10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)
x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the quarterly period ended July 1, 2007
	Or
o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the transition period from                to

Commission file number: 001-33048

Bare Escentuals, Inc.

(Exact name of registrant as specified in its charter)

Delaware	20-1062857
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)

71 Stevenson Street, 22nd Floor

San Francisco, CA 94105

(Address of principal executive offices with zip code)

(415) 489-5000

(Registrant’s telephone number, including area code)

N/A

(Former name, former address and former fiscal year, if changed since last report)

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of  “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act).   Large Accelerated Filer      o    Accelerated Filer      o     Non-Accelerated Filer      x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  
YES      o   NO      x

At August 6, 2007, the number of shares outstanding of the registrant’s common stock, $0.001 par value, was 90,188,564.

Table of Contents

Bare Escentuals, Inc.

INDEX

PART I—FINANCIAL INFORMATION
Item 1	Financial Statements (unaudited):
	Condensed Consolidated Balance Sheets — July 1, 2007 and December 31, 2006		3
	Condensed Consolidated Statements of Operations—Three and Six Months Ended July 1, 2007 and July 2, 2006		4
	Condensed Consolidated Statements of Cash Flows—Six Months Ended July 1, 2007 and July 2, 2006		5
	Notes to Condensed Consolidated Financial Statements		6
Item 2	Management’s Discussion and Analysis of Financial Condition and Results of Operations		22
Item 3	Quantitative and Qualitative Disclosures About Market Risk		35
Item 4	Controls and Procedures		36
PART II—OTHER INFORMATION
Item 1		Legal Proceedings	37
Item 1A		Risk Factors	37
Item 2		Unregistered Sales of Equity Securities and Use of Proceeds	39
Item 3		Defaults Upon Senior Securities	39
Item 4		Submission of Matters to a Vote of Security Holders	39
Item 5		Other Information	39
Item 6		Exhibits	40
Signatures			41
Exhibit Index
Certifications

2

PART I—FINANCIAL INFORMATION

ITEM 1.   FINANCIAL STATEMENTS

BARE ESCENTUALS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except per share data)

	July 1, 2007			December 31, 2006 (a)
	(unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	22,564		$	20,875
Inventories	56,042			62,006
Accounts receivable, net of allowances of $5,875 and $3,427 at July 1, 2007 and December 31, 2006, respectively	34,477			30,759
Prepaid expenses and other current assets	10,507			6,249
Prepaid income taxes	3,055			—
Deferred tax assets	7,772			5,826
Total current assets	134,417			125,715
Property and equipment, net	32,049			21,111
Intangible assets, net	26,871			6,085
Deferred tax assets	—			1,092
Other assets	2,289			1,832
Total assets	$	195,626		$	155,835
LIABILITIES AND STOCKHOLDERS’ DEFICIT
Current liabilities:
Current portion of long-term debt	$	17,624		$	17,624
Accounts payable	28,867			25,357
Accrued liabilities	20,122			16,123
Accrued restructuring charges	23			172
Income taxes payable	—			101
Total current liabilities	66,636			59,377
Long-term debt, less current portion	282,376			321,639
Other liabilities	8,270			3,341
Commitments and contingencies
Stockholders’ deficit:
Preferred stock; $0.001 par value; 10,000 shares authorized; zero shares issued and outstanding	—			—
Common stock; $0.001 par value; 200,000 shares authorized; 90,185 and 89,316 shares issued and outstanding at July 1, 2007 and December 31, 2006, respectively	90			89
Additional paid–in capital	405,157			378,063
Cumulative effect on accumulated deficit due to change in accounting principle	(952		)	—
Accumulated other comprehensive income	103			—
Accumulated deficit	(566,054		)	(606,674		)
Total stockholders’ deficit	(161,656		)	(228,522		)
Total liabilities and stockholders’ deficit	$	195,626		$	155,835

(a)Condensed consolidated balance sheet as of December 31, 2006 has been derived from the audited consolidated financial statements.

See accompanying notes.

3

BARE ESCENTUALS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

	Three months ended						Six months ended
	July 1, 2007			July 2, 2006			July 1, 2007			July 2, 2006
	(unaudited)						(unaudited)
Sales, net	$	124,144		$	96,185		$	239,757		$	186,100
Cost of goods sold	37,578			26,937			71,028			52,133
Gross profit	86,566			69,248			168,729			133,967
Expenses:
Selling, general and administrative	43,536			33,172			82,721			62,856
Depreciation and amortization, relating to selling, general and administrative	1,860			506			2,800			971
Stock-based compensation, relating to selling, general and administrative	1,779			1,523			3,390			2,467
Operating income	39,391			34,047			79,818			67,673
Interest expense	(6,274		)	(12,887		)	(13,085		)	(21,870		)
Debt extinguishment costs	—			(3,391		)	—			(3,391		)
Interest income	487			345			828			631
Income before provision for income taxes	33,604			18,114			67,561			43,043
Provision for income taxes	13,389			7,640			26,941			18,035
Net income	$	20,215		$	10,474		$	40,620		$	25,008
Basic	$	0.22		$	0.15		$	0.45		$	0.36
Diluted	$	0.22		$	0.15		$	0.44		$	0.35
Cash dividend per common share	$	—		$	4.81		$	—		$	4.81
Weighted-average shares used in per share calculations:
Basic	90,021			69,777			89,725			69,461
Diluted	93,091			71,703			92,804			71,785

See accompanying notes.

4

BARE ESCENTUALS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

	Six months ended
	July 1, 2007			July 2, 2006
	(unaudited)
Operating activities
Net income	$	40,620		$	25,008
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation of property and equipment	1,995			971
Amortization of intangible assets	805			—
Amortization of debt issuance costs	139			80
Debt extinguishment costs	—			3,391
Stock-based compensation	3,390			2,467
Excess tax benefit from stock option exercises and disqualifying disposition of shares	(2,286		)	(7,507		)
Deferred income tax provision (benefit)	(827		)	(34		)
Other	42			—
Changes in assets and liabilities:
Inventories	7,909			(9,398		)
Accounts receivable	(2,021		)	(10,670		)
Income taxes	1,337			2,539
Prepaid expenses and other current assets	(981		)	(78		)
Other assets	(596		)	(879		)
Accounts payable and accrued liabilities	(2,186		)	4,608
Other liabilities	667			259
Net cash provided by operating activities	48,007			10,757
Investing activities
Purchase of property and equipment	(12,206		)	(4,293		)
Acquisition of business, net of $1,847 of cash and cash equivalents acquired	(18,657		)	—
Net cash used in investing activities	(30,863		)	(4,293		)
Financing activities
Proceeds from issuance of Senior Term Loans and First and Second Lien Term Loans	—			206,583
Repayments on Senior Term Loans and First and Second Lien Term Loans	(39,263		)	(7,657		)
Proceeds from issuance of Subordinated Notes Payable	—			125,000
Payments for debt issuance costs	—			(4,122		)
Dividend paid in connection with the Recapitalization transactions	—			(340,427		)
Proceeds from issuance of common stock in public offerings	22,645			—
Payment of transaction costs in connection with public offerings	(1,562		)	—
Excess tax benefit from stock option exercises and disqualifying disposition of shares	2,286			7,507
Exercise of stock options	336			1,309
Proceeds from issuance of common stock to directors	—			300
Net cash used in financing activities	(15,558		)	(11,507		)
Effect of foreign currency exchange rate changes on cash	103			—
Net increase (decrease) in cash and cash equivalents	1,689			(5,043		)
Cash and cash equivalents, beginning of period	20,875			18,675
Cash and cash equivalents, end of period	$	22,564		$	13,632
Supplemental disclosure of cash flow information
Cash paid for interest	$	13,133		$	25,689
Cash paid for income taxes	$	28,903		$	15,526
Supplemental disclosure of noncash investing and financing activities
Shares issued in lieu of transaction fees	$	—		$	2,442

See accompanying notes.

5

BARE ESCENTUALS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

1.     Business

Bare Escentuals, Inc., together with its subsidiaries (“Bare Escentuals” or the “Company”), develops, markets, and sells branded cosmetics, skin care and body care products under the i.d. bareMinerals, i.d., RareMinerals and namesake Bare Escentuals brands, and professional skin care products under the md formulations brand. The i.d. bareMinerals cosmetics, particularly the core foundation products which are mineral-based, offer a highly differentiated, healthy alternative to conventional cosmetics. The Company uses a multi-channel distribution model consisting of infomercials, specialty beauty retailers, Company-owned boutiques, home shopping television, and spas and salons. The Company’s international distributors are primarily located in Western Europe, Asia, and Australia.

2.     Summary of Significant Accounting Policies

Unaudited Interim Financial Information

The accompanying condensed consolidated balance sheet as of July 1, 2007, the condensed consolidated statements of operations for the three and six months ended July 1, 2007 and July 2, 2006, and the condensed consolidated statements of cash flows for the six months ended July 1, 2007 and July 2, 2006, are unaudited. These unaudited interim condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information, Form 10-Q and Article 10 of Regulation S-X. In the opinion of the Company’s management, the unaudited interim condensed consolidated financial statements have been prepared on the same basis as the annual consolidated financial statements and include all adjustments of a normal recurring nature necessary for the fair presentation of the Company’s financial position as of July 1, 2007, its results of operations for the three and six months ended July 1, 2007 and July 2, 2006, and its cash flows for the six months ended July 1, 2007 and July 2, 2006.  The results for the interim periods are not necessarily indicative of the results to be expected for any future period or for the fiscal year ending December 30, 2007. The condensed consolidated balance sheet as of December 31, 2006 has been derived from the audited consolidated balance sheet as of that date.

These unaudited interim condensed consolidated financial statements should be read in conjunction with the Company’s consolidated financial statements and related notes included in the Company’s 2006 Annual Report on Form 10-K filed with the SEC on March 30, 2007.

Principles of Consolidation

The accompanying condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany accounts and transactions have been eliminated.

Fiscal Quarter

The Company’s fiscal quarters end on the Sunday closest to March 31, June 30, September 30 and December 31.  The three months ended July 1, 2007 and July 2, 2006 each contained 13 weeks.  The six months ended July 1, 2007 and July 2, 2006 each contained 26 weeks.

Use of Estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the balance sheet dates and the reported amounts of revenues and expenses for the periods presented. Actual results could differ from those estimates, and such differences may be material to the consolidated financial statements.

In determining its quarterly provision for income taxes, the Company uses an estimated annual effective tax rate, which is based on expected annual income, statutory tax rates and tax planning opportunities available in the various jurisdictions in which the Company operates.  Certain significant or unusual items are separately recognized in the quarter in which they occur and can be a source of variability in the effective tax rates from quarter to quarter.

6

Cash and Cash Equivalents

Cash equivalents are considered to be highly liquid investments with maturities of three months or less at the time of the purchase.

Supply and Fulfillment Concentration Risks

All of the Company’s products are contract manufactured or supplied by third parties. The Company has a long-term contract with only one of its suppliers. The term of this contract expires on April 30, 2011. The fact that the Company does not have long-term contracts with all of its third-party manufacturers means that any of those manufacturers could cease manufacturing the Company’s products at any time and for any reason.

Additionally, the Company currently depends on one third party for the fulfillment of its infomercial sales, including inventory management, call center operation, website hosting and packing and shipping of product to customers. The Company’s contract with this service provider expires on December 31, 2007.

Concentration of Credit Risk and Credit Risk Evaluation

Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents and accounts receivable. Cash and cash equivalents are held by or invested in various domestic financial institutions with high credit standing. Management believes that these financial institutions are financially sound and, accordingly, minimal credit risk exists with respect to these balances.

Sales generated through credit card purchases for the three and six months ended July 1, 2007 were approximately 46.5% and 47.9%, respectively, and approximately 49.2% and 49.7% for the three and six months ended July 2, 2006, respectively.  The Company uses third parties to collect its credit card receivables and believes that its credit risk related to these sales is limited. The Company performs ongoing credit evaluations of its wholesale customers not paying by credit card and acquires credit insurance for certain international customers. Generally, the Company does not require collateral. An allowance for doubtful accounts is determined with respect to those amounts that the Company has determined to be doubtful of collection using specific identification of doubtful accounts and an aging of receivables analysis based on invoice due dates. Actual collection losses may differ from management’s estimates, and such differences could be material to the Company’s consolidated financial position, results of operations, and cash flows. Uncollectible receivables are written off against the allowance for doubtful accounts when all efforts to collect them have been exhausted, and recoveries are recognized when they are received. Generally, accounts receivable are past due after 30 days of an invoice date unless special payment terms are provided.

The table below sets forth the percentage of consolidated accounts receivable, net for customers who represented 10% or more of consolidated accounts receivable, which are included in the wholesale segment:

	July 1, 2007		December 31, 2006
Customer A	25	%	11	%
Customer B	16	%	23	%
Customer C	31	%	31	%

The table below sets forth the percentage of consolidated sales, net for customers who represented 10% or more of consolidated net sales:

	Three months ended				Six months ended
	July 1, 2007		July 2, 2006		July 1, 2007		July 2, 2006
Customer A	12	%	16	%	12	%	15	%
Customer B	15	%	11	%	14	%	12	%
Customer C	15	%	15	%	15	%	14	%

As of July 1, 2007 and December 31, 2006, the Company had no off-balance sheet concentrations of credit risk, such as option contracts or other hedging arrangements.

7

Fair Value of Financial Instruments

Financial instruments consist principally of cash and cash equivalents, accounts receivable, accounts payable, and long-term debt. The estimated fair value of cash, cash equivalents, accounts receivable, and accounts payable approximates their carrying value due to the short period of time to their maturities. At July 1, 2007, all of the Company’s outstanding debt was variable-rate debt. The estimated fair value of the Company’s variable-rate debt approximates its carrying value, since the rate of interest on the variable-rate debt is determined at a margin over LIBOR or the lenders’ base rate plus an applicable margin based on a grid in which the pricing depends on the Company’s consolidated total leverage ratio, and such rates are revised frequently, based upon current LIBOR or the lenders’ base rate.

Inventories

Inventories consist of finished goods and raw materials and are stated at the lower of cost or market. Cost is determined on a weighted-average basis. The Company regularly monitors inventory quantities on hand and records write-downs for excess and obsolete inventories based primarily on the Company’s estimated forecast of product demand and production requirements. Such write-downs establish a new cost basis of accounting for the related inventory. Actual inventory losses may differ from management’s estimates, and such differences could be material to the Company’s consolidated financial position, results of operations, and cash flows.

Property and Equipment

Property and equipment are stated at cost, net of accumulated depreciation and amortization. Furniture and equipment, including computers and software, are depreciated using the straight-line method over the estimated useful lives of the various assets, which are generally three to seven years. Fixtures and leasehold improvements are amortized using the straight-line method over the lesser of the lease term, which ranges from five to ten years, or the estimated useful lives of the assets. For leases with renewal periods at the Company’s option, the Company generally uses the original lease term, excluding renewal option periods, to determine estimated useful lives.

Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed of

The Company periodically evaluates whether changes have occurred that would require revision of the remaining useful life of equipment and improvements and purchased intangible assets or render them not recoverable. If such circumstances arise, the Company uses an estimate of the undiscounted sum of expected future operating cash flows during their holding period to determine whether the long-lived assets are impaired. If the aggregate undiscounted cash flows are less than the carrying amount of the assets, the resulting impairment charge to be recorded is calculated based on the excess of the carrying value of the assets over the fair value of such assets, with the fair value determined based on an estimate of discounted future cash flows.

Goodwill and Intangible Assets

Goodwill and other purchased intangible assets have been recorded as a result of the Company’s acquisitions.  Goodwill and indefinite-lived intangibles are not amortized, but rather are subject to an annual impairment test. Other intangible assets are amortized over their estimated useful lives, generally two to three years.

The Company is required to perform an annual impairment test of goodwill and indefinite-lived intangible assets. Should certain events or indicators of impairment occur between annual impairment tests, the Company performs the impairment test of goodwill and indefinite-lived intangible assets at that date.  In evaluating goodwill, management compares the total book value of the reporting unit to the fair value of those reporting units. The fair value of the Company is determined using the income approach. The income approach focuses on the income-producing capability of an asset, measuring the current value of the asset by calculating the present value of its future economic benefits such as cash earnings, cost savings, tax deductions, and proceeds from disposition. Value indications are developed by discounting expected cash flows to their present value at a rate of return that incorporates the risk-free rate for the use of funds, the expected rate of inflation, and risks associated with the particular investment. Through July 1, 2007, no impairment charge has been required.

8

Debt Issuance Costs

Debt issuance costs are capitalized and amortized over the terms of the underlying debt instruments using the effective-interest method. Debt issuance costs paid directly to lending institutions are recorded as a debt discount, while debt issuance costs paid to third parties are recorded as other assets.

Stock-Based Compensation

Statement of Financial Accounting Standards No. 123(R), Share-Based Payment (‘‘Statement 123(R)’’) is applicable for stock-based awards exchanged for employee services and in certain circumstances for non-employee directors. Pursuant to Statement 123(R), stock-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as expense over the requisite service period for awards expected to vest. The estimation of the number of stock awards that will ultimately vest requires judgment, and to the extent actual results differ from the Company’s estimates, such amounts will be recorded as a cumulative adjustment in the period estimates are revised. The Company considers several factors when estimating expected forfeitures, such as types of awards. Actual results may differ substantially from these estimates.

The compensation cost charged to operations pursuant to Statement 123(R) was $1,779,000 and $3,390,000 for the three and six months ended July 1, 2007, respectively, and $1,345,000 and $2,289,000 for the three and six months ended July 2, 2006, respectively.  The Company records stock-based compensation on a separate operating expense line item in its statement of operations due to the fact that, to date, all of its stock-based awards have been made to employees whose salaries are classified as selling, general and administrative expenses.

Foreign Currency Translation

The assets and liabilities of foreign subsidiaries, where the local currency is the functional currency, are translated from their respective functional currencies into U.S. dollars at the rates in effect at the balance sheet date, with resulting foreign currency translation adjustments recorded as other comprehensive income in the accompanying consolidated statements of changes in stockholders’ equity (deficit) and comprehensive income. Revenue and expense amounts are translated at average rates during the period.

Revenue Recognition

The Company’s revenue recognition policy is consistent with the requirements of Staff Accounting Bulletin No. 104 Revenue Recognition, and other applicable revenue recognition guidance and interpretations. The Company records revenue when all four of the following criteria are met: (i) persuasive evidence that an arrangement exists; (ii) delivery of the products and/or services has occurred; (iii) the selling price is fixed or determinable; and (iv) collectibility is reasonably assured.

The Company recognizes sales when merchandise is shipped from a warehouse directly to wholesale customers (except in the case of a consignment sale), infomercial customers, and online shopping customers or when purchased by customers at Company-owned boutiques, each net of estimated returns. For consignment sales, which include sales to QVC and a Japanese distributor, the Company recognizes sales, net of expected returns from consignees, upon the consignee’s shipment to the customer. Postage and handling charges billed to customers are also recognized as sales upon shipment of the related merchandise. Shipping terms are FOB shipping point, and title passes to the customer at the time and place of shipment or purchase by customers at retail locations. For consignment sales, title passes to the consignee concurrent with the consignee’s shipment to the customer. The customer has no cancellation privileges after shipment or upon purchase at retail locations, other than customary rights of return that are accounted for in accordance with Statement 48, Revenue Recognition When Right of Return Exists. The Company’s standard terms for retail sales, including infomercial sales and sales at Company-owned boutiques, limit returns to approximately 30 to 90 days after the sale of the merchandise. For wholesale sales, as is customary in the cosmetics industry, the Company allows returns from wholesale customers if properly requested and approved.  The Company regularly evaluates returns and accrues for expected future returns that relate to sales prior to the balance sheet date utilizing a combination of historical and current trends. Deferred revenue reflects amounts received from customers related to merchandise to be shipped in future periods.

9

Payments to Customers

For wholesale customers, the Company makes payments to certain customers for cooperative advertising, royalties, commissions and shared employee costs. In accordance with the provisions of EITF 01-9, Accounting for Consideration Given by a Vendor to a Customer (Including a Reseller of the Vendor’s Products), these fees are recorded as a reduction of net sales in the accompanying consolidated statements of operations, unless the Company determines it has received an identifiable benefit and can reasonably estimate the fair value of that benefit, in which case the costs would be recorded as expenses.

Shipping and Fulfillment Costs

Freight costs incurred related to shipment of merchandise from the Company’s distribution facilities to customers are recorded in cost of goods sold. Third-party fulfillment costs relating to warehousing, storage, and order processing are included in selling, general and administrative expenses.

Pre-Opening Costs

Costs incurred in connection with the start-up and promotions of new Company-owned boutiques are expensed as incurred.

Operating Leases

The Company leases retail boutiques, distribution facilities, and office space under operating leases. Most lease agreements contain rent holidays, rent escalation clauses, contingent rent provisions and/or tenant improvement allowances. For purposes of recognizing incentives and minimum rental expenses on a straight-line basis over the original terms of the leases, the Company uses the date of initial possession to begin amortization, which is generally when the Company enters the space and begins to make improvements in preparation of intended use. The Company does not assume renewals in its determination of the lease term unless the renewals are deemed by management to be reasonably assured at lease inception.  For tenant improvement allowances recorded as assets, the Company also records a deferred rent liability in the consolidated balance sheets and amortizes the deferred rent over the terms of the leases as reductions to rent expense in the consolidated statements of income. For scheduled rent escalation clauses and rent holidays during the lease terms or for rental payments commencing at a date other than the date of initial occupancy, the Company records minimum rental expenses on a straight-line basis over the terms of the leases.  Certain leases provide for contingent rents, which are determined as a percentage of gross sales in excess of specified levels. The Company records a rent liability in the consolidated balance sheets and the corresponding rent expense when management determines that achieving the specified levels during the fiscal year is probable.

Research and Development

Research and development costs are charged to selling, general and administrative expenses as incurred. Major components of research and development expenses consist of product formulation, testing, regulatory analysis, and compliance.

Advertising Costs

The Company purchases commercial airtime on various television stations throughout the United States in order to air its direct-response program, or “infomercial.” The Company expenses costs associated with purchasing airtime as incurred.  The Company expenses production costs associated with advertising as incurred, except for production costs for its infomercials, which are capitalized and amortized over their expected period of future benefit. The capitalized production costs for each infomercial are amortized over a twelve-month period following the first airing of the infomercial.

Other advertising costs such as media placements and public relations are expensed as incurred. Marketing brochures are accounted for as prepaid assets and are expensed based on usage, or at such time that they are no longer expected to be used, in which case their cost is expensed at that time.

10

Income Taxes

Deferred tax assets and liabilities are recognized for the expected tax consequences of temporary differences between the tax bases of assets and liabilities and their reported amounts using enacted tax rates in effect for the year the differences are expected to reverse. The Company records a valuation allowance to reduce deferred tax assets to the amount that is expected to be realized on a more-likely-than-not basis. Deferred tax expense results from changes in net deferred tax assets or liabilities between periods.

Effective January 1, 2007, the Company adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes (Note 13). In connection with the adoption of FIN 48, the Company changed its accounting policy and now recognizes accrued interest and penalties related to income tax matters in income tax expense. These amounts were previously classified in selling, general and administrative expenses.

Earnings per Share

A calculation of earnings per share, as reported is as follows (in thousands, except per share data):

	Three months ended				Six months ended
	July 1, 2007		July 2, 2006		July 1, 2007		July 2, 2006
Numerator:
Net income	$	20,215	$	10,474	$	40,620	$	25,008
Denominator:
Weighted average common shares used in per share calculations — basic	90,021		69,777		89,725		69,461
Add: Common stock equivalents from exercise of stock options	3,070		1,926		3,079		2,324
Weighted-average common shares used in per share calculations — diluted	93,091		71,703		92,804		71,785
Net income per share
Basic	$	0.22	$	0.15	$	0.45	$	0.36
Diluted	$	0.22	$	0.15	$	0.44	$	0.35

For the three and six months ended July 1, 2007, options to purchase 56,000 and 116,000 shares of common stock, respectively, were excluded from the calculation of weighted average shares for diluted net income per share as they were anti-dilutive.  For the three and six months ended July 2, 2006, no shares of common stock were excluded from the calculation of weighted average shares for diluted net income per share.

Comprehensive Income

Comprehensive income consists of net income and other comprehensive income. Other comprehensive income includes certain changes in equity that under U.S. generally accepted accounting principles are excluded from results of operations. Specifically, the Company’s other comprehensive income is comprised of foreign currency translation adjustments from subsidiaries not using the U.S. dollar as their functional currency.  Other comprehensive income was $103,000 for the three and six months ended July 1, 2007.  There was no other comprehensive income for the three and six months ended July 2, 2006.

11

Recent Accounting Pronouncements

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. Statement 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. Statement 157 also applies under other accounting pronouncements that require or permit fair value measurements, but does not require any new fair value measurements. The provisions of Statement 157 are effective for fiscal years beginning after November 15, 2007. The Company will adopt Statement 157 during its fiscal year ending December 28, 2008. The Company is currently in the process of determining the impact, if any, of adopting the provisions of Statement 157 but it is not expected to have a material impact on the Company’s financial position or results of operations.

In February 2007, the FASB issued SFAS No. 159, Fair Value Option for Financial Assets and Financial Liabilities.  Statement 159 permits entities to choose to measure many financial instruments, and certain other items, at fair value. Statement 159 also establishes presentation and disclosure requirements designed to facilitate comparisons between entities that choose different measurement attributes for similar types of assets and liabilities. The provisions of Statement 159 are effective for fiscal years beginning after November 15, 2007.  The Company will adopt Statement 159 during its fiscal year ending December 28, 2008. The Company is currently in the process of determining the impact, if any, of adopting the provisions of Statement 159 but it is not expected to have a material impact on the Company’s financial position or results of operations.

3.Acquisition

On April 3, 2007, the Company completed its acquisition of U.K.-based Cosmeceuticals Limited (“Cosmeceuticals”), which distributes Bare Escentuals’ bareMinerals, md formulations and MD Forte brands primarily to spas and salons and QVC U.K.  The acquired entity has been renamed Bare Escentuals UK Ltd.  The consideration for the purchase was cash of $22.9 million, comprised of $19.8 million in cash consideration and $3.1 million of transaction costs. The Company’s consolidated financial statements include the operating results of the business acquired from the date of acquisition. Pro forma results of operations have not been presented because the effect of the acquisition was not material.

The total purchase price of $22.9 million has been preliminarily allocated as follows: $12.8 million to goodwill, $8.8 million to identifiable intangible assets comprised of customer relationships of $8.0 million and $0.8 million for non-compete agreements, $4.2 million to net tangible assets acquired, and $2.9 million to deferred tax liability. The estimated useful economic lives of the identifiable intangible assets acquired are three years. As of July 1, 2007, the purchase price allocation is preliminary and subject to adjustment for final valuation of assets and taxes.

As of July 1, 2007, approximately $2.3 million of the purchase price was unpaid and is included in accrued liabilities.  Additionally, included in prepaid expenses and other current assets is $3.2 million due from the previous shareholders of the acquired company.

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4.Inventories

Inventories consisted of the following (in thousands):

	July 1, 2007		December 31, 2006
Raw materials and components	$	3,179	$	2,737
Finished goods	52,863		59,269
	$	56,042	$	62,006

5.Property and Equipment, Net

Property and equipment, net, consisted of the following (in thousands):

	July 1, 2007			December 31, 2006
Furniture and equipment	$	5,201		$	4,234
Computers and software	9,340			4,732
Leasehold improvements	17,683			13,891
	32,224			22,857
Accumulated depreciation and amortization	(7,262		)	(5,170		)
	24,962			17,687
Construction-in-progress	7,087			3,424
Property and equipment, net	$	32,049		$	21,111

6.Intangible Assets, Net

Intangible assets, net, consisted of the following (in thousands):

	July 1, 2007			December 31, 2006
Goodwill	$	15,643		$	2,852
Customer relationships	8,000			—
Trademarks	3,233			3,233
Domestic customer base	939			939
International distributor base	820			820
Non-compete agreements	800			—
	29,435			7,844
Accumulated amortization	(2,564		)	(1,759		)
Intangible assets, net	$	26,871		$	6,085

7.Other Assets

Other assets consisted of the following (in thousands):

	July 1, 2007		December 31, 2006
Debt issuance costs, net of accumulated amortization of $139 and $61 at July 1, 2007 and December 31, 2006, respectively	$	918	$	1,057
Other assets	1,371		775
	$	2,289	$	1,832

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8.Accrued Liabilities

Accrued liabilities consisted of the following (in thousands):

	July 1, 2007		December 31, 2006
Interest	$	1,183	$	1,438
Employee compensation and benefits	6,106		7,437
Purchase price for acquisition	2,392		—
Gift certificates and customer liabilities	1,627		1,975
Sales taxes and local business taxes	1,797		1,339
Royalties	1,559		1,192
Deferred revenue	1,705		898
Other	3,753		1,844
	$	20,122	$	16,123

9.Revolving Lines of Credit

In February 2005, the Company established a revolving credit facility of up to $15,000,000 (the “Revolver”), the proceeds of which were to provide financing for working capital and other general corporate purposes of the Company. The Revolver has a term of six years expiring on February 18, 2011. In June 2006, the Company increased the Revolver up to $25,000,000. In December 2006, the terms of the Revolver were further amended to eliminate the requirement that the net proceeds from the issuance of equity securities by us or any of our subsidiaries be applied to prepay loans under the credit agreement. The amendment also reduced the interest rate margins applicable to LIBOR loans and base rate loans, provided for a further reduction in the interest rate margins if we achieve a specified consolidated leverage ratio and specified debt rating, and amended some of the financial covenants. Amounts available under the Revolver are based on eligible collateral that includes certain accounts receivable and inventory and may be used for working capital and capital expenditure needs, as well as the issuance of documentary and standby letters of credit.  At July 1, 2007, $24,900,000 was available and $100,000 was outstanding in letters of credit. Borrowings under the Revolver bear interest at a rate equal to, at the Company’s option, either a margin over LIBOR or the lenders’ base rate, plus an applicable margin based on a grid in which the pricing depends on the Company’s consolidated total leverage ratio and debt rating (2.25% plus LIBOR or 1.25% plus lenders’ base rate; actual rate of 7.57% at July 1, 2007 and 7.85% at December 31, 2006). The Company is also required to pay commitment fees of 0.5% per annum on any unused portions of the facility.

10.Long-Term Debt

Long-term debt consisted of the following (in thousands):

	July 1, 2007			December 31, 2006
First Lien Term Loan	$	300,000		$	339,263
Less current portion	(17,624		)	(17,624		)
Total long-term debt, net of current portion	$	282,376		$	321,639

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First and Second Lien Term Loans

On June 7, 2006, the Company and its lenders agreed to restructure its existing senior secured credit facilities to increase the Company’s borrowings by an additional aggregate principal amount of $331,583,000 to a total of $588,759,000, comprised of additional first lien term loans (the “First Lien Term Loans”) of $118,583,000 to a total of $354,759,000, and additional second lien term loans (the “Second Lien Term Loans”) of $88,000,000 to a total of $234,000,000. On October 4, 2006, the Company used a portion of the net proceeds received from its initial public offering to repay in full the Second Lien Term Loans and to repay a portion of the First Lien Term Loans. The First Lien Term Loans have an original term of seven years expiring on February 18, 2012. The First Lien Term Loans bear interest at a rate equal to, at the Company’s option, either LIBOR or the lenders’ base rate, plus an applicable margin varying based on the Company’s consolidated total leverage ratio. As of July 1, 2007 and December 31, 2006, the interest rates on the First Lien Term Loans were accruing at 7.57% and 7.85%, respectively.  As of July 1, 2007, $300,000,000 was outstanding on the First Lien Term Loans.

On December 20, 2006, the Company amended its First Lien Credit Agreement to eliminate the requirement that the net proceeds from the issuance of equity securities of the Company or any of its subsidiaries be applied to prepay loans under the credit agreement. The amendment also reduced the interest rate margins if the Company achieves a specified consolidated leverage ratio and specified debt rating, and eliminated the minimum cash interest ratio financial covenant and amended some of the other financial covenants. The maturity date of the First Lien Term Loan was not adjusted.

On March 23, 2007, the Company further amended its First Lien Credit Agreement to permit the ability to make acquisitions of up to $30,000,000 in any one fiscal year and up to $60,000,000 in the aggregate as well as to permit additional investments in foreign subsidiaries of up to $25,000,000.

Borrowings under the Revolver (Note 9) and the First Lien Term Loans are secured by substantially all of the Company’s assets, including, but not limited to, all accounts receivable, inventory, property and equipment, and intangibles. The terms of the senior secured credit facilities require the Company to comply with financial covenants, including maintaining a leverage ratio, entering into interest rate swap or similar agreements with respect to 40% of the principal amounts outstanding under the Company’s senior secured credit facilities as of October 2, 2007.  The secured credit facility also contains nonfinancial covenants that restrict some of the Company’s activities, including its ability to dispose of assets, incur additional debt, pay dividends, create liens, make investments, and engage in specified transactions with affiliates.

Scheduled Maturities of Long-Term Debt

At July 1, 2007, future scheduled principal payments on long-term debt were as follows (in thousands):

Year ending:
Remainder of the year ending December 30, 2007	$	8,812
December 28, 2008	17,624
January 3, 2010	17,624
January 2, 2011	17,624
January 1, 2012	202,676
December 30, 2012	35,640
	$	300,000

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11.  Commitments and Contingencies

Lease Commitments

The Company leases retail boutiques, distribution facilities, and office space under noncancelable operating leases with various expiration dates through March 2018. Additionally, the Company subleases certain real property to third parties.  Portions of these payments are denominated in foreign currencies and were translated in the tables below based on their respective U.S. dollar exchange rates at July 1, 2007. These future payments are subject to foreign currency exchange rate risk.  The future minimum annual payments and anticipated sublease income under such leases in effect at July 1, 2007, were as follows (in thousands):

	Minimum Rental Payments		Sublease Rental Income		Net Minimum Lease Payments
Year ending:
Remainder of the year ending December 30, 2007	$	2,568	$	16	$	2,552
December 28, 2008	7,853		30		7,823
January 3, 2010	7,999		30		7,969
January 2, 2011	7,606		30		7,576
January 1, 2012	7,316		30		7,286
Thereafter	32,234		—		32,234
	$	65,576	$	136	$	65,440

Many of the Company’s retail boutique leases require additional contingent rents when certain sales volumes are reached. Total rent expense was $4,209,000 and $6,760,000 for the three and six months ended July 1, 2007, respectively, and $2,238,000 and $3,694,000 for the three and six months ended July 2, 2006, respectively.  Total rent expense included contingent rentals of $563,000 and $1,094,000 for the three and six months ended July 1, 2007, respectively, and $394,000 and $723,000 for the three and six months ended July 2, 2006, respectively.  Several leases entered into by the Company include options that may extend the lease term beyond the initial commitment period, subject to terms agreed to at lease inceptions.  As of July 1, 2007, under the terms of its corporate office lease, the Company issued an irrevocable standby letter of credit of $100,000 to the lessor for the term of the lease.

Royalty Agreements

The Company is a party to a license agreement (the “License”) for use of certain patents associated with some of the skin care products sold by the Company. The License requires that the Company pay a quarterly royalty of 4% of the net sales of certain skin care products for an indefinite period of time. The License also requires minimum annual royalty payments of $600,000 from the Company. The Company can terminate the agreement at any time with six months written notice. The Company’s royalty expense under the License for the three and six months ended July 1, 2007 was $150,000 and $300,000, respectively, and $150,000 and $300,000 for the three and six months ended July 2, 2006, respectively.

The Company has obtained a worldwide exclusive right to license, develop, commercialize, and distribute certain licensed ingredients to be used in products to be sold by the Company. This agreement requires the Company to make payments upon achievement of certain product milestones. In addition, this agreement requires the Company to pay a royalty of 3.5% of the net sales upon successful launch of the first product, subject to certain minimum annual royalty amounts. The Company launched commercial sales of the products containing the licensed ingredients during the year ended December 31, 2006. The minimum royalty amount is $400,000 for 2007 and $500,000 for 2008 after which time the Company may renegotiate the minimum royalties or other compensation within 120 days after the second anniversary of the commercial launch. The Company’s expense under this agreement for the three and six months ended July 1, 2007 was $213,000 and $426,000, respectively, and $44,000 and $192,000 for the three and six months ended July 2, 2006, respectively.

Contingencies

The Company is involved in various legal and administrative proceedings and claims arising in the ordinary course of its business. The ultimate resolution of such claims would not, in the opinion of management, have a material effect on the Company’s financial position or results of operation.

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12.  Related-Party Transactions

On June 10, 2004, the Company entered into a Management Agreement (‘‘Berkshire Agreement’’) with Berkshire Partners LLC (“Berkshire”). Under the Berkshire Agreement, the Company engaged Berkshire to provide management advisory services in connection with the general business operations of the Company. In compensation for such services, the Company agreed to pay a management fee in an amount of $300,000 per annum for the term of the agreement. The Berkshire Agreement was terminated upon completion of our initial public offering on October 4, 2006. Total management fees plus expenses recognized under the Berkshire Agreement for the three and six months ended July 2, 2006 was $92,000 and $181,000, respectively, which was recorded as selling, general and administrative expenses in the accompanying consolidated statements of operations.

On June 10, 2004, the Company also entered into a Management Agreement (‘‘JHP Agreement’’) with JH Partners, LLC (“JHP”). Under the JHP Agreement, the Company engaged JHP to provide management advisory services in connection with the general business operations of the Company.  In compensation for such services, the Company agreed to pay a management fee in an amount of $300,000 per annum for the term of the JHP Agreement. The JHP Agreement was terminated upon completion of our initial public offering on October 4, 2006. Total management fees plus expenses recognized under this Agreement for the three and six months ended July 2, 2006 was $75,000 and $207,000, respectively, which was recorded as selling, general and administrative expenses in the accompanying consolidated statements of operations.

FH Capital Partners LLC is 50%-owned by an affiliate of the Company’s former chairman, a major stockholder. In December 2001 and May 2002, the Company entered into agreements with FH Capital Partners LLC to rent certain computer hardware, software, and licenses under operating lease agreements. During the six months ended July 1, 2007, the Company purchased the equipment under these lease agreements.  Total expense recognized relating to these arrangements for the three and six months ended July 1, 2007 was zero and $16,900, respectively, and for the three and six months ended July 2, 2006 was $7,500 and $12,500, respectively, which was recorded as selling, general and administrative expenses in the accompanying consolidated statements of operations.

13.  Income Taxes

In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation 48 (“FIN 48”), Accounting for Uncertainty in Income Taxes. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in accordance with SFAS 109, Accounting for Income Taxes. FIN 48 prescribes a comprehensive model for how a company should recognize, measure, present and disclose in its financial statements uncertain tax positions that the Company has taken or expects to take on a tax return.

The Company adopted FIN 48 on January 1, 2007.  As a result of the adoption of FIN 48, the changes to the Company’s reserve for uncertain tax positions was accounted for as a $952,000 cumulative effect adjustment to increase the beginning balance of accumulated deficit on the Company’s balance sheet.  As of July 1, 2007, the total amount of unrecognized tax benefits, including related interest, was $4,135,000.  This amount includes $2,207,000 of unrecognized tax benefits which would decrease the Company’s effective tax rate if recognized.

The Company believes that it is reasonably possible that the amount of unrecognized tax benefits could increase or decrease within the next twelve months and that change could be significant.  However, the Company is unable to estimate the range of possible changes to the amount of unrecognized tax benefits within the next twelve months.

As of July 1, 2007, the Company had approximately $817,000 of accrued interest related to uncertain tax positions. The Company files United States federal income tax returns and income tax returns in multiple state jurisdictions.  The tax years 2003-2006 remain open to examination by the major taxing jurisdictions. In July 2007, the U.S. Internal Revenue Service completed its audit of the Company’s U.S. federal income tax returns for 2004, which resulted in no changes to reported tax for that year.  The outcome of this audit had no impact to the amounts recorded in the financial statements.

14.  Stockholders’ Equity

On March 19, 2007, the Company completed a follow-on underwritten public offering pursuant to which the Company sold 575,000 shares and selling stockholders sold an additional 13,225,000 shares, which includes 1,800,000 shares sold pursuant to the exercise of the underwriters’ over-allotment option. The Company received net proceeds of approximately $18.1 million, after deducting underwriting discounts and commissions and estimated offering expenses.

On June 19, 2007, the Company completed a follow-on underwritten public offering pursuant to which the Company sold 100,000 shares and selling stockholders sold an additional 7,900,000 shares.  The Company received net proceeds of approximately $3.0 million, after deducting underwriting discounts and commissions and estimated offering expenses.

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15.  Stock-Based Employee Compensation Plans

As of July 1, 2007, the Company had reserved 10,622,782 shares of common stock for issuance.

2004 Equity Incentive Plan

On June 10, 2004, the board of directors adopted the 2004 Equity Incentive Plan (the “2004 Plan”).  The 2004 Plan provides for the issuance of non-qualified stock options for common stock to employees, directors, consultants, and other associates. The options generally vest at a rate of 20% per year from the date of grant and have a maximum term of ten years.

In conjunction with the adoption of the 2006 Equity Incentive Plan in September 2006, no additional options are permitted to be granted under the 2004 Plan. In addition, any outstanding options cancelled under the 2004 Plan will become available to grant under the 2006 Equity Incentive Plan.

A summary of activity under the 2004 Plan is set forth below.

			Options Outstanding
	Options Available for Grant		Number of Shares		Weighted- Average Exercise Price
Balance at December 31, 2006	—		6,211,293		$	2.68
Exercised	—		(194,708	)	1.73
Canceled	118,477		(118,477	)	4.36
Cancellation of remaining options available for grant	(118,477	)	—		—
Balance at July 1, 2007	—		5,898,108		$	2.68

At July 1, 2007, total outstanding options vested under the 2004 Plan were 530,321 at a weighted-average exercise price of $4.34.

The total intrinsic value of options exercised under the 2004 Plan for the six months ended July 1, 2007 was $6,998,000.

2006 Equity Incentive Plan

On September 12, 2006, the stockholders of the Company approved the 2006 Equity Incentive Award Plan (the “2006 Plan”) for executives, directors, employees and consultants of the Company. A total of 4,500,000 shares of the Company’s Common Stock have been reserved for issuance under the 2006 Plan. Awards are granted with an exercise price equal to the market price of the Company’s Common Stock at the date of grant. Those awards generally vest over a period of five years from the date of grant and have a maximum term of ten years.

A summary of activity under the 2006 Plan is set forth below:

			Options Outstanding
	Options Available for Grant		Number of Shares		Weighted- Average Exercise Price
Balance at December 31, 2006	4,441,947		164,250		$	30.95
Rolled over from 2004 Plan	118,477		—		—
Granted	(121,625	)	121,625		37.18
Canceled	3,500		(3,500	)	22.00
Balance at July 1, 2007	4,442,299		282,375		$	33.74

                                                                                                                                                       & #160;                                                                                       

At July 1, 2007, there were no outstanding options vested under the 2006 Plan.

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The total cash received from employees as a result of employee stock option exercises under all plans for the six months ended July 1, 2007 was $336,000. In connection with these exercises, the tax benefits realized by the Company for the six months ended July 1, 2007 was $2,286,000.

16.          Segment and Geographic Information

Operating segments are defined as components of an enterprise engaging in business activities about where separate financial information is available that is evaluated regularly by the Chief Operating Decision Maker (“CODM”) in deciding how to allocate resources and assessing performance. The Company’s Chief Executive Officer has been identified as the CODM as defined by Statement 131, Disclosures about Segments of an Enterprise and Related Information.  The Company has determined that it operates in two business segments: Retail with sales to end users, and Wholesale with sales to resellers. These reportable segments are strategic business units that are managed separately based on the fundamental differences in their operations. The Retail segment consists of sales directly to end users through Company-owned boutiques and infomercials. The Wholesale segment consists of sales to resellers, home shopping television, specialty beauty retailers, spas and salons, and international distributors. The following table presents certain financial information for each segment. Operating income is the gross margin of the segment less direct expenses of the segment. Some direct expenses, such as media and advertising spend, do impact the performance of the other segment, but these expenses are recorded in the segment they directly relate to and are not allocated out to each segment. The Corporate column includes unallocated selling, general and administrative expenses, depreciation and amortization, stock-based compensation expenses, restructuring charges and asset impairment charges. Corporate selling, general and administrative expenses include headquarters facilities costs, distribution center costs, product development costs, corporate headcount costs and other corporate costs, including information technology, finance, accounting, legal and human resources costs.

	Retail		Wholesale		Corporate			Total
Three Months ended July 1, 2007
Sales, net	$	50,979	$	73,165	$	—		$	124,144
Cost of goods sold	10,642		26,936		—			37,578
Gross profit	40,337		46,229		—			86,566
Operating expenses:
Selling, general and administrative	22,969		3,807		16,760			43,536
Depreciation and amortization	309		21		1,530			1,860
Stock-based compensation	—		—		1,779			1,779
Total expenses	23,278		3,828		20,069			47,175
Operating income (loss)	17,059		42,401		(20,069		)	39,391
Interest expense								(6,274		)
Interest income								487
Income before provision for income taxes								33,604
Provision for income taxes								13,389
Net income								$	20,215

	Retail		Wholesale		Corporate			Total
Three Months ended July 2, 2006
Sales, net	$	44,553	$	51,632	$	—		$	96,185
Cost of goods sold	8,774		18,163		—			26,937
Gross profit	35,779		33,469		—			69,248
Operating expenses:
Selling, general and administrative	19,849		2,435		10,888			33,172
Depreciation and amortization	169		—		337			506
Stock-based compensation	—		—		1,523			1,523
Total expenses	20,018		2,435		12,748			35,201
Operating income (loss)	15,761		31,034		(12,748		)	34,047
Interest expense								(12,887		)
Debt extinguishment costs								(3,391		)
Interest income								345
Income before provision for income taxes								18,114
Provision for income taxes								7,640
Net income								$	10,474

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	Retail		Wholesale		Corporate			Total
Six Months ended July 1, 2007
Sales, net	$	102,387	$	137,370	$	—		$	239,757
Cost of goods sold	21,554		49,474		—			71,028
Gross profit	80,833		87,896		—			168,729
Operating expenses:
Selling, general and administrative	45,033		6,838		30,850			82,721
Depreciation and amortization	674		36		2,090			2,800
Stock-based compensation	—		—		3,390			3,390
Total expenses	45,707		6,874		36,330			88,911
Operating income (loss)	35,126		81,022		(36,330		)	79,818
Interest expense								(13,085		)
Interest income								828
Income before provision for income taxes								67,561
Provision for income taxes								26,941
Net income								$	40,620

	Retail		Wholesale		Corporate			Total
Six Months ended July 2, 2006
Sales, net	$	86,617	$	99,483	$	—		$	186,100
Cost of goods sold	17,742		34,391		—			52,133
Gross profit	68,875		65,092		—			133,967
Operating expenses:
Selling, general and administrative	38,496		4,495		19,865			62,856
Depreciation and amortization	327		—		644			971
Stock-based compensation	—		—		2,467			2,467
Total expenses	38,823		4,495		22,976			66,294
Operating income (loss)	30,052		60,597		(22,976		)	67,673
Interest expense								(21,870		)
Debt extinguishment costs								(3,391		)
Interest income								631
Income before provision for income taxes								43,043
Provision for income taxes								18,035
Net income								$	25,008

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The Company’s long-lived assets, excluding goodwill and intangibles, by segment were as follows (in thousands):

	July 1, 2007		December 31, 2006
Retail	$	11,711	$	8,398
Wholesale	572		138
Corporate	19,956		12,715
	$	32,239	$	21,251

Long-lived assets allocated to the retail segment consist of fixed assets and deposits for retail stores. Long-lived assets allocated to the wholesale segment consist of fixed assets located at a wholesale customer. Long-lived assets in the corporate segment consist of fixed assets and deposits related to the Company’s corporate offices and distribution center.

No individual geographical area outside of the United States accounted for more than 10% of net sales in any of the periods presented. The Company’s sales by geographic area were as follows (in thousands):

	Three months ended				Six months ended
	July 1, 2007		July 2, 2006		July 1, 2007		July 2, 2006
North America	$	114,335	$	91,954	$	221,600	$	177,719
International	9,809		4,231		18,157		8,381
Sales, net	$	124,144	$	96,185	$	239,757	$	186,100

17.Restructuring Costs

As a result of the Company’s growth and a change in strategy to improve its operations, the Company relocated both the corporate and distribution center facilities during the year ended January 1, 2006. Related to these relocations, the Company exited two facilities that had operating lease commitments through June 2007. These exit costs were accounted for in accordance with Statement 146, Accounting for Costs Associated with Exit or Disposal Activities.  Costs primarily represent closure and relocation costs of the Company’s corporate headquarters and distribution center. Closure costs include payments required under lease contracts after the properties were abandoned, less any applicable estimated sublease income during the period after abandonment. To determine the closure costs, certain estimates were made related to the (1) time period over which the relevant building would remain vacant, (2) sublease terms, and (3) sublease rates, including common area charges. The accrual is an estimate and will be adjusted in the future upon triggering events (such as changes in estimates of time to sublease and actual sublease rates). During the year ended December 31, 2006, the Company discontinued the use of one of its office floors located at its former corporate facility and recorded additional restructuring costs of $114,000. As of December 31, 2006 and July 1, 2007, the remaining $172,000 and $23,000 accrual, respectively, of lease termination costs, net of estimated sublease income, is expected to be paid on various dates through August 2007.

The following table set forth the exit activities for the six months ended July 1, 2007 (in thousands):

Accrual balance at December 31, 2006	$	172
Cash paid	(149		)
Accrual balance at July 1, 2007	$	23

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ITEM 2.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Forward-Looking Statements

This section and other parts of this Quarterly Report on Form 10-Q contain forward-looking statements that involve risks and uncertainties. In some cases, forward-looking statements can be identified by words such as “anticipates,” “expects,” “believes,” “plans,” “predicts,” and similar terms. Such forward-looking statements are based on current expectations, estimates and projections about our industry, management’s beliefs and assumptions made by management. Forward-looking statements are not guarantees of future performance and our actual results may differ materially from the results discussed below and in the forward-looking statements. Factors that might cause such differences include, but are not limited to those discussed in Part II, Item 1A, “Risk Factors” below and Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2006 filed with the SEC on March 30, 2007.  The following discussion should be read in conjunction with the Company’s consolidated financial statements and related notes hereto included elsewhere in this Quarterly Report on Form 10-Q. Except as required by law, we expressly disclaim any obligation to update publicly any forward-looking statements, whether as result of new information, future events or otherwise.

Executive Overview

Founded in 1976, Bare Escentuals is one of the fastest growing prestige beauty companies in the U.S. and a leader by sales and consumer awareness in mineral-based cosmetics. We develop, market and sell branded cosmetics, skin care and body care products under our i.d. bareMinerals, i.d., RareMinerals and namesake Bare Escentuals brands, and professional skin care products under our md formulations brand.

We utilize a distinctive marketing strategy and a multi-channel distribution model consisting of infomercials, premium wholesale, including Sephora and Ulta, company-owned boutiques, home shopping television on QVC, spas and salons and online shopping. We believe that this strategy provides convenience to our consumers and allows us to reach the broadest possible spectrum of consumers.

Our business is comprised of two strategic business units constituting reportable segments that we manage separately based on fundamental differences in their operations:

·Our retail segment, which is characterized by sales directly to end users, includes our infomercials, which include sales of our infomercial offers through our websites www.bareminerals.com and www.bareescentuals.com, and company-owned boutiques, which include sales through our websites www.mdformulations.com and www.bareescentuals.com. We believe that our infomercial business helps us to build brand awareness, communicate the benefits of our core products and establish a base of recurring revenue because a substantial percentage of new consumers participate in our continuity program. Our company-owned boutiques enhance our ability to build strong consumer relationships and promote additional product use through personal demonstrations and product consultations.

·Our wholesale segment, which is characterized by sales to resellers, includes premium wholesale; home shopping television; spas and salons; and international distributors. Our sales through home shopping television help us to build brand awareness, educate consumers through live product demonstrations and develop close connections with our consumers. We also sell to retailers that we believe feature our products in settings that support and reinforce our brand image and provide a premium in-store experience. Similarly, our spa and salon customers provide an informative and treatment-focused environment in which aestheticians and spa professionals can communicate the benefits of our core products. Finally, we primarily sell our products in a number of international markets through a network of third-party distributors.

We manage our business segments to maximize sales growth and market share. We believe that our multi-channel distribution strategy maximizes convenience for our consumers, reinforces brand awareness, increases consumer retention rates, and drives corporate cash flow and profitability. Further, we believe that the broad diversification within our segments provides us with expanded opportunities for growth and reduces our dependence on any single distribution channel. Within individual distribution channels, particularly those in our wholesale segment, financial results are often affected by the timing of shipments as well as the impact of key promotional events.

In evaluating our business, we also consider and use Adjusted EBITDA as a supplemental measure of our operating performance. We use EBITDA only to assist in the reconciliation of net income to Adjusted EBITDA. We define EBITDA as net income before interest, income tax, depreciation and amortization. We define Adjusted EBITDA as EBITDA adjusted for items that we do not consider reflective of our ongoing operations. See “—Non-GAAP Measures.”

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Basis of Presentation

We recognize revenue in accordance with the requirements of Staff Accounting Bulletin No. 104 Revenue Recognition, and other applicable revenue recognition guidance and interpretations. The Company records revenue when all four of the following criteria are met: (i) persuasive evidence that an arrangement exists; (ii) delivery of the products and/or services has occurred; (iii) the selling price is fixed or determinable; and (iv) collectibility is reasonably assured.  Revenue is recognized when merchandise is shipped from a warehouse to wholesale customers, infomercial customers and online shopping customers or when purchased by consumers at company-owned boutiques, each net of estimated returns (except in the case of our consignment sales). For our consignment sales, we recognize sales, net of estimated returns, upon shipment from our consignment partners to their customers. We recognize postage and handling charges we bill to customers as revenue upon shipment of the related merchandise.

Our cost of goods sold consists of the costs associated with the sourcing of our products, including the cost of the product and associated manufacturing costs, inbound freight charges, royalties and internal transfer costs. Additionally, cost of goods sold includes postage and handling costs incurred upon shipment of merchandise. Our gross profit is dependent upon a variety of factors, including changes in the relative sales mix between our business segments, changes in the mix of products sold and fluctuations in material costs. Our gross margins differ significantly between product lines and our business segments, with sales in our retail segment generally yielding higher gross margins than our wholesale segment. These factors may cause gross profit and margins to fluctuate from quarter to quarter. We anticipate that our cost of goods sold will increase in absolute dollars as we increase our total sales but will remain generally consistent with historical periods on an annual basis as a percentage of net sales depending on the mix of sales among our distribution channels.

Selling, general and administrative expenses include infomercial production and media costs, advertising costs, rent and other store operating costs and corporate costs such as management salaries, information technology, professional fees, finance and accounting personnel, human resources personnel and other administrative functions. Selling, general, and administrative expenses also include all of our distribution center and fulfillment costs, including all warehousing costs associated with our third-party fulfillment provider and receiving and inspection costs that we do not include in cost of goods sold, which are comprised primarily of headcount-related costs at our own distribution center and at our third-party fulfillment provider. Receiving and inspection costs and warehousing costs are excluded from our gross margins and, therefore, our gross margins may not be comparable to those of other companies that choose to include certain of these costs in cost of goods sold. We are unable to provide an estimate of these costs, but we believe these costs are not material. Fluctuations in selling, general and administrative expenses result primarily from changes in media and advertising expenditures, changes in fulfillment costs which increase proportionately with net sales, particularly infomercial sales, changes in store operating costs, which are affected by the number of stores opened in a period, and changes in corporate costs such as for headcount and infrastructure to support our operations. We anticipate that our selling, general and administrative expenses will increase in absolute dollars as we expect to continue to invest in corporate infrastructure and incur additional expenses associated with being a public company, such as increased legal and accounting costs, investor relations costs and higher insurance premiums.

Depreciation and amortization includes charges for the depreciation of property and equipment and the amortization of intangible assets.  We anticipate that our depreciation and amortization expense will increase in absolute dollars as we continue to open new boutiques, invest in information systems and amortize intangible assets in connection with our recent acquisition. We record our depreciation and amortization as a separate line item in our statement of operations because all such expense relates to selling, general and administrative costs.

Stock-based compensation includes charges incurred in recognition of compensation expense associated with grants of stock options and stock purchases. On January 3, 2005 we adopted the fair value recognition and measurement provisions of SFAS No. 123(R), Share-Based Payment (SFAS 123(R)). We record our stock-based compensation on a separate operating expense line item in our statement of operations due to the fact that, to date, all of our stock-based awards have been made to employees whose salaries are classified as selling, general and administrative costs.

Interest expense includes interest costs associated with our credit facilities and the amortization of deferred financing costs associated with these credit facilities. We anticipate that our interest expense in the future will decrease in absolute terms and as a percentage of net sales as we continue to make scheduled repayments of our outstanding indebtedness.

Provision for income taxes depends on the statutory tax rates in the countries where we sell our products. Historically, we have only been subject to taxation in the United States because we have either sold to consumers in the United States or sold to distributors in the United States who resold our products here and abroad. However, as a result of our acquisition in the second fiscal quarter of 2007, we began to sell our products directly to customers located outside of the United States and we became subject to taxation based on the foreign statutory rates in the countries where those sales took place.  Our effective tax rate could fluctuate accordingly. For fiscal 2007, we anticipate that our effective tax rate will be approximately 40% of our income before provision for income taxes.

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Results of Operations

The following is a discussion of our results of operations for the three months ended July 1, 2007 compared to the three months ended July 2, 2006 and for the six months ended July 1, 2007 compared to the six months ended July 2, 2006.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

	Three months ended										Six months ended
	July 1, 2007					July 2, 2006					July 1, 2007					July 2, 2006
	(in thousands, except percentages)
Sales, net	$	124,144		100	%	$	96,185		100.0	%	$	239,757		100.0	%	$	186,100		100.0	%
Cost of goods sold	37,578			30.3		26,937			28.0		71,028			29.6		52,133			28.0
Gross profit	86,566			69.7		69,248			72.0		168,729			70.4		133,967			72.0
Expenses:
Selling, general and administrative	43,536			35.1		33,172			34.5		82,721			34.5		62,856			33.8
Depreciation and amortization	1,860			1.5		506			0.5		2,800			1.2		971			0.5
Stock-based compensation	1,779			1.4		1,523			1.6		3,390			1.4		2,467			1.3
Total operating expenses	47,175			38.0		35,201			36.6		88,911			37.1		66,294			35.6
Operating income	39,391			31.7		34,047			35.4		79,818			33.3		67,673			36.4
Other income (expense):
Interest expense	(6,274		)	(5.0	)	(12,887		)	(13.4	)	(13,085		)	(5.5	)	(21,870		)	(11.8	)
Debt extinguishment costs	—			—		(3,391		)	(3.5	)	—			—		(3,391		)	(1.8	)
Interest income	487			0.4		345			0.3		828			0.3		631			0.3
Income before provision for income taxes	33,604			27.1		18,114			18.8		67,561			28.1		43,043			23.1
Provision for income taxes	13,389			10.8		7,640			7.9		26,941			11.2		18,035			9.7
Net income	$	20,215		16.3	%	$	10,474		10.9	%	$	40,620		16.9	%	$	25,008		13.4	%

Net sales by business segment and distribution channel and percentage of net sales for the three and six months ended July 1, 2007 and the three and six months ended July 2, 2006 are as follows:

	Three Months Ended								Six Months Ended
	July 1, 2007				July 2, 2006				July 1, 2007				July 2, 2006
	(in thousands, except percentages)
Retail
Infomercial	$	31,583	25.4	%	$	31,790	33.0	%	$	65,857	27.5	%	$	62,338	33.5	%
Boutiques	19,396		15.6		12,763		13.3		36,530		15.2		24,279		13.0
Total retail	50,979		41.0		44,553		46.3		102,387		42.7		86,617		46.5
Wholesale
Premium wholesale	37,599		30.3		25,077		26.1		73,179		30.5		48,905		26.3
Home shopping television	16,270		13.1		14,916		15.5		29,964		12.5		27,282		14.7
Spas and salons	14,099		11.4		7,409		7.7		24,058		10.0		14,915		8.0
International distributors	5,197		4.2		4,230		4.4		10,169		4.3		8,381		4.5
Total wholesale	73,165		59.0		51,632		53.7		137,370		57.3		99,483		53.5
Sales, net	$	124,144	100.0	%	$	96,185	100.0	%	$	239,757	100.0	%	$	186,100	100.0	%

Gross profit and gross margin by business segment for the three and six months ended July 1, 2007 and the three and six months ended July 2, 2006 are as follows:

	Three Months Ended								Six Months Ended
	July 1, 2007				July 2, 2006				July 1, 2007				July 2, 2006
	(in thousands, except percentages)
Retail	$	40,337	79.1	%	$	35,779	80.3	%	$	80,833	78.9	%	$	68,875	79.5	%
Wholesale	46,229		63.2		33,469		64.8		87,896		64.0		65,092		65.4
Gross profit/gross margin	$	86,566	69.7	%	$	69,248	72.0	%	$	168,729	70.4	%	$	133,967	72.0	%

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Three months ended July 1, 2007 compared to three months ended July 2, 2006

Sales, net

Net sales for the three months ended July 1, 2007 increased to $124.1 million from $96.2 million in the three months ended July 2, 2006, an increase of $28.0 million, or 29.1%. This increase was primarily attributable to continued growth in sales of our i.d. bareMinerals line of cosmetics, as we continued to broaden our distribution throughout our sales channels and increase awareness through greater media spending. The increase in our net sales was realized within both our retail and wholesale segments.

Retail. Net retail sales increased 14.4% to $51.0 million in the three months ended July 1, 2007 from $44.6 million in the three months ended July 2, 2006. Net sales from boutiques increased 52.0% to $19.4 million in the three months ended July 1, 2007 from $12.8 million in the three months ended July 2, 2006, due to improved productivity at our existing locations as well as a net increase of nine boutiques open as of July 1, 2007 compared to July 2, 2006. As of July 1, 2007 and July 2, 2006, we had 39 and 30 open company owned boutiques, respectively. Offset against this was a decrease of 0.7% in net sales from infomercials to $31.6 million in the three months ended July 1, 2007 from $31.8 million in the three months ended July 2, 2006, following the launch of our new infomercial in the second fiscal quarter of 2007.

Wholesale. Net wholesale sales increased 41.7% to $73.2 million in the three months ended July 1, 2007 from $51.6 million in the three months ended July 2, 2006. Net sales in our premium wholesale channel increased 49.9% to $37.6 million in the three months ended July 1, 2007 from $25.1 million in the three months ended July 2, 2006, resulting from strong consumer demand and expansion into additional retail locations at Ulta and Sephora.  Net sales to our home shopping television customer grew by 9.1% to $16.3 million in the three months ended July 1, 2007 from $14.9 million in the three months ended July 2, 2006, as a result of increased sales of our products through QVC’s website, catalogs and continuity programs and the inclusion of sales to QVC in the UK in the three months ended July 1, 2007.  Net sales to spas and salons increased 90.3% to $14.1 million in the three months ended July 1, 2007 from $7.4 million in the three months ended July 2, 2006, largely due to the continued growth in sales of our core i.d. bareMinerals cosmetics line in this channel and the inclusion of sales to spas and salons in the UK in the three months ended July 1, 2007. Net sales to our international distributors increased by 22.9% to $5.2 million in the three months ended July 1, 2007 from $4.2 million in the three months ended July 2, 2006, primarily as a result of the increased penetration of our i.d. bareMinerals cosmetics line into this distribution channel.

Gross profit

Gross profit increased 25.0% to $86.6 million in the three months ended July 1, 2007 from $69.2 million in the three months ended July 2, 2006. Our retail segment gross profit increased 12.7% to $40.3 million in the three months ended July 1, 2007 from $35.8 million in the three months ended July 2, 2006, driven principally by growth in our boutiques sales channels. Our wholesale segment gross profit increased 38.1% to $46.2 million in the three months ended July 1, 2007 from $33.5 million in the three months ended July 2, 2006, due to increases in sales across all wholesale distribution channels.

Gross margin decreased approximately 2.3% to 69.7% in the three months ended July 1, 2007 from 72.0% in the three months ended July 2, 2006. This overall decrease in the three months ended July 1, 2007 is due both to a decrease in gross margins within both retail and wholesale segments as well as to wholesale sales comprising a larger percentage of total net sales compared to the three months ended July 2, 2006, which have lower gross margins than retail segment sales. Within the retail segment, gross margin decreased to 79.1% in the three months ended July 1, 2007 from 80.3% in the three months ended July 2, 2006, primarily due to increased royalty costs associated with sales of our products through the web.  Within the wholesale segment, gross margin decreased to 63.2% in the three months ended July 1, 2007 from 64.8% in the three months ended July 2, 2006, primarily as a result of a change in product mix and sales mix between channels and customers.

Selling, general and administrative expenses

Selling, general and administrative expenses increased 31.2% to $43.5 million in the three months ended July 1, 2007 from $33.2 million in the three months ended July 2, 2006. The increase was primarily due to a significant increase in investment in our corporate infrastructure of $5.9 million, including increased headcount costs, headquarters facilities costs, distribution center costs, other corporate costs and infrastructure costs relating to our UK acquisition, as well as increased expenses to support sales growth, including $2.3 million in increased store operating costs, $1.0 million in increased payroll expenses and $0.8 million in increased media spending. As a percentage of net sales, selling, general and administrative expenses increased 0.6% to 35.1% from 34.5%, primarily due to corporate expenses increasing at a greater rate than net sales.

Depreciation and amortization

Depreciation and amortization expenses increased 267.6% to $1.9 million in the three months ended July 1, 2007 from $0.5 million in the three months ended July 2, 2006. This increase was primarily attributable to $0.8 million of amortization of intangible assets from our recent acquisition and higher depreciation expense as a result of an increase in depreciable assets as we continue to increase the number of company-owned boutiques and invest in our corporate infrastructure.

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Stock-based compensation

Stock-based compensation expense increased 16.8% to $1.8 million in the three months ended July 1, 2007 from $1.5 million in the three months ended July 2, 2006. This increase resulted primarily from the granting of additional stock options in the last half of 2006 and the first half of 2007.

Operating income

Operating income increased 15.7% to $39.4 million in the three months ended July 1, 2007 from $34.0 million in the three months ended July 2, 2006. This increase was largely due to increases in operating income in both our retail and wholesale segments, reflecting growth across all sales channels, partially offset by an increased operating loss in our corporate segment.

 Our retail segment operating income increased 8.2% to $17.1 million in the three months ended July 1, 2007 from $15.8 million in the three months ended July 2, 2006, which was largely driven by growth in all of our boutiques sales channels. Our increased sales in the retail segment contributed to an increase in gross profit of $4.6 million which was partially offset by an increase in operating expenses of $3.3 million. The increase in operating expenses was largely due to increased store operating costs of $2.3 million as a result of an increase in the number of boutiques open as of July 1, 2007 and $0.8 million in increased media spending.

Our wholesale segment operating income increased 36.6% to $42.4 million in the three months ended July 1, 2007 from $31.0 million in the three months ended July 2, 2006, due to increased sales gains across all wholesale sales channels. Our increased sales in the wholesale segment contributed to an increase in gross profit of $12.8 million which was partially offset by an increase in operating expense of $1.4 million.

Our corporate segment operating loss increased 57.4% to $20.1 million in the three months ended July 1, 2007 from $12.7 million in the three months ended July 2, 2006. This increase was largely due to an increase in corporate segment selling, general and administrative expense of $5.9 million, an increase in depreciation and amortization of $1.4 million and stock-based compensation of $0.3 million.  The increase in corporate selling, general and administrative expense was as a result of the increase in the investment in our corporate infrastructure to support sales growth and additional expenses associated with being a public company.

Interest expense

Interest expense decreased 51.3% to $6.3 million in the three months ended July 1, 2007 from $12.9 million in the three months ended July 2, 2006. The decrease was attributable to decreased debt balances in the three months ended July 1, 2007, primarily associated with repayment of outstanding indebtedness from proceeds of our initial public offering completed on October 4, 2006.

Interest income

Interest income increased 41.2% to $0.5 million in the three months ended July 1, 2007 from $0.3 million in the three months ended July 2, 2006.  The increase was primarily due to an increase in interest rates on our cash balances and higher average cash balances compared to the three months ended July 2, 2006.

Provision for income taxes

The provision for income taxes was $13.4 million, or 39.8% of income before provision for income taxes, in the three months ended July 1, 2007 compared to $7.6 million, or 42.2% of income before provision for income taxes, in the three months ended July 2, 2006. The increase resulted from higher income before provision for income taxes offset by a lower effective rate in the three months ended July 1, 2007 compared to the three months ended July 2, 2006. The decrease in the effective rate is mainly due to the elimination of the non-deductible interest as a result of our repayment in full of our aggregate principal amount outstanding of $125.0 million of our 15.0% subordinated notes on October 4, 2006.

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Six months ended July 1, 2007 compared to six months ended July 2, 2006

Sales, net

Net sales for the six months ended July 1, 2007 increased to $239.8 million from $186.1 million in the six months ended July 2, 2006, an increase of $53.7 million, or 28.8%. This increase was primarily attributable to continued growth in sales of our i.d. bareMinerals line of cosmetics, as we continued to broaden our distribution throughout our sales channels and increase awareness through greater media spending. The increase in our net sales was realized within both our retail and wholesale segments.

Retail. Net retail sales increased 18.2% to $102.4 million in the six months ended July 1, 2007 from $86.6 million in the six months ended July 2, 2006. Net sales from infomercials increased 5.6% to $65.9 million in the six months ended July 1, 2007 from $62.3 million in the six months ended July 2, 2006, as a result of increased media spending and the growth of sales in our continuity program.  Net sales from boutiques increased 50.5% to $36.5 million in the six months ended July 1, 2007 from $24.3 million in the six months ended July 2, 2006, due to improved productivity at our existing locations as well as a net increase of 9 boutiques open as of July 1, 2007 compared to July 2, 2006. As of July 1, 2007 and July 2, 2006, we had 39 and 30 open company owned boutiques, respectively.

Wholesale. Net wholesale sales increased 38.1% to $137.4 million in the six months ended July 1, 2007 from $99.5 million in the six months ended July 2, 2006. Net sales in our premium wholesale channel increased 49.6% to $73.2 million in the six months ended July 1, 2007 from $48.9 million in the six months ended July 2, 2006, resulting from strong consumer demand and expansion into additional retail locations at Ulta and Sephora, including new Sephora locations in France.  Net sales to our home shopping television customer grew by 9.8% to $30.0 million in the six months ended July 1, 2007 from $27.3 million in the six months ended July 2, 2006, as a result of increased sales of our products through QVC’s website, catalogs and continuity programs and the inclusion of sales to QVC in the UK in the six months ended July 1, 2007. Net sales to spas and salons increased 61.3% to $24.1 million in the six months ended July 1, 2007 from $14.9 million in the six months ended July 2, 2006, largely due to the continued growth in sales of our core i.d. bareMinerals cosmetics line and the inclusion of sales to spas and salons in the UK in the six months ended July 1, 2007.  Net sales to our international distributors increased by 21.3% to $10.2 million in the six months ended July 1, 2007 from $8.4 million in the six months ended July 2, 2006, primarily as a result of the increased penetration of our i.d. bareMinerals cosmetics line into this distribution channel.

Gross profit

Gross profit increased 25.9% to $168.7 million in the six months ended July 1, 2007 from $134.0 million in the six months ended July 2, 2006. Our retail segment gross profit increased 17.4% to $80.8 million in the six months ended July 1, 2007 from $68.9 million in the six months ended July 2, 2006, driven principally by growth in our infomercial and boutiques sales channels. Our wholesale segment gross profit increased 35.0% to $87.9 million in the six months ended July 1, 2007 from $65.1 million in the six months ended July 2, 2006, due to increases in sales across all wholesale distribution channels.

Gross margin decreased approximately 1.6% to 70.4% in the six months ended July 1, 2007 from 72.0% in the six months ended July 2, 2006. This overall decrease in the six months ended July 1, 2007 is due both to a decrease in gross margins within both retail and wholesale segments as well as to wholesale sales comprising a larger percentage of total net sales compared to the six months ended July 2, 2006, which have lower gross margins than retail segment sales.  Within the retail segment, gross margin decreased to 78.9% in the six months ended July 1, 2007 from 79.5% in the six months ended July 2, 2006, primarily due to increased royalty costs associated with sales of our products through the web.  Within the wholesale segment, gross margin decreased to 64.0% in the six months ended July 1, 2007 from 65.4% in the six months ended July 2, 2006, primarily as a result of a change in product mix and sales between channels and customers.

Selling, general and administrative expenses

Selling, general and administrative expenses increased 31.6% to $82.7 million in the six months ended July 1, 2007 from $62.9 million in the six months ended July 2, 2006. The increase was primarily due to a significant increase in investment in our corporate infrastructure of $11.0 million, including increased headcount costs, headquarters facilities costs, distribution center costs, other corporate costs and infrastructure costs relating to our UK acquisition, as well as increased expenses to support sales growth, including $3.6 million in increased store operating costs, $1.9 million in increased media spending and $1.4 million in payroll expenses. As a percentage of net sales, selling, general and administrative expenses increased 0.7% to 34.5% from 33.8%, primarily due to corporate expenses increasing at a greater rate than net sales.

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Depreciation and amortization

Depreciation and amortization expenses increased 188.4% to $2.8 million in the six months ended July 1, 2007 from $1.0 million in the six months ended July 2, 2006. This increase was primarily attributable to $0.8 million of amortization of intangible assets from our recent acquisition and higher depreciation expense as a result of an increase in depreciable assets as we continue to increase the number of company-owned boutiques and invest in our corporate infrastructure.

Stock-based compensation

Stock-based compensation expense increased 37.4% to $3.4 million in the six months ended July 1, 2007 from $2.5 million in the six months ended July 2, 2006. This increase resulted primarily from the granting of additional stock options in the last half of 2006 and the first half of 2007.

Operating income

Operating income increased 17.9% to $79.8 million in the six months ended July 1, 2007 from $67.7 million in the six months ended July 2, 2006. This increase was largely due to increases in operating income in both our retail and wholesale segments, reflecting growth across all sales channels, partially offset by an increased operating loss in our corporate segment.

 Our retail segment operating income increased 16.9% to $35.1 million in the six months ended July 1, 2007 from $30.1 million in the six months ended July 2, 2006, which was largely driven by growth in all of our retail sales channels with lower growth in our infomercial sales channel. Our increased sales in the retail segment contributed to an increase in gross profit of $12.0 million which was partially offset by an increase in operating expenses of $6.9 million. The increase in operating expenses was largely due to increased store operating costs of $3.6 million as a result of an increase in the number of boutiques open as of July, 2007, $1.9 million in increased media spending and $0.4 million of increased fulfillment costs due to increased sales.

Our wholesale segment operating income increased 33.7% to $81.0 million in the six months ended July 1, 2007 from $60.6 million in the six months ended July 2, 2006, due to increased sales gains across all wholesale sales channels. Our increased sales in the wholesale segment contributed to an increase in gross profit of $22.8 million which was partially offset by an increase in operating expense of $2.4 million.

Our corporate segment operating loss increased 58.1% to $36.3 million in the six months ended July 1, 2007 from $23.0 million in the six months ended July 2, 2006. This increase was largely due to an increase in corporate segment selling, general and administrative expense of $11.0 million, an increase in depreciation and amortization of $1.8 million and stock-based compensation of $0.9 million.  The increase in corporate selling, general and administrative expense was as a result of the increase in the investment in our corporate infrastructure to support sales growth and additional expenses associated with being a public company.

Interest expense

Interest expense decreased 40.2% to $13.1 million in the six months ended July 1, 2007 from $21.9 million in the six months ended July 2, 2006. The decrease was attributable to decreased debt balances in the six months ended July 1, 2007, primarily associated with repayment of outstanding indebtedness from proceeds of our initial public offering completed on October 4, 2006.

Debt extinguishment costs

Debt extinguishment costs decreased 100% to zero in the six months ended July 1, 2007 from $3.4 million in the six months ended July 2, 2006. The charge for the six months ended July 2, 2006 related to our June 2006 recapitalization.

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Interest income

Interest income increased 31.2% to $0.8 million in the six months ended July 1, 2007 from $0.6 million in the six months ended July 2, 2006.  The increase was primarily due to an increase in interest rates on our cash balances and higher average cash balances compared to the six months ended July 2, 2006.

Provision for income taxes

The provision for income taxes was $26.9 million, or 39.9% of income before provision for income taxes, in the six months ended July 1, 2007 compared to $18.0 million, or 41.9% of income before provision for income taxes, in the six months ended July 2, 2006. The increase resulted from higher income before provision for income taxes offset by a lower effective rate in the six months ended July 1, 2007 compared to the six months ended July 2, 2006. The decrease in the effective rate is mainly due to the elimination of the non-deductible interest as a result of our repayment in full of our aggregate principal amount outstanding of $125.0 million of our 15.0% subordinated notes on October 4, 2006.

Seasonality

Because our products are largely purchased for individual use and are consumable in nature, we are not subject to significant seasonal variances in sales. However, fluctuations in sales and operating income in any fiscal quarter may be affected by the timing of wholesale shipments, home shopping television appearances and other promotional events. While we believe our overall business is not currently subject to significant seasonal fluctuations, we have experienced limited seasonality in our premium wholesale and company-owned boutique channels as a result of increased demand for our products in anticipation of and during the holiday season. To the extent our sales to specialty beauty retailers and through our boutiques increase as a percentage of our net sales, we may experience increased seasonality.

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Liquidity and Capital Resources

Our primary liquidity and capital resource needs are to service our debt, finance working capital needs and fund ongoing capital expenditures.  We have financed our operations through cash flows from operations, sales of common and preferred shares, borrowings under our credit facilities and issuances of senior subordinated notes.

Our operations provided us cash of $48.0 million in the six months ended July 1, 2007. At July 1, 2007, we had working capital of $67.8 million, including cash and cash equivalents of $22.6 million, compared to working capital of $66.3 million, including $20.9 million in cash and cash equivalents, as of December 31, 2006. The $1.7 million increase in cash and cash equivalents resulted from cash provided by operations of $48.0 million, as a result of net income for the six months ended July 1, 2007 of $40.6 million, partially offset by cash used in investment activities of $30.9 million and cash used in financing activities of $15.6 million. The $1.5 million increase in working capital was primarily driven by increases in cash and cash equivalents, accounts receivable, prepaid expenses and other current assets and prepaid income tax, partially offset by a decrease in inventories and an increase in accounts payable and accrued liabilities.

Net cash used in investing activities was $30.9 million in the six months ended July 1, 2007, primarily attributable to our acquisition of U.K. based Cosmeceuticals, the opening of seven company-owned boutiques, and our continued investment in our corporate infrastructure. Our future capital expenditures will depend on the timing and rate of expansion of our businesses, information technology investments, new store openings, store renovations and international expansion opportunities.

Net cash used in financing activities was $15.6 million in the six months ended July 1, 2007, which consisted of repayments of $39.3 million on our first-lien term loan, partially offset by proceeds, net of transaction costs, of $21.1 million from our follow-on underwritten public offerings of common stock and an excess tax benefit of $2.3 million relating to stock option exercises.

Our revolving credit facility of $25.0 million, of which approximately $0.1 million in letters of credit is outstanding as of July 1, 2007 and our first-lien term loan of $300.0 million, bear interest at a rate equal to, at our option, either LIBOR or the lender’s base rate, plus an applicable variable margin based on our consolidated total leverage ratio. The current applicable interest margin for the revolving credit facility and first-lien term loan is 2.25% for LIBOR loans and 1.25% for base rate loans based on our current Moody’s rating. As of July 1, 2007, interest on the first-lien term loan was accruing at 7.57%.

At all times after October 2, 2007, we are required under our senior secured credit facilities to enter into interest rate swap or similar agreements with respect to at least 40% of the outstanding principal amount of all loans under our senior secured credit facilities, unless we satisfy specified coverage ratio tests. As of July 1, 2007, we satisfied these tests. If required, the interest rate protection must extend until February 2008. Currently, we do not engage in any hedging activities.

The terms of our senior secured credit facilities, require us to comply with financial covenants, including a maximum leverage ratio covenant. We are required to maintain a maximum leverage ratio (consolidated total debt to Adjusted EBITDA) of not greater than 4.5 to 1.0. As of July 1, 2007, our leverage ratio was 1.70 to 1.0. If we fail to comply with any of the financial covenants, the lenders may declare an event of default under the secured credit facility. An event of default resulting from a breach of a financial covenant may result, at the option of lenders holding a majority of the loans, in an acceleration of repayment of the principal and interest outstanding and a termination of the revolving credit facility. The secured credit facility also contains non-financial covenants that restrict some of our activities, including our ability to dispose of assets, incur additional debt, pay dividends, create liens, make investments and engage in specified transactions with affiliates. The secured credit facility also contains customary events of default, including defaults based on events of bankruptcy and insolvency, nonpayment of principal, interest or fees when due, subject to specified grace periods, breach of specified covenants, change in control and material inaccuracy of representations and warranties. We have been in compliance with all financial ratio and other covenants under our credit facilities during all reported periods and we were in compliance with these covenants as July 1, 2007.

On March 23, 2007, we amended our senior secured credit facilities to permit acquisitions of up to $30.0 million in any one fiscal year and up to $60.0 million in the aggregate and investments in foreign subsidiaries to $25.0 million.

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Subject to specified exceptions, including for investment of proceeds in the case of asset sale proceeds and for permitted equity contributions for capital expenditures, we are required to prepay outstanding loans under our amended senior secured credit facilities with the net proceeds of certain asset dispositions, condemnation settlements and insurance settlements from casualty losses, issuances of certain debt and, if our consolidated leverage ratio is 2.25 to 1.0 or greater, a portion of excess cash flow.

On February 16, 2007, we filed a Registration Statement on Form S-1 (File No. 333-140763) with the Securities and Exchange Commission for a follow-on underwritten public offering. As amended, the Registration Statement provided for the sale of 12.0 million shares of our common stock, consisting of 0.6 million shares sold by us and 11.4 million shares by selling stockholders. In addition, the selling stockholders granted the underwriters the right to purchase up to an additional 1.8 million shares to cover over-allotments. The over-allotment option was exercised on March 19, 2007 by the underwriters. The follow-on underwritten public offering closed on March 19, 2007. We received approximately $18.1 million in net proceeds from this offering.

On May 14, 2007, we filed a Registration Statement on Form S-1 (File No. 333-142935) with the Securities and Exchange Commission for a follow-on underwritten public offering. As amended, the Registration Statement provided for the sale of 8.0 million shares of our common stock, consisting of 0.1 million shares sold by us and 7.9 million shares by selling stockholders. The follow-on underwritten public offering closed on June 19, 2007. We received approximately $3.0 million in net proceeds from this offering.

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Liquidity sources, requirements and contractual cash requirement and commitments

We believe that cash flow from operations, cash on hand and amounts available under our revolving credit facility will provide adequate funds for our foreseeable working capital needs and planned capital expenditures.  As part of our strategy, we intend to invest in making significant improvements to our systems. We also intend to open approximately nineteen new boutiques in 2007  (seven of which were open as of July 1, 2007) which will require additional capital expenditures. Finally, we also plan to continue to invest in our corporate infrastructure facilities. We anticipate that our capital expenditures in the year ending December 30, 2007 will be approximately $18.0 million. There can be no assurance that any such capital will be available on acceptable terms or at all. Our ability to fund our working capital needs, planned capital expenditures and scheduled debt payments, as well as to comply with all of the financial covenants under our debt agreements, depends on our future operating performance and cash flow, which in turn are subject to prevailing economic conditions and to financial, business and other factors, some of which are beyond our control.

Contractual commitments

We lease retail stores, distribution facilities, and corporate offices under noncancelable operating leases with various expiration dates through March 2018. Portions of these payments are denominated in foreign currencies and were translated in the tables below based on their respective U.S. dollar exchange rates at July 1, 2007. These future payments are subject to foreign currency exchange rate risk.  As of July 1, 2007, the scheduled maturities of our long-term contractual obligations were as follows:

	Remainder of the year  ending December 30, 2007		1 - 3 Years		4 - 5 Years		After 5 Years		Total
	(amounts in millions )
Operating leases, net of sublease income	$	2.5	$	23.4	$	14.7	$	24.8	$	65.4
Principal payments on long-term debt, including the current portion	8.8		52.9		238.3		—		300.0
Interest payments on long-term debt, including the current portion(1)	11.1		59.6		10.4		—		81.1
Minimum royalties under licensing arrangements	0.4		1.3		—		—		1.7
Total	$	22.8	$	137.2	$	263.4	$	24.8	$	448.2

(1)The interest payments on our long-term debt, including the current portion have been calculated using an estimated interest rate of 7.57% on the outstanding first-lien term loan, which were estimated based on the rate in effect as of July 1, 2007. A 1% change in interest rates on our variable rate debt would result in a change of $10.7 million in our total interest payments, of which $1.5 million would be in the remainder of the year ended December 30, 2007, $7.9 million would be in years 1-3 and $1.3 million would be in years 4-5.

We are also party to a sublicense agreement for use of certain patents associated with certain of our mineral-based skin care products. The agreement requires that we pay a quarterly royalty of 4.0% of the net sales of these skin care products up to the date of the last to expire licensed patent rights. This sublicense also requires minimum annual royalty payments of approximately $0.6 million for 2007 and thereafter. The minimum annual royalty payments have not been included in the schedule of long-term contractual obligations above as we can terminate the agreement at any time with six months written notice.

We adopted FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”) on January 1, 2007. As of July 1, 2007, we had approximately $4.1 million of total unrecognized tax benefits, including related interest, of which $2.2 million, if recognized, would affect the effective income tax rate in future periods. However, as we are unable to determine the timing of the potential realization of our unrecognized tax benefits, we have excluded the total unrecognized tax benefits in the schedule of long-term contractual commitments above.

Off-balance-sheet arrangements

We do not have any off-balance-sheet financing or unconsolidated special purpose entities.

Effects of inflation

Our monetary assets, consisting primarily of cash and receivables, are not significantly affected by inflation because they are short-term in nature. Our non-monetary assets, consisting primarily of inventory, intangible assets, goodwill and prepaid expenses and other assets, are not currently affected significantly by inflation. We believe that replacement costs of equipment, furniture and leasehold improvements will not materially affect our operations. However, the rate of inflation affects our cost of goods sold and expenses, such as those for employee compensation, which may not be readily recoverable in the price of the products offered by us. In addition, an inflationary environment could materially increase the interest rates on our debt.

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Non-GAAP Measures

In evaluating our business, we consider and use Adjusted EBITDA as a supplemental measure of our operating performance. We use EBITDA only to assist in reconciliation to Adjusted EBITDA.  We define EBITDA as net income before net interest expense, provision for income taxes, depreciation and amortization. We define Adjusted EBITDA as EBITDA plus expenses (minus gains) that we do not consider reflective of our ongoing operations. We use Adjusted EBITDA as a supplemental measure to review and assess our operating performance and also as a key profitability measure for covenant compliance under our senior secured credit facilities. If we fail to maintain required levels of Adjusted EBITDA, we could have a default under our senior secured credit facilities, potentially resulting in an acceleration of all of our outstanding indebtedness.  All of the adjustments made in our calculation of Adjusted EBITDA, as described below, are adjustments that would be made in calculating our performance for purposes of coverage ratios under our senior secured credit facilities. In prior periods, we used an adjusted EBITDA calculation for internal purposes and for calculation of compliance with coverage ratios that incorporated additional adjustments not included in our calculation of Adjusted EBITDA. We also believe use of Adjusted EBITDA facilitates investors’ use of operating performance comparisons from period to period and company to company by backing out potential differences caused by variations in capital structures (affecting relative interest expense, including the impact of write-offs of deferred financing costs when companies refinance their indebtedness), the book amortization of intangibles (affecting relative amortization expense) and the age and book value of facilities and equipment (affecting relative depreciation expense). We also present Adjusted EBITDA because we believe it is frequently used by securities analysts, investors and other interested parties as a measure of financial performance. The terms EBITDA and Adjusted EBITDA are not defined under U.S. generally accepted accounting principles, or U.S. GAAP, and are not measures of operating income, operating performance or liquidity presented in accordance with U.S. GAAP. Our EBITDA and Adjusted EBITDA have limitations as analytical tools, and when assessing our operating performance, you should not consider EBITDA and Adjusted EBITDA in isolation, or as a substitute for net income (loss) or other consolidated income statement data prepared in accordance with U.S. GAAP. Some of these limitations include, but are not limited to:

·EBITDA and Adjusted EBITDA do not reflect our cash expenditures or future requirements for capital expenditures or contractual commitments;

·they do not reflect changes in, or cash requirements for, our working capital needs;

·they do not reflect the significant interest expense, or the cash requirements necessary to service interest or principal payments, on our debt;

·they do not reflect income taxes or the cash requirements for any tax payments;

·although depreciation and amortization are non-cash charges, the assets being depreciated and amortized often will have to be replaced in the future, and EBITDA and Adjusted EBITDA do not reflect any cash requirements for such replacements; and

·other companies may calculate EBITDA and Adjusted EBITDA differently than we do, limiting their usefulness as comparative measures. We compensate for these limitations by relying primarily on our GAAP results and using Adjusted EBITDA only supplementally. EBITDA and Adjusted EBITDA are calculated as follows for the periods presented:

	Three months ended						Six months ended
	July 1, 2007			July 2, 2006			July 1, 2007			July 2, 2006
	(in thousands)
Net income	$	20,215		$	10,474		$	40,620		$	25,008
Plus: interest expense	6,274			12,887			13,085			21,870
Less: interest income	(487		)	(345		)	(828		)	(631		)
Plus: depreciation and amortization	1,860			506			2,800			971
Plus: provision for income taxes	13,389			7,640			26,941			18,035
EBITDA	41,251			31,162			82,618			65,253
Plus: debt extinguishment costs(1)	—			3,391			—			3,391
Plus: management fees(2)	—			150			—			300
Plus: stock-based compensation(3)	1,779			1,523			3,390			2,467
Adjusted EBITDA	$	43,030		$	36,226		$	86,008		$	71,411

(1)During the six months ended July 2, 2006, we incurred debt extinguishment costs of $3.4 million related to the early extinguishment of our previously outstanding debt in connection with our June 2006 recapitalization.

(2)We paid transaction fees and monthly management fees to Berkshire Partners LLC and JH Partners, LLC under management agreements each in an amount of $300,000 per annum.  These management agreements were terminated upon completion of our initial public offering on October 4, 2006.  We paid an aggregate of $1.8 million to Berkshire Partners LLC and JH Partners, LLC as consideration for termination of these agreements.

(3)The stock-based compensation charges primarily resulted from our adoption of the fair value recognition and measurement provisions of Statement of Financial Accounting Standards No. 123(R), or SFAS 123(R), effective January 3, 2005.

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Critical Accounting Policies and Estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions. Predicting future events is inherently an imprecise activity and, as such, requires the use of judgment. Actual results may vary from estimates in amounts that may be material to the financial statements. An accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, and if different estimates that reasonably could have been used, or changes in the accounting estimates that are reasonably likely to occur periodically, could materially impact our consolidated financial statements.  Our critical accounting policies and estimates are discussed in our recently filed Annual Report on Form 10-K for the fiscal year ended December 31, 2006, which was filed with the SEC on March 30, 2007.  We believe that there have been no other significant changes during the six months ended July 1, 2007 to the items that we disclosed in our critical accounting policies and estimates with the exception of the adoption of FIN 48 as noted below.

We adopted Financial Accounting Standards Board (“FASB”) Interpretation No. 48, Accounting for Uncertainty in Income Taxes, (“FIN 48”) on January 1, 2007.  FIN 48 prescribes a comprehensive model for how a company should recognize, measure, present and disclose in its financial statements uncertain tax positions that the company has taken or expects to take on a tax return.  In connection with the adoption of FIN 48, we changed our accounting policy and now recognize accrued interest and penalties related to income tax matters in income tax expense.  These amounts were previously classified in selling, general and administrative expenses.

New Accounting Standards

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. Statement 157 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. Statement 157 also applies under other accounting pronouncements that require or permit fair value measurements, but does not require any new fair value measurements. The provisions of Statement 157 are effective for fiscal years beginning after November 15, 2007. We will adopt Statement 157 during our fiscal year ending December 28, 2008. We are currently in the process of determining the impact, if any, of adopting the provisions of Statement 157 but it is not expected to have a material impact on our financial position or results of operations.

In February 2007, the FASB issued SFAS No. 159, Fair Value Option for Financial Assets and Financial Liabilities.  Statement 159 permits entities to choose to measure many financial instruments, and certain other items, at fair value. Statement 159 also establishes presentation and disclosure requirements designed to facilitate comparisons between entities that choose different measurement attributes for similar types of assets and liabilities. The provisions of Statement 159 are effective for fiscal years beginning after November 15, 2007.  We will adopt Statement 159 during our fiscal year ending December 28, 2008. We are currently in the process of determining the impact, if any, of adopting the provisions of Statement 159 but it is not expected to have a material impact on our financial position or results of operations.

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ITEM 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest rate sensitivity

We are exposed to interest rate risks primarily through borrowings under our credit facilities.  Interest on all of our borrowings under our senior secured credit facilities is based upon variable interest rates. Our weighted average borrowings outstanding during the six months ended July 1, 2007 were $322.5 million and the annual effective interest rate for the period was 8.0%. Presently, we do not hedge against interest rate risks. Based on the foregoing, a hypothetical 1% increase or decrease in interest rates would have resulted in a $1.6 million change to our interest expense in the six months ended July 1, 2007 and $3.2 million on an annualized basis.

Foreign currency risk

Most of our sales, expenses, assets, liabilities and cash holdings are currently denominated in U.S. dollars but a portion of the net revenues we receive from such sales is denominated in currencies other than the U.S. dollar. Additionally, portions of our costs of net revenues and our other operating expenses are incurred by our U.K. operations and denominated in local currencies. While fluctuations in the value of these net revenues, costs and expenses as measured in U.S. dollars have not materially affected our results of operations historically, we cannot assure you that adverse currency exchange rate fluctuations will not have a material impact in the future. In addition, our balance sheet reflects non-U.S. dollar denominated assets and liabilities which can be adversely affected by fluctuations in currency exchange rates.  We do not hedge against foreign currency risks and we believe that our foreign currency exchange risk is immaterial.

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ITEM 4.CONTROLS AND PROCEDURES

The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in its reports pursuant to the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules, and that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Management is responsible for establishing and maintaining adequate internal control over financial reporting. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

As required by SEC Rule 13a-15(b), the Company carried out an evaluation, under the supervision and with the participation of its management, including the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of the end of the quarter covered by this report. Based on the foregoing, its Chief Executive Officer and Chief Financial Officer determined that disclosure controls and procedures were effective at a reasonable assurance level.

There has been no change in internal controls over financial reporting during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, internal controls over financial reporting.

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PART II—OTHER INFORMATION

ITEM 1.LEGAL PROCEEDINGS

In the ordinary course of our business, we are subject to periodic lawsuits, investigations and claims. Although we cannot predict with certainty the ultimate resolution of lawsuits, investigations and claims asserted against us, we do not believe that any currently pending legal proceeding to which we are a party is likely to have a material adverse effect on our business, results of operations, cash flows or financial condition.

ITEM 1A.RISK FACTORS

An investment in our common stock involves a high degree of risk.  Our Annual Report on Form 10-K for the year ended December 31, 2006 includes a detailed discussion of our risk factors under the heading “Part I, Item 1A—Risk Factors.” Set forth below are certain changes from the risk factors previously disclosed in our Annual Report on Form 10-K. You should carefully consider the risk factors discussed in this report and our Annual Report on Form 10-K as well as the other information in this report, before making an investment decision. If any of the following risks or the risks discussed in the Annual Report on Form 10-K  occur, our business, financial condition, results of operations or future growth could suffer.

The beauty industry is highly competitive, and if we are unable to compete effectively it could significantly harm our business, prospects, financial condition and results of operations.

The beauty industry is highly competitive and at times changes rapidly due to consumer preferences and industry trends. Our products face, and will continue to face, competition for consumer recognition and market share with products that have achieved significant national and international brand name recognition and consumer loyalty, such as those offered by global prestige beauty companies Avon Products, Inc., Elizabeth Arden, Inc., The Estée Lauder Companies, Inc. And L’Oréal S.A. Avon and Neutrogena, of which Avon, L’Oréal and Neutrogena have recently launched mineral-based makeup. These companies have significantly greater resources than we have and are less leveraged than we are. These competitors typically devote substantial resources to promoting their brands through traditional forms of advertising, such as print media and television commercials. Because of such mass marketing methods, these competitors’ products may achieve higher visibility and recognition than our products. In addition, these competitors may duplicate our marketing strategy and distribution model to increase the breadth of their product sales. We also face competition from other companies that recently have launched, or may in the future launch, mineral-based cosmetics. Some of these competitors have significant experience using infomercials to market and sell cosmetics and skin care products and have employed marketing strategies and distribution models similar to ours.

The total market for prestige cosmetics is not growing rapidly. As a result, competition for market share in this cosmetics category is especially intense. In order to succeed, we must continue to take market share from our competitors across all of our sales channels. We compete with prestige cosmetics companies primarily in department store and specialty beauty retail channels, but prestige cosmetics companies also recently have increased their sales through informercial and home shopping television channels. Mass cosmetics brands are sold primarily though channels in which we do not sell our products, such as mass merchants and catalogs, but mass cosmetics companies are increasingly making efforts to acquire market share in the higher-margin prestige cosmetics category by introducing brands and products that address this market. If we are unable to maintain or improve the inventory levels and in-store positioning of our products in third-party retailers or maintain and increase sales of our products through our other distribution channels, including informercials, home shopping television and other direct-to-consumer methods, our ability to achieve and maintain significant market acceptance for our products could be severly impaired.

Our i.d. bareMinerals foundation products face competition from liquid- or cream-based foundation and, to a lesser extent, mineral-based foundation products, sold by our competitors. Because the process for production of mineral-based cosmetics is not subject to patent protection, there is a low barrier to entry into the market for such products as evidenced by the number of smaller companies recently entering the market for such products. If these smaller companies’ products prove successful or if global prestige beauty companies were to significantly increase production and marketing of mineral-based cosmetics, our net sales could suffer. If consumers prefer our competitors’ products over ours, we will lose market share and our net sales will decline. New products that we develop might not generate sufficient consumer interest and sales to become profitable or to cover the costs of their development.

Advertising, promotion, merchandising and packaging, and the timing of new product introductions and line extensions have a significant impact on consumers’ buying decisions and, as a result, our net sales. These factors, as well as demographic trends, economic conditions and discount pricing strategies by competitors, could result in increased competition and could harm our net sales and profitability.

We do not currently own any patents on our products. If we are unable to protect our intellectual property rights, our ability to compete could be harmed.

We regard our trademarks, trade dress, copyrights, trade secrets, know-how and similar intellectual property as critical to our success. Our principal intellectual property rights include registered trademarks on our name, “Bare Escentuals,” as well as our brands “i.d. bareMinerals,” “i.d.,” “md formulations,” “Bare Escentuals” and “RareMinerals,” copyrights in our infomercial broadcasts and website content, rights to our domain names www.bareescentuals.com, www.bareminerals.com and www.mdformulations.com, and trade secrets and know-how with respect to product formulations, product sourcing, sales and marketing and other aspects of our business. As such, we rely on trademark and copyright law, trade secret protection and confidentiality agreements with our employees, consultants, suppliers, and others to protect our proprietary rights. We have not received patent protection on any of our products, though we have licenses for the proprietary formulations and ingredients used in some of our md formulations and RareMinerals products. If we are unable to protect or preserve the value of our trademarks, copyrights, trade secrets or other proprietary rights for any reason, our brand and reputation could be impaired and we could lose customers.

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Although most of our brand names are registered in the United States and in certain foreign countries in which we operate, we may not be successful in asserting trademark or trade name protection. In addition, the laws of certain foreign countries may not protect our intellectual property rights to the same extent as the laws of the United States. The costs required to protect our trademarks and trade names may be substantial. In addition, the relationship between regulations governing domain names and laws protecting trademarks and similar proprietary rights is unclear. Therefore, we may be unable to prevent third parties from acquiring domain names that are similar to, infringe upon or otherwise decrease the value of our trademarks and other proprietary rights.

Other parties may infringe on our intellectual property rights and may thereby dilute our brands in the marketplace. Any such infringement of our intellectual property rights would also likely result in a commitment of our time and resources to protect these rights through litigation or otherwise. For example, we currently are pursuing claims in litigation against M/D Skin Care LLC and its founder Dr. Dennis Gross regarding their use of the trademark “MD Skincare.”  M/D Skin Care LLC has also filed claims against us in the case. In each case, we believe the competing marks infringe our trademark rights and create confusion in the marketplace. We are also pursuing claims in litigation against L’Oréal USA, Inc. and L’Oréal S.A. regarding their use of the trademark “Bare Naturale” and for false advertising of this brand. We have incurred and expect to incur significant legal fees and other expenses in pursuing these claims. If we receive an adverse judgment in either of these matters or in any other cases we may bring in the future to defend our intellectual property rights, we may suffer further dilution of our trademarks and other rights, which could harm our ability to compete as well as our business, prospects, financial condition and results of operations.

We may make acquisitions and strategic investments, which will involve numerous risks. We may not be able to address these risks without substantial expense, delay or other operational or financial problems.

Although we have a limited history of making acquisitions or strategic investments, we may acquire or make investments in related businesses or products in the future. Acquisitions or investments involve various risks, such as:

·higher than expected acquisition and integration costs;

·the difficulty of integrating the operations and personnel of the acquired business;

·the potential disruption of our ongoing business, including the diversion of management time and attention;

·the possible inability to obtain the desired financial and strategic benefits from the acquisition or investment;

·assumption of unanticipated liabilities;

·incurrence of substantial debt or dilutive issuances of securities to pay for acquisitions;

·impairment in relationships with key suppliers and personnel of any acquired businesses due to changes in management and ownership;

·the loss of key employees of an acquired business; and

·the possibility of our entering markets in which we have limited prior experience.

Future acquisitions and investments could also result in substantial cash expenditures, potentially dilutive issuance of our equity securities, our incurring of additional debt and contingent liabilities, and amortization expenses related to other intangible assets that could adversely affect our business, operating results and financial condition.

If we fail to maintain proper and effective internal controls, our ability to produce accurate financial statements could be impaired, which could adversely affect our operating results, our ability to operate our business and investors’ views of us.

We must ensure that we have adequate internal financial and accounting controls and procedures in place so that we can produce accurate financial statements on a timely basis. We will be required to spend considerable effort on establishing and maintaining our internal controls, which will be costly and time-consuming and will need to be re-evaluated frequently. We have very limited experience in designing and testing our internal controls. We are in the process of documenting, reviewing and, if appropriate, improving our internal controls and procedures, in accordance with Section 404 of the Sarbanes-Oxley Act of 2002, which will require annual management assessments of the effectiveness of our internal control over financial reporting. In addition, we will be required to file a report by our independent registered public accounting firm addressing these assessments beginning with our Annual Report on Form 10-K for the year ending December 30, 2007. Both we and our independent auditors will be testing our internal controls in anticipation of being subject to Section 404 requirements and, as part of that documentation and testing, may identify areas for further attention and improvement. Implementing any appropriate changes to our internal controls may entail substantial costs to modify our existing financial and accounting systems, take a significant period of time to complete, and distract our officers, directors and employees from the operation of our business. These changes may not, however, be effective in maintaining the adequacy of our internal controls, and any failure to maintain that adequacy, or a consequent inability to produce accurate financial statements on a timely basis, could increase our operating costs and could materially impair our ability to operate our business. In addition, investors’ perceptions that our internal controls are inadequate or that we are unable to produce accurate financial statements may seriously affect our stock price.

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ITEM 2.UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None.

ITEM 3.DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4.SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

The following is a tabulation of the votes on proposals considered at our annual meeting of stockholders held on June 4, 2007:

1.     To elect two directors to serve on our board of directors for a three-year term.

	For	Withheld
Ross M. Jones	54,761,434	6,693,957
Glen T. Senk	59,796,501	1,658,890

In addition to the election of Mr. Jones and Mr. Senk to an additional three-year term, the following directors’ terms of office as directors continued after the meeting: Bradley M. Bloom, Michael J. John, Lea Anne S. Ottinger, Leslie A. Blodgett, John C. Hansen and Karen M. Rose.

2.     To ratify the selection of Ernst & Young LLP as our independent registered public accounting firm for the fiscal year ending December 30, 2007.

For	61,409,073
Against	42,711
Abstain	3,607

ITEM 5.OTHER INFORMATION

None.

39

ITEM 6.EXHIBITS

Exhibits

The following documents are filed as Exhibits to this report:

Exhibit Number	Description
3.2 (1)	Amended and Restated Certificate of Incorporation.
3.4 (1)	Amended and Restated Bylaws.
10.50 (2)	First Amendment to the Amended and Restated Credit Agreement among Bare Escentuals Beauty, Inc., Bare Escentuals, Inc., BNP Paribas and the lenders party thereto dated March 23, 2007.
31.1	Certification of the Chief Executive Officer, as required by Section 302 of the Sarbanes-Oxley Act of 2002.
31.2	Certification of the Chief Financial Officer, as required by Section 302 of the Sarbanes-Oxley Act of 2002.
32.1	Certification of the Chief Executive Officer and the Chief Financial Officer as required by  Section 906 of the Sarbanes-Oxley Act of 2002.

(1)Incorporated by reference from our Quarterly Report on Form 10-Q for the period ended October 1, 2006 filed on November 11, 2007.

(2)Incorporated by reference from our Current Report on Form  8-K filed on April 2, 2007.

40

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	BARE ESCENTUALS, INC.
Date: August 14, 2007	By:	/s/ LESLIE A. BLODGETT
		Leslie A. Blodgett
		Chief Executive Officer and Director
	By:	/s/ MYLES B. MCCORMICK
		Myles B. McCormick
		Senior Vice President, Chief Financial Officer and Chief Operations Officer

41

EX-31.1

Exhibit 31.1

CERTIFICATION

I, Leslie A. Blodgett, Chief Executive Officer of Bare Escentuals, Inc. certify that:

1.I have reviewed this quarterly report on Form 10-Q of Bare Escentuals, Inc.;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(c)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date:  August 14, 2007	By:	/s/ LESLIE A. BLODGETT
		Leslie A. Blodgett
		Chief Executive Officer and Director

EX-31.2

Exhibit 31.2

CERTIFICATION

I, Myles B. McCormick, Chief Financial Officer of Bare Escentuals, Inc. certify that:

1.I have reviewed this quarterly report on Form 10-Q of Bare Escentuals, Inc.;

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

(a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(c)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

(a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

(b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date:  August 14, 2007	By:	/s/ MYLES B. MCCORMICK
		Myles B. McCormick
		Senior Vice President, Chief Financial Officer and Chief Operations Officer

EX-32.1

Exhibit 32.1

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350,

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

I, Leslie A. Blodgett , Chief Executive Officer, and I, Myles B. McCormick, Chief Financial Officer, each certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that the Quarterly Report of Bare Escentuals, Inc. (the “Company”) on Form 10-Q for the quarterly period ended July 1, 2007, fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and that information contained in such Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Date: August 14, 2007

By:	/s/ LESLIE A. BLODGETT
	Leslie A. Blodgett
	Chief Executive Officer and Director
By:	/s/ MYLES B. MCCORMICK
	Myles B. McCormick
	Senior Vice President, Chief Financial Officer and Chief Operations Officer

The foregoing certification is being furnished solely pursuant to 18 U.S.C. Section 1350 and is not being filed as part of the Report or as a separate disclosure document.