and Error Corrections—a replacement of APB Opinion No. 20 and FASB Statement No. 3” (“SFAS 154”). This Statement replaces APB Opinion No. 20, “Accounting Changes”, and FASB Statement No. 3, “Reporting Accounting Changes in Interim Financial Statements”, and changes the requirements for the accounting for and reporting of a change in accounting principle. This Statement applies to all voluntary changes in accounting principle. It also applies to changes required by an accounting pronouncement in the unusual instance that the pronouncement does not include specific transition provisions. When a pronouncement includes specific transition provisions, those provisions should be followed. SFAS 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. Consequently, the Company will adopt the provisions of SFAS 154 for its fiscal year beginning January 29, 2006. Management currently believes that adoption of the provisions of SFAS No. 154 will not have a material impact on the Company’s consolidated financial statements.

The Company evaluates the credit risk associated with its receivables. At April 30, 2005, January 29, 2005 and May 1, 2004 no reserve was recorded.

During fiscal 2002, 2003 and 2004 the Compensation Committee of the Company’s Board of Directors authorized compensation bonus pools for executive employees that, in aggregate, currently total $2.5 million and the Company’s Chief Executive Officer authorized compensation bonus pools for non-executive employees that, in aggregate, currently total $1.6 million. These bonus pools serve as additional incentives to retain certain key employees. The Company is accruing the related compensation expense to each employee on a straight-line basis over the retention periods as it is currently anticipated that the performance criteria specified in the agreements will be met. The total compensation and dates to be paid are summarized as follows (in thousands):

Dennis Pence, the Company’s Chairman and Chief Executive Officer and a greater than five percent stockholder, and Ann Pence personally participate in a jet timeshare program through two entities they own. Ann Pence was the Vice Chairman of the Company’s Board of Directors until August 2004, holds more than five percent of the Company’s Common Stock and holds the title

of Chairman Emeritus. For flights by Mr. Pence and other corporate executives made exclusively for official corporate purposes, the Company reimburses these entities for:

Aggregate expense reimbursements totaled approximately $320,000 and $49,000 for the first quarters of fiscal 2005 and fiscal 2004, respectively.

Ann Pence retired from her position as a Director of the Company effective August 23, 2004. In connection with her retirement and in recognition of her contributions as co-founder of the Company, she was given the honorary title of Chairman Emeritus, and the Company extended to her certain post-retirement benefits. During the fiscal 2004 third quarter, the Company accrued the net present value of the expected future benefit costs.

On January 27, 2005, the Company entered into a credit agreement with Wells Fargo Bank, National Association, providing for an unsecured revolving line of credit of up to $40.0 million (the “Agreement”). This credit facility replaced the Company’s previous $60.0 million credit facility pursuant to the credit agreement dated March 5, 2003 between the Company and Wells Fargo Bank, National Association, and various other financial institutions (the “Prior Agreement”). The Agreement increased the limit on the Company’s ability to issue letters of credit from $20.0 million to $40.0 million, removed a key financial covenant that required the Company to maintain a certain fixed charge ratio and removed certain common share ownership restrictions with respect to Dennis Pence, the Chairman of the Company’s Board of Directors and the Company’s Chief Executive Officer. As with the prior credit facility, the interest rate under the Agreement is equal to the London InterBank Offered Rate, but is subject to a lower adjustment rate based on the Company’s leverage ratio than under the Prior Agreement.

The Agreement also amended the specified current ratio, leverage ratio and minimum net worth requirements (as defined in the Agreement) the Company is required to maintain. The Agreement continues to restrict the Company’s ability to, among other things, sell assets, participate in mergers, incur debt, pay cash dividends and make investments or guarantees. In addition, the Company may be subject to unused commitment fees based on a varying percentage of the amount of the total facility that is not drawn down under the Agreement on a quarterly basis. The credit facility has a maturity date of January 31, 2008.

The Company had $6.3 million, $3.2 million and $1.2 million in outstanding letters of credit at April 30, 2005, January 29, 2005 and May 1, 2004, respectively.

The following is a reconciliation of net income and the number of shares of Common Stock used in the computations of net income per basic and diluted share (in thousands, except for per share data and anti-dilutive stock option data):

The Company leases its Distribution Center, Coeur d’Alene, Idaho Call Center, retail and outlet store space as well as certain other property and equipment under operating leases. Certain lease agreements are noncancelable with aggregate minimum lease payment requirements, contain escalation clauses and renewal options, and include incremental contingent rental payments based on store sales above specified minimums.

The Company incurred aggregate rent expense under its operating leases of $7.4 million and $5.9 million including contingent rent expense of $19,000 and $62,000 for the first quarters of fiscal 2005 and 2004, respectively.

As of April 30, 2005, the Company’s minimum lease payment requirements, which include the predetermined fixed escalations of the minimum rentals and exclude contingent rental payments and the amortization of lease incentives, were as follows (in thousands):

Subsequent to April 30, 2005, the Company entered into additional retail leases with minimum lease payment requirements, excluding contingent rental payments, as follows (in thousands):

Additionally, the Company had inventory purchase commitments of approximately $83.8 million and $115.2 million at April 30, 2005 and May 1, 2004, respectively.

The Company and its subsidiaries are periodically involved in litigation and administrative proceedings primarily arising in the normal course of its business. In addition, from time to time, the Company has received claims that its products and/or the manner in which it conducts its business infringes on the intellectual property rights of third parties. In the opinion of management, the Company’s gross liability, if any, and without any consideration given to the availability of insurance or other indemnification, under any pending litigation or administrative proceedings, would not materially affect its consolidated financial position, results of operations or cash flows.

The Company collects sales taxes from customers transacting purchases in states in which the Company has physically based some portion of its business. The Company also pays applicable corporate income, franchise and other taxes to states in which retail or outlet stores are physically located. Upon entering a new state, the Company accrues and remits the applicable taxes. The Company has accrued for these taxes based on its current interpretation of the tax code as written. Failure to properly determine or to timely remit these taxes may result in interest and related penalties being assessed.

The Company’s executive management, being its chief operating decision makers, work together to allocate resources and assess the performance of the Company’s business. The Company’s executive management manages the Company as two distinct operating segments, Direct and Retail. Although offering customers substantially similar merchandise, the Company’s Direct and Retail operating segments have distinct management, marketing and operating strategies and processes.

The Company’s executive management assesses the performance of each operating segment based on an “operating contribution” measure, which is defined as net sales less the cost of merchandise and related acquisition costs and certain directly identifiable and allocable operating costs, as described below. For the Direct Segment, these operating costs primarily consist of catalog development, production and circulation costs, e-commerce advertising costs and order processing costs. For the Retail Segment, these operating costs primarily consist of store selling and occupancy costs. Operating contribution less corporate and other expenses is equal to income before interest and taxes. Corporate and other expenses consist of unallocated shared-service costs and general and administrative expenses. Unallocated shared-service costs include merchandising, distribution, inventory planning and quality assurance costs, as well as corporate occupancy costs. General and administrative expenses include costs associated with general corporate management and shared departmental services (e.g. finance, accounting, data processing and human resources).

Operating segment assets are those directly used in or clearly allocable to an operating segment’s operations. For the Retail Segment, these assets primarily include inventory, fixtures and leasehold improvements. For the Direct Segment, these assets primarily include inventory and prepaid and deferred catalog costs. Corporate and other assets include corporate headquarters, merchandise distribution and shared technology infrastructure as well as corporate cash and cash equivalents and prepaid expenses. Operating segment depreciation and amortization and capital expenditures are correspondingly allocated to each operating segment. Corporate and other depreciation and amortization and capital expenditures are related to corporate headquarters, merchandise distribution, and technology infrastructure.

The following tables provide certain financial data for the Company’s Direct and Retail Segments as well as reconciliations to the Company’s consolidated financial statements. The accounting policies of the operating segments are the same as those described in Note 2 – “Significant Accounting Policies”.

The following discussion contains various statements regarding our current strategies, financial position, results of operations, cash flows, operating and financial trends and uncertainties, as well as certain forward-looking statements regarding our future expectations. When used in this discussion, words such as “anticipate,” “believe,” “estimate,” “expect,” “could,” “may,” “will,” “should,” “plan,” “predict,” “potential,” and similar expressions are intended to identify such forward-looking statements. Our forward-looking statements are based on our current expectations and are subject to numerous risks and uncertainties. As such, our actual future results, performance or achievements may differ materially from the results expressed in, or implied by, our forward-looking statements. Please refer to our “Risk Factors” elsewhere in this Quarterly Report on Form 10-Q and in our most recent Annual Report on Form 10-K for the fiscal year ended January 29, 2005. We assume no future obligation to update our forward-looking statements or to provide periodic updates or guidance.

Introduction to Management’s Discussion and Analysis of Financial Condition and Results of Operations

We encourage you to read this Management’s Discussion and Analysis of Financial Condition and Results of Operations in conjunction with our accompanying consolidated financial statements and their related notes.

When we refer to a fiscal year, we mean the calendar year in which the fiscal year begins. We currently operate in two reportable segments, our direct segment and our retail segment. Unless otherwise indicated, the common stock outstanding, retained earnings and net income per share amounts appearing in the financial statements included herein reflect two 50% stock dividends, each having the effect of a 3-for-2 stock split, declared by our Board of Directors on June 12, 2004 and February 12, 2005, respectively. These stock dividends have the combined effect of a 2.25-for-1 stock split.

We have restated our consolidated balance sheet at May 1, 2004 and our consolidated statements of operations and cash flows for the three months ended May 1, 2004. The restatement also affects the other quarterly periods of fiscal 2004, the balance sheet at January 31, 2004 and the consolidated statements of operations and cash flow for the fiscal year then ended as well as periods prior to fiscal 2004. The restatement corrects an error relating to the Company’s recognition of rent expenses under Financial Accounting Standards Board Technical Bulletin No. 85-3, “Accounting for Operating Leases with Scheduled Rent Increases.” For additional information regarding this restatement, see “Note 2. Significant Accounting Policies, Restatement of Prior Financial Information” to the consolidated financial statements contained in the Company’s Annual Report on Form 10-K for fiscal 2004.

We did not amend our previously filed quarterly reports on Form 10-Q for the restatement, and the financial statements and related information contained in such reports should no longer be relied upon. All amounts referred to in Management’s Discussion and Analysis of Financial Condition and Results of Operations for prior period comparisons reflect the balances and amounts on a restated basis.

Coldwater Creek is a multi-channel, specialty retailer of women’s apparel, accessories, jewelry and gift items. Our unique, proprietary merchandise assortment and our retail stores, catalogs and e-commerce website are designed to appeal to women between the ages of 35 and 60, with median household incomes in excess of $75,000. We reach our customers through our direct segment, which consists of our catalog and e-commerce businesses, and our expanding base of retail stores.

Several years ago we began our evolution from a direct marketer to a multi-channel specialty retailer. Along the way we have tested various scaleable retail store models, strengthened our retail management team, refined our merchandise assortment and integrated our retail and direct merchandise planning and inventory management functions. We intend to continue to build our infrastructure in the coming years to support the planned growth of our retail business.

Our catalog business is a significant sales channel and acts as an efficient marketing platform to cross-promote our website and retail stores. During the first quarter of fiscal 2005, we mailed 28.2 million catalogs. We use our full-scale e-commerce website, www.coldwatercreek.com, to cost-effectively expand our customer base and provide another convenient shopping alternative for our customers. We currently have a database of approximately 2.4 million e-mail addresses to which we regularly send customized e-mails.

We expect our retail business, which represented 53.8% of our total net sales in the first quarter of fiscal 2005, to be the key driver of our growth strategy. As of April 30, 2005, we operated 119 full-line retail stores as well as two resort stores and 20 merchandise clearance outlet stores in 107 markets. We currently plan to open a total of approximately 60 new stores in fiscal 2005, including 12 stores we have opened so far in fiscal 2005. We either have signed, fully executed leases or are currently in lease agreement negotiations for the majority of the stores we plan to open in fiscal 2005. The pace, scope and size of our retail store expansion will be influenced by the economic environment, available working capital, our ability to obtain favorable terms on suitable locations for our stores and, if necessary, external financing.

In the second quarter of fiscal 2004, we created a global sourcing department, which, in addition to our experienced direct sourcing personnel at our headquarters in Sandpoint, Idaho, includes employees in Hong Kong and India who perform compliance inspections in factories in those countries. We anticipate this strategy will provide an opportunity to increase our margins through the direct importing of our proprietary designs. We believe this new development will allow us to improve economies of scale as we improve the efficiency of our procurement process. During fiscal 2005 we anticipate that we will be the importer of record on approximately 15% of our total merchandise purchases.

In the second quarter of fiscal 2004, we opened a design studio in New York with a dedicated team creating novel prints, patterns and working on new fabric initiatives. This studio, while still in its early development, has enabled us to create and market new and distinctive designs more quickly. We anticipate that our design studio will allow us to bring innovative, fashion right merchandise to our customers on a timely basis.

Our retail segment includes our full-line retail, resort and outlet stores and catalog and Internet sales that originate in our retail stores. Our retail channel is our fastest growing sales channel and generated $83.8 million in net sales, or 53.8% of total net sales in the first quarter of fiscal 2005.

We opened our first full-line retail store in November 1999 and have since tested and refined our store format and reduced capital expenditures required for build-out. We believe there is an opportunity to grow to 450 to 500 stores in up to 300 identified markets nationwide over the next five to seven years. At April 30, 2005, we operated 119 stores and plan to open a total of approximately 60 new stores in fiscal 2005, including 12 stores we have opened so far in fiscal 2005. We believe we will be able to complete our 2005 expansion plans with available working capital.

After 2005 it is our current intention to continue to open new stores at our current pace, although we do not maintain a specific rollout plan beyond a one-year horizon. We continually reassess our store rollout plans based on the overall retail environment, the performance of our retail business, our access to working capital and external financing and the availability of suitable store locations. For example, it is possible that in any year we will increase our planned store openings, particularly if we experience strong retail sales and have access to the necessary working capital or external financing. Likewise, we would be inclined to curtail our store rollout if we were to experience weaker retail sales or if we did not have adequate working capital or access to financing.

Over the past several years we have tested various retail store models and we continue to do so. Prior to fiscal 2002 we had 29 full-line retail stores averaging approximately 8,700 square feet. In the beginning of fiscal 2002, we introduced our core store model of 5,000 to 6,000 square feet and, in the beginning of fiscal 2003, we introduced a smaller store format of approximately 3,000 to 4,000 square feet. We have now identified our appropriate store size to be in the range of 4,000 to 6,000 square feet. Therefore, in fiscal 2005, our core store model will average 5,000 square feet and we expect that it will contribute net sales per square foot of approximately $500 in the third year of operations. For the first quarter of fiscal 2005, our 68 stores that had been open at least

13 months averaged approximately 6,300 square feet in size and $491 per square foot in net sales. Most of these stores have been open for one to two years.

We operated 20 outlet stores at April 30, 2005, where we sell excess inventory. We opened one new outlet store in the fiscal 2005 second quarter and plan to open one additional outlet stores during the remainder of fiscal 2005. We generally locate the outlets within clusters of our retail stores to efficiently manage our inventory and clearance activities, but far enough away to avoid significantly diminishing our full-line store sales. Unlike many other apparel retailers, we use our outlet stores only to sell overstocked premium items from our full-line retail stores and do not have merchandise produced directly for them. We currently operate two resort stores in Sandpoint, Idaho and Jackson, Wyoming.

Our direct segment includes our catalog and e-commerce businesses. Our direct channel generated $71.9 million in net sales, or approximately 46.2% of our total net sales, in the fiscal 2005 first quarter. As we continue to roll out our retail stores, we expect our direct segment to decrease as a percentage of total net sales over time. However, we expect our direct segment to continue to be a core component of our operations and brand identity, contributing sales and earnings and serving as an important vehicle to promote each of our channels and provide cash flow to support our retail store expansion.

During the fiscal 2005 first quarter, our catalog business generated $30.8 million in net sales, or 19.8% of total net sales. We use our two core catalogs, Northcountry and Spirit, to feature our entire line of full-price merchandise with different assortments for each title to target separate sub-groups of our core demographic. Additionally, each year we assemble selected merchandise from the most popular items in our primary merchandise lines and feature them in a festive Gifts-to-Go holiday catalog and on our website.

During fiscal 2005, we plan to continue to use a variety of print media advertising to promote sales in retail stores, over the internet and through catalogs, while, at the same time, promoting heightened awareness of the Coldwater Creek brand. Our print media consists of three primary vehicles: national magazine advertising, traditional catalogs and Coldwater Creek catalogs. National magazine advertisements are placed in high-circulation publications such as Oprah, Good Housekeeping, Better Homes & Gardens, Country Living, Southern Living and Cooking Light. These advertisements are designed to drive customer traffic to our three selling channels, as well as to increase brand awareness. Our traditional catalog mailings are designed to generate sales through our Direct Segment and are circulated under the titles Northcountry, Spirit and Sport. Coldwater Creek catalogs are catalogs that include an assortment of items from all three catalog titles and feature merchandise that can be found in our retail stores. These Coldwater Creek catalogs are designed and produced to drive retail store traffic and, accordingly, are primarily mailed into markets where we have a store.

During fiscal 2005, our print media advertising strategy will further emphasize the use of Coldwater Creek catalogs as a key vehicle for driving retail store traffic. While circulation for our traditional catalogs is planned to decrease slightly, growth in our retail store base is expected to provide additional opportunities for circulating Coldwater Creek catalogs in a larger number of store markets, compared with fiscal 2004. Consequently, we anticipate that the combined number of pages circulated through our traditional catalogs and Coldwater Creek catalogs in fiscal 2005 will show a slight increase in total over the prior year. Additionally, we plan to increase the number of pages dedicated to national magazine advertising to further promote brand awareness and drive customer traffic in all channels.

Our full-scale e-commerce website, www.coldwatercreek.com, offers a convenient, user-friendly and secure online shopping option for our customers. The website features our entire full-price merchandise offering found in our catalogs and retail stores. It also serves as an efficient promotional vehicle for the disposition of excess inventory.

In the fiscal 2005 first quarter, online net sales were $41.1 million and represented 26.4% of total net sales. As of April 30, 2005, we had approximately 2.4 million opt-in e-mail addresses to which we regularly send customized e-mails to drive sales through

our website and our other channels. We also participate in a net sales commission-based program whereby numerous popular Internet search engines and consumer and charitable websites provide hotlink access to our website.

The following table sets forth certain information regarding our costs and expenses expressed as a percentage of consolidated net sales:

Comparison of the Three-Month Period Ended April 30, 2005 with the Three-Month Period Ended May 1, 2004:

Net Sales. Our consolidated net sales for the fiscal 2005 first quarter were $155.6 million, an increase of $31.2 million, or 25.0%, compared with consolidated net sales of $124.5 million during the fiscal 2004 first quarter. The increase was primarily due to net sales of $26.1 million contributed by our retail stores, and to increases of $4.6 million, or 17.0%, in full-price Internet net sales, $1.6 million or 19.4% in web disposition net sales and $1.2 million, or 22.7%, in outlet store net sales. These positive impacts were partially offset by decreases of $1.2 million, or 3.8%, in full-price catalog net sales and $1.0 million, or 54.2%, in clearance catalog net sales.

Gross Profit. Our consolidated gross profit dollars for the fiscal 2005 first quarter increased by $18.7 million, or 34.5%, to $72.8 million from $54.2 million in the fiscal 2004 first quarter. Our consolidated gross profit rate for the fiscal 2005 first quarter increased to 46.8% from 43.5% in the fiscal 2004 first quarter.

The increases in our consolidated gross profit dollars and rate were primarily attributable to an aggregate improvement in merchandise margins of 3.7 percentage points on sales in all channels for the fiscal 2005 first quarter. Merchandise margins on full-price direct segment sales improved approximately 5.2 percentage points in the fiscal 2005 first quarter. Merchandise margins on full-price retail sales increased 1.6 percentage points in the fiscal 2005 first quarter. The merchandise margins on our clearance sales improved by 1.3 percentage points in the fiscal 2005 first quarter. Our merchandise margins in all channels improved primarily due to lower merchandise costs resulting from higher purchase volumes relative to the prior year due to both our retail expansion and, to a lesser extent, to the concentration of our merchandise purchases with fewer, larger vendors.

Also contributing to the increase in our consolidated gross profit rate was an improvement of 1.1 percentage points in the leveraging of our retail store occupancy costs in the fiscal 2005 first quarter. Additionally, a decrease in the percentage of total net sales contributed by clearance sales compared with full-price sales added to the increase in our consolidated gross profit rate. Clearance sales comprised approximately 11% of our total net sales in the fiscal 2005 first quarter compared with approximately 12% of our total net sales in the fiscal 2004 first quarter.

Our consolidated cost of sales includes $1.3 million of vendor rebates in the fiscal 2005 first quarter and includes $0.7 million in the fiscal 2004 first quarter. These rebates were credited to cost of sales as the related merchandise was sold.

Selling, General and Administrative Expenses. Our consolidated selling, general and administrative expenses for the fiscal 2005 first quarter were $59.5 million, an increase of $14.1 million, or 31.0%, from $45.4 million in the fiscal 2004 first quarter. Our consolidated selling, general and administrative expenses expressed as a percentage of net sales increased to 38.2% in the fiscal 2005 first quarter from 36.5% in the fiscal 2004 first quarter. These increases were primarily the result of incremental personnel costs, primarily consisting of retail administrative staff wages, store employee wages, related taxes and employee benefits associated with our retail expansion. These personnel costs increased $5.9 million, or 42.4%, in the fiscal 2005 first quarter from the comparable period in the prior year. Also contributing to these increases were additional costs of $2.5 million associated with increased catalog mailings. Our catalog mailings increased primarily due to the mailing of our new Coldwater Creek catalogs. These Coldwater Creek catalogs are designed and produced to drive retail store traffic and, accordingly, are primarily mailed into markets where we have an existing store. Additionally, our brand advertising increased $1.3 million, or 132.7%, in the fiscal 2005 first quarter from the same period a year ago. This increase was primarily due to our expanded national magazine advertising initiative designed to increase brand recognition through the placement of four-page advertisements.

Income Tax Rate. For the fiscal 2005 first quarter our consolidated provision for income taxes was $5.6 million, an increase of $2.1 million, or 61.5%, compared with a consolidated provision for income taxes of $3.5 million for the fiscal 2004 first quarter. The increase in our income tax expense was primarily the result of higher pre-tax income. For the fiscal 2005 first quarter our effective income tax rate was 39.9% compared with 39.6% in the fiscal 2004 first quarter. The increase in our effective income tax rate was due to the anticipated non-deductibility for tax purposes of compensation amounts in excess of $1.0 million for certain executive officers.

Net Sales. The following table summarizes our net sales by segment (in thousands):

Our retail segment’s net sales increased $27.3 million, or 48.3%, in the fiscal 2005 first quarter from the same period a year ago. We primarily attribute this increase to net sales of approximately $24.6 million contributed by the 48 full-line retail stores that we opened since the fiscal 2004 first quarter and, to a lesser extent, net sales of approximately $1.4 million contributed by full-line retail stores that were opened during only a portion of the fiscal 2004 first quarter, but were open during the entirety of the fiscal 2005 first quarter. Also contributing to the increase in our retail segment’s net sales, was an increase of $1.2 million, or 22.7%, in our outlet store net sales for the fiscal 2005 first quarter.

Our direct segment’s net sales increased $3.9 million, or 5.7%, in the fiscal 2005 first quarter from the comparable period last year. We primarily attribute this increase to strong customer response to our merchandise offerings at full-price, particularly through our e-commerce web site.

Our catalog business’ net sales, which are derived from orders taken from customers over the phone or through the mail, decreased $2.2 million, or 6.7%, in the fiscal 2005 first quarter from the fiscal 2004 first quarter. These net sales exclude net sales that we believe were driven by our catalog mailings but purchased through other channels. We use our catalogs to drive sales in all our

channels. Consequently, we primarily attribute the decrease in our catalog business’ net sales to our customers choosing to purchase merchandise through the channel they deem most convenient. We believe our sales related to orders taken from customers over the phone and through the mail are down because customers are increasingly choosing to order via the internet or at our expanding base of full-line retail stores.

Our internet business’ net sales increased $6.1 million, or 17.5%, in the fiscal 2005 first quarter from the same period a year ago. The growth in our internet business net sales was primarily driven by our increased ability to target customers through our expanding database of e-mail addresses. Our database of e-mail addresses increased 11.7% in the fiscal 2005 first quarter from the same period last year.

Operating Contribution. The following table summarizes our operating contribution by segment (in thousands):

Our retail segment’s operating contribution increased $6.7 million, or 74.4%, in the fiscal 2005 first quarter. We primarily attribute this increase to the 48 retail stores opened since the end of the fiscal 2004 first quarter, to increased merchandise margins on our full-price retail sales and, to a lesser extent, to improved net sales at our retail stores, which has allowed us to improve the leveraging of retail store occupancy costs. Merchandise margins on full-price sales from our retail segment improved by 1.6 percentage points during the fiscal 2005 first quarter from same period last year. Additionally, we experienced an improvement of 1.1 percentage points in the leveraging of our full-line retail store occupancy costs during the fiscal 2005 first quarter from the comparable period last year.

Partially offsetting these positive impacts in the fiscal 2005 first quarter were increased personnel costs associated with our retail expansion. The personnel costs primarily included administrative and technical support salaries, store employee wages and related taxes and employee benefits. For the fiscal 2005 first quarter, personnel costs impacting our retail segment’s operating contribution increased $5.6 million, or 56.1%.

The increase in our direct segment’s operating contribution is primarily due to improvements in merchandise margins on full-price sales from our catalog and e-commerce businesses of approximately 5.2 percentage points in the fiscal 2005 first quarter from the same period last year.

The decrease in our corporate and other operating contribution for first quarter fiscal 2005 was primarily due to an increase in our brand advertising of $1.3 million, or 132.7%, in the fiscal 2005 first quarter from the same period a year ago. This increase was primarily related to our expanded national magazine advertising initiative designed to increase brand recognition through the placement of four-page advertising spreads. Also contributing to this decrease were increased administrative and technical support salaries associated with our retail expansion of $0.9 million, or 15.1%. These negative impacts in both fiscal periods were partially offset by the positive impact of our ongoing cost control initiatives.

As with many apparel retailers, our net sales, operating results, liquidity and cash flows have fluctuated, and will continue to fluctuate as a result of a number of factors, including the following:

We alter the composition, magnitude and timing of our merchandise offerings based upon our understanding of prevailing consumer demand, preferences and trends. The timing of our merchandise offerings may be further impacted by, among other factors, the performance of various third parties on which we are dependent and the day of the week on which certain important holidays fall. Additionally, the net sales we realize from a particular merchandise offering may impact more than one fiscal quarter and year and the amount and pattern of the sales realization may differ from that realized by a similar merchandise offering in a prior fiscal quarter or year. The majority of net sales from a merchandise offering generally is realized within the first several weeks after its introduction with an expected significant decline in customer orders thereafter.

Our business materially depends on sales and profits from the November and December holiday shopping season. In anticipation of traditionally increased holiday sales activity, we incur certain significant incremental expenses, including the hiring of a substantial number of temporary employees to supplement our existing workforce. Additionally, as gift items and accessories are more prominently represented in our November and December holiday season merchandise offerings, we typically expect, absent offsetting factors, to realize higher consolidated gross margins in the second half of our fiscal year. If, for any reason, we were to realize significantly lower-than-expected sales or profits during the November and December holiday selling season, our financial condition, results of operations, including related gross margins and cash flows for the entire fiscal year will be materially adversely affected. Due to our change in fiscal year end in fiscal 2002, the November and December holiday season falls into our fiscal fourth quarter. Previously, the November portion of the holiday season fell into our fiscal third quarter and the December portion of the holiday season fell into our fiscal fourth quarter. Although our fiscal 2004 second quarter was profitable, our second quarter has historically not been profitable and may again become unprofitable in the future.

In recent fiscal years, we have financed our ongoing operations and growth initiatives primarily from cash flow generated by our operations and trade credit arrangements. However, as we produce catalogs, open retail stores and purchase inventory in anticipation of future sales realization and as our operating cash flows and working capital experience seasonal fluctuations, we may occasionally utilize short-term bank credit.

On January 27, 2005, we entered into a credit agreement with Wells Fargo Bank, National Association, providing for an unsecured revolving line of credit of up to $40.0 million (the “Agreement”). This credit facility replaced our previous $60.0 million credit facility with Wells Fargo Bank pursuant to the credit agreement dated March 5, 2003 between us and Wells Fargo Bank,

National Association, and various other financial institutions. The Agreement increased the limit on our ability to issue letters of credit from $20.0 million to $40.0 million, removed a key financial covenant that required us to maintain a certain fixed charge ratio, and removed certain common share ownership restrictions with respect to Dennis Pence, our Chairman and Chief Executive Officer. As with the prior credit facility, the interest rate under the Agreement is equal to the London InterBank Offered Rate, but is subject to a lower adjustment rate based on our leverage ratio than under the prior agreement.

The Agreement also amended the specified current ratio, leverage ratio and minimum net worth requirements (as defined in the Agreement) we are required to maintain. The Agreement continues to restrict our ability to, among other things, sell assets, participate in mergers, incur debt, pay cash dividends and make investments or guarantees. In addition, we may be subject to unused commitment fees based on a varying percentage of the amount of the total facility that is not drawn down under the Agreement on a quarterly basis. The credit facility has a maturity date of January 31, 2008. At April 30, 2005, we had $6.3 million in outstanding letters of credit under this Agreement and had not drawn down any amounts under the credit facility.

Our operating activities generated $18.0 million and $16.1 million of positive cash flow during the first quarter of fiscal 2005 and 2004 respectively. On a comparative year-to-year basis, the increase in the first quarter of fiscal 2005 primarily reflects the positive cash flow effects of increased accounts payable and increased net income. Partially offsetting these positive cash flow impacts were increased inventories and increased accounts receivable. Our inventories increased primarily due to our opening of 48 full-line retail stores since the end of first quarter fiscal 2004. Our accounts receivable increased primarily due to increased tenant improvement receivable related to our retail expansion.

Our investing activities consumed $13.0 million and $7.8 million of cash during the first quarters of fiscal 2005 and 2004, respectively. Cash outlays in these periods were principally for capital expenditures.

Our first quarter fiscal 2005 and fiscal 2004 capital expenditures principally reflect the cost of leasehold improvements for new retail stores and to a substantially lesser extent, furniture and fixtures for both new and existing retail stores and various technology hardware and software additions and upgrades.

Our financing activities provided $0.4 million and $0.5 million of cash during the first quarters of fiscal 2005 and fiscal 2004, respectively. These amounts consist of proceeds from the exercise of previously granted stock options to purchase approximately 88,700 shares of common stock at an average price of $4.41 per share in the first quarter of fiscal 2005 and 137,800 shares of common stock at an average exercise price of $3.90 per share in the first quarter of fiscal 2004.

As a result of the foregoing, we had $119.6 million in consolidated working capital at April 30, 2005 compared with $58.3 million at May 1, 2004. Our consolidated current ratio was 2.0 at April 30, 2005 compared with 1.7 at May 1, 2004. We had no outstanding short-term or long-term bank debt at April 30, 2005, or May 1, 2004.

On May 26, 2004, we completed a public offering of 5,040,000 shares of our common stock at a price to the public of $9.11 per share. The net proceeds to us were approximately $42.1 million after deducting underwriting discounts and commissions and our offering expenses. We currently intend to use the net proceeds from the offering to continue to expand our retail operations and for working capital and for other general corporate purposes. Please note that the common stock and price per share amounts discussed here have been adjusted to reflect the two stock dividends declared by the Board of Directors since May 26, 2004.

At April 30, 2005, we operated 119 stores and we have since opened an additional twelve stores so far in fiscal 2005 for a total of 131 stores currently in operation. We currently plan to open a total of approximately 60 new stores in fiscal 2005. We believe there is an opportunity to open 450 to 500 stores in up to 300 identified markets nationwide over the next five to seven years. The pace, scope and size of our retail store expansion will be influenced by the economic environment, available working capital, our ability to identify and obtain favorable terms on suitable locations for our stores and, if necessary, external financing.

We currently estimate approximately $57.0 million in capital expenditures for the remainder of fiscal 2005, primarily for the new full-line retail stores we have yet to open, and, to a substantially lesser extent, the conversion of a portion of our Sandpoint Distribution Center into additional administrative office space and various technology additions and upgrades. These expenditures are expected to be funded from operating cash flows, working capital and the proceeds from the public offering of shares of our Common Stock completed on May 26, 2004.

Over the past several years we have tested various retail store models and we continue to do so. Prior to fiscal 2005 we had two store models. Our core store model, which we introduced at the beginning of fiscal 2002, was 5,000 to 6,000 square feet and, in the beginning of fiscal 2003, we introduced a smaller store format of approximately 3,000 to 4,000 square feet. We have now identified our appropriate store size to be in the range of 4,000 to 6,000 square feet. Therefore, in fiscal 2005, our core store model

will average 5,000 square feet, and we expect that it will contribute net sales per square foot of approximately $500 in the third year of operations.

We believe that our cash flow from operations, available borrowing capacity under our bank credit facility and the net proceeds from the May 2004 stock offering will be sufficient to fund our current operations and retail store openings under our current store roll-out plan. However, we may be required to seek additional sources of funds if, for example, we decide to accelerate our retail roll-out strategy.

Due to competition from discount retailers that has put downward pressure on retail prices for women’s apparel, the apparel industry has experienced significant retail price deflation over the past several years. We expect this trend to continue. Furthermore, on December 31, 2004, quota restrictions on the importing of apparel into the United States from foreign countries which are members of the World Trade Organization expired. The United States and the European Union have re-imposed trade quotas on certain textile categories that will be in effect through December 2005. We currently believe that our sourcing strategy will allow us to adjust to potential shifts in availability of apparel following the expiration of these quotas.

We expect our retail segment to be the key driver of our growth in the future. As our retail business grows, we will add additional overhead such as incremental corporate personnel costs. However, we expect our sales dollar growth to outpace our addition of infrastructure expenses. Consequently, we believe that our retail expansion will increase our overall profitability. We also anticipate that our recently implemented global sourcing strategy will contribute to an increase in our overall profitability by increasing the percentage of merchandise we purchase directly from overseas vendors. During fiscal 2005, we expect that we will be the importer of record of approximately 15% of our total merchandise purchases.

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires us to make estimates and assumptions that affect:

These estimates and assumptions are based on our historical results as well as our future expectations. Our actual results could vary from our estimates and assumptions.

The accounting policies listed below are those that we believe are the most critical to our consolidated financial condition and results of operations. They are also the accounting policies that typically require our most difficult, subjective and complex judgments and estimates, often for matters that are inherently uncertain. With respect to our critical accounting policies, even a relatively minor variance between our actual and expected experience can potentially have a materially favorable or unfavorable impact on our subsequent consolidated results of operations. Please refer to the discussion of our critical accounting policies in our most recent Annual Report on Form 10-K for the fiscal year ended January 29, 2005, for further details.

During the first three months of fiscal 2005, there were no changes in the above critical accounting policies.

Our off-balance sheet liabilities primarily consist of lease payment obligations incurred under operating leases, which are required to be excluded from our consolidated balance sheet by accounting principles generally accepted in the United States. Our only individually significant operating lease is for our distribution center and call center located in Mineral Wells, West Virginia. Our off-balance sheet liabilities also include our inventory purchase orders which represent agreements to purchase inventory that are legally binding and that specify all significant terms. All of our other operating leases pertain to our retail and outlet stores, our Coeur d’Alene, Idaho call center and to various equipment and technology.

The following tables summarize our minimum contractual commitments and commercial obligations as of April 30, 2005:

Subsequent to April 30, 2005, we entered into additional retail leases with minimum lease payment requirements, excluding contingent rental payments, as follows:

We may be unable to successfully implement our retail store rollout strategy, which could result in significantly lower revenue growth.

The key driver of our growth strategy is our retail store expansion. At April 30, 2005, we operated 119 stores and we have since opened an additional twelve stores so far in fiscal 2005 for a total of 131 stores currently in operation. We currently plan to open a total of approximately 60 new stores in fiscal 2005. We believe we have the potential to open 450 to 500 retail stores over the next five to seven years. However, there can be no assurance that these stores will be opened, will be opened in a timely manner, or, if opened, that these stores will be profitable. Our ability to open our planned retail stores depends on our ability to successfully:

Any miscalculations or shortcomings in the planning and control of our retail growth strategy could materially impact our results of operations and our financial condition.

We may continue to refine our retail store model, which could delay our planned retail store rollout and result in slower revenue growth.

We have made numerous refinements in our retail store format since opening our first full-line store in 1999, including our most recent revision to our store model in fiscal 2005. Our retail model may undergo further refinements as we gain experience operating more stores. If we determine to make further refinements to our store model, it may delay the progress of our retail store roll-out, which could slow our anticipated revenue growth. We are required to make long-term financial commitments when leasing retail store locations, which would make it more costly for us to close or relocate stores that do not prove successful. Furthermore, retail store operations entail substantial fixed costs, including costs associated with maintaining inventory levels, leasehold improvements, fixtures, store design and information and management systems, and we must continue to make these investments to maintain our current and future stores.

We may not select optimal locations for our retail stores, which could affect our net sales.

The success of individual retail stores will depend to a great extent on locating them in desirable shopping venues in markets that include our target demographic. The success of individual stores may depend on the success of the shopping malls or lifestyle centers in which they are located. In addition, the demographic and other marketing data we rely on in determining the location of our stores cannot predict future consumer preferences and buying trends with complete accuracy. As a result, retail stores we open may not be profitable or may be less successful than we anticipate.

We may be unable to manage significant increases in the costs associated with our catalog business, which could affect our results of operations.

We incur substantial costs associated with our catalog mailings, including paper, postage, merchandise acquisition and human resource costs associated with catalog layout and design, production and circulation and increased inventories. Most of these costs are incurred prior to mailing. As a result, we are not able to adjust the costs of a particular catalog mailing to reflect the actual subsequent performance of the catalog. Significant increases in U.S. Postal Service rates and the cost of telecommunications services, paper and catalog production could significantly increase our catalog production costs and result in lower profits for our catalog business to the extent we are unable to pass these costs onto our customers or implement more cost effective printing, mailing or distribution systems. Because our catalog business accounts for a significant portion of total net sales, any performance shortcomings experienced by our catalog business would likely have a material adverse effect on our overall business, financial condition, results of operations and cash flows.

Response rates to our catalogs could decline, which would negatively impact our net sales and results of operations.

Response rates to our catalog mailings and, as a result, the net sales generated by each catalog mailing, can be affected by factors beyond our control such as changing consumer preferences, willingness to purchase goods through catalogs, weak economic conditions and uncertainty, and unseasonable weather in key geographic markets. In addition, a portion of our catalog mailings are to prospective customers. These mailings involve risks not present in mailings to our existing customers, including lower and less predictable response rates. Additionally, it has become more difficult for us and other direct retailers to obtain quality prospecting mailing lists, which may limit our ability to maintain the size of our active catalog customer list. Lower response rates could result in lower-than-expected full-price sales and higher-than-expected clearance sales at substantially reduced margins.

Consumers concerns about purchasing items via the Internet as well as external or internal infrastructure system failures could negatively impact our e-commerce sales or cause us to incur additional costs.

Our e-commerce business is vulnerable to consumer privacy concerns relating to purchasing items over the Internet, security breaches, and failures of internet infrastructure and communications systems. If consumer confidence in making purchases over the Internet declines as a result of privacy or other concerns, our e-commerce net sales could decline. We may be required to incur increased costs to address or remedy any system failures or security breaches.

We may be unable to manage expanding operations and the complexities of our multi-channel strategy, which could harm our results of operations.

During the past few years, with the implementation of our multi-channel business model, our overall business has become substantially more complex. This increasing complexity has resulted and is expected to continue to result in increased demands on our managerial, operational and administrative resources and has forced us to develop new expertise. In order to manage our complex multi-channel strategy, we will be required to continue, among other things, to:

We may be unable to anticipate changing customer preferences and to respond in a timely manner by adjusting our merchandise offerings, which could result in lower sales.

Our future success will depend largely on our ability to continually select the right merchandise assortment, maintain appropriate inventory levels and present merchandise in a way that is appealing to our customers. Consumer preferences cannot be predicted with certainty, as they continually change and vary from region to region. On average, we begin the design process for our apparel nine to ten months before merchandise is available to our customers, and we typically begin to make purchase commitments four to six months in advance. These lead times make it difficult for us to respond quickly to changing consumer preferences and amplify the consequences of any misjudgments we might make in anticipating customer preferences. Consequently, if we misjudge our customers’ merchandise preferences or purchasing habits, our sales may decline significantly, and we may be required to mark down certain products to significantly lower prices to sell excess inventory, which would result in lower margins.

We depend on key vendors for timely and effective sourcing and delivery of our merchandise. If these vendors are unable to timely fill orders or meet our quality standards, we may lose customer sales and our reputation may suffer.

Our direct business depends largely on our ability to fulfill orders on a timely basis, and our direct and retail businesses depend largely on our ability to keep appropriate levels of inventory in our distribution center and our stores. As we grow our retail business, we may experience difficulties in obtaining sufficient manufacturing capacity from vendors to produce our merchandise. We generally maintain non-exclusive relationships with multiple vendors that manufacture our merchandise. However, we have no contractual assurances of continued supply, pricing or access to new products, and any vendor could discontinue selling to us at any time. If we were required to change vendors or if a key vendor were unable to supply desired merchandise in sufficient quantities on

acceptable terms, particularly in light of our recent trend toward consolidating more of our merchandise purchases with fewer vendors, we may experience delays in filling customer orders or delivering inventory to our stores until alternative supply arrangements are secured, which could result in lost sales and a decline in customer satisfaction.

Our increasing reliance on foreign vendors will subject us to uncertainties that could impact our cost to source merchandise and delay or prevent merchandise shipments.

As we expand our retail stores and our merchandise volume requirements increase, we expect to source merchandise directly from foreign vendors, particularly those located in Asia. During fiscal 2005 we anticipate that we will be the importer of record on approximately 15% of our total merchandise purchases. This will expose us to new and greater risks and uncertainties, the occurrence of which could substantially impact our ability to source merchandise through foreign vendors and to realize any perceived cost savings. We will be subject to, among other things:

On December 31, 2004, quota restrictions on the importing of apparel into the United States from foreign countries which are members of the World Trade Organization expired. The United States and the European Union have re-imposed trade quotas on certain textile categories that will be in effect through December 2005. Our sourcing strategy is designed to allow us to adjust to potential shifts in availability of apparel following the expiration of these quotas. However, our sourcing operations may be adversely affected by trade limits or political and financial instability resulting in the disruption of trade from exporting countries, significant fluctuation in the value of the U.S. dollar against foreign currencies and/or other trade disruptions.

We may be unable to fill customer orders efficiently, which could harm customer satisfaction.

If we are unable to efficiently process and fill customer orders, customers may cancel or refuse to accept orders, and customer satisfaction could be harmed. We are subject to, among other things:

We have a liberal merchandise return policy, and we may experience a greater number of returns than we anticipate.

As part of our customer service commitment, we maintain a liberal merchandise return policy that allows customers to return any merchandise, virtually at any time and for any reason, and regardless of condition. We make allowances in our financial statements for anticipated merchandise returns based on historical return rates and our future expectations. These allowances may be exceeded, however, by actual merchandise returns as a result of many factors, including changes in the merchandise mix, size and fit, actual or perceived quality, differences between the actual product and its presentation in our catalogs or on our website, timeliness of delivery, competitive offerings and consumer preferences or confidence. Any significant increase in merchandise returns or

merchandise returns that exceed our allowances would result in adjustments to our sales return accrual and to cost of sales and could materially adversely affect our financial condition, results of operations and cash flows.

Our quarterly results of operations fluctuate and may be negatively impacted by a failure to predict sales trends and by seasonal influences.

Our net sales, operating results, liquidity and cash flows have fluctuated, and will continue to fluctuate, on a quarterly basis, as well as on an annual basis, as a result of a number of factors, including, but not limited to, the following:

Our results continue to depend materially on sales and profits from the November and December holiday shopping season. In anticipation of traditionally increased holiday sales activity, we incur certain significant incremental expenses, including the hiring of a substantial number of temporary employees to supplement our existing workforce. If, for any reason, we were to realize lower-than-expected sales or profits during the November and December holiday selling season, our financial condition, results of operations, including related gross margins, and cash flows for the entire fiscal year would be materially adversely affected.

We face substantial competition from discount retailers in the women’s apparel industry.

We believe our customers are willing to pay slightly higher prices for our unique merchandise and superior customer service. However, we face substantial competition from discount retailers, such as Kohl’s and Target, for basic elements in our merchandise lines, and our net sales may decline or grow more slowly if we are unable to differentiate our merchandise and shopping experience from these discount retailers. In addition, the retail apparel industry has experienced significant price deflation over the past several years largely due to the downward pressure on retail prices caused by discount retailers. We expect this price deflation to continue as a result of the expiration of quota restrictions on the importing of apparel into the United States from foreign countries that are members of the World Trade Organization. This price deflation may make it more difficult for us to maintain our gross margins and to compete with retailers that have greater purchasing power than we have. Furthermore, because we currently source a significant percentage of our merchandise through intermediaries and from suppliers and manufacturers located in the United States and Canada, where labor and production costs, on average, tend to be higher, our gross margins may be lower than those of competing retailers.

Our future success depends largely on the efforts of Dennis Pence, Chairman and Chief Executive Officer; Georgia Shonk-Simmons, President and Chief Merchandising Officer; Melvin Dick, Executive Vice President and Chief Financial Officer; and Dan Griesemer, Executive Vice President, Sales and Marketing. The loss of any of these individuals or other key personnel could have a material adverse effect on our business. Furthermore, the location of our corporate headquarters in Sandpoint, Idaho may make it more difficult to replace key employees who leave us, or to add qualified employees we will need to manage our further growth.

Prior to joining our company, Melvin Dick, our Executive Vice President and Chief Financial Officer, served as the lead engagement partner for Arthur Andersen’s audit of WorldCom’s consolidated financial statements for the fiscal year ended December 31, 2001, and its subsequent review of WorldCom’s condensed consolidated financial statements for the fiscal quarter ended March 31, 2002. The ongoing investigation of the WorldCom matter may require Mr. Dick’s attention, which may impair his ability to devote his full time and attention to our company. Further, Mr. Dick’s association with the WorldCom matter may adversely affect customers’ or investors’ perception of our company.

Lower demand for our merchandise could reduce our gross margins and cause us to slow our retail expansion.

Our merchandise is comprised primarily of discretionary items, and demand for our merchandise is affected by a number of factors that influence consumer spending. Lower demand may cause us to move more full-price merchandise to clearance, which would reduce our gross margins, and could adversely affect our liquidity (including compliance with our debt covenants) and, therefore, slow the pace of our retail expansion. We have maintained conservative inventory levels, which we believe will make us less vulnerable to sales shortfalls. Conversely, if we elect to carry relatively low levels of inventory in anticipation of lower demand but demand is stronger than we anticipated, we may be forced to backorder merchandise, which may result in lost sales and lower customer satisfaction.

Our tax collection policy may expose us to the risk that we may be assessed for unpaid taxes.

Many states have attempted to require that out-of-state direct marketers and e-commerce retailers whose only contact with the taxing state are solicitations and delivery of purchased products through the mail or the Internet collect sales taxes on sales of products shipped to their residents. The U.S. Supreme Court has held that these states, absent congressional legislation, may not impose tax collection obligations on an out-of-state mail order or Internet company. Although we believe that we have collected sales tax where we are required to do so under existing law, state and local tax authorities may disagree, and we could be subject to assessments for uncollected sales taxes, as well as penalties and interest and demands for prospective collection of such taxes. Furthermore, if Congress enacts legislation permitting states to impose sales tax collection obligations on out-of-state catalog or e-commerce businesses, or if we are otherwise required to collect additional sales taxes, such tax collection obligations may negatively affect customer response and could have a material adverse effect on our financial position, results of operations and cash flows. In addition, as we open more retail stores, our tax collection obligations will increase significantly and complying with the greater number of state and local tax regulations to which we will be subject may strain our resources.

Any determination that we have a material weakness in our internal control over financial reporting could have a negative impact on our stock price.

We are applying significant management and financial resources to document, test, monitor and enhance our internal control over financial reporting in order to meet the requirements of the Sarbanes-Oxley Act of 2002. All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. For example, our management concluded that our internal control over financial reporting was not effective for fiscal 2004 as a result of a restatement of certain of our financial statements to correct an error relating to the recognition of rental expense, as described in Note 2 to our consolidated financial statements included in our most recent Annual Report on Form 10-K. Further, because of changes in conditions, the effectiveness of internal control may vary over time. We cannot be certain that our internal control systems will be adequate or effective in preventing fraud or human error. Any failure in the effectiveness of our internal control over financial reporting could have a material effect on our financial reporting or cause us to fail to meet reporting obligations, which upon disclosure, could negatively impact the market price of our common stock.

The market price for our common stock has fluctuated and has been and will continue to be significantly affected by, among other factors, our quarterly operating results, changes in any earnings estimates publicly announced by us or by analysts, customer response to our merchandise offerings, the size of our catalog mailings, the timing of our retail store openings or of important holiday seasons relative to our fiscal periods, seasonal effects on sales and various factors affecting the economy in general. The reported high and low closing sale prices of our common stock were $20.58 per share and $6.63 per share, respectively, during the fiscal year ended January 29, 2005. The reported high and low closing sales prices of our common stock were $21.49 per share and $16.72 per share, respectively, during the fiscal 2005 first quarter ended April 30, 2005. In addition, the Nasdaq National Market has experienced a high level of price and volume volatility and market prices for the stock of many companies have experienced wide price fluctuations not necessarily related to the operating performance of such companies.

We have not been materially impacted by fluctuations in foreign currency exchange rates as substantially all of our business is transacted in, and is expected to continue to be transacted in, U.S. dollars or U.S. dollar-based currencies. We have only been immaterially impacted by fluctuations in interest rates as a result of our relatively modest bank borrowings in recent fiscal years. During the three-month period ended April 30, 2005, we did not have borrowings under our new credit facility and, consequently, did not have any material exposure to interest rate market risks during or at the end of this period. However, as any future borrowings under our new bank credit facility will be at a variable rate of interest, we could potentially be materially adversely impacted should we require significant borrowings in the future, particularly during a period of rising interest rates. We have not used, and currently do not anticipate using, any derivative financial instruments.

We previously reported under Item 9A of our Annual Report on Form 10-K for the fiscal year ended January 29, 2005 (the “Annual Report”) a material weakness in our internal control over financial reporting and that our disclosure controls and procedures were not effective as of January 29, 2005, due to a control deficiency that resulted in an error in our lease accounting. During the quarter ended April 30, 2005, we remedied deficiencies in our internal control over financial reporting by instituting additional review procedures over the selection and application of our lease accounting policies.

(a) Evaluation of disclosure controls and procedures: Under the direction of our Chief Executive Officer and our Chief Financial Officer, management evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(e)) as of April 30, 2005. Based on this evaluation, and following the implementation of the measures described above, our Chief Executive Officer and our Chief Financial Officer have concluded that, as of that date, our disclosure controls and procedures were effective.

(b) Changes in internal control over financial reporting: In connection with the evaluation of our internal control over financial reporting (required by paragraph (d) of Exchange Act Rule 13a-15), except for the measures taken to address the material weakness as described above, we have made no changes in, nor taken any corrective actions regarding, our internal control over financial reporting during the first quarter ended April 30, 2005, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

We are, from time to time, involved in various legal proceedings incidental to the conduct of our business. In addition, from time to time we have received claims that our products and/or the manner in which we conduct our business infringe on the intellectual property rights of third parties. In the opinion of management, our gross liability, if any, and without any consideration given to the availability of insurance or other indemnification, under any pending litigation or administrative proceedings, would not materially affect our consolidated financial position, results of operations or cash flows.

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Sandpoint, State of Idaho, on this 9th day of June 2005.


COLDWATER CREEK INC.

By:		/s/ DENNIS C. PENCE
		Chairman and Chief Executive Officer (Principal Executive Officer)

By:		/s/ MELVIN DICK
		Executive Vice-President and Chief Financial Officer (Principal Financial Officer)

By:		/s/ DUANE A. HUESERS
		Vice President of Finance (Principal Accounting Officer)


DELAWARE		82-0419266
(State of other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)


Class		Shares outstanding as of June 6, 2005
Common Stock ($.01 par value)		60,841,488


		Page
PART I. FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements (unaudited)		3

Consolidated Balance Sheets at April 30, 2005, January 29, 2005 and May 1, 2004 (restated)		3

Consolidated Statements of Operations for the three-month periods ended April 30, 2005 and May 1, 2004 (restated)		4

Consolidated Statements of Cash Flows for the three-month periods ended April 30, 2005 and May 1, 2004 (restated)		5

Notes to the Consolidated Financial Statements (unaudited)		6

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		17

Item 3. Quantitative and Qualitative Disclosures About Market Risk		31

Item 4. Controls and Procedures		32

PART II. OTHER INFORMATION

Item 1. Legal Proceedings		33

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		33

Item 3. Defaults Upon Senior Securities		33

Item 4. Submission of Matters to a Vote of Security Holders		33

Item 5. Other Information		33

Item 6. Exhibits		34


	April 30, 2005		January 29, 2005		May 1, 2004
					(restated)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents	$	116,504	$	111,204	$	54,642
Receivables		21,323		12,708		15,564
Inventories		80,588		63,752		56,853
Prepaid and other		7,434		6,628		6,161
Prepaid and deferred catalog costs		9,606		6,905		5,791
Deferred income taxes		1,079		1,079		—

Total current assets		236,534		202,276		139,011
Property and equipment, net		130,330		120,689		97,065
Deferred income taxes		3,033		1,233		—
Other		347		388		487

Total assets	$	370,244	$	324,586	$	236,563

LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Accounts payable	$	74,836	$	49,406	$	46,643
Accrued liabilities		34,923		31,646		28,695
Income taxes payable		7,214		4,736		5,295
Deferred income taxes		—		—		115

Total current liabilities		116,973		85,788		80,748
Deferred rents		44,917		40,319		30,768
Deferred income taxes		—		—		537
Other		197		200		—

Total liabilities		162,087		126,307		112,053

Commitments and contingencies
STOCKHOLDERS’ EQUITY:
Preferred stock, $.01 par value, 1,000,000 shares authorized, none issued and outstanding		—		—		—
Common stock, $.01 par value, 150,000,000 shares authorized, 60,783,790, 60,652,538 and 54,556,936 shares issued, respectively		608		607		546
Additional paid-in capital		100,247		98,861		48,931
Retained earnings		107,302		98,811		75,033

Total stockholders’ equity		208,157		198,279		124,510

Total liabilities and stockholders’ equity	$	370,244	$	324,586	$	236,563


	Three Months Ended
	April 30, 2005		May 1, 2004
			(restated)
Net sales	$	155,636	$	124,460
Cost of sales		82,799		70,298

Gross profit		72,837		54,162
Selling, general and administrative expenses		59,469		45,384

Income from operations		13,368		8,778
Interest, net, and other		758		31

Income before income taxes		14,126		8,809
Income tax provision		5,635		3,489

Net income	$	8,491	$	5,320

Net income per share - Basic	$	0.14	$	0.10

Weighted average shares outstanding - Basic		60,699		54,450
Net income per share - Diluted	$	0.14	$	0.09

Weighted average shares outstanding - Diluted		62,676		56,435

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	May 1, 2004		Adjustments			May 1, 2004
	(as previously reported)					(as restated)
Receivables	$	9,347	$	6,217		$	15,564
Current deferred income tax liabilities		—		115			115
Income taxes payable		3,231		2,064			5,295
Deferred rents		21,659		9,109			30,768
Non-current deferred income tax liabilities		3,844		(3,307	)		537
Retained earnings	$	76,797	$	(1,764	)	$	75,033


Description	Amount		Dates to be paid (1)
Executive employees:
Georgia Shonk-Simmons	$	1,425	September 2005
Dan Griesemer		300	September 2005
Melvin Dick		225	April 2006
Gerard El Chaar		150	April 2006
Dan Moen		225	May 2007
Duane Huesers		150	February 2007

	$	2,475

Twelve non-executive employees	$	1,620	Oct. 2005 - Dec. 2007


Remainder of fiscal 2005	$	22,802
Fiscal 2006		31,936
Fiscal 2007		32,070
Fiscal 2008		31,181
Fiscal 2009		30,161
Fiscal 2010 (first three months)		7,383
Thereafter		114,909

Total	$	270,442


	Three Months Ended
	April 30, 2005		% of Total		May 1, 2004		% of Total		Change
	April 30, 2005		% of Total		May 1, 2004		% of Total		$			%
Retail	$	83,781	53.8	%	$	56,509	45.4	%	$	27,272		48.3	%

Internet		41,060	26.4	%		34,937	28.1	%		6,123		17.5	%
Catalog		30,795	19.8	%		33,014	26.5	%		(2,219	)	(6.7	)%

Direct		71,855	46.2	%		67,951	54.6	%		3,904		5.7	%

Total	$	155,636	100.0	%	$	124,460	100.0	%	$	31,176		25.0	%


	Payments Due in Period
	Total		Remainder of 2005		2006-2007		2008-2009		First three months of 2010		Thereafter
	(In thousands)
Contractual Obligations
Operating leases (a)	$	270,442	$	22,802	$	64,006	$	61,342	$	7,383	$	114,909
Inventory purchase orders		83,772		83,772		—		—		—		—

Total	$	354,214	$	106,574	$	64,006	$	61,342	$	7,383	$	114,909


Exhibit Number		Description of Document
10		Summary of Jet Timeshare Arrangment

31.1		Certification by Dennis C. Pence of periodic report pursuant to Rule 13a-14(a) or Rule 15d-14(a)

31.2		Certification by Melvin Dick of periodic report pursuant to Rule 13a-14(a) or Rule 15d-14(a)

32.1		Certification by Dennis C. Pence and Melvin Dick pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002


	Three Months Ended
	April 30, 2005			%		May 1, 2004			%		Change
	April 30, 2005			%		May 1, 2004			%		$			%
	(restated)
Retail	$	15,746		18.8	%(1)	$	9,031		16.0	%(1)	$	6,715		74.4	%
Direct		16,527		23.0	%(2)		14,571		21.4	%(2)		1,956		13.4	%
Corporate and other		(18,905	)	(12.1	)%(3)		(14,824	)	(11.9	)%(3)		(4,081	)	27.5	%

Consolidated income from operations	$	13,368		8.6	%(3)	$	8,778		7.1	%(3)	$	4,590		52.3	%