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Article by DailyStocks_admin    (02-15-08 04:11 AM)

The Daily Magic Formula Stock for 02/14/2008 is Knoll Inc. According to the Magic Formula Investing Web Site, the ebit yield is 15% and the EBIT ROIC is 50-75 %.

Dailystocks.com only deals with facts, not biased journalism. What is a better way than to go to the SEC Filings? It's not exciting reading, but it makes you money. We cut and paste the important information from SEC filings for you to get started on your research on a specific company.


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BUSINESS OVERVIEW

General

We are a leading designer and manufacturer of branded office furniture products and textiles. Our commitment to innovation and modern design has yielded a comprehensive portfolio of products designed to provide enduring value and help clients shape their workplaces with imagination and vision. Our products are recognized for high quality and a sophisticated image and are targeted at the middle to upper end of the market. We sell our products primarily in North America through a direct sales force of approximately 300 professionals and a broad network of over 300 independent dealers. Our distinctive operating approach has driven industry leading operating income margins among our primary publicly-held competitors.

Since our founding in 1938, we have been recognized worldwide as a design leader within our industry. Our products are exhibited in major art museums worldwide, including more than 40 pieces in the permanent Design Collection of The Museum of Modern Art in New York. This design legacy continues to flourish today and is embodied in award winning products, including the innovative LIFE ™ chair and AutoStrada ® office furniture system. Our design excellence is complemented by a management philosophy that fosters a strong collaborative culture, client-driven processes and a lean, agile operating structure. Our employees are performance-driven and motivated by a variable incentive compensation system and broad-based equity ownership in the company. Together, these core attributes have enabled us to achieve strong financial performance and have positioned us for profitable growth.

Our management evaluates the company as one reporting segment in the office furniture industry. For further information on segment reporting, see note 16 in the accompanying financial statements.

Products

We offer a comprehensive and expanding portfolio of high quality office furniture, textiles and leather across five product categories: (i) office systems, which are typically modular and moveable workspaces with functionally integrated panels, work surfaces, desk components, pedestal and other storage units, power and data systems and lighting; (ii) specialty products, including high image side chairs, sofas, desks and tables for the office and home, textiles, accessories and leathers and related products; (iii) seating; (iv) files and storage; and (v) desks, casegoods and tables. Historically, we have derived most of our revenues from office systems, work surfaces, storage and lighting, and from specialty products, including our KnollStudio ® collection of signature design classics furnishings, KnollTextiles ™, Spinneybeck ® leather and KnollExtra ® accessories. However, in recent years, we have significantly expanded our product offerings in seating, files and storage, desks and casegoods and tables. Our products and knowledgeable sales force have generated strong brand recognition and loyalty among architects, designers and corporate facility managers, all of whom are key decision makers in the office furniture purchasing process. Our clients are typically Fortune 1000 companies, governmental agencies and other medium to large sized organizations in a variety of industries. We have an over $7 billion installed base of office systems, which provides a strong platform for recurring and add-on sales of products across all our categories.

Major product categories and lines include:

Systems Furniture

We believe that office systems purchases are divided primarily between (i) architect and designer-oriented products and (ii) entry-level products with technology, ergonomic and functional support. Our office systems furniture reflects the breadth of these sectors with a variety of planning models and a corresponding depth of product features. Our systems furniture can define or adapt to virtually any office environment from collaborative spaces for team interaction to private executive offices.

Systems furniture consists principally of functionally integrated panels, work surfaces, desk components, pedestal and other storage units, power and data systems and lighting. These components are combined to create flexible, space-efficient work environments that can be moved, re-configured and re-used. Clients, often working with architects and designers, have the opportunity to select from a palette of laminates, paints, veneers and textiles to design workspaces appropriate to their organizations’ personality. Our systems furniture product development strategy aims to insure that product line enhancements can be added to clients’ existing installations, maximizing the value of the clients’ investments in Knoll systems products.

Office systems furniture accounted for approximately 56.5% of sales in 2006, 56.8% of sales in 2005 and 57.0% of sales in 2004.

Our systems furniture product lines include the following panel and desk-based planning models:

AutoStrada ®

AutoStrada, which we began shipping in the second half of 2004, is one of the most comprehensive office concepts that we have developed. AutoStrada provides aesthetic and functional alternatives to traditional panel-based and desk-based systems furniture with four planning models that combine high-performance furniture with the look of custom millwork. The AutoStrada spine-based, storage-based, wall-based and collaborative/open table planning models leverage a consistent design aesthetic to create a distinctively modern office environment. Whether an office requires a high performance open plan system, architectural casegoods, progressive private office furniture or a collaborative “big table” concept, AutoStrada provides a solution. AutoStrada received a silver 2004 Best of NeoCon ® award.

Reff ®

Reff is our flagship wood systems furniture platform. It combines the high performance capabilities of panel-based systems furniture and the refined elegance of wood casegoods, showcasing sophisticated all-wood construction and precisely crafted detail. Reff is available in an extensive range of veneers, durable laminates and metal options that can be used interchangeably in panel-based open areas as well as in private offices, as freestanding casegoods. Reff offers clients a variety of flexible panel types, making it easy to create virtually any type of workstation and has extensive power and data management capabilities for data and communications technology.

Currents ®

Our award-winning and innovative Currents system provides advanced power and data capabilities to organizations that require maximum space-planning freedom, advanced technology support and require the mobility of freestanding furniture. The groundbreaking Currents service wall divides space and manages technology. Currents may be used in tandem with existing systems furniture, removing the constraints imposed by conventional panel systems. Currents also integrates with competitors’ systems and freestanding furniture.

Morrison™

Our Morrison furniture system, which meets essential power and data requirements for panel and desk-based planning and private offices, offers one of the broadest ranges of systems performance in the industry. Morrison 120-degree panel-based planning extends the Morrison legacy of systems planning flexibility through a definitive vocabulary of universal systems components. Morrison has been upgraded continually with interchangeable enhancements from its Morrison Network, Morrison Access and Morrison Options lines. In addition, Morrison integrates with Currents to provide advanced wire management capabilities, as well as with our Calibre and Series 2 desks, pedestals, lateral files, overhead storage cabinets and architectural towers to provide compatible, cost-effective panel and desk-based solutions.

Equity ®

The distinguishing feature of our Equity product is its unique centerline modularity, which maximizes the efficient use of space for high-density workplaces with a minimal inventory of parts. Equity incorporates power and data capabilities, including desktop features, and integrates with Currents , which is described above, to provide advanced wire management capabilities. Equity components also create modular freestanding desks, and Equity 120-degree planning enables clients to create sleek, hexagonal configurations that are well suited for call and data centers. For both 90- and 120-degree Equity planning, a variety of components accommodate clients’ needs for privacy and storage: add-on screens, bi-fold doors and side-door components. Add-on screens are available in perforated steel, polycarbonate, Plexiglas ® and Imago ™ to accommodate various aesthetic and budgetary requirements. Equity continues to be a leader the industry in terms of sustainable design.

Dividends ®

Our Dividends product is a straightforward, versatile frame-and-tile furniture system featuring a universal panel frame. Removable panel inserts, which can be ordered in fabric, steel, glass or as marker boards, meet a range of clients’ design and budgetary needs. The Dividends panel frame enables clients to utilize either monolithic, tiled or beltway panel type for applications throughout the workplace, and power and data access may be located virtually anywhere on the panel. The panel, in combination with the universal post, makes the Dividend s system easy to re-configure, and workstations do not have to be disassembled to make changes to the panel. Dividends accommodates off-module planning, encouraging workstation design flexibility as well as the placement of freestanding Dividends desk components.

Seating

We continuously research and assess the general landscape of the office seating market, and tailor work chair product development initiatives to enhance our competitive position for ergonomics, aesthetics, comfort and value. We believe that the result of these efforts is an increasingly innovative, versatile seating collection consistent with the Knoll brand.

Key client criteria in work chair selection include superior ergonomics, aesthetics, comfort, quality and affordability, all of which is consistent with our strengths and reputation. We believe that we offer an excellent and fully competitive line up of chairs at a range of price points and performance levels and constructed from varying materials, including mesh, plastic and upholstery.

Our seating product lines are designed and engineered for clients in businesses of all sizes who seek distinctive, comfortable, high performance executive, task, conference and visitor chairs. The LIFE ™ , RPM ® , Sapper, Bulldog ® , SOHO ™, Visor ™, Chadwick ™, and Essentials ™product lines offer a range of ergonomic features at various price levels.

In January 2006, we introduced our Essentials ™ chair collection designed by Jeffrey Bernett, and in 2005 we introduced the Chadwick ™ product line designed by Don Chadwick. Both of these work chair offerings target the middle-market and entry price segment.

Seating accounted for approximately 10.7% of sales in 2006, 10.4% of sales in 2005 and 9.8% of sales in 2004.

Our principal seating lines are:

LIFE ™. LIFE , introduced in 2002, has become an industry benchmark for ergonomic and sustainable design. Recognized for its overall lightness and agility, LIFE features intuitive adjustments that bring comfort and effortless control to a new performance level with an extensive range of supportive sitting options and responsive lumbar support.

RPM . RPM , recognized for outstanding comfort, extraordinary performance and exceptional value, is offered with distinctive fabrics that reflect its stylish design. Engineered for durability, RPM delivers comfort and support, especially for 24-hour work environments.

Chadwick ™. Chadwick , introduced in 2005, is an innovative hybrid seating design that accommodates the changing needs of today’s workplace and home office.

Essentials ™. Essentials , introduced in January 2006, is a traditional, tailored, practical work chair designed to offer the ergonomic comfort and traditional appeal of fully upholstered task chair at an incredible value. Essentials Work Chairs, with two models, Pro ™ and Tech ™, are a comprehensive range of three task and two side chairs suitable to any office style from the traditional to the progressive.

Files and Storage

Our files and storage products, featuring the Calibre and Series 2 product lines, are designed with unique features to maximize storage capabilities throughout the workplace. Our core files and storage products consist of lateral files, mobile pedestals and other storage units, bookcases and overhead storage cabinets. In 2004, the breadth of our storage products was expanded by introducing new storage towers, including wardrobe towers, bookcase towers and display towers. Knoll Calibre storage towers received a silver 2004 Best of NeoCon ® award.

The range of files and storage completes our product offering, allowing clients to address all of their furniture needs with us, especially in competitive bid situations where Knoll office systems, seating, tables and desks have been specified. The breadth of the product line also enables our dealers to offer the files and storage as stand alone products to businesses with smaller requirements.

Files and storage are available in an extensive array of sizes, configurations and colors, which can be integrated with other manufacturers’ stand-alone furniture, thereby increasing our penetration in competitor accounts. In addition, certain elements of the product line can be configured as freestanding furniture in private offices or open-plan environments.

Files and storage accounted for approximately 8.3% of sales in 2006, 7.3% of sales in 2005 and 7.3% of sales in 2004.

Desks, Casegoods, and Tables

We offer collections of adjustable tables as well as meeting, conference, training, dining, and café tables for large scale projects and stand-alone desks and table desks. These items are also sold as stand-alone products through Knoll dealers to businesses with smaller requirements.

Our Interaction ™ and Upstart ™ product lines include adjustable, work, meeting, conference and training tables. These product lines range from independent tables to tables suitable for workstations that support individual preferences for computer and writing heights to plannable desks that can be linked together to build and reshape larger work areas. Additionally, Interaction tables are designed to be compatible with Dividends , Equity , Morrison and Reff office systems.

Our principal desk product lines, detailed to meet the needs of the contemporary office, offer traditional wood casegoods construction synonymous with the Knoll standard of quality. These desk product lines include: Magnusson ® and Reff ® , both designed especially to serve the day-to-day wood casegoods requirements of Knoll dealers.

Desks, Casegoods, and Tables accounted for approximately 0.5% of sales in 2006, 0.9% of sales in 2005 and 1.5% of sales in 2004.

Specialty Products

Our KnollStudio ® , KnollTextiles , KnollExtra ® and Spinneybeck ® businesses serve as a marketing and distribution umbrella for our portfolio of specialty product lines. These businesses, which represented over 16% of our revenue in 2006, are our highest margin product lines and enhance our design and quality reputation.

KnollStudio is a renowned source for classic modern furniture and spirited new designs of unparalleled quality for the workplace, home, hotels, restaurants and government and educational institutions. The KnollStudio portfolio includes a range of lounge seating; side, café and dining chairs; barstools; and conference, dining and occasional tables. KnollStudio has a long history of working with celebrated architects and designers from around the world, including Ludwig Mies van der Rohe, Marcel Breuer, Eero Saarinen, Isamu Noguchi, Warren Platner, Frank Gehry, Maya Lin, Jens Risom and Kazuhide Takahama. In addition, KnollStudio manufactures a collection of original furniture designs by Florence Knoll. In 2006, KnollStudio collaborated with renowned New York-based architectural firm Shelton, Mindel & Associates to produce a range of elegant lounge seating, an innovative wood side chair and a series of low tables.

In the fourth quarter of 2004, KnollStudio established Knoll Space as a formalized sales program for the retail market, making it easier for consumers to bring the best of Knoll furnishings into their home and home office. The program consists of independent specialty retailers and e-tailers nationwide that sell our iconic modern classics and selected contemporary designs as well as selected products with crossover home office appeal. Through this program we sell our KnollStudio and selected other products through approximately 50 retailers, with an aggregate of over 100 locations.

KnollTextiles, established in 1947 to create high-quality textiles for Knoll furniture, offers upholstery, panel fabrics, wall coverings and drapery that harmonize color, pattern and texture. KnollTextiles offers products for corporate, hospitality, healthcare and residential interiors. KnollTextiles products are used in the manufacture of Knoll furniture and are sold to clients for use in other manufacturers’ products. Extending KnollTextiles ’ heritage of product innovation from classic upholstery to ecologically oriented panel fabrics; we introduced Imago in 2000, a product that defined an entirely new category of hard surface materials. Designers who collaborate with us on KnollTextiles include Suzanne Tick and 2x4. In January 2006, KnollTextiles partnered with Toray to be the exclusive contract distributor for Ultrasuede ® fabrics in the United States, for corporate, hospitality, and healthcare applications. Ultrasuede has been used in the fashion and automotive industries for three decades due to its unique combination of luxury and performance. This partnership reflects are commitment to classic luxury and quality. Also in 2006, Knoll Textiles received two Best of NeoCon ® awards, one for KnollTextiles design director Dorothy Cosonas’s Spring 2006 Collection in the Upholstery category, and one for Suzanne Tick’s Hard Rock and Palladium in the Panel Fabric category.

KnollExtra offers accessories that complement Knoll office furniture products, including technology support accessories, desktop organizational tools, lighting and storage. KnollExtra integrates technology comfortably into the workplace, meeting the increased demand for flat panel monitor supports, central processing unit holders as cable management with such products as Zorro , Wishbone ™ and Rotation , which deliver adjustability and space savings. In 2005, our portable, aluminum, ergonomic support for laptop computers Lapjack won a gold 2005 Best of NeoCon ® award. In addition we received the silver and gold 2005 Best of NeoCon ® awards for the Copeland Light™ and the Halley™ Light.

Spinneybeck Enterprises, Inc . (“Spinneybeck”), our wholly owned subsidiary, offers leathers and related products, including leather rugs and wall panels. Spinneybeck supplies high-quality upholstery leather for use on Knoll furniture and for sale directly to clients, including other office furniture manufacturers, upholsterers, aviation, custom coach and boating manufacturers.

Specialty products accounted for approximately 16.2% of sales in 2006, 16.6% of sales in 2005 and 16.5% of sales in 2004.

European Products

Knoll Europe has a product offering that allows clients to purchase a complete office environment from a single source. In addition, we offer certain products designed specifically for the European market. In 2006 we introduced the new wa desking system. Wa reinvents desks and storage through its design and construction in a linear and well proportioned modern vernacular. Our presence in the European market provides strategic positioning with clients that have international offices where they would like to maintain their Knoll facility standard. In addition to working with North American clients’ international offices, we also have a local European client base.

In Europe, the core product categories include: (i) desk systems, including the new wa desking system the KnollScope, and the PL1 system; (ii) KnollStudio ; (iii) seating, including a comprehensive range of chairs; and (iv) storage units, which are designed to complement Knoll desk products.

Knoll Europe accounted for approximately 7.8% of sales in 2006 and in 2005 and 7.7% of sales in 2004.

Product Design and Development

Our design philosophy reflects our historical commitment to working with the world’s preeminent designers to develop products and product enhancements that delight and inspire. By combining the designers’ creative vision with our commitment to developing products that address changing business needs, we have been able to generate strong demand for our product offerings and cultivate brand loyalty among target clients. Our reputation as a design leader and history of working with these preeminent designers allows us to continue to attract and collaborate with a diverse group of the world’s leading designers. In addition, these types of collaborations are consistent with our commitment to a lean organizational structure and incentive-based compensation, with the resulting costs a variable royalty-based fee as opposed to fixed costs associated with a larger in-house design staff.

Our product development process uses a product commercialization process to ensure quality and repeatability of the development process. This helps to reduce product development cycle time and improves the quality of output. We use Pro/ENGINEER ® design tools and rapid prototyping technology to reduce product design and development lead times and improve responsiveness to special requests for customized solutions. Working very closely with the designers during this phase of design and development helps to ensure the most viable products that balance innovative, modern design with practical, functional style. Cross-functional teams are formed for all major development efforts with dedicated leaders to facilitate a seamless flow into manufacture and accountability on cost and schedule. Additionally, throughout the development process, materials that are used are evaluated with a focus on incorporating recycled and recyclable materials into the products.

Research and development expenses, which are expensed as incurred, were $12.7 million for 2006, $10.8 million for 2005, and $12.8 million for 2004.

Sales and Distribution

Our clients are typically Fortune 1000 companies, governmental agencies and other medium to large sized organizations in a variety of industries including education, healthcare and hospitality. Our direct sales force and independent dealers in North America work in close partnership with clients and design professionals to specify distinctive work environments. Our direct sales representatives, in conjunction with the independent dealers, sell to and call directly on key clients. Our independent dealers also call on many other medium and small sized clients to provide seamless sales support and client service.

Our products and knowledgeable sales force have generated strong brand recognition and loyalty among architects, designers and corporate facility managers, all of whom are key decision makers in the office furniture purchasing process. Our strong relationships with architects and design professionals help us stay abreast of key workplace trends and position us to better meet the changing needs of clients. For example, we have invested in training all of our architect and designer specialists as Leadership in Energy and Environmental Design (“LEED ® ”) accredited professionals to help clients better address environmental issues that arise in the design of the workplace. We have over $7 billion installed base of office systems, which provides a strong platform for recurring and add-on sales.

We have aligned our sales force to target strategic areas of opportunity. For example, our Global Business Division was created to target competitively held accounts. We have also placed sales representatives and technical specialists into certain dealerships to support programs such as Knoll Essentials , as well as strengthened our focused seating and KnollExtra sales team with new senior leadership.

In addition to coordinating sales efforts with the sales representatives, the dealers generally handle project management, installation and maintenance for client accounts after the initial product selection and sale. Although many of these dealerships also carry products of other manufacturers, they have agreed not to act as dealers for our principal direct competitors. We have not experienced significant dealer turnover. Our dealers’ substantial commitment to understanding our product lines, and their strong relationships with us, serve to discourage dealers from changing vendor affiliations. We are not dependent on any one dealer, the largest of which accounted for less than 8.2%, 7.2% and 5.2% of our North American sales in 2006, 2005 and 2004, respectively.

We provide product training for our sales force and dealer sales representatives, who make sales calls primarily to small to medium sized businesses. As part of our commitment to building relationships with our dealer sales representatives, we introduced the Knoll Essentials program in January 2004. Knoll Essentials is a catalog program developed in response to dealer requests for a consolidated, user-friendly selling tool for day-to-day systems, seating, storage and accessory products. The Knoll Essentials program includes dealer incentives to sell our products. In 2006, the Knoll Essentials program increased dealer generated sales by $19.0 million as compared to 2005. We also employ a dedicated team of dealer sales representatives to work with our dealerships.

No single client represented more than 2.6% of our North American sales during 2006. However, a number of U.S. government agencies purchase products through multiple contracts with the General Services Administration, or GSA. Sales to U.S. government entities under the GSA contracts aggregated approximately 12.6% of our consolidated sales in 2006, with no single U.S. government order accounting for more than 2% of consolidated sales. The U.S. government typically can terminate or modify any of its contracts with us either for its convenience or if we default by failing to perform under the terms of the applicable contract.

In Europe, we sell products in largely the same manner as in North America, through a direct sales force and a network of dealers with the majority of sales coming from the United Kingdom, France and Italy, as well as export markets in the Middle East. We also sell products designed and manufactured in North America to the international operations of core clients.

Manufacturing and Operations

We operate manufacturing sites in North America, with plants located in East Greenville, Pennsylvania, Grand Rapids and Muskegon, Michigan, and Toronto, Canada. In addition, we have two plants in Italy: one in Foligno and one in Graffignana. We manufacture and assemble products to specific customer order and operate all facilities under a philosophy of continuous improvement, lean manufacturing and efficient asset utilization. All plants are registered under ISO 9000, an internationally developed set of quality criteria for manufacturing companies. Additionally, the North American plants are ISO 14001 certified, which reflects our commitment to environmentally responsible practices.

In 2006, our East Greenville location received a “Star” rating under the Occupational Safety and Health Administration’s (OSHA) Voluntary Protection Program (VPP). A Star rating is the highest a company can obtain in OSHA’s premier partnership program and to achieve this rating our East Greenville site had to demonstrate a comprehensive safety and health process with strong management leadership, include all employees as active participants and ensure an injury rate substantially below the average for the industry. The Star rating allows us to join an elite and exclusive group of less than 1,400 companies nationwide that have demonstrated the dedication and commitment to safety.

The root of our continuous improvement efforts lies in the philosophy of lean manufacturing that drives operations. As part of this philosophy, we partner with suppliers who can supply our facilities efficiently, often with just-in-time deliveries, thus allowing us to reduce our raw materials inventory. We also utilize “Kaizen” work groups in the plants to develop best practices to minimize scrap, time and material waste at all stages of the manufacturing process. The involvement of employees at all levels ensures an organizational commitment to lean and efficient manufacturing operations.

In 2006, we encountered capacity restraints as the industry continued its recovery and we worked to meet the increased demand for our product. To respond to this issue, we added additional shifts and invested in new equipment. These steps allowed us to increase capacity without entering into new facilities or enlarging our existing facilities. In addition, the increased demands presented challenges in receiving our inbound materials and shipping orders to customers on time. To correct this issue we incurred additional costs to expedite the shipments in and out of our facilities. By the end of the year, these challenges had been addressed and are, we believe, behind us. But we continue to implement new programs and procedures which will improve operations from order entry through shipment, resulting in more efficient workflows, reduced lead times and enhanced client service. We continue to focus on process cycle time, percentage of orders shipped complete and on-time, order correctness and other key measures aimed at driving service improvements.

In addition to the continued focus on enhancing the efficiency of the manufacturing operations, we also seek to reduce costs through our recently initiated global sourcing effort. We have capitalized on raw material and component cost savings available through lower cost global suppliers. This broader view of potential sources of supply has enhanced our leverage with domestic supply sources, and we have been able to reduce cycle times by extracting improvements from all levels throughout the supply chain.

Raw Materials and Suppliers

The purchasing function in North America is centralized at the East Greenville facility. This centralization, and the close relationships with our primary suppliers, has enhanced our ability to realize purchasing economies of scale and implement “just-in-time” inventory practices. Steel, lumber, paper, paint, plastics, laminates, particleboard, veneers, glass, fabrics, leathers and upholstery filling material are used in the manufacturing process. Both domestic and overseas suppliers of these materials are selected based upon a variety of factors, with the price and quality of the materials and the supplier’s ability to meet delivery requirements being primary factors in such selection. We do not generally enter into any long-term supply contracts and, as a result, we are vulnerable to fluctuations in the prices for these materials. Our material costs increased by approximately $12.8 million during 2006 due to increasing market prices. In 2006, inflation impacted transportation costs by $1.9 million. The existing and ongoing global sourcing initiative and continuous improvement program, implemented list price increases and selected additional list price increases are anticipated to offset most of these further increased material costs; however the additional impact of transportation inflation will make it more difficult for us to offset all of these costs. No supplier is the only available source for a particular component or raw material. However, because of the specialization involved with some of our components, it can take a significant amount of time and effort to move to an alternate source.

Competition

The office furniture market is highly competitive. Office furniture companies compete on the basis of (i) product design, including performance, ergonomic and aesthetic features, (ii) product quality and durability, (iii) relationships with clients, architects and designers, (iv) strength of dealer and distributor network, (v) on-time delivery and service performance, (vi) commitment to environmental standards by offering products that help clients achieve LEED ® certified facilities and minimize environment impact and (vii) price. We estimate that we had an 8.3% market share in the U.S. office furniture market in 2006.

Some of our competitors, especially those in North America, are large and have significantly greater financial, marketing, manufacturing and technical resources than we have. Our most significant competitors in primary markets are Herman Miller, Inc., Steelcase, Inc., Haworth, Inc. and, to a lesser extent, Allsteel, Inc., an operating unit of HNI Corporation and Teknion Corporation. These competitors have a substantial volume of furniture installed at businesses throughout North America, providing a continual source of demand for further products and enhancements. Moreover, the products of these competitors have strong acceptance in the marketplace. Although we believe that we have been able to compete successfully in the markets to date, there can be no assurance that we will be able to continue to do so in the future.

Patents and Trademarks

We consider securing and protecting our intellectual property rights to be important to the business. We own approximately 82 active U.S. utility patents on various components used in our products and systems and approximately 107 active U.S. design patents. We also own approximately 190 patents in various foreign countries. The scope and duration of our patent protection varies throughout the world by jurisdiction and by individual product. In particular, patents for individual products extend for varying periods of time according to the date a patent application is filed, the date a patent is granted and the term of patent protection available in the jurisdiction granting the patent (generally twenty years from the date of filing in the U.S, for example). We believe that the duration of the applicable patents we are granted is adequate relative to the expected lives of our products. We own approximately 46 trademark registrations in the U.S., including registrations to the following trademarks, as well as related stylized depictions of the Knoll word mark: Knoll ® , KnollStudio ® , KnollExtra ® , Good Design Is Good Business ® , A3 ® , Autostrada ® , Bulldog ® , Calibre ® , Currents ® , Dividends ® , Equity ® , Parachute ® , Propeller ® , Reff ® , RPM ® , Spinneybeck ® , Upstart ® , Visor ® . We also own approximately 143 trademarks registered in foreign countries including the LIFE™ trademark which was purchased in December 2006. The scope and duration of our trademark protection varies throughout the world, with some countries protecting trademarks only as long as the mark is used, and others requiring registration of the mark and the payment of registration (generally ten years from the date of filing in the U.S., for example). In order to protect the indefinite duration, we makes filings to continue registration of our trademarks.

In October 2004, we received registered trademark protection in the United States for five of our world-famous furniture designs created by Ludwig Mies van der Rohe—the Barcelona Chair, the Barcelona Stool, the Barcelona Couch, the Barcelona Table and the Flat Bar Brno Chair. This protection recognizes the renown of these designs and reflects our commitment to ensuring that when architects, furniture retailers, businesses and the public purchase a Ludwig Mies van der Rohe design, they will be purchasing the authentic product, manufactured to the designer’s historic specifications. Barcelona ® is a U.S. registered trademark owned by Knoll, Inc.

Backlog

Our sales backlog was $167.7 million at December 31, 2006, $147.3 million at December 31, 2005 and $122.5 million at December 31, 2004. We manufacture substantially all of our products to order and expect to fill substantially all outstanding unfilled orders within the next twelve months. As such, backlog is not a significant factor used to predict our long-term business prospects.

MANAGEMENT DISCUSSION FROM LATEST 10K

Overview

The fourth quarter of 2006 ended a very positive year for Knoll. This year we were able to further expand our industry leading margins and deliver very strong double digit growth in sales, operating profit, net income and earnings per share. This is the second consecutive year in which we delivered double digit growth better than the industry. Net sales for the year were $982.2 million, an increase of 21.6% over 2005. Operating income and net income were $116.9 million and $58.6 million, an increase of 26.0% and 63.2%, respectively, over the full year 2005. Earnings per share rose from $0.70 in 2005 to $1.18 in 2006, an increase of 68.6%.

Over the past several years we have been working to increase our share in non-systems categories by cross selling to our office systems clients and securing stand-alone opportunities for the sales of seating, files and storage, and casegoods. We have actively expanded our product lines in these non-systems categories to help us pursue a larger share of the U.S. market for those goods. In 2002, we introduced the award winning and commercially successful LIFE chair to drive our growth in the seating category and compete in the high-performance work chair market. In 2004, we introduced the Knoll Essentials collection of easy-to-order, best-selling products from our broad range of office furnishings and quadrupled our storage offering. During 2005, we increased the pace of our new product introductions for our Knoll Textiles collection of upholstery, panel fabrics, wall coverings and drapery and continued to expand our retail distribution network for our KnollStudio collection of chairs, barstools, lounge seating, conference, dining and occasional tables to take advantage of increased consumer interest in modern and mid-century design, showcase our design strength and broaden recognition of the Knoll brand. We introduced our Chadwick chair in 2005 and introduced our Essentials chair collection in January 2006.

In 2006, we were able to gain share in the systems area because of our broad offerings. We also continued to gain marketing share in our seating, storage, and specialty products. Our Knoll Essentials dealer marketing program set another record with over 50% shipment growth and our high margin specialty businesses delivered record breaking sales as we expanded our marketing efforts in the retail, consumer and international spaces.

During 2006, our gross margins declined to 32.5% from 33.7% a year ago. This decline is the result of several factors including a shift in the mix of products sold due to increased systems growth, continued inflationary pressures in raw materials and transportation, inefficiencies in our manufacturing operations caused by the higher demand and additional transportation costs incurred as a result of expediting shipments to customers and for in bound shipments. Higher material, labor, and transportation costs negatively impacted 2006 gross profit by approximately $20.3 million. These costs were partially offset by price realization, global sourcing and continuous improvement efforts. In addition, the appreciation of the Canadian dollar had the effect of decreasing 2006 gross profit by approximately $7.1 million due to higher product costs compared to 2005. Factory efficiencies are improving with our expanded production and we are seeing the benefit of fixed cost absorption from higher sales. We improved our manufacturing capacity by adding more shifts and investing in additional machinery.

For the year we were able to improve our leverage ratio, reduce our share count and increase our dividend as we put our free cash flow and strengthened balance sheet to work for the benefit of our shareholders. We increased our fourth quarter dividend by 10% over the prior three quarters. In addition, we became a fully independent public company with the combination of the completion of our August secondary stock offering, a stock purchase from Warburg Pincus Ventures, L.P. of 3.9 million shares, and the private distribution by Warburg Pincus of its remaining shares. Warburg Pincus no longer holds an equity interest in Knoll. In connection with the Warburg buyback and our stock repurchase programs we repurchased approximately 6.0 million shares during 2006. The cash flow to repurchase these shares was generated from operations and net borrowings of $34.2 million. In addition, we spent $13.4 million on capital expenditures as compared to $10.7 million for 2005. Investing activities in 2006 also included $3.3 million paid for intangibles related to investments in our seating line.

Overall our strong performance in 2006 enhanced our ability to invest in initiatives that drive top-line growth, improve margins, and increase shareholder value.

Critical Accounting Policies

The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the U.S. “GAAP” requires us to make estimates and assumptions that affect the reported amounts of certain assets, liabilities, revenues and expenses and the disclosure of certain contingent assets and liabilities. Actual results may differ from such estimates. We believe that the critical accounting policies that follow are those policies that require the most judgment, estimation and assumption in preparing our consolidated financial statements.

Allowance for Doubtful Accounts

We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our clients and dealers to make required payments. The allowance is determined through an analysis of the aging of accounts receivable and assessments of risk that are based on historical trends and an evaluation of the impact of current and projected economic conditions. We evaluate the past-due status of our trade receivables based on contractual terms of sale. If the financial condition of our clients and dealers were to deteriorate, additional allowances may be required. Accounts receivable are charged off against the allowance for doubtful accounts when we determine that recovery is unlikely.

Inventory

Inventories are valued at the lower of cost or market. Cost is determined using the first-in, first-out method. We write down inventory that, in our judgment, is impaired or obsolete. Obsolescence may be caused by the discontinuance of a product line, changes in product material specifications, replacement products in the marketplace and other competitive influences.

Goodwill and Other Intangible Assets

Intangible assets consist of goodwill, trademarks and deferred financing fees. Goodwill is recorded at the amount by which cost exceeds the net assets of acquired businesses, and all other intangible assets are recorded at cost. Goodwill and other intangible assets are tested for impairment at least annually rather than being amortized.

On December 19, 2006, we purchased certain intangibles as an investment in its seating line. A definite useful life was assigned to these intangibles and as such amortization will be recorded over the economic life of the intangibles in accordance with Statement of Financial Accounting Standards 142 “Goodwill and Other Intangible Assets”.

Deferred financing costs that are incurred by us in connection with the issuance of debt are deferred and amortized to interest expense over the life of the underlying indebtedness

Product Warranty

We provide for the estimated cost of product warranties at the time revenue is recognized. While we engage in product quality programs and processes, our warranty obligation is affected by product failure rates and by material usage and service costs incurred in correcting a product failure. Cost estimates are based on historical product failure rates and identified one-time fixes for each specific product category. Warranty cost generally varies in direct relation to sales volume, as such costs tend to be a consistent percentage of revenue. Should actual costs differ from original estimates, revisions to the estimated warranty liability would be required.

Employee Benefits

We are partially self-insured for our employee health benefits. We accrue for employee health benefit obligations based on an actuarial valuation. The actuarial valuation is based upon historical claims as well as a number of assumptions, including rates of inflation for medical costs, and benefit plan changes. Actual results could be materially different from the estimates used.

Pension and Other Postretirement Benefits

We sponsor two defined benefit pension plans and two other postretirement benefit plans that cover substantially all our U.S. employees. Several statistical and other factors, which attempt to anticipate future events, are used in calculating the expense and liability related to the plans. Key factors include assumptions about the expected rates of return on plan assets, discount rates, and health care cost trend rates, as determined by us, within certain guidelines. We consider market conditions, including changes in investment returns and interest rates, in making these assumptions.

We determine the expected long-term rate of return on plan assets based on aggregating the expected rates of return for each component of the plan’s asset mix. We use historic plan asset returns combined with current market conditions to estimate the rate of return. The expected rate of return on plan assets is a long-term assumption and generally does not change annually. The discount rate reflects the market rate for high-quality fixed income debt instruments as of our annual measurement date and is subject to change each year. Holding all other assumptions constant, a one-percentage-point increase or decrease in the assumed rate of return on plan assets would decrease or increase, respectively, 2006 net periodic pension expense by approximately $0.7 million. Likewise, a one percentage point increase or decrease in the discount rate would decrease or increase, respectively, 2006 net periodic pension expense by approximately $2.8 million or $3.9 million, respectively.

Unrecognized actuarial gains and losses are recognized over the expected remaining service life of the employee group. Unrecognized actuarial gains and losses arise from several factors, including experience and assumption changes with respect to the obligations and from the difference between expected returns and actual returns on plan assets. These unrecognized gain and losses are systematically recognized as a change in future net periodic pension expense in accordance with FASB Statement No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans—an amendment of FASB No. 87, 88, 106, and 132(R) (“SFAS 158”).

Key assumptions we use in determining the amount of the obligation and expense recorded for postretirement benefits other than pensions (“OPEB”), under FASB Statement No. 106, Employers’ Accounting for Postretirement Benefits Other Than Pensions , include the assumed discount rate and the assumed rate of increases in future health care costs. The discount rate we use to determine the obligation for these benefits matches the discount rate used in determining our pension obligations in each year presented. In estimating the health care cost trend rate, we consider actual health care cost experience, future benefit structures, industry trends and advice from our actuaries. We assume that the relative increase in health care costs will generally trend downward over the next several years, reflecting assumed increases in efficiency in the health care system and industry-wide cost containment initiatives. At December 31, 2006, the expected rate of increase in future health care costs was 9% in determining the benefit obligation for 2007 and 7% in determining the net periodic benefit cost for 2006. The rate was then assumed to decrease 1.0% per year to an ultimate rate of 5% for 2011 and thereafter for the benefit obligation. Increasing the assumed health care cost trend by one percentage point in each year would increase the benefit obligation as of December 31, 2006, by $4.2 million and increase the aggregate of the service and interest cost components of net periodic benefit cost for 2006 by approximately $0.3 million. Decreasing the assumed health care cost trend rate by one percentage point in each year would decrease the benefit obligation as of December 31, 2006 by approximately $3.4 million and decrease the aggregate of the service and interest cost components of net periodic benefit cost for 2006 by approximately $0.2 million.

In accordance with SFAS 158, we recognized in our statement of financial position the funded status (i.e. the difference between the fair value of plan assets and the projected benefit obligation) of our defined benefit pension and postretirement benefit plans. To record the unfunded status of our plans we recorded an additional liability and an adjustment to accumulated other comprehensive income, net of tax. For further information on how this new accounting pronouncement affects our financial results see note 14 in the accompanying financial statements.

The actuarial assumptions we use in determining our pension and OPEB retirement benefits may differ materially from actual results due to changing market and economic conditions, higher or lower withdrawal rates, or longer or shorter life spans of participants. While we believe that the assumptions used are appropriate, differences in actual experience or changes in assumptions may materially affect our financial position or results of operations.

Commitments and Contingencies

We establish reserves for the estimated cost of environmental and legal contingencies when such expenditures are probable and reasonably estimable. A significant amount of judgment and use of estimates is required to quantify our ultimate exposure in these matters. We engage outside experts as deemed necessary or appropriate to assist in the evaluation of exposure. From time to time, as information becomes available regarding changes in circumstances for ongoing issues as well as information regarding emerging issues, our potential liability is reassessed and reserve balances are adjusted as necessary. Revisions to our estimates of potential liability, and actual expenditures related to environmental and legal contingencies, could have a material impact on our results of operations or financial position.

Taxes

We account for income taxes in accordance with SFAS No. 109, Accounting for Income Taxes , (“SFAS 109”) which requires that deferred tax assets and liabilities be recognized using enacted tax rates for the effect of temporary differences between book and tax bases of recorded assets and liabilities. SFAS No. 109 also requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some portion or all of the deferred tax assets will not be recognized.

At December 31, 2006, deferred tax liabilities of $71.7 million exceeded deferred tax assets of $43.5 million by $28.2 million. At December 31, 2005, our deferred tax liabilities of $66.8 million exceeded our deferred tax assets of $31.9 million by $34.9 million.

for Postretirement Benefits Other Than Pensions , include the assumed discount rate and the assumed rate of increases in future health care costs. The discount rate we use to determine the obligation for these benefits matches the discount rate used in determining our pension obligations in each year presented. In estimating the health care cost trend rate, we consider actual health care cost experience, future benefit structures, industry trends and advice from our actuaries. We assume that the relative increase in health care costs will generally trend downward over the next several years, reflecting assumed increases in efficiency in the health care system and industry-wide cost containment initiatives. At December 31, 2006, the expected rate of increase in future health care costs was 9% in determining the benefit obligation for 2007 and 7% in determining the net periodic benefit cost for 2006. The rate was then assumed to decrease 1.0% per year to an ultimate rate of 5% for 2011 and thereafter for the benefit obligation. Increasing the assumed health care cost trend by one percentage point in each year would increase the benefit obligation as of December 31, 2006, by $4.2 million and increase the aggregate of the service and interest cost components of net periodic benefit cost for 2006 by approximately $0.3 million. Decreasing the assumed health care cost trend rate by one percentage point in each year would decrease the benefit obligation as of December 31, 2006 by approximately $3.4 million and decrease the aggregate of the service and interest cost components of net periodic benefit cost for 2006 by approximately $0.2 million.

In accordance with SFAS 158, we recognized in our statement of financial position the funded status (i.e. the difference between the fair value of plan assets and the projected benefit obligation) of our defined benefit pension and postretirement benefit plans. To record the unfunded status of our plans we recorded an additional liability and an adjustment to accumulated other comprehensive income, net of tax. For further information on how this new accounting pronouncement affects our financial results see note 14 in the accompanying financial statements.

The actuarial assumptions we use in determining our pension and OPEB retirement benefits may differ materially from actual results due to changing market and economic conditions, higher or lower withdrawal rates, or longer or shorter life spans of participants. While we believe that the assumptions used are appropriate, differences in actual experience or changes in assumptions may materially affect our financial position or results of operations.

Commitments and Contingencies

We establish reserves for the estimated cost of environmental and legal contingencies when such expenditures are probable and reasonably estimable. A significant amount of judgment and use of estimates is required to quantify our ultimate exposure in these matters. We engage outside experts as deemed necessary or appropriate to assist in the evaluation of exposure. From time to time, as information becomes available regarding changes in circumstances for ongoing issues as well as information regarding emerging issues, our potential liability is reassessed and reserve balances are adjusted as necessary. Revisions to our estimates of potential liability, and actual expenditures related to environmental and legal contingencies, could have a material impact on our results of operations or financial position.

Taxes

We account for income taxes in accordance with SFAS No. 109, Accounting for Income Taxes , (“SFAS 109”) which requires that deferred tax assets and liabilities be recognized using enacted tax rates for the effect of temporary differences between book and tax bases of recorded assets and liabilities. SFAS No. 109 also requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some portion or all of the deferred tax assets will not be recognized.

At December 31, 2006, deferred tax liabilities of $71.7 million exceeded deferred tax assets of $43.5 million by $28.2 million. At December 31, 2005, our deferred tax liabilities of $66.8 million exceeded our deferred tax assets of $31.9 million by $34.9 million.

Sales

Sales for 2006 were $982.2 million, an increase of $174.2 million, or 21.6%, from sales of $808.0 million for 2005. The sales increase was primarily due to increased sales across all our product categories and Europe primarily as a result of continued growth recovery in the industry. For each quarter in 2006, we experienced a greater than 15% increase in sales over the comparable prior year period. Approximately $3.4 million of the increase for total year sales, or approximately 2%, was attributable to additional revenues realized from price increases. The highest growth rate was led by our seating and storage lines, and followed by our specialty product lines and systems. Systems, which hold our largest product category shares, increased 21% alone. At December 31, 2006, sales backlog was $167.7 million, an increase of $20.4 million, or 13.8%, from sales backlog of $147.3 million as of December 31, 2005.

Gross Profit and Operating Income

Gross profit for 2006 was $319.0 million, an increase of $46.9 million, or 17.2%, from gross profit of $272.1 million for 2005. Operating income for 2006 was $116.9 million, an increase of $24.1 million, or 26.0%, from operating income of $92.8 million for 2005.

As a percentage of sales, gross profit decreased from 33.7% for 2005 to 32.5% for 2006. Operating income as a percentage of sales increased from 11.5% to 11.9% over the same period. Gross profit for 2006 was negatively impacted by the appreciation of the Canadian dollar by approximately $7.1 million due to higher product costs in 2006 compared to 2005. Higher material, labor, and transportation costs also negatively impacted gross profit by approximately $23.5 million. We were able to partially offset these costs through price realization, continuous improvement and global sourcing initiatives.

Operating margins benefited from better absorption of overhead on incremental volume. Operating expenses for 2006 were $202.1 million, or 20.6% of sales, compared to $179.2 million, or 22.2% of sales, for 2005. Operating expenses in 2006 included approximately $1.2 million of costs related to our secondary public offerings completed in February and August 2006, $137 thousand of costs incurred in connection with our buyback of 3.9 million shares from Warburg Pincus and additional bank and related fees of $258 thousand due to the amendment of our credit facility. Operating expense in 2006 also increased as a result of higher selling expenses and sales and incentive compensation directly attributable to increase sales dollars.

Interest Expense

Interest expense for 2006 and 2005 was $23.7 million. The decrease in interest expense at the beginning of 2006 was largely due to lower average debt balances was offset by an increase in the third and fourth quarters with our debt expansion.

The weighted average rate for 2006 was approximately 7.2%. The weighted average rate for 2005 was approximately 6.4%.

Other Income (Expense), Net

Other income for 2006 was $0.7 million comprised primarily of a $0.6 million gain due to our foreign currency translation, a $0.7 million unrealized loss on our interest rate cap agreements, and $0.8 million in other miscellaneous income. Other expense for 2005 was $5.4 million comprised primarily of $2.3 million of foreign exchange transaction losses, a $3.6 million write off of deferred financing fees related to the amendment and restatement or our credit facility, and $1.0 million of costs incurred in putting the facility in place.

Income Tax Expense

The mix of pretax income and the varying effective tax rates in the countries in which we operate directly affects our consolidated effective tax rate. The effective tax rate was 37.6% for 2006 compared to 43.7 % for 2005. Tax expense in 2005 included $3.1 million of taxes related to the one-time repatriation of $45 million of Canadian earnings under The American Job Creations Act.

Years ended December 31, 2004 and 2005

Sales

Sales for 2005 were $808.0 million, an increase of $101.6 million, or 14.4%, from sales of $706.4 million for 2004. The sales increase was primarily due to increased sales across all our product categories and Europe primarily as a result improved conditions in the industry. For each quarter in 2005, we experienced a greater than 10% increase in sales over the comparable prior year period, and the quarter ending December 31, 2005 marked the seventh consecutive quarter of year-over-year growth. Price realization, resulting from price increases implemented during 2004 and adjustments to product discounts, contributed $13.4 million during 2005.

At December 31, 2005, sales backlog was $147.3 million, an increase of $24.8 million, or 20.2%, from sales backlog of $122.5 million as of December 31, 2004.

Gross Profit and Operating Income

Gross profit for 2005 was $272.1 million, an increase of $31.1 million, or 12.9%, from gross profit of $241.0 million for 2004. Operating income for 2005 was $92.8 million, an increase of $21.5 million, or 30.2%, from operating income of $71.3 million for 2004.

As a percentage of sales, gross profit decreased from 34.1% for 2004 to 33.7% for 2005. Operating income as a percentage of sales increased from 10.1% to 11.5% over the same period. Gross profit for 2005 includes $0.8 million of restructuring charges related to the exiting of one our leased facilities in Canada concurrent with the expiration of the lease. The appreciation of the Canadian dollar also had the effect of decreasing gross profit by approximately $5.5 million due to higher product costs in 2005 compared to 2004. We were able to offset increased material and transportation costs of $21.2 million through $13.4 million of price realization, and $8.1 million of continuous improvement and global sourcing initiatives. Without the appreciation of the Canadian dollar and the additional restructuring charges, gross profit margin for 2005 would have remained substantially consistent with the prior year.

Operating margins benefited from better absorption of overhead on incremental volume. Operating expenses for 2005 were $179.2 million, or 22.2% of sales, compared to $169.7 million, or 24.0% of sales for 2004. Operating expense in 2005 included approximately $4.0 million of stock-based compensation, $3.1 million of costs of operating as a public company and higher sales compensation due to strong bookings during the year of approximately $4.5 million. Operating expense in 2004 included $4.4 million of costs associated with our initial public offering.

Interest Expense

Interest expense for 2005 was $23.7 million, an increase of $4.2 million from 2004. The increase in interest expense was largely due to higher interest rates that were in effect under our old credit facility which was in place through September 30, 2005. On October 3, 2005, we amended and restated our existing facility for a new facility which provides for lower rates.

The weighted average rate for 2005 was approximately 6.4%. The weighted average rate for 2004 was approximately 4.3%.

Other Income (Expense), Net

Other expense for 2005 was $5.4 million comprised primarily of $2.3 million of foreign exchange transaction losses, a $3.6 million write off of deferred financing fees related to the amendment and restatement or our credit facility, and $1.0 million of costs incurred in putting the facility in place. Other expense for December 31, 2004 was $5.3 million comprised primarily of $3.4 million of foreign exchange transaction losses and a $2.5 million write off deferred financing fees due to the refinancing of our credit facility in 2004.

Income Tax Expense

The mix of pretax income and the varying effective tax rates in the countries in which we operate directly affects our consolidated effective tax rate. The effective tax rate was 43.7% for 2005 compared to 42.5 % for 2004. Tax expense in 2005 included $3.1 million of taxes related to the one-time repatriation of $45 million of Canadian earnings under The American Job Creations Act. Tax expense in 2004 included $2.9 million of non-deductible costs associated with our initial public offering as well as non U.S. tax losses for which a benefit was not recorded. Both of these items increased the 2004 effective tax rate over the anticipated statutory rates.

Historically, we have carried significant amounts of debt, and cash generated by operating activities has been used to fund working capital, capital expenditures and scheduled payments of principal and interest under our debt. Our capital expenditures are typically for new product tooling and manufacturing equipment. These capital expenditures support new products and continuous improvements in our manufacturing processes. Beginning during the second quarter of 2006, we implemented our $50.0 million discretionary stock repurchase program and began using cash generated by operating activities to buy back shares.

We use our revolving credit facility in the ordinary course of business to fund our working capital needs, and at times make significant borrowings and repayments under the revolving facility depending on our cash needs and availability at such time.

In addition, on August 8, 2006, we purchased 3,900,000 shares of common stock from Warburg, Pincus Ventures, L.P. in a private non-underwritten transaction at a price of $16.9095 per share. In connection with this purchase, we increased our revolving credit facility by $12 million and increased our term loan facility by $38 million, pursuant to an accordion feature in our credit facility. We then borrowed approximately $66 million to finance the above-referenced purchase of shares from Warburg, Pincus Ventures, L.P.

The stock purchase from Warburg, Pincus Ventures, L.P. was not part of our $50 million stock repurchase program and did not count towards the $50.0 million limit under that repurchase program. As of December 31, 2006, we purchased approximately $15.2 million in Knoll common stock under the $50 million stock repurchase program. The stock purchase from Warburg, Pincus Ventures, L.P. was also not part of our stock repurchase plan that uses the proceeds of stock option exercises to repurchase outstanding shares. For the year ended December 31, 2006, we purchased 1,330,456 shares for approximately $26.5 million under the option proceeds program.

Net cash provided by operating activities was $77.5 million in 2006, $77.4 million in 2005 and $60.3 million in 2004. The increase in operating cash flow in 2006 was largely a result of an increase of $22.7 million in net income. This increase was offset with increased spending to fund our working capital as a result of higher sales volumes. In addition, with the implementation of FAS 123 (R), the tax benefit from stock options is now included in financing activities as a cash inflow rather than in operating activities as it was in 2005. The increase in operating cash flow in 2005 was largely a result of an increase of $9.2 million in net income and a $2.9 million increase in the tax benefit from the exercise of stock options and a $3.9 increase in non-cash earned stock grant compensation.

For the year ended December 31, 2006, we used available cash, including the $77.5 million of net cash from operating activities, $27.2 million of proceeds from the issuance of common stock, and $34.2 million of net borrowings, to fund $13.4 million in capital expenditures, purchase $3.3 million of intangibles, repurchase $107.8 million of common stock for treasury, fund dividend payments to shareholders totaling $20.2 million, and fund working capital. The 3.9 million shares purchased from Warburg, Pincus Ventures, L.P. in August is included in the $107.8 million of common stock repurchased for treasury. In 2005, we used available cash, including the $77.4 million of net cash provided from operations, $316.0 million of proceeds from our new credit facility, and $31.4 million of proceeds from the issuance of common stock, to fund $10.7 million of capital expenditures, repay $392.7 million of debt, and fund dividend payments to shareholders totaling $12.5 million. In 2004, we used available cash, including the $60.3 million of net cash from operations, $425.0 million of proceeds from our credit facility, and $13.2 million of proceeds from the issuance of stock to fund $13.1 million in capital expenditures, repay $413.1 of existing debt, and fund a dividend payment to shareholders totaling $70.6 million.

Cash used in investing activities was $16.6 million in 2006, $10.6 million in 2005 and $13.1 million in 2004. Fluctuations in cash used in investing activities are primarily attributable to the levels of capital expenditures. In 2006, we invested $3.3 million for the purchase of intangibles related to our seating line. We estimate that our capital expenditures in 2007 will be approximately $22 million.

On October 3, 2005, we amended and restated our existing senior credit facility in order to extend the maturities of our outstanding debt, obtain greater financial flexibility and take advantage of favorable debt capital markets to reduce our borrowing costs. The new senior credit facility allowed us to borrow an aggregate principal amount of $450.0 million, consisting of a $200.0 million revolving credit facility and a $250.0 million term loan facility. We used the proceeds of $250.0 million from the term loan facility and a $92.0 million borrowing under the revolving credit facility to repay amounts outstanding under the previously existing senior credit facility of $333.0 million, plus accrued interest and to pay related fees and expenses. Our credit facility is guaranteed by all our existing and future domestic wholly owned subsidiaries. Our credit facility also allows us to increase our revolving credit facility by up to $12 million and increase our term loan facility by up to $100 million, subject to certain limitations and satisfaction of certain conditions, including compliance with financial covenants. On August 1, 2006, we exercised this option and increased our revolving credit facility by $12 million and our existing term loan facility by $38 million in order to fund our stock repurchase plan and the repurchase of shares from Warburg Pincus. At December 31, 2006 our outstanding indebtedness was $350.3 million. Our credit facility includes a letter of credit subfacility of which $3.9 million of letters of credit was outstanding at December 31, 2006.

In addition to the above described credit facility, our foreign subsidiaries maintain local credit facilities to provide credit for overdraft, working capital and other purposes.

We are currently in compliance with all of the covenants and conditions under our credit facility. We believe that existing cash balances and internally generated cash flows, together with borrowings available under our revolving credit facility, will be sufficient to fund normal working capital needs, capital spending requirements, debt service requirements and dividend payments for at least the next twelve months. In addition, we believe that we will have adequate funds available to meet long-term cash requirements and that we will be able to comply with the covenants under the credit agreement. Future principal debt payments may be paid out of cash flows from operations, from future refinancing of our debt or from equity issuances. However, our ability to make scheduled payments of principal, to pay interest on or to refinance our indebtedness, to satisfy our other debt obligations and to pay dividends to stockholders will depend upon our future operating performance, which will be affected by general economic, financial, competitive, legislative, regulatory, business and other factors beyond our control.

Contractual obligations for long-term debt include principal and interest payments. Interest has been included at either the fixed rate or the variable rate in effect as of December 31, 2006, as applicable.

Environmental Matters

Our past and present business operations and the past and present ownership and operation of manufacturing plants on real property are subject to extensive and changing federal, state, local and foreign environmental laws and regulations, including those relating to discharges to air, water and land, the handling and disposal of solid and hazardous waste and the cleanup of properties affected by hazardous substances. As a result, we are involved from time to time in administrative and judicial proceedings and inquiries relating to environmental matters and could become subject to fines or penalties related thereto. We cannot predict what environmental legislation or regulations will be enacted in the future, how existing or future laws or regulations will be administered or interpreted or what environmental conditions may be found to exist. Compliance with more stringent laws or regulations, or stricter interpretation of existing laws, may require additional expenditures by us, some of which may be material. We have been identified as a potentially responsible party pursuant to the Comprehensive Environmental Response, Compensation and Liability Act of 1980 (“CERCLA”) for remediation costs associated with waste disposal sites that we previously used. The remediation costs and our allocated share at some of these CERCLA sites are unknown. We may also be subject to claims for personal injury or contribution relating to CERCLA sites. We reserve amounts for such matters when expenditures are probable and reasonably estimable.

Off-Balance Sheet Arrangements

We do not currently have, nor have we ever had, any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we do not engage in trading activities involving non-exchange traded contracts. As a result, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in these relationships.

MANAGEMENT DISCUSSION FOR LATEST QUARTER

Overview

During the third quarter of 2007, we continued to deliver strong results. We generated double digit growth in operating profit, net income and earnings per share. We also continued to produce gross margin expansion and industry leading levels of profitability. The strongest growth that we experienced in the third quarter of 2007 was in our International and Specialty businesses.

Net sales increased 4.3% from the third quarter of 2006. Increased volumes and improved pricing as a result of previously implemented price increases contributed to our growth. Operating income increased 13.6% and net income was up 17.9% in the third quarter of 2007, compared with the same period in 2006. Diluted earnings per share rose from $0.31 per share during the third quarter of 2006 to $0.37 per share during the third quarter of 2007.

Gross margin for the third quarter 2007 increased to 34.7% from 33.3% a year ago. Better pricing, favorable product mix and improved factory performance contributed to the increase, which was partially offset by the strengthening of the Canadian Dollar.

For the quarter, we used cash from operations of $27.4 million to fund $3.9 million in capital expenditures, repay $20.0 million in debt, and fund a quarterly dividend of $5.3 million, or $0.11 per share. At the end of the quarter our debt was $308.5 million.

Overall, we are pleased with the results of the quarter. We were able to maintain strong growth in operating income, net income and earnings per share. We were able to maintain these profitability levels in what appears to be a slowdown in the furniture spending cycle. Additionally, if the Canadian Dollar continues to appreciate, this will put added pressure on our future financial performance.

Critical Accounting Policies

The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the U.S. requires us to make estimates and assumptions that affect the reported amounts of certain assets, liabilities, revenues and expenses and the disclosure of certain contingent assets and liabilities. Actual results may differ from such estimates. On an ongoing basis, we review our accounting policies and procedures. A more detailed review of our critical accounting policies is contained in our Annual Report on Form 10-K for the year ended December 31, 2006. During the first three quarters of 2007, there have been no material changes in our accounting policies and procedures with the exception of the adoption of FIN 48.

Sales

Our sales for the third quarter of 2007 were $254.0 million, an increase of $10.4 million, or 4.3%, from sales of $243.6 million for the same period in the prior year. Sales for the nine months ended September 30, 2007 were $774.0 million, an increase of $64.8 million, or 9.1%, over the first nine months of 2006. The increase in sales for the three months and nine months ended September 30, 2007 was the result of increased sales volumes and previously implemented price increases. Previously implemented price increases contributed $6.4 million of the increase for the quarter ended September 30, 2007 and $22.5 million for the nine months ended September 30, 2007. Specialty and International businesses reflected the strongest growth for the three months ended September 30, 2007.

At September 30, 2007, sales backlog was $169.8 million, a decrease of $0.8 million, from sales backlog of $170.6 million as of September 30, 2006.

Gross Profit and Operating Income

Gross profit for the third quarter of 2007 was $88.2 million, an increase of $7.0 million, or 8.6%, from gross profit of $81.2 million for third quarter of 2006. Gross profit for the nine months ended September 30, 2007 was $266.2 million, an increase of $36.2 million, or 15.7%, from gross profit of $230.0 million for the same period in the prior year. Operating income for the third quarter of 2007 was $34.3 million, an increase of $4.1 million, or 13.6%, from operating income of $30.2 million for the third quarter of 2006. Operating income for the nine months ended September 30, 2007 was $102.7 million, an increase of $21.4 million, or 26.3%, from operating income of $81.3 million for the same period in 2006. As a percentage of sales, gross profit increased to 34.7% for the third quarter of 2007 from 33.3% for the third quarter of 2006. For the nine months ended September 30, 2007, gross profit as a percentage of sales increased to 34.4% from 32.4% in 2006. Operating income as a percentage of sales increased to 13.5% in the third quarter of 2007 from 12.4% over the same period in 2006. For the nine months ended September 30, 2007, operating income as a percentage of sales increased to 13.3% from 11.5% in 2006.

The increase in gross profit is due to better pricing, favorable product mix, and improved factory performance. Gross profit for the quarter was 34.7% or 140 basis points better than the 33.3% reported a year ago. We were also able to mitigate inflation through our global sourcing initiatives. The improvement in gross profit was partially offset by the negative impact of a stronger Canadian Dollar.

Operating expenses for the third quarter of 2007 were $54.0 million, or 21.3% of sales, compared to $51.1 million, or 21.0% of sales, for the third quarter 2006. Operating expense for the nine months ended September 30, 2007 were $163.5 million, or 21.1% of sales, compared to $148.6 million, or 21.0% of sales, for the same period in 2006. During the third quarter and nine months ended September 30, 2007 the increase in operating expense was due primarily to increased compensation costs related to higher sales volumes and increased spending on growth initiatives and product development.

Interest Expense

Interest expense for the quarter and nine months ended September 30, 2007 was $5.6 million and $18.6 million respectively, a decrease of $0.4 million and an increase of $1.8 million, respectively, from the same periods in 2006. The decrease for the quarter was due to a decrease in the average debt outstanding and lower borrowing costs resulting from our revolving credit facility entered into in the second quarter of 2007.

Other (Expense) Income, net

Other Expense was $0.8 million in the third quarter which compares to $0.3 million in the third quarter of 2006 and represents primarily foreign exchange losses on currency. For the nine months ended September 30, 2007 other expense was $3.9 million which consisted primarily of foreign exchange losses on currency. It also includes $1.2 million of deferred financing fees which were written off during the second quarter of 2007. For the nine months ended September 30, 2006, other income was $0.5 million and consisted primarily of the change in fair value of the interest rate swap and cap agreements and foreign exchange transaction gains and losses.

Income Tax Expense

The mix of pretax income and the varying effective tax rates in the countries in which we operate directly affects our consolidated effective tax rate. The reduction in our tax contingency reserve for the closing of the statute on our 2003 tax year was responsible for decreasing the third quarter’s 2007 effective tax rate by approximately 3%. The third quarter 2006 tax rate of 34.5% is a result of the reduction in our tax contingency reserve for the closing statute on our 2002 tax year. The effective tax rate for the nine months ended September 30, 2007 was 36.7%, and 37.5% for the same period in 2006.

Historically, we have carried significant amounts of debt, and cash generated by operating activities has been used to fund working capital, capital expenditures, repurchase shares and scheduled payments of principal and interest under our debt. Our capital expenditures are typically for new product tooling and manufacturing equipment. These capital expenditures support new products and continuous improvements in our manufacturing processes.

We use our revolving credit facility in the ordinary course of business to fund our working capital needs, and at times make significant borrowings and repayments under the revolving facility depending on our cash needs and availability at such time.

On June 29, 2007, we completed the refinancing of our credit facility with a new $500 million revolving credit facility. The new agreement matures in June 2013 and may be used for general corporate purposes, including strategic acquisitions, stock buybacks and cash dividends. Under the new agreement we can also increase our facility by up to $200 million subject to certain limitations and satisfaction of certain conditions. The improved interest rates in the new facility will provide for reduced borrowing costs allowing us to free up cash for other uses.

Year to date net cash provided by operations was $64.5 million of which $74.3 million was provided from net income plus non-cash amortizations, $1.2 million from the non-cash write-off of deferred financing fees, offset by ($11.0) million of changes in assets and liabilities, primarily accounts payable.

For the nine month period ended September 30, 2007, we used available cash, including the $64.5 million of net cash from operating activities, and $28.2 million of proceeds from the issuance of common stock, to fund $10.8 million in capital expenditures, repurchase $30.0 million of common stock for treasury, fund dividend payments to shareholders totaling $16.0 million, and fund working capital.

For the nine month period ended September 30, 2006, we used available cash, including the $38.5 million of net cash from operating activities, $20.5 million of proceeds from the issuance of common stock, and $61.9 million of net borrowings, to fund $7.4 million in capital expenditures, repurchase $99.3 million of common stock for treasury, fund dividend payments to shareholders totaling $15.0 million, and fund working capital. The 3.9 million shares purchased from Warburg, Pincus Ventures, L.P. in 2006 is included in the $99.3 million of common stock repurchased for treasury.

Cash used in investing activities was $10.7 million for the nine month period ended September 30, 2007 and $7.3 million for the same period in 2006. Fluctuations in cash used in investing activities are primarily attributable to the levels of capital expenditures. We estimate that our aggregate capital expenditures in 2007 will be approximately $16.7 million.

We are currently in compliance with all of the covenants and conditions under our credit facility. We believe that existing cash balances and internally generated cash flows, together with borrowings available under our revolving credit facility, will be sufficient to fund normal working capital needs, capital spending requirements, debt service requirements and dividend payments for at least the next twelve months. In addition, we believe that we will have adequate funds available to meet long-term cash requirements and that we will be able to comply with the covenants under the credit facility. However, our ability to pay interest on or to refinance our indebtedness, to satisfy our other debt obligations and to pay dividends to stockholders will depend upon our future operating performance, which will be affected by general economic, financial, competitive, legislative, regulatory, business and other factors beyond our control.

Environmental Matters

Our past and present business operations and the past and present ownership and operation of manufacturing plants on real property are subject to extensive and changing federal, state, local and foreign environmental laws and regulations, including those relating to discharges to air, water and land, the handling and disposal of solid and hazardous waste and the cleanup of properties affected by hazardous substances. As a result, we are involved from time-to-time in administrative and judicial proceedings and inquiries relating to environmental matters and could become subject to fines or penalties related thereto. We cannot predict what environmental legislation or regulations will be enacted in the future, how existing or future laws or regulations will be administered or interpreted or what environmental conditions may be found to exist. Compliance with more stringent laws or regulations, or stricter interpretation of existing laws, may require additional expenditures by us, some of which may be material. We have been identified as a potentially responsible party pursuant to the Comprehensive Environmental Response, Compensation and Liability Act of 1980 (“CERCLA”) for remediation costs associated with waste disposal sites that we previously used. The remediation costs and our allocated share at some of these CERCLA sites are unknown. We may also be subject to claims for personal injury or contribution relating to CERCLA sites. We reserve amounts for such matters when expenditures are probable and reasonably estimable.

Off-Balance Sheet Arrangements

We do not currently have, nor have we ever had, any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we do not engage in trading activities involving non-exchange traded contracts. As a result, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in these relationships.

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