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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549

FORM 10-K

Commission File Number: 000-25867

DIRECT FOCUS, INC.
(Exact name of registrant as specified in its charter)

Registrant's telephone number, including area code: 360-694-7722

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

Securities registered pursuant to Section 12(g) of the Act: Common Stock, without par value

    Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days: Yes /x/  No / /

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

    The aggregate market value of the voting stock held by non-affiliates of the Registrant is $543,460,314 as of February 28, 2001 based upon the last sales price as reported by the Nasdaq National Market System.

    The number of shares outstanding of the Registrant's Common Stock as of February 28, 2001 was 23,744,414 shares.

    The Index to Exhibits appears on page 45 of this document. This document consists of 89 pages.

Documents Incorporated by Reference

    The Registrant has incorporated by reference into Part III of this Form 10-K portions of its Proxy Statement for its 2001 Annual Meeting of Stockholders.

DIRECT FOCUS, INC.
2000 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS

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PART I

Item 1. Business

Forward Looking Statements

    Certain statements contained in this Annual Report on Form 10-K, including, without limitation, statements containing the words "believes," "anticipates," "estimates," "intends," "expects," "projections," and words of similar import, constitute "forward-looking statements." Investors are cautioned that all forward-looking statements involve risks and uncertainties and various factors could cause actual results to differ materially from those in the forward-looking statements. From time to time and in this Form 10-K, we may make forward-looking statements relating to our financial performance, including the following:

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Anticipated revenues, expenses and gross margins;



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Anticipated earnings;



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New product introductions; and



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Future capital expenditures.

    Numerous factors could affect our actual results, including the following:

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Our reliance on a limited product line;



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Market acceptance of our existing and future products;



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Growth management challenges;



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Our limited experience in marketing Nautilus Sleep Systems;



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A decline in consumer spending due to unfavorable economic conditions;



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Government regulatory action;



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Our ability to effectively identify and negotiate any future strategic acquisitions, as well as to integrate any acquired businesses into our operations; and



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Unpredictable events and circumstances relating to international operations, including our use of foreign manufacturers.

    We describe certain of these and other key risk factors elsewhere in this Form 10-K. Readers are further cautioned not to place undue reliance on forward-looking statements, which speak only as of the date of this Form 10-K. We undertake no obligation to update publicly any forward-looking statements to reflect new information, events or circumstances after the date of this Form 10-K or to reflect the occurrence of unanticipated events.

INTRODUCTION

    Direct Focus, Inc. is a leading marketing company for fitness and healthy lifestyle products with a highly-effective direct business model. We market consumer products within our direct marketing segment directly to consumers through a variety of direct marketing channels, including spot television commercials, infomercials, print media, response mailings and the Internet.

    Our principal and most successful direct-marketed product to date has been our Bowflex line of home fitness equipment. We also offer a line of premium quality air sleep systems under the name "Nautilus Sleep Systems," which we began direct marketing on a nationwide basis in December of 1999.

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    Another significant component of our operations is our commercial and retail products segment, which encompasses products and operations outside of our direct products segment. Our commercial and retail products segment includes Nautilus commercial and retail fitness equipment and accessories, which we added in January 1999 as part of our acquisition of Nautilus International, Inc. We anticipate further leveraging our Nautilus brand name through expanded marketing of new Nautilus home gyms and a new line of Nautilus free weight home gym equipment which we introduced in the summer of 2000, as well as any other Nautilus-branded home exercise products we may introduce in 2001. We market and sell our Nautilus commercial fitness equipment domestically through a direct sales force and internationally through independent sales representatives. We market our other Nautilus retail products domestically through non-exclusive independent sales representatives. We believe we have effectively integrated the Nautilus commercial business into our operations and stabilized its financial performance, as evidenced by its profitability during our first two years of ownership.

    For a discussion of financial information about our two business segments, direct products and commercial and retail products, see Note 2 of the Notes to Consolidated Financial Statements.

    Direct Focus was incorporated in California in 1986 and became a Washington corporation in 1993. Our principal executive offices are located at 1400 NE 136^th Avenue, Vancouver, Washington 98684, and our telephone number is (360) 694-7722. We maintain our corporate web site at www.directfocusinc.com. None of the information on this web site or our other web sites is part of this Form 10-K.

    As used in this Form 10-K, the terms "we," "our," "us," "Direct Focus" and "the Company" refer to Direct Focus, Inc. and its subsidiaries. The names Bowflex®, Nautilus®, Bowflex Power-Pro®, Motivator®, Versatrainer®, Power Rod®, Direct Focus®, Instant Comfort® and Nautilus Sleep Systems® are registered trademarks of Direct Focus, Inc.

DIRECT MARKETING

    We direct market our Bowflex home fitness equipment and Nautilus Sleep Systems principally through 30- and 60-second, or "spot," television commercials, television infomercials, the Internet, response mailings and print media. To date, we have been highly successful with what we refer to as a "two-step" marketing approach. In general, our two-step approach focuses first on spot commercials, which we air to generate consumer interest in our products and requests for product information. The second step focuses on converting inquiries into sales, which we accomplish through a combination of response mailings and outbound telemarketing. We supplement our two-step approach with infomercials, which generally are designed to provide potential customers with sufficient product information to stimulate an immediate purchase.

Advertising

    Spot Commercials and Infomercials.  Spot television commercials are a key element of the marketing strategy for all of our direct marketed consumer products. For direct marketed products that may require further explanation and demonstration, television infomercials are an important additional marketing tool. We have developed a variety of spot commercials and infomercials for our Bowflex product line and several commercials and marketing videos for our Nautilus Sleep Systems product line. We expect to use spot commercials and, where appropriate, infomercials to market any consumer products that we determine are appropriate for direct marketing.

    When we begin marketing a new product, we typically test and refine our marketing concepts and selling practices while advertising the product in spot television commercials. Production costs for these commercials can range from $50,000 to $150,000. Based on market research and viewer response to our spot commercials, we may produce additional spot commercials and, if appropriate for the product, an infomercial. Production costs for infomercials can range from $150,000 to $500,000, depending on the

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scope of the project. Generally, we attempt to film several infomercial and commercial concepts at the same time in order to maximize production efficiencies. From this footage we can then develop several varieties of spot commercials and infomercials and introduce and refine them over time. We typically generate our own scripts for spot commercials and hire outside writers to assist with infomercial scripts. We also typically contract with outside production companies to produce spot commercials and infomercials.

    Once produced, we test spot commercials and infomercials on a variety of cable television networks that have a history of generating favorable responses for our existing products. Our initial objective is to determine the product's marketing appeal and what, if any, creative or product modifications may be appropriate. If these initial tests are successful, we then air the spot commercials and infomercials on an accelerating schedule of additional cable networks.

    Media Buying.  An important component of our direct marketing success is our ability to purchase quality media time at an affordable price. The cost of airing spot commercials and infomercials varies significantly, depending on the network, time slot and, for spot commercials, programming. Each spot commercial costs between $25 and $5,000 to air, and each infomercial costs between $600 and $55,000 to air. We currently purchase the majority of our media time on cable networks, through which we reach more than 70 million homes.

    We track the success of each of our spot commercials and infomercials by determining how many viewers respond to each airing of a spot commercial or infomercial. We accumulate this information in a database that we use to evaluate the cost-effectiveness of available media time. In addition, we believe the database enables us to predict with reasonable accuracy how many product sales and inquiries will result from each spot commercial and infomercial that we air. We also believe we can effectively track changing viewer patterns and adjust our advertising accordingly.

    We do not currently purchase media time under long-term contracts. Instead, we book most of our spot commercial time on a quarterly basis and most of our infomercial time on a monthly or quarterly basis, as networks make time available. Networks typically allow us to cancel booked time with two weeks' advance notice, which enables us to adjust our advertising schedule if our statistical tracking indicates that a particular network or time slot is no longer cost effective. Generally, we can increase or decrease the frequency of our spot commercial and infomercial airings at almost any time.

    Internet.  Our eCommerce sales have grown from 7.8% of direct sales in 1999 to 18.6% of direct sales in 2000 (24.4% in the fourth quarter of 2000), and we expect the Internet to continue as an increasingly important part of our direct marketing strategy. For example, we are promoting our web sites in spot commercials and infomercials in an effort to further stimulate electronic product inquiries and eCommerce transactions. We do not presently advertise our products on third-party web sites, but may do so in the future.

    We currently operate two direct marketing-oriented web sites. The first, www.bowflex.com, focuses on our Bowflex line of home exercise equipment. The second, www.nautilussleepsystems.com, focuses on our Nautilus Sleep Systems. In an effort to expand and enhance our web presence, we have added dedicated web site development and management personnel. Our immediate Internet-related goals include improving the capabilities at our Bowflex and Nautilus Sleep System web sites. In 1999, we used our web sites to generate interest in our products, but limited the information we provided to potential customers in an effort to induce them to initiate a telephone inquiry. In 2000, we believe we achieved a balance between our goals of finalizing sales and capturing consumer information by strategically designing our web pages and carefully analyzing web page hits, conversion rates, average sales prices and inquiry counts.

    Print Media.  We have advertised direct-marketed products in health and fitness-related consumer magazines and, to a limited extent, in entertainment, leisure and specialty magazines. We have

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determined that television advertising and the Internet generate more immediate consumer responses at a lower cost per inquiry and therefore have reduced the print media advertising expenditures for our direct marketed products. We will evaluate print media advertising expenditures for other direct-marketed products on a case-by-case basis.

Conversion of Inquiries into Sales

    Customer Service Call Center and Order Processing.  We operate our own customer service call center in Vancouver, Washington, which operates 16-17 hours per day and receives and processes all infomercial-generated and customer service-related inquiries regarding our Bowflex products and Nautilus Sleep Systems. We have developed a skill-based call routing system that automatically routes each incoming call to the most highly qualified inside sales agent or customer service representative available. The appropriate representative then answers product questions, pro-actively educates the potential customer about the benefits of our product line, promotes financing through our private label credit card, and typically upsells the benefits of higher priced models in our product line. This sophisticated system allows us to better utilize our agents, prioritize call types and improve customer service.

    We employ two large telemarketing companies to receive and process information requests generated by our spot television advertising 24 hours per day. The telemarketing agents for these companies collect only names, addresses and other basic information from callers and do not sell or promote our products. Consequently, we do not need to train these telemarketing agents.

    Internet.  We use television and print media to lead consumers to our web sites as we believe that consumers who visit our web sites are more inclined to purchase our products.

    Response Mailings.  We forward a "fulfillment kit" in response to each inquiry regarding our direct-marketed products. Each kit contains detailed literature that describes the product line and available accessories, a marketing video that demonstrates and highlights the key features of our premium product in the line, and additional information about how to purchase the product. If a potential customer does not respond within a certain time period, we proceed with additional follow-up mailings that convey a different marketing message and typically offer certain inducements to encourage a sale. The specific marketing message and offer at each stage will vary on a case-by-case basis, based on what our statistical tracking indicates is most likely to trigger a sale.

    Consumer Finance Programs.  We believe that convenient consumer financing is an important tool in our direct marketing sales efforts and induces many of our customers to make purchases when they otherwise would not. Currently, we offer "zero-down" financing to approved customers on all sales of our Bowflex Products and Nautilus Sleep Systems. We arrange this financing through a consumer credit company pursuant to a non-recourse consumer financing agreement. Under this arrangement, our customer service agents can obtain financing approval in a few minutes over the telephone and, if a customer is approved, immediately ship product without the need for cumbersome paperwork. The consumer finance company pays us promptly after submission of the required documentation and subsequently sends to each approved customer a Direct Focus private label credit card that can be used for future purchases of our products. There were approximately 131,000 private label cards with available credit of approximately $489 million outstanding as of February 28, 2001. During 2000, approximately 36.0% of our net sales were financed in this manner, and we believe this program will continue to be an effective marketing tool.

NAUTILUS SALES AND MARKETING

    We market and sell our Nautilus commercial fitness equipment domestically through a direct sales force, as well as a limited dealer network and internationally through independent sales distributors.

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During 2000, we hired a management team to oversee the sales and marketing operations of our Nautilus retail products business. Each member of the management team has significant industry experience and a history of sales and marketing success. Our retail product line is marketed through specialty fitness, sporting good and other retailers domestically through a direct sales force and independent sales representatives.

Direct Sales Force

    Our commercial direct sales force focuses on strengthening the market position of our existing Nautilus product line, which we sell principally to health clubs, large hotels, assisted living facilities and the government. Additionally, as we continue to broaden our product line with products like Nautilus Nitro commercial equipment, our direct sales force will target new market segments and, if successful, broaden our customer base. Internationally, we market and sell our Nautilus commercial fitness products through a worldwide network of independent distributors.

PRODUCTS

Bowflex Home Fitness Equipment

    We introduced the first Bowflex home exercise machine in 1986, and since then have implemented several improvements to its design and functionality. We now offer three different Bowflex machines and eight different models. The key feature of each Bowflex machine is our patented "Power Rod" resistance technology. Each Power Rod is made of a solid polymer material that provides lineal progressive resistance in both the concentric and eccentric movements of an exercise. When combined with a bilateral cable pulley system, the machines provide excellent range and direction of motion for a large variety of strength-building exercises.

    We currently offer the following Bowflex machines:

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The Power Pro, introduced in 1993, is our best selling product. The Power Pro is available in four different models: the basic Power Pro, the XT, the XTL and the XTLU. Each model offers over 60 different strength building exercises in one compact, foldable and portable design and comes with a 210-pound resistance pack that can be upgraded to 410 pounds. We have also incorporated an aerobic rowing exercise feature into the Power Pro. Prices currently range from $999 to $1,597, depending on the model and add-on features.



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The Motivator, introduced in 1996, is our entry-level strength training line. It is available in three different models: the basic Motivator, the XT and the XTL. Each model offers over 40 different strength building exercises in one compact, foldable design and comes standard with a 210-pound resistance pack that can be upgraded to 410 pounds. Prices currently range from $699 to $1,049, depending on the model and add-on features.



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The Versatrainer by Bowflex, introduced in 1988, is specifically designed to accommodate wheelchair-bound users. The Versatrainer's key advantage is that it permits users to exercise while remaining in their wheelchair, which offers enhanced independence and esteem. The Versatrainer can be found in many major rehabilitation hospitals, universities and institutions. The Versatrainer is currently priced at $1,699.

Nautilus Commercial and Retail Fitness Equipment and Accessories

    We currently offer the following Nautilus strength training equipment for the commercial market:

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Nautilus Selectorized Equipment

The Nautilus 2ST line of commercial strength equipment offers 27 high quality, technologically advanced strength building machines, each of which is specially designed to focus on a particular

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strength building exercise, such as leg presses, bench presses, super pullovers, hip abductors and adductors and leg curls. In addition, we offer a line of specially designed Nautilus 2ST equipment that we market principally to medical therapy and rehabilitation clinics. The key component of each Nautilus 2ST machine is either its "cam" or a four-bar linkage mechanism, which builds and releases resistance as a user moves through an exercise. The resistance is at its minimum during the initial and final stages of an exercise, and at its maximum in the middle of an exercise. The cam or four-bar linkage mechanism is designed to accommodate and maximize the benefits associated with the motion required for that machine. Other features are convergent and divergent upper body compound movements, four-bar linkages that produce functional movement, kevlar belt drives, selectorized one pound add-on weight systems, seat accessible weight stacks, hydraulic seat adjustments, and quick release shields. 2ST is also Fitlinxx and Fitness Advisor compatible.

The Nautilus NITRO line, introduced in late 2000, is a complete line of compact selectorized machines. It is ideal for clubs and other facilities where floor space is limited. Nautilus NITRO features super-smooth belt drives, patented four-bar linkage, classic full range variable resistance cams and converging axis movements. Each Nautilus NITRO machine features 2" by 4" bent steel frames and 5-pound increment weight adjustments. In addition, EZ Glide seat adjustments make Nautilus NITRO easily adaptable to a variety of sizes, tastes, and exercise movements.

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Nautilus Free Weight Equipment

In 1999, we introduced a line of Nautilus free weight equipment with new innovations in design and engineering intended to help club owners better serve their customers. The product line offers a sleeker look, tougher components and increased versatility. This new free weight gear can be coupled with the Nautilus selectorized equipment circuit to give facility managers a complete strength gym to serve all strength fitness tastes.

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Nautilus Retail Equipment and Accessories

Our commercial and retail business also distributes a line of quality retail fitness equipment and accessories.

Our Nautilus retail business distributes a full line of fitness accessories, such as weight belts, jump ropes and ankle weights to the specialty fitness retailers and sporting goods industry. The current line includes over fifty products. We intend to continue to build and develop the Nautilus retail fitness business and expand our offering of Nautilus brand retail fitness products.

Significant advances marked the retail line during 2000. To begin with, the entire product line was re-energized as products went through a rigorous re-evaluation based on sales dollars, fitness trends and functionality. Once the product line was developed, the entire line was re-packaged in updated and distinctive signature packaging. Each package was designed to prominently showcase the Nautilus logo, while also showcasing the product in use.

Along with new handheld fitness items, Nautilus Fitness Products introduced two home gyms, the Strength Station and an Adjustable Bench with chrome dumbbells.

At the 2000 Super Show®, we introduced a new twelve-piece line of commercial-quality free weight home gym equipment and selectorized weight stack home gyms. This line represents an important step in expanding our products for the retail fitness market and in bringing Nautilus quality to the home.

Nautilus Sleep Systems

    In December 1999, we began marketing a line of premium air sleep systems which we have named the "Nautilus Sleep Systems." The key feature of each Nautilus Sleep System is its variable firmness

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support chamber, an air chamber within each airbed that can be electronically adjusted to regulate firmness. All queen and larger airbeds in our Signature, Premier and Ultimate Premier Series are equipped with dual air chambers that enable users to maintain different firmness settings on each side of the bed. We believe that variable firmness and other comfort-oriented features of our Nautilus Sleep Systems favorably differentiate them from conventional innerspring mattresses.

    We currently offer four models of our Nautilus Sleep System:

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The Ultimate Premier Series is our top-of-the-line Nautilus Sleep System. It features dual patent pending interlocking variable support chambers that permit users to maintain separate firmness settings on each side of the airbed. The interlocking chambers regulate airflow and pressure to more effectively maintain support when a user changes position. The Ultimate Premier Series comes with a removable wool blend and silk blend pillow top sleeping surface, which permits users to easily convert to a "tight top" surface when they desire extra firmness. The Ultimate Premier Series also has an upgraded comfort layer of visco-elastic foam that conforms to a user's body. The Ultimate Premier Series is available in seven sizes and currently ranges in price from $1,199.99 for a twin to $1,799.99 for a California king, excluding foundation.



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The Premier Series features dual patent-pending interlocking variable support chambers that permit users to maintain separate firmness settings on each side of the airbed. The interlocking chambers regulate airflow and pressure to more effectively maintain support when a user changes position. The Premier Series comes with a removable wool blend pillow top sleeping surface, which permits users to easily convert to a "tight top" surface when they desire extra firmness. The Premier Series is available in seven sizes and currently ranges in price from $699.99 for a twin to $1,299.99 for a California king, excluding foundation.



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The Signature Series is designed to appeal to consumers who desire the flexibility of dual variable firmness support chambers, but at a more affordable price. Our customers can choose between a tight top and a pillow top sleeping surface over a one and one-half inch convoluted foam comfort layer. The Signature Series is available in seven sizes and currently ranges in price from $399.99 for a twin to $999.99 for a California king, excluding foundation.



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The Basic Series is our entry-level Nautilus Sleep System, which features a single, head-to-toe variable firmness support chamber and a traditional tight-top sleeping surface over a one and one-half inch thick convoluted foam comfort layer. The Basic Series is available in five sizes and currently ranges in price from $249.99 for a twin to $699.99 for a California king, excluding foundation.

    We offer foundations that are specifically designed to support and enhance the performance of our Nautilus Sleep Systems. We advise consumers to use our foundations because conventional box springs tend to sag and wear over time, causing an airbed to eventually mirror the worn box spring. We believe the majority of our Nautilus Sleep System customers will order a complete sleep system, which includes both a mattress and a foundation. Our foundations currently range in price from $199 for a twin to $399 for a California king.

NEW PRODUCT DEVELOPMENT AND INNOVATION

Direct Marketing Products

    We develop direct marketing products either from internally generated ideas or, as with its Bowflex technology, by acquiring or licensing patented technology from outside inventors and then enhancing the technology. During the evaluation phase of product development, we evaluate the suitability of the product for direct marketing, whether the product can be developed and manufactured in acceptable

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quantities and at an acceptable cost, and whether it can be sold at a price that satisfies our profitability goals. More specifically, we look for high-quality consumer products that:

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Have patented or patentable features;



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Will have a retail price between $500 and $2,500;



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Can be marketed as a line of products with materially different features that facilitate upselling; and



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Have the potential for mass consumer appeal, particularly among members of the "baby-boom" generation, who are accustomed to watching television and now have significant disposable income.

    In addition, because of our relatively high retail price target, we typically require that a product have a potential television advertising life cycle of at least five years and the possibility of an extended life cycle in retail stores.

    Once we determine that a product may satisfy our criteria, we further assess the product's direct marketing potential by continuing to research the product and its probable market and by conducting blind product and focus group studies. If we develop the product internally, or if we acquire or license the rights to the product, we will then proceed to develop and test a direct marketing campaign for the product. In most cases, our direct marketing campaigns will emphasize the use of spot commercials and television infomercials, which we supplement with print media advertisements, written materials, marketing videos and our web sites.

    Our growth strategy and financial performance depend in part on our ability to develop or acquire the rights to, and then direct market, new consumer products. Our net sales and profitability would be harmed if we are unable to develop or acquire the rights to premium quality, premium priced consumer products that satisfy our direct marketing criteria. In addition, any new products that we direct market may not generate sufficient net sales or profits to justify their development or acquisition costs.

Nautilus Commercial Fitness Products

    Our Nautilus commercial product development group develops and refines our commercial fitness products. The group's members gather and evaluate ideas from various areas, including existing and potential customers, sales and marketing, manufacturing, engineering and finance, and then determine which ideas will be incorporated into existing products or will serve as the basis for new products. Based on these ideas, the group designs new or enhanced products, develops prototypes, tests and modifies products, develops a manufacturing plan, and finally brings products to market. The group evaluates, designs and develops each new or enhanced product, taking into consideration our marketing requirements, target price points, target gross margin requirements and manufacturing constraints. In addition, each new or enhanced product must maintain the Nautilus standard of quality and reputation for excellence. We incorporate principles of physiology, anatomy and biomechanics into all of our Nautilus machines in order to match the movements of the human body throughout an exercise. Our key objective is to produce products that minimize the stress on users' skeletal systems and connective tissues and maximize the safety and efficiency of each workout. In late 2000, the Nautilus Nitro line was introduced after extensive research and development by this group.

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Nautilus Retail Fitness Products and Accessories

    We have developed a line of Nautilus retail strength training fitness equipment and hand-held fitness accessories. Current products include free weight home gym equipment, selectorized weight stack home gyms and a variety of hand held fitness accessories, such as jump ropes, hand weights and other similar devices.

MANUFACTURING AND DISTRIBUTION

Bowflex Products and Nautilus Sleep Systems

    Our primary manufacturing and distribution objectives for our Bowflex products and Nautilus Sleep Systems are to maintain product quality, reduce and control costs, maximize production flexibility and improve delivery speed. We use a computerized inventory management system to forecast our manufacturing requirements. In general, we attempt to use outside suppliers to manufacture a majority of our raw materials and finished parts. We select these suppliers based upon their production quality, cost and flexibility. Whenever possible and in order to improve flexibility, we will attempt to use at least two suppliers to manufacture each product component. We currently use overseas suppliers to manufacture most of our Bowflex components, although we produce the main component of our Bowflex products, the Power Rods, exclusively in the United States. We intend to use outside suppliers that meet our manufacturing criteria. We have transferred production of some of our Nautilus Sleep Systems components overseas and we are also changing suppliers as we increase sales to enable us to reduce product cost while improving quality.

    We inspect, package and ship our products from our Washington, Virginia and Nevada facilities. We rely primarily on UPS to deliver our Bowflex and our Nautilus Sleep Systems products.

Nautilus Commercial and Retail Fitness Equipment and Accessories

    Our Nautilus manufacturing operations are vertically integrated and include such functions as metal fabrication, powder coating, upholstery and vacuum-formed plastics processes. By managing our own manufacturing operations, we can control the quality of our Nautilus products and offer our commercial customers the opportunity to order certain color variations. We currently distribute Nautilus commercial fitness equipment from our Virginia warehouse facilities directly to customers primarily through our truck fleet. This method of distribution allows us to effectively control the set-up and inspection of equipment at the end-user's facilities. We outsource the manufacturing of Nautilus retail fitness equipment and fitness accessories to outside foreign manufacturers. We currently distribute our Nautilus fitness equipment and accessories from our Nevada facilities using various commercial truck lines or direct to customers at overseas ports.

INDUSTRY OVERVIEW

Fitness Equipment

    We market our Bowflex home fitness equipment principally in the United States, which we believe is a large and growing market. According to the Sporting Goods Manufacturers' Association, United States consumers spent roughly $5.5 billion on home exercise equipment in 1999 and 1998. While sales are flat overall, sales of products in the categories we compete in are up as much as 13% from 1998 to 1999.

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    We market our Nautilus commercial fitness equipment throughout the world, including the United States, Europe, Asia, the Middle-East, Latin America and Africa. Within these markets, we target the following commercial customers, among others:

    According to the Sporting Goods Manufacturers' Association, aggregate sales of fitness equipment to commercial purchasers in the United States soared from $575 million in 1998 to $700 million in 1999, a 22% increase.

Mattresses

    The United States mattress market is large and dominated by four major manufacturers whose primary focus is the conventional innerspring mattress. According to the International Sleep Products Association, United States mattress and foundation sales totaled 38.2 million units shipped in 1999, representing a 4.4 percent increase from 1998. Total dollar value of these wholesale shipments reached $4.3 billion in 1999, an 8% increase from 1998. We believe this equates to over $7.6 billion in retail sales. The International Sleep Products Association (ISPA) estimates that innerspring mattresses accounted for approximately 90% of total domestic mattress sales in 1999. The ISPA also believes that less than 7% of all mattress sales are made through direct marketing channels. According to the ISPA, the bedding industry has enjoyed years of uninterrupted growth. In 1998, queen-sized mattresses became the largest selling segment. Both queen- and king-sized mattresses picked up market share in 1999.

COMPETITION

Bowflex Home Fitness Equipment

    The market for our Bowflex products is highly competitive. Our competitors frequently introduce new and/or improved products, often accompanied by major advertising and promotional programs. We believe the principal competitive factors affecting this portion of our business are price, quality, brand name recognition, product innovation and customer service.

    We compete directly with a large number of companies that manufacture, market and distribute home fitness equipment, and with the many health clubs that offer exercise and recreational facilities. We also compete indirectly with outdoor fitness, sporting goods and other recreational products. Our principal direct competitors include ICON Health & Fitness, Inc. (through its Health Rider, NordicTrak, Image, Proform, Weider and Weslo brands), Schwinn Fitness, Precor and Total Gym. In addition, some of our competitors have significantly greater financial and marketing resources, which may give them and their products an advantage in the marketplace.

    We believe our Bowflex line of home exercise equipment is competitive within the market for home fitness equipment based on product design, quality and performance and that our direct marketing activities are effective in distinguishing our products from the competition.

Nautilus Commercial Fitness Equipment

    The market for commercial fitness equipment is highly competitive. Our Nautilus products compete against the products of numerous other commercial fitness equipment companies, including Life Fitness, Cybex and Precor. Many of our competitors have greater financial and marketing

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resources, significantly more experience in the commercial fitness equipment industry, and more extensive experience manufacturing their products. We believe the key competitive factors in this industry include price, product quality and durability, diversity of features, financing options and warranties. Many commercial customers are also interested in product-specific training programs that educate them regarding how to safely maximize the benefits of a workout and achieve specific fitness objectives. In addition, certain commercial customers, such as hotels and corporate fitness centers, have limited floor space to devote to fitness equipment. These customers tend to favor multi-function machines that require less floor space.

    Our principal line of Nautilus commercial fitness equipment, the Nautilus 2ST, carries a premium price, however, we believe its reputation for quality and durability appeals to a significant portion of the market that strives for long-term product value. In addition, the Nautilus 2ST possesses unique features that appeal to the commercial market, such as low friction working parts, one-pound incremental weight stacks and hydraulic seat adjustments. We also offer training programs that are responsive to marketplace demands.

    Our newest line of Nautilus commercial fitness equipment, the Nautilus NITRO was developed especially to meet the needs of commercial customers such as hotels and fitness centers with limited floor space. In addition to being compact, Nautilus NITRO has competitive price points and a universal design that looks good in a variety of settings. With both the 2ST and Nautilus NITRO, we offer low cost lease and rental programs, as well as a wide array of value-added marketing, profit enhancing, and training programs.

Nautilus Sleep Systems

    The mattress industry is also highly competitive, as evidenced by the wide range of products available to consumers, such as innerspring mattresses, waterbeds, futons and other air-supported mattresses. According to the International Sleep Products Association, conventional innerspring mattresses presently account for at least 90% of all domestic mattress sales. We believe market participants compete primarily on the basis of price, product quality and durability, brand name recognition, innovative features, warranties and return policies.

    We believe our most significant competition is the conventional mattress industry, which is dominated by four large, well-recognized manufacturers: Sealy (which also owns the Stearns & Foster brand name), Serta, Simmons and Spring Air. Although we believe our Nautilus Sleep Systems offer consumers an appealing alternative to conventional mattresses, many of these conventional manufacturers, including Sealy, Serta, Simmons and Spring Air, possess significantly greater financial, marketing and manufacturing resources and have better brand name recognition.

    Moreover, several manufacturers currently offer beds with firmness technology similar to our Nautilus Sleep Systems. We believe the largest manufacturer in this niche market is Select Comfort, Inc. Select Comfort offers its sleep systems at company-owned retail stores throughout the United States and engages in a significant amount of direct marketing, including infomercials, targeted mailings, print, radio and television advertising. Select Comfort has an established brand name, marketing and manufacturing resources. Select Comfort also has significantly greater experience in marketing and distributing airbeds. Despite these advantages, we believe the market for airbeds is large enough for both companies to be successful. In addition, we believe our Nautilus Sleep Systems possess features that will enable us to compete effectively against Select Comfort and other airbed companies.

    We believe our success in the mattress business depends in part on convincing consumers that variable firmness control and other features of our sleep system favorably differentiate our products from those of our competitors. We also believe our experience with direct marketing will enable us to successfully convey this message. However, the intense competition in the mattress industry, both from

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conventional mattress manufacturers and Select Comfort, may adversely affect our efforts to market and sell our airbeds and, consequently, may adversely affect our financial performance.

INTELLECTUAL PROPERTY

    Protecting our intellectual property is an important factor in maintaining our competitive position in the fitness and mattress industries. If we do not, or are unable to, adequately protect our intellectual property, our sales and profitability could be adversely affected. Accordingly, we have taken the following protective measures:

•

We hold 17 United States patents and have applied for three additional United States patents with respect to our Nautilus products;



•

We hold four patents relating to our Bowflex home fitness equipment;



•

We have applied for one patent relating to our Nautilus Sleep Systems;



•

We have obtained United States trademark protection for various names associated with our products, including "Bowflex," "Nautilus," "Power Rod," "Bowflex Power Pro," "Motivator" and "Versatrainer";



•

We have applied for United States trademark protection for the names "Direct Focus," "Instant Comfort" and various other names and slogans associated with our products;



•

We have registered the name "Bowflex" in Canada and the European Community, and have registered or applied to register the "Nautilus" trademark in approximately 30 foreign countries;



•

We have obtained trademark protection for the "look" of our Bowflex Power Rods; and



•

We hold eight United States copyright registrations relating to our Nautilus products.

    Notwithstanding these measures, our efforts to protect our proprietary rights may be inadequate, and applicable laws provide only limited protection. For example, of our four Bowflex patents, the most important covers our Power Rods, and this patent expires on April 27, 2004. The other three patents expire on February 16, 2005, April 14, 2007, and January 4, 2010. In addition, we may not be able to successfully prevent others from claiming that we have violated their proprietary rights. We could incur substantial costs in defending against such claims, even if they are invalid, and we could become subject to judgments requiring us to pay substantial damages.

    Each federally registered trademark is renewable indefinitely if the mark is still in use at the time of renewal. We are not aware of any material claims of infringement or other challenges to our right to use our marks.

ENVIRONMENTAL REGULATION

    Environmental regulations most significantly affect our Nautilus facilities in Independence, Virginia. The Virginia Department of Environmental Quality has issued an air permit for several point sources at this facility. The sources include boilers, flash ovens and high solids paint booths. The permit imposes operation limits based on the length of time each piece of equipment is operated each day, and we operate the plant within these limits. The town of Independence, Virginia has issued an industrial user's wastewater permit that governs our discharge of on-site generated wastewater and storm water. In addition to the foregoing, in early 1999, we completed a Phase I Environmental Site Assessment and a limited Phase II Soil Analysis Assessment at our Nautilus facilities in Independence, Virginia. No significant deficiencies or violations were noted. We do not believe that continued compliance with federal, state and local environmental laws will have a material effect upon our capital expenditures, earnings or competitive position.

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EMPLOYEES

    As of December 31, 2000, we employed 398 full-time employees, including 3 executive officers and 38 part-time employees. None of our employees are subject to any collective bargaining agreement.

Item 2. Properties

    In August 2000, we purchased a 90,000 square foot facility in Vancouver, Washington as a warehouse, production, distribution and administrative facility. We retained our lease on an approximately 17,325 square foot facility in Vancouver, Washington which we will continue to use as our customer call center. We lease this property pursuant to an operating lease that expires April 30, 2002. The aggregate base rent is approximately $6,629 per month and is subject to annual adjustments based upon changes in the consumer price index, but no adjustment may exceed 6.0% in any calendar year.

    We house our Nautilus commercial operations and our East Coast distribution center for our Bowflex products in Independence, Virginia. We own 54 acres of commercial real property include the following facilities:

•

A 124,000 square foot building devoted to fabrication, finishing, assembly, plastics, upholstery, warehousing and shipping;



•

A 100,000 square foot building devoted to fabrication, Bowflex warehousing and used equipment operations;



•

A 27,105 square foot building that houses our Nautilus engineering, prototyping, customer service and administrative operations; and



•

A 9,187 square foot administrative and product display building.

    We also have a distribution center in Las Vegas, Nevada. We distribute Bowflex equipment, Nautilus Sleep Systems and Nautilus retail fitness products and accessories from this 93,332 square foot facility. This lease expires November 30, 2002. The aggregate base rent is approximately $27,066 per month, and is subject to an annual cost of living increase of 3.5%.

    In 2000, we purchased approximately 19.5 acres of land in Las Vegas, Nevada for $1.1 million. We may build a distribution, warehouse and administrative facility on the land.

    In general, our properties are well maintained, adequate and suitable for their purposes, and we believe these properties will meet our operational needs for the foreseeable future. If we require additional warehouse or office space, we believe we will be able to obtain such space on commercially reasonable terms.

Item 3. Legal Proceedings

    As of March 2001, there were no material pending legal proceedings to which we or our subsidiaries were a party. From time to time, we become involved in ordinary, routine or regulatory legal proceedings incidental to our business.

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

    No matters were submitted to a vote of our shareholders during the quarter ended December 31, 2000.

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PART II

Item 5. Market for Registrant's Common Equity and Related Stockholder Matters

Market Price of Our Common Stock

    Since May 4, 1999, our common stock has been listed for trading exclusively on The Nasdaq National Market System under the symbol DFXI. Prior to such date, our common stock was listed for trading exclusively on the Toronto Stock Exchange in the Province of Ontario, Canada, under the symbol DFX. The following table summarizes the high and low closing prices for each period indicated, adjusted to reflect the three-for-two splits effective August 2000 and January 2001:

    As of February 28, 2001, 23,744,414 shares of our common stock were issued and outstanding and held of record by shareholders.

    Payment of any future dividends is at the discretion of our board of directors, which considers various factors, such as our financial condition, operating results, current and anticipated cash needs and expansion plans. Our credit lines do not restrict the payment of dividends. To date, we have never declared or paid any cash dividends on our common stock and do not presently intend to declare any cash dividends in the near future. Instead, we intend to retain and direct any future earnings to fund our anticipated expansion and growth.

USE OF PROCEEDS

    We received approximately $17.9 million in net proceeds from the sale of 975,000 shares of common stock in our May 1999 initial U.S. public offering, which includes proceeds from the overallotment option exercised by the managing underwriters. We applied $7 million of the net proceeds toward stock repurchases, $1.3 million toward computer and related technology upgrades, $1.1 million to purchase land for a potential distribution site in Nevada, and $4.2 million to purchase a building in Washington. We also used approximately $4.3 million of the net proceeds for working capital purposes, including increased direct marketing expenditures and increases in inventory and accounts receivable balances due to the growth of our business.

Item 6. Selected Consolidated Financial Data

    The selected consolidated financial data presented below for each of the years in the three-year period ended December 31, 2000 and the selected consolidated balance sheet data presented below as of December 31, 1999 and 2000 have been derived from the audited consolidated financial statements of the company included elsewhere in this report. The selected consolidated statement of operations data for the years ended December 31, 1996 and 1997 and the selected consolidated balance sheet data as of December 31, 1996 and the selected consolidated balance sheet data as of December 31, 1996, 1997 and 1998 have been derived from audited financial statements of the Company not included

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herein. The data presented below should be read in conjunction with our financial statements and notes thereto and Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations."

+

Balances reflect adoption of EITF Consensus 00-10

*

Reflects the three-for-two stock splits effective August 2000 and January 2001

(1)

Basic earnings per share have been computed by dividing net income by the weighted average number of shares of common stock outstanding during each period. Diluted earnings per share have been computed by dividing net income by the weighted average number of shares of common stock and common stock equivalents, such as stock options, outstanding during each period.

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

RESULTS OF OPERATIONS

    We believe that period-to-period comparisons of our operating results are not necessarily indicative of future performance. You should consider our prospects in light of the risks, expenses and difficulties frequently encountered by companies experiencing rapid growth and, in particular, rapidly growing

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companies that operate in evolving markets. We may not be able to successfully address these risks and difficulties. Although we have experienced net sales growth in recent years, our net sales growth may not continue, and we cannot assure you of any future growth or profitability.

    The following table presents certain financial data as a percentage of total revenues:

COMPARISON OF THE YEARS ENDING DECEMBER 31, 2000 AND DECEMBER 31, 1999

Net Sales

    Net sales grew by 68.3% to $223.9 million in 2000 from $133.1 million in 1999. Sales within our direct products segment increased by 75.3% over prior year levels and accounted for $198.1 million, or 88.5%, of our aggregate net sales in 2000. Net sales within our commercial and retail product segment increased by 28.6% over prior year levels and accounted for $25.8 million, or 11.5% of our net sales.

    Sales growth in 2000 primarily resulted from expanded direct marketing of our Bowflex and Nautilus Sleep Systems products and the growth we experienced in eCommerce sales, as well as the positive impact of the strong domestic economy that existed until late 2000. Within our direct products segment, with respect to both our Bowflex products and our Nautilus Sleep Systems, we intend to further expand our use of spot television commercials and expand our use of infomercials of our Bowflex products during 2001 by increasing our presence in existing television markets and entering new television markets. We intend to increase sales within our Nautilus products segment by continuing to develop new products and expanding our direct sales efforts both domestically and internationally.

    Except for the fourth quarter, fiscal 2000 sales of our Bowflex products appear to have been consistent with historic trends. As in prior years, first and third quarter sales of our Bowflex products were strong, while the second quarter reflected seasonal weakness. Our direct marketing business is largely dependent upon national cable television advertising, and we are finding that second quarter influences on television viewership, such as the broadcast of national network season finales and seasonal weather factors, are causing our spot television commercials on national cable television to be marginally less effective than in other periods of the year. During the fourth quarter of 2000 and 1999,

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we experienced unusually strong consumer demand compared to the third quarter for our Bowflex products, which we believe is a trend that will not continue for the fourth quarter in future periods.

    Sales within our commercial and retail business were, and we believe will continue to be, strongest in the third and fourth quarters. We believe the principal reason for this trend is the commercial fitness industry's preparation for the impact of New Year fitness resolutions and seasonal weather factors in the fourth quarter, and retail fitness store purchases of fitness equipment in preparation for the Christmas buying season and New Year fitness resolutions in the third and fourth quarters.

    Notwithstanding our product diversification efforts, we anticipate that sales of our Bowflex Power Pro will continue to account for a substant