The Daily Magic Formula Stock for 01/30/2009 is Herman Miller Inc. According to the Magic Formula Investing Web Site, the ebit yield is 28% and the EBIT ROIC is 75-100%.
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General Development of Business
The company researches, designs, manufactures, and distributes interior furnishings, for use in various environments including office, healthcare, educational, and residential settings, and provides related services that support organizations and individuals all over the world. The companyâ€™s products are sold primarily to or through independent contract office furniture dealers. Through research, the company seeks to define and clarify customer needs and problems existing in its markets and to design, through innovation where appropriate and feasible, products, systems, and services as solutions to such problems. Ultimately, the company seeks to enhance the performance of human habitats worldwide, making its customersâ€™ lives more productive, rewarding, delightful, and meaningful.
Herman Miller, Inc. was incorporated in Michigan in 1905. One of the companyâ€™s major plants and its corporate offices are located at 855 East Main Avenue, PO Box 302, Zeeland, Michigan, 49464-0302, and its telephone number is (616) 654-3000. Unless otherwise noted or indicated by the context, the term â€ścompanyâ€ť includes Herman Miller, Inc., its predecessors, and majority-owned subsidiaries. Further information relating to principles of consolidation is provided in Note 1 to the Consolidated Financial Statements included in Item 8 of this report.
Financial Information about Segments
Information relating to segments is provided in Note 20 to the Consolidated Financial Statements included in Item 8 of this report.
Narrative Description of Business
The companyâ€™s principal business consists of the research, design, manufacture, and distribution of office furniture systems, products, and related services. Most of these systems and products are designed to be used together.
The company is a leader in design and development of furniture and furniture systems. This leadership is exemplified by the innovative concepts introduced by the company in its modular systems (including Action OfficeÂ®, Qâ„˘ System, EthospaceÂ®, ResolveÂ®, My Studio Environments TM and Vivo Interiors TM ). The company also offers a broad array of seating (including AeronÂ®, MirraÂ®, Celleâ„˘, EquaÂ®, ErgonÂ®, and AmbiÂ® office chairs), storage (including MeridianÂ® filing products), wooden casegoods (including GeigerÂ® products), and freestanding furniture products (including PassageÂ® and Abakâ„˘). Going beyond these product offerings, the companyâ€™s Convia TM business offers a programmable, modular electrical building infrastructure solution which enables building owners and individuals to adapt their habitat in new and profound ways. In fiscal 2008, the company introduced and began order entry for Teneo TM storage furniture, a system of free standing storage, hosting, and display pieces designed for both individual and group work settings. Additionally, the company acquired Brandrud Inc., a manufacturer of seating, tables, casework, and accessories primarily for healthcare, as well as education and corporate environments.
The companyâ€™s products are marketed worldwide by its own sales staff, its owned dealer network, independent dealers and retailers, and via the Internet. Salespersons work with dealers, the design and architectural community, and directly with end-users. Independent dealerships concentrate on the sale of Herman Miller products and some complementary product lines of other manufacturers. It is estimated that approximately 70 percent of the companyâ€™s sales in the fiscal year ended May 31, 2008, were made to or through independent dealers. The remaining sales were made directly to end-users, including federal, state, and local governments, and several major corporations, by the companyâ€™s own sales staff, its owned dealer network, or independent retailers.
The company is also a recognized leader within its industry for the use, development, and integration of customer-centered technologies that enhance the reliability, speed, and efficiency of our customers' operations. This includes proprietary sales tools, interior design and product specification software; order entry and manufacturing scheduling and production systems; and direct connectivity to the companyâ€™s suppliers.
The companyâ€™s furniture systems, seating, freestanding furniture, storage and casegood products, and related services are used in (1) office/institution environments including offices and related conference, lobby, and lounge areas, and general public areas including transportation terminals; (2) health/science environments including hospitals, clinics, and other healthcare facilities; (3) industrial and educational settings; and (4) residential and other environments.
The companyâ€™s manufacturing materials are available from a significant number of sources within the United States, Canada, Europe, and Asia. To date, the company has not experienced any difficulties in obtaining its raw materials. The costs of certain direct materials used in the companyâ€™s manufacturing and assembly operations are sensitive to shifts in commodity market prices. In particular, the costs of steel components, plastics, and particleboard are sensitive to the market prices of commodities such as raw steel, aluminum, crude oil, lumber, and resins. Increases in the market prices for these commodities can have an adverse impact on the companyâ€™s profitability. Further information regarding the impact of direct material costs on the companyâ€™s financial results is provided in Managementâ€™s Discussion and Analysis in Item 7 of this report.
Patents, Trademarks, Licenses, Etc.
The company has 157 active United States utility patents on various components used in its products and 52 active United States design patents. Many of the inventions covered by the United States patents also have been patented in a number of foreign countries. Various trademarks, including the name and stylized â€śHerman Millerâ€ť and the â€śHerman Miller Circled Symbolic Mâ€ť trademark are registered in the United States and many foreign countries. The company does not believe that any material part of its business depends on the continued availability of any one or all of its patents or trademarks, or that its business would be materially adversely affected by the loss of any thereof, except for Herman MillerÂ®, Herman Miller Circled Symbolic MÂ®, GeigerÂ®, Action OfficeÂ®, EthospaceÂ®, AeronÂ®, MirraÂ®, EamesÂ®, PostureFitÂ®, and Vivo Interiors TM . It is estimated that the average remaining life of such patents and trademarks is approximately 5 years and 10 years, respectively.
Working Capital Practices
Information concerning the companyâ€™s inventory levels relative to its sales volume can be found under the Executive Overview section in Item 7 of this report. Beyond this discussion, the company does not believe that it or the industry in general, has any special practices or special conditions affecting working capital items that are significant for understanding the companyâ€™s business.
It is estimated that no single dealer accounted for more than 4 percent of the companyâ€™s net sales in the fiscal year ended May 31, 2008. It is also estimated that the largest single end-user customer accounted for approximately 7 percent of the companyâ€™s net sales with the 10 largest customers accounting for approximately 16 percent of net sales. The company does not believe that its business depends on any single or small number of customers, the loss of which would have a materially adverse effect upon the company.
Backlog of Unfilled Orders
As of May 31, 2008, the companyâ€™s backlog of unfilled orders was $286.2 million. At June 2, 2007, the companyâ€™s backlog totaled $288.0 million. It is expected that substantially all the orders forming the backlog at May 31, 2008, will be filled during the next fiscal year. Many orders received by the company are reflected in the backlog for only a short period while other orders specify delayed shipments and are carried in the backlog for up to one year. Accordingly, the amount of the backlog at any particular time does not necessarily indicate the level of net sales for a particular succeeding period.
Other than standard provisions contained in contracts with the United States Government, the company does not believe that any significant portion of its business is subject to material renegotiation of profits or termination of contracts or subcontracts at the election of various government entities. The company sells to the U.S. Government both through a GSA Multiple Award Schedule Contract and through competitive bids. The GSA Multiple Award Schedule Contract pricing is principally based upon the companyâ€™s commercial price list in effect when the contract is initiated, rather than being determined on a cost-plus-basis. The company is required to receive GSA approval to increase its list prices during the term of the Multiple Award Schedule Contract period.
All aspects of the companyâ€™s business are highly competitive. The company competes largely on design, product and service quality, speed of delivery, and product pricing. Though the company is one of the largest office furniture manufacturers in the world, it competes with many smaller companies in several markets and with several manufacturers that have greater resources and sales. In the United States, the companyâ€™s most significant competitors are Haworth, HNI Corporation, Kimball International, Knoll, and Steelcase.
Research, Design and Development
The company draws great competitive strength from its research, design and development programs. Accordingly, the company believes that its research and design activities are of significant importance. Through research, the company seeks to define and clarify customer needs and problems and to design, through innovation where feasible and appropriate, products and services as solutions to these customer needs and problems. The company uses both internal and independent research and design resources. Exclusive of royalty payments, the company spent approximately $38.8 million, $42.1 million, and $36.7 million, on research and development activities in fiscal 2008, 2007, and 2006, respectively. Generally, royalties are paid to designers of the companyâ€™s products as the products are sold and are not included in research and development costs since they are variable based on product sales.
Living with integrity and respecting the environment stands as one of the company's core values. This is based in part, on the belief that environmental sustainability and commercial success are not exclusive ends, but instead exist side by side in a mutually beneficial relationship. The company continues to rigorously reduce, recycle, and reuse solid waste generated by its manufacturing processes and the companyâ€™s efforts and accomplishments have been widely recognized. Additionally, the company is pursuing the use of green energy in its manufacturing processes. Based on current facts known to management, the company does not believe that existing environmental laws and regulations have had or will have any material effect upon the capital expenditures, earnings, or competitive position of the company.
The company considers its employees to be another of its major competitive strengths. The company stresses individual employee participation and incentives, believing that this emphasis has helped attract and retain a competent and motivated workforce. The companyâ€™s human resources group provides employee recruitment, education and development, and compensation planning and counseling. There have been no work stoppages or labor disputes in the companyâ€™s history, and its relations with its employees are considered good. Approximately 6 percent of the companyâ€™s employees are covered by collective bargaining agreements, most of whom are employees of its Integrated Metal Technology, Inc., and Herman Miller Limited (U.K.) subsidiaries.
As of May 31, 2008, the company employed 6,292 full-time and 186 part-time employees, representing a 1.3 percent decrease and a 7.5 percent decrease, respectively, compared with June 2, 2007. In addition to its employee work force, the company uses temporary purchased labor to meet uneven demand in its manufacturing operations.
Information about International Operations
The companyâ€™s sales in international markets are made primarily to office/institutional customers. Foreign sales consist mostly of office furniture products such as Ethospace, Abak, Aeron, Mirra, and other seating and storage products. The company conducts business in the following major international markets: Europe, Canada, Latin America, and the Asia/Pacific region. In certain foreign markets, the companyâ€™s products are offered through licensing of foreign manufacturers on a royalty basis.
The companyâ€™s products currently sold in international markets are manufactured by wholly owned subsidiaries in the United States, the United Kingdom, and China. Sales are made through wholly owned subsidiaries or branches in Canada, France, Germany, Italy, Japan, Mexico, Australia, Singapore, China, India, and the Netherlands. The companyâ€™s products are offered in the Middle East, South America, and Asia through dealers.
In several other countries, the company licenses manufacturing and selling rights. Historically, these licensing arrangements have not required a significant investment of funds or personnel by the company, and in the aggregate, have not produced material net earnings for the company.
Additional information with respect to operations by geographic area appears in Note 20, of the Notes to the Consolidated Financial Statements included in Item 8 of this report. Fluctuating exchange rates and factors beyond the control of the company, such as tariff and foreign economic policies, may affect future results of international operations. Refer to Item 7A, Quantitative and Qualitative Disclosures about Market Risk , for further discussion regarding the companyâ€™s foreign exchange risk.
The companyâ€™s annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports are made available free of charge through the â€śInvestorsâ€ť section of the companyâ€™s internet website at www.hermanmiller.com , as soon as practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission (SEC). The companyâ€™s filings with the SEC are also available for the public to read and copy in person at the SECâ€™s Public Reference Room at 100 F Street NE, Washington, DC 20549, by phone at 1-800-SEC-0330, or via their internet website at www.sec.gov .
MANAGEMENT DISCUSSION FROM LATEST 10K
Managementâ€™s Discussion and Analysis
You should read the issues discussed in Managementâ€™s Discussion and Analysis in conjunction with the companyâ€™s Consolidated Financial Statements and the Notes to the Consolidated Financial Statements included in this Form 10-K.
We use problem-solving design and innovation to enhance the performance of human habitats worldwide, making our customersâ€™ lives more productive, rewarding, delightful, and meaningful. We do this by providing high quality products and related knowledge services. At present, most of our customers come to us for work environments in both corporate office and healthcare settings. We also have a growing presence in educational and residential markets, including home office. Our primary products include furniture systems, seating, storage and material handling solutions, freestanding furniture, and casegoods. Our services extend from workplace to furniture asset management. In Fiscal 2008, we introduced Teneo TM storage furniture, a system of free-standing storage, hosting, and display pieces designed for individual and group work settings. We extended our reach into the work accessories market in fiscal 2008 with The Be Collection TM , a suite of new products designed to enhance personal comfort, organization, and technology support. Convia TM , our new product and new business launched in fiscal 2007, leads us into the field of modular electrical building systems. This building infrastructure offering enables building owners and individuals to adapt and control their habitat in new and profound ways.
We are globally positioned in terms of manufacturing operations. In the United States, our manufacturing operations are located in Michigan, Georgia, and Washington. In Europe, we have a significant manufacturing presence in the United Kingdom, our largest marketplace outside of the United States. In Asia, we have manufacturing operations in Ningbo, China.
Our products are sold internationally through wholly-owned subsidiaries or branches in various countries including Canada, France, Germany, Italy, Japan, Mexico, Australia, Singapore, China, India, and the Netherlands. Our products are offered elsewhere in the world primarily through independent dealerships. We have customers in over 100 countries around the globe.
We manufacture our products using a system of lean manufacturing techniques collectively referred to as the Herman Miller Production System (HMPS). We strive to maintain efficiencies and cost savings by minimizing the amount of inventory on hand. Accordingly, production is order-driven with direct materials and components purchased as needed to meet demand. The standard lead time for the majority of our products is 10 to 20 days. As a result, the rate of our inventory turns is high. These combined factors could cause our inventory levels to appear relatively low in relation to sales volume.
A key element of our manufacturing strategy is to limit fixed production costs by sourcing component parts from strategic suppliers. This strategy has allowed us to increase the variable nature of our cost structure while retaining proprietary control over those production processes that we believe provide us a competitive advantage. As a result of this strategy, our manufacturing operations are largely assembly-based.
Our business consists of various operating segments as defined by generally accepted accounting principles. These operating segments are determined on the basis of how we internally report and evaluate financial information used to make operating decisions and are organized by the various markets we serve. For external reporting purposes, we aggregate these operating segments as follows.
North American Furniture Solutions â€“Includes the business associated with the design, manufacture, and sale of furniture products for office and healthcare environments throughout the United States, Canada, and Mexico.
Non-North American Furniture Solutions â€“Includes the business associated with the design, manufacture, and sale of furniture products primarily for work-related settings outside North America.
Other â€“Includes our North American residential furniture business as well as other business activities such as Convia, and unallocated corporate expenses.
We rely on the following core strengths in delivering workplace solutions to our customers.
Problem-Solving Design and Innovation â€“We are committed to developing research-based functionality and aesthetically innovative new products and have a history of doing so. We believe our skills and experience in matching problem-solving design with the workplace needs of our customers provide us with a competitive advantage in the marketplace. An important component of our business strategy is to actively pursue a program of new product research, design, and development. We accomplish this through the use of an internal research and design staff as well as third party design resources generally compensated on a royalty basis.
Operational Excellence â€“We were among the first in our industry to embrace the concepts of lean manufacturing. HMPS provides the foundation for all of our manufacturing operations. We are committed to continuously improving both product quality and production and operational efficiency. We have begun to extend this lean process work externally to our manufacturing supply chain and to our distribution channel. We believe this work holds great promise for further gains in reliability, quality and efficiency.
Building and Leading Networks â€“We value relationships in all areas of our business. We consider our networks of innovative designers, owned and independent dealers, and suppliers to be among our most important competitive factors and vital to the long-term success of our business.
Channels of Distribution
Our products and services are offered to most of our customers under standard trade credit terms between 30 and 45 days and are sold through the following distribution channels.
Independent Contract Furniture Dealers and Licensees â€“Most of our product sales are made to a network of independently owned and operated contract furniture dealerships doing business in many countries around the world. These dealers purchase our products and distribute them to end customers. We recognize revenue on product sales through this channel once our products are shipped and title passes to the dealer. Many of these dealers also offer furniture-related services, including product installation.
Owned Contract Furniture Dealers â€“At May 31, 2008, we owned 9 contract furniture dealerships, some of which have operations in multiple locations. The financial results of these owned dealers are included in our Consolidated Financial Statements. Product sales to these dealerships are eliminated as inter-company transactions from our consolidated financial results. We recognize revenue on these sales once products are shipped to the end customer and installation is substantially complete. We believe independent ownership of contract furniture dealers is generally, the best model for a financially strong distribution network. With this in mind, our strategy is to continue to pursue opportunities to transition our owned dealerships to independent owners. Where possible, our goal is to involve local managers in these ownership transitions. Subsequent to the end of our fiscal year, we transitioned one owned dealership in Texas to independent ownership status. The effect of this transaction on the companyâ€™s consolidated financial statements is not material.
Direct Customer Sales â€“We sometimes sell products and services directly to end customers without an intermediary (e.g. sales to the U.S. federal government). In most of these instances, we contract separately with a dealership or third-party installation company to provide sales-related services. We recognize revenue on these sales once products are shipped and installation is substantially complete.
Independent Retailers â€“Certain products are sold to end customers through independent retail operations. Revenue is recognized on these sales once products are shipped and title passes to the independent retailer.
Our fiscal years ended May 31, 2008 and June 2, 2007 each included 52 weeks of operations. By comparison, the year ended June 3, 2006 included 53 weeks of operations. The extra week was required to bring our fiscal reporting dates in line with the actual calendar months. We report an additional week of operations in our fiscal calendar approximately every six years for this reason.
Although fiscal 2008 was a year marked with several challenges and uncertainties, we once again realized many achievements. We translated modest top-line growth into solid improvement in operating income and record earnings per share. Our relentless pursuit of innovative solutions coupled with our strategy to diversify into new and emerging markets both at home and abroad, enabled us to grow despite generally slowing economic activity in certain key markets. Also, our cost control efforts and the timing of cost increases for certain inputs proved to limit our exposure to increasing costs for raw materials and fuel. Our expanded international distribution channel and increased manufacturing presence in China contributed to another double-digit increase in sales for our non-North American Furniture Solutions segment. Net sales outside of North America continued to increase as a percentage of our consolidated net sales in fiscal 2008.
In addition to growing the business overseas, our North American Furniture Solutions segment posted modest growth for the year. The acquisition of Brandrud Furniture, Inc. (Brandrud) during fiscal 2008 contributed to our double-digit sales growth to the healthcare industry. With this acquisition, we expanded our reach into patient rooms, patient treatment areas, and public spaces.
We introduced several new products designed to reach customers in nearly all areas of our business. These new products made a strong showing at Neocon, the contract furniture industryâ€™s largest tradeshow. Our newly introduced filing and storage solution, Teneo TM , won â€śBest of Showâ€ť at NeoCon and we were named â€śManufacturer of the Yearâ€ť by the Office Furniture Dealers Association.
In fiscal 2008, we significantly changed our capital structure to better leverage our balance sheet. We issued $200 million of senior unsecured private placement notes and commenced a $200 million accelerated share repurchase program (ASR). Prior to the ASR, we repurchased approximately 2.1 million shares. As a result of the ASR, we retired an additional 5.4 million shares, bringing the full-year repurchase count to 7.5 million shares. The ASR will be completed in September 2008 and we expect to retire approximately 2 million additional shares at that time. We also increased our borrowing capacity with a new $250 million syndicated revolving line of credit.
During the year, we announced several initiatives to improve our operating profitability and enable greater and faster investment in our strategic growth initiatives. We put in place a restructuring action that eliminated approximately 150 full-time positions and we implemented cost reduction activities that boosted operating earnings toward our long-term goal of 13 percent of sales. We are pleased with our performance for the year, and we continue to actively manage our business in a volatile macro-economic environment.
Looking forward, the general economic outlook for our industry in the U.S. is expected to be negative through calendar year 2009, and we remain appropriately cautious as a result. BIFMA issued its most recent report in May 2008 and expects that the growth rate of office furniture orders and shipments in the U.S. for the balance of calendar 2008 to be negative 6.5 percent and negative 9.7 percent, respectively. For calendar 2009, BIFMA expects negative 6.3 percent for both orders and shipments compared to calendar 2008. This downturn is primarily the result of tighter credit, pale growth in GDP, concerns over inflation and business confidence which may create a drag on office furniture consumption. BIFMA expects that corporate profits will rebound in early 2009 and modestly boost office furniture consumption.
For the fiscal year ended May 31, 2008, consolidated net sales rose 4.9 percent to $2,012.1 million from $1,918.9 million in fiscal 2007. This year-over-year growth was driven by strong top-line performance across several of our operating units, most notably in the markets that we serve outside of North America.
The weakening of the U.S. Dollar during fiscal 2008 added approximately $27 million to our top-line growth and we realized an increase of $7.1 million in net sales due to our recent acquisition of Brandrud. In fiscal 2007, we recognized $20.4 million of net sales to a third party equipment manufacturer (OEM Sales). The OEM Sales contract expired at the end of fiscal 2007 and accordingly, there were no related sales recorded in fiscal 2008.
Consolidated net trade orders for fiscal 2008 totaled $2,008.5 million. This is comparable to net trade orders of $1,967.0 million last year, and represents an increase of 2.1 percent. There was some volatility in our order pacing in fiscal 2008 primarily due to uncertainties in the U.S. economy. We also experience normal seasonality from quarter to quarter due to the timing of orders from the federal government and the December holiday season. Our backlog of unfilled orders at the end of fiscal 2008 totaled $286.2 million, a 0.6 percent decline from $288.0 million at the end of fiscal 2007.
BIFMA reported an estimated year-over-year increase in U.S. office furniture shipments of approximately 3.5 percent for the twelve-month period ended May 2008. By comparison, net sales growth for our domestic U.S. business totaled approximately 2.8 percent. We believe that while comparisons to BIFMA are important, we continue to pursue a strategy of revenue diversification that makes us less reliant on the drivers that impact BIFMA.
Fiscal 2007 Compared to Fiscal 2006
Consolidated net sales of $1,918.9 million in fiscal year 2007 increased $181.7 million from fiscal 2006. This increase of 10.5 percent was driven by growth within both of our reportable business segments. The additional week in fiscal 2006 added approximately $31 million in net sales to that period. Excluding the impact of this additional week, the year-over-year growth in net sales between fiscal years 2006 and 2007 totaled approximately 12.5 percent. Despite intense price competition in all of our major market areas, we captured approximately $24 million to $26 million of net sales in fiscal 2007 as a result of pricing actions.
Consolidated net trade orders in fiscal 2007 totaled $1,967.0 million representing a year-over-year growth of 11.4 percent from orders of $1,765.7 million in fiscal 2006. Excluding the extra week of operations in the fiscal 2006, order growth was 13.7 percent between periods.
Average weekly order pacing was higher in the first half of fiscal 2007 than in the second half of the year. This trend reflected moderating demand in the North American contract furniture market, combined with the seasonality we typically experience in our order patterns. The backlog of unfilled orders at the end of fiscal 2007 totaled $288.0 million, increasing 20.9 percent from the fiscal 2006 level of $238.2 million.
During the first quarter of fiscal 2006, we completed the sale of two wholly-owned contract furniture dealerships and ceased the consolidation of an independently-owned dealership we had previously consolidated as a Variable Interest Entity (VIE) under Financial Accounting Standards Board Interpretation No. 46, â€śConsolidation of Variable Interest Entitiesâ€ť (FIN 46(R)). Due to this dealershipâ€™s improved financial condition, the owners were successful in obtaining outside bank financing. As a result, we were no longer required to include this VIE in our Consolidated Financial Statements. These dealership transitions affected our year-over-year comparisons. Net sales and trade orders from these dealers included in our fiscal 2006 financial results totaled approximately $10.7 million and $14.4 million, respectively. The financial results of these dealerships were not included in our Consolidated Financial Statements during fiscal 2007.
In the second quarter of fiscal 2008, we announced a restructuring program designed to reduce operating expenses and improve profitability. These actions included the elimination of approximately 150 full-time positions within the North American Furniture Solutions segment. The positions that were eliminated represented a variety of functional areas, and the individuals affected were offered one-time termination benefits, including severance and outplacement services. Pre-tax restructuring expenses for fiscal 2008 of $5.1 million, are reflected separately in the Consolidated Statements of Operations. The related cash payments were $4.5 million in fiscal 2008. The balance of the restructuring accrual at May 31, 2008 is $0.6 million, and is reflected on the Consolidated Balance Sheet within â€śOther accrued liabilities.â€ť
Discussion of Business Segments â€” Fiscal 2008 Compared to Fiscal 2007
Net sales within our North American Furniture Solutions segment increased from $1,563.6 million in fiscal 2007 to $1,636.3 million in the current year. This represents a year-over-year increase of $72.7 million or 4.7 percent. We experienced growth throughout our North American business operations, but particularly strong growth was experienced in the healthcare industry which posted double-digit year-over-year growth. The healthcare industry remains a key growth area within the segment and lines up with our strategy to pursue diversification. Sales at our Mexican subsidiary again reached double-digit growth over the prior year. Canadian sales turned around from a flat year in 2007 to impressive double-digit growth in fiscal 2008. Operating earnings for the segment in fiscal 2008 were $195.9 million, or 12.0 percent of net sales. This compares to segment earnings of $161.7 million or 10.3 percent in the prior year. With top-line growth of 4.7 percent within the segment, we saw both dollar and percent-of-sales increases to operating earnings in the North American Furniture Solutions segment. This segmentâ€™s strong operating performance is largely due to improved margins on certain recently introduced products, our focus on cost management, and our execution of the restructuring plan discussed above.
Net sales from our non-North American Furniture Solutions segment continues to grow at double-digit rates. Every region within the segment posted increases in year-over-year net sales. Total net sales for the segment were $323.5 million, up $45.0 million or 16.2 percent. Sales generated from our non-North American Furniture Solutions segment increased to 16.1 percent of our consolidated net sales, an increase of 160 basis points from 14.5 percent in the prior year. The largest sales contribution within this segment continues to come from our operations in the United Kingdom, which posted a 17.5 percent year-over-year increase to the top line. We also saw a strong increase in net sales within continental Europe. Our results within the Asia Pacific region are particularly noteworthy, growing by 26.8 percent from the prior year. We continue to pursue our diversification strategy and the effects are clearly visible in these results. Operating earnings within our non-North American segment totaled $47.3 million for the year or 14.6 percent of net sales. This compares to $28.9 million or 10.4 percent of net sales in fiscal 2007, an increase of 420 basis points.
Net sales within the â€śOtherâ€ť segment category were $52.3 million in fiscal 2008 compared to $76.8 million in the prior year. As previously discussed within the context of consolidated net sales, the decrease is primarily the result of OEM Sales of $20.4 million recognized in fiscal 2007 that did not occur in fiscal 2008. Net sales within our North American Home business were down 8.3 percent primarily due to the challenges associated with the U.S. macroeconomic environment.
The U.S. Dollar continued to weaken against major currencies throughout fiscal 2008. The changes in currency exchange rates from the prior year affected the U.S. dollar value of net sales within both primary operating segments. We estimate these changes effectively increased our fiscal 2008 net sales within the North American Furniture Solutions segment by approximately $12 million, driven largely by the U.S. dollar / Canadian dollar average exchange rate during the current year. Currency exchange rate fluctuations within our non-North American Furniture Solutions segment, increased net sales in fiscal 2008 by approximately $15 million. This was primarily driven by favorable movements in the U.S. Dollar / British Pound Sterling and U.S. Dollar / Euro exchange rates as compared to last year. It is important to note that period-to-period changes in currency exchange rates have a directionally similar impact on our international cost structures. Operating earnings within our non-North American segment increased an estimated $6 million in fiscal 2008 due to the aforementioned changes in currency exchange rates relative to the prior year level. The estimated impact on operating earnings of our North American business segment was an increase of approximately $1 million.
Discussion of Business Segments â€” Fiscal 2007 Compared to Fiscal 2006
During fiscal 2007, net sales within our North American Furniture Solutions segment increased to $1,563.6 million from $1,448.0 million in fiscal 2006. This represents an increase of $115.6 million or 8.0 percent. On a weekly-average basis (which adjusts for the extra week of operations in fiscal 2006) net sales in this segment were 10.1 percent higher than fiscal 2006. Particularly noteworthy is our business within the healthcare industry, which realized significant year-over-year percentage increases. Sales at our Mexican subsidiary reached double-digit growth over fiscal 2006. Canadian sales, which increased over the prior year level during the first half of fiscal 2007, ended the full year approximately flat with 2006. Operating earnings in fiscal 2007 were $161.7 million, or 10.3 percent of net sales. This compares to $139.9 million or 9.7 percent in fiscal 2006. The increase in both dollars and percentage relative to fiscal 2006 was largely driven by an 8.0 percent sales increase and the resulting improved operating leverage. In addition, fiscal 2006 included approximately $5.0 million in higher compensation-related expenses associated with the extra week of operations in that year. Incentive bonus expenses recognized in fiscal 2006 were approximately $4.0 million higher than those recorded in fiscal 2007 as determined under our plan. These factors were partially offset by higher design and research costs in fiscal 2007, which were approximately $5.8 million higher than those recorded in the North American Furniture Solutions segment during fiscal 2006.
Our non-North American Furniture Solutions segment had year-over-year increases in net sales across all geographic regions except South America. Total net sales in fiscal 2007 of $278.5 million were up 28.4 percent from $216.9 million in fiscal year 2006. On a weekly-average basis, net sales in fiscal 2007 were 30.9 percent higher than the prior year. The non-North American Furniture Solutions segment generated 14.5 percent of our consolidated net sales in fiscal 2007, compared to 12.5 percent in fiscal 2006. Sales in the United Kingdom were 23.7 percent higher than fiscal 2006. Our results in the Asia Pacific region were particularly strong in fiscal 2007, with net sales increasing 61.6 percent from the prior year. In fiscal 2007, we expanded our independent dealer network in China and Japan. Operating earnings in fiscal 2007 within our non-North American segment totaled $28.9 million, or 10.4 percent of net sales. This compares to $14.1 million or 6.5 percent in fiscal 2006.
Net sales within the â€śOtherâ€ť segment category were $76.8 million in fiscal 2007 compared to $72.3 million in fiscal 2006. The increase was driven by the growth of our North American Home business. Sales in fiscal 2006 included net sales of $6.8 million from a VIE we had previously consolidated under the accounting provisions of FIN 46(R).
Changes in currency exchange rates from fiscal 2006 affected the U.S. dollar value of net sales within both primary operating segments. We estimate these changes effectively increased our fiscal 2007 net sales within the North American Furniture Solutions segment by approximately $2 million. This was largely driven by the general weakening in the average exchange rate between the U.S. Dollar and Canadian Dollar during fiscal 2007. In our non-North American Furniture Solutions segment, exchange rate changes increased fiscal 2007 net sales by an estimated $11 million. This increase was driven by favorable movements in the U.S. dollar / British Pound Sterling and U.S. dollar / Euro exchange rates as compared to fiscal 2006. Operating earnings within our non-North American segment increased an estimated $2 million in fiscal 2007 due to changes in currency exchange rates relative to fiscal 2006 levels. The estimated impact on operating earnings of our North American business segment was not significant in fiscal 2007.
Fiscal 2008 Compared to Fiscal 2007
Our fiscal 2008 gross margin as a percentage of sales was 34.7 percent, an improvement of 100 basis points from the prior year level. Favorable direct material costs contributed to this increased gross margin performance year-over-year. Lower relative direct labor costs also boosted our margins while overhead expenses were slightly unfavorable. Details relative to each component of gross margin follow.
Direct material costs as a percentage of sales in the current year decreased 100 basis points. Although a higher sales volume favorably affected the percentage, the effect of our fixed contracts for the procurement of certain of our raw materials also contributed to the improvement. The majority of our fixed-price contracts expired during the fourth quarter of this year and we began to see the impact of increased costs for our raw material inputs late in the year.
Our direct labor costs were lower by 40 basis points as a percentage of sales from prior year levels. This reduction is primarily due to higher sales volume, and our continued manufacturing process improvements. Overhead costs increased in fiscal 2008 from prior year levels. We recognized certain costs associated with the completion of a large project, and had an overall shift into low margin service-related sales, which had the effect of increasing overhead costs by 30 basis points in fiscal 2008.
Freight expenses, as a percentage of sales, were modestly higher compared to 2007 levels. Contributing to the additional freight expenses was a significant increase in diesel prices in the United States. We have continued to benefit from the efforts of our logistics teams to consolidate shipments, increase trailer utilization, and engage lower cost carriers, which together, served to mitigate the impact of increases in fuel costs. Pricing also served to partially offset the increases in fuel costs.
Fiscal 2007 Compared to Fiscal 2006
Our fiscal 2007 gross margin improved 60 basis points from the fiscal 2006 level. The leveraging of overhead expenses against higher net sales in fiscal 2007 significantly contributed to this improvement. Direct material costs pressured gross margin performance. These cost increases were offset by the benefit captured through general price increases. This market pricing, combined with continued manufacturing process improvements, drove a reduction in direct labor expenses on a percent-of-sales basis. The improvement in direct labor was achieved despite the implementation of wage increases in the first quarter of fiscal 2007 and inefficiencies associated with new product introductions.
As a percent-of-sales, direct material expenses increased 140 basis points from the fiscal 2006 level. The direct material content associated with the launch of a new systems furniture solution drove a significant amount of this increase. While these excess costs are typical in the initial years following product launch, the impact was exacerbated by customer demand that far outpaced our business plan for fiscal 2007. Our efforts to keep pace with this demand drove additional cost into the supply chain.
Direct material costs were higher in fiscal 2007 due to increased costs for key commodities, particularly steel, plastics, aluminum, and wood particleboard over fiscal 2006 levels. In total, we estimate commodity cost increases added between $14 million and $16 million to our consolidated direct material expenses in fiscal 2007 compared to fiscal 2006. We were able to offset some of this negative impact through efficiencies gained in connection with our engineering and supply management efforts under HMPS.
Despite an increase in manufacturing overhead expenses, we improved significantly on a percent-of-sales basis in fiscal 2007 versus fiscal 2006. The expense increase was driven in part by the increase in net sales. We also incurred higher expenses in fiscal 2007 for employee benefits such as retirement programs, medical and prescription drug coverage, and annual wage increases for indirect labor employees. Partially offsetting these year-over-year expense increases were lower incentive bonus expenses in fiscal 2007. Our incentive bonus program is based on a measure of improvement in economic profit from year-to-year as opposed to an absolute level of earnings in any one period. Based on our relative performance between periods, incentive bonus expenses recorded within Cost of Sales in fiscal 2007 were $2 million lower than fiscal 2006.
Freight expenses in fiscal 2007, as a percentage of sales, were 50 basis points lower than fiscal 2006. This was due to the efforts of our distribution team to consolidate shipments, increase trailer utilization, and engage the services of lower cost carriers. Additionally, our freight percentage was reduced due to the additional net sales captured as a result of general price increases.
Fiscal 2008 Compared to Fiscal 2007
Operating expenses in fiscal 2008 were $452.1 million, or 22.5 percent of net sales. This compares to $447.8 million, or 23.3 percent of net sales in the prior fiscal year. Although there was a year-over-year increase of $4.3 million, we experienced an 80 basis point reduction to operating expenses as a percentage of sales compared to fiscal 2007. A charge of $5.1 million for restructuring expenses as discussed above is included in fiscal 2008. There were no restructuring expenses in fiscal 2007.
The year-over-year dollar increase in expenses is primarily due to increases in employee compensation and benefit costs, designer royalties, global selling expenses, program marketing costs, and the foreign exchange impact on operating expenses, partially offset by lower levels of charitable contributions, and savings from certain R&D and product management programs. Leverage on higher sales levels in the current year drove the percent-of-sales reduction in operating expenses.
Incremental employee compensation and benefit costs in fiscal 2008, which includes merit increases, stock-based compensation, and health benefits were an estimated $6 million higher than fiscal 2007. Global selling costs and designer royalty expenses, both of which vary with net sales levels, were $3.7 million and $2.4 million higher, respectively, in fiscal 2008 than in the prior fiscal year. In fiscal 2008, we continued our pursuit of bringing new and innovative products to market, which drove incremental program marketing expenses of $2.8 million compared to the prior year.
Year-over-year changes in currency exchange rates had an inflationary impact on operating expenses associated with our international operations, as measured in U.S. dollars. We estimate these changes increased our consolidated operating expenses in fiscal 2008 by approximately $4.8 million relative to the prior year.
Partially offsetting these operating expense increases were charitable contributions that were $6.3 million lower than fiscal 2007 and a combined savings from certain R&D and product management programs of $6.6 million.
Design and research costs included in total operating expenses were $51.2 million and $52.0 million in fiscal 2008 and fiscal 2007, respectively. These expenses include royalty payments to the designers of our products. We consider such royalty payments, which totaled $12.4 million and $9.9 million in fiscal years 2008 and 2007, respectively, to be variable costs of the products being sold. Accordingly, we do not include them in research and development costs as discussed in Note 1.
Fiscal 2007 Compared to Fiscal 2006
Operating expenses in fiscal 2007 were $447.8 million, or 23.3 percent of net sales, compared to $417.1 million, or 24.0 percent of net sales in fiscal 2006. This represents a year-over-year increase of $30.7 million or 7.4 percent. Our fiscal 2006 operating expenses included approximately $3.5 million in additional compensation costs associated with the extra week of operations in that year. We also incurred expenses totaling approximately $2.4 million in the first quarter of fiscal 2006 relating to the three dealerships that were transitioned to independent status in that period. Excluding these amounts, the comparable year-over-year increase in operating expenses was $37.1 million or 9.0 percent.
A significant proportion of this increase from fiscal 2006 to fiscal 2007 is attributed to expenses such as designer royalties and selling-related costs, which vary with net sales. Our portfolio of new product launches at the start of fiscal 2007 drove an increase in program marketing expenses relative to fiscal 2006. We estimate that approximately $18 million of the year-over-year increase in operating expenses resulted from higher spending on incremental employee compensation (including stock-based compensation programs), retirement, and health benefits. Increased expenses related to charitable contributions account for $2.9 million of the year-over-year increase. We also incurred higher operating expenses during fiscal 2007 related to our new market expansion efforts. Specifically, the opening of our manufacturing operation in China and the launch of two new business ventures, Convia and The Be Collection TM , contributed to the increase.
Year-over-year changes in currency exchange rates had an inflationary impact on the operating expenses associated with our international operations, as measured in U.S. dollars. We estimate these changes increased our consolidated operating expenses in fiscal 2007 by approximately $3.1 million relative to fiscal 2006.
Fiscal 2006 operating expenses included a pre-tax charge totaling $1.4 million related to a long-term lease arrangement in the United Kingdom. Additional information on this lease arrangement can be found in Note 19.
Pretax compensation expenses associated with our stock-based compensation programs, the majority of which is classified within operating expenses, totaled $4.9 million in fiscal 2007. This compares to $2.6 million in fiscal 2006. The increase over fiscal 2006 is the result of our adoption of SFAS No. 123, â€śShare-Based Paymentâ€ť (SFAS 123(R)) in the first quarter of fiscal 2007. Additional information on this accounting standard, including our method of transition and prior accounting practice, can be found in Note 14.
Design and research costs included in total operating expenses were $52.0 million in fiscal 2007. This represents an increase of $6.6 million from fiscal 2006 levels. Royalty payments included in design and research costs totaled $9.9 million and $8.7 million in fiscal years 2007 and 2006, respectively.
Fiscal 2008 operating earnings were $246.6 million. This represents an increase of 24.5% from our fiscal 2007 level of $198.1 million. As a percentage of net sales, operating earnings in fiscal 2008 increased to 12.3 percent of net sales, a 200 basis-point increase over the 10.3 percent reported in the prior year. In fiscal year 2006, we reported operating earnings of $157.7 million or 9.1 percent of net sales.
Other Expenses and Income
Net other expenses totaled $16.2 million in fiscal 2008 compared to $11.1 million in the prior year and $10.1 million in fiscal 2006. The increase in expense in fiscal 2008 compared to fiscal 2007 was principally driven by additional interest expense of $5.1 million in the current year associated with the additional senior subordinated notes related to our ASR program. Net foreign currency transaction gains recorded in fiscal 2008 totaled $0.1 million.
The year-over-year increase in net other expenses between fiscal 2007 and fiscal 2006 was primarily due to lower interest income due to a reduction in our average cash and cash equivalents balance between periods. Additionally, net foreign currency transaction gains were negligible in 2007 while we recorded a gain of $0.3 million in fiscal 2006.
Our effective tax rate was 33.9 percent in fiscal 2008 versus 31.0 percent in fiscal 2007. The current year effective rate was below the statutory rate of 35 percent primarily due to the domestic US manufacturing tax incentive. The effective rate in fiscal 2007 was lower than the statutory rate primarily due to $4.3 million in tax credits for foreign taxes, other credits for research and development activities, and tax incentives for export sales and domestic manufacturing. The fiscal 2006 effective tax rate was 32.3 percent which was lower than the statutory rate due mainly to tax benefits from research and development activities, tax incentives for export sales and domestic manufacturing, and adjustments to recognize certain foreign deferred tax assets.
We expect our effective tax rate for fiscal 2009 to be between 33.5 and 35.5 percent. For further information regarding income taxes, refer to Note 15.
In fiscal 2008 we generated $152.3 million of net earnings. This compares to net earnings in fiscal 2007 and fiscal 2006 of $129.1 million and $99.2 million, respectively. Fiscal 2008 diluted earnings per share at $2.56 was an all-time record for the company. Earnings per diluted share in fiscal 2007 were $1.98 and $1.45 in fiscal 2006.
Earnings per share in fiscal 2008 benefited from our ASR program as well as our stock repurchases earlier in the year. We reduced the average share count for fiscal 2008 by approximately 5.5 million shares from the prior year level.
Cash Flow â€“ Operating Activities
Cash generated from operating activities in fiscal 2008 totaled $213.6 million compared to $137.7 million generated in the prior year. This represents an increase of $75.9 million compared to fiscal 2007. Changes in working capital balances resulted in an $11.8 million source of cash in the current fiscal year compared to a $37.0 million use of cash in the prior year.
The source of cash related to working capital balances in fiscal 2008 is primarily driven from increased current liabilities of $33.1 million over the prior year, and to a lesser extent, lower inventory of $2.6 million from prior year levels. The increase in current liabilities is comprised of $16.6 million in tax-related accruals, $6.1 million of increased trade accounts payable and $10.4 million of other accruals. These sources of cash are offset partially by increases in volume-related accounts receivable of $21.3 million due to increased sales inside and outside North America. Sales outside North America tend to have longer cash collection cycles than those in the U.S. Increased sales through our owned dealership network resulted in higher accounts receivable balances due to the timing of these sales within the fourth quarter of fiscal 2008. A large percentage of the North American accounts receivable increase pertains to our Mexican subsidiary which has the longest cash collection cycle in North America
The working capital investment in fiscal 2007 was related to increases in inventory and accounts receivable, primarily due to the significant level of growth in our non-North American Furniture Solutions segment. A contributing factor to the working capital investment during fiscal 2007 relates to our business with the U.S. federal government. Order activity with the federal government increased significantly during fiscal 2007, particularly during the first and second quarters. These sales generally require a longer cash collection cycle than do sales to independent contract furniture dealers. Accordingly, we experienced a related increase in accounts receivable. Inventory levels were also affected by this growth in federal government business, since we are generally required to hold product in inventory longer than with non-government business. This extended inventory holding period is necessary to be consistent with our revenue recognition policy for direct customer sales.
The source of working capital cash flow in fiscal 2006 resulted principally from an increase in accounts payable and accrued liabilities, namely employee compensation and warranty accruals. This was partially offset by volume-related increases in accounts receivable and inventory levels.
Collections of accounts receivable remained strong throughout the year, and we believe our recorded accounts receivable valuation allowances at the end of fiscal 2008 are adequate to cover the risk of potential bad debts. Allowances for non-collectible accounts receivable, as a percent of gross accounts receivable, totaled 2.6 percent, 2.5 percent, and 2.8 percent at the end of fiscal years 2008, 2007, and 2006, respectively.
Included in operating cash flows are cash contributions made to our employee pension and post-retirement benefit plans which totaled $5.2 million, $7.6 million, and $26.3 million in fiscal years 2008, 2007, and 2006, respectively. For further information regarding the company's pension and post-retirement benefit plans, including information relative to the funded status of these plans, refer to Note 12.
Cash Flow â€“ Investing Activities
Capital expenditures totaled $40.5 million in fiscal 2008 and $41.3 million in fiscal 2007. Cash outflows related to investing activities in fiscal 2006 included capital expenditures of $50.8 million. Outstanding commitments for future capital purchases at the end of fiscal 2008 were approximately $7.4 million. We expect capital spending in fiscal 2009 to be between $50 million and $60 million.
Included in our fiscal 2008 investing activities, is a net cash outflow of $11.7 million related to the acquisition of Brandrud. The purchase of Brandrud augments our product offerings to the healthcare industry. In fiscal 2007, our investing activities reflected a cash outflow of $3.5 million related to the acquisition of a technology company. This acquisition added enhanced functionality to the existing product portfolio for our Convia subsidiary. Refer to Note 2 for further information related to these acquisitions.
MANAGEMENT DISCUSSION FOR LATEST QUARTER
The following is managementâ€™s discussion and analysis of certain significant factors that affected the companyâ€™s financial condition, earnings and cash flow during the periods included in the accompanying condensed consolidated financial statements. References to â€śNotesâ€ť are to the footnote disclosures included in the condensed consolidated financial statements.
Discussion of Current Business Conditions
In the second quarter of fiscal 2009, we began to experience a negative impact from the slowing global economy. While net sales were modestly lower than the prior year, order rates declined significantly from the prior year. As a result of the slowing order rate and uncertain outlook, we continued on our path of reducing operating expenses by announcing our intent to initiate a number of actions aimed at reducing costs. These initiatives, which will be implemented in the third quarter, include a workforce reduction eliminating approximately 1,100 positions. This action will include voluntary and involuntary reductions of salaried, hourly, and temporary positions.
Our top line of $476.6 million for the quarter was down 5.8 percent from the same period last year, when we reported net sales of $505.9 million. The sales decline was driven by a challenging economic environment and affected most areas across the globe. Non-North American net sales, which experienced a reduction in project business, were down 13.4 percent while North American sales were down 4.5 percent.
Orders declined in the second quarter by $146.5 million or 25.6 percent from the same period in fiscal 2008. Orders were negatively affected during the quarter by the slowing global economy and by foreign currency translation as the US dollar strengthened. Additionally, we estimate that our general price increase which was effective in August 2008 moved approximately $35 million in orders out of the second quarter into the first quarter of fiscal 2009. In total, North American orders declined by 22.9 percent and non-North American orders declined by 30.5 percent compared to the second quarter of the prior year.
Our ability to control operating expenses was a highlight for the quarter. Operating expense was 21.1 percent of net sales, 60 basis points below last year. This allowed us to generate operating earnings of 11.5 percent in a very challenging economic environment. In part, our reduction in operating expense is a result of the cost reduction actions that we took in the second quarter of last year, which included an adjustment to our capital structure.
The Accelerated Share Repurchase (ASR) program we implemented last year, and completed in the second quarter, has reduced our average share count by 11.7 percent compared to the second quarter last year. When considering incremental interest costs associated with debt used to fund the ASR, this share reduction increased earnings per share by $0.03 in the quarter.
The Business Institutional Furniture Manufacturers Association (BIFMA) issued its most recent domestic industry forecast in November 2008. In its report, BIFMA anticipates the growth in orders and shipments will continue to be negative for the balance of calendar 2008 and for all of 2009. This negative growth is primarily due to a weakening job market, falling home prices, and tighter credit. BIFMA also revised its outlook downward for corporate profits in 2009 which will again challenge the U.S. furniture market.
Analysis of Second Quarter Results
The quarters ended November 29, 2008 and December 1, 2007 each included 13 weeks of operations. The following table presents certain key highlights from the results of operations for the periods indicated.
Consolidated Sales, Orders, and Backlog
Net sales in the second quarter of fiscal 2009 were $476.6 million which represents a decline of 5.8 percent from the same period last year. This level of sales decline was more than expected, as orders early in the quarter were lower than anticipated, driven by the economic climate. Additionally, the U.S. dollar strengthened significantly against most foreign currencies during the second quarter which negatively impacted net sales by approximately $10.4 million.
For the six-month period ended November 29, 2008, net sales were $955.7 million. This represents a decrease of 4.2 percent from the prior year period. Currency exchange rate fluctuations drove an estimated $6.4 million decrease in consolidated net sales relative to the prior year six-month period.
On a sequential quarter basis, consolidated net sales decreased slightly from $479.1 million in the first quarter of fiscal 2009. This represents a 0.5 percent decline from the prior quarter.
Orders in the second quarter were $426.0 million, a decrease of $146.5 million or 25.6 percent over the same period last year. In addition to being impacted by the previously discussed August 2008 price increase, the strengthening U.S. dollar relative to certain foreign currencies negatively impacted orders by approximately $19.9 million. Sequentially, orders declined $109.2 million or 20.4 percent from first quarter levels.
Through the first six months of fiscal 2009, orders of $961.2 million were down $95.1 million, or 9.0 percent versus the prior year.
Our backlog of unfilled orders at November 29, 2008 was $281.7 million, which represents a decrease of $64.8 million or 18.7 percent over the balances at the end of the second quarter last year.
Performance versus the Domestic Contract Furniture Industry
BIFMA is the trade association for the U.S. domestic office furniture industry. We monitor the trade statistics reported by BIFMA and consider them an indicator of industry-wide sales and order performance. BIFMA publishes statistical data for the contract segment and the office supply segment within the U.S. furniture market. The U.S. contract segment is primarily with large to mid-size corporations installed via a network of dealers. The office supply segment is primarily to smaller customers via wholesalers and retailers. We primarily participate, and believe we are a leader in, the contract segment. While comparisons to BIFMA are important, we continue to pursue a strategy of revenue diversification that makes us less reliant on the drivers that impact BIFMA and lessens our dependence on the U.S. office furniture market.
We also analyze BIFMA statistical information as a benchmark comparison against the performance of our domestic U.S. business and also to that of our competitors. The timing of large project-based business may affect comparisons to this data. We remain cautious about reaching conclusions regarding changes in market share based on analysis of data on a short term basis. Instead, we believe such conclusions should only be reached by analyzing comparative data over several quarters.
Our BIFMA comparable net sales and orders decreased 0.3% and 17.1% respectively during the second quarter of fiscal 2009 compared to the same quarter last year. The orders decrease would have been approximately 8% if the second quarter orders were adjusted for the $35 million that were pulled into the first quarter as a result of the price increase. By comparison, BIFMA reported an estimated year-over-year decrease in U.S. office furniture shipments of 2.9% for the three-months ended November 2009. Industry orders for the quarter as reported by BIFMA declined 9.4% from the same period last year.
Consolidated Gross Margin
Consolidated gross margin in the second quarter declined 300 basis points to 32.6 percent of net sales compared to the second quarter last year. As a percentage of sales, we experienced a significant increase in the cost of direct materials. Direct labor was up slightly on a year-over-year basis. These increases in cost relative to sales were partially offset by reductions in overhead. Details relative to the major components of consolidated gross margin follow.
Direct materials increased 300 basis points from the second quarter last year primarily due to the increase of commodity costs. This increase was expected, as most of our fixed-price contracts for raw inputs expired during the fourth quarter of last year. We estimate commodity costs increased $12 million for the quarter compared to the second quarter of fiscal 2008. Offsetting some of the increased cost of materials were value engineering improvements made in our Systems product lines. The general price increase announced at the beginning of August 2008 had only a modest impact on our results for the quarter. This is primarily due to our strong backlog of orders at the start of the quarter, which was comprised of pre-price increase orders, and customer contracts which expire at various times throughout the year, and therefore were not yet subject to the increase. Our product pricing strategy, combined with our commitment to lean manufacturing principles under the Herman Miller Production System (HMPS), continue to be our primary means of addressing the financial impact of these volatile input costs. Based on commodity contracts, we expect the commodity impact to begin to reverse in the third quarter, and be reduced substantially by the fourth quarter.
Direct labor at 6.2 percent of net sales was up 40 basis points from the same period last year. The increase was a result of annual merit increases as well as a sales mix shifting toward products with higher labor content.
Manufacturing overhead improved 50 basis points as a percentage of sales. This improvement is primarily the result of a reduction in incentive compensation when compared to the prior year quarter. Incentive compensation accruals are based upon a measure of economic profitability relative to the prior year period as opposed to an absolute measure of profitability in any one period.
Freight and product distribution costs were flat as a percentage of sales in the second quarter of fiscal 2009 as compared to the same period last year.
On a sequential-quarter basis, consolidated gross margins decreased 130 basis points from 33.9 percent of sales reported in the first quarter of fiscal 2009. The primary driver of the decrease in gross margin is the continued increase in the cost of direct materials.
Gross margin in the first six months of fiscal 2009 was 33.3 percent compared to 34.9 percent in the prior year. The decrease was driven mainly by increases in prices for raw material and manufacturing components. On a year-to-date basis, we estimate these increases to be approximately $21 million higher than the same period last year.
Cost Reduction Actions
During the second quarter we announced a cost reduction plan designed to reduce expenses and improve profitability. The cost reduction actions, which will take place early in the third quarter, include the elimination of approximately 1,100 positions. These eliminations include salaried, hourly and temporary workers. The positions that will be eliminated represent a variety of functional areas. Many of the employees affected will be offered one-time termination benefits, including severance and outplacement services. Additionally we will be consolidating our office space in West Michigan by exiting a leased facility. In connection with these actions, we anticipate a pre-tax restructuring expense of approximately $21 million, see Note 18.
Operating Expenses and Operating Earnings
The second quarter operating expenses were $100.4 million or 21.1 percent of net sales, a decrease of $9.3 million from the second quarter of fiscal 2008. As a percentage of sales, this is a 60 basis point improvement. We remain committed to reducing costs as we navigate our business through a difficult economic environment. A significant driver of the year-over-year savings is the reduction in incentive compensation expenses which were $8.3 million lower than the same period last year. The cost reduction actions which were implemented in the second quarter of last year had the impact of offsetting inflationary cost in the current quarter.
Through the first six months of fiscal 2009, operating expenses totaled $206.2 million or 21.6 percent of sales. This compares to $223.6 million or 22.4 percent of sales in the same period last year and represents an expense decrease in the current year-to-date period of $17.4 million Our investment in R&D, excluding royalties, totaled $9.3 million and $9.4 million for the quarterly periods ended November 29, 2008 and December 1, 2007, respectively. Through the first six months of fiscal 2009, R&D expenses were $18.4 million. This compares to $19.1 million in the same period last fiscal year.
Operating earnings in the second quarter were $54.6 million compared to $65.2 million in the same period last year, representing a decrease of 16.3 percent. Although our top line was 5.8 percent lower than the second quarter of fiscal 2008, and material increased 300 basis points from the same period, our variable cost business model and cost reduction efforts resulted in only a 140 basis point contraction in operating earnings. As a percentage of net sales, operating earnings were 11.5 percent versus 12.9 percent in the prior year. The foreign currency impact on operating earnings was negligible for the quarter. On a year-to-date basis, operating earnings in the current year of $111.2 million were down 6.5 percent from $118.9 million last year. As a percentage of net sales, operating earnings through six months were 11.6 percent versus 11.9 percent last year.
Other Income/Expense and Income Taxes
Net other expenses in the quarter and the six months ended November 29, 2008 totaled $5.6 million and $10.8 million respectively. This compares to $3.1 million and $6.5 million respectively, in the same periods last year. The increase in expense over both comparative periods was driven primarily by higher interest cost due the long-term debt issued in the third quarter of fiscal 2008.
We incurred a net foreign currency transaction loss of $0.1 million in the current quarter compared to a gain of $0.5 million last year.
The effective tax rates for the three months ended November 29, 2008 and December 1, 2007, were 33.5 percent and 34.0 percent, respectively. The effective tax rates were 34.3 percent and 33.8 percent for the six months ended November 29, 2008, and December 1, 2007, respectively. The current quarter and year-to-date effective rates were below the United States federal statutory rate of 35 percent primarily due to the manufacturing deduction under the American Jobs Creation Act of 2004 (AJCA). We expect our full-year effective tax rate for fiscal 2009 to be between 32 percent and 34 percent.
In the first quarter of fiscal 2008, we adopted the provisions of Financial Accounting Standards Board Interpretation No. 48, â€śAccounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109" (FIN 48). Upon adoption, we recognized an increase in accrued liabilities associated with unrecognized tax benefits. We also recognized an increase in accruals for estimated interest and penalties associated with those unrecognized tax benefits. These accrual adjustments totaled $1.0 million, and were recorded net of tax within beginning retained earnings. This adjustment, which did not impact net earnings, is considered a Cumulative Effect of a Change in Accounting Principle as required by FIN 48. Additionally, in the first quarter of fiscal 2008, we reclassified $8.7 million from current accrued income taxes payable into non-current liabilities. This reclassification was made to match the anticipated timing of future income tax payments.
Further information regarding our income taxes can be found in Note 15
Reportable Operating Segments
Our business comprises various operating segments as defined by generally accepted accounting principles in the United States. These operating segments are determined on the basis of how we internally report and evaluate financial information used to make operating decisions. For external reporting purposes, we aggregate these operating segments as follows: â€˘ North American Furniture Solutions â€“ Includes the business associated with the design, manufacture and sale of furniture products for office, healthcare and educational environments, throughout the United States, Canada and Mexico.
â€˘ Non-North American Furniture Solution â€“ Includes the business associated with the design, manufacture and sale of furniture products, primarily for work-related settings, outside North America.
â€˘ Other â€“ includes our North American residential furniture business as well as other business activities and certain unallocated corporate expenses, if any. Our North American residential furniture business includes the operations associated with the design, manufacture and sale of furniture products for residential settings in the United States, Canada, and Mexico. Our other business activities are discrete operations, such as Convia, or activities aimed at developing innovative products to serve current and new markets.
Brian C. Walker
Our results and activities from this past quarter reflected two distinct themes. First, based on the strength of our opening backlog the organization did a great job of executing and delivered very solid results. Second, as the news and turmoil of the economic crisis took hold, we began to experience significant lower levels of order entry as our customers deferred capital expenditures and began to adjust their businesses for what most feared would be a deep and longer than normal recession.
Iâ€™d like to open our presentation with a few remarks on each of these topics and then Iâ€™ll turn the call over to Curt and Joe for a more detailed review of our results. As you will recall, we entered this quarter with a strong backlog in most of our businesses but we were tepid about the strength of demand in the core North American office furniture business and we faced a strong headwind from rapidly rising raw materials.
In general, the quarter played out as we expected but we did not anticipate two very big factors. First, the rapid acceleration and spread of the credit crisis had a significant impact on order entry level as companies pulled back on the reins and began to defer projects and hold on to cash in anticipation of a deep and long recession. Second, the very swift appreciate of the US dollar against many currencies resulted in a significant reduction in reported orders and a revaluation of our backlog.
This drop in order entry levels was experience across most areas of the business with a notable exception being healthcare. This business tends to have longer sales cycles and previously funded construction has remained strong. Our business model is characterized by having a good deal of variable cost, a light asset footprint and high turns of working capital. Therefore, within a reasonable range of demand, our business will adjust naturally.
This is clearly demonstrated this past quarter. We were able to adjust our expenditures levels and still deliver respectable bottom line results and generated a good deal of cash. While the price of raw materials and commodities began to rapidly retreat, this change will take some time to work its way through the supply chain. Therefore, this positive development had very little, if any, impact on this past quarter.
As order entry trends became more convincing and the general economic climate continued to decline, we decided that it would be necessary to adjust our expenditure levels beyond what our business model would drive naturally. As a result, we moved deliberately to reduce employment and expenditure levels. These changes announced earlier in the quarter were in most areas of the business and across the globe.
The employment reductions were in both salaried and hourly positions and were implemented in four steps: voluntary separation; involuntary separation; elimination of temporary labor; and layoffs. Weâ€™ve offered an enhanced severance package to enable folks who are near the end of their career with Herman Miller to volunteer for separation. Ultimately we received more volunteers than we had anticipated.
While this increased the cost of our actions, we believe that this action has enabled us to retain the people and skill sets that we will need now and in the future. The first two steps of this plan were implemented in early December. We will complete the remaining two steps in early January. In total, we have reduced our total employment by over 1,000 people. Keep in mind this is a moving target as we will flex production employment level with demand.
In addition to employment levels, we have prioritized and reduced our program and capital expenditure plans. Of course, weâ€™ve also developed tax goal actions to ensure we can win our fair share of what will be a very competitive environment. These actions are not a change in strategic direction for Herman Miller. We continue to believe our strategy of performance innovation and revenue diversification was, and is working. And, we believe the long term trends we have been anticipating and building towards are still in play.
At the same time while none of us like to live through down cycles, we have always used these times to sharpen our game, improve our efficiencies and anticipated new sources of customer value. That is what we are determined to do this time. We have an experienced leadership team at the helm who have steered through difficult periods in the past. We know that we must manage the short term performance while maintaining our most important forward investments that will be critical to our long term future and growth.
We are building cash reserves to ensure we have the financial flexibility and security to invest in our future and take advantage of opportunities that present themselves. I am sure you all noted that we did not provide guidance in the press release. We have been discussing the topic of quarterly guidance for some time and have come to the conclusion that it is often cross purposes with maintaining a longer term view of what we are trying to accomplish.
However, as we had anticipated this to be a more difficult year in terms of the business cycle, we have continued to provide guidance to keep you informed of what we were anticipating. Our decision to not provide guidance at this time was based on two factors. First, the third quarter of each fiscal year is by far the most difficult to predict. The holiday season contains several short weeks and many of our customers reset their annual capital plans during this period of time.
Second, the fluid and rather cloudy economic environment will exacerbate the normally difficult seasonal pattern. So, weâ€™ve decided to suspend guidance but to rather discuss with you some of the factors we are evaluating to manage and adjust the business. We hope this will give you the insight in to the driver and enable you to make informed analysis about where we are headed.
Let me close by saying thank you to the people at Herman Miller. This past quarter they delivered solid results while dealing with a very significant cost and employment reduction effort. And, as we look back on the first half of this year, we accomplished a great deal. In June we lost a new line of storage products including the award winning Teneo line. We announced a strategic alliance in China and Asia with POSH that is in the early stages of ramping up.
Our healthcare business has grown rapidly and the combination with Brandrud has exceeded our expectations. We significantly expanded our retail distribution footprint with the addition of Costco and this past quarter we introduced several new products at the German Furniture Fair Orgatec. The headliner of that introduction was the Embody chair. We believe and the design community appears to agree, Embody represents a step function improvement in the art and science of ergonomic seating.
So yes, this will be a difficult period but we have and will continue to put in place the building blocks that will ensure a prosperous future for Herman Miller. To give you a better understanding of our results and financial strength, I will now turn the call over to Curt.
Curtis S. Pullen
As youâ€™ve read in the press release, we delivered sales and earnings levels within the range of our updated guidance. Our revenues were down 6% from last year and about .5% from the first quarter. Our ability to partially offset the volume decline by lowering our operating expenses enabled us to once again produce a double digit operating income percentage as well as continue building strength in to our already healthy balance sheet.
Our earnings per share performance was strong for the quarter and for the first half of the fiscal year equaled the same period last year. All of this notwithstanding, the business climate today is much different than at the beginning of the quarter. Our orders declined as the quarter progressed which weâ€™ll talk about in a minute.
Letâ€™s look at sales for the quarter; consolidated first quarter sales of $477 million are lower than last year by $29 million or about 6%. North American sales of $389 million marked a decrease of approximately 5% from the prior year. The decline was experienced across the whole of the US contract market, Canada and Mexico. Last quarter revenue had continued to grow in Canada and Mexico but we are now seeing the effect of the economic downturn spill over in to these regions as well.
Also, the decline of both of those local currencies also detracted from our sales results. Consistent with what we experienced last quarter and what is occurring on a macro level, our non North American business also felt the impact of the global recession. Sales declined 13% from last yearâ€™s very strong second quarter. We mentioned last quarter that several large projects in the UK were pushed out in to the second quarter and these projects were completed.
However, many of the other global markets had revenue declines as business activity levels in these markets began to soften. On a positive note, our healthcare business continued to see strong revenue expansion both in organic product sales and from the Brandrud acquisition. Our retail business was up slightly from last year partially due to our expanded distribution activities.
During the quarter the US dollar strengthened significantly relative to most other currencies which reduced our revenue by $7 million. Moving in to order rates during the quarter, consolidated orders totaled $426 million compared to $573 million last year, a decrease of 26%. Consistent with our comments last quarter, Iâ€™ll point out that the pricing increase implemented in August pulled roughly $35 million of orders from our second quarter up in to the first quarter.
If we back out this effect, our orders in Q2 declined about 19% from the same period last year and 8% sequentially from Q1. Similar to our sales numbers, orders were also negatively impacted by $13 million due to changes in foreign exchange rates. Our pacing through the quarter was consistent in September and October at approximately $34 million per week and slowed in November to roughly $30 million per week.
Looking more closely at the geographic order patterns, orders in North America decreased about 23% versus the prior year. Some of that decrease was due to the pull ahead effect of the price increase. However, our order levels have fallen across most regions of North America. Also, order rates for our retail business declined during the quarter. We did however, continue to see growth in orders for the healthcare business.
Orders for the non North America component of the business decreased 30% for the quarter. This is a significant swing in our business compared to our recent performance and is a consequence of the slowing overall economic environment. Gross margin is next; our gross margin performance for the quarter ended at 32.6% of sales, a decrease from the prior yearâ€™s margin of 35.6%.
Gross margin was negatively impacted by continued higher commodity costs and the loss of overhead leverage as a result of lower sales volume. This was partially offset by the continued efficiency gains by our operation teams as well as very good spending control. Raw material price increases pushed costs higher by $12 million compared to last yearâ€™s levels reducing our gross margin by 240 basis points on this alone.
Sequentially, rising material prices increased costs by $4 million. We have worked through the majority of our agreements with suppliers and given the recent decline in commodities we do expect to see some improvements in these costs beginning in our third quarter. Lower production and sales volumes also had a negative impact in absorbing overhead costs. However, our teams have done an extremely good job of adjusting labor and manufacturing related spending to alleviate some of this impact.
Our cost reduction actions recently taken will continue to provide relief. Moving on to our operating expenses and income; operating expense total $100 million, a decline of $14 million from last yearâ€™s second quarter bringing our operating expenses as a percentage of sales to 21.1%. Once again our variable model and cost reduction actions have allowed us to move costs lower as our sales volume has declined.
Operating income was again very strong at $55 million or 11.5% of sales. Going forward, if sales volume continues to decline, this double digit level of operating income performance will be difficult to maintain. The effective tax rate for the quarter was 33.5% down from the first quarter rate of 35%. Congress extended the R&D tax credit which enabled us to recognize a tax benefit thereby lowering our tax rate for the quarter.
Our full year rate should approximate 34% but is dependent upon income levels going forward. Consolidated net income was $33 million or 7% of revenue for the quarter. Earnings per share were $0.60 for the quarter which compares to $0.67 for the same quarter last year. On a year-to-date basis, we have produced EPS of $1.20 equaling our results at this point last year.
Let me turn the call over to Joe, heâ€™ll take us through the balance sheet.
Joseph M. Nowicki
Regarding the current quarter balance sheet metrics, we grew our cash balance by over $18 million to end the quarter with $166 million. Of this amount, approximately $49 million located internationally. Cash flow from operations for the quarter totaled $42 million compared to $56 million for the same period last year. Capital expenditures of roughly $8 million are down from the $10 million spent during the second quarter last year.
Our plan is to continue our conservative capital expenditure spend levels for the remaining of the fiscal year. Weâ€™re targeting $30 million in expenditures with $16 million already spent in the first half. Adding to our cash reserves, we have $237 million available on our five year $250 million revolving credit line. Considering our available revolver and our cash reserves, we are confident in our ability to continue funding our strategy and we feel well prepared for the uncertain times ahead.
We completed the accelerated share repurchase program in September with the final settlement of 2.1 million shares. In total our share count is down 12% from the year ago levels. This did not have a cash flow impact as the payments occurred in prior periods. Our current plan is to conserve cash, hold off from purchasing stock until the business climate becomes more stable.
We are in compliance with all of our debt covenants. Weâ€™re currently running with a leverage ratio of approximately 1.3 times debt to EBITDA which is towards the low end of our targeted range of 1 to 2 times debt to EBITDA but given the current market conditions is appropriate relative to our capital structure and business strategy. Our debt position remains fairly conservative. We do not have any principal amounts coming due in the near future. In fact, our earliest debt layer to renew or repay is $175 million due in March of 2011.
Thatâ€™s it for now on the balance sheet for the quarter. Iâ€™ll hand it back to Curt.
Curtis S. Pullen
We have not provide guidance as Brian mentioned in the press release. We believe the uncertain picture caused by the current economic climate does not provide us with sufficient visibility to confidently publish a sales or earnings range. The traditional drivers of demand in our industry, corporate profits, service sector employment and non-residential construction have seen or are expected to see declines, at least for the near term.
In addition, this time of year always poses a challenge as we enter the holiday season which is typically slow for our industry. Adding this to the current economic uncertainty leaves us simply without a very good picture of our near term expectations. However, our best two internal indicators of future volumes are order rates and backlog. Our order rates for the second quarter declined to a level of about 26% below the same time last year, 19% lower if you consider the effect of the price increase.
Our beginning backlog is also down approximately 19% from the prior year. We believe these two indicators begin to frame up how to think about our revenue projects for the next quarter. From a gross margin perspective, we expect to see some good news starting in the third quarter as a result of lower commodity costs. This should drive a benefit of $3 to $5 million when compared to second quarter results.
As expected, this will be offset by lower production volume and our seasonal shut down over the holidays. However, our cost reduction efforts in the overhead areas will also begin to mitigate the effects of lower volume. From an operating expenses perspective, as we discussed, our cost reduction actions have been implemented and we will see the benefit of these actions beginning in January. We expect the actions taken to further reduce our expenses compared to our second quarter rate which when combined with our actions taken in the overhead areas place us on track with our previously described $60 million annual savings targets.
In addition, we will also realize reductions in variable expenses such as warranties, royalties and sales distribution costs, if in fact our volumes are lower. It is also important to remember that approximately $21 million in restructuring charges will also be included in our third quarter results.
We have great confidence in our ability to continue serving our customers well and at the same time in adjusting our costs and maintaining our financial flexibility to meet current and future business conditions. Letâ€™s turn the call back to the operator and weâ€™ll take your questions.