TABLE OF CONTENTS

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



FORM 10-K

(X) ANNUAL REPORT PURSUANT TO SECTION 13 OR SECTION 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2005

OR

(  ) TRANSITION REPORT PURSUANT TO SECTION 13 OR SECTION 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934



Commission file number 0-21577



WILD OATS MARKETS, INC.

(Exact name of registrant as specified in its charter)



Delaware
    84-1100630(State or other
    jurisdiction of
    (I.R.S. Employer
    Identification Number)Incorporation
    or organization)






3375 Mitchell Lane

Boulder, Colorado 80301

(Address of principal executive offices, including zip code)



(303) 440-5220

(Registrants telephone number, including area code)



Securities registered pursuant to Section 12(b) of the Act: None



Securities registered pursuant to Section 12(g) of the Act:



Title of Each Class



Common Stock, $0.001 par value



Indicate by check mark if the registrant is a well-known seasoned
issuer, as defined in Rule 405 of the Securities Act:

Yes        (  ) 
   
    No       ( X )



Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the Act:

Yes        (  ) 
 
       No       ( X )



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:

Yes        ( X )        
No         (  )



Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best
of registrants knowledge, in definitive proxy or information statements incorporated
by reference in Part III of this Form 10-K or any amendment to this Form 10-K. (  )



Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer, or a non-accelerated filer. See definition of
"accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange
Act. (Check one):

Large Accelerated
Filer     (  ) 
        Accelerated
Filer     ( X ) 
          Non-Accelerated
Filer     (  )



The aggregate market value of the voting and non-voting common stock of
the registrant held by non-affiliates of the registrant based on the closing price at
which such stock was sold as reported by NASDAQ National Market on July 1, 2005 was
approximately $162,254,139. For purposes of this calculation, executive officers,
directors and 5% or greater stockholders are deemed to be affiliates of the registrant.



As of February 20, 2006, the registrant had outstanding 28,443,272
shares of common stock, par value $0.001 per share.





DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive Proxy Statement for the Registrants
Annual Meeting of Stockholders to be held on May 2, 2006, have been incorporated by
reference into Part III of this report.



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TABLE OF CONTENTS





|PART I.   |  |                                                                                                                  | PAGE
|--------- |  | ---------------------------------------------------------------------------------------------------------------- | ----
|          |  |                                                                                                                  |     
|Item 1.   |  | Business                                                                                                         | 3   
|          |  |                                                                                                                  |     
|Item 1A.  |  | Risk Factors                                                                                                     | 7   
|          |  |                                                                                                                  |     
|Item 1B.  |  | Unresolved Staff Comments                                                                                        | 9   
|          |  |                                                                                                                  |     
|Item 2.   |  | Properties                                                                                                       | 9   
|          |  |                                                                                                                  |     
|Item 3.   |  | Legal Proceedings                                                                                                | 11  
|          |  |                                                                                                                  |     
|Item 4.   |  | Submission of Matters to a
    Vote of Security Holders                                                          | 11  
|          |  |                                                                                                                  |     
|PART II.  |  |                                                                                                                  |     
|          |  |                                                                                                                  |     
|Item 5.   |  | Market for Registrants Common Equity, Related Stockholder Matters and
    Issuer Purchases of Equity Securities | 12  
|          |  |                                                                                                                  |     
|Item 6.   |  | Selected Financial Data                                                                                          | 13  
|          |  |                                                                                                                  |     
|Item 7.   |  | Managements Discussion
    and Analysis of Financial Condition and Results of Operations                        | 14  
|          |  |                                                                                                                  |     
|Item 7A.  |  | Quantitative and
    Qualitative Disclosures About Market Risk                                                   | 27  
|          |  |                                                                                                                  |     
|Item 8.   |  | Financial Statements
    and Supplementary Data                                                                  | 28  
|          |  |                                                                                                                  |     
|Item 9.   |  | Changes in and
    Disagreements with Accountants on Accounting and Financial Disclosure                         | 61  
|          |  |                                                                                                                  |     
|Item 9A.  |  | Controls
    and Procedures                                                                                      | 61  
|          |  |                                                                                                                  |     
|Item 9B.  |  | Other Information                                                                                                | 61  
|          |  |                                                                                                                  |     
|PART III. |  |                                                                                                                  |     
|          |  |                                                                                                                  |     
|Item 10.  |  | Directors and Executive
    Officers of the Registrant                                                           | 62  
|          |  |                                                                                                                  |     
|Item 11.  |  | Executive Compensation                                                                                           | 62  
|          |  |                                                                                                                  |     
|Item 12.  |  | Security Ownership of Certain Beneficial Owners and Management
    and Related Stockholder Matters               | 62  
|          |  |                                                                                                                  |     
|Item 13.  |  | Certain Relationships and Related Transactions                                                                   | 62  
|          |  |                                                                                                                  |     
|Item 14.  |  | Principal Accountant Fees and Services                                                                           | 62  
|          |  |                                                                                                                  |     
|PART IV.  |  |                                                                                                                  |     
|          |  |                                                                                                                  |     
|Item 15.  |  | Exhibits and Financial Statement Schedules                                                                       | 63  
|          |  |                                                                                                                  |     



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PART I.

Item 1.

BUSINESS





Who We Are

Wild Oats Markets, Inc. ("Wild Oats", "we",
"us" and "our") is one of the largest natural foods supermarket chains
in North America. As of February 20, 2006, we operated 111 natural foods stores in 24
states and British Columbia, Canada under several names, including:



- Wild Oats Natural Marketplace (nationwide)
- Henrys Farmers Market (southern California and Phoenix, Arizona)
- Sun Harvest Farms (Texas)
- Capers Community Market (British Columbia, Canada)



We are dedicated to providing a broad selection of natural, organic and
gourmet foods, environmentally friendly household products and natural vitamins,
supplements, herbal and homeopathic remedies and body care products at competitive prices,
in an inviting and educational store environment that emphasizes customer service. Our
broad selection of natural and organic products appeals to health-conscious shoppers while
offering virtually every product category found in a conventional supermarket, including
dry grocery, produce, meat, poultry, seafood, dairy, frozen, prepared foods, bakery,
vitamins and supplements, health and body care, and household items. We believe that
industry data stating the natural products industry currently comprises less than 5% of
the total grocery industry suggests significant potential for us to continue to expand our
customer base.







Natural Products Industry



Retail sales of natural products have grown from $1.9 billion in 1980
to $22.0 billion in 2004, and total sales of natural products (including natural product
retailers, mass market retailers, multi-level marketers and through practitioners,
internet and mail order) reached $45.8 billion in 2004, a 6.9% increase over the prior
year (Natural Foods Merchandiser, June 2005). We believe this growth reflects a
broadening of the natural products consumer base, which is being propelled by several
factors, including healthier eating patterns, increasing concern regarding food purity and
safety, and greater environmental awareness. While natural products generally have higher
costs of production and correspondingly higher retail prices, we believe that more of the
population now attributes added value to natural products and is willing to pay a premium
for such products. Despite the increase in natural foods sales within conventional
supermarkets, we believe that conventional supermarkets still lack the concentration on a
wide variety of natural and organic products and emphasis on service and consumer
education that our stores offer.







Operating Strategy



Our objective is to become the grocery store of choice both for natural
foods shoppers and quality-conscious consumers in each of our markets by emphasizing the
following key elements of our operating strategy:



Destination format. Our stores are one-stop, full-service
supermarkets for customers seeking quality natural, organic and gourmet foods and related
products. Our prototype stores range from 27,000 to 34,000 square feet, and offer a wide
range of natural and organic foods products in virtually every product category found in a
conventional supermarket.



High product standards. We seek to offer a broad range of products
meeting our product standards throughout our merchandise categories, and emphasize unique
products and brands not typically found in conventional supermarkets. We believe our
product standards for natural and organic products free from artificial preservatives,
colors or flavors, synthetic additives and hydrogenated oils, antibiotic and growth
hormone-free meats, cruelty-free bodycare products and sustainable seafood are among the
highest in the industry. We routinely conduct quality assurance checks of our
manufacturers facilities to verify compliance with our standards. Each of our stores
tailors its product mix to meet the preference of its local market, and where cost of
goods and distribution logistics allow, source produce from local growers. We also operate
regional commissary kitchens and bakeries that provide our stores with fresh bakery items
and an unique assortment of prepared foods for the quality- and health-conscious consumer.



Educational and entertaining store environment. Each store strives
to create a fun, friendly and educational environment that makes grocery shopping
enjoyable, encouraging shoppers to spend more time in the store and to purchase new
products. In order to enhance our customers understanding of natural foods and how
to prepare them, we train our store staff to educate customers about the benefits and
quality of our products and prominently feature educational brochures, newsletters, and
in-store demonstrations and product samplings, as well as other in-store consumer
information resources. Computer kiosks offer access to our Web site and informational
databases on health issues.



Extensive community involvement. We seek to engender customer
loyalty by our high degree of commitment to the local communities in which we operate.
Each store makes significant monetary and in-kind contributions to local not-for-profit
organizations through programs such as "5% Days," where a store donates 5% of
its net sales from one day to a local not-for-profit group, a "Charity Work
Benefit" where we pay employees for time spent volunteering for local charities, and
cash register donation programs, which enlist the support of our customers to make
donations. One such cash register program is our "wooden nickel" program where
customers get wooden tokens, worth 5 cents each, for every bag they reuse. The customer
then donates the wooden nickels to local charities. Oftentimes, we include a matching
donation from the Company.



Multiple store formats. We operate in one operating segment, retail
grocery, with two store formats: natural foods supermarkets, which emphasize gourmet,
natural and organic products and a higher level of service; and farmers market stores,
which emphasize fresh produce and natural living products at a competitive price. While
each format has the same core demographic customer profile, differing appeals of each of
the formats allows us to operate successfully in a diverse set of markets, enabling us to
reach a broader customer base, increase our market penetration and have greater
flexibility with real estate selection.



Competitive pricing. We seek to offer products at prices that are
competitive with those of other natural foods stores and conventional markets. Our
"Wild Buy" program offers a large weekly selection of unadvertised, in-store
specials, while our flyer continues to offer aggressive advertised specials on items that
we believe our customers want most. We believe these pricing programs broaden our consumer
appeal and encourage our customers to fulfill more of their shopping needs at our stores.







Products



Overview. We offer our customers a broad selection of unique
products that are natural and organic alternatives to those found in conventional
supermarkets, as well as gourmet and ethnic foods. We generally do not offer well-known
national conventional brands and focus instead on a comprehensive selection of natural and
organic products within each category. Although the core merchandise assortment is similar
at each of our stores, individual stores adapt the product mix to reflect local and
regional preferences. We regularly introduce new natural, organic, gourmet and locally
grown products in our stores to differentiate our merchandise selection from products
carried by conventional supermarkets. We continue to evaluate our product selection based
not just on taste and price, but also in relation to our mission and values, which
emphasize accountability and giving back to our communities as two key values of our
business.



We intend to continue to expand and enhance our prepared foods,
value-added items (such as marinated or stuffed meats and seafood) and in-store cafe
environment. We believe that consumers are increasingly seeking convenient, healthy,
"ready-to-eat" meals and that by increasing our commitment to this category we
can provide an added service to our customers, broaden our customer base and further
differentiate our stores from conventional supermarkets and traditional natural foods
stores.



Quality standards. We strive to offer products that taste great and
meet the following standards:



- foods free of preservatives, artificial colors and flavors, synthetic additives and
      hydrogenated oils;
- meats that are humanely raised and contain no antibiotics or growth hormones;
- locally and organically grown produce, unique regional products; and
- natural personal care and household items that are not tested on animals.



Private label. The natural foods industry is highly fragmented and
characterized by many small independent vendors. As a result, we believe that our
customers do not have strong loyalty to particular brands of natural foods products. In
contrast to conventional supermarkets whose private label products are intended to be
low-cost alternatives to name-brand products, we developed our "Wild Oats(R)
Organic", "Wild Oats(R) Natural", "Wild Oats(R)
Living" and "Henry's(R)" private label programs around higher
quality products in order to build brand loyalty to specific products based on our
relationship with our customers and our reputation as a natural and organic foods
authority.



Through this program, we have successfully introduced over a thousand
high-quality natural and organic private label products, such as cereals, breads, salad
dressings, chips, salsa, pretzels, cookies, juices, Italian sodas, French and Belgium
chocolates, Italian pasta and pasta sauces, oils, tuna, and frozen products, such as
pizza, veggie burgers and waffles. In fiscal 2005, we introduced almost 300 new and
reformulated private label products, including barbeque sauces, specialty salsas, smoked
salmon, crackers, olives, organic marinades, refrigerated lemonade, ready to eat burritos,
and decadent frozen desserts. We also developed lines of imported products including
spices, chocolates, cookies, cereals, hard candy, and frozen organic beef burgers. We
continue to expand our private label product offerings and we plan to introduce
approximately 300 additional private label products in 2006 including vinegars, frozen
ethnic entrees, Italian spreads, cream cheese and fruit bars.





Company Culture and Store Operations



Company culture. Our culture is embodied in our mission statement:



"Wild Oats was founded on the vision of enhancing the lives of our
customers and

our people with products and education that support health and
well-being.



Wild Oats is committed to providing the highest quality, fresh and
natural food,

and health and wellness products in vibrant stores with people who are

friendly, eager and ready to educate.



At Wild Oats, we sell food that remembers its roots." (R)



Our values of service, integrity, quality, giving back to our
communities, increasing value for our stakeholders (which include our stockholders, our
employees and our communities) and accountability were adopted to support our mission
statement.



Management and employees. Our stores are organized into seven
geographic regions, each of which has a regional director who is responsible for the store
operations within his or her region and who reports to our senior management. The regional
directors frequently visit their stores and are ultimately responsible for providing
feedback on performance and ensuring adherence to our operating standards. We maintain a
regional staff of department specialists for each store department who formulate and
supervise execution of store-level merchandising,





Purchasing and Distribution



We have centralized merchandising departments for each major product
category. These departments identify and approve products and negotiate volume purchase
discount arrangements with distributors and vendors. The wholesale segment of the natural
foods industry provides a large and growing array of product choices across the full range
of grocery product categories.



We entered into a primary distribution agreement with United Natural
Foods, Inc ("UNFI") in January 2004 that commenced effective April 1, 2004, and
has a five-year term. Either party may terminate the agreement for defaults by the other
party of certain provisions of the agreement. Under the terms of the UNFI agreement, we
are obligated to purchase a majority of certain specified categories of goods for sale in
our U.S. stores from UNFI, except in certain defined circumstances when such purchasing
obligation is excused. We believe UNFI has sufficient warehouse capacity and distribution
technology to service our existing stores distribution needs for natural foods and
products as well as the needs of new stores in the future. As part of our agreement with
UNFI, we have received, and will continue to receive, a transition fee payable in certain
years and subject to the Company meeting certain minimum purchase requirements, to offset
a portion of the transition costs incurred during the transition of our primary
distribution relationship to UNFI.



In February 2004, we brought on-line a 241,000 square foot distribution
center ("DC") in Riverside, California to service our stores located in the
western United States. We believe this facility improves the quality and freshness of the
perishable products we sell in our stores by providing the appropriate ambient temperature
from arrival at our docks to loading on outgoing trucks. We also distribute certain
grocery items from the DC where cost effective. As we enter new markets, we will evaluate
the need for additional warehouse and distribution facilities. The DC currently delivers
produce, private label groceries, and selected other items to the majority of our stores
west of the Mississippi River.



We operate commissary kitchens in Denver, Colorado; Portland, Oregon,
and Vancouver, British Columbia, Canada. These facilities produce deli food, bakery
products and certain fresh private label items for sale in our stores. Each kitchen can
make deliveries to stores within a certain radius of the facility. We evaluate the need
for new commissary kitchens as we expand into new markets. For stores outside the delivery
area of our commissary kitchens, the individual stores food service departments
produce their own goods from standard recipes.





Marketing



As a leading retailer of specialty foods with an emphasis on health and wellness, Wild
Oats continues to build brand awareness and drive consumer traffic through various
marketing vehicles. Mass media advertising, together with grassroots marketing, special
events, online and direct marketing as well as alliance marketing with organizations and
products in our space are used to educate new and existing customers about what the brand
has to offer in terms of experience, values and products. In 2005, we launched a new
website, expanded print advertising in newspapers and increased investments in grass roots
marketing and special events.



Our farmers market format stores, Henry's and Sun Harvest, are specialty
retailers targeted towards customers learning about and entering the health and wellness
arena. In 2005, price was emphasized together with experience and product benefits through
weekly flyers and some mass media advertising.







Management Information Systems



Our management information systems have been designed to provide
detailed corporate, regional and store-level merchandising, financial, marketing and
operating data to regional directors and store directors and to our management at
headquarters on a timely basis. We employ "state of the art" applications and
infrastructure at our DC, including wireless networks and voice activated stock picking.
We determined that our ability to continue controlling costs would be enhanced by
continuous capital improvements in technology and software. In fiscal 2005, we completed
several major initiatives, including:



- a systematic refresh of point-of-sale systems in older stores to reduce maintenance
    costs, improve cashier productivity, and customer service;
- relocation of the corporate data center to a third-party data center to avoid future
    building costs and ensure continous operations of the Companys critical information
    applications;
- complete rollout of the back-door receiving program;
- implementation of store-level hand held ordering for products shipped from our DC,
- began replacement of home office personal computers with "thin client"
    technology to lower operating and support costs for information technology infrastructure,
    and
- deployment of Electronic Data Interchange ("EDI") invoicing at the DC to
    improve operating efficiency.



The 2006 management information plans will have a continued focus on
lowering operating costs and improving margins at the stores and the home office. Key 2006
initiatives include:



- completion of the EDI invoicing and receiving initiative;
- development and testing of store-level perpetual inventory systems;
- development and testing of an automated store ordering system;
- upgrading our store data networks to add bandwidth and lower costs, and
- continued implementation of the "thin client" technology in our stores.



Competition



Our competitors currently include other independent and multi-unit
natural foods supermarkets, smaller traditional natural foods stores, conventional
supermarkets and specialty grocery stores. While certain conventional supermarkets,
smaller traditional natural foods stores and small specialty stores do not offer as
complete a range of products as we do, they compete with us in one or more product
categories. In recent years, several of the larger conventional grocers have added or
expanded specialty sections in their stores devoted specifically to natural and organic
foods and body care products, and have expanded their offerings of vitamins and
supplements. We believe that these specialty sections do not offer the customer service,
product selection and depth of product knowledge that we offer in our stores.



A number of other natural foods supermarkets offer a range of natural
foods products similar to those offered in our stores. We believe that the principal
competitive factors in the natural foods industry include customer service, quality and
variety of selection, store location and convenience, price and store atmosphere. We
directly compete with Whole Foods Markets, Inc. in 18 states and in British Columbia. We
believe our natural foods supermarket concept is differentiated from that of Whole Foods
through our higher product standards and more competitive pricing. Our stores are smaller
in size and less expensive to build, which gives us access to markets that may not have
the diversity believed necessary to support large stores.



Employees



As of February 20, 2006, we employed approximately 4,789 full-time
individuals and 3,807 part-time individuals. Approximately 8,233 of our employees are
engaged at the store-level and 363 are devoted to regional and corporate activities. We
believe that we maintain a good relationship with our employees. However, based on past
union organizing activities, we anticipate that in the future, one or more of our stores
may be the subject of attempted organizational campaigns by labor unions representing
grocery industry workers.



All of our managerial employees participate in an incentive program
that provides periodic payments based on achieving certain performance targets and
operations standards. In addition, we also seek to attract and retain enthusiastic and
dedicated staff members through comprehensive benefits packages, including discounts on
purchases, health and disability insurance, an employee stock purchase plan and an
employer-matching 401(k) plan.





Available Information



Our corporate Internet Web site is http://www.wildoats.com,
("Internet Web site"), where we make available, free of charge, our annual
reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and
amendments to those reports, as soon as reasonably practicable after we electronically
file or furnish such materials to the Securities Exchange Commission ("SEC").
These reports are also maintained by the SEC on their Web site at http://www.sec.gov.
Additionally, the public may read and copy any materials we file with the SEC at the
SECs Public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549.
Information on the Public Reference Room may be obtained by calling the SEC at
1-800-SEC-0330. The Charter of the Board of Directors Nominating Committee and our
Code of Ethics are also posted on our Internet Web site. We will post on our Internet Web
site any waivers granted to the principal executive officer, principal financial officer,
principal accounting officer or controller or persons performing similar functions, that
relate to any element of the Code of Ethics enumerated in Item 406(b) of Regulation S-K.







Item 1A.

RISK FACTORS

You are cautioned that there are risks and uncertainties that could
cause our actual results to be materially different from those suggested by
forward-looking statements that we make from time to time, both verbally and in writing.
You should carefully consider the risk factors discussed below and recognize that other
risks and uncertainties not presently known to us or that we currently deem immaterial
also may impair our business operations. The cautionary statements below discuss important
factors that could cause our business, financial condition, operating results and cash
flows to be materially adversely affected. The Company does not undertake any obligation
to update forward-looking statements.



Our results of operations have been, and will continue to be affected
by, among other things:



- the successful opening and operating of new stores, and remodels/remerchandising of
    existing stores,
- fluctuations in quarterly results of operations and stock price,
- economic conditions,
- competition,
- labor issues,
- loss of key management,
- government regulations, and
- changes in and performance by suppliers, distributors and manufacturers.



The successful opening and operating of new stores, and
remodels/remerchandising of existing stores. We plan to continue growing primarily
through the opening of new stores. Achieving this goal is contingent on various
conditions, and there is no assurance that our growth strategy will result in greater
sales and profitability. New stores build their sales volumes and refine their merchandise
selection gradually and, as a result, generally have lower gross margins and higher
operating expenses as a percentage of sales than more mature stores. New stores opened
experience operating losses for the first 12 to 18 months of operation, or possibly
longer, in accordance with historical trends; although certain stores are projected to
incur operating losses for six to 12 months.



Our plan is to continue to complete significant remodels and
remerchandising of existing stores. Remodels and remerchandising typically cause
short-term disruption in sales volume and related increases in certain expenses as a
percentage of sales, such as payroll. We cannot predict whether sales disruptions and the
related impact on earnings may be greater than projected in future remodeled or
remerchandised stores. Changes in merchandising and marketing strategies may also impact
an individual store and overall Company results.



The construction or acquisition of new stores,
remodeling/remerchandising of existing stores, as well as completion of capital purchases
of new technology systems required for efficient operation of our business require
substantial capital expenditures. In the past, cash generated from operations, debt and
equity financing proceeds have funded our capital expenditures. These sources of capital
may not be available to us in the future. See "Managements Discussion and
Analysis of Financial Condition and Results of Operations  Liquidity and Capital
Resources."



Fluctuations in quarterly results of operations and stock price.
Our quarterly results of operations may differ materially from quarter to quarter for a
variety of reasons, including the timing and success of new store openings, overall store
performance, changes in the economy, seasonality, uninsured losses, including loss of
sales caused by natural disasters, the timing of holidays, significant increases or
decreases in prices for, or availability of, goods and services, competitive pressure,
labor disturbances, shrink and spoilage, fluctuations in profit margins for discontinued
items, as well as other factors mentioned in this section.



Our stock price has been, and continues to be, fairly volatile. Our
stock price is affected by our quarterly and year-end results, whether those results are
consistent with the expectations of financial analysts and investors, financial results of
our major competitors and suppliers, general market and economic conditions and publicity
about our competitors, our vendors, our industry or us. Volatility in our stock price may
affect our future ability to renegotiate our existing credit agreement or enter into a new
borrowing relationship, or affect our ability to obtain new store sites on favorable
economic terms.



Economic conditions. Downturns in general economic conditions in
communities, states, regions or the nation as a whole can affect our results of
operations. While purchases of food generally do not decrease in a slower economy,
consumers may choose less expensive alternative sources for food purchases. Increases in
fuel commodity prices may change consumer shopping habits and also increase the costs that
we pay for construction and remodels, products, supplies, utilities and distribution,
decreasing our net profits. In addition, downturns in the economy may make the disposition
of excess properties, for which we continue to pay rent and other carrying costs,
substantially more difficult as the markets become saturated with vacant space and market
rents decrease below our contractual rent obligations.



Competition. We compete with multi-unit and independent natural
foods, specialty and conventional grocers. As competition in certain markets intensifies,
our results of operations may be negatively impacted through loss of sales, reduction in
margin from competitive price modifications, competition for qualified employees and
disruptions in our employee base.



Loss of key management. Our future direction and success is
dependent in large part on the continued services of certain key executive officers. Loss
of any key officer may have an adverse affect on current operations and future growth
programs. Our continued success also is dependent on our ability to attract and retain
qualified executives to meet our future growth needs.



Government regulations. We are subject to a myriad of laws,
regulations and ordinances at the local, state and national level governing the operation
of our stores and support facilities, and our ability to comply with these laws could
negatively affect our store sales and operations, or could delay the opening of a new
store. Such laws include the following: state and federal wage and hour laws, which may
result in increased minimum wage levels, required payment of overtime to employees
classified as salaried employees and increased benefit costs; National Organic Program
regulations promulgated by the United States Department of Agriculture ("USDA"),
which may require different handling of certain products or the exclusion of certain
products from the definition of "organic", each of which could limit product
supply, increase costs or reduce revenues; state and federal health and sanitation
regulations, which may require substantial equipment or tenant improvement modifications
at added expense or increase labor costs and costs of food handling or impact the ability
to supply from commissaries across state lines; local and state laws restricting the
availability of liquor licenses and liquor sales, which may reduce some stores
sales; and land use and zoning regulations, which may impact hours of operation, hours
when shipments may be received and the ability to provide certain services or products,
which may reduce revenues or increase direct store operating costs. Implementation of and
changes to such laws can have a material impact on our sales volume, costs of goods and
direct store expenses. In addition, from time to time we are audited by various
governmental agencies for compliance with existing laws, and we could be subject to fines
or operational modifications as a result of noncompliance.



Changes in and performance by suppliers, distributors and manufacturers.
In January of 2004, we executed a five-year primary distribution agreement with UNFI. We
purchase approximately one third of our total products from UNFI, and the remainder from
small vendors and secondary and tertiary distributors. In addition, in 2004 we opened the
DC in Riverside, California. At the end of fiscal 2005, the majority of our stores west of
the Mississippi River were receiving substantially all of their produce, private label
groceries, and selected other items from our DC. Significant disruptions in operations of
our distributors or at our DC could materially impact our operations by disrupting
store-level merchandise selection, resulting in reduced sales. Also, from time to time, we
may experience product shortages due to the impact of adverse weather conditions, such as
drought or flood, or disruptions in the supply chain from competition for products from
other retailers, product shortages and transportation disruptions. These shortages may
result in decreased product selection and increased out-of-stock conditions, as well as
higher product costs, which result in decreased sales or margins.





Item 1B.

UNRESOLVED STAFF COMMENTS

None.



Item 2.

PROPERTIES



We currently lease approximately 54,000 square feet for our corporate
headquarters in Boulder, Colorado. The primary lease expiration is August 31, 2006, with
one three-year renewal option. In July 2005, we signed a ten-year lease for approximately
82,500 square feet for our new corporate headquarters location in Boulder, Colorado. We
anticipate occupancy in the new building in the fourth quarter of 2006.



We lease all of our stores, including operating, closed and under
construction locations. Our leases typically provide for a 10 to 15-year base term and
generally have several renewal periods. The rental payments are generally fixed base
rates, although many of our older leases call for payment of minimum base rent with
additional rent calculated on a percentage of sales over a certain break point. We strive
to negotiate our leases on a turnkey basis, whenever possible, in order to reduce our
capital expenditures, with modest increases in long-term rent. However, as we move into
denser markets with less available land for development, we anticipate that many of our
leases will include a delivery of a building shell plus some kind of tenant improvement
allowance.



Store Locations

The following map and store list show, as of February 20, 2006, the
number of natural foods grocery stores that we operate in each state and Canadian province
and the cities in which our stores are located.







|Arizona:                  | Tucson (2), metro Phoenix (6), Scottsdale                                                                                                                                                                        
|------------------------- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Arkansas:                 | Little Rock                                                                                                                                                                                                      
|California:               | Chino Hills, Corona, Costa Mesa, Escondido,
    Fullerton, Hemet, Laguna Beach, Laguna Niguel, Long Beach, Mission Viejo, Pasadena, San
    Diego (11), Santa Monica (2), Yorba Linda, Rancho Cucamonga, Temecula
|Colorado:                 | Boulder (3), Colorado Springs, metro Denver
    (9), Fort Collins                                                                                                                                                
|Connecticut:              | West Hartford, Westport                                                                                                                                                                                          
|Florida:                  | Melbourne, Miami, Miami Beach                                                                                                                                                                                    
|Illinois:                 | Evanston, Hinsdale                                                                                                                                                                                               
|Indiana:                  | Indianapolis (2)                                                                                                                                                                                                 
|Kansas:                   | Kansas City (2)                                                                                                                                                                                                  
|Kentucky:                 | Lexington, Louisville                                                                                                                                                                                            
|Maine:                    | Portland                                                                                                                                                                                                         
|Massachusetts:            | Boston (3)                                                                                                                                                                                                       
|Missouri:                 | Kansas City, St. Louis                                                                                                                                                                                           
|Nebraska:                 | Omaha (2)                                                                                                                                                                                                        
|Nevada:                   | Las Vegas (2), Reno                                                                                                                                                                                              
|New Jersey:               | Princeton                                                                                                                                                                                                        
|New Mexico:               | Albuquerque (3), Santa Fe                                                                                                                                                                                        
|Ohio:                     | Cincinnati (2), Cleveland, Columbus                                                                                                                                                                              
|Oklahoma:                 | Tulsa                                                                                                                                                                                                            
|Oregon:                   | Bend, Portland (5)                                                                                                                                                                                               
|Tennessee:                | Memphis, Nashville (2)                                                                                                                                                                                           
|Texas:                    | Austin (2), Corpus Christi, El Paso, McAllen,
    San Antonio (3)                                                                                                                                                
|Utah:                     | Park City, Salt Lake City (4)                                                                                                                                                                                    
|Washington:               | Vancouver                                                                                                                                                                                                        
|British Columbia, Canada: | Vancouver (3)                                                                                                                                                                                                    









Support Facilities:

We have two office facilities separate from stores, both in Colorado,
from which regional and home office support are provided. These two offices will be
consolidated into our new home office, which we currently anticipate occupying in the
fourth quarter of 2006. We have three commissary kitchens: one free-standing kitchen in
Portland, Oregon, and two commissary facilities, each located in an operating store
(Colorado and Canada). We also have one DC in California.



Item 3.

LEGAL PROCEEDINGS



Wild Oats Markets Canada, Inc., as successor to Alfalfa's Canada, Inc.,
a Canadian subsidiary of the Company, was a defendant in Helen Fakhri and Ady Aylon, as
Representative Plaintiffs v. Alfalfa's Canada, Inc., a class action suit for monetary
damages brought in the Supreme Court of British Columbia, Canada by the representative
plaintiffs on behalf of two groups of claimants - those who claim to have contracted
Hepatitis A allegedly through the consumption of food purchased at a Capers Community
Market ("Capers") in the spring of 2002, and those who were inoculated against
Hepatitis A in March and April, 2002, after handling and/or consuming food products from
Capers that were or might have been contaminated with Hepatitis A. In July 2005, the Court
approved a settlement agreement pursuant to which plaintiffs submitted proof of claim
received, at their election, either cash or a gift card, redeemable at our Canadian
stores, in amounts determined by classification of the claimant within one of three
separate categories. We have exhausted our deductible, and our insurers have provided
coverage for excess defense and administrative costs and settlement liability.





Tim Auchterlonie, individually and on behalf of all others similarly
situated and the general public, and Roes 1 to 1000 vs. Wild Oats Markets, Inc. and Does 1
through 100, is a suit brought in August 2004 in the Superior Court, County of Los
Angeles, for payment of overtime and damages relating to alleged violations of the
California Business and Professions Code by a former store director claiming that he
should have been classified as an employee paid on an hourly basis, together with other
related claims. In mid-2005, five additional named plaintiffs were added to the suit, and
the trials of the original plaintiff and the new plaintiffs were bifurcated. We believe
that all of the named plaintiffs were correctly classified as exempt employees based upon
their job duties. We have settled with the original plaintiff, and the trial date has been
vacated. A trial for the remaining plaintiffs has been set for third quarter 2006.



In June 2002 an administrative law judge ("ALJ") found
against us in Wild Oats Markets, Inc. and Local 371, United Food & Commercial
Workers, in certain unfair labor practice charges brought in connection with the
opening of our store in Westport, Connecticut. We appealed the ALJs decision to the
National Labor Relations Board ("NLRB"). In May 2005, the NLRB denied the appeal
and issued a Decision and Order, setting forth certain equitable, injunctive and monetary
remedies to be undertaken by us, including payment of backpay less interim earnings, and
offers of employment to certain former employees of a store that we sold in 2000 (the
"Sold Store"). We agreed to reinstate one former employee and paid an immaterial
amount to settle the claims of ten named individuals in the ruling. The NLRB has indicated
that there may be liability to other employees from the Sold Store for certain periods
that such individuals were unemployed. We are currently evaluating whether to appeal the
remainder of the Decision.



We also are named as defendant in various actions and proceedings
arising in the normal course of business. In all of these cases, we are denying the
allegations and are vigorously defending against them and, in some cases, have filed
counterclaims. Although the eventual outcome of the various lawsuits cannot be predicted,
it is managements opinion that these lawsuits will not result in liabilities that
would materially affect our consolidated results of operations, financial position, or
cash flows.





Item 4.



SUBMISSION
OF MATTERS TO A VOTE OF SECURITY HOLDERS



None.





PART II.



Item 5.



MARKET FOR
REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS

AND ISSUER PURCHASES OF EQUITY SECURITIES



Our common stock is traded on the NASDAQ National Market under the
symbol "OATS".



The following are the quarterly high and low close prices for each
quarter of the past two years:



| |                     |  | HIGH   |  | LOW    | 
| | ------------------- |  | ------ |  | ------ | 
| |                     |  |        |  |        | 
| |                     |  |        |  |        | 
| | First Quarter 2004  |  | $15.35 |  | $11.89 | 
| | Second Quarter 2004 |  | 15.37  |  | 11.83  | 
| | Third Quarter 2004  |  | 14.07  |  | 7.47   | 
| | Fourth Quarter 2004 |  | 8.87   |  | 5.67   | 
| |                     |  |        |  |        | 
| | First Quarter 2005  |  | $10.80 |  | $6.11  | 
| | Second Quarter 2005 |  | 12.34  |  | 9.81   | 
| | Third Quarter 2005  |  | 13.88  |  | 11.57  | 
| | Fourth Quarter 2005 |  | 12.92  |  | 10.91  | 



As of February 20, 2006, Wild Oats common stock was held by 543
stockholders of record. No cash dividends have been declared previously on our common
stock, and we do not anticipate declaring a cash dividend in the near future. Our existing
credit facility contains restrictions on our ability to pay cash dividends.





Cautionary Statement Regarding Forward-Looking Statements



This Report on Form 10-K contains "forward-looking
statements," within the meaning of the Private Securities Litigation Reform Act of
1995, which involve known and unknown risks. Such forward-looking statements include
statements as to the number of stores we plan to open or relocate in future periods and
the anticipated performance of such stores; the impact of competition; the sufficiency of
funds to satisfy our cash requirements; the impact of changes resulting from our
merchandising and marketing programs; our ability to benefit from past supply chain
modifications; expected pre-opening expenses and capital expenditures; and other
statements containing words such as "believes," "anticipates,"
"estimates," "expects," "may," "intends" and words
of similar import or statements of management's opinion. These forward-looking statements
and assumptions involve known and unknown risks, uncertainties and other factors that may
cause our actual results, market performance or achievements to differ materially from any
future results, performance or achievements expressed or implied by such forward-looking
statements. Important factors that could cause differences in results of operations
include, but are not limited to, the timing and execution of new store openings,
relocations, remodels and closures; new competitive impacts; changes in product supply or
suppliers and supplier performance levels; changes in management information needs;
changes in customer needs and expectations; changes in government regulations applicable
to our business; changes in economic or business conditions in general or affecting the
natural foods industry in particular; and competition for and the availability of sites
for new stores. We undertake no obligation to update any forward-looking statements in
order to reflect events or circumstances that may arise after the date of this Report.





Item 6.

SELECTED FINANCIAL DATA

(in thousands, except per-share amounts and number of stores)

The following selected financial data are derived from the consolidated
financial statements of Wild Oats Markets, Inc. (the "Company"). The data set
forth below should be read in conjunction with "Managements Discussion and
Analysis of Financial Condition and Results of Operations", the Companys
consolidated financial statements and related notes thereto and other financial
information included elsewhere in this report.



|FISCAL YEAR                                                                                                                                                                          |  | 2005          |  | 2004          |  | 2003          |  | 2002          |  | 2001         
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ------------- |  | ------------- |  | ------------- |  | ------------- |  | -------------
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|STATEMENT OF OPERATIONS
    DATA:                                                                                                                                                    |  |               |  |               |  |               |  |               |  |              
|Sales                                                                                                                                                                                |  | $1,123,957    |  | $1,048,164    |  | $
    969,204 |  | $
    919,130 |  | $
    893,179
|Cost of goods sold and occupancy costs                                                                                                                                               |  | 796,396       |  | 751,314       |  | 683,480       |  | 643,769       |  | 635,615      
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Gross profit                                                                                                                                                                         |  | 327,561       |  | 296,850       |  | 285,724       |  | 275,361       |  | 257,564      
|Direct store expenses                                                                                                                                                                |  | 242,822       |  | 235,425       |  | 208,908       |  | 198,379       |  | 207,898      
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Store contribution                                                                                                                                                                   |  | 84,739        |  | 61,425        |  | 76,816        |  | 76,982        |  | 49,666       
|Selling, general and administrative expenses                                                                                                                                         |  | 66,559        |  | 62,454        |  | 64,659        |  | 55,186        |  | 53,131       
|Loss on disposal of assets, net                                                                                                                                                      |  | 187           |  | 187           |  | 2,087         |  | 21            |  | 477          
|Pre-opening expenses                                                                                                                                                                 |  | 3,419         |  | 5,265         |  | 3,490         |  | 2,737         |  | 2,444        
|Restructuring and asset impairment charges (income), net                                                                                                                             |  | 3,967         |  | 2,461         |  | (1,259)       |  | (775)         |  | 53,058       
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Income (loss) from operations                                                                                                                                                        |  | 10,607        |  | (8,942)       |  | 7,839         |  | 19,813        |  | (59,444)     
|Loss on investment                                                                                                                                                                   |  | -             |  | -             |  | -             |  | -             |  | 228          
|Loss on early extinguishment of debt                                                                                                                                                 |  | 559           |  | -             |  | 186           |  | -             |  | -            
|Interest expense, net                                                                                                                                                                |  | 6,294         |  | 5,239         |  | 4,966         |  | 11,077        |  | 12,152       
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Income (loss) before income taxes                                                                                                                                                    |  | 3,754         |  | (14,181)      |  | 2,687         |  | 8,736         |  | (71,824)     
|Income tax expense (benefit)                                                                                                                                                         |  | 569           |  | 25,838        |  | 1,094         |  | 3,666         |  | (26,229)     
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Net income (loss)                                                                                                                                                                    |  | $ 3,185       |  | $ (40,019)    |  | $ 1,593       |  | $ 5,070       |  | $ (45,595)   
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Basic net income (loss) per common share                                                                                                                                             |  | $ 0.11        |  | $ (1.37)      |  | $
    0.05    |  | $ 0.19        |  | $ (1.87)     
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Weighted-average number of common shares outstanding, basic                                                                                                                          |  | 28,812        |  | 29,219        |  | 29,851        |  | 26,481        |  | 24,424       
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Diluted net income (loss) per common share                                                                                                                                           |  | $ 0.11        |  | $ (1.37)      |  | $ 0.05        |  | $ 0.19        |  | $ (1.87)     
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Weighted-average number of common shares outstanding, assuming dilution                                                                                                              |  | 29,249        |  | 29,219        |  | 30,258        |  | 27,082        |  | 24,424       
|                                                                                                                                                                                     |  |               |  |               |  |               |  |               |  |              
|Number of stores at end of period                                                                                                                                                    |  | 113           |  | 108           |  | 103           |  | 99            |  | 107          
|BALANCE SHEET DATA:                                                                                                                                                                  |  |               |  |               |  |               |  |               |  |              
|Working capital deficit                                                                                                                                                              |  | $ (10,601)    |  | $ (24,936)    |  | $ (35,558)    |  | $ (25,541)    |  | $ (25,481)   
|Total assets                                                                                                                                                                         |  | $
    418,870 |  | $
    405,560 |  | $
    373,428 |  | $
    361,454 |  | $
    393,206
|Long-term debt (including capitalized leases)                                                                                                                                        |  | $
    148,181 |  | $
    148,675 |  | $ 64,042      |  | $ 77,217      |  | $
    146,672
|Stockholders equity                                                                                                                                                                 |  | $
    109,542 |  | $
    101,101 |  | $
    162,373 |  | $
    156,187 |  | $ 98,139     
|NON GAAP FINANCIAL DATA (1)
    :                                                                                                                                                    |  |               |  |               |  |               |  |               |  |              
|EBITDA, as adjusted                                                                                                                                                                  |  | $ 41,049      |  | $ 21,623      |  | $ 36,518      |  | $ 43,712      |  | $ 24,077     
|Debt to EBITDA, as adjusted                                                                                                                                                          |  | 3.6           |  | 6.9           |  | 1.8           |  | 1.8           |  | 6.6          
|(1) For an
    explanation of EBITDA, as adjusted, see "Management's Discussion and Analysis of
    Financial Condition and Results of Operations - Non GAAP Financial Information."



Item 7.



MANAGEMENT'S DISCUSSION
AND ANALYSISOF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS



This report on Form 10-K contains certain forward-looking statements
regarding our future results of operations and performance. Important factors that could
cause differences in results of operations include, but are not limited to: the timing,
execution and success of new store openings, relocations and remodels; the timing of and
liability resulting from closures; amount of time before new stores become profitable; the
timing and impact of promotional and advertising campaigns; the impact of competition;
changes in merchandising strategies, product supply or suppliers; changes in management
information needs; changes in customer needs and expectations; governmental and regulatory
actions; general industry or business trends or events; changes in economic or business
conditions in general or affecting the natural foods industry in particular; and
competition for and the availability of sites for new stores and potential acquisition
candidates. See Item IA. "Risk Factors", and "Management's
Discussion and Analysis of Financial Condition and Results of Operations - Cautionary
Statement Regarding Forward-Looking Statements."





Executive Summary



This Executive Summary section of Managements Discussion and
Analysis of Financial Condition and Results of Operationsprovides a broad summary of
the more specific and detailed information disclosed in other sections of this report. The
context that it provides should be viewed as a supplement to, and read in conjunction with
the details contained elsewhere in this report. Wild Oats Markets, Inc. is one of the
largest natural food supermarket chains in North America, with 111 stores in 24 states and
British Columbia, Canada, as of February 20, 2006.



Our revenues are primarily derived from the retail sale of grocery
products at our stores. We operate in the retail grocery industry with two store formats:
the natural foods supermarket, under the Wild Oats Natural Marketplace name nationwide and
Capers Community Market name in Canada; and the farmers market format, under the
Henrys Farmers Market name in southern California and Phoenix, Arizona, and the Sun
Harvest name in Texas. Both formats emphasize natural and organic products with a wide
selection of products in a full-service environment. The formats share a core demographic
customer profile. We manage support services provided to the stores centrally from our
Boulder, Colorado headquarters. All of our stores, regardless of format, purchase from the
same primary distributor based on centralized negotiations, merchandising and marketing
strategies. Our Riverside, California DC, opened in February 2004, primarily supplies
produce, private label groceries, and selected other items for the majority of our stores
west of the Mississippi River. We continue to identify additional procurement
opportunities to maximize efficiencies of the DC.



In 2005, we opened eight new stores in existing markets and completed
four major remodels. We grew gross margins to 29.1% by introducing new programs,
addressing underperforming stores and reducing product costs. We reduced direct store
expenses by 90 basis points through labor scheduling, operating initiatives and the
leveraging of fixed expenses. We continued to build our brand through private label growth
and nontraditional alliances with Peapod, a grocery delivery service in metropolitan
Chicago, Illinois, and Stop and Shop supermarkets in the Northeastern United States.



As of February 20, 2006, we had 111 stores located in 24 states and
Canada, as compared to 108 stores in 24 states and Canada as of the end of fiscal 2004. A
summary of store openings, acquisitions, closures and sales is as follows:





| |                                        |  | TOTAL STORE
    COUNT
| | -------------------------------------- |  | ---------------------
| |                                        |  |                      
| |                                        |  |                      
| |                                        |  |                      
| |                                        |  |                      
| |                                        |  |                      
| | Store count at beginning of
    period |  |                      
| | Stores opened                          |  |                      
| | Stores closed                          |  |                      
| | Stores sold                            |  |                      
| |                                        |  |                      
| | Store count at end of
    period       |  |                      
| |                                        |  |                      
| |                                        |  |                      

> *Includes the closure of one store in Phoenix, Arizona that was
>     converted to a new format and reopened in 2004.

As has been our practice in the past, we will continue to evaluate the
profitability, strategic positioning, impact of potential competition, and sales growth
potential of all of our stores on an ongoing basis. We may, from time to time, make
decisions regarding closures, disposals, relocations or remodels in accordance with such
evaluations. In fiscal 2005 and through the date of this report, we have closed five
stores; two pursuant to relocations to larger facilities, two that were smaller, older,
under-performing stores, and one when we exited the market area. Of the five stores, two
leases have terminated.





Outlook



We expect to continue to grow top line sales through new stores, of
which we intend to open approximately ten and continued comparable store sales growth of
approximately four to five percent in 2006. We will continue to add new products to our
shelves to provide more unique, specialty and gourmet items for our customers. We plan to
continue to grow our private label line of products and will add an additional 300 new
items under the Wild Oats and Henrys product lines. We continue to focus on
strengthening our perishable products categories by adding more local and seasonal items
to our mix in the produce and meat and seafood departments. We introduced a number of new
innovations to our prepared foods department in 2005 and will continue this development
throughout 2006.



We plan on leveraging the momentum we gained through 2005 in the
merchandising or procurement of our products to get our gross margin to approximately 30
percent for the fiscal 2006 year. With increasing sales, we intend to further leverage our
direct store expenses, particularly payroll, to keep costs controlled.



EBITDA, as adjusted, in 2006 should fall in the $49.0 million to $51.0
million range, and will exclude non-cash compensation charges as a result of SFAS 123R,
which requires the expensing of stock option value given to the employee. Earnings per
share should be in the range of $0.34 to $0.40 for the full year. Both metrics include the
impacts of the store closure estimates announced shortly after year end 2005.



During 2006, we intend to continue our real estate expansion strategy
by opening stores in high demand areas where we do not already have a presence, as well as
in locations that will allow us to relocate smaller, older stores. For our Wild Oats
Natural Marketplace stores, we also intend to expand into new markets with a focus on
major metropolitan areas with higher density that index well for natural and organic foods
shoppers. We currently have 16 leases or letters of intent signed for sites we plan to
open this year and next, with an estimated 10 stores opening in 2006. We will also
complete up to six major remodels in 2006, investing more than $1.0 million per store to
bring older stores up to date and expanding the size of our existing stores. We will
continue to evaluate acquisition opportunities in both existing and new markets.





Results of Operations



Our net income for fiscal 2005 was $3.2 million, or $0.11 per diluted
share, compared with a net loss of $40.0 million, or $(1.37) per diluted share, in fiscal
2004. The following table sets forth, for the periods indicated, certain selected income
statement data expressed as a percentage of sales and in dollars (percentages may not
add due to rounding):



| | FISCAL YEAR                                                  |  | 2005       |  | 2004   |  | 2003       | 
| | ------------------------------------------------------------ |  | ---------- |  | ------ |  | ---------- | 
| |                                                              |  |            |  |        |  |            | 
| | Sales                                                        |  | $1,123,957 |  | 100.0% |  | $1,048,164 | 
| | Cost of goods sold and occupancy costs                       |  | 796,396    |  | 70.9%  |  | 751,314    | 
| |                                                              |  |            |  |        |  |            | 
| | Gross profit                                                 |  | 327,561    |  | 29.1%  |  | 296,850    | 
| | Direct store expenses                                        |  | 242,822    |  | 21.6%  |  | 235,425    | 
| |                                                              |  |            |  |        |  |            | 
| | Store contribution                                           |  | 84,739     |  | 7.5%   |  | 61,425     | 
| | Selling, general and administrative
    expenses             |  | 66,559     |  | 5.9%   |  | 62,454     | 
| | Loss on disposal of assets, net                              |  | 187        |  | -%     |  | 187        | 
| | Pre-opening expenses                                         |  | 3,419      |  | 0.3%   |  | 5,265      | 
| | Restructuring and asset impairment charges
    (income), net |  | 3,967      |  | 0.4%   |  | 2,461      | 
| |                                                              |  |            |  |        |  |            | 
| | Income (loss) from operations                                |  | 10,607     |  | 0.9%   |  | (8,942)    | 
| |                                                              |  |            |  |        |  |            | 
| | Loss on early extinguishment of debt                         |  | (559)      |  | -%     |  | -          | 
| | Interest income                                              |  | 1,669      |  | 0.1%   |  | 1,070      | 
| | Interest expense                                             |  | (7,963)    |  | (0.7)% |  | (6,309)    | 
| |                                                              |  |            |  |        |  |            | 
| | Income (loss) before income taxes                            |  | 3,754      |  | 0.3%   |  | (14,181)   | 
| | Income tax expense                                           |  | 569        |  | -%     |  | 25,838     | 
| |                                                              |  |            |  |        |  |            | 
| | Net income (loss)                                            |  | $ 3,185    |  | 0.3%   |  | $ (40,019) | 
| |                                                              |  |            |  |        |  |            | 
| |                                                              |  |            |  |        |  |            | 





Year over Year 2005 v. 2004 Comparisons of Certain Selected Income
Statement Data



The following narrative compares those selected income statement data
with material changes from year to year. Aggregate dollar amounts for fiscal 2005 reflect
a 52 week fiscal year, as compared to 53 week fiscal 2004.



Sales. Net sales for the fiscal year ended December 31, 2005, were
$1.1 billion, an increase of 7.2%, compared with $1.0 billion in fiscal 2004. Excluding
the 53rd week of sales of $18.3 million during 2004, 2005 sales were up 9.1%
over fiscal 2004. Increases were attributable to comparable store sales growth of 3.8% and
the net increase of five stores in fiscal 2005. We ended the year with total square
footage of 2.58 million square feet, which is an increase of 5.3% compared with 2.45
million square feet at the end of 2004. Comparable store sales for fiscal 2005 increased
3.8%, as compared to 1.4% in fiscal 2004. Our comparable store sales started the year flat
compared to 2004 results and have increased throughout 2005 due to new promotional plans
and marketing and merchandising initiatives. We have experienced continual growth of our
private label brand throughout 2005 with private label sales growing 35.0% over 2004 and
faster than overall company sales growth.



Gross profit. Gross profit consists of sales less costs of goods
sold and store occupancy costs. Occupancy costs include store related depreciation, rent
and utilities. Gross profit for the fiscal year ended December 31, 2005 increased 10.3% to
$327.6 million as compared to $296.9 million in fiscal 2004, while gross profit margins
increased to 29.1%, compared to 28.3% in fiscal 2004, largely due to more strategic
marketing and merchandising programs which have benefited our gross margin. In addition,
our stores opened in 2005 have generated higher gross margins than the stores we opened
during 2004.



Direct store expenses. Direct store expenses include the following:
store payroll, taxes and benefits, store supplies and maintenance, in-store community
marketing, and other store-specific costs. Direct store expenses for the fiscal year ended
December 31, 2005, decreased as a percent of sales to 21.6% as compared to 22.5% in fiscal
2004. Direct store expenses decreased as a result of leveraging payroll and the related
taxes against higher sales, along with benefit savings from our self-insured workers
compensation plan and the stabilization of healthcare costs. Additionally, payroll in our
new stores as a percent of sales improved over 2004 performance.



Selling, general and administrative expenses. Selling, general and
administrative expenses include the following: corporate and regional administrative
support services, and purchasing and marketing costs. Selling, general and administrative
expenses for the fiscal year ended December 31, 2005, decreased to 5.9% of sales in fiscal
2005 as compared to 6.0% in fiscal 2004. The decrease as a percent of sales is
attributable to greater operating efficiencies created by our third quarter 2004 home
office restructuring and to leveraging against higher sales. The increase of $4.1 million
in costs are due primarily to incremental accounting and legal fees incurred in the first
quarter of 2005 related to our restatement, with regards to lease accounting and corporate
and regional level bonuses.



Pre-opening expenses. Pre-opening expenses include labor, rent,
advertising, utilities, supplies, and certain other costs incurred prior to a stores
opening. Pre-opening expenses for the fiscal year ended December 31, 2005, decreased 35.1%
as compared to fiscal 2004, primarily as a result of eight new store openings in fiscal
2005 as compared to 12 in fiscal 2004.



Restructuring and asset impairment charges (income). Restructuring
and asset impairment expense in fiscal 2005 was $4.0 million, as compared to $2.5 million
in fiscal 2004 and income of $1.3 million in fiscal 2003. The following table summarizes
the components of restructuring and asset impairment charges and income for fiscal years
2005, 2004, and 2003, respectively, (in thousands):



|                                                                                                                                     |  | Fiscal  |  | Fiscal  |  | Fiscal  
|------------------------------------------------------------------------------------------------------------------------------------ |  | ------- |  | ------- |  | --------
|Components of Charge                                                                                                                 |  | 2005    |  | 2004    |  | 2003    
|                                                                                                                                     |  |         |  |         |  |         
|                                                                                                                                     |  |         |  |         |  |         
|Change in estimate related to lease-related
    liabilities for sites previously identified for closure or sale (includes accretion) |  | $ 230   |  | $ 104   |  | $(2,376)
|Estimate related to lease-related
    liabilities for sites identified to be closed or sold during the period                        |  | 1,273   |  | 566     |  | 188     
|Severance for employees terminated during
    the period                                                                             |  | 134     |  | 754     |  | 232     
|Asset impairment charges                                                                                                             |  | 1,370   |  | 1,037   |  | 947     
|Write off of goodwill                                                                                                                |  | 960     |  | -       |  | -       
|Insurance proceeds received for impaired
    assets previously written off                                                           |  | -       |  | -       |  | (250)   
|                                                                                                                                     |  |         |  |         |  |         
|                                                                                                                                     |  | $ 3,967 |  | $ 2,461 |  | $(1,259)
|                                                                                                                                     |  |         |  |         |  |         
|                                                                                                                                     |  |         |  |         |  |         







During fiscal 2005, we recorded restructuring and asset impairment
expense of $4.0 million. Management decides to close or relocate stores in circumstances
where the existing store is under-performing and/or a more desirable location in the same
market becomes available. Warehouses and support facilities will be closed, consolidated,
or relocated when opportunities arise to reduce overall costs of operations in those
facilities. Details of the significant components are as follows (in thousands):



Changes in estimate related to lease-related liabilities for sites
identified in previous years for closure ($230,000 in restructuring expense).During
2005, we adjusted our estimates of remaining lease liabilities for locations closed in
years before fiscal 2005 due to changes in marketability, subtenancy, or agreements
reached with landlords that differed from the original estimated lease obligation. In
addition to the changes cited above, we incurred accretion expense of $469,000 during the
year, for known changes in the net present value of future minimum lease payments.





Estimate for sites identified for closure that were closed during the
year ($1.3 million of restructuring expense). During the year, we closed one store in
Oregon, one commissary kitchen in Arizona, a regional office in California, and we
relocated two stores; one in Oregon and one in Arizona. Related to these closures and
relocations, we accrued for the period of time that best estimates our remaining lease
liabilities and closure costs.





Severance for employees notified of termination during the year
($134,000 of restructuring expense). During the year, 88 employees were terminated in
conjunction with the closing of one store, a commissary kitchen and regional office, and
the relocation of two stores. As of December 31, 2005, all $134,000 of involuntary
termination benefits had been paid to terminated employees. In addition, $192,000 was also
paid to terminated employees related to accruals from the prior year.



Asset impairment charges. ($1.4 million of restructuring expense). During
2005, we reviewed the undiscounted cash flows of all locations. Two locations had future
cash flows that were less than the carrying value of their associated assets. We impaired
the fixed assets at these locations to their net realizable value. Also, during the year,
we wrote off assets related to sites identified for future store locations that were
subsequently determined insuitable. Other assets originally designated to be transferred
from closed stores were deemed no longer useful and written off.



Write off of goodwill. ($960,000 of restructuring expense). During
the first quarter of fiscal 2005, the Company closed its remaining store in Eugene, Oregon
and exited the market area. The goodwill, net of accumulated amortization associated with
this market area, was written off.



During the fiscal year ended 2005, the Company incurred $553,000 of
charges for accelerated depreciation related to planned store closures. These costs are
included in the "Cost of goods sold and occupancy costs" line of the
Consolidated Statements of Operations.



Interest income. Interest income for the fiscal year ended December
31, 2005 was $1.7 million compared to $1.1 million in fiscal 2004. The increase is
directly attributable to a full year of cash investments from the proceeds from our
debenture issuance in fiscal 2005 as compared to a partial year in fiscal 2004.



Interest expense. Interest expense for the fiscal year ended
December 31, 2005 increased to $8.0 million as compared to $6.3 million in fiscal 2004.
The increase over 2004 is due to a full year of interest from the debenture offering
completed in June 2004 as compared to a partial year in fiscal 2004.



Income tax expense. The effective tax rate for the fiscal year
ended December 31, 2005 was 15.2% as compared to (182.2)% for fiscal year 2004. The
increase in the effective rate is due toa number of factors, including a much smaller change in the tax
valuation allowance during 2005, an adjustment of the deferred tax assets and
liabilities arising from the 2004 restatement, and the expiration of certain tax
attributes.



As of December 31, 2005, we had a net deferred tax asset of $64,000
compared to a net deferred tax asset of $418,000 for the fiscal year ending January 1,
2005. The net deferred tax asset is related to the temporary differences on the Canadian
fixed assets. The Company anticipates continuing to report taxable income in
Canada and, therefore, no valuation allowance was established against this
asset. The amount has decreased during the current year for two reasons. First,
a true-up related to the fiscal 2004 income tax return reduced the asset and second, the
asset was further reduced due to an excess of tax depreciation over book
depreciation in Canada for the current 2005 fiscal year.



Net income (loss). In fiscal 2005, we generated net income of $3.2
million, or $0.11 per diluted share, compared with net loss of $40.0 million or $(1.37)
per diluted share in fiscal 2004.



Earnings before interest, taxes, depreciation and amortization, loss on
early extinguishment of debt, loss (gain) on asset disposals, net, restructuring and asset
impairment charges (income), net, as adjusted ("EBITDA, as adjusted").
  EBITDA, as adjusted, was $41.0 million, or 3.7% of sales for the fiscal year ended
December 31, 2005, an 89.8% increase as compared to $21.6 million, or 2.1% of sales in the
fiscal year ended 2004.  We believe that the reconciliation of earnings before
interest, taxes, depreciation and amortization ("EBITDA") and EBITDA, as
adjusted, provides meaningful non GAAP financial measures to help management and investors
understand and compare business trends among different reporting periods on a consistent
basis, independently of regularly reported non-cash charges and infrequent or unusual
events as determined by management.  Readers are cautioned not to view EBITDA or
EBITDA, as adjusted, as an alternative to GAAP results or as being comparable to results
reported or forecasted by other companies, and should refer to the reconciliation of GAAP
net income (loss) results to EBITDA and EBITDA, as adjusted, for the years ended 2005 and
2004, respectively.  For an explanation of EBITDA, and EBITDA, as adjusted, see Non
GAAP Financial Information.





Year over Year 2004 v. 2003



The following narrative compares those selected income statement data
with material changes from year to year. Aggregate dollar amounts for fiscal 2004 reflect
a 53 week fiscal year, as compared to 52 week fiscal 2003.



Sales. Net sales for the fiscal year ended January 1, 2005, were
$1.0 billion, an increase of 8.1%, compared with $969.2 million in fiscal 2003. Excluding
the 53rd week of sales of $18.3 million during 2004, 2004 sales were up 6.3%
over fiscal 2003. Increases were attributable to the addition of 12 new stores in fiscal
2004, despite the closure of seven stores during the fiscal year, as we ended the year
with total square footage of 2.45 million square feet, which is an increase of 9.9%
compared with 2.23 million square feet at the end of 2003. Comparable store sales for
fiscal 2004 increased 1.4%, as compared to 2.4% in fiscal 2003. The decrease in comparable
store sales over 2003 results from the greater benefit of the southern California
conventional grocery strike in the fourth quarter of 2003 as compared to the smaller
impact in the first quarter of 2004. In the second half of 2004, we increased our
promotional activity to drive customer count to retain some of the customers that came to
us during the strike. The positive impact to sales year over year was offset by the
decrease in gross profit percentage. Total sales increased in 2004 despite supply chain
disruptions experienced in the first quarter of 2004 with our former primary distributor,
and issues of quality and consistency throughout 2004 in produce distributions from our
new California warehouse.



Gross profit. Gross profit consists of sales less costs of goods
sold and store occupancy costs. Occupancy costs include store related depreciation, rent
and utilities. Gross profit for the fiscal year ended January 1, 2005 increased 3.9% to
$296.9 million as compared to $285.7 million in fiscal 2003, while gross profit margins
declined to 28.3%, compared to 29.5% in fiscal 2003, largely due to promotional activity,
such as our Thanksgiving promotion, in selected regions of the country in the second half
of 2004 to attract new customers and retain customers gained during the southern
California conventional grocery strike and changes to our distribution processes. The
impact of the combined promotional activity and distribution changes is estimated at 30
basis points of the reduction from prior year. Margins, or gross profit percentage,
declined 90 basis points over last year due to the effect of newer stores (defined as
stores open less than 12 months) being a larger percent of our total store base.
Traditionally, our newer stores carry lower margins due to higher shrink and heavy
promotional activity. The impact of accelerated depreciation was approximately $200,000
more during 2004 than 2003, and amounted to a $4.0 million of a decrease to gross profit
during 2004.



Direct store expenses. Direct store expenses include the following:
store payroll, taxes and benefits, store supplies and maintenance, in-store community
marketing, and other store-specific contract costs. Direct store expenses for the fiscal
year ended January 1, 2005, increased as a percent of sales to 22.5% as compared to 21.6%
in fiscal 2003. Direct store expenses increased as a result of the addition of five new
stores (net of closed stores) and an overall increase in sales and same store customer
traffic. Our new stores typically have a higher payroll as a percentage of sales for up to
the first 18 months of operation. In addition to the higher new store payroll percentages,
we incurred benefit cost increases in the self insured areas of health and workers
compensation of over $4 million, along with a $1.0 million charge for the expected cost of
remediating our 401(k) plan, for which we have filed a voluntary compliance plan with the
Internal Revenue Service. We have also changed some of our marketing efforts to store
level versus national level, and the related costs have been reflected as direct store
expenses.



Selling, general and administrative expenses. Selling, general and
administrative expenses include the following: corporate and regional administrative
support services, and purchasing and marketing costs. Selling, general and administrative
expenses for the fiscal year ended January 1, 2005, decreased to 6.0% as a percent of
sales in fiscal 2004 as compared to 6.7% in fiscal 2003. The decreases of $2.2 million and
0.7% are attributable to consolidation of work functions at our headquarters, continued
control and monitoring of administrative costs and a small shift of marketing emphasis
from the national to the store level. These decreases were offset by increased
professional fees related to the Sarbanes-Oxley Act of 2002 and audit costs related to our
audit of past administrative practices in the Companys 401(k) plan.



Loss on disposal of assets. During 2003, as a result of the
significant store closings, remodels and resets, we undertook a review of all fixtures and
equipment in our stores, offices, and support facilities, including a physical inventory
in conjunction with an asset tagging exercise. We completed the review and recorded in
fiscal 2003 a $2.1 million loss on disposal of fixtures and equipment. Losses on disposal
amounts for 2004 and years prior to 2003 relate to assets disposed of in the normal course
of business and were not material.



Pre-opening expenses. Pre-opening expenses include labor, rent,
advertising, utilities, supplies, and certain other costs incurred prior to a stores
opening. Pre-opening expenses for the fiscal year ended January 1, 2005, increased 50.9%
as compared to fiscal 2003, primarily as a result of 12 new store openings in fiscal 2004
as compared to eight in fiscal 2003. Our average pre-opening expense per store increased
as we focused efforts on increasing the knowledge base of the consumer, training our
employees, and changes in our leasing terms. The timing of the store openings in 2005 also
has contributed to the amounts expensed during 2004, as certain pre-opening expense for
the two stores opened at the end of January 2005 were incurred and expensed in 2004.



Restructuring and asset impairment charges (income). Restructuring
and asset impairment expense in fiscal 2004 was $2.5 million, as compared to income of
$1.3 million in fiscal 2003. The table on page 17 summarizes the components of
restructuring and asset impairment charges and income for fiscal years 2005, 2004, and
2003, respectively. See "Notes to Consolidated Financial Statements  Note 11
 Restructuring and Asset Impairment Charges"for details of the significant
components of the expense (income).



Interest income. Interest income for the fiscal year ended January
1, 2005 was $1.1 million compared to $780,000 in fiscal 2003. The increase is directly
attributable to cash and short-term investment increases relating to proceeds from our
debenture issuance.



Interest expense. Interest expense for the fiscal year ended
January 1, 2005 increased to $6.3 million or 9.8% as compared to fiscal 2003. The increase
over 2003 is due to average borrowings increasing from the debenture offering completed in
June 2004.



Income tax expense. The effective tax rate for the fiscal year
ended January 1, 2005 was (182.2)% as compared to 40.7% for fiscal year 2003. The increase
in the effective rate is due to the Companys conclusion that a valuation allowance
was needed in 2004 against its net deferred tax assets. The valuation allowance was
recorded as a result of the Companys analysis of the facts and circumstances,
including an evaluation of its pre-tax income and losses for the historical periods, which
led the Company to conclude that it could no longer forecast future U.S. taxable income
under the "more likely than not" standard required by SFAS No. 109,
"Accounting for Income Taxes."



Net income (loss). In fiscal 2004, we generated a net loss of $40.0
million, or $(1.37) per diluted share, compared with net income of $1.6 million or $0.05
per share in fiscal 2003. Aside from the tax valuation allowance described above, the loss
resulted from disruptions caused by our prior distributor arrangement, which was
terminated at the end of the first quarter, additional disruptions throughout the year
resulting from the transition of 70 stores produce distribution to our new
distribution facility, lower projected performance by certain new stores opened in 2004,
and increased merchandising and marketing expenditures to combat increased competition in
selected regions and drive customer traffic. In the first quarter of fiscal 2004, we
transitioned our perishables distribution in the western region of the country to our new
distribution center, completed the consolidation of a third warehouse facility in the
first half of fiscal 2004 in southern California, and transitioned to a new primary
distributor.



Off-Balance Sheet Arrangements



We have no off-balance sheet arrangements to disclose.



New Accounting Pronouncements



In December 2004, the Financial Accounting Standards Board
("FASB") issued SFAS No. 123 (revised 2004), Share-Based Payment
("SFAS No. 123R"). SFAS No. 123R is a revision of SFAS No. 123, and supersedes
APB Opinion No. 25. The new standard establishes accounting standards for transactions in
which an entity exchanges its equity instruments for goods or services, including stock
option and restricted stock grants. Under SFAS No. 123R, we will be required to select a
valuation technique, or option-pricing model that meets the criteria as stated in the
standard. Allowable valuation models include a binomial model and the Black-Scholes model.
We will adopt the provisions of SFAS No. 123R in the first quarter of fiscal year 2006
using the modified prospective application and the Black Scholes valuation model. We
currently anticipate expensing $1.8 million during 2006 as a result of the adoption of FAS
No. 123R and changes we have made to our stock compensation incentives. The adoption of
SFAS No. 123R will require us to value unvested stock options granted prior to its
adoption of SFAS No. 123R under the fair value method and expense these amounts in the
income statement over the stock options remaining vesting period. In addition, SFAS
No. 123R will require us to reflect the tax savings resulting from tax deductions in
excess of expense reflected in its financial statements as a financing cash flow, which
will impact our future reported cash flows from operating activities. We intend to keep
our broad-based stock option program in place, however, in response to SFAS No. 123R , we
have amended our Employee Stock Purchase Program ("ESPP") to decrease the
discount on the price of shares to 5% and to apply the discount to the price on the date
in which the buy period closes each quarter.



In May 2005, the FASB issued SFAS No. 154, Accounting Changes and
Error Corrections("SFAS No. 154"). SFAS No. 154 requires restatement
of prior periods financial statements for changes in accounting principles, unless
it is impracticable to determine either the period-specific effects or the cumulative
effect of change. SFAS No. 154 also requires that retrospective application of a change in
accounting principle be limited to the direct effects of the change. SFAS No. 154 is
effective for accounting changes and corrections of errors made in fiscal years beginning
after December 15, 2005. The adoption of SFAS No. 154 is not expected to have a material
impact on our Consolidated Financial Statements.



In October 2005, the FASB issued FSP No. FAS 13-1, Accounting for Rental Costs
Incurred during a Construction Period ("FSP No. FAS 13-1"). FSP No. FAS 13-1
requires rental costs associated with operating leases that are incurred during a
construction period to be recognized as rental expense. FSP FAS No. 13-1 is effective for
reporting periods beginning after December 15, 2005. The transition provisions of FSP No.
FAS 13-1 permit early adoption and retrospective application of the guidance. We currently
and have historically recognized these costs as rental expense and therefore, the adoption
of FSP No. FAS 13-1 will not have a material effect on our Consolidated Financial
Statements.



Liquidity and Capital Resources



Our primary sources of capital have been cash flow from operations and
bank indebtedness. Primary uses of cash have been the financing of new store development
through leases, capital expenditures, and remodels.



Net cash provided by operating activities was $31.4 million during
fiscal 2005. The generation of cash from operations consisted of the net income of $3.2
million with adjustments for depreciation and amortization, deferred taxes, non-cash
restructuring charges and other items that reconcile net income to cash, as well as
increases in inventories offset by decreases to receivables and other assets, and
increases to accounts payable, and accrued liabilities and other liabilities.



We expect the closure and/or relocation of three stores in 2006 to
ultimately result in improved store contributions and cash flows for the Company. The
short-term cash flow effects of these closures and/or relocations usually involve some
severance costs. Costs for removal of furniture, fixtures, and inventory for these
closures are expected to be minimal, however, the net present value of the lease payments
and the impairment of related fixed assets on these stores is expected to be material.



Net cash used in investing activities was $31.6 million during fiscal
2005, which consisted primarily of purchases of property and equipment for our new stores
and remodeled locations, and purchases of short-term investments. These expenditures were
offset slightly by cash proceeds received from the sale of property and equipment.



We spent approximately $28.3 million during 2005 for new store
construction, development, remodels and other capital expenditures. Our average capital
expenditures to open a leased store, including leasehold improvements, equipment and
fixtures, have ranged from approximately $2.0 million to $5.0 million historically,
excluding inventory costs and initial operating losses. We anticipate that the average
capital expenditures to open a natural foods supermarket format store will be $2.5 million
to $3.5 million in the future, on a turnkey lease basis. Under turnkey leases, the
landlord constructs the building to our specifications, up to a cost cap per foot, and
installs equipment we purchase. Average capital expenditures for non-turnkey leases are
expected between $5.0 million and $6.5 million. Our average capital expenditures to open a
farmers market format store are estimated at $2.0 million to $2.5 million in the
future. Delays in opening new stores may result in increased capital expenditures and
increased pre-opening costs for the site, as well as lower than planned sales for the
Company.



The cost of initial inventory for a new store is approximately $500,000
to $600,000 depending on the store format; however, we obtain vendor financing for most of
this cost. The amounts and timing of such pre-opening costs will depend upon the
availability of new store sites and other factors, including the location of the store and
whether it is in a new or existing market for us, the size of the store, and the required
build-out at the site. Costs to acquire future stores, if any, are impossible to predict
and could vary materially from the cost to open new stores. There can be no assurance that
actual capital expenditures will not exceed anticipated levels.



Net cash provided by financing activities was $4.5 million during
fiscal 2005 attributable primarily to proceeds from the issuance of common stock.



EBITDA.  EBITDA was $36.3 million for the fiscal year ended
December 31, 2005, as compared to $19.0 million for the fiscal year ended January 1, 2005.
  The increase in EBITDA as compared to 2004 is primarily attributable to the
increase in pre-tax income of $17.9 million.  For an explanation and reconciliation
of EBITDA, see Non GAAP Financial Information. Debt to EBITDA, as adjusted, a
measure of the Companys ability service its debt, has improved over three
times from 2004.



Contingent convertible senior debentures. In June 2004, we issued
$115.0 million aggregate principal amount of 3.25% Convertible Senior Debentures due May
15, 2034 in a private placement. The debentures bear regular interest at the annual rate
of 3.25%, payable semiannually on May 15 and November 15 of each year until May 15, 2011,
after which date, no regular interest will be due. Commencing May 20, 2011 and ending
November 14, 2011, and for any six-month period thereafter, contingent interest will be
due and payable in the amount of 0.25% of the average trading price of the debentures
during a specified period, if the average trading price of the debentures equals or
exceeds 125% of the principal amount of the debentures.



During the second quarter of 2005, we made an irrevocable election to
pay the principal amount of debentures in cash upon conversion; however, the Company
retains the ability to satisfy the remainder of any conversion payment, in cash or any
combination of cash and common stock. According to their terms, the debentures are
callable and convertible into our common stock prior to maturity at the option of the
holders under the following circumstances: (1) during any calendar quarter commencing
after June 30, 2004 and before March 31, 2029, if the last reported sale price of our
common stock is greater than or equal to 130% of the conversion price of $17.70 per share
for at least 20 trading days in the period of 30 consecutive trading days ending on the
last trading day of the proceeding calendar quarter; (2) at any time on or after
April 1, 2029 if the last reported sale price of our common stock on any date on or after
March 31, 2029 is greater than or equal to 130% of the conversion price; (3) subject
to certain limitations, during the five business-day period after any five consecutive
trading-day period in which the trading price per debenture for each day of that period
was less than 98% of the product of the conversion rate and the last reported sale price
of our common stock; (4) if we call the debentures for redemption; (5) upon the
occurrence of certain corporate transactions; or (6) if we obtain credit ratings for
the debentures, at any time when the credit ratings assigned to the debentures are below
specified levels. While a credit rating has been issued for the debentures, the rating was
not requested by us, but initiated by the ratings agency. Therefore, a change in the
current rating will not trigger a call provision. The debentures were initially
convertible into 56.5099 shares of our common stock per $1,000 principal amount, which is
equivalent to $17.70 per share, for total initial underlying shares of 6,498,639. The
conversion rate is subject to adjustment upon the occurrence of specified events. Upon
conversion, the Company has made an irrevocable election to pay the principal amount of
the debentures in cash and may satisfy the remainder of any conversion payment in common
stock, cash or any combination of cash and common stock. Pursuant to the underwriting
agreement and within 90 days of issuance, we filed a shelf registration statement covering
resales of the debentures and the common stock issuable upon conversion thereof. The
registration statement was declared effective August 26, 2005.



On or after May 20, 2011, we may redeem for cash some or all of the
debentures at any time and from time to time, for a price equal to 100% of the principal
amount of the debentures plus accrued and unpaid contingent interest, if any. Holders have
the right to require us to repurchase any or all debentures for cash, at a repurchase
price equal to 100% of the principal amount of the debentures, plus accrued and unpaid
interest on: (1) May 15, 2011, May 15, 2014, and May 15, 2024; and (2) upon the occurrence
of a fundamental change (as defined in the debenture indenture). In the case of a
fundamental change in which all of the consideration for the common stock in the
transaction or transactions constituting the fundamental change consists of cash, we also
will pay to the holders a make-whole premium (as defined in the debenture indenture), the
amount of which could be significant but would not be determinable unless and until there
were to be a public announcement of such a fundamental change. Any make-whole premium
would be payable to all holders regardless of whether the holder elects to require us to
repurchase the debentures or elects to surrender the debentures for conversion.



The debentures are unsecured and unsubordinated obligations, and rank
equal in priority with all of our existing and future unsecured and un-subordinated
indebtedness and senior in right of payment to all of its subordinated indebtedness. The
debentures will effectively rank junior to any of our secured indebtedness and any of its
indebtedness that is guaranteed by its subsidiaries. Payment of principal and interest on
the debentures will be structurally subordinated to the liabilities of our subsidiaries.



There are no financial covenants within the debenture agreement,
however, we paid penalty interest of 0.25% for the first 90 days of 2005 and 0.50%
thereafter until the debentures were publicly registered on August 26, 2005. As of
December 31, 2005, all $305,102 in accrued additional interest to debenture holders due to
not having an effective registration statement within the specified timeframe had been
paid.



Credit facility. On March 31, 2005, we entered into a five-year
revolving secured credit facility with Bank of America, N.A. (the "B of A
Facility"). Concurrent with the execution of the B of A Facility, we terminated our
existing $95.0 million credit facility with Wells Fargo Bank N.A. as administrative agent.
The B of A Facility allows borrowings and letters of credit up to a maximum of $40.0
million, with an option to increase borrowings up to $100.0 million, subject to a
borrowing base determined by the value of certain inventory, credit card receivables,
invested cash and, at our discretion, mortgaged leaseholds. The B of A Facility is secured
by certain of our assets including, but not limited to, cash, inventory and fixed assets.
Borrowings under the B of A Facility bear interest, at our election, at the prime rate or
at the London Interbank Offering Rate ("LIBOR") plus a margin ranging from 1.00%
to 1.50%, depending on the excess borrowing availability over amounts borrowed. Interest
rates are determined quarterly. We are charged a commitment fee on the unused portion of
the Facility. There are no financial covenants, other than the obligation to maintain a
certain percentage of minimum excess availability (as defined in the agreement) at all
times. The B of A Facility requires compliance on a monthly basis with certain
non-financial covenants, including limitations on incurring additional indebtedness and
making investments, the use and disposition of collateral, changes of control, as well as
cash management provisions. In conjunction with the debt refinancing, we wrote off
approximately $559,000 of the remaining unamortized debt issuance cost from the Wells
Facility and capitalized debt issuance costs of approximately $331,000 as of December 31,
2005, to be amortized over the life of the agreement using the effective interest method.
As of December 31, 2005, the Company had letters of credit outstanding totaling $15.0
million, which reduces our availability to approximately $25.0 million.



Our prior credit facility was entered into in February of 2003 and
terminated March 31, 2005, with Wells Fargo Bank N.A. acting as lead bank and
administrative agent (the "Wells Facility"). The Wells Facility had a $95.0
million limit and a three-year term with a one-year renewal option.



As of December 31, 2005, we had no off-balance sheet arrangements,
unconsolidated subsidiaries, commitments or guarantees, except as disclosed in the notes
to the consolidated financial statements. Stockholders equity at December 31, 2005
of $109.5 million represented 26.2% of total assets. As of December 31, 2005, we had a
working capital deficit of $10.6 million as compared to $24.9 million in 2004. The
increase in working capital was primarily attritributed to an increase in cash, short-term
investments and inventories over prior year of $4.6 million, $3.4 million, and $8.1
million, respectively, offset by an increase in accounts payable of $1.7 million, and
other of $100,000.



We believe that cash generated from operations, and available under our
credit facility, in addition to our existing short-term investments, will be sufficient to
satisfy our budgeted cash requirements through fiscal 2006. In the past, we have primarily
used cash flows generated from operations, improvements in working capital and equity
proceeds to fund store growth. As our store development plan accelerates, we expect that a
greater proportion of our capital will be funded through borrowings on the B of A Facility
than we have utilized in the past. We will continually evaluate other sources of capital
and will seek those considered appropriate for future acquisition or accelerated store
growth opportunities.



We believe that current cash and cash equivalents, short-term
investments and cash flows from operations will be sufficient to fund necessary capital
expenditures, to provide adequate working capital, and to expand as planned for the
foreseeable future (the next 12 months). There can be no assurance, however, that we will
not require additional financing. There can be no assurance that any additional financing
will be available to us on acceptable terms, or at all, when required. If additional funds
were to be raised through the sale of equity securities or additional convertible debt
instruments, additional dilution to existing shareholders would likely result.



The following is a summary of our lease and debt obligations,
construction commitments and outstanding letters of credit as of December 31, 2005:





AGGREGATE
CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS

(in thousands)



|                                              |  | EXPECTED
    FUTURE CASH PAYMENTS             
|--------------------------------------------- |  | ----------------------------------------------
|                                              |  | Total                                         
|                                              |  |                                               
|Contractual Obligations:                      |  |                                               
|Long-term debt                                |  | $ 136,778                                     
|Capital lease and financing lease obligations |  | 78,026                                        
|Operating leases                              |  | 398,902                                       
|Construction commitments                      |  | 3,139                                         
|                                              |  |                                               
|                                              |  | $ 616,845                                     
|                                              |  |                                               
|                                              |  |                                               
|                                              |  | AMOUNT OF
    COMMITMENT EXPIRATION PER PERIOD
|                                              |  | Total                                         
|                                              |  |                                               
|Commercial Commitments:                       |  |                                               
|Letters of credit                             |  | $ 14,996                                      
|                                              |  |                                               
|                                              |  |                                               



Long-term debt. During June of 2004, we completed the issuance of
$115 million in convertible debt, at a fixed interest rate of 3.25%, payable
semi-annually, and we have included this interest in the table above. In addition to the
convertible debentures, our credit facility, carries a commitment fee for the unused
portion of the facility and a fee for outstanding letters of credit. We have included an
estimated amount for both the commitment fee and the outstanding letters of credit fee in
the above schedule.



Capital lease and financing lease obligations. The number and
dollar amount of capital leases and financing leases are limited by our bank agreements
and as a business practice. Certain store locations meet the criteria of capital leases
and financing leases, while other capital leases are for computer software.



Operating leases. We lease a majority of our stores and support
facilities under non-cancelable operating leases that expire at various dates through
2024.



Construction commitments. As we prepare to open new stores, capital
assets are ordered yet not delivered as of the year end.



Other obligations. We do not have minimum purchase requirements or
other contractual obligations in our business.



Letters of credit. As of December 31, 2005, we had outstanding
letters of credit for $15.0 million from the B of A Facility.





Critical Accounting Policies and Estimates



Our discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have been prepared
in accordance with accounting principles generally accepted in the United States of
America. The preparation of these financial statements requires us to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues and expenses,
and related disclosures of contingent assets and liabilities. We base our estimates on
historical experience and on various other assumptions that are believed to be reasonable
under the circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent from other
sources. Actual results may differ from these estimates.



On an ongoing basis, we evaluate the continued appropriateness of our
accounting policies and resulting estimates, including those related to:



> Goodwill valuation,
>   Asset impairment charges,
>   Restructuring charges and store closing costs,
>   Inventory valuation and reserves,
>   Self-insurance reserves, and
>   Tax valuation allowances



We believe the following critical accounting policies affect our most
significant judgments and estimates used in the preparation of our consolidated financial
statements. There have been no changes in 2005 in the application of these policies:



Goodwill. Goodwill consists of the excess cost of acquired
companies over the sum of the fair market value of their underlying tangible assets
acquired and liabilities assumed. In accordance with SFAS No. 142, Goodwill and Other
Intangible Assets, goodwill is reviewed for impairment annually at a reporting unit
level, or more frequently if certain indicators of impairment exist. We have one reporting
unit at the enterprise level to which goodwill is allocated. We estimate fair value
utilizing a combination of three different methods, consisting of market capitalization,
discounted future cash flows, and earnings before interest, taxes, depreciation,
amortization and rent ("EBITDAR") multiples, and compare it to the carrying
value of the enterprise for purposes of identifying potential impairment.



The annual review for impairment relies heavily on our ability to
accurately project future cash flows, which in itself, requires the extensive use of
accounting judgment and financial assumptions and estimates. These projections can be
affected by many items that are interdependent on one another and are outside of our
control and ability to predict except at the time of evaluation, such as changes in the
economy, trends affecting the natural and organic food industry, and changing competitive
pressures. Application of alternative assumptions such as evaluating for impairment at a
level of the organization other than enterprise could produce significantly different
results.



Two of the most significant assumptions underlying the determination of
the fair value of goodwill and other intangible assets are the EBITDAR multiples and the
growth rate on our free cash flow projections. In connection with our annual goodwill
impairment measurement, we determined that a 33% reduction in our estimated EBITDAR
multiple would have decreased the valuation by $71.9 million. A 25% reduction in our
estimated free cash flow projection percentage would have resulted in a decrease of $100.7
million. Taking into consideration these two calculated decreases, our lowest valuation
still exceeds book value, and therefore, no impairment is indicated.



Impairment of long-lived assets. We monitor the carrying value of
our long-lived assets, including finite-lived intangible assets, for potential impairment
whenever changes in circumstance indicate a potential for impairment may exist. The
triggering events for evaluations of finite lived intangible assets include a significant
decrease in the market value of an asset, acquisition and construction costs in excess of
budget, or current store operating losses combined with a history of losses or a
projection of continuing losses. If impairment is identified, based on undiscounted future
cash flows, management compares the assets future cash flows, discounted to present
value using a risk-adjusted discount rate, to its current carrying value and records a
provision for impairment as appropriate. With respect to equipment and leasehold
improvements associated with closed stores, the value of these assets is adjusted to
reflect recoverable values estimated based on our previous efforts to dispose of similar
assets, with consideration for current economic conditions.



Our review for impairment relies heavily on our ability to accurately
project future cash flows related to our stores and support facilities. Our cash flow
projections look several years into the future and include assumptions about sales growth
and cost trends that could be significantly impacted by changes in the local and national
economy, trends in the natural and organic food industry, local competitive pressures, as
well as the effectiveness of various operational initiatives underway in our stores.



A 2.0% increase in our sales growth assumption utilized in the cash
flow projection would have resulted in no stores identified for impairment and no related
asset impairment charges. A 2.0% decrease in our sales growth assumption would have
resulted in the impairment of an additional two stores held for use and approximately $3.4
million of additional asset impairment charges.



Restructuring and store closure costs. We reserve for the present
value of lease-related costs associated with store and support facility closures,
relocations, and sales when the store or facility is closed. The calculation of the lease
related liabilities involves applying a discount rate to the estimation of our remaining
lease obligations, taxes and common area maintenance, net of future estimated subtenant
income. The lease liabilities usually are paid over the lease terms associated with the
closed stores, which have had remaining terms ranging from one month to 25 years. Store
closing liabilities are reviewed each reporting period to ensure that the amounts recorded
reasonably reflect our future obligations associated with closed stores and facilities
based on the most current information available. Adjustments to existing lease related
liabilities are primarily a result of changes in the expected timing or amount of
subtenant income, and are made in the period in which the change in facts and
circumstances, as well as their related impacts, become known and estimatable. Lease
related closure costs and associated severance costs are made in accordance with SFAS No.
146 Accounting for Costs Associated with Exit of Disposal Activities. Severance
costs incurred in connection with store closings are recorded when the employees have been
identified and notified of the termination benefits to be made to the employees.



In evaluating the reserves for lease related liabilities, management
considers a number of variables that would affect the marketability of the space such as
recent demand for similar space in the market area, the number of potential subtenants
expressing interest, specific characteristics of the property, any limitations in the use
of the space imposed by the landlord, as well as the creditworthiness of actual
subtenants. The above factors are continuously reevaluated and have a significant impact
on managements assumptions used in estimating the timing and amount of any subtenant
income, and thus the amount of required reserves.



In calculating the lease related liabilities, we apply a discount rate
to the estimation of our remaining lease obligations. By decreasing the discount rate by
2.0%, we determined that our estimate for lease-related restructuring expense for sites
identified for closure in fiscal 2005 would have increased by approximately $16,000. An
increase of 2.0% in the discount rate would have decreased our estimate for lease-related
restructuring expense for sites identified for closure in fiscal 2005 by approximately
$16,000.



Inventory. Our inventory is stated at the lower of cost or market
on a first-in, first-out basis using the retail method of accounting to determine cost of
sales and inventory for approximately 80% of inventories and using the item cost method
for highly perishable products representing approximately 20% of inventories in our
stores. Under the retail inventory method, the valuation of inventories at cost and the
resulting gross margins are determined by applying a cost-to-retail ratio for various
categories of similar items to the retail value of inventories. Inherent in the retail
inventory method calculations are certain management judgments and estimates, including
shrinkage, which could significantly impact the ending inventory valuation at cost as well
as the resulting gross margins. Physical inventory counts are taken at each location at
least quarterly to ensure that the amounts reflected in the consolidated financial
statements are properly stated as of the end of each reporting period.



We maintain allowances for excess or unsaleable inventory as a
percentage of its gross inventory balance based on historical experience and assumptions
about market conditions. If actual market conditions are less favorable than those
projected by management, or if we expand our forward buying of inventory, which will
increase our inventory levels, then additional inventory write-downs may be required.



Relative to the above, a hypothetical increase of 1.0% to our
cost-to-retail ratio would result in a decrease of approximately $807,000 to our inventory
valuation. Conversely, a hypothetical decrease of 1.0% would result in an increase of
approximately $807,000 to our inventory balance as of the end of fiscal 2005. With regards
to our allowance for inventory, an increase or decrease of 1.0% as a percentage of gross
inventory would cause our allowance to fluctuate by about $640,000.



Self-insurance. We use a combination of stop-loss insurance and are
self-insured for losses relating to workers compensation claims, general liability
and employee medical and dental benefits. We have purchased stop-loss coverage in order to
limit exposure to any significant claim or levels of claims that would be catastrophic to
our Company. Self-insured losses are accrued based upon estimates of the aggregate
uninsured claims incurred using certain actuarial assumptions followed in the insurance
industry which are based on our industrys experience as well as our historical
claims experience. While we believe that the assumptions and methodology used are
appropriate, the estimated accruals for these liabilities could be significantly affected
if actual loss development and payment patterns vary significantly from the assumptions
and historical trends utilized.



Tax valuation allowances. We utilize the concepts and guidance of
SFAS No. 109, Accounting for Income Taxes in assessing the ability to realize our
deferred tax assets. The Company establishes valuation allowances based on historical
taxable income, projected future income, the expected timing of the reversals of existing
temporary differences and the implementation of tax planning strategies. Based on our
analysis, in 2005 we retained a full valuation allowance against our net deferred tax
assets generated from our U.S. operations because we believe we could not meet the
"more likely than not" realizability guidance under SFAS No. 109.

When we are able to show a profitable trend (generally cumulative book income over the
previous 12 quarters), we will re-evaluate the need for a valuation allowance using all
factors available to us at that time.



Cautionary Statement Regarding Forward-Looking Statements



This Report on Form 10-K contains "forward-looking
statements," within the meaning of the Private Securities Litigation Reform Act of
1995, which involve known and unknown risks. Such forward-looking statements include
statements as to the number of stores we plan to open or relocate in future periods and
the anticipated performance of such stores; the impact of competition; the sufficiency of
funds to satisfy our cash requirements; the impact of changes resulting from our
merchandising and marketing programs; our ability to benefit from past supply chain
modifications; expected pre-opening expenses and capital expenditures; and other
statements containing words such as "believes," "anticipates,"
"estimates," "expects," "may," "intends" and words
of similar import or statements of managements opinion. These forward-looking
statements and assumptions involve known and unknown risks, uncertainties and other
factors that may cause our actual results, market performance or achievements to differ
materially from any future results, performance or achievements expressed or implied by
such forward-looking statements. Important factors that could cause differences in results
of operations include, but are not limited to, the timing and execution of new store
openings, relocations, remodels and closures; new competitive impacts; changes in product
supply or suppliers and supplier performance levels; changes in management information
needs; changes in customer needs and expectations; changes in government regulations
applicable to our business; changes in economic or business conditions in general or
affecting the natural foods industry in particular; and competition for and the
availability of sites for new stores. We undertake no obligation to update any
forward-looking statements in order to reflect events or circumstances that may arise
after the date of this Report.



Non GAAP Financial Information



The following is a reconciliation of EBITDA and EBITDA, as adjusted, to
net income (in thousands):



| | FISCAL YEAR                                                  |  | 2005     |  | 2004       |  | 2003     
| | ------------------------------------------------------------ |  | -------- |  | ---------- |  | ---------
| |                                                              |  |          |  |            |  |          
| |                                                              |  |          |  |            |  |          
| | Net income (loss)                                            |  | $ 3,185  |  | $ (40,019) |  | $ 1,593  
| | Interest expense, net of
    interest income                 |  | 6,294    |  | 5,239      |  | 4,966    
| | Income tax expense                                           |  | 569      |  | 25,838     |  | 1,094    
| | Depreciation and
    amortization                            |  | 26,288   |  | 27,917     |  | 27,851   
| |                                                              |  |          |  |            |  |          
| | EBITDA                                                       |  | 36,336   |  | 18,975     |  | 35,504   
| | Loss on early
    extinguishment of debt                     |  | 559      |  | -          |  | 186      
| | Loss on asset disposals,
    net                             |  | 187      |  | 187        |  | 2,087    
| | Restructuring and asset
    impairment charges (income), net |  | 3,967    |  | 2,461      |  | (1,259)  
| |                                                              |  |          |  |            |  |          
| | EBITDA, as adjusted                                          |  | $ 41,049 |  | $ 21,623   |  | $ 36, 518
| |                                                              |  |          |  |            |  |          
| |                                                              |  |          |  |            |  |          
| | EBITDA, as a percentage of
    sales                         |  | 3.2%     |  | 1.8%       |  | 3.7%     
| | EBITDA, as adjusted, as a
    percentage of sales            |  | 3.7%     |  | 2.1%       |  | 3.8%     



EBITDA and EBITDA, as adjusted, are measures used by management to
measure operating performance.  EBITDA is defined as net income before interest,
taxes, depreciation, and amortization.  EBITDA, as adjusted, excludes certain
non-cash charges and other items that management does not utilize in assessing operating
performance or for purposes of corporate and regional level bonuses.  The items
included in the reconciliation from EBITDA to EBITDA, as adjusted, are either (a) non-cash
items (e.g. asset impairments, gain/loss on early extinguishment of debt) or (b) items
that management does not consider to be relevant to assessing operating performance (e.g.,
gain/loss on sale of assets, net).  Regarding the non-cash items, management believes
that investors can better assess operating performance if the measures are presented
without such items.  In the case of the items that management does not consider
relevant to assessing operating performance, management believes that investors can better
assess ongoing operating performance if the measures are presented without these items
because their financial impact has no continuing relevance to our ongoing business.  
The above table reconciles net income to EBITDA and EBITDA, as adjusted.   
Management believes that EBITDA and EBITDA, as adjusted, are useful to investors because
securities analysts, lenders and other interested parties frequently utilize them to
evaluate our peer companies and us. Neither EBITDA nor EBITDA, as adjusted, are recognized
terms under GAAP and do not purport to be an alternative to net income as an indicator of
operating performance or any other GAAP measure.  Not all companies utilize identical
calculations; therefore, the presentation of EBITDA and EBITDA, as adjusted, may not be
comparable to other identically titled measures of other companies.  In addition,
EBITDA and EBITDA, as adjusted, are not intended to be measures of free cash flow for
managements discretionary use since they do not consider certain cash requirements,
such as interest payments, tax payments and capital expenditures. Beginning in the first
quarter of 2006, due to the implementation of SFAS 123R, we will also exclude stock-based
compensation expense from our EBITDA, as adjusted, calculation.



Comparable stores sales. We deem sales of a new or acquired stores
comparable commencing in the thirteenth full month of operations.







Item 7A.

QUANTITATIVE AND
QUALITATIVE DISCLOSURES

ABOUT MARKET RISK



In the normal course of business, the Company is exposed to
fluctuations in fossil fuel commodity prices, interest rates and the value of foreign
currency. Fossil fuel commodity prices directly impact the costs the Company pays for
utilities and distribution, and are subject to flucuation due to availability and other
natural causes. The Company attempts to balance retail price increases against lost
profits without losing customer loyalty. We employ various financial instruments to manage
certain exposures when practical.



The Company is exposed to foreign currency exchange risk. We own and
operate three natural foods supermarkets and a commissary kitchen in British Columbia,
Canada. The commissary supports the three Canadian stores and does not independently
generate sales revenue. Sales made from the Canadian stores are made in exchange for
Canadian dollars. To the extent that those revenues are repatriated to the United States,
the amounts repatriated are subject to the exchange rate fluctuations between the two
currencies. We do not hedge against this risk because of the small amounts of funds at
risk.



Should we begin drawing on the B of A Facility for additional capital,
our exposure to interest rate changes would be primarily related to our variable rate debt
issued under the B of A Facility. The total commitment available is $40.0 million under a
revolving line of credit, with a five-year term expiring March 31, 2010. Because the
interest rate on the facility is variable, based upon the prime rate or LIBOR, our
interest expense and net income would be affected by interest rate fluctuations.



In September 2000, as required by our former credit facility, we
entered into an interest rate swap to hedge its exposure on variable rate debt positions.
Variable rates were predominantly linked to LIBOR as determined by one-month intervals.
The interest rate provided by the swap fixed one-month LIBOR at 6.7%. At December 28,
2002, the notional principal amount of the interest rate swap agreement was $32.5 million,
and expired in August 2003. There was no obligation to renew the swap under the refinanced
facility. The notional amount is the amount used for the calculation of interest payments
that are exchanged over the life of the swap transaction on the amortized principal
balance. In fiscal 2003 through its expiration in August of 2003, the loss of $613,000,
was reclassified into earnings from other comprehensive income for this cash flow hedge.





Item 8.

FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA



|INDEX TO FINANCIAL STATEMENTS AND SUPPLEMENTARY
    DATA | PAGE                                                                                                   
|-------------------------------------------------------- | -------------------------------------------------------------------------------------------------------
|                                                         |                                                                                                        
|                                                         | Reports
      of Independent Registered Public Accounting Firms                                        
|                                                         |                                                                                                        
|                                                         | Consolidated Statements
      of Operations for Fiscal Years 2005, 2004 and 2003                       
|                                                         |                                                                                                        
|                                                         | Consolidated
      Statements of Comprehensive Income (Loss) for Fiscal Years Ended 2005, 2004 and 2003
|                                                         |                                                                                                        
|                                                         | Consolidated Balance Sheets for
      Fiscal Years 2005 and 2004                                       
|                                                         |                                                                                                        
|                                                         | Consolidated
      Statements of Stockholders Equity for Fiscal Years Ended 2005, 2004, and 2003      
|                                                         |                                                                                                        
|                                                         | Consolidated Statements of Cash
      Flows for Fiscal Years Ended 2005, 2004 and 2003                 
|                                                         |                                                                                                        
|                                                         | Notes to
      Consolidated Financial Statements                                                       



---



REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To the Board of Directors and Stockholders of Wild Oats Markets, Inc.:



We have audited the accompanying consolidated balance sheets of Wild
Oats Markets, Inc. as of December 31, 2005 and January 1, 2005, and the related
consolidated statements of operations, comprehensive income (loss), stockholders
equity, and cash flows for each of the two years in the period ended December 31, 2005.
These financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on our audits.



We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for our opinion.



In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Wild Oats
Markets, Inc. at December 31, 2005 and January 1, 2005, and the consolidated results of
its operations and its cash flows for each of the two years in the period ended December
31, 2005, in conformity with U.S. generally accepted accounting principles.



We also have audited, in accordance with the standards of the Public
Company Accounting Oversight Board (United States), the effectiveness of Wild Oats
Markets, Inc.'s internal control over financial reporting as of December 31, 2005, based
on criteria established in Internal Control-Integrated Framework issued by the Committee
of Sponsoring Organizations of the Treadway Commission and our report dated February 28,
2006 expressed an unqualified opinion thereon.



/s/ Ernst & Young LLP



Denver, Colorado

February 28, 2006





---



**REPORT OF INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM**







The Board of Directors and Stockholders of Wild Oats Markets, Inc.:



We have audited managements assessment, included in Item 9A. in
Report of Management on Internal Control over Financial Reporting, that Wild Oats Markets,
Inc. maintained effective internal control over financial reporting as of December 31,
2005, based on criteria established in Internal Control-Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Wild
Oats Markets, Inc.s management is responsible for maintaining effective internal
control over financial reporting and for its assessment of the effectiveness of internal
control over financial reporting. Our responsibility is to express an opinion on
managements assessment and an opinion on the effectiveness of the companys
internal control over financial reporting based on our audit.



We conducted our audit in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether effective internal
control over financial reporting was maintained in all material respects. Our audit
included obtaining an understanding of internal control over financial reporting,
evaluating managements assessment, testing and evaluating the design and operating
effectiveness of internal control, and performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable basis for
our opinion.



A companys internal control over financial reporting is a process
designed to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance with
generally accepted accounting principles. A companys internal control over financial
reporting includes those policies and procedures that (1) pertain to the maintenance of
records that, in reasonable detail, accurately and fairly reflect the transactions and
dispositions of the assets of the company; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial statements in
accordance with generally accepted accounting principles, and that receipts and
expenditures of the company are being made only in accordance with authorizations of
management and directors of the company; and (3) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use, or disposition of the
companys assets that could have a material effect on the financial statements.



Because of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of effectiveness to
future periods are subject to the risk that controls may become inadequate because of
changes in conditions, or that the degree of compliance with the policies or procedures
may deteriorate.



In our opinion, managements assessment that Wild Oats Markets, Inc. maintained
effective internal control over financial reporting as of December 31, 2005, is fairly
stated, in all material respects, based on the COSO criteria. Also, in our opinion, Wild
Oats Markets, Inc. maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2005, based onthe COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets of Wild Oats Markets,
Inc. as of December 31, 2005 and January 1, 2005, and the related consolidated statements
of operations, comprehensive income (loss), stockholders equity, and cash flows for
each of the two years in the period ended December 31, 2005, and our report dated February
28, 2006 expressed an unqualified opinion thereon.



/s/ Ernst & Young LLP



Denver, Colorado

February 28, 2006





---











REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM







To the Board of Directors and Stockholders of Wild Oats Markets, Inc.:

In our opinion, the accompanying consolidated statements of operations, comprehensive
income (loss), stockholders equity and cash flows of Wild Oats Markets, Inc. and its
subsidiaries (the "Company") listed in the accompanying index present fairly, in
all material respects, the results of operations and cash flows of Wild Oats Markets, Inc.
for the year ended December 27, 2003, in conformity with accounting principles generally
accepted in the United States of America. These financial statements are the
responsibility of the Companys management. Our responsibility is to express an
opinion on these financial statements based on our audit. We conducted our audit of these
statements in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audit provides a reasonable basis for our
opinion.





PricewaterhouseCoopers LLP

Denver, Colorado

March 8, 2004, except for Note 2 to the consolidated financial statements included in
the Annual Report on Form 10-K for the year ended January 1, 2005 (not presented herein),
as to which the date is March 31, 2005.





---



WILD OATS MARKETS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per-share amounts)

|FISCAL YEAR                                                       |  | 2005        |  | 2004           |  | 2003     
|----------------------------------------------------------------- |  | ----------- |  | -------------- |  | ---------
|                                                                  |  |             |  |                |  |          
|Sales                                                             |  | $ 1,123,957 |  | $ 1,048,164    |  | $ 969,204
|Cost of goods sold and occupancy costs                            |  | 796,396     |  | 751,314        |  | 683,480  
|                                                                  |  |             |  |                |  |          
|Gross profit                                                      |  | 327,561     |  | 296,850        |  | 285,724  
|                                                                  |  |             |  |                |  |          
|Operating expenses:                                               |  |             |  |                |  |          
|Direct store expenses                                             |  | 242,822     |  | 235,425        |  | 208,908  
|Selling, general and administrative expenses                      |  | 66,559      |  | 62,454         |  | 64,659   
|Loss on disposal of assets, net                                   |  | 187         |  | 187            |  | 2,087    
|Pre-opening expenses                                              |  | 3,419       |  | 5,265          |  | 3,490    
|Restructuring and asset impairment charges (income), net          |  | 3,967       |  | 2,461          |  | (1,259)  
|                                                                  |  |             |  |                |  |          
|Income (loss) from operations                                     |  | 10,607      |  | (8,942)        |  | 7,839    
|                                                                  |  |             |  |                |  |          
|Loss on early extinguishment of debt                              |  | (559)       |  | -              |  | (186)    
|Interest income                                                   |  | 1,669       |  | 1,070          |  | 780      
|Interest expense                                                  |  | (7,963)     |  | (6,309)        |  | (5,746)  
|                                                                  |  |             |  |                |  |          
|Income (loss) before income taxes                                 |  | 3,754       |  | (14,181)       |  | 2,687    
|Income tax expense                                                |  | 569         |  | 25,838         |  | 1,094    
|                                                                  |  |             |  |                |  |          
|Net income (loss)                                                 |  | $
    3,185 |  | $
    (40,019) |  | $ 1,593  
|                                                                  |  |             |  |                |  |          
|                                                                  |  |             |  |                |  |          
|Net income (loss) per common share:                               |  |             |  |                |  |          
|Basic                                                             |  | $
    0.11  |  | $ (1.37)       |  | $ 0.05   
|Diluted                                                           |  | $
    0.11  |  | $ (1.37)       |  | $ 0.05   
|                                                                  |  |             |  |                |  |          
|Weighted-average common shares outstanding,
    basic             |  | 28,812      |  | 29,219         |  | 29,851   
|Dilutive effect of stock options and
    restricted stock units   |  | 437         |  | -              |  | 407      
|                                                                  |  |             |  |                |  |          
|Weighted-average common shares outstanding,
    assuming dilution |  | 29,249      |  | 29,219         |  | 30,258   
|                                                                  |  |             |  |                |  |          
|                                                                  |  |             |  |                |  |          



The accompanying notes are an integral part of these consolidated financial statements.





---

WILD OATS MARKETS, INC.

CONSOLIDATED
STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(In thousands)

|FISCAL YEAR                                                                                                           |  | 2005    |  | 2004       |  | 2003   
|--------------------------------------------------------------------------------------------------------------------- |  | ------- |  | ---------- |  | -------
|                                                                                                                      |  |         |  |            |  |        
|Net income (loss)                                                                                                     |  | $ 3,185 |  | $ (40,019) |  | $ 1,593
|                                                                                                                      |  |         |  |            |  |        
|Other comprehensive income (loss):                                                                                    |  |         |  |            |  |        
|                                                                                                                      |  |         |  |            |  |        
|Foreign currency translation adjustments                                                                              |  | 294     |  | 681        |  | 697    
|                                                                                                                      |  |         |  |            |  |        
|Unrealized (loss) gain on available-for-sale securities                                                               |  | (20)    |  | 37         |  | -      
|                                                                                                                      |  |         |  |            |  |        
|Recognition of hedge results to interest expense during the period, net
      of tax of $0, $0 and $367, respectively |  | -       |  | -          |  | 613    
|                                                                                                                      |  |         |  |            |  |        
|Change in market value of cash flow hedge during the period, net of tax
      of $0, $0 and $12, respectively         |  | -       |  | -          |  | (20)   
|                                                                                                                      |  |         |  |            |  |        
|Other comprehensive income                                                                                            |  | 274     |  | 718        |  | 1,290  
|Comprehensive income (loss)                                                                                           |  | $ 3,459 |  | $ (39,301) |  | $ 2,883
|                                                                                                                      |  |         |  |            |  |        
|                                                                                                                      |  |         |  |            |  |        



The accompanying notes are an integral part of these consolidated financial statements.



---

WILD OATS MARKETS, INC.

CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

|FISCAL YEAR ENDED                                                                                                                                         | 2005          |  | 2004         
|--------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------- |  | -------------
|                                                                                                                                                          |               |  |              
|                                                                                                                                                          |               |  |              
|ASSETS                                                                                                                                                    |               |  |              
|                                                                                                                                                          |               |  |              
|Current assets:                                                                                                                                           |               |  |              
|Cash and cash equivalents                                                                                                                                 | $ 35,250      |  | $ 30,671     
|Short-term investments                                                                                                                                    | 14,522        |  | 11,144       
|Inventories (net of reserves of $960 and $815, respectively)                                                                                              | 63,056        |  | 54,960       
|Accounts receivable (net of allowance for doubtful accounts of $190 and
      $153, respectively)                                                         | 4,006         |  | 3,860        
|Prepaid expenses and other current assets                                                                                                                 | 5,962         |  | 5,741        
|                                                                                                                                                          |               |  |              
|Total current assets                                                                                                                                      | 122,796       |  | 106,376      
|                                                                                                                                                          |               |  |              
|Property and equipment, net                                                                                                                               | 178,867       |  | 177,830      
|Goodwill, net                                                                                                                                             | 105,124       |  | 106,084      
|Other intangible assets, net                                                                                                                              | 6,122         |  | 6,491        
|Deposits and other assets                                                                                                                                 | 5,897         |  | 8,361        
|Deferred tax asset, net                                                                                                                                   | 64            |  | 418          
|                                                                                                                                                          |               |  |              
|                                                                                                                                                          | $
    418,870 |  | $
    405,560
|                                                                                                                                                          |               |  |              
|                                                                                                                                                          |               |  |              
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                                      |               |  |              
|                                                                                                                                                          |               |  |              
|Current liabilities:                                                                                                                                      |               |  |              
|Accounts payable                                                                                                                                          | $ 56,078      |  | $ 54,428     
|Book overdraft                                                                                                                                            | 23,351        |  | 23,325       
|Accrued liabilities                                                                                                                                       | 53,354        |  | 53,154       
|Current portion of debt, capital leases and financing obligations                                                                                         | 614           |  | 405          
|                                                                                                                                                          |               |  |              
|Total current liabilities                                                                                                                                 | 133,397       |  | 131,312      
|                                                                                                                                                          |               |  |              
|Long-term debt, capital leases and financing
    obligations                                                                                              | 148,181       |  | 148,675      
|Other long-term obligations                                                                                                                               | 27,750        |  | 24,472       
|                                                                                                                                                          |               |  |              
|                                                                                                                                                          | 309,328       |  | 304,459      
|                                                                                                                                                          |               |  |              
|Commitments and contingencies (Note 10)                                                                                                                   |               |  |              
|                                                                                                                                                          |               |  |              
|Stockholders equity:                                                                                                                                     |               |  |              
|Preferred stock, $0.001 par value; 5,000,000 shares authorized; no
      shares issued and outstanding                                                    | -             |  | -            
|Common stock; $0.001 par value; 60,000,000 shares authorized; 31,036,834
      and 30,466,701 issued; 29,059,034 and 28,488,901 outstanding, respectively | 31            |  | 30           
|Treasury stock, at cost: 1,977,800 shares, respectively                                                                                                   | (24,999)      |  | (24,999)     
|Additional paid-in capital                                                                                                                                | 226,645       |  | 221,029      
|Note receivable, related party                                                                                                                            | (12,051)      |  | (11,416)     
|Accumulated deficit                                                                                                                                       | (81,324)      |  | (84,509)     
|Accumulated other comprehensive income                                                                                                                    | 1,240         |  | 966          
|                                                                                                                                                          |               |  |              
|Total stockholders equity                                                                                                                                | 109,542       |  | 101,101      
|                                                                                                                                                          |               |  |              
|                                                                                                                                                          | $
    418,870 |  | $
    405,560
|                                                                                                                                                          |               |  |              
|                                                                                                                                                          |               |  |              



The accompanying notes are an integral part of these consolidated
financial statements.



---

WILD OATS MARKETS, INC.

CONSOLIDATED STATEMENTS OF
STOCKHOLDERS EQUITY

(In thousands, except share and per-share amounts)

|                                                                                      |  | Common
    Stock |  |        |  |                       |  |                                    |  |                                    |  |                        
|------------------------------------------------------------------------------------- |  | ---------------- |  | ------ |  | --------------------- |  | ---------------------------------- |  | ---------------------------------- |  | -----------------------
|                                                                                      |  |                  |  |        |  |                       |  |                                    |  |                                    |  |                        
|                                                                                      |  | Shares           |  | Amount |  | Treasury Stock Amount |  | Additional
    Paid-In
    Capital |  | Note
    Receivable, Related Party |  | Accumulated
    Deficit
|                                                                                      |  |                  |  |        |  |                       |  |                                    |  |                                    |  |                        
|Balance at December 28, 2002                                                          |  | 29,658,660       |  | $ 30   |  | $ -                   |  | $ 213,482                          |  | $ (10,200)                         |  | $ (46,083)             
|Accrued interest on note receivable                                                   |  | -                |  | -      |  | -                     |  | -                                  |  | (615)                              |  | -                      
|Issuance of common stock ($8.77 to $9.11
    per share), net of issuance costs        |  | 88,595           |  | -      |  | -                     |  | 1,186                              |  | -                                  |  | -                      
|Common stock options exercised ($3.13 to
    $10.86 per share), including tax benefit |  | 316,166          |  | -      |  | -                     |  | 2,732                              |  | -                                  |  | -                      
|Net income                                                                            |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | 1,593                  
|Foreign currency translation adjustment                                               |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | -                      
|Recognition of hedge results to interest
    expense during the period, net of tax    |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | -                      
|Change in market value of cash flow hedge
    during the period, net of tax           |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | -                      
|                                                                                      |  |                  |  |        |  |                       |  |                                    |  |                                    |  |                        
|Balance at December 27, 2003                                                          |  | 30,063,421       |  | 30     |  | -                     |  | 217,400                            |  | (10,815)                           |  | (44,490)               
|Accrued interest on note receivable                                                   |  | -                |  | -      |  | -                     |  | -                                  |  | (601)                              |  | -                      
|Issuance of common stock ($9.37 to $10.92
    per share), net of issuance costs       |  | 76,676           |  | -      |  | -                     |  | 771                                |  | -                                  |  | -                      
|Common stock options exercised ($4.25
    to $12.56 per share)                        |  | 326,604          |  | -      |  | -                     |  | 2,858                              |  | -                                  |  | -                      
|Net loss                                                                              |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | (40,019)               
|Foreign currency translation adjustment                                               |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | -                      
|Purchase of outstanding shares                                                        |  | (1,977,800)      |  | -      |  | (24,999)              |  | -                                  |  | -                                  |  | -                      
|Unrealized gain on available-for-sale
    securities                                  |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | -                      
|                                                                                      |  |                  |  |        |  |                       |  |                                    |  |                                    |  |                        
|Balance at January 1, 2005                                                            |  | 28,488,901       |  | 30     |  | (24,999)              |  | 221,029                            |  | (11,416)                           |  | (84,509)               
|Accrued interest on note receivable                                                   |  | -                |  | -      |  | -                     |  | -                                  |  | (635)                              |  | -                      
|Issuance of common stock ($7.30 to $7.49
    per share), net of issuance costs        |  | 120,521          |  | -      |  | -                     |  | 1,399                              |  | -                                  |  | -                      
|Common stock options exercised ($4.25 to
    $12.63 per share)                        |  | 449,612          |  | 1      |  | -                     |  | 4,217                              |  | -                                  |  | -                      
|Net income                                                                            |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | 3,185                  
|Foreign currency translation adjustment                                               |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | -                      
|Purchase of outstanding shares                                                        |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | -                      
|Unrealized loss on available-for-sale
    securities                                  |  | -                |  | -      |  | -                     |  | -                                  |  | -                                  |  | -                      
|Balance at December 31, 2005                                                          |  | 29,059,034       |  | $ 31   |  | $ (24,999)            |  | $ 226,645                          |  | $ (12,051)                         |  | $ (81,324)             
|                                                                                      |  |                  |  |        |  |                       |  |                                    |  |                                    |  |                        
|                                                                                      |  |                  |  |        |  |                       |  |                                    |  |                                    |  |                        



The accompanying notes are an integral part of these consolidated financial statements



---

WILD OATS MARKETS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

|FISCAL YEAR                                                                                  |          | 2005 |            | 2004 |          | 2003
|-------------------------------------------------------------------------------------------- | -------- | ---- | ---------- | ---- | -------- | ----
|                                                                                             |          |      |            |      |          |     
|CASH FLOWS FROM OPERATING ACTIVITIES:                                                        |          |      |           
|Net income (loss)                                                                            | $ 3,185  |      | $ (40,019) |      | $ 1,593 
|Adjustments to reconcile net income (loss) to
    net cash provided by operating activities: |          |      |            |      |         
|Depreciation and amortization                                                                | 26,288   |      | 27,917     |      | 27,851  
|Loss on disposal of property and equipment                                                   | 187      |      | 187        |      | 2,087   
|Deferred tax expense                                                                         | 402      |      | 26,851     |      | 295     
|Restructuring and asset impairment charges (income), net                                     | 3,967    |      | 2,461      |      | (1,099) 
|Interest on related party note                                                               | (635)    |      | (601)      |      | (615)   
|Stock-based compensation                                                                     | 507      |      | 710        |      | 392     
|Income tax benefit from employee stock option exercises                                      | -        |      | -          |      | 238     
|Accretion on debt issuance costs                                                             | 709      |      | -          |      | -       
|Loss on early extinguishment of debt                                                         | 559      |      | -          |      | -       
|Change in assets and liabilities:                                                            |          |      |            |      |         
|Inventories, net                                                                             | (8,055)  |      | (8,223)    |      | 755     
|Receivables, net and other assets                                                            | 1,125    |      | (1,831)    |      | (855)   
|Accounts payable                                                                             | 1,573    |      | 3,844      |      | 10,001  
|Accrued liabilities and other liabilities                                                    | 1,630    |      | 5,301      |      | 5,743   
|                                                                                             |          |      |            |      |         
|Net cash provided by operating activities                                                    | 31,442   |      | 16,597     |      | 46,386  
|                                                                                             |          |      |            |      |         
|CASH FLOWS FROM INVESTING ACTIVITIES:                                                        |          |      |            |      |         
|Capital expenditures                                                                         | (28,345) |      | (49,105)   |      | (34,062)
|Purchase of short-term investments                                                           | (3,398)  |      | (26,797)   |      | -       
|Sale of short-term investments                                                               | -        |      | 15,653     |      | -       
|Proceeds from sale of property and equipment                                                 | 96       |      | 1,012      |      | 346     
|                                                                                             |          |      |            |      |         
|Net cash used in investing activities                                                        | (31,647) |      | (59,237)   |      | (33,716)
|                                                                                             |          |      |            |      |         
|CASH FLOWS FROM FINANCING
    ACTIVITIES:                                                    |          |      |            |      |         
|Net repayments under line-of-credit agreement                                                | -        |      | (30,179)   |      | (13,800)
|Net increase (decrease) in book overdraft                                                    | 26       |      | (3,402)    |      | 3,949   
|Proceeds from long-term debt                                                                 | -        |      | 115,150    |      | 37,879  
|Repayments on notes payable, long-term debt
    and capital leases                           | (285)    |      | (226)      |      | (37,346)
|Payment of debt issuance costs                                                               | (331)    |      | (3,717)    |      | (721)   
|Proceeds from issuance of common stock, net                                                  | 5,110    |      | 2,858      |      | 3,288   
|Purchase of treasury stock                                                                   | -        |      | (24,999)   |      | -       
|                                                                                             |          |      |            |      |         
|Net cash provided by (used in) financing activities                                          | 4,520    |      | 55,485     |      | (6,751) 
|                                                                                             |          |      |            |      |         
|Effect of foreign exchange rates on cash                                                     | 264      |      | 426        |      | 114     
|                                                                                             |          |      |            |      |         
|Net increase in cash and cash equivalents                                                    | 4,579    |      | 13,271     |      | 6,033   
|Cash and cash equivalents at beginning of year                                               | 30,671   |      | 17,400     |      | 11,367  
|                                                                                             |          |      |            |      |         
|Cash and cash equivalents at end of year                                                     | $ 35,250 |      | $ 30,671   |      | $ 17,400
|                                                                                             |          |      |            |      |         
|SUPPLEMENTAL DISCLOSURE OF CASH FLOW
    INFORMATION:                                        |          |      |            |      |         
|Cash paid for interest, net of amounts
    capitalized                                       | $ 4,294  |      | $ 2,108    |      | $ 3,168 
|                                                                                             |          |      |            |      |         
|Cash paid for income taxes                                                                   | $ 867    |      | $ 161      |      | $ 67    
|                                                                                             |          |      |            |      |         
|                                                                                             |          |      |            |      |         
|The accompanying notes are an integral part
    of these consolidated financial statements. 



---

WILD OATS MARKETS, INC.

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS



|1. | Organization and Summary of Significant
    Accounting Policies
|-- | ---------------------------------------------------------------



Organization. Wild Oats Markets, Inc. ("Wild Oats" or the
"Company"), headquartered in Boulder, Colorado, owns and operates natural and
organic foods supermarkets in the United States ("U.S.") and Canada. The Company
also operates bakeries, commissary kitchens, and warehouses that supply the retail stores.
The Companys operations are concentrated in one market segment, grocery stores, and
are geographically concentrated in the western and central parts of the United States.



Basis of presentation. Certain amounts in the prior years
financial statements have been reclassified to conform to the current year presentation.
These reclassifications have no impact on net income (loss).



Principles of consolidation. The Companys consolidated
financial statements include the accounts of the Company and its wholly-owned
subsidiaries. All significant intercompany accounts and transactions have been eliminated.



Fiscal year. The Company reports its financial results on a 52- or
53-week fiscal year ending on the Saturday closest to December 31. Fiscal years for the
consolidated financial statements included herein ended on December 31, 2005, January 1,
2005, and December 27, 2003. Fiscal 2005 was a 52-week year, fiscal 2004 was a 53-week
year and fiscal 2003 was a 52-week year.



Cash and cash equivalents. The Company considers all highly liquid
investments with an original maturity of three months or less to be cash equivalents.
Financial instruments which potentially subject the Company to concentration of credit
risk consist principally of cash and temporary cash investments. At times, cash balances
held at financial institutions were in excess of Federal Deposit Insurance Corporation
insurance limits. The Company places its temporary cash investments with high-credit
quality financial institutions. The Company believes no significant concentration of
credit risk exists with respect to these cash investments.



Short-term investments. Short-term investments have an original
maturity greater than three months and mature within one year from the date of purchase.
The amortized cost of debt securities are adjusted for amortization of premiums and
accretion of discounts to maturity computed under the effective interest method. Such
amortization is included in interest income. Realized gains and losses and declines in
value judged to be other-than-temporary on available-for-sale securities are included in
interest income. The cost of securities sold is based on the specific identification
method. Income and dividends on securities classified as available-for-sale are included
in interest income. Investments classified as available-for-sale are marked to market each
reporting period with the unrealized gain or loss reflected as a component of other
comprehensive income.



Available-for-sale investments consist of the following (in
thousands):



| | INVESTMENT TYPE                       |  | FISCAL 2005 |  | FISCAL 2004 | 
| | ------------------------------------- |  | ----------- |  | ----------- | 
| |                                       |  |             |  |             | 
| |                                       |  |             |  |             | 
| | Mortgage-backed securities            |  | $ 5,583     |  | $ 7,262     | 
| | Corporate debt securities             |  | 5,583       |  | 2,491       | 
| | Other debt securities                 |  | 3,356       |  | 1,391       | 
| |                                       |  |             |  |             | 
| | Total available-for- sale investments |  | $ 14,522    |  | $ 11,144    | 
| |                                       |  |             |  |             | 
| |                                       |  |             |  |             | 



As of fiscal years ended 2005 and 2004, the Company had gross
unrealized gains of $17,000 and $37,000, respectively, as a part of other comprehensive
income. The Company recorded $203,000, $50,000 and $0 in realized gains in interest income
during fiscal years ending 2005, 2004 and 2003, respectively, on short-term investments
reaching maturity.



Inventories. Store inventories are valued principally at the lower
of cost or market, with cost primarily determined under the retail method on a first in,
first out ("FIFO") basis. FIFO cost is determined using the retail method for
approximately 80% of inventories and using the item cost method for highly perishable
products representing approximately 20% of inventories. Under the retail inventory method,
the valuation of inventories at cost and the resulting gross margins are determined by
applying a cost-to-retail ratio for various categories of similar items to the retail
value of inventories. Inherent in the retail inventory method calculations are certain
management judgments and estimates, including shrinkage, which could impact the ending
inventory valuation at cost as well as the resulting gross margins. Certain other highly
perishable inventories are valued primarily at the lower of cost or market on a specific
item basis, with cost determined on a FIFO basis.



Property and equipment. Property and equipment are recorded at cost
and shown net of accumulated depreciation. Depreciation is computed on a straight-line
basis over the estimated useful lives of machinery and equipment (three to 10 years).
Leasehold improvements are amortized on a straight-line basis over the shorter of the
useful life of the asset or the appropriate lease term. Eligible internal-use software
development costs incurred subsequent to the completion of the preliminary project state
are capitalized and amortized over the estimated useful life of the software which is five
years. Major renewals and improvements are capitalized, while maintenance and repairs are
expensed as incurred. Upon sale or retirement of assets, the cost and related accumulated
depreciation or amortization are eliminated from the respective accounts and any resulting
gains or losses are reflected in operations. Applicable interest charges incurred during
the construction of assets are capitalized as one of the elements of cost and are
amortized over the assets estimated useful lives. All internal direct costs
associated with store construction are capitalized. Site specific development costs are
capitalized. Development costs related to a potential site subsequently determined to be
unfeasible are expensed when the determination is made.



Goodwill. Goodwill consists of the excess cost of acquired
companies over the sum of the fair market value of their underlying tangible and
identifible intangible assets acquired and liabilities assumed. With the adoption of SFAS
No. 142, Goodwill and Other Intangible Assets, the Company allocates goodwill to
one reporting unit and tests for impairment annually, or more frequently, if certain
indicators of impairment exist. The Companys annual evaluation for impairment was
made during the second quarter of each year, with the result being no impairment. This
evaluation requires management to exercise a high degree of judgment in developing
assumptions and fair value estimates used in the calculation, which have the potential of
significantly impacting the results.



Other intangible assets.Otherintangible assets consist
primarily of leasehold interests and liquor licenses. Amortization of leasehold interests
is computed on a straight-line basis over the appropriate lease term. Certain liquor
licenses, purchased at significant expense, in limited issue jurisdictions subject only to
minimal renewal costs are not amortized.



Debt issuance costs. Costs related to the issuance of debt are
capitalized and amortized to interest expense using the effective interest method over the
period the debt is outstanding.



Impairment of long-lived assets. The Company monitors the carrying
value of its long-lived assets, including finite lived intangible assets, for potential
impairment whenever changes in circumstance indicate a potential for impairment may exist.
The triggering events for evaluations of finite lived intangible assets include a
significant decrease in the market value of an asset, acquisition and construction costs
in excess of budget, or current store operating losses combined with a history of losses
or a projection of continuing losses. If an impairment is identified, based on
undiscounted future cash flows, the Company compares the assets future cash flows,
discounted to present value using a risk-adjusted discount rate, to its current carrying
value and records a provision for impairment as appropriate. With respect to equipment and
leasehold improvements associated with closed stores, the value of these assets is
adjusted to reflect recoverable values estimated based on the Companys previous
efforts to dispose of similar assets, with consideration for current economic conditions.



Restructuring and asset impairment costs. The Company plans to
complete store closures or sales within a one-year period following the commitment date.
Costs related to store closures and sales are reflected in the income statement as Restructuring
and Asset Impairment Charges. For stores the Company intends to sell, the Company
actively markets the stores to potential buyers. Stores held for disposal are reduced to
their estimated net realizable value. In accordance with the requirements of SFAS No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities,the Company
recognized such lease related costs on the store closing date. As of the date of the
commitment to close or relocate a store, depreciation of store assets is accelerated over
the remaining months of operation as necessary in order to bring their net carrying cost
down to net realizable value as of the date of closure.



Severance costs incurred in connection with store closings are recorded
when the employees have been identified and notified of the termination benefits to be
made to the employees.



Lease-related liabilities and the recoverability of assets to be
disposed of are reviewed quarterly, and changes in previous estimates are reflected in
operations. Significant cash payments associated with closed stores relate to ongoing
payments of rent, common area maintenance, insurance charges, and real property taxes as
required under continuing lease obligations.



Leases. The Company is the lessee of land and buildings under
long-term operating, capital, and financing leases which include scheduled increases in
minimum rents and renewal provisions at the option of the Company. For certain leases, the
Company also receives reimbursements from landlords to compensate for costs incurred by
the Company in the construction of stores. The lease term used in all lease accounting
calculations begins with the date the Company takes possession of the space, and ends on
the later of the expiration of the primary lease term or the expiration of any renewal
periods that are deemed to be reasonably assured at the inception of the lease. The
Company amortizes leasehold improvements and leasehold interests over the shorter of the
economic useful life of the asset or the lease term. The expense associated with leases
that have rent holidays and escalating payment terms is recognized on a straight-line
basis over the lease term. In evaluating the capital versus operating classification of
the lease, the Company uses the same lease term defined above in performing the tests
required by SFAS No. 13, Accounting for Leases.Tenant improvement allowances
received from a lessor are recorded as a deferred rent liability and recognized evenly as
a reduction to rent expense over the lease term.



Pre-opening expenses. Pre-opening costs are expensed as incurred
and typically include labor, rent, advertising, utilities, supplies and certain other
costs incurred prior to a stores opening.



Concentration of risk. In fiscal 2005, 37% of the Companys
cost of goods sold were purchased from its primary distributor, UNFI. The Companys
reliance on this supplier could be shifted, over a period of time, to alternative sources
of supply, should such changes be necessary. However, if the Company is unable to obtain
products from this supplier for factors beyond its control, the Companys operations
would be disrupted in the short term while alternative sources of product were secured.
The Companys receivables consist primarily of volume discounts and other vendor
incentive programs. Write-offs of accounts receivable in the fiscal years ending 2005,
2004, and 2003 were $18,000, $174,000 and $136,000, respectively. The Company establishes
an allowance for doubtful accounts based upon the age of the outstanding receivables and
as well as specific facts and circumstances surrounding known collection issues. This
allowance is deducted from the related receivables and reflected net in the accompanying
financial statements.



Revenue recognition. Revenue for sales of the Companys
products is recognized at the point of sale to the retail customer. Revenue from the sale
of gift cards is deferred until the card is presented for purchase of goods. Returns are
not significant. 96.8% of the Companys sales are attributable to the United States,
and 3.2% to Canada.



Cost of goods sold and occupancy costs. Cost of goods sold includes
all product and shipping costs associated with inventory sold during the period, net of
related vendor rebates, credits, and promotional allowances, and occupancy costs, which
include rents, utilities and store deprecation. In accordance with Emerging Issues Task
Force ("EITF") Issue No. 02-16, Accounting By a Customer (Including a
Reseller) for Cash Consideration Received from a Vendor, payments from a vendor other
than reimbursements for specific services such as advertising, are accounted for as a
reduction of the inventory carrying cost and are recorded in cost of goods sold when the
inventory is sold.



Advertising. Advertising is expensed as incurred. Advertising
expense was $12.7 million, $12.1 million and $14.5 million for fiscal 2005, fiscal 2004
and fiscal 2003, respectively. These amounts are net of vendor reimbursements received for
advertising of $5.7 million, $6.8 million and $6.3 million for fiscal years 2005, 2004,
and 2003, respectively.



Fair value of financial instruments. The carrying amounts of the
Companys financial instruments, including cash and cash equivalents, short-term
investments, trade receivables and payables, approximate their fair values due to the
short-term nature of the instruments. The fair value of the Companys long-term debt
approximates its carrying value due to the variable interest rate feature of the
instrument. Capital lease obligations approximate fair value, considering the rate at
which we present value those obligations have remained consistent over time and our
ability to borrow currently approximates that at which we entered into those obligations.



Use of estimates. The preparation of these financial statements in
conformity with generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from those estimates.



Foreign currency translation. The functional currency for the
Companys Canadian subsidiary is the Canadian dollar. Translation into U.S. dollars
is performed for assets and liabilities at the exchange rate as of the balance sheet date.
Income and expense accounts are translated at average exchange rates for the year.
Adjustments resulting from the translation are reflected as a separate component of other
comprehensive income. Translation adjustments are not tax-effected as they relate to
investments that are permanent in nature.



Self-insurance. The Company is self-insured for certain losses
relating to workers compensation claims, general liability and employee medical and
dental benefits. The Company has purchased stop-loss coverage in order to limit its
exposure to any significant levels of claims. Self-insured losses are accrued based upon
the Companys estimates of the aggregate uninsured claims incurred using certain
actuarial assumptions followed in the insurance industry and the Companys historical
experiences. A high degree of management judgment is required in developing these
estimates and assumptions, which have the potential for significantly impacting the
required reserve amounts.



Earnings per share. Earnings per share are calculated in accordance
with the provisions of SFAS No. 128, Earnings Per Share("SFAS No. 128").
SFAS No. 128 requires the Company to report both basic earnings per share, which is based
on the weighted-average number of common shares outstanding, and diluted earnings per
share, which is based on the weighted-average number of common shares outstanding and all
potentially dilutive common shares outstanding, except where the effect of their inclusion
would be antidilutive (i.e., in a loss period). Antidilutive stock options of 916,511,
591,559 and 1,120,319 for the fiscal years ended December 31, 2005, January 1, 2005, and
December 27, 2003, respectively, were not included in the earnings per share calculations.
The EITF of the Financial Accounting Standards Board ("FASB") concluded in Issue
No. 04-8, The Effect of Contingently Convertible Debt on Diluted Earnings per Sharethat
contingently convertible debt should be included in diluted earnings per share
computations using the if-converted method regardless of whether any of the conversion
contingencies have been met. During the second quarter of 2005, the Company irrevocably
elected to satisy 100% of the principal amount of the debentures in cash to be converted
on or after July 1, 2005. The Company maintains the right to satisfy the remainder of the
conversion obligation to the extent it exceeds the principal amount in cash or common
stock or any combination of cash and common stock. In calculating diluted earnings per
share for the fiscal years ended 2005 and 2004, no shares related to the debentures
conversion have been included as the effect would have been anti-dilutive.



Income taxes. The Company calculates a deferred tax expense or
benefit, net of valuation allowances equal to the change in the deferred tax asset or
liability during the year in accordance with SFAS No. 109 Accounting for Income Taxes.
Deferred tax assets and liabilities represent tax credit carryforwards and future net tax
effects resulting from temporary differences between the financial statement and tax basis
as assets and liabilities using enacted tax rates in effect for the year in which the
differences are expected to reverse, net of tax valuation allowances.



Stock-based compensation. At December 31, 2005, the Company had
five stock-based employee compensation plans, which are described more fully in Note 8
 Stock Plans and Options. The Company accounts for those plans in accordance
with the intrinsic value based method in Accounting Principles Board ("APB")
Opinion No. 25, Accounting for Stock Issued to Employees, and related
interpretations. Some stock-based employee compensation cost is reflected in net income
(loss) for options issued at a discount as Board of Directors compensation. All other
options granted under the plans had an exercise price equal to the market value of the
underlying common stock on the date of grant; therefore, no other employee compensation
cost is reflected in net income (loss). The following table illustrates the effect on net
income (loss) and earnings per share if the Company had applied the fair value recognition
provisions of SFAS No. 123, Accounting for Stock-Based Compensation, to stock-based
employee compensation.



| | FISCAL YEAR                                                                                                                      |  | 2005    |  | 2004       |  | 2003    
| | -------------------------------------------------------------------------------------------------------------------------------- |  | ------- |  | ---------- |  | --------
| |                                                                                                                                  |  |         |  |            |  |         
| |                                                                                                                                  |  |         |  |            |  |         
| | Net income (loss), as
    reported                                                                                               |  | $ 3,185 |  | $ (40,019) |  | $ 1,593 
| | Add: Stock-based employee compensation expense
    included in reported net income (loss), net of tax*                           |  | 507     |  | 457        |  | 205     
| | Deduct: Total stock-based employee
    compensation expense determined under fair value based method for all awards, net of tax* |  | (2,420) |  | (1,829)    |  | (2,587) 
| |                                                                                                                                  |  |         |  |            |  |         
| | Pro forma net income (loss)                                                                                                      |  | $ 1,272 |  | $ (41,391) |  | $ (789) 
| |                                                                                                                                  |  |         |  |            |  |         
| |                                                                                                                                  |  |         |  |            |  |         
| | Earnings (loss) per share:                                                                                                       |  |         |  |            |  |         
| | Basic  as reported                                                                                                              |  | $ 0.11  |  | $ (1.37)   |  | $ 0.05  
| |                                                                                                                                  |  |         |  |            |  |         
| | Basic  pro forma                                                                                                                |  | $ 0.04  |  | $ (1.42)   |  | $ (0.03)
| |                                                                                                                                  |  |         |  |            |  |         
| |                                                                                                                                  |  |         |  |            |  |         
| | Diluted  as reported                                                                                                            |  | $ 0.11  |  | $ (1.37)   |  | $ 0.05  
| |                                                                                                                                  |  |         |  |            |  |         
| | Diluted  pro forma                                                                                                              |  | $ 0.04  |  | $ (1.42)   |  | $ (0.03)
| |                                                                                                                                  |  |         |  |            |  |         
| |                                                                                                                                  |  |         |  |            |  |         



> * Amounts are net of a statutory tax rate which is not necessarily
>   indicative of our effective tax rate for the respective periods.

In February 2005, the Company approved the acceleration of all
non-director, non-officer options that were unvested with an exercise price of $9.00 or
higher, resulting in the accelerated vesting of an aggregate of 219,190 options. In
October 2005, the Company approved the acceleration of all of the unvested market-based
options, resulting in the acceleration of 11,596 options. The effect of the accelerated
vesting of these options is included in the SFAS No. 123 calculation above. The purpose of
this acceleration was driven by the Companys efforts to reduce non-cash compensation
expense that will be required beginning with the first quarter of 2006 in accordance with
SFAS No. 123R.



Derivatives and hedging activities. In accordance with the
Companys interest rate risk-management strategy and as required by the terms of the
Companys credit facility at the time, in September 2000, the Company entered into a
swap agreement to hedge the interest rate on $32.5 million of its borrowings. As interest
rates changed, the differential paid or received was recognized in interest expense during
the related period. The interest rate swap was carried at fair value and changes in fair
value are reported in Other Comprehensive Income. The swap agreement expired in August
2003. As of December 31, 2005, the Company had no derivative financial instruments.



The Company adopted SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities("SFAS No. 133"), on December 31, 2000.
In accordance with the transition provisions of SFAS No.133, as of December 31, 2000, the
Company recorded a net-of-tax cumulative loss adjustment to other comprehensive income
totaling $613,000 that relates to the fair value of the previously described cash flow
hedging relationship in 2003.



The Company's policy is to formally document all relationships between
hedging instruments and hedged items, as well as its risk-management objective and
strategy for undertaking various hedge transactions. This process includes linking all
derivatives that are designated as fair value, cash flow, or foreign currency hedges to
(1) specific assets and liabilities on the balance sheet or (2) specific firm commitments
or forecasted transactions. The Company also formally assesses (both at the hedges
inception and on an ongoing basis) whether the derivatives that are used in hedging
transactions have been highly effective in offsetting changes in the cash flows of hedged
items and whether those derivatives may be expected to remain highly effective in future
periods. When it is determined that a derivative is not (or has ceased to be) highly
effective as a hedge, the Company discontinues hedge accounting prospectively, as
discussed below.

The Company discontinues hedge accounting prospectively when (1) it
determines that the derivative is no longer effective in offsetting changes in the fair
value or cash flows of a hedged item (including hedged items such as firm commitments or
forecasted transactions); (2) the derivative expires or is sold, terminated, or exercised;
(3) it is no longer probable that the forecasted transaction will occur; (4) a hedged firm
commitment no longer meets the definition of a firm commitment; or (5) management
determines that designating the derivative as a hedging instrument is no longer
appropriate.



New accounting pronouncements. In December 2004, the FASB issued
SFAS No. 123 (revised 2004), Share-Based Payment ("SFAS No. 123R"). SFAS
No. 123R is a revision of SFAS No. 123, and supersedes APB Opinion No. 25. The new
standard establishes accounting standards for transactions in which an entity exchanges
its equity instruments for goods or services, including stock option and restricted stock
grants. Under SFAS No. 123R, the Company will be required to select a valuation technique,
or option-pricing model that meets the criteria as stated in the standard. Allowable
valuation models include a binomial model and the Black-Scholes model. The Company will
adopt the provisions of SFAS No. 123R in the first quarter of fiscal year 2006 using the
modified prospective application and the Black Scholes valuation model. The Company
currently anticipates expensing $1.8 million during 2006 as a result of the adoption of
SFAS No. 123R and changes we have made to our stock compensation incentives. The adoption
of SFAS No. 123R will require the Company to value unvested stock options granted prior to
its adoption of SFAS No. 123R under the fair value method and expense these amounts in the
income statement over the stock options remaining vesting period. In addition, SFAS
No. 123R will require the Company to reflect the tax savings resulting from tax deductions
in excess of expense reflected in its financial statements as a financing cash flow, which
will impact the Companys future reported cash flows from operating activities. The
Company intends to keep its broad-based stock option program in place, however, in
response to SFAS No. 123R , the Company has amended its Employee Stock Purchase Program
("ESPP") to decrease the discount on the price of shares to 5.0% and to apply
the discount to the price on the date in which the buy period closes each quarter.



In May 2005, the FASB issued SFAS No. 154, Accounting Changes and
Error Corrections("SFAS No. 154"). SFAS No. 154 requires restatement
of prior periods financial statements for changes in accounting principles, unless
it is impracticable to determine either the period-specific effects or the cumulative
effect of change. SFAS No. 154 also requires that retrospective application of a change in
accounting principle be limited to the direct effects of the change. SFAS No. 154 is
effective for accounting changes and corrections of errors made in fiscal years beginning
after December 15, 2005. The adoption of SFAS No. 154 is not expected to have a material
impact on the Companys Consolidated Financial Statements.

In October 2005, the FASB issued FASB Staff Position ("FSP") FSP No. FAS
13-1, Accounting for Rental Costs Incurred during a Construction Period ("FSP
No. FAS 13-1"). FSP No. FAS 13-1 requires rental costs associated with operating
leases that are incurred during a construction period to be recognized as rental expense.
FSP FAS No. 13-1 is effective for reporting periods beginning after December 15, 2005. The
transition provisions of FSP No. FAS 13-1 permit early adoption and retrospective
application of the guidance. The Company currently and has historically recognized these
costs as rental expense and therefore, the adoption of FSP No. FAS 13-1 will not have a
material effect on the Consolidated Financial Statements.





|2. | Property and Equipment
|-- | ----------------------



Property and equipment consist of the following (in thousands):



| | FISCAL YEAR ENDED                    |  | 2005      |  | 2004     
| | ------------------------------------ |  | --------- |  | ---------
| |                                      |  |           |  |          
| |                                      |  |           |  |          
| | Machinery and equipment              |  | $ 140,171 |  | $ 131,133
| | Buildings and leasehold improvements |  | 167,265   |  | 156,829  
| | Construction in progress             |  | 10,784    |  | 14,283   
| |                                      |  |           |  |          
| |                                      |  | 318,220   |  | 302,245  
| | Less accumulated depreciation        |  | (139,353) |  | (124,415)
| |                                      |  |           |  |          
| | Property and equipment, net          |  | $ 178,867 |  | $ 177,830
| |                                      |  |           |  |          
| |                                      |  |           |  |          



Depreciation expense related to property and equipment totaled
approximately $25.9 million, $27.8 million and $27.3 million in fiscal 2005, 2004 and
2003, respectively. Property and equipment includes approximately $244,000, $424,000, and
$439,000 of interest capitalized during the fiscal years 2005, 2004 and 2003,
respectively. Included primarily in the buildings and leasehold improvements are $33.4
million and $20.5 million which are accounted for as capital and financing leases in
fiscal 2005 and 2004, respectively. The related accumulated depreciation related to the
capital and financing leases is $9.5 million and $5.5 million at December 31, 2005 and
January 1, 2005, respectively. Increases in construction related accounts payable of $3.5
million and $2.9 million for 2005 and 2004, respectively, are excluded from the statement
of cash flows as non-cash items.



As a result of anticipated store closures, the Company accelerated
depreciation of its in-store assets and incurred charges of $553,000, $4.0 million, and
$3.8 million for the fiscal years ended 2005, 2004 and 2003, respectively. The effect of
suspending depreciation for assets held for disposal was $0 for fiscal 2005, 2004, and
2003, respectively.





|3. | Goodwill and Other Intangible Assets
|-- | ------------------------------------



During the first quarter of fiscal 2005, goodwill, net of accumulated
amortization, of $960,000 was written off resulting in an ending balance of $105.1
million. See Note 11  Restructuring and Asset Impairment Chargesfor further
details. No other changes in the carrying amount of goodwill occurred during 2005. During
fiscal 2004, the Company sold a retail store located in New York City that did not fit the
Companys real estate strategy or format for $900,000 in cash. Goodwill, net of
accumulated amortization associated with this store of $320,000 was written off, resulting
in an ending balance of $106.1 million for fiscal 2004.



Other intangible assets include the following (in thousands):



| | FISCAL YEAR ENDED                  |  | 2005    |  | 2004   
| | ---------------------------------- |  | ------- |  | -------
| |                                    |  |         |  |        
| |                                    |  |         |  |        
| | Leasehold interests (amortizable)  |  | $ 8,374 |  | $ 8,388
| | Less accumulated amortization      |  | (2,576) |  | (2,200)
| |                                    |  |         |  |        
| | Leasehold interests, net           |  | 5,798   |  | 6,188  
| | Liquor licenses (indefinite lived) |  | 324     |  | 303    
| |                                    |  |         |  |        
| |                                    |  | $ 6,122 |  | $ 6,491
| |                                    |  |         |  |        
| |                                    |  |         |  |        



Leasehold interests have weighted-average useful lives of 22.1 and 21.8
years for fiscal 2005 and 2004, respectively.



Amortization expense related to finite lived intangible assets was
$381,000, $259,000 and $194,000 in fiscal 2005, 2004 and 2003, respectively.



The estimated amortization of finite lived intangible assets for each
of the five fiscal years ending in fiscal 2010 is as follows (in thousands):



AMORTIZATIONFISCAL YEAR
    
    EXPENSE2006
    
    $ 3582007
    
    $ 3582008
    
    $ 3582009
    
    $ 3582010
    
    $ 358






|4. | Accrued Liabilities
|-- | -------------------



Accrued liabilities consist of the following (in thousands):



| | FISCAL YEAR ENDED                   |  | 2005     |  | 2004    
| | ----------------------------------- |  | -------- |  | --------
| |                                     |  |          |  |         
| |                                     |  |          |  |         
| | Wages and employee costs            |  | $ 24,185 |  | $ 20,979
| | Self-insurance liabilities          |  | 14,578   |  | 14,123  
| | Sales and personal property taxes   |  | 4,448    |  | 4,598   
| | Real estate costs                   |  | 4,285    |  | 8,447   
| | Deferred charges and other accruals |  | 5,858    |  | 5,007   
| |                                     |  |          |  |         
| |                                     |  | $ 53,354 |  | $ 53,154
| |                                     |  |          |  |         
| |                                     |  |          |  |         





|5. | Long-Term Debt
|-- | --------------



Long-term debt and capital leases outstanding consists of the following
(in thousands):



| | FISCAL YEAR ENDED                                                                                                                   |  | 2005          |  | 2004         
| | ----------------------------------------------------------------------------------------------------------------------------------- |  | ------------- |  | -------------
| |                                                                                                                                     |  |               |  |              
| |                                                                                                                                     |  |               |  |              
| | Capital leases                                                                                                                      |  | $ 20,165      |  | $ 20,225     
| | Financing lease obligations                                                                                                         |  | 13,488        |  | 13,705       
| | Contingent convertible senior
    debentures due May 15, 2034, bearing interest at an annual rate of 3.25%, issued at a
    premium |  | 115,142       |  | 115,150      
| |                                                                                                                                     |  |               |  |              
| |                                                                                                                                     |  | 148,795       |  | 149,080      
| | Less current portion                                                                                                                |  | (614)         |  | (405)        
| |                                                                                                                                     |  |               |  |              
| |                                                                                                                                     |  | $
    148,181 |  | $
    148,675
| |                                                                                                                                     |  |               |  |              
| |                                                                                                                                     |  |               |  |              





The maturities of long-term debt, financing lease obligations, and
capital leases are as follows (in thousands):





FISCAL YEAR
    
    MATURITIES2006
    
    $6142007
    
    6952008
    
    5042009
    
    5672010
    
    666Thereafter
    
    145,749Total
    
    $148,795






Financing lease obligations. The Company previously owned retail
space in two separate locations which it subsequently sold and leased back from the buyers
in fiscal 1999. The lease term for both leases is 25 years with four five-year optional
renewal periods. The Company is and has been operating a retail store in each location and
has been subleasing or attempting to sublease a substantial portion of the additional
leased space to other parties. Since the subleasing activity for these locations is
considered to be more than minor, the Company is prevented from applying normal sale
leaseback accounting treatment in accordance with SFAS No. 98, Accounting for Leases.As
a result, the original cost basis of the properties remains on the balance sheet and
continues to be depreciated. The proceeds received in connection with the sales of the
properties have been recorded as financing leases obligations with interest expense
calculated using the effective interest method.



Contingent convertible senior debentures. In June 2004, the Company
issued $115.0 million aggregate principal amount of its 3.25% Convertible Senior
Debentures due May 15, 2034 in a private placement. The debentures bear regular interest
at the annual rate of 3.25%, payable semiannually on May 15 and November 15 of each year
until May 15, 2011, after which date, no regular interest will be due. Commencing May 20,
2011 and ending November 14, 2011, and for any six-month period thereafter, contingent
interest will be due and payable in the amount of 0.25% of the average trading price of
the debentures during a specified period, if the average trading price of the debentures
equals or exceeds 125% of the principal amount of the debentures. Refer to Note 1
 Organization and Summary of Significant Accounting Policies for the
potentially dilutive impact of the convertible debentures on future periods.



During the second quarter of 2005, the Company made an irrevocable
election to pay the principal amount of debentures in cash upon conversion, however the
Company retains the ability to satisfy the remainder of any conversion payment in cash or
any combination of cash and common stock. According to their terms, the debentures are
callable and convertible into the Companys common stock prior to maturity at the
option of the holders under the following circumstances: (1) during any calendar
quarter commencing after June 30, 2004 and before March 31, 2029, if the last reported
sale price of our common stock is greater than or equal to 130% of the conversion price of
$17.70 per share for at least 20 trading days in the period of 30 consecutive trading days
ending on the last trading day of the proceeding calendar quarter; (2) at any time on
or after April 1, 2029 if the last reported sale price of our common stock on any date on
or after March 31, 2029 is greater than or equal to 130% of the conversion price;
(3) subject to certain limitations, during the five business-day period after any
five consecutive trading-day period in which the trading price per debenture for each day
of that period was less than 98% of the product of the conversion rate and the last
reported sale price of the Companys common stock; (4) if the Company calls the
debentures for redemption; (5) upon the occurrence of certain corporate transactions;
or (6) if the Company obtains credit ratings for the debentures, at any time when the
credit ratings assigned to the debentures are below specified levels. While a credit
rating has been issued for the debentures, the rating was not requested by the Company,
but initiated by the ratings agency. Therefore, a change in the current rating will not
trigger a call provision. The debentures were initially convertible into 56.5099 shares of
the Companys common stock per $1,000 principal amount, which is equivalent to $17.70
per share, for total initial underlying shares of 6,498,639. The conversion rate is
subject to adjustment upon the occurrence of specified events. Upon conversion, the
Company has made an irrevocable election to pay the principal amount of debentures in cash
and may satisfy the remainder of any conversion payment in common stock, cash or any
combination of cash and common stock. Pursuant to the underwriting agreement and within 90
days of issuance, the Company filed a shelf registration statement covering resales of the
debentures and the common stock issuable upon conversion thereof. The registration
statement was declared effective August 26, 2005.



On or after May 20, 2011, the Company may redeem for cash some or all
of the debentures at any time and from time to time, for a price equal to 100% of the
principal amount of the debentures plus accrued and unpaid contingent interest, if any.
Holders have the right to require the Company to repurchase any or all debentures for
cash, at a repurchase price equal to 100% of the principal amount of the debentures, plus
accrued and unpaid interest on: (1) May 15, 2011, May 15, 2014, and May 15, 2024; and (2)
the occurrence of change in control (as defined in the debenture).



The debentures are unsecured and un-subordinated obligations, and rank
equal in priority with all of the Companys existing and future unsecured and
un-subordinated indebtedness and senior in right of payment to all of its subordinated
indebtedness. The debentures will effectively rank junior to any of the Companys
secured indebtedness and any of its indebtedness that is guaranteed by its subsidiaries.
Payment of principal and interest on the debentures are structurally subordinated to the
liabilities of the Companys subsidiaries.



There are no financial covenants within the debenture agreement,
however, the Company paid penalty interest of 0.25% for the first 90 days of 2005 and
0.50% thereafter until the debentures were publicly registered on August 26, 2005. As of
December 31, 2005, all $305,102 in accrued additional interest to debenture holders due to
not having an effective registration statement within the specified timeframe had been
paid.



In 2004, total proceeds from the issuance were $115.2 million. The
Company used $25.0 million of the net proceeds to repurchase 1,977,800 outstanding shares
of its common stock, $31.2 million to pay the outstanding balance on its credit facility,
and approximately $3.7 million to pay related debt issuance costs.



Credit facility. On March 31, 2005, the Company entered into a
five-year revolving secured credit facility with Bank of America, N.A. (the "B of A
Facility"). Concurrent with the execution of the B of A Facility, the Company
terminated its existing $95.0 million credit facility (the "Wells Facility")
with Wells Fargo Bank N.A. as administrative agent. The B of A Facility allows borrowings
and letters of credit up to a maximum of $40.0 million, with an option to increase
borrowings up to $100.0 million, subject to a borrowing base determined by the value of
certain inventory, credit card receivables, invested cash and, at the Companys
discretion, mortgaged leaseholds. The B of A Facility is secured by certain assets
including, but not limited to, cash, inventory and fixed assets. Borrowings under the B of
A Facility bear interest, at the Companys election, at the prime rate or at London
Interbank Offering Rate ("LIBOR") plus a margin ranging from 1.00% to 1.50%,
depending on the excess borrowing availability over amounts borrowed. Interest rates are
determined quarterly. The Company is charged a commitment fee on the unused portion of the
B of A Facility. There are no financial covenants, other than the obligation to maintain a
certain percentage of minimum excess availability (as defined in the agreement) at all
times. The B of A Facility requires compliance on a monthly basis with certain
non-financial covenants, including limitations on incurring additional indebtedness and
making investments, the use and disposition of collateral, changes of control, as well as
cash management provisions. In conjunction with the debt refinancing, the Company wrote
off approximately $559,000 related to the remaining unamortized debt issuance cost from
the Wells Facility and capitalized debt issuance costs of approximately $331,000 as of
December 31, 2005, to be amortized over the life of the agreement using the effective
interest method. As of December 31, 2005, the Company had letters of credit outstanding
totaling $15.0 million which reduces our availability to approximately $25.0 million.



The Wells Facility was entered into in February of 2003 and was
terminated on March 31, 2005, with Wells Fargo Bank N.A. acting as lead bank and
administrative agent. The Wells Facility had a $95.0 million limit and a three-year term
with a one-year renewal option.





|6. | Income Taxes
|-- | ------------



Income (loss) before income taxes consists of the following (in
thousands):



| | FISCAL YEAR |  | 2005    |  | 2004       |  | 2003   
| | ----------- |  | ------- |  | ---------- |  | -------
| |             |  |         |  |            |  |        
| |             |  |         |  |            |  |        
| | Domestic    |  | $ 2,291 |  | $ (15,388) |  | $ 2,005
| | Foreign     |  | 1,463   |  | 1,207      |  | 682    
| |             |  |         |  |            |  |        
| |             |  | $ 3,754 |  | $ (14,181) |  | $ 2,687
| |             |  |         |  |            |  |        
| |             |  |         |  |            |  |        





Income tax expense (benefit) from continuing operations consists of the
following (in thousands):



| | FISCAL YEAR       |  | 2005  |  | 2004     |  | 2003   
| | ----------------- |  | ----- |  | -------- |  | -------
| |                   |  |       |  |          |  |        
| | Current:          |  |       |  |          |  |        
| | Federal           |  | $ -   |  | $ -      |  | $ 294  
| | State and foreign |  | 158   |  | 247      |  | 505    
| |                   |  |       |  |          |  |        
| |                   |  | 158   |  | 247      |  | 799    
| | Deferred:         |  |       |  |          |  |        
| | Federal           |  | -     |  | 23,498   |  | (86)   
| | State and foreign |  | 411   |  | 2,093    |  | 381    
| |                   |  |       |  |          |  |        
| |                   |  | 411   |  | 25,591   |  | 295    
| |                   |  |       |  |          |  |        
| |                   |  | $ 569 |  | $ 25,838 |  | $ 1,094
| |                   |  |       |  |          |  |        
| |                   |  |       |  |          |  |        





The differences between the U.S. federal statutory income tax rate and
the Companys effective tax rate are as follows:



| | FISCAL YEAR                                                                        |  | 2005    |  | 2004     |  | 2003  
| | ---------------------------------------------------------------------------------- |  | ------- |  | -------- |  | ------
| |                                                                                    |  |         |  |          |  |       
| | Statutory tax rate                                                                 |  | 34.0%   |  | 35.0%    |  | 35.0% 
| | State income taxes , net of federal income
    tax expense and valuation allowance |  | 3.0 %   |  | 2.8 %    |  | 2.7 % 
| | Foreign income taxes                                                               |  | 2.0 %   |  | (0.3)%   |  | -  %  
| | Expired tax attributes                                                             |  | 12.8 %  |  | (1.7)%   |  | 1.8 % 
| | State net operating loss true-up                                                   |  | (7.1)%  |  | -  %     |  | -  %  
| | Valuation allowance                                                                |  | (24.3)% |  | (216.1)% |  | -  %  
| | Tax rate change                                                                    |  | (4.6)%  |  | -  %     |  | -  %  
| | Permanent items                                                                    |  | 3.6 %   |  | -  %     |  | -  %  
| | Other, net                                                                         |  | (4.2)%  |  | (1.9)%   |  | 1.2 % 
| |                                                                                    |  |         |  |          |  |       
| | Effective tax rate                                                                 |  | 15.2%   |  | (182.2)% |  | 40.7 %
| |                                                                                    |  |         |  |          |  |       
| |                                                                                    |  |         |  |          |  |       



The effective tax rate for the fiscal year ended December 31, 2005 was
15.2% as compared to (182.2)% for fiscal 2004 and 40.7% for fiscal 2003. The Company
recorded no reversals of its valuation allowance for the 2005 fiscal year. The valuation
allowance amount above has been adjusted to account for the effect of the valuation
allowance change attributable to stock option deductions which will not create an income
tax benefit upon release of the valuation allowance, as described in further detail below.
The valuation allowance amount above also reflects the effect on the valuation allowance
of certain true-up adjustments to specific deferred tax assets and liabilities related to
the 2004 return to provision reconciliation.



The Companys income tax provision was computed based on the
federal statutory rate and the average state statutory rates, net of the federal benefit.
For fiscal 2005, the Company determined that the most appropriate federal tax rate should
be 34.0% (as opposed to 35.0%), due to an analysis of the average graduated rate that will
most likely apply as the Companys deferred tax assets are realized in future tax
years.



The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities are as follows (in
thousands):





| | FISCAL YEAR                              |  | 2005     |  | 2004     | 
| | ---------------------------------------- |  | -------- |  | -------- | 
| |                                          |  |          |  |          | 
| | Deferred tax assets:                     |  |          |  |          | 
| | Inventory-related                        |  | $ 354    |  | $ 309    | 
| | Vacation accrual                         |  | 2,304    |  | 2,659    | 
| | Real estate accruals                     |  | 14,340   |  | 12,127   | 
| | Net operating loss carryforward          |  | 19,392   |  | 20,376   | 
| | Contribution and credit carryforward     |  | 2,240    |  | 2,429    | 
| | Canadian property related                |  | 64       |  | -        | 
| | Workers compensation                     |  | 2,615    |  | 2,720    | 
| | Other                                    |  | 3,470    |  | 2,128    | 
| | Valuation allowance                      |  | (35,636) |  | (33,800) | 
| |                                          |  |          |  |          | 
| | Total deferred tax assets                |  | 9,143    |  | 8,948    | 
| |                                          |  |          |  |          | 
| | Deferred tax liabilities:                |  |          |  |          | 
| | Property-related                         |  | (5,169)  |  | (7,282)  | 
| | Mark-to-market of short-term investments |  | (1)      |  | (14)     | 
| | Convertible debt                         |  | (3,328)  |  | (1,234)  | 
| | Other                                    |  | (581)    |  | -        | 
| |                                          |  |          |  |          | 
| | Total deferred tax liabilities           |  | (9,079)  |  | (8,530)  | 
| |                                          |  |          |  |          | 
| | Net deferred tax asset                   |  | $ 64     |  | $ 418    | 
| |                                          |  |          |  |          | 
| |                                          |  |          |  |          | 





During fiscal 2005, 2004 and 2003, the Company recognized $0, $0, and
$238,000 respectively, directly to additional paid-in capital related to non-compensatory
stock plans. The valuation allowance against deferred tax assets increased by
approximately $1.8 million in fiscal 2005, however, a portion of such amount represents
future net operating loss deductions arising from tax-deductible stock compensation
expenses. If the entire valuation allowance is reversed in future periods, approximately
$1.3 million of the valuation allowance would not offset income tax expense as it
represents stock option deductions that must be credited directly to additional paid-in
capital, instead of income tax benefit.



As of December 31, 2005, the Company has net operating losses related
to the following tax jurisdictions and expiration periods that are available to offset
future taxable income: U.S. federal income tax loss carryforwards of approximately $41.2
million that begin to expire in 2021; various state income tax loss carryforwards of
approximately $124.2 million, a portion of which may begin to expire in 2006. In addition,
the Company has charitable carryforwards in the amount of $4.4 million that will begin to
expire in fiscal year 2006. Depending on the Companys taxable income in 2006, up to
$1.2 million of the charitable contribution carryforwards could expire.



As of December 31, 2005, the Company has certain income tax credit
carryforwards including the following: foreign tax credits of approximately $57,000,
alternative minimum tax credits of approximately $19,000 and work opportunity tax credits
of approximately $500,000. The foreign tax credits began to expire in 2005 ($20,000 of
foreign tax credits are expected to expire in 2005), while the alternative minimum tax
credits do not expire pursuant to the provisions of the Internal Revenue Code. The
remaining credits (work opportunity and welfare to work credits) have a twenty year
carryforward period and will begin to expire in 2020.



To determine whether to establish or retain the valuation allowance
against the Companys deferred tax assets, the Company performs quarterly assessments
of the realizability of its net deferred tax assets considering all available evidence,
both positive and negative, as outlined in SFAS No. 109, Accounting for Income Taxes.
As a result of this assessment, the Company concluded that it was more likely than not
that its net deferred tax assets would not be realized, and therefore established a
valuation allowance against its net deferred tax assets for the year ended January 1,
2005. The valuation allowance has been retained for the year ended December 31, 2005 as
the relative weights of the positive and negative evidence regarding realizability have
not changed enough to affect this determination.



At December 31, 2005, certain undistributed earnings of the
Companys Canadian operations totaling $6.7 million were considered to be permanently
reinvested. No deferred tax liability has been recognized for the remittance of such
earnings to the United States, since it is the Companys intention to utilize those
earnings in the foreign operations for an indefinite period of time, or to repatriate such
earnings only when tax efficient to do so. Determination of the amount of unrecognized
deferred U.S. income tax liability is not practicable; however, unrecognized foreign tax
credits may be available to reduce some portion of the U.S. income tax liability. The
Company has no foreign operations other than Canada.



Considering the information in the note above, and after careful
evaluation whether to repatriate certain dividends from Canada under the provisions of the
American Job Creation Act of 2004 ("AJCA"), the Company has chosen not to
repatriate any of its foreign earnings from its Canadian affiliate in 2005.





|7. | Capital Stock
|-- | -------------



Authorized preferred stock consists of 5,000,000 shares of which none
was outstanding during 2005, 2004, or 2003. Authorized common stock consists of 60,000,000
shares at $0.001 par value. Common stock outstanding at year end 2005 was 29.1 million
shares (net of 2.0 million shares of treasury stock). As of December 31, 2005, total
common shares reserved for issuance under the Companys five stock-based employee
compensation plans described in Note 8  Stock Plans and Options was
5,466,220.



In June 2004, the Company issued $115.0 million aggregate principal
amount of its 3.25% Convertible Senior Debentures due May 15, 2034 in a private placement.
During the second quarter of 2005, the Company made an irrevocable election to pay the
principal amount of debentures in cash upon conversion, however the Company retains the
ability to satisfy the remainder of any conversion payment in cash or any combination of
cash and common stock. The debentures are callable and convertible into the Companys
common stock prior to maturity at the option of the holders. The debentures were initially
convertible into 56.5099 shares of the Companys common stock per $1,000 principal
amount, which is equivalent to $17.70 per share, for total initial underlying shares of
6,498,369. The Company filed a shelf registration statement covering resales of the
debentures and the common stock issuable upon conversion thereof in August 2004, and the
registration statement was declared effective August 26, 2005.



Treasury stock. In 2004, in connection with the convertible
debenture issuance, the Board of Directors of the Company authorized the repurchase of
1,977,800 outstanding shares for $25.0 million. The average price per share was $12.64 on
the date of purchase. There is no plan in place to purchase additional outstanding shares.





|8. | Stock Plans and Options
|-- | -----------------------



Employee Stock Purchase Plan. In August 1996, the Companys
board of directors approved and adopted an Employee Stock Purchase Plan ("Purchase
Plan") reserving 287,307 shares of common stock. The Purchase Plan is intended to
qualify as an employee stock purchase plan within the meaning of Section 423 of the
Internal Revenue Code. Under the Purchase Plan, the Board of Directors may authorize
participation by eligible employees, including officers, in periodic offerings. The
offering period for any offering will be no more than 27 months. The Board authorized an
offering commencing on the initial public offering date of October 22, 1996 and ending
June 30, 1997, and sequential six-month offerings thereafter. The Company obtained
shareholder approval in May 2001 to increase the pool of reserved stock by 500,000 shares.
As of December 31, 2005, 787,307 of shares are reserved, and 124,622 are available for
issuance.



Employees are eligible to participate in the currently authorized
offerings if they have been employed by the Company or an affiliate of the Company
incorporated in the United States for at least six months. Employees can have up to 15.0%
of their earnings withheld pursuant to the Purchase Plan and applied on specified purchase
dates (currently the last day of each authorized offering) to the purchase of shares of
common stock. In 2005, the price of common stock purchased under the Purchase Plan was
equal to 85.0% of the lower of the fair market value of the common stock on the
commencement date of each offering or the relevant purchase date. For the shares issued
during fiscal 2005, there were approximately $893,000 of payroll deductions of which
$892,000 were used to purchase 120,521 shares of common stock.



In 2006, the Employee Stock Purchase Plan has been modified in response
to the issuance of FAS 123R. The plan will now purchase shares of common stock on a
quarterly basis rather than semi-annually. Beginning in the first quarter of 2006, the
discount on the price of shares will be 5.0% and will be applied to the price of the
shares on the date in which the buy period closes each quarter.



1996 Equity Incentive Plan. The Companys Wild Oats Markets,
Inc. 1996 Equity Incentive Plan (the "1996 Plan") was adopted by the Board of
Directors in August 1996. As of December 31, 2005, 4,650,220 shares of common stock were
reserved for issuance under the 1996 Plan, and 493,968 shares were available for grant.
The 1996 Plan provides for the grant of incentive stock options to employees (including
officers and employee-directors) and nonqualified stock options, restricted stock and
restricted stock units ("RSUs") and stock bonuses to employees, directors and
consultants. The exercise price of options granted under the 1996 Plan is determined by
the Board of Directors, provided that the exercise price for an incentive stock option
cannot be less than 100% of the fair market value of the common stock on the grant date
and the exercise price for a nonqualified stock option cannot be less than 85.0% of the
fair market value of the common stock on the grant date. Outstanding options generally
vest over a period of four years and generally expire 10 years from the grant date.



In March 2004, the Board approved issuance of RSUs as a new alternative
compensation arrangement for non-employee board members annual service grants and
compensation for meeting attendance. RSUs issued in lieu of cash compensation vest
immediately, while those issued as an annual grant vest over a one-year period. The
Company records compensation expense based on the date upon which an RSU is granted, equal
to the fair market value of stock underlying the RSU on the date granted and recognizes
the expense over the vesting period.



2001 Non-Officer/Non-Director Equity Incentive Plan. In 2001, the
Company created the Wild Oats Markets, Inc. 2001 Nonofficer/Nondirector Equity Incentive
Plan, a nonqualified stock option plan (the "2001 Plan"). As of December 31,
2005, 486,000 shares of common stock were reserved for issuance under the 2001 Plan, and
options for 105,451 shares were available for grant. The 2001 Plan provides for the grant
of nonqualified stock options to employees of the Company who are not officers or
directors. The exercise price of options granted under the 2001 Plan is determined by the
Board of Directors, provided that the exercise price for a nonqualified stock option
cannot be less than 85.0% of the fair market value of the common stock on the grant date.
Outstanding options generally vest over four years and generally expire 10 years from the
grant date.



Individual stock option plans. At the end of 2005, Wild Oats
Markets, Inc. had a total of three individual nonqualified stock option plans. These
individual stock option plans were created during 2001 and 2005 as inducements to certain
executives to accept offers of employment with the Company. The total amount of shares
reserved for issuance and total options granted under the three plans is 330,000 shares.
Under each plan, the exercise price of the stock options is determined by the Board of
Directors, provided that the exercise price cannot be less than 85.0% of fair market value
of the common stock on the grant date. Outstanding options vest over a four-year period
with an expiration date 10 years from the date of grant. A fourth plan was created in 2006
with 100,000 shares reserved for issuance and granted thereunder.



Fair values. The fair value of the employees purchase rights
for the employee stock purchase plan was estimated using the Black-Scholes model with the
following weighted-average assumptions:



| | FISCAL YEAR                           | 2005  |  | 2004  |  | 2003 
| | ------------------------------------- | ----- |  | ----- |  | -----
| |                                       |       |  |       |  |      
| | Estimated dividends                   | None  |  | None  |  | None 
| | Expected volatility                   | 70%   |  | 73%   |  | 75%  
| | Risk-free interest rate               | 3.95% |  | 3.11% |  | 1.0% 
| | Expected life (years)                 | 0.5   |  | 0.5   |  | 0.5  
| | Weighted-average fair value per share | $3.55 |  | $2.10 |  | $4.40







The fair value of each option grant under the Companys aggregated
incentive and nonqualified stock option plans is estimated on the date of grant using the
Black-Scholes option-pricing model with the following weighted-average assumptions:



| | FISCAL YEAR                               | 2005  |  | 2004  |  | 2003 
| | ----------------------------------------- | ----- |  | ----- |  | -----
| |                                           |       |  |       |  |      
| | Estimated dividends                       | None  |  | None  |  | None 
| | Expected volatility                       | 70%   |  | 73%   |  | 75%  
| | Risk-free interest rate                   | 3.99% |  | 2.86% |  | 2.47%
| | Expected life (years)                     | 4.2   |  | 4.0   |  | 4.1  
| | Weighted-average fair value per
    share | $5.52 |  | $5.90 |  | $5.92





The fiscal 2005, 2004 and 2003 weighted-average grant date per share
fair values and weighted-average exercise prices of options granted equal to and below
market value on the date of grant are as follows:



| |                                       | Number
    of Options |  | Weighted-Average Fair
    Value |  | Weighted-Average Exercise
    Price
| | ------------------------------------- | --------------------- |  | ------------------------------- |  | -----------------------------------
| |                                       |                       |  |                                 |  |                                    
| |                                       |                       |  |                                 |  |                                    
| | Options granted below market value    | -                     |  | -                               |  | -                                  
| | Options granted equal to market value | 481,168               |  | $ 4.83                          |  | $ 9.10                             
| |                                       |                       |  |                                 |  |                                    
| | Total options granted fiscal 2005     | 481,168               |  | $ 4.83                          |  | $ 9.10                             
| |                                       |                       |  |                                 |  |                                    
| |                                       |                       |  |                                 |  |                                    
| | Options granted below market value    | 32,213                |  | $ 7.67                          |  | $ 9.68                             
| | Options granted equal to market value | 380,125               |  | $ 5.45                          |  | $ 11.86                            
| |                                       |                       |  |                                 |  |                                    
| | Total options granted fiscal 2004     | 412,338               |  | $ 5.62                          |  | $ 11.50                            
| |                                       |                       |  |                                 |  |                                    
| |                                       |                       |  |                                 |  |                                    
| | Options granted below market value    | 112,890               |  | $ 6.10                          |  | $ 8.79                             
| | Options granted equal to market value | 524,008               |  | $ 5.88                          |  | $ 10.25                            
| |                                       |                       |  |                                 |  |                                    
| | Total options granted fiscal 2003     | 636,898               |  | $ 5.92                          |  | $ 9.99                             
| |                                       |                       |  |                                 |  |                                    
| |                                       |                       |  |                                 |  |                                    



A summary of the status of the Companys aggregated incentive and
nonqualified stock options plans as of the 2005, 2004 and 2003 fiscal year ends and
changes during the years ending on those dates is presented below:



| |                                     | Number of Options |  | Weighted-Average
    Exercise Price | 
| | ----------------------------------- | ----------------- |  | ----------------------------------- | 
| |                                     |                   |  |                                     | 
| |                                     |                   |  |                                     | 
| | Outstanding as of December 28, 2002 | 3,431,436         |  | $ 10.30                             | 
| | Granted                             | 636,898           |  | $ 9.99                              | 
| | Forfeited                           | (405,883)         |  | $ 11.70                             | 
| | Exercised                           | (316,166)         |  | $ 7.90                              | 
| |                                     |                   |  |                                     | 
| | Outstanding as of December 27, 2003 | 3,346,285         |  | $ 10.30                             | 
| | Granted                             | 412,338           |  | $ 11.50                             | 
| | Forfeited                           | (469,312)         |  | $ 11.85                             | 
| | Exercised                           | (326,604)         |  | $ 8.19                              | 
| |                                     |                   |  |                                     | 
| | Outstanding as of January 1, 2005   | 2,962,707         |  | $ 10.55                             | 
| | Granted                             | 481,168           |  | $ 9.10                              | 
| | Forfeited                           | (425,107)         |  | $ 11.62                             | 
| | Exercised                           | (448,569)         |  | $ 9.39                              | 
| |                                     |                   |  |                                     | 
| | Outstanding as of December 31, 2005 | 2,570,199         |  | $ 10.19                             | 
| |                                     |                   |  |                                     | 
| |                                     |                   |  |                                     | 



The following table summarizes information about incentive and
nonqualified stock options outstanding and exercisable at December 31, 2005:



|OPTIONS
    OUTSTANDING |  | OPTIONS
    EXERCISABLE
|----------------------- |  | -----------------------
|                        |  |                        
|                        |  |                        
|Range Of                |  | Number                 
|Exercise Prices         |  | Outstanding            
|                        |  |                        
|$ 4.25  7.00           |  | 384,216                
|$ 7.01  8.50           |  | 558,345                
|$ 8.51  10.00          |  | 597,767                
|$ 10.01  12.00         |  | 540,810                
|$ 12.01  16.00         |  | 285,977                
|$ 16.01  26.50         |  | 203,084                
|                        |  |                        
|                        |  | 2,570,199              
|                        |  |                        



At December 31, 2005, 493,968 shares were available for future grant
under the 1996 Plan, and 105,451 shares were available for future grant under the 2001
Plan. At December 31, 2005, January 1, 2005 and December 27, 2003 options for 2,164,113,
2,224,275 and 2,081,800 shares with weighted-average exercise prices of $10.44, $10.46 and
$10.42, respectively, were exercisable. During 2005, 42,393 shares were granted out of the
1996 Equity Incentive Plan as RSUs. As of December 31, 2005, 75,914 RSUs are outstanding
and 47,914 shares are vested. Those grants are not considered in the above tables as
outstanding options, but reduce the amount available for grant from the 1996 Plan.





|9. | Litigation
|-- | ----------



Wild Oats Markets Canada, Inc., as successor to Alfalfa's Canada, Inc.,
a Canadian subsidiary of the Company, was a defendant in Helen Fakhri and Ady Aylon, as
Representative Plaintiffs v. Alfalfa's Canada, Inc., a class action suit for monetary
damages brought in the Supreme Court of British Columbia, Canada by the representative
plaintiffs on behalf of two groups of claimants - those who claim to have contracted
Hepatitis A allegedly through the consumption of food purchased at a Capers Community
Market ("Capers") in the spring of 2002, and those who were inoculated against
Hepatitis A in March and April, 2002, after handling and/or consuming food products from
Capers that were or might have been contaminated with Hepatitis A. In July 2005, the Court
approved a settlement agreement pursuant to which plaintiffs submitting proof of claim
received, at their election, either cash or a gift card, redeemable at the Companys
Canadian stores, in amounts determined by classification of the claimant within one of
three separate categories. The Company has exhausted its deductible, and its insurers have
provided coverage for excess defense and administrative costs and settlement liability.



Tim Auchterlonie, individually and on behalf of all others similarly
situated and the general public, and Roes 1 to 1000 vs. Wild Oats Markets, Inc. and Does 1
through 100, is a purported class action suit brought in August 2004 in the Superior
Court, County of Los Angeles, for payment of overtime and damages relating to alleged
violations of the California Business and Professions Code by a former store director
claiming that he should have been classified as an employee paid on an hourly basis,
together with other related claims. In mid-2005, five additional named plaintiffs were
added to the suit, and the trials of the original plaintiff and the new plaintiffs were
bifurcated. The Company believes that all of the named plaintiffs were correctly
classified as exempt employee based upon their job duties. The Company has settled with
the original plaintiff for an immaterial amount, and the trial date has been vacated. A
trial for the remaining plaintiffs has been set for third quarter 2006.



In June 2002 an administrative law judge ("ALJ") found
against us in Wild Oats Markets, Inc. and Local 371, United Food & Commercial
Workers, in certain unfair labor practice charges brought in connection with the
opening of our store in Westport, Connecticut. The Company appealed the ALJs
decision to the National Labor Relations Board ("NLRB"). In May 2005, the NLRB
denied the appeal and issued a Decision and Order, setting forth certain equitable,
injunctive and monetary remedies to be undertaken by the Company, including payment of
backpay less interim earnings, and offers of employment to certain former employees of a
store that the Company previously sold in 2000 (the "Sold Store"). The Company
agreed to reinstate one former employee and paid an immaterial amount to settle the claims
of ten named individuals in the ruling. The NLRB has indicated that there may be liability
to other employees from the Sold Store for certain periods that such individuals were
unemployed. The Company is currently evaluating whether to appeal the remainder of the
Decision.



The Company also is named as defendant in various actions and
proceedings arising in the normal course of business. In all of these cases, the Company
is denying the allegations and is vigorously defending against them and, in some cases,
has filed counterclaims. Although the eventual outcome of the various lawsuits cannot be
predicted, it is managements opinion that these lawsuits will not result in
liabilities that would materially affect the Companys consolidated results of
operations, financial position, or cash flows.





|10. | Leases and Other
    Commitments and Contingencies
|--- | --------------------------------------------------



The Company has numerous leases related to facilities and store
equipment. The initial lease term is usually between 10 and 20 years, and generally
includes renewal options for varying terms thereafter, as well as rent escalation clauses.
Certain store leases may require additional rental payments contingent upon sales volume
for the particular store ("contingent rentals").



Future minimum lease payments under noncancelable leases as of December
31, 2005 are summarized as follows (in thousands):

| | FISCAL YEAR                                     |  | Operating Leases |  | Capital Leases |  | Financing Leases
| | ----------------------------------------------- |  | ---------------- |  | -------------- |  | ----------------
| |                                                 |  |                  |  |                |  |                 
| | 2006                                            |  | $ 36,703         |  | $ 2,090        |  | $ 1,443         
| | 2007                                            |  | 35,463           |  | 1,971          |  | 1,443           
| | 2008                                            |  | 33,115           |  | 1,890          |  | 1,443           
| | 2009                                            |  | 30,684           |  | 1,946          |  | 1,450           
| | 2010                                            |  | 29,467           |  | 1,961          |  | 1,485           
| | Thereafter                                      |  | 233,470          |  | 39,730         |  | 21,174          
| |                                                 |  |                  |  |                |  |                 
| | Total minimum lease payments                    |  | $ 398,902        |  | 49,588         |  | 28,438          
| |                                                 |  |                  |  |                |  |                 
| | Less amount representing
    interest           |  | (29,423)         |  | (14,950)      
| | Present value of net minimum
    lease payments |  | 20,165           |  | 13,488        
| | Less current portion                            |  |                  |  | (375)          |  | (239)           
| |                                                 |  |                  |  |                |  |                 
| | Long term portion                               |  |                  |  | $ 19,790       |  | $ 13,249        
| |                                                 |  |                  |  |                |  |                 





Minimum rentals shown above do not include contingent rental payments.
Total rent expense (consisting of base rent and contingent rent) under these leases was
$34.4 million, $35.6 million and $33.9 million during fiscal 2005, 2004, and 2003,
respectively. Total contingent rentals paid during these same periods was $867,000, $1.0
million, and $1.0 million respectively. Sublease income received for fiscal years 2005,
2004, and 2003 was $2.9 million, $2.0 million, and $1.9 million, respectively.



Included in the $398.9 million of minimum lease payments is $27.9
million, which is related to lease costs for closed stores. The Company is actively
working to reduce these payments through assignments, subleases or terminations of the
lease obligations.

Future minimum sublease rental income payments to be received as of December 31, 2005
are as follows (in thousands):





Fiscal Year
    
    Sublease Rental Income2006
    
    2,4242007
    
    2,3702008
    
    1,7882009
    
    1,6192010
    
    1,067Thereafter
    
    6,316Total
    
    $ 15,584






As of December 31, 2005, the Company had commitments under construction
contracts totaling $3.1 million. The Company is self-insured for certain losses relating
to workers compensation claims, general liability, and employee medical and dental
benefits. The Company has purchased stop-loss coverage in order to limit its exposure to
any significant levels of claims. Self-insured losses are accrued based upon the
Companys estimates of the aggregate uninsured claims incurred using certain
actuarial assumptions followed in the insurance industry and the Companys historical
experiences. If the Company experiences an increase in claims, if actuarial assumptions
are inaccurate, or insurance industry costs increase beyond current expectations, then
additional reserves may be required.





|11. | Restructuring and Asset
    Impairment Charges (Income)
|--- | -------------------------------------------------------



Fiscal 2005



During fiscal 2005, the Company recorded restructuring and asset
impairment expense of $4.0 million consisting of the following components (in thousands):



| | Changes in estimate related to
    lease-related liabilities for sites previously identified for closure (including
    accretion) |  | $ 230  
| | ---------------------------------------------------------------------------------------------------------------------------------- |  | -------
| | Estimate related to lease-related
    liabilities for sites identified for closure during fiscal 2005                              |  | 1,273  
| | Severance for employees                                                                                                            |  | 134    
| | Asset impairment charges                                                                                                           |  | 1,370  
| | Write off of goodwill                                                                                                              |  | 960    
| |                                                                                                                                    |  |        
| | Total restructuring and
    asset impairment expense                                                                               |  | $ 3,967
| |                                                                                                                                    |  |        





Details of the significant components are as follows:



Changes in estimates related to lease-related liabilities for sites
previously identified for closure. During 2005, the Company had changes in estimates
for locations closed during previous fiscal years for reasons including brokerage fees for
obtaining a subtenant and additional rent expense when expected subtenancy arrangements
took more time to complete than originally expected. Throughout 2005, we determined that
additional time to dispose of vacant sites would require adjusting our estimates for
changes in facts and circumstances by $230,000 consisting of the following: Accretion
expense for lease terms estimated using the present value of future minimum lease terms of
$469,000; additional time estimated for obtaining viable subtenants of $1.1 million offset
by approximately $1.3 million which includes the reversal of an existing accrual for a
potential litigation relating to a location in Missouri, and other subtenancy adjustments.



Estimates related to lease-related liabilities for sites identified for
closure during 2005. During 2005, the Company closed one store in Oregon, one
commissary kitchen in Arizona, a regional office in California, and relocated two stores;
one in Oregon and one store in Arizona. Certain locations had remaining lease periods for
which the Company is responsible for paying future rent. Related to these closures and
relocations, the Company accrued for the period of time that best estimates the remaining
lease liabilities and closures costs.



Severance for employees notified of termination during 2005. During
the fiscal year, 88 employees were notified of their involuntary termination in
conjunction with the closing of one store a commissary kitchen, and a regional office, and
the relocation of two stores. The costs of termination for the year were $134,000. As of
December 31, 2005, all $134,000 of the benefits had been paid to terminated employees. In
addition, $192,000 was also paid to terminated employees related to accruals from the
prior year.



Asset impairment charges In addition to the restructuring expense
described above, management also identified asset impairment charges of $884,000 in
accordance with the provisions of SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets for two stores held for use. These assets became
impaired during the second quarter of fiscal 2005 because the projected cash flows of each
store at the time were not sufficient to fully recover the carrying value of the
stores long-lived assets. In determining whether an impairment exists, the Company
estimates the stores future cash flows on an undiscounted basis, and if the cash
flows are not sufficient to recover the carrying value, then the Company uses a discounted
cash flow based on a risk-adjusted discount rate, to adjust its carrying value of the
assets and records a provision for impairment as appropriate. The Company continually
reevaluates its stores performance to monitor the carrying value of its long-lived
assets in comparison to projected cash flows. In addition to the amounts written off
related to the cash flow analysis, the Company wrote off assets related to sites
identified for future store locations that were subsequently determined insuitable. Other
assets originally designated to be transferred from closed stores were deemed no longer
useful and written off.



During 2005, 2004, and 2003, the Company incurred $553,000, $4.0
million, and $3.8 million, respectively, of charges for accelerated depreciation for
planned store closures. The costs are included in "Costs of Goods Sold and Occupancy
Costs" in the Statements of Operations.





Fiscal 2004



During fiscal 2004, the Company recorded restructuring and asset
impairment expense of $2.5 million consisting of the following components (in thousands):



| | Changes in estimate related to
    lease-related liabilities for sites previously identified for closure (including
    accretion) |  | $ 104  
| | ---------------------------------------------------------------------------------------------------------------------------------- |  | -------
| | Estimate related to lease-related
    liabilities for sites identified for closure during fiscal 2004                              |  | 566    
| | Severance for employees                                                                                                            |  | 754    
| | Asset impairment charges                                                                                                           |  | 1,037  
| |                                                                                                                                    |  |        
| | Total restructuring and
    asset impairment expense                                                                               |  | $ 2,461
| |                                                                                                                                    |  |        



Details of the significant components are as follows:



Changes in estimates related to lease-related liabilities for sites
previously identified for closure. During 2004, the Company incurred changes in
estimates for locations closed during previous fiscal years, such as the addition or loss
of a subtenant, brokerage fees for obtaining a subtenant, or if expected subtenancy
arrangements take additional time to complete than originally expected. Throughout 2004,
we determined that additional time to dispose of vacant sites would require adjusting our
estimates for changes in facts and circumstances by $104,000 consisting of the following:
Accretion expense for lease terms estimated using the present value of future minimum
lease terms of $531,000; additional time estimated for obtaining viable subtenants of $1.1
million and the procurement of viable subtenants producing a reversal of previously
accounted for reserves of approximately $1.5 million, net of brokerage fees.



Estimates related to lease-related liabilities for sites identified for
closure during 2004. During 2004, we closed store locations in Washington, Oregon,
Florida and Arizona. Certain locations had remaining lease periods for which we are
responsible for paying future rent. We accrued $566,000 related to those store locations
based on our best estimate of the future lease periods during which we will be obligated
to pay rent.



Severance for employees notified of termination during 2004. During
the fiscal year, 162 employees were terminated in conjunction with the closing of stores
and a reorganization of our Home Office functions. The employees were notified of their
involuntary termination approximately one month before the store closure. The costs of
termination for the year were $754,000. As of January 1, 2005, $556,000 of involuntary
termination benefits had been paid to terminated employees.



Asset impairment charges. Management also identified asset
impairment charges of $1.0 million in accordance with the provisions of SFAS No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets for three stores held for
use. These assets became impaired during our quarterly assessments during fiscal 2004
because the projected cash flows of each store at the time were not sufficient to fully
recover the carrying value of the stores long-lived assets.





Fiscal 2003



During fiscal 2003, the Company recorded restructuring and asset
impairment income of $1.3 million consisting of the following components (in thousands):



| | Change in estimate related to lease-related
    liabilities for sites previously identified for closure or sale |  | $ (2,376)
| | --------------------------------------------------------------------------------------------------------------- |  | ---------
| | Changes in estimates related to
    lease-related liabilities for sites closed during 2003                      |  | 188      
| | Insurance settlement received for impaired
    assets previously written off                                    |  | (250)    
| | Severance for employees terminated during
    fiscal 2003                                                       |  | 232      
| | Asset impairment charges                                                                                        |  | 947      
| |                                                                                                                 |  |          
| | Total restructuring and
    asset impairment income                                                             |  | $ (1,259)
| |                                                                                                                 |  |          



Details of the significant components are as follows:



Changes in estimates related to lease-related liabilities for sites
previously identified for closure. During 2003, the Company incurred changes in
estimates for locations closed during previous fiscal years, such as the addition or loss
of a subtenant, brokerage fees for obtaining a subtenant, or if expected subtenancy
arrangements took additional time to complete than originally expected. Throughout 2003,
we determined that additional time to dispose of vacant sites would require adjusting our
estimates for changes in facts and circumstances by $(2,376,000) consisting of the
following: The Company secured viable subtenants for locations in Arizona, California (4),
Oregon and Tennessee. As a result, the Company recorded restructuring income of
$(3,451,000) to reduce the accruals to the estimated required amounts. Additionally, the
Company was able to secure agreements with the landlords to reduce required rents already
recorded for resulting in $(893,000) of additional income. This was offset by a
restructuring charge of $87,000 for the costs associated with restoring a space to its
original condition for a location previously included in a restructuring charge, and
additional time estimate adjustments for obtaining viable subtentants of $1,881,000.



Changes in estimates related to lease-related liabilities for sites
closed during 2003. During 2003, the Company determined that a store in Tennessee
should be closed. The store location had future lease-related obligations totaling
$188,000.



Severance for employees notified of termination during 2003. In
conjunction with the closings of stores or support facilities, we involuntarily terminated
77 people during fiscal 2003. The closing of a store in Tucson, Arizona, a warehouse in
San Diego, California and a restaurant operating within a store in West Vancouver, British
Columbia, resulted in 40 employees being notified of their involuntary termination. The
closure of two stores in Irvine and Los Angeles, California resulted in 37 employees being
notified of their involuntary termination. As of January 1, 2005, all of the involuntary
termination benefits accrued had been paid to terminated employees.



Insurance settlement received for impaired assets previously written
off. The Company received $250,000 in insurance proceeds as partial reimbursement for
property losses and incremental expenses incurred during the first quarter of 2003 caused
by a roof collapse at a support facility in Federal Heights, Colorado. The support
facility had been previously identified for closure during fiscal 2001, and the carrying
value of its fixed assets was written off as an impairment charge at that time. Therefore,
the Company recorded a gain in the amount of the insurance proceeds received of $250,000.



Asset impairment charges. Management also identified asset
impairment charges of $947,000 in accordance with the provisions of SFAS No. 144, Accounting
for the Impairment or Disposal of Long-Lived Assets for two stores held for
use. These assets became impaired during the third quarter of fiscal 2003 because the
projected cash flows of each store at the time were not sufficient to fully recover the
carrying value of the stores long-lived assets



Sales and store contribution to profit (sales less cost of goods sold,
occupancy costs, and direct store expenses) for the fiscal years ended December 31, 2005,
January 1, 2005, and December 27, 2003 for stores that were held for disposal are as
follows (in thousands):



| | FISCAL YEAR                  |  | 2005    |  | 2004     |  | 2003     
| | ---------------------------- |  | ------- |  | -------- |  | ---------
| | Sales                        |  | $ 5,884 |  | $ 13,043 |  | $ 10,562 
| | Store contribution to profit |  | $ (137) |  | $ (999)  |  | $ (1,899)





The following table summarizes accruals related to the Companys
restructuring activities during fiscal 2005, 2004 and 2003 (in thousands):



|                          |                | 
|------------------------- | -------------- | 
|                          |                | 
|EXIT PLANS                | 2002 And Prior | 
|                          |                | 
|BALANCE, 1-01-05          | $
    6,665    | 
|                          |                | 
|                          |                | 
|Severance expense         | -              | 
|Lease-related expense     | 114            | 
|Cash paid :               |                | 
|Severance                 | -              | 
|Lease-related liabilities | (429)          | 
|Provision adjustments     | -              | 
|                          |                | 
|BALANCE, 04-02-05         | $
    6,350    | 
|                          |                | 
|                          |                | 
|Severance expense         | -              | 
|Lease-related expense     | (465)          | 
|Cash paid:                |                | 
|Severance                 | -              | 
|Lease-related liabilities | (408)          | 
|Provision adjustments     | 656            | 
|                          |                | 
|BALANCE, 07-02-05         | $
    6,133    | 
|                          |                | 
|                          |                | 
|Severance expense         | -              | 
|Lease-related expense     | 8              | 
|Cash Paid:                |                | 
|Severance                 | -              | 
|Lease related liabilities | (330)          | 
|Provision adjustments     | 75             | 
|                          |                | 
|BALANCE, 10-01-05         | $
    5,886    | 
|                          |                | 
|                          |                | 
|Severance expense         | -              | 
|Lease-related expense     | 28             | 
|Cash paid:                |                | 
|Severance                 | -              | 
|Lease-related liabilities | (372)          | 
|Provision adjustments     | -              | 
|                          |                | 
|BALANCE, 12-31-2005       | $ 5,542(1)     | 
|                          |                | 
|                          |                | 

> 





As of December 31, 2005, the Companys restructuring balances consist of $2.0
    million in accrued liabilities and other long-term obligations of $5.4 million.





|12. | 401(k) Plan
|--- | -----------



The Company maintains a tax-qualified employee savings and retirement
plan (the "401(k) Plan") covering the Company's employees. Pursuant to the
401(k) Plan, eligible employees may elect to reduce their current compensation by up to
the lesser of 90% of their annual compensation or the statutorily prescribed annual limit
($14,000 in fiscal 2005) and have the amount of such reduction contributed to the 401(k)
Plan. Employees over age 50 may also contribute an additional $4,000 (in fiscal 2005)
"catch-up" contribution. The 401(k) Plan provides for additional matching
contributions to the 401(k) Plan by the Company in an amount determined by the Company
prior to the end of each plan year. Total Company contributions during fiscal 2005, 2004
and fiscal 2003 were approximately $1.1 million, $1.2 million and $1.3 million,
respectively. The trustees of the 401(k) Plan, at the direction of each participant,
invest the assets of the 401(k) Plan in designated investment options. The 401(k) Plan is
intended to qualify under Section 401 of the Internal Revenue Code.



In January 2002, the Company was notified by its 401(k) trustee that
effective April 1, 2002, the trustee would no longer provide trustee services for 401(k)
plans. The Company selected a new plan administrator and a new trustee after extensive
research and interviews. In the fourth quarter of fiscal 2002, the Company was notified by
its new plan administrator that it was selling its business without the Companys
consent (as required by the then-current contract). The Company elected to terminate its
contract and selected Milliman USA as its new plan administrator. The plan accounts were
transferred to Milliman and Company employees were notified that they would be unable to
make withdrawals from or change the investment designations of their accounts until the
transfer was completed. The transfer was completed in January 2003. The Company also
amended its 401(k) Plan in fiscal 2003 and fiscal 2004 to modify the eligibility
requirements.In fiscal 2003, the Company completed an audit of one of the record
keeping practices of one of its past plan administrators. The Company completed its
comprehensive review of past administrative practices of its 401(k) Plan during the third
quarter of fiscal 2004. As a result, in November 2004, the Company filed a voluntary
correction plan with the Internal Revenue Service related to the 401(k) Plan. Pursuant to
the Companys audit in 2004, the Company determined that it was obligated to
contribute an estimated $1.2 million, inclusive of earnings, to the 401(k) Plan to correct
certain past administrative practices dating back to 1999, of which $1.0 million was
included in direct store expense and $200,000 was included in selling, general and
administrative expense. During the second quarter of 2006 pursuant to communications with
the IRS, the reserve was reduced by $200,000 allocated between direct store expense and
selling, general and administrative expense.





|13. | Stockholder Rights Plan
|--- | -----------------------



The Company has a stockholder rights plan having both
"flip-in" and "flip-over" provisions. Stockholders of record as of May
22, 1998 received the right ("Right") to purchase a fractional share of
preferred stock at a purchase price of $145 for each share of common stock held. In
addition, until the Rights become exercisable as described below and in certain limited
circumstances thereafter, the Company will issue one Right for each share of common stock
issued after May 22, 1998. For the "flip-in provision," the Rights would become
exercisable only if a person or group acquires beneficial ownership of 15% (the
"Threshold Percentage") or more of the outstanding common stock. Holdings of
certain existing affiliates of the Company are excluded from the Threshold Percentage. In
that event, all holders of Rights other than the person or group who acquired the
Threshold Percentage would be entitled to purchase shares of common stock at a substantial
discount to the then-current market price. This right to purchase common stock at a
discount would be triggered as of a specified number of days following the passing of the
Threshold Percentage. For the "flip-over" provision, if the Company was acquired
in a merger or other business combination or transaction, the holders of such Rights would
be entitled to purchase shares of the acquirors common stock at a substantial
discount. In February 2002, the rights plan was amended to remove certain provisions
related to continuing control of modification and operation of the rights plan by certain
directors.





|14. | Deferred Compensation Plan
|--- | --------------------------



Effective in fiscal 1999, the Company maintains a nonqualified Deferred
Compensation Plan (the "DCP") for certain members of management. Eligible
employees may contribute a portion of base salary or bonuses to the plan annually. The DCP
provides for additional matching contributions by the Company in an amount determined by
the Company prior to the end of each plan year. Total Company matching contributions to
the DCP during fiscal 2005, 2004 and 2003 were approximately $59,000, $85,000 and $84,000,
respectively. On December 31, 2004, in response to the AJCA, which mandated modifications
to Treasury regulations applicable to deferred compensation, the Company froze the
then-existing DCP participants accounts, and created new participants
accounts, effective January 1, 2005. The Company is administering a new DCP in good faith
compliance with currently issued rules and will establish the new plan document once final
regulations, promulgated under the American Jobs Creation Act, are issued





|15. | Comprehensive Income
|--- | --------------------



The components of other comprehensive income consist of unrealized
gains and losses on available-for-sale securities, adjustments related to a cash flow
hedge, and foreign currency translation adjustments, all reported  net of tax.
Comprehensive income has been disclosed in the statement of comprehensive income (loss)
for all periods presented.



The components of accumulated other comprehensive income for fiscal
years ending 2005, 2004, and 2003 are as follows (in thousands):



|                                                                       |  | Foreign Currency
    Translation Adjustments |  | Unrealized Gain On
    Available-For Sale Securities |  | Cash Flow Hedge
    Adjustments |  | Total    
|---------------------------------------------------------------------- |  | -------------------------------------------- |  | ---------------------------------------------------- |  | ------------------------------- |  | ---------
|                                                                       |  |                                              |  |                                                      |  |                                 |  |          
|Balance at December 28, 2002                                           |  | $ (449)                                      |  | $       -                                            |  | $  (593)                        |  | $ (1,042)
|Foreign currency translation adjustment                                |  | 697                                          |  | -                                                    |  | -                               |  | 697      
|Recognition of hedge results to interest
    expense during the period |  | -                                            |  | -                                                    |  | 613                             |  | 613      
|Change in market value of cash flow hedge
    during the period        |  | -                                            |  | -                                                    |  | (20)                            |  | (20)     
|                                                                       |  |                                              |  |                                                      |  |                                 |  |          
|Balance at December 27, 2003                                           |  | 248                                          |  | -                                                    |  | -                               |  | 248      
|                                                                       |  |                                              |  |                                                      |  |                                 |  |          
|Foreign currency translation adjustment                                |  | 681                                          |  | -                                                    |  | -                               |  | 681      
|Unrealized gain on available-for-salesecurities                        |  | -                                            |  | 37                                                   |  | -                               |  | 37       
|                                                                       |  |                                              |  |                                                      |  |                                 |  |          
|Balance at January 1, 2005                                             |  | 929                                          |  | 37                                                   |  | -                               |  | 966      
|                                                                       |  |                                              |  |                                                      |  |                                 |  |          
|Foreign currency translation adjustment                                |  | 294                                          |  | -                                                    |  | -                               |  | 294      
|Unrealized gain on available-for-sale
    securities                   |  | -                                            |  | (20)                                                 |  | -                               |  | (20)     
|                                                                       |  |                                              |  |                                                      |  |                                 |  |          
|Balance at December 31, 2005                                           |  | $ 1,223                                      |  | $ 17                                                 |  | $       -                       |  | $ 1,240  
|                                                                       |  |                                              |  |                                                      |  |                                 |  |          
|                                                                       |  |                                              |  |                                                      |  |                                 |  |          





|16. | Related Party Transactions
|--- | --------------------------



In September 2002, the Company filed suit against Michael Gilliland and
Elizabeth Cook, former officers and directors and greater than 5% stockholders of the
Company, together with two individuals and three limited liability corporations, for a
temporary restraining order and damages related to a breach of Mr. Gillilands
non-competition covenant, contained in his 1996 employment agreement, arising from the
opening of a competitive grocery store in New Mexico. The lawsuit was captioned Wild
Oats Markets, Inc. v. Michael C. Gilliland, Elizabeth C. Cook, Mark R. Clapp; Patrick
Gilliland, Westside Farmers Market LLC, Westside Liquors LLC and Milagro Cafe LLC.
A related suit was filed against Mr. Gilliland and his brother, Patrick Gilliland, for
misappropriation of trade secrets and insider trading related to Patrick Gillilands
postings on a financial chat board. The parties agreed to settle these two lawsuits in
July 2004. The settlement includes the disclosure to the Company of sources of certain
information obtained by defendants, a return of proprietary information to the Company,
mutual release of claims and the dismissal of the two suits.



Perry D. Odak. In May 2002, the Companys Board of Directors
amended the employment agreement of Perry D. Odak, the Companys CEO and President,
to extend through December 2002 the period during which the issuance by the Company of
additional securities as part of an equity financing would entitle Mr. Odak to receive up
to 300,000 stock options exercisable for the Companys common stock. In March 2002,
Mr. Odak was issued options to purchase 5,856 shares of common stock under a provision of
his employment agreement that provided for the maintenance of his 5% equity position in
the event of a capital-raising transaction, based upon the issuance of 111,269 shares of
common stock, the resale of which was registered on Form S-3 filed in April 2002. In
August 2002, the Companys Board of Directors approved a third amendment to Mr.
Odaks employment agreement, pursuant to which up to 70,000 of the stock options to
which Mr. Odak would be entitled under his employment agreement as a result of the closing
of a capital-raising transaction could be granted to other employees of the Company
designated by Mr. Odak. The options would only be granted upon the closing of the
capital-raising transaction, have a 10-year term, vest over four years and have an
exercise price equal to the closing price of the Companys stock on the date the
capital-raising transaction was concluded. An equal number of options would be granted
simultaneously to Mr. Odak, provided that the options granted to Mr. Odak would only be
exercisable as the options granted to other employees terminated (as opposed to expired)
without exercise.



As a result of the completion of an equity offering of 4.45 million
shares of the Companys common stock in September 2002, the Company issued options
exercisable for 164,211 shares of the Companys stock to Mr. Odak pursuant to the
terms of his employment agreement. An additional 70,000 options, to which Mr. Odak would
have been entitled under his employment agreement, were issued to executives of the
Company designated by Mr. Odak. The Company also issued an additional 70,000 options to
Mr. Odak, provided that the options granted to Mr. Odak are only exercisable as the
options granted to the designated executives under the third amendment to Mr. Odaks
employment agreement terminate (as opposed to expire) without exercise. The Company also
made a matching grant of 70,000 additional options from the Companys 1996 Equity
Incentive Plan to the same executives. The Company may incur quarterly compensation
expense, based on any increase in the then-current stock price over the exercise price, as
a result of the issuance of the initial 70,000 options (as opposed to the Companys
matching grant of 70,000 additional options) to the designated executives and Mr. Odak.



In 2004, the Compensation Committee of the Board of Directors
recommended to the Company's Board, which approved in concept, a modification to Mr.
Odak's employment agreement to provide for the payment of the existing $9.2 million
supplemental bonus in the event of Mr. Odak's death or disability while employed by the
Company. Subsequently, the Compensation Committee recommended, and the Board approved in
concept a modification to the employment agreement to provide for a payment of a bonus of
approximately $1.6 million: (i) in the event Mr. Odak terminates his employment for Good
Reason, as defined in his employment agreement; (ii) in the event Mr. Odak is terminated
without Cause, as defined in the agreement; or (iii) in the event his employment agreement
is not renewed at the end of its initial term in 2006. The Company has acquired an
insurance policy for the benefit of the Company to cover Mr. Odak's death or disability in
the approximate amount of the supplemental bonus.



In March 2001, Mr. Odak purchased 1,332,649 shares of Common Stock for
$6.969 per share for an aggregate purchase price of $9.29 million. Mr. Odak paid $13,326
in cash and executed a full recourse, five-year promissory note for the balance of
$9,273,905 to the Company, with interest accruing at 5.5% per annum, compounding
semiannually. On February 19, 2006, pursuant to the termination of the five-year
promissory note, Mr. Odak sold 678,530 shares of Common Stock for $17.89 per share to the
Company. The Company repurchased the shares for $12,138,902, effectively relieving all
debt owed by Mr. Odak and reducing the number of shares outstanding by 678,530. The
repurchased shares will be reflected as treasury shares in the Companys consolidated
balance sheet.



As part of Mr. Odaks employment agreement, the Company agreed to
purchase his home in York, Pennsylvania if he was unable to sell it within a specific
period of time. In July 2001, the Company arranged for a relocation service to purchase
the home from Mr. Odak for $1.6 million. Despite substantial marketing efforts, the
relocation service was unable to sell the house for a reasonable price. In November 2002,
Mr. Odak offered to repurchase the house for the original $1.6 million he had received. At
December 28, 2002, Mr. Odak had remitted $1.35 million to the Company as partial
consideration to fund the purchase and the remaining funds were funded by Mr. Odaks
fiscal 2002 bonus of $250,000 to which he was contractually entitled. On March 6, 2003,
the Company remitted the $1.6 million to the relocation service received from Mr. Odak
related to this repurchase.



Other related parties. Mark A. Retzloff is a current member of the
Companys Board of Directors, and sits on its Real Estate Committee. Mr. Retzloff is
Chief Organic Officer of Aurora Organic Dairy, which derives 6% of its total revenues from
sales of organic milk to the Company under the Companys private label brand. Stacey
J. Bell, a current member of the Companys Board of Directors, is an indirect
employee of Ideasphere, Inc., which sells vitamins and supplements to the Company. Total
purchases from these vendors for the fiscal years ending 2005, 2004 and 2003 are $4.8
million, $2.7 million and $905,000, respectively. A majority of these purchases are made
primarily through our primary distributor, UNFI and therefore are indirect in nature.
These costs are all for inventory and the related costs of goods sold. As of the fiscal
years ending 2005 and 2004, the associated accounts payable balances were $112,000 and
$54,000, respectively.





|17. | Quarterly Information (Unaudited)
|--- | ---------------------------------



The following interim financial information presents the fiscal 2005 and 2004
consolidated results of operations on a quarterly basis (in thousands, except per-share
amounts):

| |                                                      |  | QUARTER ENDED
| | ---------------------------------------------------- |  | -------------
| |                                                      |  |              
| |                                                      |  | April 2,     
| | Statement of Operations Data                         |  | 2005         
| |                                                      |  |              
| |                                                      |  |              
| |                                                      |  |              
| | Sales                                                |  | $ 278,079    
| | Gross profit                                         |  | $ 80,256     
| | Net income (loss)                                    |  | $ (1,151)    
| |                                                      |  |              
| | Basic net income (loss) per common share             |  | $ (0.04)     
| |                                                      |  |              
| | Diluted net income (loss) per common share           |  | $ (0.04)     
| |                                                      |  |              
| | Basic weighted-average number of common
    shares   |  | 28,554       
| |                                                      |  |              
| | Diluted weighted-average number of common
    shares |  | 28,554       
| |                                                      |  |              
| |                                                      |  |              





| |                                                      |  | QUARTER ENDED
| | ---------------------------------------------------- |  | -------------
| |                                                      |  |              
| |                                                      |  | March 27,    
| | Statement of Operations Data                         |  | 2004         
| |                                                      |  |              
| |                                                      |  |              
| | Sales                                                |  | $ 263,795    
| | Gross profit                                         |  | $ 77,406     
| | Net income (loss)                                    |  | $ 2,069      
| |                                                      |  |              
| | Basic net income (loss) per common share             |  | $ 0.07       
| |                                                      |  |              
| | Diluted net income (loss) per common share           |  | $ 0.07       
| |                                                      |  |              
| | Basic weighted-average number of common
    shares   |  | 30,184       
| |                                                      |  |              
| | Diluted weighted-average number of common
    shares |  | 31,034       
| |                                                      |  |              
| |                                                      |  |              





Item 9.

CHANGES IN AND
DISAGREEMENTS WITH ACCOUNTANTS

ON ACCOUNTING AND FINANCIAL DISCLOSURE



Not applicable.





Item 9A.

CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

As of December 31, 2005, the Companys management, with the
participation if its Chief Executive Officer and Chief Financial Officer, reviewed and
evaluated the effectiveness of the design and operation of its disclosure controls and
procedures pursuant to in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange
Act of 1934, as amended. Based on this evaluation, the Chief Executive Officer and Chief
Financial Officer concluded that, as of the date of their evaluation, the Company's
disclosure controls and procedures were effective in ensuring that information required to
be disclosed in the reports that the Company files or submits under the Securities
Exchange Act of 1934 were accumulated and communicated to the Companys management,
including its Chief Executive Officer and its Chief Financial Officer, as appropriate, to
allow timely decisions to be made regarding required disclosure.

Report of Management on Internal Control over Financial Reporting

The management of the Company is responsible for establishing and
maintaining adequate internal control over the Company's financial reporting as defined in
Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934. Internal
control over financial reporting is the process designed to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of the Company's
financial statements for external purposes in accordance with accounting principles
generally accepted in the United States of America.



There are inherent limitations in the effectiveness of internal control
over financial reporting, including the possibility that misstatements may not be
prevented or detected. Accordingly, even effective internal controls over financial
reporting can provide only reasonable assurance with respect to financial statement
preparation. Furthermore, the effectiveness of internal controls can change with
circumstances.



Management has evaluated the effectiveness of internal control over
financial reporting as of December 31, 2005 in relation to criteria described in Internal
Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission ("COSO"). Based on management's assessment, management
concluded that the Company's internal control over financial reporting was effective as of
December 31, 2005.



Ernst & Young LLP, an independent registered public accounting
firm, has audited the financial statements that are included in this annual report and
expressed an opinion thereon. Ernst & Young LLP has also expressed an opinion on
management's assessment of, and the effective operation of internal control over financial
reporting as of December 31, 2005, which is contained under Item 8 of this report
under the heading "Report of Independent Registered Public Accounting Firm." The
attestation report is incorporated herein by reference.

Changes in Internal Control over Financial Reporting

There have been no changes in the Company's internal control over
financial reporting that occurred during the Company's fourth fiscal quarter that have
materially affected, or are reasonably likely to materially affect, the Company's internal
control over financial reporting.





Item 9B.

OTHER INFORMATION



None.





PART III.



Item 10.

DIRECTORS
AND EXECUTIVE OFFICERS OF THE REGISTRANT



The information included under the captions "Election of
Directors" and "Executive Compensation-Management-Executive Officers" in
our definitive Proxy Statement in connection with the Annual Meeting of stockholders to be
held May 2, 2006, to be filed with the Commission approximately April 1, 2006, is
incorporated herein by reference.





Item 11.

EXECUTIVE COMPENSATION



The information included under the caption "Executive
Compensation" in our definitive Proxy Statement in connection with the Annual Meeting
of stockholders to be held May 2, 2006, to be filed with the Commission approximately
April 1, 2006, is incorporated herein by reference.





Item 12.

SECURITY OWNERSHIPOF CERTAIN
BENEFICIAL OWNERS

AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS



The information included under the caption "Security Ownership of
Certain Beneficial Owners and Management" and "Equity Compensation Plan
Information" in our definitive Proxy Statement in connection with the Annual Meeting
of stockholders to be held May 2, 2006, to be filed with the Commission approximately
April 1, 2006, is incorporated herein by reference.





Item 13.

CERTAIN RELATIONSHIPSAND RELATED
TRANSACTIONS



The information included under the caption "Directors and
Executive Officers - Certain Transactions" in our definitive Proxy Statement in
connection with the Annual Meeting of stockholders to be held May 2, 2006 to be filed with
the Commission approximately April 1, 2006, is incorporated herein by reference.





Item 14.

PRINCIPAL ACCOUNTANT
FEES AND SERVICES

The information included under the caption "Principal Accountant
Fees and Services" in our definitive Proxy Statement in connection with the Annual
Meeting of stockholders to be held May 2, 2006, to be filed with the Commission
approximately April 1, 2006, is incorporated herein by reference.





PART IV.



Item 15.

EXHIBITS AND FINANCIAL
STATEMENT

SCHEDULES

|(a) | The following are filed as a part
    of this Report on Form 10-K:
|--- | ------------------------------------------------------------------
|    |                                                                   
|    | (1)                                                               
|    |                                                                   
|    |                                                                   
|    |                                                                   
|    |                                                                   
|    |                                                                   
|    |                                                                   
|    | (2)                                                               
|    | (3)                                                               
|    | Exhibit                                                           
|    | Number                                                            
|    |                                                                   
|    | 3(i).1.(a)**                                                      
|    | 3(i).1.(b)**                                                      
|    | 3(i).1.(c)**                                                      
|    | 3(ii).1**                                                         
|    | 4.1**                                                             
|    | 4.2**                                                             
|    | 4.3**                                                             
|    | 10.1**                                                            
|    | 10.2#**                                                           
|    | 10.3#**                                                           
|    | 10.4#**                                                           
|    | 10.5#**                                                           
|    | 10.6#**                                                           
|    | 10.7#**                                                           
|    | 10.8#**                                                           
|    | 10.9#**                                                           
|    | 10.10#**                                                          
|    | 10.11#**                                                          
|    | 10.12#**                                                          
|    | 10.13#**                                                          
|    | 10.14#**                                                          
|    | 10.15#**                                                          
|    | 10.16#**                                                          
|    | 10.17#**                                                          
|    | 10.18#**                                                          
|    | 10.19#**                                                          
|    | 10.20#**                                                          
|    | 10.21#**                                                          
|    | 10.22#**                                                          
|    | 10.23**                                                           
|    | 10.24**                                                           
|    | 10.25**                                                           
|    | 10.26#**                                                          
|    | 10.27#**                                                          
|    | 10.28#**                                                          
|    | 10.29#**                                                          
|    | 10.30#**                                                          
|    | 10.31#**                                                          
|    | 10.32**                                                           
|    | 10.33**                                                           
|    | 10.34**                                                           
|    | 10.35**                                                           
|    | 10.36**                                                           
|    | 10.37**                                                           
|    | 10.38**                                                           
|    | 10.39**                                                           
|    | 10.40**                                                           
|    | 10.41**                                                           
|    | 10.42**                                                           
|    | 10.43**                                                           
|    | 10.44**                                                           
|    | 10.45**                                                           
|    | 10.46**                                                           
|    | 10.47**                                                           
|    | 21.1**                                                            
|    | 23.1+                                                             
|    | 23.2                                                              
|    | 31.1+                                                             
|    | 31.2+                                                             
|    | 32.1+                                                             
|    | 32.2+                                                             
|    |                                                                   



|#    | Management Compensation Plan.                                                                                                                                                             
|---- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|**   | Previously filed.                                                                                                                                                                         
|+    | Included herewith.                                                                                                                                                                        
|(1)  | Incorporated by reference
    from the Registrants Form 10-K
    for the year ended December 28, 1996 (File No. 0-21577).                                                                
|(2)  | Incorporated by reference
    from the Registrants Amendment
    No. 2 to the Registration Statement on Form S-3 filed with the Commission on November 10,
    1999 (File No. 333-88011).
|(3)  | Incorporated by reference
    from the Registrants Registration
    Statement on Form S-1 (File No. 333-11261) filed on August 30, 1996.                                                 
|(4)  | Incorporated by reference
    from the Registrants Registration
    Statement on Form S-8 (File No. 333-66347) filed on October 30, 1998.                                                
|(5)  | Incorporated by reference
    from the Registrants Form
    10-K for the year ended December 29, 2001 (File No. 0-21577), filed on March 27, 2002.                                       
|(6)  | Incorporated by reference
    from the Registrants Form
    10-K for the year ended January 1, 2000 (File No. 0-21577).                                                                  
|(7)  | Incorporated by reference
    from the Registrants Form
    10-Q for the period ended March 31, 2001(File No. 0-21577).                                                                  
|(8)  | Incorporated by reference
    from the Registrants Form
    10-Q for the period ended June 30, 2001 (File No. 0-21577).                                                                  
|(9)  | Incorporated by reference
    from the Registrants Form
    10-Q for the period ended June 29, 2002(File No. 0-21577).                                                                   
|(10) | Incorporated by reference
    from the Registrants Form 8-K
    filed on May 5, 1998 (File No. 0-21577).                                                                                 
|(11) | Incorporated by reference
    from the Registrants Form
    10-K for the year ended December 28, 2002 (File No. 0-21577).                                                                
|(12) | Incorporated by reference
    from the Registrants Form
    10-K for the year ended December 27, 2003 (File No. 0-21577).                                                                
|(13) | Incorporated by reference
    from the Registrants report
    dated May 25, 2004 on Form 8-K (File No. 0-21577).                                                                         
|(14) | Incorporated by reference
    from the Registrants Form
    10-Q for the period ended June 26, 2004 (File No. 0-21577).                                                                  
|(15) | Incorporated by reference
    from the Registrants Registration
    Statement on Form S-3 filed with the Commission on August 20, 2004 (File No.
    333-18406).                         
|(16) | Incorporated by reference
    from the Registrants Form
    10-Q for the period ended September 25, 2004 (File No. 0-21577).                                                             
|(17) | Incorporated by reference
    from the Registrants Form
    10-Q for the period ended April 2, 2005 (File No. 0-21577).                                                                  





SIGNATURES



Pursuant to the requirements of Section 13 or 15(d) 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.



|                        | Wild Oats Markets, Inc.                     
|----------------------- | --------------------------------------------
|                        | (Registrant)                                
|                        |                                             
|                        |                                             
|Date: February 28, 2006 | By: /s/ Robert B. Dimond                    
|                        | Robert B. Dimond                            
|                        | Chief Financial Officer                     
|                        | (Principal Financial and Accounting Officer)







Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.





|SIGNATURE                | TITLE                                            | DATE             
|------------------------ | ------------------------------------------------ | -----------------
|                         |                                                  |                  
|/s/ Perry D. Odak        | Chief Executive Officer,                         | February 28, 2006
|                         | President and Director                           |                  
|                         | (Principal Executive
    Officer)                |                  
|                         |                                                  |                  
|/s/ Robert B.
    Dimond | Chief Financial
    Officer                      | February 28, 2006
|                         | (Principal Financial and
    Accounting Officer) |                  
|                         |                                                  |                  
|/s/ Robert G. Miller     | Chairman                                         | February 28, 2006
|                         |                                                  |                  
|/s/ Stacey J. Bell       | Director                                         | February 28, 2006
|                         |                                                  |                  
|/s/ David M. Chamberlain | Director                                         | February 28, 2006
|                         |                                                  |                  
|/s/ Brian K. Devine      | Director                                         | February 28, 2006
|                         |                                                  |                  
|/s/ David J. Gallitano   | Director                                         | February 28, 2006
|                         |                                                  |                  
|/s/ Mark A. Retzloff     | Director                                         | February 28, 2006
|                         |                                                  |                  
|/s/ John A. Shields      | Director                                         | February 28, 2006
|                         |                                                  |