**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,DC  20549**

 

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**FORM 10-Q**

 

**(Mark one)**
| **ý** | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934**                                                                                                                                                                                                                                             |
|------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|       |       |                                                                                                                                                                                                                                                                                                                                                |
| ** ** | ** ** | **For the quarterly period ended July 2, 2005**                                                                                                                                                                                                                                                                                                |
|       |       |                                                                                                                                                                                                                                                                                                                                                |
| **o**      | ** ** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934**                                                                                                                                                                                                                                            |
|       |       |                                                                                                                                                                                                                                                                                                                                                |
| ** ** | ** ** | **For the transition period from                         to                           .** |
|       |       |                                                                                                                                                                                                                                                                                                                                                |
| ** ** | ** ** | **Commission file number: 0-23633**                                                                                                                                                                                                                                                                                                                 |

 

**1-800 CONTACTS, INC.**

(Exact name ofregistrant as specified in its charter)

 
| **Delaware**                                                     | ** ** | **87-0571643**                        |
|------------------------------------------------------------------|------------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) |       | (I.R.S. Employer  Identification No.) |
|                                                             |       |                                  |
| **66 E.  Wadsworth Park Drive, 3rd Floor  Draper, UT**           | ** ** | **84020**                             |
| (Address of  principal executive offices)                        |       | (Zip Code)                            |

 

**(801) 924-9800**

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed allreports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorter periodthat the registrant was required to file such reports) and (2) has beensubject to such filing requirements for the past 90 days.

 

ý  Yes     o  No

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2of the Exchange act). 

ý  Yes     o  No

 

As of August 5, 2005, the Registrant had 13,320,964shares of Common Stock, par value $0.01 per share, outstanding.

 

 

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**1-800CONTACTS, INC.**

 

**INDEX**

 
| **PART I.**                     | **FINANCIAL  INFORMATION**                                                                                                       |   |   |
|--------------------------------------|----------------------------------------------------------------------------------------------------------------------------------|--------|--------|
| Item 1.                              | Financial Statements                                                                                                             |   |   |
|                                 | Condensed  Consolidated Balance Sheets as of January 1, 2005 And July 2, 2005                                          |   |   |
|                                 | Condensed  Consolidated Statements of Operations for the Quarter and Two Quarters Ended July 3,  2004 and July 2, 2005 |   |   |
|                                 | Condensed  Consolidated Statements of Cash Flows for the Two Quarters Ended July 3,  2004 and July 2, 2005             |   |   |
|                                 | Notes  to Condensed Consolidated Financial Statements                                                                            |   |   |
| Item 2.                              | Management’s Discussion and  Analysis of Financial Condition and Results of Operations                                      |   |   |
| Item 3.                              | Quantitative  and Qualitative Disclosures About Market Risk                                                                      |   |   |
| Item 4.                              | Controls and  Procedures                                                                                                         |   |   |
|                                 |                                                                                                                             |   |   |
| **PART II.  OTHER INFORMATION** |                                                                                                                             |   |
| Item 1.                              | Legal Proceedings                                                                                                                |   |   |
| Item 2.                              | Unregistered  Sales of Equity Securities and Use of Proceeds                                                                |   |   |
| Item 3.                              | Defaults  Upon Senior Securities                                                                                                 |   |   |
| Item 4.                              | Submission  of Matters to a Vote of Security Holders                                                                             |   |   |
| Item 5.                              | Other Information                                                                                                                |   |   |
| Item 6.                              | Exhibits                                                                                                                         |   |   |

 

2

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**PART 1.FINANCIAL INFORMATION**

**Item 1.  Financial Statements**

 

**1-800CONTACTS, INC.**

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

**(inthousands)**

**(unaudited)**

 
| ** **                                                            | ** ** | **January 1,** | ** ** | **July 2,** | ** ** |
|-----------------------------------------------------------------------|------------|---------------------|------------|------------------|------------|
| ** **                                                            | ** ** | **2005**            | ** ** | **2005**         | ** ** |
| **ASSETS**                                                            |       |                |       |             |       |
| CURRENT  ASSETS:                                                      |       |                |       |             |       |
| Cash                                                                  |       | $                   | 3,105      |             | $          | 646 |   |
| Accounts  receivable, net                                             |       | 3,178               |       | 3,965            |       |
| Other  receivables                                                    |       | 2,398               |       | 3,322            |       |
| Inventories,  net                                                     |       | 22,206              |       | 21,592           |       |
| Deferred  income taxes                                                |       | 1,328               |       | 1,535            |       |
| Other  current assets                                                 |       | 1,546               |       | 2,075            |       |
| Total  current assets                                                 |       | 33,761              |       | 33,135           |       |
| PROPERTY  AND EQUIPMENT, net                                          |       | 20,618              |       | 20,993           |       |
| DEFERRED  INCOME TAXES                                                |       | 720                 |       | 817              |       |
| GOODWILL                                                              |       | 34,320              |       | 33,975           |       |
| DEFINITE-LIVED  INTANGIBLES, net                                      |       | 17,897              |       | 15,976           |       |
| OTHER  ASSETS                                                         |       | 1,669               |       | 3,031            |       |
| Total  assets                                                         |       | $                   | 108,985    |             | $          | 107,927 |   |
|                                                                  |       |                |       |             |       |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                        |       |                |       |             |       |
| CURRENT  LIABILITIES:                                                 |       |                |       |             |       |
| Current  portion of long-term debt                                    |       | $                   | 1,632      |             | $          | 1,599 |   |
| Current  portion of capital lease obligations                         |       | 47                  |       | 44               |       |
| Income  taxes payable                                                 |       | 1,560               |       | 452              |       |
| Accounts  payable                                                     |       | 9,762               |       | 12,610           |       |
| Accrued  liabilities                                                  |       | 7,303               |       | 9,316            |       |
| Unearned  revenue                                                     |       | 3,500               |       | 3,178            |       |
| Total  current liabilities                                            |       | 23,804              |       | 27,199           |       |
| LONG-TERM  LIABILITIES:                                               |       |                |       |             |       |
| Line  of credit                                                       |       | 14,404              |       | 13,493           |       |
| Long-term  debt, net of current portion                               |       | 8,170               |       | 7,160            |       |
| Capital  lease obligations, net of current portion                    |       | 98                  |       | 75               |       |
| Deferred  income tax liabilities                                      |       | 1,458               |       | 545              |       |
| Unearned  revenue, net of current portion                             |       | 1,667               |       | —           |       |
| Other  long-term liabilities                                          |       | 880                 |       | 778              |       |
| Total  long-term liabilities                                          |       | 26,677              |       | 22,051           |       |
| STOCKHOLDERS’  EQUITY                                            |       |                |       |             |       |
| Common  stock, 13,299 and 13,321 issued and outstanding, respectively |       | 133                 |       | 133              |       |
| Additional  paid-in capital                                           |       | 46,061              |       | 46,966           |       |
| Deferred  compensation on restricted stock grants                     |       | (103                | )          | (700             | )          |
| Retained  earnings                                                    |       | 12,218              |       | 12,442           |       |
| Accumulated  other comprehensive income (loss)                        |       | 195                 |       | (164             | )          |
| Total  stockholders’ equity                                      |       | 58,504              |       | 58,677           |       |
| Total  liabilities and stockholders’ equity                      |       | $                   | 108,985    |             | $          | 107,927 |   |

 

See accompanying notes to condensed consolidatedfinancial statements.

 

3

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**1-800CONTACTS, INC.**

**CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS**

**(inthousands, except per share amounts)**

**(unaudited)**

 
| ** **                                                 | ** ** | **Quarter Ended** | ** ** | **Two Quarters Ended** | ** ** |
|------------------------------------------------------------|------------|-------------------|------------|------------------------|------------|
| ** **                                                 | ** ** | **July 3,**  | ** ** | **July 2,**       | ** ** | **July 3,** | ** ** | **July 2,** | ** ** |
| ** **                                                 | ** ** | **2004**          | ** ** | **2005**               | ** ** | **2004** | ** ** | **2005** | ** ** |
| NET  SALES                                                 |       | $                 | 49,971     |                   | $          | 61,365 |   | $ | 100,820 |   | $ | 121,648 |   |
| COST  OF GOODS SOLD                                        |       | 30,698            |       | 37,697                 |       | 62,251 |   | 75,472 |   |
| Gross  profit                                              |       | 19,273            |       | 23,668                 |       | 38,569 |   | 46,176 |   |
| SELLING,  GENERAL AND ADMINISTRATIVE EXPENSES:             |       |              |       |                   |       |   |   |   |   |
| Advertising                                                |       | 7,224             |       | 7,120                  |       | 16,039 |   | 13,658 |   |
| Legal  and professional                                    |       | 1,341             |       | 906                    |       | 3,181 |   | 2,190 |   |
| Research  and development                                  |       | 443               |       | 811                    |       | 1,335 |   | 1,866 |   |
| Purchased  in-process research and development             |       | —            |       | —                 |       | 83 |   | — |   |
| Other  selling, general and administrative                 |       | 10,766            |       | 12,304                 |       | 20,648 |   | 23,821 |   |
| Total  selling, general and administrative expenses        |       | 19,774            |       | 21,141                 |       | 41,286 |   | 41,535 |   |
| INCOME  (LOSS) FROM OPERATIONS                             |       | (501              | )          | 2,527                  |       | (2,717 | ) | 4,641 |   |
| OTHER  EXPENSE, net                                        |       | (699              | )          | (1,166                 | )          | (1,055 | ) | (1,807 | ) |
| INCOME  (LOSS) BEFORE BENEFIT (PROVISION) FOR INCOME TAXES |       | (1,200            | )          | 1,361                  |       | (3,772 | ) | 2,834 |   |
| BENEFIT  (PROVISION) FOR INCOME TAXES                      |       | 52                |       | (1,320                 | )          | 418 |   | (2,610 | ) |
| NET  INCOME (LOSS)                                         |       | $                 | (1,148     | )                      | $          | 41 |   | $ | (3,354 | ) | $ | 224 |   |
|                                                       |       |              |       |                   |       |   |   |   |   |
| PER  SHARE INFORMATION:                                    |       |              |       |                   |       |   |   |   |   |
| Basic  and diluted net income (loss) per common share      |       | $                 | (0.09      | )                      | $          | 0.00 |   | $ | (0.25 | ) | $ | 0.02 |   |

 

See accompanying notes to condensed consolidatedfinancial statements.

 

4

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**1-800 CONTACTS, INC.**

**CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

**(in thousands)**

**(unaudited)**

 
| ** **                                                                                           | ** ** | **Two Quarters Ended** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                                           | ** ** | **July 3,**       | ** ** | **July 2,** | ** ** |
| ** **                                                                                           | ** ** | **2004**               | ** ** | **2005** | ** ** |
| CASH  FLOWS FROM OPERATING ACTIVITIES:                                                               |       |                   |       |   |   |
| Net  income (loss)                                                                                   |       | $                      | (3,354     | ) | $ | 224 |   |
| Adjustments  to reconcile net income (loss) to net cash (used in) provided by operating  activities: |       |                   |       |   |   |
| Depreciation  and amortization                                                                       |       | 3,606                  |       | 4,291 |   |
| Amortization  of debt issuance costs and discounts                                                   |       | 197                    |       | 96 |   |
| Foreign  currency exchange loss                                                                      |       | 85                     |       | 1,060 |   |
| Stock-based  compensation                                                                            |       | 6                      |       | 44 |   |
| Purchased  in-process research and development                                                       |       | 83                     |       | — |   |
| Loss  on sale of property and equipment                                                              |       | 73                     |       | 107 |   |
| Deferred  income taxes, net of effects of acquisition                                                |       | (1,101                 | )          | (1,157 | ) |
| Changes  in operating assets and liabilities, net of effects of acquisition:                         |       |                   |       |   |   |
| Accounts  receivable, net                                                                            |       | (275                   | )          | (749 | ) |
| Inventories,  net                                                                                    |       | (706                   | )          | 399 |   |
| Other  receivables                                                                                   |       | (1,000                 | )          | (924 | ) |
| Other  current assets                                                                                |       | (382                   | )          | (651 | ) |
| Income  taxes payable                                                                                |       | 682                    |       | (1,008 | ) |
| Accounts  payable                                                                                    |       | (786                   | )          | 2,412 |   |
| Accrued  liabilities                                                                                 |       | 1,463                  |       | 2,534 |   |
| Unearned  revenue                                                                                    |       | (1                     | )          | (1,968 | ) |
| Net  cash (used in) provided by operating activities                                                 |       | (1,410                 | )          | 4,710 |   |
| CASH  FLOWS FROM INVESTING ACTIVITIES:                                                               |       |                   |       |   |   |
| Purchase  of property and equipment                                                                  |       | (3,406                 | )          | (3,473 | ) |
| Proceeds  from sale of property and equipment                                                        |       | 4                      |       | 27 |   |
| Purchase  of definite-lived intangible assets                                                        |       | (1,011                 | )          | (610 | ) |
| Cash  paid for acquisition of VisionTec                                                              |       | (3,776                 | )          | — |   |
| Deposits  and other                                                                                  |       | (186                   | )          | (1,610 | ) |
| Net  cash used in investing activities                                                               |       | $                      | (8,375     | ) | $ | (5,666 | ) |

 

5

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| ** **                                           | ** ** | **Two Quarters Ended** | ** ** |
|------------------------------------------------------|------------|------------------------|------------|
| ** **                                           | ** ** | **July 3,**       | ** ** | **July 2,** | ** ** |
| ** **                                           | ** ** | **2004**               | ** ** | **2005** | ** ** |
| CASH  FLOWS FROM FINANCING ACTIVITIES:               |       |                   |       |   |   |
| Proceeds  from exercise of common stock options      |       | $                      | 138        |   | $ | 162 |   |
| Net  borrowings (repayments) on line of credit       |       | 17,420                 |       | (911 | ) |
| Principal  payments on capital lease obligations     |       | (165                   | )          | (20 | ) |
| Debt  issuance costs                                 |       | (193                   | )          | — |   |
| Principal  payments on long-term debt                |       | (8,240                 | )          | (835 | ) |
| Net  cash provided by (used in) financing activities |       | 8,960                  |       | (1,604 | ) |
| EFFECT  OF FOREIGN EXCHANGE RATES ON CASH            |       | 80                     |       | 101 |   |
|                                                 |       |                   |       |   |   |
| NET  DECREASE IN CASH                                |       | (745                   | )          | (2,459 | ) |
| CASH  AT BEGINNING OF PERIOD                         |       | 1,075                  |       | 3,105 |   |
| CASH  AT END OF PERIOD                               |       | $                      | 330        |   | $ | 646 |   |
|                                                 |       |                   |       |   |   |
| SUPPLEMENTAL  CASH FLOW INFORMATION:                 |       |                   |       |   |   |
| Cash  paid for interest                              |       | $                      | 641        |   | $ | 509 |   |
| Cash  paid for income taxes                          |       | —                 |       | 4,775 |   |

 

SUPPLEMENTALDISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES:

 

During the firstquarter of 2004, the Company purchased the stock of VisionTec (subsequentlyrenamed ClearLab UK, Ltd.).

The purchaseconsideration included cash of $3,776 and common stock with a fair value of$3,200.

 

See accompanying notes tocondensed consolidated financial statements.

 

6

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**1-800 CONTACTS, INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**(Unaudited)**

 

# **NOTE 1. PRESENTATION OF CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

# ** **

The accompanyingcondensed consolidated financial statements have been prepared by the Company,without audit, pursuant to the rules and regulations of the Securities andExchange Commission.  Certain informationand disclosures normally included in financial statements prepared inaccordance with accounting principles generally accepted in the United Statesof America have been condensed or omitted pursuant to such rules andregulations.  These condensedconsolidated financial statements reflect all adjustments (consisting only ofnormal recurring adjustments), which in the opinion of management, arenecessary to present fairly the results of operations of the Company for theperiods presented.  It is suggested thatthese condensed consolidated financial statements be read in conjunction withthe audited financial statements and the notes thereto included in the Company’sAnnual Report on Form 10-K for the year ended January 1, 2005.

 

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities anddisclosure of contingent assets and liabilities at the date of the financialstatements and the reported amounts of revenue and expenses during thereporting period.  Actual results coulddiffer from these estimates.

 

# **NOTE 2. INVENTORIES**

# ** **

Inventories are recorded at the lower of cost (usingthe first-in, first-out method) or market value.  Elements of cost in the Company’smanufactured inventories generally include raw materials, direct labor,manufacturing overhead and freight-in.  Inventories consisted of the following (in thousands):

 

| ** **                    | ** ** | **January 1,** | ** ** | **July 2,** | ** ** |
|-------------------------------|------------|---------------------|------------|------------------|------------|
| ** **                    | ** ** | **2005**            | ** ** | **2005**         | ** ** |
| Purchased  contact lenses     |       | $                   | 16,216     |             | $          | 15,325 |   |
| Manufactured  contact lenses: |       |                |       |             |       |
| Raw  materials                |       | 930                 |       | 887              |       |
| Work  in process              |       | 1,796               |       | 1,937            |       |
| Finished  goods               |       | 3,264               |       | 3,443            |       |
| Total                         |       | $                   | 22,206     |             | $          | 21,592 |   |

 

Provision is made to reduce excess and obsoleteinventories to their estimated net realizable values.  As of January 1, 2005 and July 2,2005, reserves for excess and obsolete inventories were approximately $1.2million and $1.3 million, respectively.

 

**NOTE 3.  NETINCOME (LOSS) PER COMMON SHARE**

 

Basic net income(loss) per common share (“Basic EPS”) excludes dilution and is computed bydividing net income (loss) by the weighted-average number of common sharesoutstanding during the period.  Dilutednet income (loss) per common share (“Diluted EPS”) reflects the potentialdilution that could occur if stock options or other common stock equivalentswere exercised or converted into common stock. The computation of Diluted EPS does not assume exercise or conversion ofsecurities that would have an antidilutive effect on net income (loss) percommon share.  For the quarter and twoquarters ended July 3, 2004, options to purchase 1,415,875 and 1,408,178shares of common stock, respectively, were not included in the computation ofDiluted EPS because the effect would be antidilutive.  For the quarter and two quarters ended July 2,2005, options to purchase 814,325 and 822,225

 

7

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shares of common stock,respectively, were not included in the computation of Diluted EPS because theeffect would be antidilutive.

 

The following is a reconciliation of the numerator and denominator usedto calculate Basic and Diluted EPS (in thousands, except per share amounts): 
| ** **              | ** ** | **Quarter Ended July 3, 2004** | ** ** | **Quarter Ended July 2, 2005** | ** ** |
|-------------------------|------------|-------------------------------------|------------|-------------------------------------|------------|
| ** **              | ** ** | **Net  Loss**                       | ** ** | **Shares**                          | ** ** | **Per-Share  Amount** | ** ** | **Net  Income** | ** ** | **Shares** | ** ** | **Per-Share  Amount** | ** ** |
|                    |       |                                |       |                                |       |   |   |   |   |   |   |   |   |
| Basic EPS               |       | $                                   | (1,148     | )                                   | 13,286     |   | $ | (0.09 | ) | $ | 41 |   | 13,312 |   | $ | 0.00 |   |
| Effect of stock options |       | —                              |       | —                              |       | — |   | — |   | 151 |   | — |   |
| Diluted EPS             |       | $                                   | (1,148     | )                                   | 13,286     |   | $ | (0.09 | ) | $ | 41 |   | 13,463 |   | $ | 0.00 |   |

 
| ** **              | ** ** | **Two Quarters Ended July 3, 2004** | ** ** | **Two Quarters Ended July 2, 2005** | ** ** |
|-------------------------|------------|------------------------------------------|------------|------------------------------------------|------------|
| ** **              | ** ** | **Net  Loss**                            | ** ** | **Shares**                               | ** ** | **Per-Share  Amount** | ** ** | **Net  Income** | ** ** | **Shares** | ** ** | **Per-Share  Amount** | ** ** |
|                    |       |                                     |       |                                     |       |   |   |   |   |   |   |   |   |
| Basic EPS               |       | $                                        | (3,354     | )                                        | 13,237     |   | $ | (0.25 | ) | $ | 224 |   | 13,307 |   | $ | 0.02 |   |
| Effect of stock options |       | —                                   |       | —                                   |       | — |   | — |   | 169 |   | — |   |
| Diluted EPS             |       | $                                        | (3,354     | )                                        | 13,237     |   | $ | (0.25 | ) | $ | 224 |   | 13,476 |   | $ | 0.02 |   |

 

**NOTE4.  COMPREHENSIVE INCOME (LOSS)**

 

Comprehensive income(loss) for the quarter and two quarters ended July 3, 2004 and July 2,2005 consists of the following components (in thousands):

 
| ** **                         | ** ** | **Quarter Ended**     | ** ** | **Two Quarters Ended** | ** ** |
|------------------------------------|------------|-----------------------|------------|------------------------|------------|
| ** **                         | ** ** | **July 3, 2004** | ** ** | **July 2, 2005**  | ** ** | **July 3, 2004** | ** ** | **July 2, 2005** | ** ** |
| Net  income (loss)                 |       | $                     | (1,148     | )                      | $          | 41 |   | $ | (3,354 | ) | $ | 224 |   |
| Foreign  currency translation loss |       | (147                  | )          | (242                   | )          | (170 | ) | (360 | ) |
| Comprehensive  income (loss)       |       | $                     | (1,295     | )                      | $          | (201 | ) | $ | (3,524 | ) | $ | (136 | ) |

 

The foreign currencytranslation loss results primarily from changes in exchange rates relative tothe U.S. dollar from the translation of the Company’s Singapore and UnitedKingdom subsidiaries’ financial statements.

 

**NOTE 5.  STOCK-BASED COMPENSATION**

 

The Company appliesAccounting Principles Board Opinion No. 25, “Accounting for Stock Issuedto Employees,” and related interpretations and uses the intrinsic method ofaccounting for its stock option grants to employees and directors.  No compensation expense has been recognizedfor stock option awards granted at or above fair market value of the stock onthe date of grant.

 

Financial AccountingStandards (“SFAS”) No. 123, “Accounting for Stock-Based Compensation,” andSFAS No. 148, “Accounting for Stock-Based Compensation—Transition andDisclosure,” established accounting and disclosure requirements using afair-value based method of accounting for stock-based employee compensationplans. As permitted by existing accounting standards, the Company has electedto continue to apply the intrinsic-value-based method of accounting describedabove, and has adopted only the disclosure requirements of SFAS No. 123.

 

8

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If compensation expensefor all stock options had been determined consistent with SFAS No. 123,the Company’s net income (loss) and basic and diluted net income (loss) percommon share would have been as follows (in thousands, except per share amounts):

 
| ** **                                             | ** ** | **Quarter Ended**      | ** ** |
|--------------------------------------------------------|------------|------------------------|------------|
| ** **                                             | ** ** | **July 3,  2004** | ** ** | **July 2,  2005** | ** ** |
| Net  income (loss):                                    |       |                   |       |   |   |
| As  reported                                           |       | $                      | (1,148     | ) | $ | 41 |   |
| Fair-value  based compensation, net of tax             |       | (412                   | )          | (262 | ) |
| Pro  forma                                             |       | $                      | (1,560     | ) | $ | (221 | ) |
|                                                   |       |                   |       |   |   |
| Basic  and diluted net income (loss) per common share: |       |                   |       |   |   |
| As  reported                                           |       | $                      | (0.09      | ) | $ | 0.00 |   |
| Pro  forma                                             |       | $                      | (0.12      | ) | $ | (0.02 | ) |

 
| ** **                                             | ** ** | **Two Quarters Ended** | ** ** |
|--------------------------------------------------------|------------|------------------------|------------|
| ** **                                             | ** ** | **July 3,  2004** | ** ** | **July 2,  2005** | ** ** |
| Net  income (loss):                                    |       |                   |       |   |   |
| As  reported                                           |       | $                      | (3,354     | ) | $ | 224 |   |
| Fair-value  based compensation, net of tax             |       | (828                   | )          | (572 | ) |
| Pro  forma                                             |       | $                      | (4,182     | ) | $ | (348 | ) |
|                                                   |       |                   |       |   |   |
| Basic  and diluted net income (loss) per common share: |       |                   |       |   |   |
| As  reported                                           |       | $                      | (0.25      | ) | $ | 0.02 |   |
| Pro  forma                                             |       | $                      | (0.32      | ) | $ | (0.03 | ) |

 

The weighted average pershare fair value of options granted during the quarter ended July 3, 2004and the two quarters ended July 3, 2004 was $9.43 and $12.04, respectively.  No options were granted during the quarterended July 2, 2005.  The weightedaverage per share fair value of options granted during the two quarters ended July 2,2005 was $11.30.  The fair value of eachoption grant has been estimated on the grant date using the Black-Scholesoption-pricing model with the following weighted average assumptions:

 
| ** **               | ** ** | **Quarter Ended**      | ** ** | **Two Quarters Ended** | ** ** |
|--------------------------|------------|------------------------|------------|------------------------|------------|
| ** **               | ** ** | **July 3,  2004** | ** ** | **July 2,  2005** | ** ** | **July 3,  2004** | ** ** | **July 2,  2005** | ** ** |
| Risk-free  interest rate |       | 3.6                    | %          | —                 |       | 3.1 | % | 3.7 | % |
| Expected  dividend yield |       | 0.0                    | %          | —                 |       | 0.0 | % | 0.0 | % |
| Volatility               |       | 67.0                   | %          | —                 |       | 67.8 | % | 65.5 | % |
| Expected  life           |       | 5 years                |       | —                 |       | 5 years |   | 5 years |   |

 

**NOTE 6.  RECENT TRANSACTIONS AND AGREEMENTS**

 

***Japanese License and Royalty Agreement***

 

On December 15, 2004the Company signed an agreement which grants Menicon Co., Ltd. (Menicon),Japan’s largest independent contact lens manufacturer, exclusive rights todevelop, manufacture and market certain disposable contact lenses and relatedintellectual property in Japan.

 

Under the terms of theagreement, Menicon licenses from the Company different types of intellectualproperty,

 

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including contact lensmaterial, manufacturing technology and related knowledge.  In consideration, Menicon is expected to paynonrefundable license fees of $18 million, of which $5 million waspaid in December 2004 upon signing the agreement. The remaining$13 million is expected to be paid over the next three to five years asthe Company fulfills its obligations and as corresponding milestones relatingto Japanese regulatory approval and Menicon’s launch of the product in theJapanese market are met. Of the total $18 million license fee,$10 million is guaranteed.

 

The Company evaluated theagreement under Emerging Issues Task Force 00-21, Revenue Arrangements withMultiple Deliverables, and determined that this arrangement should beconsidered a single unit of accounting. Therefore, in applying the principles of Staff Accounting Bulletin No. 104to the license agreement, the Company considered the terms and conditions ofthe agreement to arrive at a proportional performance methodology ofrecognizing revenue.  Accordingly, theCompany is recognizing the guaranteed portion of the license fees from thisagreement on a straight-line basis, limited by the amount of cash received,over the period of the Company’s continued involvement in meeting itsobligations, estimated to be through June of 2007.   In the event the Company achieves amilestone (not relating to the guaranteed portion of the license fees) prior tothe completion of its obligations under the agreement, the milestone paymentwill be recognized on a straight-line basis over the remaining period of theCompany’s continued involvement in meeting its obligations.  Upon completion of this agreement, theCompany will recognize the remaining milestone payments as the agreed uponmilestones are achieved.

 

If Menicon has notreceived regulatory approval on or before December 31, 2009, it may returnall intellectual property covered by the agreement and in-process regulatoryapprovals to the Company, and the Company may pursue the Japanese market on itsown and terminate the exclusive agreement.

 

Under the terms of theagreement, Menicon will also pay royalties for a period of at least15 years from the product launch date in Japan on contact lenses sold thatwere manufactured using the licensed technology, with a guaranteed minimum of$5 million per year beginning the earlier of the second year after productlaunch or 2012. The agreement does not include the sale of any of the Company’scurrent equipment, facilities or capacity and is limited to the Japanesecontact lens market.

 

***Optical Retail Store Agreement***

 

During the latter part of2004, the Company entered into an agreement with a regional optical retailchain in Utah in which the two companies would jointly market and sell contactlenses in Utah.  In December 2004,the companies began jointly serving these Utah customers. The agreement is forone year, with one year renewals at the option of both parties.

 

Under the agreement, theCompany fulfills substantially all orders taken at the retail optical chain forcontact lenses and both parties share in the operating results of the combinedcontact lens business based on a certain allocation percentage.  However, the Company has guaranteed that theretail chain will receive at least $0.5 million of annual earnings under thearrangement.  Additionally, the Companycommitted to purchase approximately $0.3 million per year in inventory from theretail chain’s source of supply.  Underthe arrangement, the Company records gross revenues for all orders fulfilledand records selling, general and administrative expense for the retail chain’sshare of the net operating results.

 

**NOTE 7.  COMMON STOCK TRANSACTIONS**

 

During the two quartersended July 2, 2005, employees exercised stock options to purchase 21,262shares of common stock for a total of approximately $0.2 million.  The Company recorded an increase inadditional paid-in capital of approximately $0.1 million as a result of theincome tax benefit related to these stock option exercises.

 

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During the two quartersended July 2, 2005, the Company granted nonqualified stock options topurchase 1,000 shares of common stock to employees of the Company.  The exercise price of the options was $22.00per share, which was not less than the quoted fair market value at the grantdate. The options vest equally over a four-year period and expire in fiveyears.

 

During the two quartersended July 2, 2005, the Board of Directors granted 30,000 shares ofrestricted common stock to three employees of the Company.  Two of the grants totaling 20,000 shares werevalued at the closing stock price of $22.67 on March 21, 2005, the date ofthe grant.  The third grant of 10,000 wasvalued at the closing stock price of $18.84 on May 2, 2005, the date ofthe grant.  The restrictions on thecommon stock lapse in equal amounts over a five-year period. ** **The Company recordedexpense of approximately $39,000 and $44,000 related to restricted stock duringthe quarter ended and two quarters ended July 2, 2005, respectively.  As of July 2, 2005 approximately $0.7 millionhas been deferred and will be recognized over the vesting period.

 

**NOTE 8. DEBT OBLIGATIONS**

 

The Company has aloan agreement with a U.S. bank providing for a revolving credit facility forborrowings of up to $26.0 million as of July 2, 2005, which amount is reduced  thereafter on the first day of eachSeptember, December, March and June by $0.4 million until thematurity date of February 27, 2007. Additionally, the agreement providesfor letters of credit up to a maximum of $15 million outstanding orpayable at any time. The loan agreement specifies that if the maximum leverageratio, as defined in the agreement, is greater than 2.5, then the amountsoutstanding on the revolving credit facility together with the amount of alloutstanding letters of credit can at no time exceed the Company’s book value ofinventory. As of July 2, 2005, the Company was not subject to thisrestriction and could borrow up to $26.0 million. Outstanding borrowingson the revolving credit facility bear interest at a floating rate equal to thelender’s prime interest rate plus a margin or the lender’s LIBOR rate plus amargin. The interest rate is adjusted quarterly and ranges between prime plus0.0 percent and prime plus 1.25 percent or between the applicableLIBOR rate plus 2.0 percent and the applicable LIBOR rate plus3.25 percent, depending on the Company’s maximum leverage ratio. As of July 2,2005, the prime rate margin is 0.0 percent and the LIBOR rate margin is2.0 percent. Interest is payable monthly. As July 2, 2005, theCompany’s outstanding borrowings on the credit facility, including bankoverdrafts, were $13.5 million. Of this amount, $4.5 million boreinterest at the lender’s LIBOR rate plus 2.0 percent (5.30% at July 2,2005) and the remaining $9.0 million bore interest at the lender’s prime rateplus 0.0 percent (6.00% at July 2, 2005). The facility requires thequarterly payment of an unused credit fee which ranges from 0.38 percentto 0.5 percent, depending on the Company’s maximum leverage ratio.

 

All outstanding balanceson this credit facility are secured by substantially all of the Company’s U.S.assets, subsidiary debt instruments, 100 percent ownership interests inall domestic subsidiaries and 65 percent ownership interests in foreignsubsidiaries directly owned by the Company. The loan agreement includes variousfinancial covenants including a capital expenditure limit, a maximum leverageratio, a minimum working capital requirement, a minimum fixed charge coverageratio and a minimum net worth requirement. The loan agreement does not permitthe Company or its subsidiaries to dissolve, sell, dispose or merge all oftheir assets or acquire all of the assets of any entity without the writtenconsent of the U.S. bank, unless the transaction meets the definition of a “PermittedAcquisition Basket”, as defined in the agreement. The loan agreement alsoplaces a limit on the amount the Company can loan to any entity, outside thenormal course of business. Additionally, the agreement does not permit theCompany to declare or pay any cash dividends, to repurchase its stock or toperform other similar equity transactions prior to December 31, 2005;thereafter, such transactions are subject to other terms. This agreementdefines several customary events of default including any material adversechange or any event that occurs which may cause a material adverse change inthe Company’s or its subsidiaries’ condition.

 

As of July 2, 2005, the Company had an unsecured, non-interest bearing note to ClearLab International’s chief technology officer with a principal balance of SGD$1,563,000 (USD$927,000). The note payable is discounted at 7%.  Payments are due in equal monthly installments through July 2007.

 

As of July 2, 2005, the Company had a termloan payable to a Singapore bank with a principal balance of SGD$6,610,000(USD$3,922,000) that bears interest at 6.75% and is secured by substantiallyall of the assets of ClearLab International. Interest payments are due monthly. Principal payments are due in monthly installments

 

11

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through December 2007.  This note also contains various financialcovenants including minimums on net worth and shareholders’ funds.  1-800 CONTACTS, INC. has guaranteed this termloan.

 

As of July 2, 2005, the Company also had anote payable to the former parent of ClearLab International with a principalbalance of SGD$6,892,000 (USD$4,089,000) that bears interest at 6% and has asubordinated position to the term loan payable to the Singapore bank.  The note payable is discounted at 7%.  Interest payments are due monthly.  Principal payments are due in monthlyinstallments from January 2008 through December 2009.  1-800 CONTACTS, INC. has guaranteed thisnote.

 

Cross default clausesexist such that if the Company were in default on its U.S. debt, the Companywould also be in default on its Singapore debt. If the Company were in defaulton its Singapore bank term loan, the Company would also be in default on itsnote payable to the former parent of ClearLab International and its restatedloan agreement with its U.S. bank.

 

**NOTE 9.  COMMITMENTS AND CONTINGENCIES**

 

***Legaland Regulatory Matters***

 

The sale anddelivery of contact lenses are governed by both federal and state laws andregulations, including the federal Fairness to Contact Lens Consumer Act (“FCLCA”).  The FCLCA requires that contact lenses onlybe sold to consumers based on the seller obtaining a copy of the prescriptionitself or verifying the prescription by direct communication with the customer’sprescriber. Consistent with this requirement, the Company’s current operatingpractice is to require all customers to provide either a valid copy of theirprescription or the contact information for their prescriber so that theCompany can verify their prescription by direct communication with theirprescriber.  If the Company does not havea valid copy of the customer’s prescription, the Company directly communicatesto the customer’s prescriber the precise prescription information received fromthe customer and informs the prescriber that it will proceed with the salebased on this prescription information unless the prescriber advises it withineight business hours that such prescription information is expired or otherwiseinvalid.  If the prescriber properly advisesthe Company within this time period that the customer’s prescription is expiredor otherwise invalid, the Company’s practice is to cancel the customer’sorder.  On the other hand, if theprescriber either advises the Company that the prescription is valid or failsto respond properly within the required time period, the Company’s practice isto complete the sale based on the prescription information communicated to theprescriber, as expressly permitted by the FCLCA.  The Company retains copies of the writtenprescriptions that it receives and maintains records of its communications withthe customer’s prescriber.  The Companybelieves that it is complying with the regulations of the FCLCA.

 

From time to time theCompany is involved in legal matters generally incidental to its business.  It is the opinion of management, afterdiscussion with legal counsel that, except for legal and professional fees thatthe Company incurs from time to time, the ultimate dispositions of all of thesematters will not have a material impact on the financial position, liquidity orresults of operations of the Company. However, there can be no assurance that the Company will be successfulin its efforts to satisfactorily resolve these matters, and the ultimateoutcome could result in a material negative impact on the Company’s financialposition, liquidity or results of operations.

 

***AdvertisingCommitments***

 

As of July 2, 2005,the Company had entered into certain noncancelable commitments with variousadvertising companies that will require the Company to pay approximately $5.0million for advertising during the remainder of 2005.

 

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** **

**NOTE10.  SEGMENT INFORMATION**

 

The Company has two operating segments. Theseoperating segments represent components of the Company for which separatefinancial information is available and are evaluated regularly by management indetermination of resource allocation and performance assessment. The Company’sU.S. Retail segment includes the operations of 1-800 CONTACTS, a directmarketer of replacement contact lenses. The Company’s International segmentincludes the operations of ClearLab International and ClearLab UK, which aredevelopers, marketers, manufacturers and distributors of contact lenses.  The U.S.Retail segment includes revenue from the optical retail store agreement and theInternational segment includes revenue from the Japanese license and royaltyagreement.   Operating segmentinformation for the quarter and two quarters ended July 3, 2004 and July 2,2005 is as follows (in thousands):

 
| **Quarter Ended July 3, 2004**                                   | ** ** | **U.S. Retail** | ** ** | **International** | ** ** | **Eliminations** | ** ** | **Total** | ** ** |
|-----------------------------------------------------------------------|------------|-----------------|------------|-------------------|------------|------------------|------------|-----------|------------|
| Net sales                                                             |       | $               | 48,742     |              | $          | 1,229            |       | $         | —     |   | $ | 49,971 |   |
| Gross profit (loss)                                                   |       | 19,825          |       | (552              | )          | —           |       | 19,273    |       |
| Research and development                                              |       | —          |       | 443               |       | —           |       | 443       |       |
| Other selling, general and administrative expense                     |       | 9,606           |       | 1,160             |       | —           |       | 10,766    |       |
| Income (loss) from operations                                         |       | $               | 1,835      |              | $          | (2,336           | )          | $         | —     |   | $ | (501 | ) |
|                                                                  |       |            |       |              |       |             |       |      |       |
| **Quarter Ended July 2, 2005**                                   | ** ** | **U.S. Retail** | ** ** | **International** | ** ** | **Eliminations** | ** ** | **Total** | ** ** |
| Net sales (International segment includes intersegment sales of $3)   |       | $               | 56,767     |              | $          | 4,601            |       | $         | (3         | ) | $ | 61,365 |   |
| Gross profit                                                          |       | 22,857          |       | 703               |       | 108              |       | 23,668    |       |
| Research and development                                              |       | —          |       | 811               |       | —           |       | 811       |       |
| Other selling, general and administrative expense                     |       | 10,794          |       | 1,510             |       | —           |       | 12,304    |       |
| Income (loss) from operations                                         |       | $               | 4,389      |              | $          | (1,970           | )          | $         | 108        |   | $ | 2,527 |   |
|                                                                  |       |            |       |              |       |             |       |      |       |
| **Two Quarters Ended July 3, 2004**                              | ** ** | **U.S. Retail** | ** ** | **International** | ** ** | **Eliminations** | ** ** | **Total** | ** ** |
| Net sales                                                             |       | $               | 98,193     |              | $          | 2,627            |       | $         | —     |   | $ | 100,820 |   |
| Gross profit (loss)                                                   |       | 38,755          |       | (186              | )          | —           |       | 38,569    |       |
| Research and development                                              |       | 536             |       | 799               |       | —           |       | 1,335     |       |
| Purchased in-process research and development                         |       | —          |       | 83                |       | —           |       | 83        |       |
| Other selling, general and administrative expense                     |       | 18,575          |       | 2,073             |       | —           |       | 20,648    |       |
| Income (loss) from operations                                         |       | $               | 686        |              | $          | (3,403           | )          | $         | —     |   | $ | (2,717 | ) |
|                                                                  |       |            |       |              |       |             |       |      |       |
| **Two Quarters Ended July 2, 2005**                              | ** ** | **U.S. Retail** | ** ** | **International** | ** ** | **Eliminations** | ** ** | **Total** | ** ** |
| Net sales (International segment includes intersegment sales of $374) |       | $               | 113,133    |              | $          | 8,889            |       | $         | (374       | ) | $ | 121,648 |   |
| Gross profit                                                          |       | 45,044          |       | 1,306             |       | (174             | )          | 46,176    |       |
| Research and development                                              |       | —          |       | 1,866             |       | —           |       | 1,866     |       |
| Other selling, general and administrative expense                     |       | 20,872          |       | 2,949             |       | —           |       | 23,821    |       |
| Income (loss) from operations                                         |       | $               | 8,792      |              | $          | (3,977           | )          | $         | (174       | ) | $ | 4,641 |   |

 

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Thefollowing reconciles total segment income (loss) from operations to income(loss) before provision for income taxes for the quarter and two quarters endedJuly 3, 2004 and July 2, 2005 is as follows (in thousands):

 
| ** **                                      | ** ** | **Quarter Ended**     | ** ** |
|-------------------------------------------------|------------|-----------------------|------------|
| ** **                                      | ** ** | **July 3, 2004** | ** ** | **July 2, 2005** | ** ** |
| Income (loss) from operations                   |       | $                     | (501       | ) | $ | 2,527 |   |
| Interest expense                                |       | (375                  | )          | (347 | ) |
| Foreign currency exchange transaction loss, net |       | (321                  | )          | (748 | ) |
| Other income (expense), net                     |       | (3                    | )          | (71 | ) |
| Income (loss) before provision for income taxes |       | $                     | (1,200     | ) | $ | 1,361 |   |

 
| ** **                                      | ** ** | **Two Quarters Ended** | ** ** |
|-------------------------------------------------|------------|------------------------|------------|
| ** **                                      | ** ** | **July 3, 2004**  | ** ** | **July 2, 2005** | ** ** |
| Income (loss) from operations                   |       | $                      | (2,717     | ) | $ | 4,641 |   |
| Interest expense                                |       | (802                   | )          | (648 | ) |
| Foreign currency exchange transaction loss, net |       | (246                   | )          | (1,060 | ) |
| Other income (expense), net                     |       | (7                     | )          | (99 | ) |
| Income (loss) before provision for income taxes |       | $                      | (3,772     | ) | $ | 2,834 |   |

 

Identifiable segment assets areas follows (in thousands):

 
| **Fiscal Year Ended January 1, 2005** | ** ** | **U.S. Retail** | ** ** | **International** | ** ** | **Total** | ** ** |
|--------------------------------------------|------------|-----------------|------------|-------------------|------------|-----------|------------|
|                                       |       |            |       |              |       |      |       |
| Long-lived assets, net                     |       | $               | 33,374     |              | $          | 39,461    |       | $ | 72,835 |   |
| Total assets                               |       | 56,216          |       | 52,769            |       | 108,985   |       |
|                                            |            |                 |            |                   |            |           |            |  |  |  |

 
| **Quarter Ended July  2, 2005** | ** ** | **U.S. Retail** | ** ** | **International** | ** ** | **Total** | ** ** |
|--------------------------------------|------------|-----------------|------------|-------------------|------------|-----------|------------|
|                                 |       |            |       |              |       |      |       |
| Long-lived assets, net               |       | $               | 34,122     |              | $          | 40,670    |       | $ | 74,792 |   |
| Total assets                         |       | 55,706          |       | 52,221            |       | 107,927   |       |
|                                      |            |                 |            |                   |            |           |            |  |  |  |

 

**NOTE 11.  RECENTLY ISSUED ACCOUNTING STANDARDS**

 

In December 2004,the FASB issued SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS 123R”),which replaces SFAS No. 123, “Accounting for Stock-Based Compensation,” (“SFAS 123”)and supercedes APB Opinion No. 25, “Accounting for Stock Issued toEmployees.” SFAS 123R requires all share-based payments to employees,including grants of employee stock options, to be recognized in the financialstatements based on their fair values beginning with the first annual periodafter June 15, 2005, with early adoption encouraged. The pro formadisclosures previously permitted under SFAS 123 will no longer be analternative to financial statement recognition. The Company is required toadopt SFAS 123R in the first fiscal quarter of 2006, beginning January 1,2006. Under SFAS 123R, the Company must determine the appropriate fairvalue model to be used for valuing share-based payments, the amortizationmethod for compensation cost and the transition method to be used at date ofadoption. The transition methods include prospective and retroactive adoptionoptions. Under the retroactive option, prior periods may be restated either asof the beginning of the year of adoption or for all periods presented. Theprospective method requires that compensation expense be recorded for allunvested stock options at the beginning of the first quarter of adoption ofSFAS 123R, while the retroactive methods would record compensation expensefor all unvested stock options and beginning with the first period restated.The Company is evaluating the requirements of SFAS 123R and expects thatthe adoption of SFAS 123R will have a material impact on its consolidatedresults of operations and earnings per share. The Company has not yetdetermined the method of adoption or the effect of adopting SFAS 123R.

 

In November 2004, the FASB issued SFAS No. 151,“Inventory Costs” (“SFAS 151”). The provisions of this statement becomeeffective for the Company in fiscal 2006. SFAS 151 amends the existingguidance on the recognition of inventory costs to clarify the accounting forabnormal amounts of idle expense, freight, handling costs,

 

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and wasted material (spoilage). Existing rules indicate that undersome circumstances, items such as idle facility expense, excessive spoilage,double freight, and rehandling costs may be so abnormal as to require treatmentas current period charges. SFAS 151 requires that those items berecognized as current period charges regardless of whether they meet thecriterion of “so abnormal”. In addition, SFAS 151 requires that allocationof fixed production overheads to the costs of conversion be based on the normalcapacity of the production facilities. The Company is required to adoptSFAS 151 in the fiscal year beginning January 1, 2006. The Companyhas not yet determined the impact of SFAS 151.

 

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**Item 2.    *Management’s Discussion and Analysis ofFinancial Condition and Results of Operations***

 

**Overview**

 

The Company is aleading direct marketer of replacement contact lenses and also conducts contactlens manufacturing, development and distribution operations in Singapore andthe United Kingdom.  The Company’s U.S.Retail operations sell almost all of the popular brands of contacts lenses,including those manufactured by Johnson & Johnson Vision Care, CIBA Vision,Bausch & Lomb and CooperVision.

 

**Recent Transactions and Agreements**

 

***International Operations (ClearLab). ***On February 24,2004, the Company acquired VisionTec, a developer and manufacturer of dailycontact lenses based in the United Kingdom.  VisionTec developed a methodfor low cost, high quality production of daily disposable contact lenses usinga unique proprietary material.  VisionTec has subsequently been renamedClearLab UK Ltd (“ClearLab UK”).  The business operates as a research anddevelopment and a manufacturing affiliate of ClearLab International.  TheCompany began shipping its daily disposable contact lenses in the first quarterof fiscal 2004 and is currently expanding its production capabilities for theselenses.

 

ClearLab, the Company’sinternational contact lens development, manufacturing and distributionbusiness, includes the operations of ClearLab International and ClearLabUK.  ClearLab recently began to sellfrequent replacement lenses in the U.S. through the Company’s retail opticalpartnership. ClearLab will increase its product offerings to the internationalmarkets throughout the remainder of fiscal 2005 from its production facilitiesin Singapore and the U.K. as demand for its product continues to grow.

 

***Japanese License and Royalty Agreement.***   On December 15, 2004, the Company signedan agreement which grants Menicon Co., Ltd. (Menicon), Japan’s largestindependent contact lens manufacturer, exclusive rights to develop, manufactureand market certain disposable contact lenses and related intellectual propertyin Japan.

 

Under the terms of theagreement, Menicon licenses from the Company different types of intellectualproperty, including contact lens material, manufacturing technology and relatedknowledge.  In consideration, Menicon is expectedto pay nonrefundable license fees of $18 million, of which $5 millionwas paid in December 2004 upon signing the agreement. The remaining$13 million is expected to be paid over the next three to five years asthe Company fulfills its obligations and as corresponding milestones relatingto Japanese regulatory approval and Menicon’s launch of the product in theJapanese market are met. Of the total $18 million license fee,$10 million is guaranteed. Accordingly, the Company is recognizing the guaranteed portion of thelicense fees from this agreement on a straight-line basis, limited by theamount of cash received, over the period of the Company’s continued involvementin meeting its obligations, estimated to be through June of 2007.  In the event the Company achieves a milestone(not relating to the guaranteed portion of the license fees) prior to thecompletion of its obligations under the agreement, the milestone payment willbe recognized on a straight-line basis over the remaining period of the Company’scontinued involvement in meeting its obligations.  Upon completion of this agreement, theCompany will recognize the remaining milestone payments as the agreed uponmilestones are achieved.

 

If Menicon has notreceived regulatory approval on or before December 31, 2009, it may returnall intellectual property covered by the agreement and in-process regulatoryapprovals to the Company, and the Company may pursue the Japanese market on itsown and terminate the exclusive agreement.

 

Under the terms of theagreement, Menicon will also pay royalties for a period of at least15 years from the product launch date in Japan on contact lenses sold thatwere manufactured using the licensed technology, with a guaranteed minimum of$5 million per year beginning the earlier of the second year after productlaunch or 2012. The agreement does not include the sale of any of the Company’scurrent equipment, facilities or capacity and is limited to the Japanesecontact lens market.

 

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***Optical Retail Store Agreement. ***During the latter partof 2004, the Company entered into an agreement with a regional optical retailchain in Utah in which the two companies would jointly market and sell contactlenses in Utah.  In December 2004,the companies began jointly serving these Utah customers. The agreement is forone year, with one year renewals at the option of both parties.

 

Under the agreement, theCompany fulfills substantially all orders taken at the retail optical chain forcontact lenses and both parties share in the operating results of the combinedcontact lens business based on a certain allocation percentage. However, theCompany has guaranteed that the retail chain will receive at least $0.5 millionof annual earnings under the arrangement. Additionally, the Company committedto purchase approximately $0.3 million per year in inventory from the retailchain’s source of supply.

 

***SupplierAgreements.*** The Company has agreements with its top threevendors for improved pricing and marketing support.  This support comes in the form of cooperativemarketing and rebate programs designed to promote the manufacturer’s productsand build sales.  As part of its ongoingrelationship with its suppliers, the Company periodically reviews its specificmarketing plans and negotiates cooperative marketing programs and productpricing.

 

***Cole National Marketing Agreement/Doctor Referral Network.***  On June 30, 2003, the Company and ColeNational, Inc. (Cole) announced that they had signed an agreement underwhich Cole was offering its network of eye care practitioners to the Company tobe used for contact lens exam referrals and the Company retained the contactlens business of customers referred to Cole stores.

 

The Company did not renewor extend this agreement beyond July 1, 2005.  The Company’s objective is to enter anagreement or agreements with similar terms as the optical retail storepartnership agreement to enable the Company to create a seamless experiencenationwide for consumers that includes exams as well as in-store, phone andonline service.

 

# **Regulatory Considerations**

# ** **

***Fairnessto Contact Lens Consumer Act. *** In November 2003,Congress passed the Fairness to Contact Lens Consumer Act (“FCLCA”), whichestablishes a national uniform standard for both eye care practitioners anddirect marketers with regard to releasing and verifying consumer contact lensprescriptions as well as other requirements relating to the sale of contactlenses.  The FCLCA became effective February 4,2004, and now requires all eye care practitioners to give patients a copy oftheir prescription as soon as they have been fitted for contact lenses, whetherthe patients ask for it or not.  It alsodirects contact lens sellers to contact eye care practitioners to requestverification of consumer prescriptions before shipping all orders (if theprescription is not already on file), and it provides that failure to respondwithin eight business hours shall result in the prescription being presumedvalid, thereby eliminating the ability of eye care practitioners to impedesales by direct marketers simply by ignoring or refusing to respond to theirrequests to verify prescriptions.  TheFCLCA also provides that prescriptions will be valid for a minimum of at leastone year (absent some special medical reason justifying a shorter period).  It also directed the Federal TradeCommission (“FTC”) to conduct a study examining the strength of competition inthe market for contact lenses and to submit a report to Congress within twelvemonths of the FCLCA effective date. This FTC completed and published this studyon February 15, 2005, with no recommendations for further changes infederal law.

 

Satisfying theprescription verification requirement of the FCLCA obligates a contact lensseller either to obtain a copy of the prescription itself or to verify theprescription by direct communication with the customer’s prescriber.  Consistent with this requirement, the Company’scurrent operating practice is to require all customers to provide either avalid copy of their prescription or the contact information for theirprescriber so that the Company can verify their prescription by directcommunication with their prescriber.  Ifthe Company does not have a valid copy of the customer’s prescription, theCompany directly communicates to the customer’s prescriber the preciseprescription information received from the customer and informs the prescriberthat it will proceed with the sale based on this prescription informationunless the prescriber advises it within eight business hours that suchprescription information is expired or otherwise invalid.  If the prescriber properly advises theCompany within this time period that the customer’s prescription is expired orotherwise invalid, the Company’s practice is to cancel the

 

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customer’s order.  On the other hand, if the prescriber eitheradvises the Company that the prescription is valid or fails to respond properlywithin the required time period, the Company’s practice is to complete the salebased on the prescription information communicated to the prescriber, asexpressly permitted by the FCLCA.  TheCompany retains copies of the written prescriptions that it receives andmaintains records of its communications with the customer’s prescriber.  The FCLCA provides for several means ofdirect communication with eye care practitioners, and the Company may alter itsprescription verification procedures from time to time in keeping with theFCLCA and FTC guidelines.

 

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**Results of Operations**

 

The Company’s fiscal yearconsists of a 52/53-week period ending on the Saturday nearest to December 31.Fiscal 2005 is a 52-week year and will end on December 31, 2005.

 

The Company has twooperating segments referred to below.  TheCompany’s domestic segment is represented by operations within the U.S. and isreferred to as “U.S. Retail” by the Company, whereas the Company’sinternational segment is represented by operations in both Singapore and theU.K. and is referred to as “ClearLab” by the Company.

 

The following tablepresents the Company’s results of operations expressed as a percentage of netsales for the periods indicated:
| ** **                                                 | ** ** | **Quarter Ended** | ** ** | **Two Quarters Ended** | ** ** |
|------------------------------------------------------------|------------|-------------------|------------|------------------------|------------|
| ** **                                                 | ** ** | **July 3,**  | ** ** | **July 2,**       | ** ** | **July 3,** | ** ** | **July 2,** | ** ** |
| ** **                                                 | ** ** | **2004**          | ** ** | **2005**               | ** ** | **2004** | ** ** | **2005** | ** ** |
| NET  SALES                                                 |       | 100.0             | %          | 100.0                  | %          | 100.0 | % | 100.0 | % |
| COST  OF GOODS SOLD                                        |       | 61.4              |       | 61.4                   |       | 61.7 |   | 62.0 |   |
| Gross  profit                                              |       | 38.6              |       | 38.6                   |       | 38.3 |   | 38.0 |   |
|                                                       |       |              |       |                   |       |   |   |   |   |
| SELLING,  GENERAL & ADMINISTRATIVE EXPENSES:      |       |              |       |                   |       |   |   |   |   |
| Advertising                                                |       | 14.5              |       | 11.6                   |       | 15.9 |   | 11.2 |   |
| Legal  and professional                                    |       | 2.7               |       | 1.5                    |       | 3.2 |   | 1.8 |   |
| Research  and development                                  |       | 0.9               |       | 1.3                    |       | 1.3 |   | 1.5 |   |
| Purchased  in-process research and development             |       | —            |       | —                 |       | 0.1 |   | — |   |
| Other  selling, general & administrative          |       | 21.5              |       | 20.1                   |       | 20.5 |   | 19.7 |   |
| Total  selling, general & administrative expenses |       | 39.6              |       | 34.5                   |       | 41.0 |   | 34.2 |   |
| INCOME  (LOSS) FROM OPERATIONS                             |       | (1.0              | )          | 4.1                    |       | (2.7 | ) | 3.8 |   |
| OTHER  EXPENSE, net                                        |       | (1.4              | )          | (1.9                   | )          | (1.0 | ) | (1.5 | ) |
| INCOME  (LOSS) BEFORE BENEFIT (PROVISION) FOR INCOME TAXES |       | (2.4              | )          | 2.2                    |       | (3.7 | ) | 2.3 |   |
| BENEFIT  (PROVISION) FOR INCOME TAXES                      |       | 0.1               |       | (2.1                   | )          | 0.4 |   | (2.1 | ) |
| NET  INCOME (LOSS)                                         |       | (2.3              | )%         | 0.1                    | %          | (3.3 | )% | 0.2 | % |

 

***Netsales***.  Net salesfor the quarter ended July 2, 2005 increased 23% to $61.4 million from $50.0million for the quarter ended July 3, 2004.  For the two quarters ended July 2, 2005,net sales increased 21% to $121.6 million from $100.8 million for the twoquarters ended July 3, 2004.  Netsales for the Company’s U.S. Retail operations, for the second quarter offiscal 2005 and the first two quarters of fiscal 2005 were $56.8 million and $113.1million, respectively, an increase from the prior year periods of 16% and 15%, respectively.   Approximatelyhalf of the quarterly and year-to-date increases in U.S. Retail net sales aredue to a decrease in the number and percentage of orders the Company canceledas a result of prescription verification procedures (see “RegulatoryConsiderations”). The Company believes the cancellation rate has now stabilizedand does not anticipate any significant change in the balance of fiscal2005.  The Company is continually takingsteps to minimize canceled orders, including continued development of a moreintegrated national retail store network and the continued development ofinternal procedures to help obtain the necessary prescription information thatis required to fulfill an order.  The balanceof the increase in U.S. Retail net sales can be attributed largely to anincrease in average order size due principally to an increased number of customerrebate programs instituted during fiscal 2004 and the first two quarters offiscal 2005 and an increase in accessory sales.

 

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U.S. Retail net sales forthe first two quarters of fiscal 2005 were negatively impacted by the Company’sdecision during the fourth quarter of fiscal 2004 to suspend sales of aspecific brand of lens, as the Company is unable to obtain sufficientquantities of this lens from anyone other than the manufacturer, who refuses tosell the Company this lens.  Sales ofthis lens represented approximately 2.5% of the Company’s fiscal 2004 U.S.Retail net sales.

 

Net sales for ClearLabfor the second quarter of fiscal 2005 and the first two quarters of fiscal 2005were $4.6 million and $8.9 million, respectively.  Net sales for ClearLab, for the second quarterof fiscal 2004 and the first two quarters of fiscal 2004 were $1.2 million and$2.6 million, respectively.  ClearLab’sresults for the first two quarters of fiscal 2005 include $1.0 million perquarter in license fees from the Company’s Japanese license agreement, and $0.4million of intercompany sales to the Company’s U.S. retail business during thefirst quarter which are eliminated for consolidation purposes until the productis sold to customers.  During the firsttwo quarters of fiscal 2005, ClearLab realized increased sales to existing andnew customers as it has enhanced its product offerings and expanded itsproduction capabilities.

 

***Grossprofit.***  Consolidatedgross profit as a percentage of net sales remained constant at 38.6% for bothquarters ended July 2, 2005 and July 3, 2004.  For the two quarters ended July 2, 2005,consolidated gross profit as a percentage of net sales decreased slightly to38.0% from 38.3% for the two quarters ended July 3, 2004.

 

Gross profit as apercentage of net sales for the Company’s U.S. Retail operations decreasedslightly to 40.3% for the second quarter of fiscal 2005 from 40.7% in the secondquarter of fiscal 2004.  However, grossprofit as a percentage of net sales for the Company’s U.S. Retail operationsincreased slightly to 39.8% from 39.5% for the two quarters ended July 2,2005 and July 3, 2004, respectively.

 

Gross profit as apercentage of net sales for ClearLab was 15.3% and 14.7% for the second quarterand two quarters ended July 2, 2005, respectively.  For the prior year quarter and two quartersended July 3, 2004, gross profit as a percentage of net sales was negativedue to the start-up nature of ClearLab UK, which was acquired on February 24,2004.  The Company expects to seecontinued improvement in gross margins from ClearLab throughout fiscal 2005 assales and production volumes increase.

 

***Advertisingexpense. ***Advertisingexpense for the quarter ended July 2, 2005 was $7.1 million, a decrease of$0.1 million from the quarter ended July 3, 2004.  As a percentage of net sales, advertisingexpense decreased to 11.6% for the second quarter of fiscal 2005 from 14.5% forthe second quarter of fiscal 2004.  Forthe two quarters ended July 2, 2005, advertising expense was $13.7million, a decrease of $2.4 million from the two quarters ended July 3,2004.  As a percentage of net sales,advertising expense decreased to 11.2% for the first two quarters of fiscal2005 from 15.9% for the first two quarters of fiscal 2004.  The Company expects advertising expenses ofapproximately $25 million for fiscal 2005. However, if opportunities present themselves, the Company may increaseadvertising spending above currently planned levels.  The Company’s experience has been thatincreases in advertising expenditures have a direct impact on the growth of netsales not only in the current period but also in future periods.

 

The Company expenses alladvertising costs when the advertising first takes place.  As a result, quarter-to-quarter comparisonsare impacted within and between quarters by the timing of television, radio andInternet advertisements and by the mailing of the Company’s printedadvertisements. The volume of mailings and other advertising may vary indifferent quarters and from year to year depending on the Company’s assessmentof prevailing market opportunities.

 

***Legaland professional fees.*** Legal and professional fees for the quarter ended July 2, 2005decreased $0.4 million to $0.9 million from the quarter ended July 3, 2004.  As a percentage of net sales, legal andprofessional fees decreased to 1.5% for the second quarter of fiscal 2005 from 2.7%for the second quarter of fiscal 2004. For the two quarters ended July 2, 2005, legal and professionalfees decreased $1.0 million to $2.2 million from the two quarters ended July 3,2004.  As a percentage of net sales,legal and professional fees decreased to 1.8% for the first two quarters offiscal 2005 from 3.2% for the first two quarters of fiscal 2004.

 

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During the first quarterof fiscal 2004 the Company invested considerable effort preparing comments forthe Federal Trade Commission (“FTC”) relating to final rules associatedwith the FCLCA.  These efforts decreasedduring the balance of fiscal 2004 and during the first two quarters of fiscal2005, however, during the first two quarters of fiscal 2005, the Companycontinued to incur professional fees for Sarbanes-Oxley compliance, and otherinternal control initiatives, as well as ongoing legal, lobbying and regulatoryinitiatives.

 

The Company will continueto focus its efforts on compliance with federal rules and regulations aswell as continue to support legal and legislative initiatives that it believes willbenefit contact lens wearers and the industry.

 

***Researchand development expenses.*** Research and development expenses for the quarter ended July 2,2005 increased to $0.8 million, or 1.3% of net sales, from $0.4 million, or 0.9%of net sales, from the quarter ended July 3, 2004.  For the two quarters ended July 2, 2005,research and development expenses were $1.9 million, or 1.5% of net sales, upfrom $1.3 million, or 1.3% of net sales, for the two quarters ended July 3,2004.  During the first two quarters offiscal 2005, the Company continued to fund research and development efforts forClearLab’s operations.

 

Total fiscal 2005research and development costs will be dependent on progress with research anddevelopment efforts relating to expanding ClearLab’s product offering anddeveloping its intellectual property.

 

***Otherselling, general and administrative expenses.***  Other selling, general and administrativeexpenses for the quarter ended July 2, 2005 increased approximately $1.5million from the quarter ended July 3, 2004.  As a percentage of net sales, other selling,general and administrative expenses for the quarter ended July 2, 2005decreased to 20.1% from 21.5% for the quarter ended July 3, 2004.  As a percentage of net sales, other selling,general and administrative expenses for the two quarters ended July 2,2005 decreased to 19.7% from 20.5% for the two quarters ended July 3,2004, however, such expenses increased by approximately $3.2 million for thesame period.

 

The Company’s U.S. Retailother selling, general and administrative expenses increased by approximately $1.2million for the quarter ended July 2, 2005 from the quarter ended July 3,2004; however, such expenses decreased as a percentage of net sales to 19.0%from 19.7% respectively, for the same periods. ClearLab’s other selling, general and administrative expenses increasedby approximately $0.3 million for the quarter ended July 2, 2005 from thequarter ended July 3, 2004.  For thetwo quarters ended July 2, 2005, the Company’s U.S. Retail other selling,general and administrative expenses increased by approximately $2.3 millionfrom the two quarters ended July 3, 2004. As a percentage of net sales, U.S. Retail other selling, general andadministrative expenses for the two quarters ended July 2, 2005 decreasedto 18.4% from 18.9% for the two quarters ended July 3, 2004.  ClearLab’s other selling, general andadministrative expenses increased by approximately $0.9 million for the twoquarters ended July 2, 2005 from the two quarters ended July 3, 2004.

 

The majority of the increasefor U.S. Retail relates to the continued enhancement of its operatinginfrastructure and management team to meet the demands of the business andvariable costs associated with higher net sales and the requirements of theFCLCA.  A majority of ClearLab’s increaserelated to the enhancement of its operating infrastructure and scale up of itsmanufacturing capabilities, including the operations of ClearLab UK.  The Company expects other selling, general andadministrative expenses to fluctuate as a percentage of net sales as theCompany continues to grow and expand its U.S. and international operations.

 

***Otherexpense, net.*** Other expense increased to approximately $1.2 million and $1.8 millionfor the quarter and two quarters ended July 2, 2005, respectively, fromapproximately $0.7 million and $1.1 million for the quarter and two quartersended July 3, 2004, respectively.  Forthe second quarter of fiscal 2005, other expense consisted of approximately$0.3 million in interest expense and $0.7 million in foreign currency exchangetransaction losses.  Other expense in thesecond quarter of fiscal 2004 consisted mainly of $0.4 million in interestexpense and $0.3 million in foreign currency exchange transaction losses.  For the first two quarters of fiscal 2005,other expense consisted mainly of foreign currency exchange transaction losses ofapproximately $1.1 million and interest expense of approximately $0.6million.   For the first two quarters offiscal 2004, other expense consisted mainly of interest expense ofapproximately $0.8 million and foreign currency exchange transaction losses of$0.2 million.  The foreign currencyexchange transaction losses related primarily to intercompany loans toClearLab.

 

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***Incometaxes.  ***The Companyis taxed in three separate jurisdictions - U.S., Singapore and the UnitedKingdom.  The Company recordedconsolidated income taxes for the quarter and two quarters ended July 2,2005 at the effective tax rates of 97% and 92%, respectively.  The Company’s effective U.S. income tax ratefor the two quarters ended July 2, 2005 is approximately 39% which isconsistent with the 39% reported for the two quarters ended July 3, 2004.   During the first two quarters of fiscal 2005,the Company did not record a tax benefit for the loss from the operations ofClearLab International due to the uncertainty with respect to the realizationof a tax benefit in Singapore.  For thefirst two quarters of fiscal 2005, the Company provided a valuation allowancefor the full amount of deferred income tax assets in Singapore.   For the first two quarters of fiscal 2005,the Company recorded a tax benefit for the loss from operations of ClearLab UKusing an effective tax rate of approximately 29%. The Company did not provide avaluation allowance for the deferred income tax assets in the United Kingdombecause the deferred tax liabilities recorded as of the date of acquisition ofClearLab UK were in excess of the deferred tax assets generated by the lossfrom operations during fiscal 2004 and the first two quarters of fiscal 2005,which operating loss can be carried forward indefinitely.  The Company’s effective income tax rates maychange as facts and circumstances change. The Company anticipates that its fiscal 2005 effective income tax ratefor the U.S. and the United Kingdom will be consistent with the respectiveeffective rates recorded during the first two quarters of fiscal 2005.

 

**Liquidity and Capital Resources**

 

The Company’s principal sources of liquidity have beencash provided by operating activities and proceeds from debt financings.  The Company’s principal uses of cash havebeen to meet debt service requirements, finance acquisitions, finance capitalexpenditures, fund working capital needs and repurchase common stock.  The Company anticipates that, with theexception of repurchases of common stock, these uses will continue to be theprincipal demands on its cash in the future. As of July 2, 2005, the Company had net working capital ofapproximately $5.9 million, compared to $10.0 million as of January 1,2005.  This decrease in net workingcapital is offset by a corresponding $0.9 million decrease in the Company’srevolving credit facility, which is classified as long-term and therefore notincluded in the calculation of net working capital.

 

The Company believes thatits cash on hand, together with cash generated from operating activities andthe borrowings available through the credit facility, will be sufficient tosupport planned operations through the foreseeable future.  Should the Company’s plans or expectationschange, the Company may be required to seek additional sources of funds andthere can be no assurance that such funds will be available on satisfactoryterms.  Failure to obtain such financingcould delay or prevent the Company’s planned growth, which could adverselyaffect the Company’s business, financial condition, liquidity and results ofoperations.

 

As a result of regulatory requirements, the Company’sliquidity, capital resources and results of operations may be negativelyimpacted in the future if the Company incurs increased costs (including legalfees) or fines, is prohibited from selling its products or experiences lossesof a substantial portion of the Company’s customers for whom the Company isunable to obtain or verify a prescription due to the requirements of the FCLCA.

 

The Company has a loan agreementwith a U.S. bank providing for a revolving credit facility for borrowings of upto $26.0 million as of July 2, 2005, which amount is reduced thereafter onthe first day of each September, December, March and June by$0.4 million until the maturity date of February 27, 2007.Additionally, the agreement provides for letters of credit up to a maximum of$15 million outstanding or payable at any time. The loan agreementspecifies that if the maximum leverage ratio, as defined in the agreement, isgreater than 2.5, then the amounts outstanding on the revolving credit facilitytogether with the amount of all outstanding letters of credit can at no timeexceed the Company’s book value of inventory. As of July 2, 2005, theCompany was not subject to this restriction and could borrow up to$26.0 million. Outstanding borrowings on the revolving credit facilitybear interest at a floating rate equal to the lender’s prime interest rate plusa margin or the lender’s LIBOR rate plus a margin. The interest rate isadjusted quarterly and ranges between prime plus 0.0 percent and primeplus 1.25 percent or between the applicable LIBOR rate plus2.0 percent and the applicable LIBOR rate plus 3.25 percent,depending on the Company’s maximum leverage ratio. As of July 2, 2005, theprime rate margin is 0.0 percent and the LIBOR rate margin is 2.0 percent.Interest is payable monthly. As July 2, 2005, the Company’s outstandingborrowings on the credit facility, including bank overdrafts, were$13.5 million. Of this amount, $4.5 million bore interest at the

 

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lender’s LIBOR rate plus2.0 percent (5.30% at July 2, 2005) and the remaining $9.0 millionbore interest at the lender’s prime rate plus 0.0 percent (6.00% at July 2,2005). The facility requires the quarterly payment of an unused credit feewhich ranges from 0.38 percent to 0.5 percent, depending on theCompany’s maximum leverage ratio.

 

All outstanding balanceson this credit facility are secured by substantially all of the Company’s U.S.assets, subsidiary debt instruments, 100 percent ownership interests inall domestic subsidiaries and 65 percent ownership interests in foreignsubsidiaries directly owned by the Company. The loan agreement includes variousfinancial covenants including a capital expenditure limit, a maximum leverageratio, a minimum working capital requirement, a minimum fixed charge coverageratio and a minimum net worth requirement. The loan agreement does not permitthe Company or its subsidiaries to dissolve, sell, dispose or merge all oftheir assets or acquire all of the assets of any entity without the writtenconsent of the U.S. bank, unless the transaction meets the definition of a “PermittedAcquisition Basket”, as defined in the agreement. The loan agreement alsoplaces a limit on the amount the Company can loan to any entity, outside thenormal course of business. Additionally, the agreement does not permit theCompany to declare or pay any cash dividends, to repurchase its stock or toperform other similar equity transactions prior to December 31, 2005;thereafter, such transactions are subject to other terms. This agreementdefines several customary events of default including any material adversechange or any event that occurs which may cause a material adverse change inthe Company’s or its subsidiaries’ condition.  As of July 2, 2005, the Company was in compliancewith all applicable covenants and restrictions.

 

The Company’s Singaporebank term loan contains various financial covenants including minimums on networth and shareholders’ funds of the Singapore operations.  The Company has guaranteed this term loan.

 

Cross default clausesexist such that if the Company were in default on its U.S. debt, the Companywould also be in default on its Singapore debt. If the Company were in defaulton its Singapore bank term loan, the Company would also be in default on itsnote payable to the former parent of ClearLab International and its restatedloan agreement with its U.S. bank.

 

***Cashflows from operating activities.***  For the two quarters ended July 2, 2005and July 3, 2004, net cash provided by (used in) operating activities wasapproximately $4.7 million and ($1.4 million), respectively.  In the fiscal 2005 period, cash was providedprimarily by net income adjusted for non-cash items and increases in accountspayable and accrued liabilities as well as by decreases in inventories.  The increase in cash was partially offset by increasesin accounts receivable, other receivables and other current assets as well asfrom decreases in income taxes payables and unearned revenue.  In the fiscal 2004 period, cash was usedprimarily for increases in inventories, other current assets, accountsreceivable and to fund the net loss, partially offset by an increase in accruedliabilities and accounts payable.

 

***Cash flows from investing activities.***  The Company used approximately $5.7 millionand $8.4 million for investing activities in the two quarters ended July 2,2005 and July 3, 2004, respectively. In the first two quarters of fiscal 2005, the Company paid approximately$1.5 million in deposits on manufacturing equipment at ClearLab. The Companyalso purchased approximately $0.6 million of intangible assets during thefiscal 2005 period.  In the fiscal 2004period, the Company paid approximately $3.8 million in cash (including $0.6 millionin transaction costs) in connection with the acquisition of ClearLab UK.  The Company also purchased approximately $1.0million of intangible assets during the fiscal 2004 period.

 

Capital expenditures forthe first two quarters of fiscal 2005 and 2004 were approximately $3.5 millionand $3.4 million, respectively.  Of theseamounts, approximately $2.6 million and $2.2 million relate to ClearLabpurchases for the 2005 and 2004 fiscal periods, respectively.  The Company anticipates additional capital expendituresin fiscal 2005 for infrastructure as it continues to expand and improveoperating facilities, telecommunications systems and management informationsystems in order to handle future operations of both its U.S. and internationaloperations.

 

***Financing activities.***  During the two quarters ended July 2,2005 and July 3, 2004, net cash (used in) provided by financing activitieswas approximately ($1.6 million) and $9.0 million, respectively.  In the first two fiscal quarters of 2005, theCompany paid down its credit facility by approximately $0.9 million and madeprincipal payments on debt obligations and capital lease obligations ofapproximately $0.9 million.  In the twofiscal quarters of 2004, the Company had net borrowings on its credit facility ofapproximately $17.4 million and made principal

 

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payments on debtobligations and capital lease obligations of approximately $8.4 million.  In the fiscal 2005 and 2004 periods, proceedsfrom the exercise of common stock options were $0.2 million and $0.1 million,respectively.

 

As of July 2, 2005, the Company had an unsecured, non-interest bearing note to ClearLab International’s chief technology officer with a principal balance of SGD$1,563,000 (USD$927,000). The note payable is discounted at 7%.  Payments are due in equal monthly installments through July 2007.

 

As of July 2, 2005, the Company had a termloan payable to a Singapore bank with a principal balance of SGD$6,610,000(USD$3,922,000) that bears interest at 6.75% and is secured by substantiallyall of the assets of ClearLab International. Interest payments are due monthly. Principal payments are due in monthly installments through December 2007.  This note also contains various financialcovenants including minimums on net worth and shareholders’ funds.  The Company has guaranteed this term loan.

 

As of July 2, 2005, the Company also had anote payable to the former parent of ClearLab International with a principalbalance of SGD$6,892,000 (USD$4,089,000) that bears interest at 6% and has asubordinated position to the term loan payable to the Singapore bank.  The note payable is discounted at 7%.  Interest payments are due monthly.  Principal payments are due in monthlyinstallments from January 2008 through December 2009.  The Company has guaranteed this note.

 

The Company leasesvarious manufacturing and other equipment from financing companies undercapital lease arrangements.  All of theequipment is maintained at the Singapore and United Kingdom facilities.  The majority of the leases were assumed inconnection with the Company’s acquisitions of ClearLab International andClearLab UK.  As of July 2, 2005, the present value of futureminimum lease payments was approximately $0.1 million with payments scheduledthrough fiscal 2009.

 

**Contractual Obligations andCommitments**

 

Subsequent to January 1,2005, there have been no material changes to the Company’s contractualobligations and commitments, outside the normal course of business.

 

**New Accounting Pronouncements**

 

In December 2004,the FASB issued SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS 123R”),which replaces SFAS No. 123, “Accounting for Stock-Based Compensation,” (“SFAS 123”)and supercedes APB Opinion No. 25, “Accounting for Stock Issued toEmployees.” SFAS 123R requires all share-based payments to employees,including grants of employee stock options, to be recognized in the financialstatements based on their fair values beginning with the first annual periodafter June 15, 2005, with early adoption encouraged. The pro formadisclosures previously permitted under SFAS 123 will no longer be analternative to financial statement recognition. The Company is required toadopt SFAS 123R in the first fiscal quarter of 2006, beginning January 1,2006. Under SFAS 123R, the Company must determine the appropriate fairvalue model to be used for valuing share-based payments, the amortizationmethod for compensation cost and the transition method to be used at date ofadoption. The transition methods include prospective and retroactive adoptionoptions. Under the retroactive option, prior periods may be restated either asof the beginning of the year of adoption or for all periods presented. Theprospective method requires that compensation expense be recorded for allunvested stock options at the beginning of the first quarter of adoption ofSFAS 123R, while the retroactive methods would record compensation expensefor all unvested stock options and beginning with the first period restated.The Company is evaluating the requirements of SFAS 123R and expects thatthe adoption of SFAS 123R will have a material impact on its consolidatedresults of operations and earnings per share. The Company has not yetdetermined the method of adoption or the effect of adopting SFAS 123R.

 

In November 2004, the FASB issued SFAS No. 151,“Inventory Costs” (“SFAS 151”). The provisions of this statement becomeeffective for the Company in fiscal 2006. SFAS 151 amends the existingguidance on the recognition of inventory costs to clarify the accounting forabnormal amounts of idle expense, freight, handling costs, and wasted material(spoilage). Existing rules indicate that under some circumstances, itemssuch as idle facility expense, excessive spoilage, double freight, andrehandling costs may be so abnormal as to require treatment as current periodcharges. SFAS 151 requires that those items be recognized as currentperiod charges regardless of

 

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whether they meet thecriterion of “so abnormal”. In addition, SFAS 151 requires that allocationof fixed production overheads to the costs of conversion be based on the normalcapacity of the production facilities. The Company is required to adoptSFAS 151 in the fiscal year beginning January 1, 2006. The Companyhas not yet determined the impact of SFAS 151.

 

**Critical Accounting Policies**

 

Accounting polices thatrequire significant judgments and estimates include revenue recognition(including sales returns and allowances and customer rebates); realizability ofinventories; realizability of deferred income tax assets; accounting forbusiness combinations including assessment of realizability of long-livedassets; stock-based compensation; and legal and regulatory contingencies.  A description of the Company’s significantaccounting policies is included in the notes to the consolidated financialstatements included in the Company’s Form 10-K for the fiscal year ended January 1,2005.  Judgments and estimates are based onhistorical experience as well as relevant facts and circumstances known at eachreporting date.  Actual results maydiffer from these estimates.

 

Sales are generallyrecognized when products are shipped and the customer takes ownership andassumes risk of loss, collection of the related receivable is reasonablyassured, persuasive evidence of an arrangement exists and the sales price isfixed or determinable.  U.S. Retail netsales consist of product sales less a provision for sales returns and allowancesand estimated customer rebates.  TheCompany accrues an estimated amount for unclaimed customer rebates and salesreturns and allowances based on historical information, adjusted for economictrends.  To the extent actual rebates,returns and allowances vary from historical experience revisions to theallowances may be required.  ClearLab netsales consist of product sales less a provision for sales returns andallowances. The Company provides its customers with standard industry paymentterms and performs ongoing credit evaluations of its customers and provides fordoubtful accounts to the extent determined necessary based on historical dataand current economic trends.  ClearLabnet sales also include license fees from the Company’s Japanese license agreement.  Cash payments received from this license arerecognized systematically over the periods that the fees are earned by theCompany.

 

In assessing therealizability of inventories, the Company makes judgments as to future demandrequirements and product expiration dates. The inventory requirements change based on projected customer demand,which changes due to fluctuations in market conditions and product life cycles.

 

The Company hassignificant long-lived tangible and intangible assets consisting of property,plant and equipment, goodwill and definite-lived intangibles.  These assets are reviewed for impairmentwhenever events or changes in circumstances indicate that the carrying amountsof such assets may not be recoverable. In addition, the Company performs an impairment test related to goodwillat least annually.  An impairmentanalysis related to long-lived tangible and definite-lived intangible assetsrequires the assessment of expected future undiscounted cash flows over theremaining useful life of the asset.  Animpairment analysis of goodwill requires the use of a fair-value basedanalysis.  All of the goodwill and asignificant portion of the other long-lived assets were generated from theCompany’s acquisitions of ClearLab International, ClearLab UK and Lens1st/LensExpress.  If forecasts and assumptionsused to support the realizability of long-lived assets change in the future,significant impairment charges could result that would adversely affect theCompany’s results of operations and financial position.

 

Deferred income taxassets are assessed for recoverability and valuation allowances are provided asnecessary to reduce deferred income tax assets to amounts expected to berealized.  Should expectations of taxableincome change in future periods, it may become necessary to change thevaluation allowance, which could affect the Company’s results of operations inthe period such determination is made. The Company records an income tax provision or benefit at a rate that isbased on expected results for the fiscal year. If future changes in market conditions cause actual results to be moreor less favorable, adjustments to the effective income tax rate on a quarterlybasis could be required.

 

The Company recordsliabilities for legal and regulatory matters when the contingency is bothprobable and reasonably estimable.  TheCompany is involved in several legal and regulatory matters.  The Company, after consultation with legalcounsel, believes that the ultimate dispositions of these matters will not havea material impact on its financial position, liquidity or results ofoperations.  However, there can be noassurance that the

 

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Company will besuccessful in its efforts to satisfactorily resolve these matters and theultimate outcome could result in a material negative impact on the Company’sfinancial position, liquidity or results of operations.

 

**Forward-Looking Statements**

 

Except for the historicalinformation contained herein, the matters discussed in this Form 10-Q areforward-looking statements within the meaning of Section 21E of theSecurities Exchange Act of 1934, as amended, and Section 27A of theSecurities Act of 1933, as amended. These forward-looking statements involve risks and uncertainties andoften depend on assumptions, data or methods that may be incorrect orimprecise.  The Company’s futureoperating results may differ materially from the results discussed in, orimplied by, forward-looking statements made by the Company.  Factors that may cause such differencesinclude, but are not limited to, those discussed below and the other risksdetailed in the Company’s other reports filed with the Securities and ExchangeCommission.  Words such as “believes,” “anticipates,”“expects,” “future,” “intends,” “would,” “may” and similar expressions areintended to identify forward-looking statements.  The Company undertakes no obligation torevise any of these forward-looking statements to reflect events orcircumstances after the date hereof.

 

*Factors that may affect futureresults may include, but are not limited to the following:*

 

•                                          TheCompany may encounter unforeseen difficulties in managing its future growth;

 

•                                          TheCompany obtains a large percentage of its retail inventory from a limitednumber of suppliers, with a single manufacturer accounting for 35%, 23% and 44%of the Company’s inventory purchases in fiscal 2002, 2003 and 2004,respectively.  In addition, the Company’stop three suppliers accounted for 63%, 59% and 83% of the Company’s inventorypurchased in fiscal 2002, 2003 and 2004, respectively;

 

•                                          TheCompany may incur an increase in order cancellations due to the prescriptionverification requirements of the Fairness to Contact Lens Consumers Act;

 

•                                          TheCompany may not be able to establish a sufficient network of eye carepractitioners to prescribe the products manufactured by the Company;

 

•                                          Becausethe Company does not manufacture most of the contact lenses that it sells, theCompany cannot ensure that all of the contact lenses it sells meet all federalregulatory requirements;

 

•                                          Itis possible that the FDA could consider certain of the contact lenses theCompany sells to be misbranded or adulterated;

 

•                                          TheCompany, through a wholly owned subsidiary, is registered as an initialdistributor/importer with the FDA.  TheCompany’s failure to comply with certain regulatory responsibilities andrequirements could result in enforcement by the FDA;

 

•                                          TheCompany currently purchases a portion of its products from unauthorizeddistributors and is not an authorized distributor for some of the products thatit sells;

 

•                                          TheCompany may continue to incur significant legal and professional fees relatedto its legal matters and its efforts to proactively influence the industry onbehalf of itself and consumers;

 

•                                          TheCompany’s quarterly results are likely to vary based upon the level of salesand marketing activity in any particular quarter;

 

•                                          TheCompany is dependent on its telephone, Internet and management informationsystems for the sale and distribution of contact lenses;

 

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•                                          Theretail sale of contact lenses is highly competitive; certain of the Company’scompetitors are large, national optical chains that have greater resources thanthe Company;

 

•                                          Thedemand for contact lenses could be substantially reduced if alternativetechnologies to permanently correct vision gain in popularity;

 

•                                          Increasesin the cost of shipping, postage or credit card processing could harm theCompany’s business;

 

•                                          TheCompany’s business could be harmed if it is required to collect state sales taxon the sale of all products;

 

•                                          TheCompany faces an inherent risk of exposure to product liability claims in theevent that the use of the products it manufacturers or sells results inpersonal injury;

 

•                                          TheCompany conducts its retail operations through a single distribution facility;

 

•                                          TheCompany’s success is dependent, in part, on continued use of the Internet;

 

•                                          Governmentregulation and legal uncertainties relating to the Internet and online commercecould negatively impact the Company’s business operations;

 

•                                          Changingtechnology could adversely affect the operation of the Company’s website;

 

•                                          TheCompany may not be able to develop and manufacture viable, high quality contactlenses for sale to consumers that meets all federal regulatory requirements;

 

•                                          TheCompany may not be able to fully integrate the operations of its acquisitionsinto its business;

 

•                                          Consumeracceptance of the Company’s manufactured products may not meet the Company’sexpectations;

 

•                                          TheCompany’s intellectual property rights may be challenged;

 

•                                          TheCompany may encounter legal, regulatory and government agency oversight riskswith foreign operations;

 

•                                          TheCompany may not be able to adequately manage its foreign currency risk;

 

•                                          TheCompany may incur unforeseen costs or not realize all of the anticipatedbenefits from its relationships with Johnson & Johnson Vision Care,CIBA Vision and Menicon;

 

•                                          TheCompany may be required to reduce the carrying value of its intangible assetsif events and circumstances indicate the remaining balance of intangible assetsmay not be recoverable;

 

•                                          TheCompany may not be able to complete its milestones and obligations in a timelymanner under the Japanese license agreement;

 

•                                          TheCompany may not receive the amount of license fees and royalties that itpresently anticipates under the Japanese license agreement;

 

•                                          Asignificant portion of the Company’s sales may be found not to comply withstate laws and regulations concerning the delivery and sale of contact lenses;and

 

•                                          TheCompany does not have any property rights in the 1-800 CONTACTS telephonenumber or the Internet addresses that it uses.

 

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**Item 3.****          *****Quantitative and QualitativeDisclosures About Market Risk***

 

***Interest Rate Risk.***** **As of July 2,2005, the Company was exposed to changes in interest rates relating to itsrevolving credit facility and other debt obligations.  The revolving credit facility bears interestat a variable rate based on the U.S. prime rate or LIBOR. The Company’soutstanding borrowings on the credit facility, including bank overdrafts, wereapproximately $13.5 million as of July 2, 2005. The remainder of the Company’sinterest bearing debt obligations, including capital lease obligations, isdenominated in Singapore dollars and British pounds and bears interest at afixed rate.  As of July 2, 2005, theface amounts of the outstanding borrowings on these fixed rate debt obligationswere approximately $8.1 million.  Ifinterest rates were to change by a full percentage point, the net impact oninterest expense would be approximately $0.1 million per year.

 

***Foreign CurrencyRisk.***  The Companyfaces foreign currency risks primarily as a result of its acquired Singaporeand United Kingdom operations and the intercompany balances between its U.S.and these international operations which are denominated in U.S. dollars.  The functional currency of the Company’sSingapore operations is the Singapore dollar. The Company has debt and other long-term obligations of approximately $9.1million that are denominated in Singapore dollars and mature over the next fiveyears.  Fluctuations in exchange ratesbetween the U.S. dollar and the Singapore dollar could lead to additionalcurrency exchange losses or gains on the intercompany balances and transactionsdenominated in currencies other than the functional currency.  For the first two quarters of fiscal 2005,the Company recorded a foreign currency transaction loss of approximately $0.5 millionon the intercompany balances between the U.S. and Singapore operations.  If the U.S. dollar weakens relative to theSingapore dollar, additional funds may be required to meet these obligations ifthe debt cannot be adequately serviced from the Singapore operations.  From the date of the ClearLab Internationalacquisition, July 24, 2002, through August 3, 2005 the exchange ratehas fluctuated approximately 5.2 percent (weakening of the U.S. dollar).   If the Singapore dollar were to weakenagainst the U.S. dollar by 10 percent, the Company would record a $2.0 milliondollar foreign currency loss on the intercompany balances that exist as of July 2,2005.

 

The functional currency of the Company’s UnitedKingdom operations is the British pound. Fluctuations in exchange rates between the U.S. dollar and the Britishpound could lead to currency exchange losses or gains on any intercompanybalances and transactions denominated in currencies other than the functionalcurrency.  For the first two quarters offiscal 2005, the Company recorded a foreign currency transaction loss ofapproximately $0.6 million on the intercompany balances between the U.S. andUnited Kingdom operations.  From the dateof the ClearLab UK acquisition, February 24, 2004, through August 3, 2005,the exchange rate has fluctuated approximately 5.3 percent (strengthening ofthe U.S. dollar).  If the British poundwere to weaken against the U.S. dollar by 10 percent, the Company would recorda $1.0 million dollar foreign currency loss on the intercompany balances thatexist as of July 2, 2005.

 

The Company has not entered into any foreign currencyderivative financial instruments; however, it may choose to do so in the futurein an effort to manage or hedge its foreign currency risk.

 

**Item 4.****          *****Controls and Procedures***

 

***(a) Evaluation of disclosure controls andprocedures*.**  TheCompany’s Chief Executive Officer and Chief Financial Officer, after evaluatingthe effectiveness of the Company’s disclosure controls and procedures (asdefined in Exchange Act Rules 13a-14 and 15d-14) as of the end of theperiod covered by this report (the “Evaluation Date”), have concluded that, asof the Evaluation Date, the Company’s disclosure controls and procedures wereadequate and effective to ensure that material information relating to theCompany and its consolidated subsidiaries would be made known to them by otherswithin those entities, except that the Company noted a deficiency related tothe recognition of revenue for a certain transaction in its internationalmanufacturing segment as further discussed below.

 

***(b) Changes in internal controls.***  There were no significant changes in theCompany’s internal controls or in other factors that have materially affectedor are reasonably likely to materially affect, the Company’s internal controlover financial reporting.

 

On August 2, 2005,the Company announced its results of operations for the quarter and twoquarters ended July 2, 2005.  Subsequentto the announcement, the Company reassessed the revenue recognition of acertain sales transaction in the Company’s international manufacturing segmentbased upon certain facts and circumstances which included among others, thecustomer requesting the restructure of an amount owed to the Company ofapproximately $0.5 million.  Upon furtheranalysis, the Company determined that the transaction should have beenaccounted for as a consignment arrangement in the fourth quarter of fiscal2004.  Accordingly, the Company hasreversed the sales transaction in the quarter ended July 2, 2005 which had thefollowing effect on the Company’s financial position and results ofoperations  (in thousands):

 
| ** **                       | ** ** | **July 2, 2005**   | ** ** | **July 2, 2005**          | ** ** |
|----------------------------------|------------|--------------------|------------|---------------------------|------------|
| ** **                       | ** ** | **(as announced)** | ** ** | **(as reported in 10-Q)** | ** ** |
| Accounts  receivable, net        |       | $                  | 4,441      |                      | $          | 3,965 |   |
| Inventories, net                 |       | 21,344             |       | 21,592                    |       |
| Total assets                     |       | 108,155            |       | 107,927                   |       |
| Total stockholders’  equity |       | $                  | 58,905     |                      | $          | 58,677 |   |

 
| ** **                                     | ** ** | **Quarter Ended**  | ** ** | **Quarter Ended**         | ** ** |
|------------------------------------------------|------------|--------------------|------------|---------------------------|------------|
| ** **                                     | ** ** | **July 2, 2005**   | ** ** | **July 2, 2005**          | ** ** |
| ** **                                     | ** ** | **(as announced)** | ** ** | **(as reported in 10-Q)** | ** ** |
| Net sales                                      |       | $                  | 61,841     |                      | $          | 61,365 |   |
| Gross profit                                   |       | 23,896             |       | 23,668                    |       |
| Net income                                     |       | 269                |       | 41                        |       |
| Basic and  diluted net income per common share |       | $                  | 0.02       |                      | $          | 0.00 |   |

 
| ** **                                     | ** ** | **Two Quarters Ended** | ** ** | **Two Quarters Ended**    | ** ** |
|------------------------------------------------|------------|------------------------|------------|---------------------------|------------|
| ** **                                     | ** ** | **July 2, 2005**       | ** ** | **July 2, 2005**          | ** ** |
| ** **                                     | ** ** | **(as announced)**     | ** ** | **(as reported in 10-Q)** | ** ** |
| Net sales                                      |       | $                      | 122,124    |                      | $          | 121,648 |   |
| Gross profit                                   |       | 46,404                 |       | 46,176                    |       |
| Net income                                     |       | 452                    |       | 224                       |       |
| Basic and  diluted net income per common share |       | $                      | 0.03       |                      | $          | 0.02 |   |

 

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In the course ofdetermining the adjustments, the Company identified certain controldeficiencies in its internal control over financial reporting.  The Company is evaluating the controls and willimplement improvements to its internal control over financial reporting that itbelieves will remediate these control deficiencies and enhance the reliabilityof its internal control over financial reporting.

 

Pursuant to the Sarbanes-Oxley Act of 2002 and rules of the Securitiesand Exchange Commission promulgated pursuant to that act, the Company will berequired to evaluate the effectiveness of its internal control over financialreporting as of December 31, 2005, and will be required to disclose management’sassessment of the effectiveness of its internal control over financialreporting, including any “material weakness” (within the meaning of PublicCompany Accounting Oversight Board (“PCAOB”) Auditing Standard No. 2) in itsinternal control over financial reporting. If the Company concludes that thereare one or more material weaknesses in its internal control over financialreporting, the Company will not be permitted to conclude that its internalcontrol over financial reporting is effective. It is possible that the controldeficiencies identified above or other control deficiencies, eitherindividually or in combination, constitute “significant deficiencies” (withinthe meaning of PCAOB Auditing Standard No. 2) or material weaknesses in theCompany’s internal control over financial reporting. As a result, if theCompany fails to adequately remediate these control deficiencies beforeDecember 31, 2005, and if the Company or its auditors conclude that they giverise to or otherwise constitute material weaknesses, the Company will not bepermitted to conclude that its internal control over financial reporting iseffective.

 

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**PART II.****                                               ****OTHER INFORMATION**

 

**Item 1.****                                                          *****Legal Proceedings***

 

See notes to condensedconsolidated financial statements.

 

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

 

None.

 

**Item 3.****                                                          *****Defaults Upon Senior Securities***

 

None.

 

**Item 4.****                                                          *****Submission of Matters to a Voteof Security Holders***

 

The annual meeting ofstockholders of the Company was held on May 20, 2005.  The stockholders approved the followingmatters:

 

•                  Theelection as directors of Thomas H. Boggs, Jr., John F. Nichols and GarthT. Vincent to serve until the annual meeting of stockholders in 2008 and untiltheir respective successors are elected and qualified.

 
| ** **                 | ** ** | **Votes Cast** | ** ** |
|----------------------------|------------|----------------|------------|
| ** **                 | ** ** | **For**        | ** ** | **Withheld** | ** ** |
| Thomas  H. Boggs, Jr. |       | 11,295,286     |       | 1,087,040 |   |
| John  F. Nichols           |       | 11,571,930     |       | 810,396 |   |
| Garth  T. Vincent          |       | 11,283,436     |       | 1,098,890 |   |

 

As of the date of theannual meeting of stockholders, the other directors of the Company included thefollowing persons:  (i) E. DeanButler and Stephen A. Yacktman who are serving until the annual meeting ofstockholders in 2006; and Jonathan C. Coon, Bradley T. Knight and Jason S.Subotky who are serving until the annual meeting of stockholders in 2007.

 

Effective July 28,2005, Stephen L. Key joined the Company’s Board of Directors.  With the appointment of Mr. Key, Mr. Yacktmanand Mr. Subotky tendered their resignations from the Company’s Board ofDirectors effective August 2, 2005.

 

•                  Approvalof amendment and restatement of the Company’s 2004 Stock Incentive Plan toincrease the amount of shares that may be issued under the plan and to restrictthe number of options that can be granted to any one individual in any calendaryear.

 

 
| **Votes Cast:** | ** ** |
|-----------------|------------|
| For             |       | 8,446,362 |   |
| Against         |       | 2,149,875 |   |
| Abstained       |       | 5,495 |   |
| Unvoted         |       | 1,846,434 |   |

 

•                  Ratificationof appointment of KPMG LLP as independent auditors to audit the Company’s booksand accounts for the fiscal year ending December 31, 2005.

 

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| **Votes Cast:** | ** ** |
|-----------------|------------|
| For             |       | 12,376,306 |   |
| Against         |       | 920 |   |
| Abstained       |       | 5,100 |   |
| Unvoted         |       | 65,840 |   |

 

**Item 5.****                                                           OtherInformation**

 

None.

 

**Item 6.****                                                          *****Exhibits***

 

**(A) Exhibits**

 
| **Exhibit No.** | ** ** | **Description of Exhibit**                                                                    |
|----------------------|------------|-----------------------------------------------------------------------------------------------|
| 3.1 (i)              |       | Restated  Certificate of Incorporation of the Company. (1)                                    |
| 3.1 (ii)             |       | Restated By-Laws  of the Company. (1)                                                         |
| 4.1                  |       | Form of  certificate representing shares of Common Stock, $0.1 par value per share.  (2) |
| 31.1                 |       | Certification  Required Pursuant to Section 302 of the Sarbanes-Oxley Act of2002.        |
| 31.2                 |       | Certification  Required Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.       |
| 32.1                 |       | Certification  Required Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.       |
| 32.2                 |       | Certification  Required Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.       |
|                 |       |                                                                                          |

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|   |   | (1)                                  Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the  quarterly period ended April 4, 1998 (Commission File No. 0-23633). |
|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                                                                                                                 |
|   |   | (2)                                  Incorporated  by reference to the same numbered exhibit to the Company’s Registration  Statement on Form S-1 (Registration No. 333-41055).                  |

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the Registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 

 
|                         | **1-800 CONTACTS, INC.** |
|------------------------------|--------------------------|
|                         |                     |
| ** **                   |                     |
| Dated: August 16,  2005 | By:                      | /s/ Jonathan C. Coon |   |
|                         | Name:                    | Jonathan C. Coon |
|                         | Title:                   | Chief Executive Officer |
|                         |                     |   |
|                         | By:                      | /s/ Brian W. Bethers |   |
|                         | Name:                    | Brian W. Bethers |
|                         | Title:                   | President and Chief  Financial Officer |
|                              |                          |  |  |  |

 

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