Kate Spade & Co 10Q 2007 Q0 Quarterly report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)


þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended July 1, 2006


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:1-10689

LIZ CLAIBORNE, INC.

(Exact name of registrant as specified in its charter)


Delaware				13-2842791

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


1441 Broadway, New York, New York		10018

(Address of principal executive offices)		(Zip Code)

(212) 354-4900

(Registrant’s telephone number, including area code)

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 þ 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. (Check one):

Large accelerated filer þ Accelerated filer o Non-accelerated filer o

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

The number of shares of Registrant’s Common Stock, par value $1.00 per share, outstanding at July 26, 2006 was 103,173,604.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES
INDEX TO FORM 10-Q
JULY 1, 2006


		PAGE
		NUMBER
PART I —	FINANCIAL INFORMATION

Item 1.	Financial Statements:

	Condensed Consolidated Balance Sheets as of July 1, 2006 (Unaudited), December 31, 2005 and July 2, 2005 (Unaudited)	3

	Condensed Consolidated Statements of Income for the Six and Three Month Periods Ended July 1, 2006 (Unaudited) and July 2, 2005 (Unaudited)	4

	Condensed Consolidated Statements of Cash Flows for the Six Month Periods Ended July 1, 2006 (Unaudited) and July 2, 2005 (Unaudited)	5

	Notes to Condensed Consolidated Financial Statements (Unaudited)	6

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	29

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	52

Item 4.	Controls and Procedures	53

PART II —	OTHER INFORMATION

Item 1.	Legal Proceedings	54

Item 1A.	Risk Factors	54

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	54

Item 4.	Submission Of Matters To A Vote of Security Holders	54

Item 5.	Other Information	55

Item 6.	Exhibits	56

SIGNATURES		57
EX-31.A: CERTIFICATION
EX-31.B: CERTIFICATION
EX-32.A: CERTIFICATION
EX-32.B: CERTIFICATION

PART I — FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands except share data)


	(Unaudited)			December 31,			(Unaudited)
	July 1, 2006			2005			July 2, 2005

Assets
Current Assets:
Cash and cash equivalents	$	101,799		$	328,527		$	168,843
Marketable securities		8,367			14,638			8,721
Accounts receivable — trade, net		525,721			415,849			491,354
Inventories, net		597,867			536,296			575,919
Deferred income taxes		60,840			47,688			44,968
Other current assets		129,448			113,539			128,055

Total current assets		1,424,042			1,456,537			1,417,860


Property and Equipment, Net		515,366			494,693			459,734
Goodwill, Net		967,000			858,565			851,550
Intangibles, Net		340,842			332,017			293,616
Other Assets		11,732			10,224			10,007

Total Assets	$	3,258,982		$	3,152,036		$	3,032,767


Liabilities and Stockholders’ Equity
Current Liabilities:
Short term borrowings	$	32,971		$	48,729		$	72,286
Accounts payable		261,314			250,768			269,199
Accrued expenses		293,059			288,370			269,190
Income taxes payable		16,024			19,872			7,482

Total current liabilities		603,368			607,739			618,157


Long-Term Debt		545,257			413,227			425,886
Obligations Under Capital Leases		3,141			4,606			4,650
Other Non-Current Liabilities		64,729			66,692			53,513
Deferred Income Taxes		57,467			54,170			55,422
Commitments and Contingencies (Note 9)
Minority Interest		2,915			2,896			2,955
Stockholders’ Equity:
Preferred stock, $.01 par value, authorized shares — 50,000,000, issued shares — none		—			—			—
Common stock, $1 par value, authorized shares — 250,000,000, issued shares — 176,437,234		176,437			176,437			176,437
Capital in excess of par value		214,950			187,689			204,895
Retained earnings		3,197,134			3,122,487			2,942,536
Unearned compensation expense		—			—			(47,976	)
Accumulated other comprehensive income (loss)		(43,283	)		(33,738	)		(42,359	)

		3,545,238			3,452,875			3,233,533

Common stock in treasury, at cost, 73,302,345, 71,451,550 and 69,338,040 shares		(1,563,133	)		(1,450,169	)		(1,361,349	)

Total stockholders’ equity		1,982,105			2,002,706			1,872,184

Total Liabilities and Stockholders’ Equity	$	3,258,982		$	3,152,036		$	3,032,767

The accompanying Notes to Condensed Consolidated Financial Statements are an integral part of these statements.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(In thousands except per common share data)

(Unaudited)


	Six Months Ended						Three Months Ended
	(26 Weeks)			(26 Weeks)			(13 Weeks)			(13 Weeks)
	July 1, 2006			July 2, 2005			July 1, 2006			July 2, 2005


Net Sales	$	2,296,240		$	2,311,511		$	1,125,038		$	1,099,104

Cost of goods sold		1,203,731			1,223,821			576,542			569,644


Gross Profit		1,092,509			1,087,690			548,496			529,460

Selling, general & administrative expenses		940,351			876,899			473,469			437,425

Operating Income		152,158			210,791			75,027			92,035

Other income (expense), net		3,056			(1,060	)		(257	)		(446	)

Interest expense, net		(15,738	)		(15,369	)		(8,633	)		(7,781	)


Income Before Provision for Income Taxes		139,476			194,362			66,137			83,808

Provision for income taxes		53,124			68,804			26,722			29,668


Net Income	$	86,352		$	125,558		$	39,415		$	54,140


Net Income per Weighted Average Share, Basic	$	0.84		$	1.17		$	0.38		$	0.51

Net Income per Weighted Average Share, Diluted	$	0.83		$	1.15		$	0.38		$	0.50

Weighted Average Shares, Basic		102,981			107,367			102,541			106,671
Weighted Average Shares, Diluted		104,397			109,218			103,925			108,378

Dividends Paid per Common Share	$	0.11		$	0.11		$	0.06		$	0.06

The accompanying Notes to Condensed Consolidated Financial Statements are an integral part of these statements.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)


	Six Months Ended
	(26 Weeks)			(26 Weeks)
	July 1, 2006			July 2, 2005

Cash Flows from Operating Activities:
Net income	$	86,352		$	125,558
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		66,534			59,479
Deferred income taxes		(6,416	)		6,748
Share-based compensation		11,081			8,888
Tax benefit on exercise of stock options		3,974			3,643
Gain on sale of securities		(3,583	)		—
Streamlining initiatives, fixed asset write-downs		7,236			—
Restructuring gain		—			(204	)
Other, net		(12	)		(13	)
Change in current assets and liabilities, exclusive of acquisitions:
Increase in accounts receivable — trade, net		(92,271	)		(71,632	)
Increase in inventories, net		(44,116	)		(46,410	)
Increase in other current assets		(12,824	)		(39,315	)
Increase in accounts payable		7,887			14,659
Increase (decrease) in accrued expenses		7,508			(13,889	)
Decrease in income taxes payable		(4,431	)		(23,813	)

Net cash provided by operating activities		26,919			23,699


Cash Flows from Investing Activities:
Purchases of investment instruments		(70	)		(1,016	)
Proceeds from sales of securities		8,054			—
Purchases of property and equipment		(70,583	)		(56,915	)
Payments for acquisitions, net of cash acquired		(143,487	)		(99,822	)
Payments for in-store merchandise shops		(6,816	)		(3,303	)
Other, net		(1,160	)		3,213

Net cash used in investing activities		(214,062	)		(157,843	)


Cash Flows from Financing Activities:
Short term borrowings		(15,758	)		16,168
Principal payments under capital lease obligations		(1,896	)		(981	)
Commercial paper, net		97,854			—
Proceeds from exercise of common stock options		30,701			18,213
Purchase of common stock		(131,513	)		(105,166	)
Dividends paid		(11,705	)		(11,990	)
Excess tax benefits related to stock options		946			—
Other, net		188			—

Net cash used in financing activities		(31,183	)		(83,756	)


Effect of Exchange Rate Changes on Cash		(8,402	)		1,106


Net Change in Cash and Cash Equivalents		(226,728	)		(216,794	)
Cash and Cash Equivalents at Beginning of Period		328,527			385,637

Cash and Cash Equivalents at End of Period	$	101,799		$	168,843

The accompanying Notes to Condensed Consolidated Financial Statements are an integral part of these statements.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. BASIS OF PRESENTATION

The condensed consolidated financial statements of Liz Claiborne, Inc. and its wholly-owned and majority-owned subsidiaries (the “Company”) included herein have been prepared, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted from this report, as is permitted by such rules and regulations; however, the Company believes that the disclosures are adequate to make the information presented not misleading. It is suggested that these condensed financial statements be read in conjunction with the financial statements and notes thereto included in the Company’s 2005 Annual Report on Form 10-K. Results of acquired companies are included in our operating results from the date of acquisition, and, therefore, operating results on a period-to-period basis are not comparable. Information presented as of December 31, 2005 is derived from audited statements. Certain items previously reported in specific captions in the accompanying financial statements have been reclassified to conform to the current period’s classifications. None of the reclassifications were material.

In the opinion of management, the information furnished reflects all adjustments, all of which are of a normal recurring nature, necessary for a fair presentation of the results for the reported interim periods. Results of operations for interim periods are not necessarily indicative of results for the full year.

SIGNIFICANT ACCOUNTING POLICIES

NATURE OF OPERATIONS

The Company is engaged primarily in the design and marketing of a broad range of apparel, accessories and fragrances.

PRINCIPLES OF CONSOLIDATION

The condensed consolidated financial statements include the accounts of the Company and its wholly-owned and majority-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

USE OF ESTIMATES AND CRITICAL ACCOUNTING POLICIES

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America 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 date of the condensed consolidated financial statements. These estimates and assumptions also affect the reported amounts of revenues and expenses. Estimates by their nature are based on judgments and available information. Therefore, actual results could materially differ from those estimates under different assumptions and conditions.

Critical accounting policies are those that are most important to the portrayal of the Company’s financial condition and the results of operations and require management’s most difficult, subjective and complex judgments as a result of the need to make estimates about the effect of matters that are inherently uncertain. The Company’s most critical accounting policies, discussed below, pertain to revenue recognition, income taxes, accounts receivable — trade, net, inventories, net, the valuation of goodwill and intangible assets with indefinite lives, accrued expenses, derivative instruments and share-based compensation. In applying such policies, management must use some amounts that are based upon its informed judgments and best estimates. Because of the uncertainty inherent in these estimates, actual results could differ from estimates used in applying the critical accounting policies. Changes in such estimates, based on more accurate future information, may affect amounts reported in future periods.

Revenue Recognition

The Company recognizes revenue from its wholesale, retail and licensing operations. Revenue within the Company’s wholesale operations is recognized at the time title passes and risk of loss is transferred to customers. Wholesale revenue is recorded net of returns, discounts and allowances. Returns and allowances require pre-approval from management. Discounts are based on trade terms. Estimates for end-of-season allowances are based on historic trends, seasonal results, an evaluation of current economic conditions and retailer performance. The

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Company reviews and refines these estimates on a monthly basis based on current experience, trends and retailer performance. The Company’s historical estimates of these costs have not differed materially from actual results. Retail store revenues are recognized net of estimated returns at the time of sale to consumers. Licensing revenues are recorded based upon contractually guaranteed minimum levels and adjusted as actual sales data is received from licensees.

Income Taxes

Income taxes are accounted for under Statement of Financial Accounting Standards (“SFAS”) No. 109, “Accounting for Income Taxes.” In accordance with SFAS No. 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, as measured by enacted tax rates that are expected to be in effect in the periods when the deferred tax assets and liabilities are expected to be settled or realized. Significant judgment is required in determining the worldwide provisions for income taxes. In the ordinary course of a global business, there are many transactions for which the ultimate tax outcome is uncertain. It is the Company’s policy to establish provisions for taxes that may become payable in future years as a result of an examination by tax authorities. The Company establishes the provisions based upon management’s assessment of exposure associated with permanent tax differences, tax credits and interest expense applied to temporary difference adjustments. The tax provisions are analyzed periodically (at least annually) and adjustments are made as events occur that warrant adjustments to those provisions.

Accounts Receivable — Trade, Net

In the normal course of business, the Company extends credit to customers that satisfy pre-defined credit criteria. Accounts receivable — trade, net, as shown on the Condensed Consolidated Balance Sheets, is net of allowances and anticipated discounts. An allowance for doubtful accounts is determined through analysis of the aging of accounts receivable at the date of the financial statements, assessments of collectibility based on an evaluation of historic and anticipated trends, the financial condition of the Company’s customers, and an evaluation of the impact of economic conditions. An allowance for discounts is based on those discounts relating to open invoices where trade discounts have been extended to customers. Costs associated with potential returns of products as well as allowable customer markdowns and operational charge backs, net of expected recoveries, are included as a reduction to net sales and are part of the provision for allowances included in Accounts receivable — trade, net. These provisions result from seasonal negotiations with the Company’s customers as well as historic deduction trends (net of expected recoveries) and the evaluation of current market conditions. The Company’s historical estimates of these costs have not differed materially from actual results.

Inventories, Net

Inventories are stated at lower of cost (using the first-in, first-out method) or market. The Company continually evaluates the composition of its inventories assessing slow-turning, ongoing product as well as prior seasons’ fashion product. Market value of distressed inventory is valued based on historical sales trends for this category of inventory of the Company’s individual product lines, the impact of market trends and economic conditions, and the value of current orders in-house relating to the future sales of this type of inventory. Estimates may differ from actual results due to quantity, quality and mix of products in inventory, consumer and retailer preferences and market conditions. The Company’s historical estimates of these costs and its provisions have not differed materially from actual results.

Goodwill and Other Intangibles, Net

In accordance with SFAS No. 142, “Goodwill and Other Intangible Assets,” goodwill and intangible assets with indefinite lives are not amortized, but rather tested for impairment at least annually. Intangible assets with finite lives are amortized over their respective lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”

A two-step impairment test is performed on goodwill. In the first step, the Company compares the fair value of each reporting unit to its carrying value. The Company’s reporting units are consistent with the reportable segments identified in Note 13 of Notes to Condensed Consolidated Financial Statements. The Company determines the fair value of its reporting units using the market approach as is typically used for companies providing products where the value of such a company is more dependent on the ability to generate earnings than the value of the assets used

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

in the production process. Under this approach the Company estimates the fair value based on market multiples of revenues and earnings for comparable companies. If the fair value of the reporting unit exceeds the carrying value of the net assets assigned to that unit, goodwill is not impaired and the Company is not required to perform further testing. If the carrying value of the net assets assigned to the reporting unit exceeds the fair value of the reporting unit, then the Company must perform the second step in order to determine the implied fair value of the reporting unit’s goodwill and compare it to the carrying value of the reporting unit’s goodwill. The activities in the second step include valuing the tangible and intangible assets of the impaired reporting unit, determining the fair value of the impaired reporting unit’s goodwill based upon the residual of the summed identified tangible and intangible assets and the fair value of the enterprise as determined in the first step, and determining the magnitude of the goodwill impairment based upon a comparison of the fair value residual goodwill and the carrying value of goodwill of the reporting unit. If the carrying value of the reporting unit’s goodwill exceeds the implied fair value, then the Company must record an impairment loss equal to the difference.

The fair value of the purchased intangible assets with indefinite lives, primarily trademarks and trade names, are estimated and compared to the carrying value. The Company estimates the fair value of these intangible assets based on an income approach using the relief-from-royalty method. This methodology assumes that, in lieu of ownership, a firm would be willing to pay a royalty in order to exploit the related benefits of these types of assets. This approach is dependent on a number of factors, including estimates of future growth and trends, royalty rates in the category of intellectual property, discount rates and other variables. The Company bases its fair value estimates on assumptions it believes to be reasonable, but which are unpredictable and inherently uncertain. Actual future results may differ from those estimates. The Company recognizes an impairment loss when the estimated fair value of the intangible asset is less than the carrying value.

Owned trademarks that have been determined to have indefinite lives are not subject to amortization and are reviewed at least annually for potential value impairment as mentioned above. Trademarks having definite lives are amortized over their estimated useful lives. Acquired trademarks are valued using the relief-from-royalty method. Trademarks that are licensed by the Company from third parties are amortized over the individual terms of the respective license agreements, which range from 5 to 15 years. Intangible merchandising rights are amortized over a period of four years. Customer relationships are amortized assuming gradual attrition over time. Existing relationships are being amortized over periods ranging from 5 to 25 years.

The recoverability of the carrying values of all long-lived assets with definite lives is reevaluated when changes in circumstances indicate the assets’ value may be impaired. Impairment testing is based on a review of forecasted operating cash flows and the profitability of the related business. For the six months ended July 1, 2006, there were no material adjustments to the carrying values of any long-lived assets resulting from these evaluations.

Accrued Expenses

Accrued expenses for employee insurance, workers’ compensation, profit sharing, contracted advertising, professional fees, and other outstanding Company obligations are assessed based on claims experience and statistical trends, open contractual obligations, and estimates based on projections and current requirements. If these trends change significantly, then actual results would likely be impacted.

Derivative Instruments

SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended and interpreted, requires that each derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the Condensed Consolidated Balance Sheets as either an asset or liability and measured at its fair value. The statement also requires that changes in the derivative’s fair value be recognized currently in earnings in either income (loss) from continuing operations or Accumulated other comprehensive income (loss), depending on whether the derivative qualifies for hedge accounting treatment.

The Company uses foreign currency forward contracts and options for the specific purpose of hedging the specific exposure to variability in forecasted cash flows associated primarily with inventory purchases mainly with the Company’s European and Canadian entities and other specific activities and the swapping of variable interest rate debt for fixed rate debt in connection with the synthetic lease. These instruments are designated as cash flow hedges and to the extent the hedges are highly effective, the effective portion of the changes in fair value of the hedging

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

instrument are included in Accumulated other comprehensive income (loss), net of related tax effects, with the corresponding asset or liability recorded in the Condensed Consolidated Balance Sheets. The ineffective portion of a cash flow hedge is recognized primarily as a component of Cost of goods sold in current period earnings or, in the case of swaps, if any, to Selling, general & administrative expenses (“SG&A”). Amounts recorded in Accumulated other comprehensive income (loss) are reflected in current period earnings when the hedged transaction affects earnings. If fluctuations in the relative value of the currencies involved in the hedging activities were to move dramatically, such movement could have a significant impact on the Company’s results of operations.

Hedge accounting requires that, at the beginning of each hedge period, the Company justify an expectation that the hedge will be highly effective. This effectiveness assessment involves an estimation of the probability of the occurrence of transactions for cash flow hedges. The use of different assumptions and changing market conditions may impact the results of the effectiveness assessment and ultimately the timing of when changes in derivative fair values and underlying hedged items are recorded in earnings.

The Company hedges its net investment position in euro functional subsidiaries by borrowing directly in foreign currency and designating a portion of foreign currency debt as a hedge of net investments. The change in the borrowings due to changes in currency rates is recorded to Cumulative translation adjustment, a component of Accumulated other comprehensive income (loss). The Company uses derivative instruments to hedge the changes in the fair value of the debt due to interest rates, and the change in fair value is recognized currently in Interest expense, net together with the change in fair value of the hedged item due to interest rates.

Occasionally, the Company purchases short-term foreign currency contracts and options outside of the cash flow hedging program to neutralize quarter-end balance sheet and other expected exposures. These derivative instruments do not qualify as cash flow hedges under SFAS No. 133 and are recorded at fair value with all gains or losses, which have not been significant, recognized as a component of SG&A in current period earnings immediately.

Share-Based Compensation

On July 3, 2005, the Company adopted SFAS No. 123(R) “Share-Based Payment” requiring the recognition of compensation expense in the Condensed Consolidated Statements of Income related to the fair value of employee share-based awards including stock options as well as restricted stock. Determining the fair value of options at the grant date requires judgment, including estimating the expected term that stock options will be outstanding prior to exercise, the associated volatility and the expected dividends. Prior to adopting SFAS No. 123(R), the Company applied Accounting Principles Board (“APB”) Opinion No. 25, and related Interpretations, in accounting for its stock-based compensation plans. All employee stock options were granted at or above the grant date market price. Accordingly, no compensation cost was recognized for fixed stock option grants in prior periods. In accordance with SFAS No. 123(R), judgment is required in estimating the amount of share-based awards expected to be forfeited prior to vesting. If actual forfeitures differ significantly from these estimates, share-based compensation expense could be materially impacted.

OTHER SIGNIFICANT ACCOUNTING POLICIES

Fair Value of Financial Instruments

The fair value of cash and cash equivalents, receivables, short-term borrowings and accounts payable approximates their carrying value due to their short-term maturities. The fair value of long-term debt instruments approximates the carrying value and is estimated based on the current rates offered to the Company for debt of similar maturities. Fair values for derivatives are either obtained from counter parties or developed using dealer quotes or cash flow models.

Cash and Cash Equivalents

All highly liquid investments with an original maturity of three months or less at the date of purchase are classified as cash equivalents.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Marketable Securities

Investments are stated at market. The estimated fair value of the marketable securities is based on quoted prices in an active market. Gains and losses on investment transactions are determined using the specific identification method and are recognized in income based on settlement dates. Unrealized gains and losses on securities held for sale are included in Accumulated other comprehensive income (loss) until realized. Interest is recognized when earned. All marketable securities are considered available-for-sale. Management evaluates securities held with unrealized losses for other-than-temporary impairment at least on a quarterly basis. Consideration is given to (a) the length of time and the extent to which the fair value has been less than cost; (b) the financial condition and near-term prospects of the issuer; and (c) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.

Property and Equipment, Net

Property and equipment is stated at cost less accumulated depreciation and amortization. Buildings and building improvements are depreciated using the straight-line method over their estimated useful lives of 20 to 39 years. Machinery and equipment and furniture and fixtures are depreciated using the straight-line method over their estimated useful lives of three to seven years. Leasehold improvements are amortized over the shorter of the remaining lease term or the estimated useful lives of the assets. Leased property meeting certain capital lease criteria is capitalized and the present value of the related lease payments is recorded as a liability. Amortization of capitalized leased assets is computed on the straight-line method over the shorter of the estimated useful life or the initial lease term. Commencing in fiscal 2005, the Company follows FASB Interpretation No. 47 (“FIN 47”), “Accounting for Conditional Asset Retirement Obligations (“ARO”) — an interpretation of FASB Statement No. 143,” which requires the Company to recognize a liability for the fair value of a conditional retirement obligation if the fair value can be reasonably estimated. The Company’s AROs are primarily associated with the disposal of leasehold improvements at the end of a lease term when the Company is contractually obligated to restore the facility back to a condition specified in the lease agreement. Amortization expense is recorded on a straight-line basis over the life of the lease term.

Foreign Currency Translation

Assets and liabilities of non-U.S. subsidiaries have been translated at period end exchange rates. Revenues and expenses have been translated at average rates of exchange in effect during the period. Resulting translation adjustments have been included in Accumulated other comprehensive income (loss). Gains and losses on translation of intercompany loans with foreign subsidiaries of a long-term investment nature are also included in this component of Stockholders’ Equity.

Cost of Goods Sold

Cost of goods sold for wholesale operations include the expenses incurred to acquire and produce inventory for sale, including product costs, freight-in, import costs, third-party inspection activities, buying agent commissions and provisions for shrinkage. For retail operations, in-bound freight from the Company’s warehouse to its own retail stores is also included. Warehousing activities including receiving, storing, picking, packing and general warehousing charges are included in SG&A and, as such, the Company’s gross profit may not be comparable to others who may include these expenses as a component of Cost of goods sold.

Advertising, Promotion and Marketing

All costs associated with advertising, promoting and marketing of Company products are expensed during the periods when the activities take place. Costs associated with cooperative advertising programs involving agreements with customers, whereby customers are required to provide documentary evidence of specific performance and when the amount of consideration paid by the Company for these services are at or below fair value, are charged to SG&A. Costs associated with customer cooperative advertising allowances without specific performance guidelines are reflected as a reduction of sales revenue.

Shipping and Handling Costs

Shipping and handling costs, which are mostly comprised of warehousing activities, are included as a component of SG&A in the Condensed Consolidated Statements of Income.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Fiscal Year

The Company’s fiscal year ends on the Saturday closest to December 31. The 2006 and 2005 fiscal years each reflect a 52-week period resulting in a 13-week three-month period for the second quarter.

Cash Dividend and Common Stock Repurchase

On May 18, 2006, the Company’s Board of Directors declared a quarterly cash dividend on the Company’s common stock at the rate of $0.05625 per share, paid on June 15, 2006 to stockholders of record at the close of business on June 1, 2006. On May 18, 2006, the Company’s Board of Directors authorized the Company to purchase up to an additional $250 million of its common stock for cash in open market purchases and privately negotiated transactions. As of July 26, 2006, the Company had $272 million remaining in buyback authorization under its share repurchase programs. This amount is comprised of $22 million from the May 19, 2005 authorization and $250 million from the May 18, 2006 authorization discussed above.

2. ACQUISITIONS

On January 26, 2006, the Company acquired 100 percent of the equity interests of Westcoast Contempo Fashions Limited and Mac & Jac Holdings Limited which collectively design, market and sell the Mac & Jac, Kenzie and Kenziegirl apparel lines (“Mac & Jac”). Based in Vancouver, Canada and founded in 1985, Mac & Jac is a designer, marketer, wholesaler and retailer of premium apparel for women and men through its Mac & Jac brands. The purchase price totaled 26.2 million Canadian dollars (or $22.7 million), which includes the retirement of debt at closing and fees, plus contingent payments to be determined based upon a multiple of Mac & Jac’s earnings in fiscal years 2006, 2008, 2009, and 2010. A valuation of the trademarks, trade names and customer relationships of Mac & Jac is currently in process. The Company currently estimates that the aggregate of the contingent payments will be in the range of approximately $11-20 million and will be accounted for as additional purchase price when paid. Unaudited pro forma information related to this acquisition is not included, as the impact of this transaction is not material to the consolidated results of the Company.

On November 18, 2005, the Company acquired 100 percent of the equity interest of Skylark Sport Marketing Corporation, doing business as prAna (“prAna”). Based in California and established in 1993, prAna is a designer, marketer and wholesaler of climbing, yoga and outdoor/active lifestyle apparel and accessories. The purchase price totaled $45.8 million, consisting of an initial payment and the assumption of debt and fees (including $13.5 million paid in 2006 primarily consisting of tax-related purchase price adjustments) plus contingent payments to be determined based upon a multiple of prAna’s earnings in fiscal years 2008, 2009 and 2010. The Company currently estimates that the aggregate of the contingent payments will be in the range of approximately $47-53 million. The contingent payments will be accounted for as additional purchase price when paid. On a preliminary basis, the Company allocated $16.7 million of purchase price to the value of trademarks and trade names associated with the business, and $11.4 million has been allocated to the value of customer relationships. The trademarks and trade names as well as goodwill of $13.4 million are deemed to have an indefinite life and are subject to an annual test for impairment. The value of customer relationships is being amortized over 8 years. Unaudited pro forma information related to this acquisition is not included, as the impact of this transaction is not material to the consolidated results of the Company.

Unaudited pro forma information on an aggregate basis for the above acquisitions is not included, as the impact of these transactions is not material to the consolidated results of the Company.

On January 6, 2005, the Company acquired 100 percent of the equity interest of C & C California, Inc. (“C & C”). Based in California and founded in 2002, C & C is a designer, marketer and wholesaler of premium apparel for women, men and children through its C & C California brand. C & C sells its products primarily through select specialty stores as well as through international distributors in Canada, Europe and Asia. The purchase price consisted of an initial payment of $29.2 million, including fees, plus contingent payments based upon a multiple of C & C’s earnings in fiscal years 2007, 2008 and 2009. On May 2, 2006, the Company and the sellers of C & C agreed to settle the contingent payment agreement based on a projection of earnings for 2007, 2008 and 2009. This payment, which totaled $16.3 million, was made in cash and was accounted for as additional purchase price. The

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Company utilizes various valuation methods to determine the fair value of acquired tangible and intangible assets. For inventory, the method considers the expected selling price of finished goods and intangible assets acquired are valued using a discounted cash flow model. The Company allocated $7.6 million of purchase price to the value of trademarks and trade names associated with the business, and $10.6 million has been allocated to the value of customer relationships. The trademarks and trade names have been classified as having finite lives and will be amortized over their estimated useful life of 20 years. Goodwill of $25.7 million is deemed to have an indefinite life and is subject to an annual test for impairment. The value of customer relationships is being amortized over periods ranging from 10 to 20 years. Unaudited pro forma information related to this acquisition is not included, as the impact of this transaction is not material to the consolidated results of the Company.

On April 7, 2003, the Company acquired 100 percent of the equity interest of Juicy Couture, Inc. (formerly, Travis Jeans, Inc.) (“Juicy Couture”), a privately held fashion apparel company. The total purchase price consisted of: (a) a payment, including the assumption of debt and fees, of $53.1 million, and (b) a contingent payment to be determined as a multiple of Juicy Couture’s earnings for one of the years ended 2005, 2006 or 2007. The selection of the measurement year for the contingent payment is at either party’s option. In March of 2005, the contingent payment agreement was amended to include an advance option for the sellers providing that (i) if the 2005 measurement year is not selected, the sellers may elect to receive up to 70 percent of the estimated contingent payment based upon 2005 results; (ii) if the 2005 and 2006 measurement years are not selected, the sellers are eligible to elect to receive up to 85 percent of the estimated contingent payment based on the 2006 measurement year net of any 2005 advances. In April 2006, the sellers elected to receive a 70 percent advance against the contingent purchase price and were paid $80.3 million on April 20, 2006. The payment was accounted for as additional purchase price and an increase to goodwill. The Company estimates that if the 2006 measurement year is selected, the remaining contingent payment would be in the range of approximately $25-30 million. The contingent payment will be accounted for as additional purchase price when paid. The Company utilizes various valuation methods to determine the fair value of acquired tangible and intangible assets. For inventory, the method considers the expected selling price of finished goods and intangible assets acquired are valued using a discounted cash flow model. The Company allocated $27.3 million of purchase price to the value of trademarks and trade names associated with the business. The trademarks and trade names have been classified as having indefinite lives and are subject to an annual test for impairment.

On July 9, 2002, the Company acquired 100 percent of the equity interest of Mexx Canada, Inc., a privately held fashion apparel and accessories company (“Mexx Canada”). The total purchase price consisted of: (a) an initial cash payment made at the closing date of $15.2 million; (b) a second payment made at the end of the first quarter 2003 of 26.4 million Canadian dollars (or $17.9 million); and (c) a contingent payment to be determined as a multiple of Mexx Canada’s earnings and cash flow performance for the year ended either 2004 or 2005. The fair market value of assets acquired was $20.5 million and liabilities assumed were $17.7 million resulting in initial goodwill of $29.6 million. In December 2004, the 2004 measurement year was selected by the seller for the calculation of the contingent payment. The contingency was settled on April 26, 2005 for 45.3 million Canadian dollars (or $37.1 million). The contingent payment was accounted for as additional purchase price and an increase in goodwill.

On June 8, 1999, the Company acquired 85.0 percent of the equity interest of Lucky Brand Dungarees, Inc. (“Lucky Brand”), whose core business consists of the Lucky Brand Dungarees line of women’s and men’s denim-based sportswear. The acquisition was accounted for using the purchase method of accounting. The total purchase price consisted of a cash payment made at the closing date of approximately $85 million and a payment made in April 2003 of $28.5 million. An additional payment of $12.7 million was made in 2000 for tax-related purchase price adjustments. On January 28, 2005, the Company entered into an agreement to acquire the remaining 15 percent of Lucky Brand shares that were owned by the sellers of Lucky Brand for aggregate consideration of $65.0 million, plus a contingent payment for the final 2.25 percent based upon a multiple of Lucky Brand’s 2007 earnings. On January 17, 2006 and January 28, 2005, the Company paid $10.0 million and $35.0 million, respectively, for 1.9 percent and 8.25 percent, respectively of the equity interest of Lucky Brand. The excess of the amount paid over the related amount of minority interest has been recorded to goodwill. In January 2007 and 2008, the Company will acquire 1.5 percent and 1.1 percent of the equity interest of Lucky Brand for payments of $10.0 million each. The Company has recorded the present value of fixed amounts owed ($19.4 million) as an increase in Accrued Expenses and Other Non-Current Liabilities. As of July 1, 2006, the excess of the liability recorded over the related amount of minority interest has been recorded as goodwill. In June 2008, the Company will acquire the remaining 2.25 percent

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

minority share for an amount based on a multiple of Lucky Brand’s 2007 earnings, which management estimates will be in the range of $22-25 million.

3. STOCKHOLDERS’ EQUITY

Activity for the six months ended July 1, 2006 and July 2, 2005 in the Capital in excess of par value, Retained earnings, Unearned compensation expense and Common stock in treasury, at cost, accounts is summarized as follows:


	Capital in						Unearned		Common stock
	excess of par			Retained			compensation		in treasury, at
In thousands	value			earnings			expense		cost

Balance as of December 31, 2005	$	187,689		$	3,122,487		$	—	$	(1,450,169	)
Net income		—			86,352			—		—
Restricted shares issued, net of cancellations		(6,905	)		—			—		6,013
Purchase of common stock		—			—			—		(131,513	)
Stock options exercised		18,165			—			—		12,536
Share-based compensation		11,081			—			—		—
Tax benefit on stock options exercised		3,974			—			—		—
Excess tax benefits related to stock options		946			—			—		—
Dividends declared		—			(11,705	)		—		—

Balance as of July 1, 2006	$	214,950		$	3,197,134		$	—	$	(1,563,133	)


	Capital in					Unearned			Common stock
	excess of par		Retained			compensation			in treasury, at
In thousands	value		earnings			expense			cost

Balance as of January 1, 2005	$	176,182	$	2,828,968		$	(36,793	)	$	(1,269,355	)
Net income		—		125,558			—			—
Restricted shares issued, net of cancellations		14,533		—			(20,071	)		5,649
Purchase of common stock		—		—			—			(105,166	)
Stock options exercised		10,690		—			—			7,523
Tax benefit on stock options exercised		3,490		—			—			—
Dividends declared		—		(11,990	)		—			—
Amortization of restricted stock		—		—			8,888			—

Balance as of July 2, 2005	$	204,895	$	2,942,536		$	(47,976	)	$	(1,361,349	)

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Comprehensive income is comprised of net income, the effects of foreign currency translation, changes in the spot value of Eurobonds designated as a net investment hedge, changes in unrealized gains and losses on securities and changes in the fair value of cash flow hedges. Total comprehensive income for interim periods was as follows:


	Six Months Ended						Three Months Ended
	(26 Weeks)			(26 Weeks)			(13 Weeks)			(13 Weeks)
	July 1,			July 2,			July 1,			July 2,
In thousands	2006			2005			2006			2005

Net income as reported	$	86,352		$	125,558		$	39,415		$	54,140
Other comprehensive income (loss), net of tax:
Change in cumulative translation gain (loss)		26,960			(36,871	)		17,199			(21,782	)
Change in cumulative translation (loss) gain of Eurobonds		(34,264	)		49,705			(23,198	)		28,868
Changes in unrealized (losses) gains on securities, net of income tax benefit (provision) of $673, $40, $47 and $(66), respectively		(1,208	)		(64	)		(83	)		121
Changes in fair value of cash flow hedges, net of income tax benefit (provision) of $577, $(3,849), $23, and $(867), respectively		(1,026	)		8,521			(40	)		2,873

Total comprehensive income, net of tax	$	76,814		$	146,849		$	33,293		$	64,220

Accumulated other comprehensive income (loss) consists of the following:


	July 1,			December 31,			July 2,
In thousands	2006			2005			2005

Cumulative translation adjustment	$	(41,853	)	$	(34,549	)	$	(41,683	)
(Losses) gains on cash flow hedging derivatives, net of taxes of $290, $(287) and $530		(649	)		377			383
Unrealized (losses) gains on securities, net of taxes of $435, $(245) and $(498)		(781	)		434			(1,059	)

Accumulated other comprehensive (loss), net of tax	$	(43,283	)	$	(33,738	)	$	(42,359	)

4. MARKETABLE SECURITIES

During the six months ended July 1, 2006, the Company sold 341,246 shares of certain equity investments for total proceeds of $8.1 million and a realized gain of $3.6 million. Amounts previously recognized in Accumulated other comprehensive income (loss) were reclassified to Other income (expense), net upon the sale of the securities. The shares were previously considered available-for-sale and were recorded at fair market value with unrealized gains/losses, net of taxes, reported as a component of Accumulated other comprehensive income (loss).

In June 2000, the Company purchased an equity index mutual fund as a long-term investment for $8.5 million. Based on the continued recovery of the market value of this equity index mutual fund and the Company’s ability and intent to hold this investment for a reasonable period of time sufficient for a forecasted recovery of fair value, the Company does not consider this investment to be other-than-temporarily impaired at July 1, 2006 and therefore, no impairment has been recorded.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The following is a summary of available-for-sale marketable securities at July 1, 2006, December 31, 2005 and July 2, 2005:


				Unrealized					Estimated
In thousands		Cost		Gains		Losses			Fair Value

July 1, 2006:	Equity investments	$	9,128	$	—	$	(1,120	)	$	8,008
	Other investments		446		—		(87	)		359

	Total	$	9,574	$	—	$	(1,207	)	$	8,367


December 31, 2005:	Equity investments	$	13,530	$	2,023	$	(1,261	)	$	14,292
	Other investments		434		—		(88	)		346

	Total	$	13,964	$	2,023	$	(1,349	)	$	14,638


July 2, 2005:	Equity investments	$	9,935	$	105	$	(1,658	)	$	8,382
	Other investments		422		—		(83	)		339

	Total	$	10,357	$	105	$	(1,741	)	$	8,721

For the six months ended July 1, 2006, there were realized gains of $3,583,000 on sales of available-for-sale securities. For the three months ended July 1, 2006, there were no realized gains or losses on available-for-sale securities. For the six and three months ended July 2, 2005, there were no realized gains or losses on sales of available-for-sale securities. The net adjustments to unrealized holding gains and losses on available-for-sale securities for the six months ended July 1, 2006 and July 2, 2005 were losses of $1,208,000 (net of $673,000 in taxes) and $64,000 (net of $40,000 in taxes), respectively, and the net adjustments to unrealized holdings gains and losses on available-for-sale securities for the three months ended July 1, 2006 and July 2, 2005 were a loss of $88,000 (net of $50,000 in taxes) and a gain of $121,000 (net of $66,000 in taxes), respectively, which were included in Accumulated other comprehensive income (loss).

5. INVENTORIES, NET

Inventories consist of the following:


	July 1,		December 31,		July 2,
In thousands	2006		2005		2005

Raw materials	$	35,139	$	34,512	$	42,223
Work in process		20,801		9,298		12,175
Finished goods		541,927		492,486		521,521

Total	$	597,867	$	536,296	$	575,919

6. PROPERTY AND EQUIPMENT, NET

Property and equipment consist of the following:


	July 1,		December 31,		July 2,
In thousands	2006		2005		2005

Land and buildings	$	141,347	$	140,961	$	139,993
Machinery and equipment		373,848		358,914		356,411
Furniture and fixtures		240,263		216,911		195,534
Leasehold improvements		431,681		397,946		365,451

		1,187,139		1,114,732		1,057,389
Less: Accumulated depreciation and amortization		671,773		620,039		597,655

Total property and equipment, net	$	515,366	$	494,693	$	459,734

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

7. GOODWILL AND INTANGIBLES, NET

The following tables disclose the carrying value of all the intangible assets:


	Estimated	July 1,			December 31,			July 2,
In thousands	Lives	2006			2005			2005

Amortized intangible assets:
Gross Carrying Amount:
Licensed trademarks	5-15 years	$	32,449		$	32,449		$	42,849
Owned trademarks	20 years		7,600			7,600			7,500
Customer relationships	5-25 years		49,959			40,184			28,100
Merchandising rights	4 years		52,875			49,460			55,894

Subtotal		$	142,883		$	129,693		$	134,343

Accumulated Amortization:
Licensed trademarks		$	(12,888	)	$	(11,697	)	$	(19,912	)
Owned trademarks			(562	)		(372	)		(190	)
Customer relationships			(5,088	)		(2,960	)		(1,966	)
Merchandising rights			(24,712	)		(18,590	)		(35,015	)

Subtotal		$	(43,250	)	$	(33,619	)	$	(57,083	)

Net:
Licensed trademarks		$	19,561		$	20,752		$	22,937
Owned trademarks			7,038			7,228			7,310
Customer relationships			44,871			37,224			26,134
Merchandising rights			28,163			30,870			20,879

Total amortized intangible assets, net		$	99,633		$	96,074		$	77,260


Unamortized intangible assets:
Owned trademarks		$	241,209		$	235,943		$	216,356

Total intangible assets		$	340,842		$	332,017		$	293,616

The Company completed its annual impairment tests as of the first day of the third quarters of each of fiscal 2005 and fiscal 2004. No impairment was recognized at either date. Intangible amortization expense was $9.5 million and $8.7 million for the six months ended July 1, 2006 and July 2, 2005, respectively, and $4.8 million and $4.1 million for the three months ended July 1, 2006 and July 2, 2005, respectively.

The estimated intangible amortization expense for the next five years is as follows:


	(In millions)
Fiscal Year	Amortization Expense

2006	$	19.1
2007		17.7
2008		15.2
2009		11.9
2010		8.0

The changes in carrying amount of goodwill for the six months ended July 1, 2006 are as follows:


	Wholesale			Wholesale
In thousands	Apparel			Non-Apparel		Total

Balance, December 31, 2005	$	848,970		$	9,595	$	858,565
Additional purchase price of C & C		16,981			—		16,981
Additional purchase price of prAna		10,443			—		10,443
Additional purchase price of Juicy Couture		80,345			—		80,345
Other		(3,443	)		—		(3,443	)
Translation difference		4,109			—		4,109

Balance, July 1, 2006	$	957,405		$	9,595	$	967,000

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

There is no goodwill related to the Company’s retail segment.

8. DEBT

On August 7, 2001, the Company issued 350 million euro (or $307.2 million based on the exchange rate in effect on such date) 6.625% Notes due on August 7, 2006 (the “Eurobonds”). The Eurobonds are listed on the Luxembourg Stock Exchange and received a credit rating of BBB from Standard & Poor’s and Baa2 from Moody’s Investor Services. Interest on the Eurobonds is being paid on an annual basis until maturity. These bonds are designated as a hedge of the Company’s net investment in Mexx (see Note 3 of Notes to Consolidated Financial Statements in the Company’s 2005 Annual Report on Form 10-K). The Eurobonds are classified as Long-term debt as the Company has the intent and ability to refinance the Eurobonds on a long-term basis. The fair value of the Eurobonds was 351.1 million euro as of July 1, 2006.

On July 6, 2006, the Company completed the issuance of 350 million euro 5% Notes (the “Notes”) due July 8, 2013 and the net proceeds of the offering are intended to refinance the Company’s outstanding 350 million euro 6.625% Notes due August 7, 2006, which were originally issued on August 7, 2001 (see Notes 14 and 17 of Notes to Condensed Consolidated Financial Statements), and for general corporate purposes.

On October 13, 2004, the Company entered into a $750 million, five-year revolving credit agreement (the “Agreement”), replacing the $375 million, 364-day unsecured credit facility that was scheduled to mature in October 2004 and the existing $375 million bank revolving credit facility which was scheduled to mature in October 2005. A portion of the funds available under the Agreement not in excess of $250 million is available for the issuance of letters of credit. Additionally, at the request of the Company, the amount of funds available under the Agreement may be increased at any time or from time to time by an aggregate principal amount of up to $250 million with only the consent of the lenders (which may include new lenders) participating in such increase. The Agreement includes a $150 million multi-currency revolving credit line, which permits the Company to borrow in U.S. dollars, Canadian dollars and euro. The Agreement has two borrowing options, an “Alternative Base Rate” option, as defined in the Agreement, and a Eurocurrency rate option with a spread based on the Company’s long-term credit rating. The Agreement contains certain customary covenants, including financial covenants requiring the Company to maintain specified debt leverage and fixed charge coverage ratios, and covenants restricting the Company’s ability to, among other things, incur indebtedness, grant liens, make investments and acquisitions, and sell assets. The Company believes it is in compliance with such covenants as of July 1, 2006. The funds available under the Agreement may be used to refinance existing debt, to provide working capital and for general corporate purposes of the Company, including, without limitation, the repurchase of capital stock and the support of the Company’s $750 million commercial paper program. The Company’s ability to obtain funding through its commercial paper program is subject to, among other things, the Company maintaining an investment-grade credit rating. At July 1, 2006, the Company had $98 million of commercial paper outstanding under the Agreement. The commercial paper is classified as Long-term debt as the Company has the intent and ability to refinance the commercial paper on a long-term basis.

As of July 1, 2006, December 31, 2005 and July 2, 2005, the Company had lines of credit aggregating $597 million, $567 million and $571 million, respectively, which were primarily available to cover trade letters of credit. At July 1, 2006, December 31, 2005 and July 2, 2005, the Company had outstanding trade letters of credit of $319 million, $298 million and $338 million, respectively. These letters of credit, which have terms ranging from one to ten months, primarily collateralize the Company’s obligations to third parties for the purchase of inventory. The fair value of these letters of credit approximates contract values.

The Company’s Canadian and European subsidiaries also have unsecured lines of credit totaling approximately $175.8 million (based on the exchange rates as of July 1, 2006), which is included in the aforementioned $597 million available lines of credit. As of July 1, 2006, a total of $32.7 million of borrowings denominated in foreign currencies was outstanding at an average interest rate of 3.75%. These lines of credit bear interest at rates based on indices specified in the contracts plus a margin. The lines of credit are in effect for less than one year and mature at various dates in 2007. These lines are guaranteed by the Company. Most of the Company’s debt will mature in less

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

than one year and will be refinanced under existing credit lines. The capital lease obligations in Europe expire in 2007 and 2008.

9. COMMITMENTS AND CONTINGENCIES

On May 22, 2001, the Company entered into an off-balance sheet financing arrangement (commonly referred to as a “synthetic lease”) to acquire various land and equipment and construct buildings and real property improvements associated with warehouse and distribution facilities in Ohio and Rhode Island. The leases expire on November 22, 2006, with renewal subject to the consent of the lessor. The lessor under the operating lease arrangements is an independent third-party limited liability company, wholly owned by a publicly traded corporation. That public corporation consolidates the financial statements of the lessor in its financial statements. The lessor has other leasing activities and has contributed equity of 5.75 percent of the $63.7 million project costs. The leases include guarantees by the Company for a substantial portion of the financing and options to purchase the facilities at original cost; the maximum guarantee is approximately $56 million. The guarantee becomes effective if the Company declines to purchase the facilities at the end of the lease and the lessor is unable to sell the property at a price equal to or greater than the original cost. The Company selected this financing arrangement to take advantage of the favorable financing rates such an arrangement afforded as opposed to the rates available under alternative real estate financing options. The lessor financed the acquisition of the facilities through funding provided by third-party financial institutions. The lessor has no affiliation or relationship with the Company or any of its employees, directors or affiliates, and the Company’s transactions with the lessor are limited to the operating lease agreements and the associated rent expense that will be included in SG&A in the Condensed Consolidated Statements of Income. In December 2003, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 46R, “Consolidation of Variable Interest Entities” (“FIN 46R”), which amends the same titled FIN 46 that was issued in January 2003. FIN 46R addresses how to identify variable interest entities and the criteria that requires the consolidation of such entities. The third-party lessor does not meet the definition of a variable interest entity under FIN 46R, and therefore consolidation by the Company is not required.

The Company has not entered into any other off-balance sheet arrangements.

The Company is a party to several pending legal proceedings and claims. Although the outcome of any such actions cannot be determined with certainty, management is of the opinion that the final outcome of any of these actions should not have a materially adverse effect on the Company’s results of operations or financial position. Please refer to Note 11 and Note 25 of Notes to Consolidated Financial Statements in the Company’s 2005 Annual Report on Form 10-K.

10. STREAMLINING INITIATIVES

2006 Actions

On February 7, 2006, the Company announced that it is streamlining its operations and redeploying resources to more efficiently manage its multi-brand and multi-channel portfolio, more closely align its business with customer and consumer needs, and better capitalize on the compelling growth opportunities across a number of its brands. For the six and three months ended July 1, 2006, the Company recorded $36.6 million and $11.5 million, respectively, related to this initiative and expects to record additional charges of $23.4 million in the third and fourth quarters of 2006. The Company expects the total cost of the initiative to approximate $60 million (with $37 million of payroll and related costs, $12 million of lease termination costs, $7 million of fixed asset write-downs and disposals and $4 million of other costs), $7 million of these charges are expected to be non-cash. As a result of this new organizational structure, the Company expects a net reduction of approximately 500 positions, or about 4% of its global work force. The Company also intends to rationalize select distribution facilities and office space as well as close or repurpose approximately 20 retail stores.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

For the six and three months ended July 1, 2006, these expenses primarily recorded in SG&A in the Condensed Consolidated Statements of Income, impacted business segments as follows:


	Six Months Ended		Three Months Ended
In thousands	July 1, 2006		July 1, 2006


Wholesale Apparel	$	23,335	$	7,260
Wholesale Non-Apparel		5,225		2,179
Retail		8,088		2,106

Total	$	36,648	$	11,545

A summary rollforward of streamlining initiatives is as follows:


				Lease
	Payroll and			Termination			Fixed Asset
In thousands	Related Costs			Costs			Write-Downs			Other Costs			Total


2006 provision	$	24,222		$	1,690		$	7,236		$	3,500		$	36,648
2006 fixed asset write-downs		—			—			(7,236	)		—			(7,236	)
2006 spending		(16,569	)		(454	)		—			(2,129	)		(19,152	)
Translation difference		10			(4	)		—			8			14

Balance at July 1, 2006	$	7,663		$	1,232		$	—		$	1,379		$	10,274

2004 Actions

In December 2004, the Company recorded a net pretax restructuring charge of $9.8 million ($6.5 million after tax) comprised of $5.7 million associated with the Company’s European operations and $4.1 million attributable to costs associated with the closure of the Company’s Secaucus, New Jersey distribution center. In 2005, the Company recorded pretax restructuring gains of $610,000 ($394,000 after tax) representing the reversal of amounts provided in December 2004 no longer required. All operational activities associated with the restructuring have been completed.

A summary of the changes in the restructuring reserves is as follows:


	Operating &
	Administrative
In thousands	Exit Costs
Balance at December 31, 2005	$	1,016
Spending for six months ended July 1, 2006		(1,035	)
Translation difference		19

Balance at July 1, 2006	$	—

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

11. EARNINGS PER COMMON SHARE

The following is an analysis of the differences between basic and diluted earnings per common share in accordance with SFAS No. 128, “Earnings per Share.”


	Six Months Ended
	July 1, 2006							July 2, 2005
			Weighted		Net Income					Weighted		Net Income
In thousands except per			Average		per Common					Average		per Common
share data	Net Income		Shares		Share			Net Income		Shares		Share

Basic	$	86,352		102,981	$	0.84		$	125,558		107,367	$	1.17
Effect of dilutive securities:
Stock options and restricted stock grants		—		1,416		(0.01	)		—		1,851		(0.02	)

Diluted	$	86,352		104,397	$	0.83		$	125,558		109,218	$	1.15


	Three Months Ended
	July 1, 2006						July 2, 2005
			Weighted		Net Income				Weighted		Net Income
In thousands except per			Average		per Common				Average		per Common
share data	Net Income		Shares		Share		Net Income		Shares		Share

Basic	$	39,415		102,541	$	0.38	$	54,140		106,671	$	0.51
Effect of dilutive securities:
Stock options and restricted stock grants		—		1,384		—		—		1,707		(0.01	)

Diluted	$	39,415		103,925	$	0.38	$	54,140		108,378	$	0.50

Options to purchase 681,016 and 768,000 shares of common stock were outstanding as of July 1, 2006 and July 2, 2005, respectively, but were not included in the computation of diluted EPS for the quarters then ended because the options were anti-dilutive.

12. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS SUPPLEMENTARY DISCLOSURES

During the six months ended July 1, 2006, the Company made income tax payments of $58,731,000 and interest payments of $1,609,000. During the six months ended July 2, 2005, the Company made income tax payments of $98,239,000 and interest payments of $1,460,000. During the three months ended July 1, 2006, the Company made income tax payments of $32,647,000 and interest payments of $1,275,000. During the three months ended July 2, 2005, the Company made income tax payments of $71,235,000 and interest payments of $612,000.

13. SEGMENT REPORTING

The Company operates the following business segments: Wholesale Apparel, Wholesale Non-Apparel and Retail. The Wholesale Apparel segment consists of women’s, men’s and children’s apparel designed and marketed worldwide under various trademarks owned by the Company or licensed by the Company from third-party owners, including wholesale sales of women’s, men’s and children’s apparel designed and marketed in Europe, Canada, the Asia-Pacific Region and the Middle East under the Mexx brand names. The Wholesale Non-Apparel segment includes handbags, small leather goods, fashion accessories, jewelry and cosmetics designed and marketed worldwide under certain owned or licensed trademarks. The Retail segment consists of the Company’s worldwide retail operations that sell most of these apparel and non-apparel products to the public through the Company’s

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

specialty retail stores, outlet stores, concession stores and e-commerce sites. The Company also presents its results on a geographic basis based on selling location, between Domestic (wholesale customers, Company specialty retail and outlet stores located in the United States and e-commerce sites) and International (wholesale customers and Company specialty retail and outlet and concession stores located outside of the United States). The Company, as licensor, also licenses to third parties the right to produce and market products bearing certain Company-owned trademarks; the resulting royalty income is not allocated to any of the specified operating segments, but is rather included in the line “Sales from external customers” under the caption “Corporate/Eliminations.”

The Company evaluates performance and allocates resources based on operating income or losses. The accounting policies of the reportable segments are the same as those described in the summary of significant accounting policies in its 2005 Annual Report on Form 10-K. Intersegment sales are recorded at cost. There is no intercompany profit or loss on intersegment sales, however, the wholesale segments are credited with their proportionate share of the operating profit generated by the Retail segment. The profit credited to the wholesale segments from the Retail segment is eliminated in consolidation.

The Company’s segments are business units that offer either different products or distribute similar products through different distribution channels. Additional categorization across the segments is impractical and not relevant in that the segments are each managed separately because they either contract to manufacture and distribute distinct products with different production processes or distribute similar products through different distribution channels.


	For the Six Months Ended July 1, 2006
	Wholesale			Wholesale						Corporate/
In thousands	Apparel			Non-Apparel			Retail			Eliminations			Total

NET SALES:
Total net sales	$	1,459,992		$	304,801		$	602,029		$	(70,582	)	$	2,296,240
Intercompany sales		(79,176	)		(13,211	)		—			92,387			—

Sales from external customers	$	1,380,816		$	291,590		$	602,029		$	21,805		$	2,296,240

% to total		60.1	%		12.7	%		26.2	%		1.0	%		100.0	%

OPERATING INCOME:
Total operating income	$	94,624		$	28,142		$	6,016		$	23,376		$	152,158
Intercompany segment operating (income) loss		3,999			2,208			—			(6,207	)		—

Segment operating income from external customers	$	98,623		$	30,350		$	6,016		$	17,169		$	152,158

% of sales		7.1	%		10.4	%		1.0	%		78.7	%		6.6	%


	For the Six Months Ended July 2, 2005
	Wholesale			Wholesale						Corporate/
In thousands	Apparel			Non-Apparel			Retail			Eliminations			Total

NET SALES:
Total net sales	$	1,553,105		$	287,609		$	549,944		$	(79,147	)	$	2,311,511
Intercompany sales		(90,243	)		(9,566	)		—			99,809			—

Sales from external customers	$	1,462,862		$	278,043		$	549,944		$	20,662		$	2,311,511

% to total		63.3	%		12.0	%		23.8	%		0.9	%		100.0	%

OPERATING INCOME:
Total operating income (loss)	$	168,345		$	30,411		$	19,091		$	(7,056	)	$	210,791
Intercompany segment operating (income) loss		(19,483	)		(3,813	)		—			23,296			—

Segment operating income from external customers	$	148,862		$	26,598		$	19,091		$	16,240		$	210,791

% of sales		10.2	%		9.6	%		3.5	%		78.6	%		9.1	%

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


	For the Three Months Ended July 1, 2006
	Wholesale			Wholesale						Corporate/
In thousands	Apparel			Non-Apparel			Retail			Eliminations			Total

NET SALES:
Total net sales	$	666,046		$	159,304		$	337,794		$	(38,106	)	$	1,125,038
Intercompany sales		(42,752	)		(5,947	)		—			48,699			—

Sales from external customers	$	623,294		$	153,357		$	337,794		$	10,593		$	1,125,038

% to total		55.4	%		13.6	%		30.0	%		1.0	%		100.0	%

OPERATING INCOME:
Total operating income (loss)	$	30,210		$	17,018		$	31,271		$	(3,472	)	$	75,027
Intercompany segment operating (income) loss		(10,293	)		(2,215	)		—			12,508			—

Segment operating income from external customers	$	19,917		$	14,803		$	31,271		$	9,036		$	75,027

% of sales		3.2	%		9.7	%		9.3	%		85.3	%		6.7	%


	For the Three Months Ended July 2, 2005
	Wholesale			Wholesale						Corporate/
In thousands	Apparel			Non-Apparel			Retail			Eliminations			Total

NET SALES:
Total net sales	$	695,801		$	146,634		$	294,410		$	(37,741	)	$	1,099,104
Intercompany sales		(42,585	)		(5,251	)		—			47,836			—

Sales from external customers	$	653,216		$	141,383		$	294,410		$	10,095		$	1,099,104

% to total		59.4	%		12.9	%		26.8	%		0.9	%		100.0	%

OPERATING INCOME:
Total operating income (loss)	$	59,252		$	17,186		$	26,554		$	(10,957	)	$	92,035
Intercompany segment operating (income) loss		(15,815	)		(2,536	)		—			18,351			—

Segment operating income from external customers	$	43,437		$	14,650		$	26,554		$	7,394		$	92,035

% of sales		6.6	%		10.4	%		9.0	%		73.2	%		8.4	%


	July 1,			December 31,			July 2,
In thousands	2006			2005			2005

SEGMENT ASSETS:
Wholesale Apparel	$	2,596,562		$	2,502,783		$	2,409,679
Wholesale Non-Apparel		182,842			149,397			150,713
Retail		786,708			759,871			705,562
Corporate		75,560			151,923			156,599
Eliminations		(382,690	)		(411,938	)		(389,786	)

Total assets	$	3,258,982		$	3,152,036		$	3,032,767

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

GEOGRAPHIC DATA:


	Six Months Ended				Three Months Ended
	(26 Weeks)		(26 Weeks)		(13 Weeks)		(13 Weeks)
	July 1, 2006		July 2, 2005		July 1, 2006		July 2, 2005

NET SALES:
Domestic	$	1,669,381	$	1,728,443	$	819,613	$	828,379
International		626,859		583,068		305,425		270,725

Total net sales	$	2,296,240	$	2,311,511	$	1,125,038	$	1,099,104


OPERATING INCOME:
Domestic	$	133,552	$	181,237	$	61,023	$	81,586
International		18,606		29,554		14,004		10,449

Total operating income	$	152,158	$	210,791	$	75,027	$	92,035


	July 1,		December 31,		July 2,
In thousands	2006		2005		2005

TOTAL ASSETS:
Domestic	$	2,582,918	$	1,955,142	$	1,892,981
International		676,064		1,196,894		1,139,786

Total assets	$	3,258,982	$	3,152,036	$	3,032,767

14. DERIVATIVE INSTRUMENTS

At July 1, 2006, the Company had various Canadian currency collars outstanding with a notional amount of $7.5 million, maturing through December 2006 and with values ranging between 1.1215 and 1.1900 Canadian dollars per U.S. dollar, various Canadian currency collars outstanding with a notional amount of 5.4 million Hong Kong dollars, maturing through November 2006 and with values ranging between 6.5020 and 6.8120 Hong Kong dollars per Canadian dollar and various euro currency collars outstanding with a notional amount of 372 million Hong Kong dollars, maturing through December 2006 and with values ranging between 8.75 and 10.09 Hong Kong dollars per euro. The Company had $19 million in Canadian currency collars and $37 million in euro currency collars at July 2, 2005, and $21 million in Canadian currency collars and 325 million Hong Kong Dollars in euro currency collars at year-end 2005. At the end of the second quarter of 2006, the Company also had forward contracts maturing through June 2007 to sell 9.0 million Canadian dollars for $7.7 million, to sell 7.5 million Canadian dollars for 50.0 million Hong Kong dollars and to sell 18.1 million euro for 178.3 million Hong Kong dollars. The notional value of the foreign exchange forward contracts at the end of the second quarter of 2006 was approximately $37.1 million, as compared with approximately $67 million at year-end 2005 and approximately $47.6 million at the end of the second quarter of 2005. Unrealized gains (losses) for outstanding foreign exchange forward contracts and currency options were approximately $(1.7) million at the end of the second quarter of 2006, $0.7 million at year-end 2005 and approximately $2.1 million the end of the second quarter of 2005. The ineffective portion of these trades is recognized currently in earnings and was not material for the six months ended July 1, 2006. Approximately $(1.6) million of income relating to cash flow hedges in Accumulated other comprehensive income (loss) will be reclassified into earnings in the next twelve months as the inventory is sold.

In connection with the variable rate financing under the synthetic lease agreement, the Company entered into two interest rate swap agreements with an aggregate notional amount of $40.0 million that began in January 2003 and terminated in May 2006, in order to fix the interest component of rent expense at a rate of 5.56%. The Company entered into these arrangements to hedge against potential future interest rate increases. The ineffective portion of these swaps, recognized currently in earnings, was not material for the six months ended July 1, 2006.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The Company hedges its net investment position in euro functional subsidiaries by designating the 350 million Eurobonds as a hedge of net investments. The change in the Eurobonds due to changes in currency rates is recorded to Currency translation adjustment, a component of Accumulated other comprehensive income (loss). The unrealized (loss) gain recorded to Cumulative translation adjustment was $(22.9) million for the quarter ended July 1, 2006 and $31.0 million for the quarter ended July 2, 2005. The unrealized (loss) gain recorded to Cumulative translation adjustment was $(34.2) million and $51.5 million for the six months ended July 1, 2006 and July 2, 2005, respectively.

On February 11, 2004, the Company entered into interest rate swap agreements for the notional amount of 175 million euro in connection with its 350 million Eurobonds maturing August 7, 2006. This converted a portion of the fixed rate Eurobonds interest expense to floating rate at a spread over six month EURIBOR. This is designated as a fair value hedge. The first interest rate setting occurred on August 7, 2004 and will be reset each six-month period thereafter until maturity. The favorable interest accrual was not material for the quarter and six months ended July 1, 2006.

In May 2006, the Company entered into multiple forward starting swaps to lock the underlying rate on the notional amount of 175 million euro in connection with the July 6, 2006 issuance of 350 million euro 5% Notes (see Notes 8 and 17 of Notes to Condensed Consolidated Financial Statements). These swaps were terminated on June 29, 2006 and the Company subsequently received payment of 1.0 million euro. This amount is currently recorded in Accumulated other comprehensive income (loss) and will be reclassified into earnings over the seven year term of the Notes.

15. SHARE-BASED COMPENSATION

Since July 3, 2005, the Company is recognizing the cost of all employee stock options on a straight-line attribution basis over their respective vesting periods, net of estimated forfeitures. The Company has selected the modified prospective method of transition; accordingly, prior periods have not been restated. Prior to adopting SFAS No. 123(R), the Company applied APB Opinion No. 25, and related Interpretations in accounting for its stock-based compensation plans; all employee stock options were granted at or above the grant date market price; and accordingly, no compensation cost was recognized for fixed stock option grants in prior periods.

The Company has issued stock options and restricted shares as well as shares with performance features to employees under share-based compensation plans. Stock options are issued at the current market price, subject to a three-year vesting period with a contractual term of 7-10 years. Since July 3, 2005, the Company has not changed the terms of any outstanding awards.

Compensation expense for restricted stock awards is measured at fair value on the date of grant based on the number of shares granted and the quoted market price of the Company’s common stock. Such value is recognized as expense over the vesting period of the award, net of estimated forfeitures.

The following table details the effect on net income and earnings per share “as reported” and as if compensation expense had been recorded in the three and six month periods in 2005 based on the fair value method under SFAS No. 123, “Accounting for Stock-Based Compensation” (“pro forma”). The reported and pro forma net income and earnings per share for the three and six months ended July 1, 2006 are the same since stock-based compensation expense is calculated under the provisions of SFAS No. 123(R).

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


	Six Months Ended						Three Months Ended
	(26 Weeks)			(26 Weeks)			(13 Weeks)			(13 Weeks)
In thousands except per common share data	July 1, 2006			July 2, 2005			July 1, 2006			July 2, 2005

Net income:
As reported	$	86,352		$	125,558		$	39,415		$	54,140
Add: Share-based employee compensation expense included in reported net income, net of taxes ($4,324 and $3,146 for the six months ended and $3,074 and $1,850 for the three months ended, respectively)		6,757			5,742			4,535			3,377
Less: Total share-based employee compensation expense determined under fair value based method for all awards*, net of tax		(6,757	)		(13,675	)		(4,535	)		(7,207	)

Pro forma	$	86,352		$	117,625		$	39,415		$	50,310


Basic earnings per share:
As reported	$	0.84		$	1.17		$	0.38		$	0.51
Pro forma	$	0.84		$	1.11		$	0.38		$	0.48
Diluted earnings per share:
As reported	$	0.83		$	1.15		$	0.38		$	0.50
Pro forma	$	0.83		$	1.10		$	0.38		$	0.47


*		“All awards” refers to awards granted, modified, or settled in fiscal periods beginning after December 15, 1994 — that is, awards for which the fair value was required to be measured under SFAS No. 123, net of tax ($4,324 and $7,493 for the six months ended July 1, 2006 and July 2, 2005, respectively, and $3,074 and $3,948 for the three months ended July 1, 2006 and July 2, 2005, respectively).


	Six Months Ended
Binomial Lattice Valuation Assumptions:	July 1, 2006	July 2, 2005

Weighted-average fair value of options granted	$9.56		$12.92
Expected volatility	23.1% to 39.5%		28.8% to 42.0%
Weighted-average volatility	24.4%		29.4%
Expected term (in years)	4.4		5.2
Dividend yield	0.61%		0.55%
Risk-free rate	4.4% to 4.8%		3.2% to 4.6%
Expected annual forfeiture	6.9%		9.3%

Expected volatilities are based on a term structure of implied volatility, which assumes changes in volatility over the life of an option. The Company utilizes historical optionee behavioral data to estimate the option exercise and termination rates that are used in the valuation model. The expected term represents an estimate of the period of time options are expected to remain outstanding. The expected term provided in the above table represents an option weighted-average expected term based on the estimated behavior of distinct groups of employees who received options in 2005 and 2006. The range of risk-free rates is based on a forward curve of interest rates at the time of option grant.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Stock Options

A summary of award activity under the stock option plans as of July 1, 2006 and changes during the six month period are summarized as follows:


				Weighted		Weighted Average		Aggregate
				Average Exercise		Remaining		Intrinsic Value
	Shares			Price		Contractual Term		($000)

Outstanding at December 31, 2005		7,923,930		$	30.70		6.9	$	68,637
Granted		567,274			36.62
Exercised		(1,144,391	)		26.79
Cancelled		(387,993	)		35.20

Outstanding at July 1, 2006		6,958,820		$	31.58		6.7	$	65,407


Exercisable at July 1, 2006		4,882,651		$	28.89		6.0	$	59,020

The total intrinsic value of options exercised during the six months ended July 1, 2006 and July 2, 2005 were $13.8 million and $10.3 million, respectively.

As of July 1, 2006, there were 2,076,169 stock options that were unvested. The weighted average grant date fair value per award for nonvested stock options was $11.77.

As of July 1, 2006, there was $9.6 million of total unrecognized compensation expense related to nonvested share-based compensation awards granted under the stock option plans. That expense is expected to be recognized over a weighted average period of 1.5 years. The total fair value of shares vested during the six month periods ended July 1, 2006 and July 2, 2005 was $19.8 million and $27.6 million, respectively.

Restricted Stock

A summary of award activity under the restricted stock plans as of July 1, 2006 and changes during the six month period, are summarized as follows:


				Weighted Average
	Shares			Exercise Price

Outstanding at December 31, 2005		1,228,619		$	37.88
Granted		784,825			36.08
Vested		(64,570	)		33.51
Cancelled		(244,881	)		37.42

Outstanding at July 1, 2006		1,703,993		$	37.29

As of July 1, 2006, there was $41.0 million of total unrecognized compensation expense related to nonvested share-based compensation awards granted under the restricted stock plans. That expense is expected to be recognized over a weighted average period of 2.4 years. The total fair value of shares vested during the six month period ended July 1, 2006 was $2.2 million.

16. RECENT ACCOUNTING PRONOUNCEMENTS

In March 2005, the FASB issued Interpretation No. 47, “Accounting for Conditional Asset Retirement Obligations — an interpretation of FASB Statement No. 143” (“FIN 47”). FIN 47 requires an entity to recognize a liability for the fair value of a conditional asset retirement obligation if the fair value can be reasonably estimated. A conditional asset retirement obligation is a legal obligation to perform an asset retirement activity in which the timing or method of settlement are conditional upon a future event that may or may not be within control of the entity. The Company adopted FIN 47 for the fiscal year ended December 31, 2005 and the adoption did not have a material impact on the financial position or results of operations.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

On October 6, 2005, the FASB issued FASB Staff Position (“FSP”) No. FAS 13-1 “Accounting for Rental Costs Incurred during a Construction Period.” The FASB has concluded that rental costs incurred during and after a construction period are for the right to control the use of a leased asset and must be recognized as rental expense. Such costs were previously capitalizable as construction costs if the company had a policy to do so. The FSP is effective for reporting periods beginning after December 15, 2005. The Company expects that the implementation of FSP No. FAS 13-1 will decrease Net Income by approximately $4-5 million for the fiscal year ending December 30, 2006.

On November 3, 2005, FASB issued FSP Nos. FAS 115-1 and FAS 124-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.” This FSP addresses the determination as to when an investment is considered impaired, whether that impairment is other than temporary, and the timing and measurement of an impairment loss. The FSP is required to be applied to reporting periods beginning after December 15, 2005 and was adopted by the Company in the first quarter of fiscal 2006. The adoption of this FSP did not have a material impact on its consolidated financial statements.

On November 10, 2005, the FASB issued FSP No. FAS 123(R)-3 “Transition Election Related to Accounting for Tax Effects of Share-Based Payment Awards.” This FSP provides an alternative method of calculating the excess tax benefits available to absorb tax deficiencies recognized subsequent to the adoption of SFAS No. 123(R). The Company has until November 2006 to make a one-time election to adopt the transition method described in FSP No. FAS 123(R)-3. The Company is currently evaluating this FSP; the one-time election is not expected to affect operating income or net earnings.

On February 3, 2006, the FASB issued FSP No. FAS 123(R)-4 “Classification of Options and Similar Instruments Issued as Employee Compensation That Allow for Cash Settlement upon the Occurrence of a Contingent Event.” This FSP amends SFAS No. 123(R), addressing cash settlement features that can be exercised only upon the occurrence of a contingent event that is outside the employee’s control. These instruments are not required to be classified as a liability until it becomes probable that the event will occur. The Company adopted this FSP in the second quarter of 2006. The implementation did not have an effect on the results of operations or financial position.

On April 13, 2006, the FASB issued FSP No. FIN 46(R)-6, “Determining the Variability to Be Considered in Applying FASB Interpretation No. 46(R),” which requires the use of a “by design” approach for determining whether an interest is variable when applying FASB Interpretation No. 46, “Consolidation of Variable Interest Entities.” This approach includes evaluating whether an interest is variable based on a thorough understanding of the design of the potential variable interest entity (“VIE”), including the nature of the risks that the potential VIE was designed to create and pass along to interest holders in the entity. The guidance in this FSP is effective for reporting periods beginning after June 15, 2006. The Company will adopt the guidance presented in this FSP in the third quarter of 2006 on a prospective basis. The Company does not expect the adoption of this FSP to have a material impact on the results of operations or financial position.

On July 13, 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109” (“FIN 48”), which clarifies the accounting for uncertainty in tax positions. This Interpretation requires recognition in the financial statements of the impact of a tax position, if that position is more likely than not of being sustained on audit, based on the technical merits of the position. The provisions of FIN 48 are effective for the 2007 fiscal year with the cumulative effect of the change in accounting principle recorded as an adjustment to opening balance of retained earnings. The Company is currently evaluating the impact of adopting FIN 48 on the consolidated financial statements.

LIZ CLAIBORNE, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

17. SUBSEQUENT EVENT

On July 6, 2006, the Company completed the issuance of 350 million euro 5% Notes due July 8, 2013 (the “Notes”). The net proceeds of the offering are intended to refinance the Company’s outstanding 350 million euro 6.625% Notes due August 7, 2006, which were originally issued on August 7, 2001 (see Note 8 of Notes to Condensed Consolidated Financial Statements), and for general corporate purposes. The Notes bear interest from and including July 6, 2006, payable annually in arrears on July 8 of each year beginning on July 8, 2007. The Notes have been listed on the Luxembourg Stock Exchange and received a credit rating of BBB from Standard & Poor’s and Baa2 from Moody’s Investor Services.

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

OVERVIEW

Business/Segments

We operate the following business segments: Wholesale Apparel, Wholesale Non-Apparel and Retail.

•		Wholesale Apparel consists of women’s, men’s and children’s apparel designed and marketed worldwide under various trademarks owned by the Company or licensed by the Company from third-party owners. This segment includes our better apparel (LIZ CLAIBORNE, CLAIBORNE (men’s), CITY UNLTD., INTUITIONS, MAC & JAC, MEXX and SIGRID OLSEN), bridge priced (DANA BUCHMAN and ELLEN TRACY), our mid-tier brands (AXCESS, BELONGINGS, CRAZY HORSE, FIRST ISSUE, METROCONCEPTS, STAMP 10, TINT and VILLAGER), moderate brands (EMMA JAMES, J.H. COLLECTIBLES and TAPEMEASURE), denim/street wear (ENYCE and LUCKY BRAND DUNGAREES), contemporary sportswear (JUICY COUTURE, C & C CALIFORNIA, KENZIE, KENZIEGIRL and LAUNDRY BY SHELLI SEGAL), active wear (prAna) businesses, as well as our licensed DKNY^® JEANS and DKNY^® ACTIVE businesses.

•		Wholesale Non-Apparel consists of handbags, small leather goods, fashion accessories, jewelry and cosmetics designed and marketed worldwide under certain of the above listed and other owned or licensed trademarks, including our MONET, TRIFARI and MARVELLA labels and our licensed KENNETH COLE label.

•		Retail consists of our worldwide retail operations that sell most of these apparel and non-apparel products to the public through our 324 outlet stores, 348 specialty retail stores and 640 international concession stores (where the retail selling space is either owned and operated by the department store in which the retail selling space is located, or leased and operated by a third party, while, in each case, the Company owns the inventory), and our e-commerce sites. This segment includes specialty retail and outlet stores operating under the following formats: MEXX, LUCKY BRAND DUNGAREES, LIZ CLAIBORNE, ELISABETH, DKNY^® JEANS, DANA BUCHMAN, ELLEN TRACY, SIGRID OLSEN, MONET, LAUNDRY BY SHELLI SEGAL, JUICY COUTURE and YZZA.

The Company, as licensor, also licenses to third parties the right to produce and market products bearing certain Company-owned trademarks. The resulting royalty income is included in the line “Sales from external customers” under the caption “Corporate/Eliminations” in Note 13 of Notes to Condensed Consolidated Financial Statements.

Competitive Profile

We operate in global fashion markets that are intensely competitive. Our ability to continuously evaluate and respond to changing consumer demands and tastes, across multiple markets, distribution channels and geographies, is critical to our success. Although our brand portfolio approach is aimed at diversifying our risks in this regard, misjudging shifts in consumer preferences could have a negative effect. Other key aspects of competition include quality, brand image, market share, distribution methods, price, size and location of selling space, customer service and intellectual property protection. Our size and global operating strategies help us to compete successfully by positioning us to take advantage of synergies in product design, development, sourcing and distribution of our products throughout the world. We believe we owe much of our success to our ability to identify strategic acquisitions, our ability to grow our existing businesses, including the creation of internally developed brands, as well as the continued expansion of our retail business, to our product designs and to our leveraging our competencies in technology and supply chain management for the benefit of existing and new (both acquired and internally developed) businesses.

Consumers are continuing to migrate away from traditional department stores, turning instead to specialty retailers, national chains and off-price retailers. This factor, combined with the complexities and unknown impacts of the ongoing retail industry consolidation, including the post-merger integration and rationalization of Federated Department Stores and May Company, the uncertainty regarding the Sears apparel business and internal distractions of certain other retailers, present a multitude of challenges in the sector. As our larger department store customers continue to focus on inventory productivity and product differentiation to gain competitive market share, they continue to execute their buying activities very cautiously. This conservative operating environment adversely impacts our domestic wholesale apparel business. In response to this challenging business climate, we are focusing our investment on trending categories and trending businesses including the further expansion into specialty retail

where we plan to open approximately 100 new domestic and international retail locations in 2006. In addition, we are developing strategies and initiatives to address those businesses that are underperforming to be more responsive to our customers.

Currently, we are in the process of streamlining our operations to increase efficiency in managing our multi-brand and multi-channel portfolio and more closely align our businesses with customer and consumer needs. These efforts include the redeployment of resources in order to better capitalize on the compelling growth opportunities across a number of our brands. As announced in early February 2006, we expect to record charges related to this initiative totaling approximately $60 million. For the six months ended July 1, 2006, we recorded approximately $37 million. We expect the remaining amount totaling approximately $23 million will be recorded in the third and fourth quarters of 2006. We expect a net reduction of approximately 500 positions, or about 4% of our global work force. In addition, we intend to rationalize select distribution facilities and office space as well as close or repurpose approximately 20 retail stores.

We expect that the challenges of our retail partners will continue over the near term and the conservative approach to planning inventory levels will continue to be a major focus. Retailers will turn to wholesalers who can respond quickly to market trends allowing those retailers to maintain lean retail inventory stock levels of faster turning differentiated products. We believe that our technology coupled with our modern business models and evolving supply chain enable us to partner with our customers, and to quickly identify and enable them to reorder those items that are trending well with customers and appeal to consumers. In order to make decisions faster and deliver products to market more quickly, we are establishing several new process models that will help our teams work more rapidly across time zones, including the opening of a new design resource center in Hong Kong.

We have also diversified geographically, with our international operations representing over 27% of total Company net sales for the quarter and year-to-date period ended July 1, 2006. We view the international markets as an important area of growth for us as we continue to build the capability to launch brands from our domestic portfolio, and evaluate business development opportunities, in markets outside of the United States. Additionally, we will continue to focus on our rigorous internal inventory control management activities as well as our process improvement and expense control initiatives.

In summary, our success in the future will depend on our ability to continue to design and execute products that are acceptable to the marketplaces that we serve, to source the manufacture of our products on a competitive basis and to leverage our technology competencies. We remain convinced that a multi-brand, multi-channel strategy speaks to our vision to support future and sustained growth.

Reference is also made to the other economic, competitive, governmental and technological factors affecting the Company’s operations, markets, products, services and prices as are set forth under “Statement Regarding Forward-Looking Disclosure” below and in our 2005 Annual Report on Form 10-K, including, without limitation, those set forth under the heading “Item 1A- Risk Factors.”

2006 First Half Overall Results

Net Sales

Net sales for the first half of 2006 were $2.296 billion, a decrease of $15.3 million, or 0.7%, compared to 2005 first half net sales. The sales results reflect a decrease in our domestic wholesale apparel business primarily resulting from decreases in our LIZ CLAIBORNE apparel business as well as our Men’s apparel, DANA BUCHMAN, SIGRID OLSEN and ELLEN TRACY businesses, partially offset by increased sales in our direct to consumer retail businesses and our European wholesale businesses. The impact of foreign currency exchange rates, primarily as a result of the weakening of the euro, in our international businesses, reduced sales by approximately $15.1 million during the first half of 2006.

Gross Profit and Net Income

Our gross profit increased slightly in the first half of 2006 reflecting an increased gross profit rate in our retail segment and the impact of a changing mix within our portfolio, primarily reflecting an increased proportion of sales from our retail segment, which runs at a higher gross profit rate than the Company average and a decreased proportion of sales from our wholesale apparel segment, which runs at a lower gross profit rate than the Company average, partially offset by a decreased gross profit rate in our wholesale apparel segment. Overall net income

decreased to $86.4 million in the first half of 2006 from $125.6 million in the first half of 2005, reflecting approximately $36.6 million of pretax expenses associated with our streamlining initiatives, $11.2 million of pretax expense resulting from the adoption of SFAS No. 123(R) and the shift in the composition of our equity-based management compensation program as well as the impact of decreased sales in our domestic wholesale businesses.

Balance Sheet

Our financial position continues to be strong. We ended the first half of 2006 with a net debt position of $471.2 million and a total debt to total capital ratio of 22.7% as compared to $325.3 million with a debt to total capital ratio of 21.2% in the first half of 2005. We generated $443.8 million in cash from operations over the past twelve months, which enabled us to fund the acquisitions of prAna and Mac & Jac, the purchase of an additional 1.9 percent of Lucky Brand, the final payment to settle the C & C California contingent payment agreement, the $80.3 million advance against the contingent purchase price paid to Juicy Couture’s sellers, payments of $45.8 million made to prAna as additional purchase price, the repurchase of $224.6 million of shares of common stock, and fund our capital expenditures of $176.0 million, while increasing our net debt by only $145.9 million. The effect of foreign currency translation on our Eurobond increased our debt balance by $23.7 million.

International Operations

In the first half of 2006, international sales represented 27.3% of our overall sales, as compared to 25.2% in the first half of 2005. We expect our international sales to continue to represent an increasingly higher percentage of our overall sales volume as a result of further anticipated growth in our MEXX Europe business and from the launch of a number of our current domestic brands in Europe including LUCKY BRAND, JUICY COUTURE AND ENYCE. Accordingly, our overall results can be greatly impacted by changes in foreign currency exchange rates. Sales in the first half of 2006 were $15.1 million lower due to the impact of foreign currency exchange rates. This trend has reduced our sales results and earnings in light of the growth of our MEXX Europe business. Year-over-year weakening of the euro had the effect of reducing inventory, accounts receivable and debt balances in our European business. The decline in the euro has been somewhat offset by the strengthening of the Canadian dollar against the U.S. dollar, positively impacting the results in our Canadian businesses. Although we use foreign currency forward contracts and options to hedge against our exposure to exchange rate fluctuations affecting the actual cash flows associated with our international operations, unanticipated shifts in exchange rates could have an impact on our financial results.

Recent Acquisitions

On January 26, 2006, we acquired 100 percent of the equity interests of Westcoast Contempo Fashions Limited and Mac & Jac Holdings Limited which collectively design, market and sell the Mac & Jac, Kenzie and Kenziegirl apparel lines (“Mac & Jac”). Based in Vancouver, Canada and founded in 1985, Mac & Jac is a designer, marketer, wholesaler and retailer of premium apparel for women and men through its Mac & Jac brands. The purchase price totaled 26.2 million Canadian dollars (or $22.7 million), which includes the retirement of debt at closing and fees, plus contingent payments to be determined based upon a multiple of Mac & Jac’s earnings in fiscal years 2006, 2008, 2009, and 2010. A valuation of the trademarks, trade names and customer relationships of Mac & Jac is currently in process. We currently estimate that the aggregate of the contingent payments will be in the range of approximately $11-20 million and will be accounted for as additional purchase price when paid. Unaudited pro forma information related to this acquisition is not included, as the impact of this transaction is not material to our consolidated results.

On November 18, 2005, we acquired 100 percent of the equity interest of Skylark Sport Marketing Corporation, doing business as prAna (“prAna”). Based in California and established in 1993, prAna is a designer, marketer and wholesaler of climbing, yoga and outdoor/active lifestyle apparel and accessories. The purchase price totaled $45.8 million, consisting of an initial payment, the assumption of debt and fees (including $13.5 million paid in 2006 primarily consisting of tax-related purchase price adjustments) plus contingent payments to be determined based upon a multiple of prAna’s earnings in fiscal years 2008, 2009 and 2010. We currently estimate that the aggregate of the contingent payments will be in the range of approximately $47-53 million. The contingent payments will be accounted for as additional purchase price when paid. On a preliminary basis, we allocated $16.7 million of purchase price to the value of trademarks and trade names associated with the business, and $11.4 million has been allocated to the value of customer relationships. The trademarks and trade names as well as goodwill of $13.4 million are deemed to have an indefinite life and are subject to an annual test for impairment. The value of customer

relationships is being amortized over 8 years. Unaudited pro forma information related to this acquisition is not included, as the impact of this transaction is not material to our consolidated results.

Unaudited pro forma information on an aggregate basis for the above acquisitions is not included, as the impact of these transactions is not material to our consolidated results.

On January 6, 2005, we acquired 100 percent of the equity interest of C & C California, Inc. (“C & C”). Based in California and founded in 2002, C & C is a designer, marketer and wholesaler of premium apparel for women, men and children through its C & C California brand. C & C sells its products primarily through select specialty stores as well as through international distributors in Canada, Europe and Asia. The purchase price consisted of an initial payment of $29.2 million, including fees, plus contingent payments based upon a multiple of C & C’s earnings in fiscal years 2007, 2008 and 2009. On May 2, 2006, the Company and the sellers of C & C agreed to settle the contingent payment agreement based on a projection of earnings for 2007, 2008 and 2009. This payment, which totaled $16.3 million, was made in cash and was accounted for as additional purchase price. We utilize various valuation methods to determine the fair value of acquired tangible and intangible assets. For inventory, the method considers the expected selling price of finished goods and intangible assets acquired are valued using a discounted cash flow model. We allocated $7.6 million of purchase price to the value of trademarks and trade names associated with the business, and $10.6 million has been allocated to the value of customer relationships. The trademarks and trade names have been classified as having finite lives and will be amortized over their estimated useful life of 20 years. Goodwill of $25.7 million is deemed to have an indefinite life and is subject to an annual test for impairment. The value of customer relationships is being amortized over periods ranging from 10 to 20 years. Unaudited pro forma information related to this acquisition is not included, as the impact of this transaction is not material to our consolidated results.

On April 7, 2003, we acquired 100 percent of the equity interest of Juicy Couture, Inc. (formerly, Travis Jeans, Inc.) (“Juicy Couture”), a privately held fashion apparel company. The total purchase price consisted of: (a) a payment, including the assumption of debt and fees, of $53.1 million, and (b) a contingent payment to be determined as a multiple of Juicy Couture’s earnings for one of the years ended 2005, 2006 or 2007. The selection of the measurement year for the contingent payment is at either party’s option. In March of 2005, the contingent payment agreement was amended to include an advance option for the sellers providing that (i) if the 2005 measurement year is not selected, the sellers may elect to receive up to 70 percent of the estimated contingent payment based upon 2005 results; (ii) if the 2005 and 2006 measurement years are not selected, the sellers are eligible to elect to receive up to 85 percent of the estimated contingent payment based on the 2006 measurement year net of any 2005 advances. In April 2006, the sellers elected to receive a 70 percent advance against the contingent purchase price and were paid $80.3 million on April 20, 2006. The payment was accounted for as additional purchase price and an increase to goodwill. We estimate that if the 2006 measurement year is selected, the remaining contingent payment would be in the range of approximately $25-30 million. The contingent payment will be accounted for as additional purchase price when paid. We utilize various valuation methods to determine the fair value of acquired tangible and intangible assets. For inventory, the method considers the expected selling price of finished goods and intangible assets acquired are valued using a discounted cash flow model. We allocated $27.3 million of purchase price to the value of trademarks and trade names associated with the business. The trademarks and trade names have been classified as having indefinite lives and are subject to an annual test for impairment.

On July 9, 2002, we acquired 100 percent of the equity interest of Mexx Canada, Inc., a privately held fashion apparel and accessories company (“Mexx Canada”). The total purchase price consisted of: (a) an initial cash payment made at the closing date of $15.2 million; (b) a second payment made at the end of the first quarter 2003 of 26.4 million Canadian dollars (or $17.9 million); and (c) a contingent payment to be determined as a multiple of Mexx Canada’s earnings and cash flow performance for the year ended either 2004 or 2005. The fair market value of assets acquired was $20.5 million and liabilities assumed were $17.7 million resulting in initial goodwill of $29.6 million. In December 2004, the 2004 measurement year was selected by the seller for the calculation of the contingent payment. The contingency was settled on April 26, 2005 for 45.3 million Canadian dollars (or $37.1 million). The contingent payment was accounted for as additional purchase price and an increase in goodwill.

On June 8, 1999, we acquired 85.0 percent of the equity interest of Lucky Brand Dungarees, Inc. (“Lucky Brand”), whose core business consists of the Lucky Brand Dungarees line of women’s and men’s denim-based sportswear. The acquisition was accounted for using the purchase method of accounting. The total purchase price consisted of a cash payment made at the closing date of approximately $85 million and a payment made in April 2003 of $28.5 million. An additional payment of $12.7 million was made in 2000 for tax-related purchase price adjustments. On January 28, 2005, we entered into an agreement to acquire the remaining 15 percent of Lucky Brand shares that

were owned by the sellers of Lucky Brand for aggregate consideration of $65.0 million, plus a contingent payment for the final 2.25 percent based upon a multiple of Lucky Brand’s 2007 earnings. On January 17, 2006 and January 28, 2005, we paid $10.0 million and $35.0 million, respectively, for 1.9 percent and 8.25 percent, respectively of the equity interest of Lucky Brand. The excess of the amount paid over the related amount of minority interest has been recorded to goodwill. In January 2007 and 2008, we will acquire 1.5 percent and 1.1 percent of the equity interest of Lucky Brand for payments of $10.0 million each. We recorded the present value of fixed amounts owed ($19.4 million) as an increase in Accrued Expenses and Other Non-Current Liabilities. As of July 1, 2006, the excess of the liability recorded over the related amount of minority interest has been recorded as goodwill. In June 2008, we will acquire the remaining 2.25 percent minority share for an amount based on a multiple of Lucky Brand’s 2007 earnings, which management estimates will be in the range of $22-25 million.

Share-Based Compensation

On July 3, 2005, we adopted Statement of Financial Accounting Standards (“SFAS”) No. 123(R) “Share-Based Payment” requiring the recognition of compensation expense in the Condensed Consolidated Statements of Income related to the fair value of our employee share-based awards including stock options as well as restricted stock. SFAS No. 123(R) revises SFAS No. 123 “Accounting for Stock-Based Compensation” and supersedes Accounting Principles Board (“APB”) Opinion No. 25 “Accounting for Stock Issued to Employees.”

Since July 3, 2005, we are recognizing the cost of all employee stock options on a straight-line attribution basis over their respective vesting periods, net of estimated forfeitures. We have selected the modified prospective method of transition; accordingly, prior periods have not been restated. We have not modified any unvested awards. We have migrated our equity-based management compensation program toward an emphasis on restricted stock and away from stock options issuing restricted shares to a larger group of employees commencing in 2005. We expensed $3.1 million and $5.0 million of restricted stock awards in the second quarter and first half of 2006, respectively for awards issued in 2005 and March 2006. Approximately $41.0 million of restricted stock awards as of July 1, 2006, will be expensed through 2010. Prior to adopting SFAS No. 123(R), we applied APB Opinion No. 25 and related Interpretations in accounting for our stock-based compensation plans; all employee stock options were granted at or above the grant date market price and accordingly, no compensation cost was recognized for fixed stock option grants in prior periods. In the second quarter and first half of 2006, we expensed $3.3 million and $6.3 million, respectively related to stock options; approximately $9.6 million of outstanding stock option awards will be expensed through 2009.

We selected a Binomial lattice-pricing model for estimating the fair value of options granted in 2005 and 2006. Options granted in prior periods were valued using a Black-Scholes option-pricing model. The selection of a Binomial model was made in order to provide a better estimate of fair value since the Binomial model is a more flexible analysis to value employee stock options than the Black-Scholes model. The flexibility of the simulated Binomial model stems from the ability to incorporate inputs that change over time, such as volatility and interest rates, and to allow for actual exercise behavior of option holders.

RESULTS OF OPERATIONS

We present our results based on the three business segments discussed in the Overview section, as well as on the following geographic basis based on selling location:

•		Domestic: wholesale customers, Company specialty retail and outlet stores located in the United States, and our e-commerce sites; and

•		International: wholesale customers and Company specialty retail, outlet stores and concession stores located outside of the United States, primarily in our European and Canadian operations.

All data and discussion with respect to our specific segments included within this “Management’s Discussion and Analysis of Financial Condition and Results of Operations” is presented after applicable intercompany eliminations.

THREE MONTHS ENDED JULY 1, 2006 COMPARED TO THREE MONTHS ENDED JULY 2, 2005

The following table sets forth our operating results for the three months ended July 1, 2006 (comprised of 13 weeks) compared to the three months ended July 2, 2005 (comprised of 13 weeks):


	Three months ended						Variance
Dollars in millions	July 1, 2006			July 2, 2005			$			%


Net Sales	$	1,125.0		$	1,099.1		$	25.9			2.4	%

Gross Profit		548.5			529.4			19.1			3.6	%

Selling, general & administrative expenses		473.5			437.4			36.1			8.3	%

Operating Income		75.0			92.0			(17.0	)		(18.5	)%

Other income (expense) — net		(0.3	)		(0.4	)		0.1			25.0	%

Interest (expense) — net		(8.6	)		(7.8	)		(0.8	)		(10.3	)%

Provision for income taxes		26.7			29.7			(3.0	)		(10.1	)%

Net Income	$	39.4		$	54.1		$	(14.7	)		(27.2	)%

Net Sales

Net sales for the second quarter of 2006 were $1.125 billion, an increase of $25.9 million, or 2.4%, over net sales for the second quarter of 2005. The impact of foreign currency exchange rates, primarily as a result of the strengthening of the Canadian dollar, in our international businesses increased net sales by approximately $5.9 million in the second quarter. Net sales results for our business segments are provided below:

•

Wholesale Apparel net sales decreased $29.9 million, or 4.6%, to $623.3 million as a result of:

	-		A $37.3 million net decrease across our Wholesale Apparel businesses (excluding sales to the off-price channel) primarily reflecting a decrease in our domestic LIZ CLAIBORNE business (resulting from lower unit volume and, to a lesser extent, lower unit pricing due to the factors discussed above in “Competitive Profile”), and decreases in our CRAZY HORSE women’s (resulting from lower volume due to reduced demand), CLAIBORNE (due to lower unit volume), ELLEN TRACY and DANA BUCHMAN (due to the discontinuation of special sizes and a shift in demand toward more modern offerings), LUCKY BRAND (due to lower unit volume) and SIGRID OLSEN (resulting from lower volume due to reduced distribution and reduced demand) businesses, partially offset by growth in our ENYCE (due to increased demand and increased distribution), MEXX Europe business (due to volume growth primarily in Eastern Europe and new specialty retail customers), growth in our moderate businesses (due to higher unit volume, most notably growth in our J.H. COLLECTIBLES due to higher unit volume among existing customers and the addition of new retail customers and the launch of TAPEMEASURE) and DKNY^® Jeans women’s (due to volume growth in petite sizes) businesses and the recent launch of STAMP 10;

	-		$16.8 million of sales from our acquired prAna and MAC & JAC businesses;

	-		An $11.1 million decrease resulting from reduced sales to the off-price channel; and

	-		A $1.7 million increase resulting from the impact of foreign currency exchange rates in our international businesses.

•

Wholesale Non-Apparel net sales increased $12.0 million, or 8.5%, to $153.4 million.

	-		A $7.1 million increase in our cosmetics business primarily resulting from the launch of our new ELLEN TRACY fragrance; and

	-		A $4.0 million net increase in our accessories and jewelry businesses resulting primarily from increases in our AXCESS, LUCKY BRAND, SIGRID OLSEN and JUICY COUTURE businesses.

	-		The impact of foreign currency exchange rates in our international business was not material in this segment.

•

Retail net sales increased $43.4 million, or 14.7%, to $337.8 million. The increase reflected the following:

A $39.4 million net increase driven by the net addition over the last 12 months of 65 specialty retail and 21 outlet stores, reflecting in part the opening of 29 LUCKY BRAND, 20 SIGRID OLSEN, 12 ELISABETH

			and 5 JUICY COUTURE specialty retail stores, and 14 MEXX and 10 LIZ CLAIBORNE outlet stores in the United States, Canada and Europe;

	-		A $4.0 million increase resulting from the impact of foreign currency exchange rates primarily as a result of the strengthening of the Canadian dollar, in our international businesses; and

	-		Comparable store sales in our Company-operated stores increased by 1.8% overall, primarily the result of a 6.3% increase in our Specialty Retail business partially offset by a 2.1% decrease in our Outlet business.

We ended the quarter with a total of 324 Outlet stores, 348 Specialty Retail stores and 640 international concession stores. Comparable store sales are calculated as sales from existing stores, plus new stores, less closed stores as follows: new stores become comparable after 15 full months of being open. Closed stores become non-comparable one month before they close. If a store undergoes renovations and increases or decreases substantially in size as the result of renovations, it becomes non-comparable. If a store is relocated, stays the same size, and has no interruption of selling, then the store remains comparable. If, however, a location change causes a significant increase or decrease in size, then the location becomes non-comparable. Stores that are acquired are not considered comparable until they have been reflected in our results for a period of 12 months. Comparable store sales do not include concession sales.

•

Corporate net sales, consisting of licensing revenue, increased $0.5 million to $10.6 million as a result of revenues from new licenses and growth from our existing license portfolio.

Viewed on a geographic basis,Domestic net sales decreased by $8.8 million, or 1.1%, to $819.6 million, reflecting the continued declines in our LIZ CLAIBORNE wholesale apparel business, partially offset by increases in our specialty retail business.International net sales increased $34.7 million, or 12.8 %, to $305.4 million. The international increase reflected the results of our MEXX Europe business; the impact of currency exchange rates increased international sales by approximately $5.9 million.

Gross Profit

Gross profit increased $19.1 million, or 3.6%, to $548.5 million in the second quarter of 2006 over the second quarter of 2005. The impact of foreign currency exchange rates, primarily as a result of the strengthening of the Canadian dollar, in our international businesses, increased gross profit by $3.1 million. Gross profit as a percent of net sales increased to 48.8% in 2006 from 48.2% in 2005 reflecting increased gross profit rates in our wholesale non-apparel and retail segments and the impact of a changing mix within our portfolio, primarily reflecting an increased proportion of sales from our retail segment, which runs at a higher gross profit rate than the Company average and a decreased proportion of sales from our wholesale apparel segment, which runs at a lower gross profit rate than the Company average, partially offset by a decreased gross profit rate in our wholesale apparel segment. Warehousing activities including receiving, storing, picking, packing and general warehousing charges are included in Selling, general & administrative expenses (“SG&A”); accordingly, our gross profit may not be comparable to others who may include these expenses as a component of cost of goods sold.

Selling, General & Administrative Expenses

SG&A increased $36.1 million, or 8.3%, to $473.5 million in the second quarter of 2006 over the second quarter of 2005 and as a percent of net sales increased to 42.1% from 39.8%. The SG&A increase reflected the following:

•		$6.7 million of expenses from our acquired prAna and MAC & JAC businesses;

•		A $23.1 million increase primarily resulting from the expansion of our domestic and international retail businesses;

•		A $2.5 million increase due to the impact of foreign currency exchange rates, primarily as a result of the strengthening of the Canadian dollar, in our international businesses;

•		$11.5 million of expenses primarily employee severance costs offset by savings of $6.4 million associated with our streamlining initiatives;

•		$3.0 million of reinvestment in marketing and in-store activities of realized savings from our growth initiative;

•		An additional $3.8 million of expense resulting from the adoption of SFAS No. 123(R) and the shift in the composition of our equity-based management compensation program; and

•		An $8.1 million net decrease in wholesale and corporate expenses.

The SG&A rate primarily reflected net expenses associated with our business streamlining initiatives and the increased proportion of expenses related to our retail segment, which runs at a higher SG&A rate than the Company average, as described above, in addition to reduced expense leverage resulting from the decreased proportion of expenses related to our wholesale apparel segment, which runs at a lower SG&A rate than the Company average as well as higher SG&A rates in our wholesale apparel, wholesale non-apparel and retail segments in 2006 compared to 2005.

Operating Income

Operating income for the second quarter of 2006 was $75.0 million, a decrease of $17.0 million, or 18.5%, compared to last year. Operating income as a percent of net sales decreased to 6.7% in 2006 compared to 8.4% in 2005. The decrease is primarily attributable to $11.5 million of expenses associated with our business streamlining initiatives discussed above, $3.0 million of reinvestment in marketing and in-store activities, the impact of reduced wholesale apparel sales, expenses associated with retail expansion and the inclusion of additional expense related to the adoption of SFAS No. 123(R), partially offset by $6.4 million of savings resulting from the initiatives discussed above. The impact of foreign currency exchange did not have a material impact on operating income for the quarter. Operating income by business segment is provided below:

•		Wholesale Apparel operating income was $19.9 million (3.2% of net sales) in 2006 compared to $43.4 million (6.6% of net sales) in 2005, principally reflecting reduced income in our DANA BUCHMAN, SIGRID OLSEN, CRAZY HORSE women’s, JUICY COUTURE and LUCKY BRAND DUNGAREES wholesale apparel businesses and associated with our streamlining initiatives, partly offset by increased income in our ENYCE business.

•		Wholesale Non-Apparel operating income was $14.8 million (9.7% of net sales) in 2006 compared to $14.7 million (10.4% of net sales) in 2005, principally reflecting reduced income in our fashion accessories business as well as expenses associated with our streamlining initiatives, mostly offset by increases in our Cosmetics business.

•		Retail operating income was $31.3 million (9.3% of net sales) in 2006 compared to a $26.6 million (9.0% of net sales) in 2005, principally reflecting, increased income in our specialty retail business, partially offset by reduced income in our outlet business due to reduced sales and expenses associated with our streamlining initiatives.

•		Corporate operating income, primarily consisting of licensing operating income, increased $1.6 million to $9.0 million as a result of increased revenues from our new licenses and growth from our existing license portfolio and expense reductions.

Viewed on a geographic basis,Domestic operating income decreased by $20.6 million, or 25.2%, to $61.0 million, predominantly reflecting the reduced income in our domestic wholesale apparel and outlet businesses and the expenses associated with our streamlining initiatives.International operating profit increased $3.6 million or 34.0% to $14.0 million. The international increase reflected the increased profitability in our European retail business.

Other Income (Expense), Net

Other income (expense), net in the second quarter of 2006 was $0.3 million of expense compared to $0.4 million in the second quarter of 2005. In 2006, net other expense was comprised of $0.3 million of minority interest. See “Financial Position, Capital Resources and Liquidity — Commitments and Capital Expenditures,” below, for discussion of the purchase of the remaining Lucky Brand minority interest. In 2005, net other expense was principally comprised of $0.4 million of minority interest expense, partially offset by other non-operating income.

Interest Expense, Net

Net interest expense in the second quarter of 2006 was $8.6 million compared to $7.8 million in the second quarter of 2005, both of which were principally related to borrowings incurred to finance our strategic initiatives, including acquisitions. Net interest expense includes $0.9 million and $0.3 million of interest income in second quarter of 2006 and 2005, respectively.

Provision for Income Taxes

The income tax rate in the second quarter of 2006 increased to 40.4% from 35.4% in the prior year period primarily due to the impact of discrete tax items in the second quarter as well as a shift in earnings to jurisdictions with higher statutory tax rates.

Net Income

Net income in the second quarter of 2006 decreased to $39.4 million, or 3.5% of net sales, from $54.1 million in the second quarter of 2005, or 4.9% of net sales. Diluted earnings per common share (“EPS”) decreased to $0.38 in 2006, from $0.50 in 2005, a 24.0% decrease.

Average diluted shares outstanding decreased by 4.5 million shares to 103.9 million in the second quarter of 2006 on a period-to-period basis, as a result of the repurchases of common shares, partially offset by the exercise of stock options and the effect of dilutive securities. Shares repurchased during the second quarter of 2006 and over the last twelve months did not have a material impact on EPS in the second quarter.

SIX MONTHS ENDED JULY 1, 2006 COMPARED TO SIX MONTHS ENDED JULY 2, 2005

The following table sets forth our operating results for the six months ended July 1, 2006 (comprised of 26 weeks) compared to the six months ended July 2, 2005 (comprised of 26 weeks):


	Six months ended						Variance
Dollars in millions	July 1, 2006			July 2, 2005			$			%


Net Sales	$	2,296.2		$	2,311.5		$	(15.3	)		(0.7	)%

Gross Profit		1,092.5			1,087.7			4.8			0.4	%

Selling, general & administrative expenses		940.4			876.9			63.5			7.2	%

Operating Income		152.1			210.8			(58.7	)		(27.8	)%

Other income (expense) — net		3.1			(1.1	)		4.2			381.8	%

Interest (expense) — net		(15.7	)		(15.3	)		(0.4	)		(2.6	)%

Provision for income taxes		53.1			68.8			(15.7	)		(22.8	)%

Net Income	$	86.4		$	125.6		$	(39.2	)		(31.2	)%

Net Sales

Net sales for the first half of 2006 were $2.296 billion, a decrease of $15.3 million, or 0.7%, as compared to net sales for the first half of 2005. The impact of foreign currency exchange rates, primarily as a result of the weakening of the euro, in our international businesses reduced sales by approximately $15.1 million, or 0.7%, in the second quarter. Net sales results for our business segments are provided below:

•

Wholesale Apparel net sales decreased $82.0 million, or 5.6%, to $1.381 billion as a result of:

	-		A $77.7 million net decrease across our comparable Wholesale Apparel businesses (excluding sales to the off-price channel) primarily reflecting a decrease in our domestic LIZ CLAIBORNE business (resulting from lower unit volume and, to a lesser extent, lower unit pricing due to the factors discussed above in “Competitive Profile”), and decreases in our CRAZY HORSE women’s (resulting from lower volume due to reduced demand), CLAIBORNE (due to lower unit volume), ELLEN TRACY and DANA BUCHMAN (due to the discontinuation of special sizes and a shift in demand toward more modern offerings), LUCKY BRAND (due to lower unit volume) and SIGRID OLSEN (resulting from lower volume due to reduced demand) businesses, partially offset by growth in our ENYCE (due to timing of shipments and increased distribution), MEXX Europe (due to volume growth primarily in Eastern Europe and new specialty retail customers), moderate businesses (due to higher unit volume, most notably growth in our J.H. COLLECTIBLES due to higher unit volume among existing customers and the addition of new retail customers and the launch of TAPEMEASURE) and DKNY^® Jeans women’s (due to volume growth in petite sizes) businesses and the recent launch of STAMP 10;

	-		$33.4 million of sales from our acquired prAna and MAC & JAC businesses;

	-		A $26.8 million decrease resulting from reduced sales to the off-price channel; and

	-		A $10.9 million decrease resulting from the impact of foreign currency exchange rates in our international businesses.

•

Wholesale Non-Apparel net sales increased $13.5 million, or 4.9%, to $291.6 million.

	-		A $14.5 million increase compared to 2005, in our accessories and jewelry businesses (excluding sales to the off-price channel) resulting primarily from increases in our AXCESS, JUICY COUTURE and LUCKY BRAND businesses;

	-		A $4.1 million increase compared to 2005, in our cosmetics business (excluding sales to the off-price channel) primarily resulting from the launch of our ELLEN TRACY fragrance; and

	-		A $5.0 million decrease, compared to 2005, resulting from reduced sales to the off-price channel.

	-		The impact of foreign currency exchange rates in our international business was not material in this segment.

•

Retail net sales increased $52.1 million, or 9.5%, to $602.0 million. The increase reflected the following:

	-		A $56.3 million net increase driven by the net addition over the last 12 months of 65 specialty retail and 21 outlet stores, reflecting in part the opening of 29 LUCKY BRAND, 20 SIGRID OLSEN, 11 MEXX and 5 JUICY COUTURE specialty retail stores, and 14 MEXX and 10 LIZ CLAIBORNE outlet stores in the United States, Canada and Europe;

	-		An $4.2 million decrease resulting from the impact of foreign currency exchange rates primarily as a result of the weakening of the euro, in our international businesses; and

	-		Comparable store sales in our Company-operated stores decreased by 0.8% overall, primarily the result of an 4.9% decrease in our Outlet business, partially offset by a 3.7% increase in our Specialty Retail business (including a 5.4% comparable store sales increase in our domestic Specialty Retail business).

•

Corporate net sales, consisting of licensing revenue, increased $1.1 million to $21.8 million as a result of revenues from new licenses and growth from our existing license portfolio.

Viewed on a geographic basis,Domestic net sales decreased by $59.1 million, or 3.4%, to $1,669.4 million, reflecting the continued declines in our LIZ CLAIBORNE wholesale apparel business, partially offset by increases in our specialty retail business.International net sales increased $43.8 million, or 7.5 %, to $626.9 million. The international increase reflected the results of our MEXX Europe business; the impact of currency exchange rates reduced international sales by approximately $15.1 million.

Gross Profit

Gross profit increased $4.8 million, or 0.4 %, to $1.093 billion in the first half of 2006 over the first half of 2005. The impact of foreign currency exchange rates, primarily as a result of the weakening of the euro, in our international businesses, reduced gross profit by $8.8 million. Expenses associated with our streamlining initiatives in our Asian sourcing offices reduced gross profit by $1.1 million. Gross profit as a percent of net sales increased to 47.6% in 2006 from 47.1% in 2005. reflecting an increased gross profit rate in our retail segment and the impact of a changing mix within our portfolio, primarily reflecting an increased proportion of sales from our retail segment, which runs at a higher gross profit rate than the Company average and a decreased proportion of sales from our wholesale apparel segment, which runs at a lower gross profit rate than the Company average, partially offset by a decreased gross profit rate in our wholesale apparel segment. Warehousing activities including receiving, storing, picking, packing and general warehousing charges are included in SG&A; accordingly, our gross profit may not be comparable to others who may include these expenses as a component of cost of goods sold.

Selling, General & Administrative Expenses

SG&A increased $63.5 million, or 7.2%, to $940.4 million in the first half of 2006 over the first half of 2005 and as a percent of net sales increased to 41.0% from 37.9%. The SG&A increase reflected the following:

•		$12.4 million of expenses from our acquired prAna and MAC & JAC businesses;

•		A $46.6 million increase primarily resulting from the expansion of our domestic and international retail businesses;

•		An approximately $8.8 million decrease due to the impact of foreign currency exchange rates, primarily as a result of the weakening of the euro in our international business;

•		$36.6 million of expenses, offset by savings of $8.2 million associated with our streamlining initiatives, primarily employee severance costs;

•		$3.0 million of reinvestment in marketing and in-store activities of realized savings from our growth initiative;

•		An additional $8.4 million of expense resulting from the adoption of SFAS No. 123(R) and the shift in the composition of our equity-based management compensation program; and

•		A $26.5 million net decrease in wholesale and corporate expenses.

The SG&A rate primarily reflected the unfavorable impact reflecting the net expenses associated with our business streamlining initiatives and the increased proportion of expenses related to our retail segment, which runs at a higher SG&A rate than the Company average, as described above, in addition to reduced expense leverage resulting from the decreased proportion of expenses related to our wholesale apparel segment, which runs at a lower SG&A rate than the Company average as well as higher SG&A rates in our wholesale apparel, wholesale non-apparel and retail segments in 2006 compared to 2005.

Operating Income

Operating income for the first half of 2006 was $152.1 million, a decrease of $58.7 million, or 27.8%, compared to last year. Operating income as a percent of net sales decreased to 6.6% in 2006 compared to 9.1% in 2005. The decrease is primarily attributable to $36.6 million of expenses associated with our business streamlining initiatives discussed above, $3.0 million of reinvestment in marketing and in-store activities, as well as the impact of reduced wholesale apparel sales and expenses associated with retail expansion, partially offset by $8.2 million of savings resulting from the initiatives discussed above. The impact of foreign currency exchange did not have a material impact on operating income. Operating income by business segment is provided below:

•		Wholesale Apparel operating income was $98.6 million (7.1% of net sales) in the first half of 2006 compared to $148.9 million (10.2% of net sales) in 2005, principally reflecting reduced income in our DANA BUCHMAN, SIGRID OLSEN, CRAZY HORSE women’s, LIZ CLAIBORNE, JUICY COUTURE and European wholesale apparel businesses and $17.1 million of net expenses associated with our streamlining initiatives, partly offset by increased income in our ENYCE business.

•		Wholesale Non-Apparel operating income was $30.4 million (10.4% of net sales) in the first half of 2006 compared to $26.6 million (9.6% of net sales) in 2005, principally reflecting increases in our Cosmetics business and increase in our LUCKY BRAND and AXCESS handbags businesses mostly offset by $3.8 million of net expenses associated with our streamlining initiatives.

•		Retail operating income was $6.0 million (1.0% of net sales) in 2006 compared to a $19.1 million (3.5% of net sales) in 2005, principally reflecting $7.5 million of net expenses associated with our streamlining initiatives, reduced income in our outlet business due to reduced sales partially offset by and improved performance in our European retail business.

•		Corporate operating income, primarily consisting of licensing operating income, increased $1.0 million to $17.2 million as a result of increased revenues from our new licenses and growth from our existing license portfolio.

Viewed on a geographic basis,Domestic operating income decreased by $47.7 million, or 26.3%, to $133.6 million, predominantly reflecting the reduced income in our DANA BUCHMAN, SIGRID OLSEN, CRAZY HORSE women’s, and outlet businesses and the expenses associated with our streamlining initiatives, partially offset by growth in our LUCKY BRAND DUNGAREES retail businesses, ENYCE wholesale apparel as well as increased income in our cosmetics business.International operating profit decreased $10.9 million or 37.0% to $18.6 million. The international decrease reflected the reduced profitability of our Europe wholesale apparel business and expenses associated with our streamlining initiatives.

Other Income (Expense), Net

Other income (expense), net in the first half of 2006 was $3.1 million of income compared to $1.1 million of expense in the first half of 2005. In 2006, net other income was primarily comprised of a $3.6 million realized gain from the sale of certain equity investments, partially offset by $0.6 million of minority interest. See “Financial Position, Capital Resources and Liquidity — Commitments and Capital Expenditures,” below, for discussion of the purchase of the remaining Lucky Brand minority interest. In 2005, net other expense was principally comprised of $1.0 million of minority interest expense, partially offset by other non-operating income.

Interest Expense, Net

Net interest expense in the first half of 2006 was $15.7 million compared to $15.3 million in the first half of 2005, both of which were principally related to borrowings incurred to finance our strategic initiatives, including acquisitions. Net interest expense includes $1.8 million and $1.5 million of interest income in the first half of 2006 and 2005, respectively.

Provision for Income Taxes

The income tax rate in the first half of 2006 increased to 38.1% from 35.4% in the prior year primarily due to the impact of discrete tax items in the second quarter of 2006 as well as a shift in earnings to jurisdictions with higher statutory tax rates.

Net Income

Net income in the first half of 2006 decreased to $86.4 million, or 3.8% of net sales, from $125.6 million in the first half of 2005, or 5.4% of net sales. Diluted earnings per common share (“EPS”) decreased to $0.83 in 2006, from $1.15 in 2005, a 27.8% decrease.

Average diluted shares outstanding decreased by 4.8 million shares to 104.4 million in the first half of 2006 on a period-to-period basis, as a result of the repurchases of common shares, partially offset by the exercise of stock options and the effect of dilutive securities. Shares repurchased during the first half of 2006 did not have a material impact on EPS in the first half.

FORWARD OUTLOOK

For fiscal 2006, we are reaffirming our previous guidance, projecting net sales to increase low single digits compared to fiscal 2005, an operating margin in the range of 9.2 - 9.6% and EPS in the range of $2.58 - $2.73. Foreign currency exchange rates are expected to have an immaterial impact on 2006 net sales and EPS.

The fiscal 2006 results are projected to include a $0.34 reduction in EPS, or an approximate 110 basis point reduction in operating margin, due to the following:

	•		A $0.36 reduction in EPS associated with the expenses resulting from the Company’s previously announced streamlining initiatives;

	•		An $0.18 increase in EPS associated with the savings resulting from the above initiatives;

	•		A $0.09 reduction in EPS associated with the reinvestment of a portion of these savings in marketing and in-store support; and

	•		A $0.07 reduction in EPS associated with the impact of the adoption of SFAS No. 123(R) at the beginning of the third quarter of 2005 and the shift in the composition of our equity-based management compensation program in 2005.

Sales by segment for fiscal 2006 are projected as follows:

	•		In our wholesale apparel segment, we expect 2006 net sales to decrease low single digits compared to 2005.

	•		In our wholesale non-apparel segment, we expect 2006 net sales to increase mid to high single digits compared to 2005.

	•		In our retail segment, we expect 2006 net sales to increase in the mid teens compared to 2005.

	•		We expect 2006 licensing revenue to increase by 10% compared to 2005.

For the third quarter of 2006, we are projecting net sales to increase low single digits compared to the third quarter of 2005, an operating margin in the range of 11.3 - 11.8% and EPS in the range of $0.90 - $0.94. Foreign currency exchange rates are expected to increase third quarter 2006 sales by approximately 1% and will have an immaterial impact on third quarter 2006 EPS.

Third quarter 2006 results are projected to include a $0.04 reduction in EPS, or an approximate 40 basis point reduction in operating margin, due to the following:

	•		A $0.06 reduction in EPS associated with the expenses resulting from the Company’s previously announced streamlining initiatives;

	•		A $0.06 increase in EPS associated with the savings resulting from the above initiatives; and

	•		A $0.04 reduction in EPS associated with the reinvestment of a portion of the savings in marketing and in-store support.

Sales by segment for the third quarter of 2006 are projected as follows:

	•		In our wholesale apparel segment, we expect third quarter 2006 net sales to decrease low to mid single digits compared to 2005.

	•		In our wholesale non-apparel segment, we expect third quarter 2006 net sales to increase mid single digits compared to 2005.

	•		In our retail segment, we expect third quarter 2006 net sales to increase in the mid to high teens compared to 2005.

	•		We expect third quarter 2006 licensing revenue to increase by 10% compared to 2005.

All of these forward-looking statements exclude the impact of any future acquisitions or additional stock repurchases. The foregoing forward-looking statements are qualified in their entirety by reference to the risks and

uncertainties set forth under the heading “STATEMENT REGARDING FORWARD-LOOKING DISCLOSURE” below.

FINANCIAL POSITION, CAPITAL RESOURCES AND LIQUIDITY

Cash Requirements. Our primary ongoing cash requirements are to fund growth in working capital (primarily accounts receivable and inventory) to fund projected sales increases, to invest in the technological upgrading of our distribution centers and information systems, and other expenditures related to retail store expansion, in-store merchandise shops and normal maintenance activities. We also require cash to fund our acquisition program. In addition, we will require cash to fund any repurchase of Company stock under its previously announced share repurchase program. On May 18, 2006, the Company’s Board of Directors authorized the Company to purchase up to an additional $250 million of its common stock for cash in open market purchases and privately negotiated transactions. As of July 26, 2006, we had $271.8 million remaining in buyback authorization under the share repurchase programs. This amount is comprised of $22 million from the May 19, 2005 authorization and $250 million from the May 18, 2006 authorization discussed above.

Sources of Cash. Our historical sources of liquidity to fund ongoing cash requirements include cash flows from operations, cash and cash equivalents and securities on hand, as well as borrowings through our commercial paper program and bank lines of credit (which include revolving and trade letter of credit facilities); in 2001, we issued euro-denominated bonds (the “Eurobonds”) to fund the initial payment in connection with our acquisition of MEXX Europe. Our Eurobonds are scheduled to mature in August 2006. On July 6, 2006, we completed the issuance of 350 million euro 5% Notes (the “Notes”) due July 8, 2013. The net proceeds of the offering are intended to refinance our outstanding 350 million euro 6.625% Notes due August 7, 2006, which were originally issued on August 7, 2001 (see Note 8 of Notes to Condensed Consolidated Financial Statements), and for general corporate purposes. These bonds are designated as a hedge of our net investment in MEXX (see Note 3 of Notes to Consolidated Financial Statements in the Company’s 2005 Annual Report on Form 10-K). We anticipate that cash flows from operations, our commercial paper program and bank and letter of credit facilities will be sufficient to fund our next twelve months liquidity requirements and that we will be able to adjust the amounts available under these facilities if necessary (see “Commitments and Capital Expenditures” for more information on future requirements). Such sufficiency and availability may be adversely affected by a variety of factors, including, without limitation, retailer and consumer acceptance of our products, which may impact our financial performance, maintenance of our investment-grade credit rating, as well as interest rate and exchange rate fluctuations.

2006 vs. 2005

Cash and Debt Balances. We ended the first half of 2006 with $110.2 million in cash and marketable securities, compared to $177.6 million at July 2, 2005 and $343.2 million at December 31, 2005, and with $581.4 million of debt outstanding compared to $502.8 million at July 2, 2005 and $466.6 million at December 31, 2005. The $145.9 million increase in our net debt position on a year-over-year basis is primarily attributable to the $22.7 million (26.2 million Canadian dollars) payment made related to Mac & Jac, the $45.8 million payment made related to the acquisition of prAna, the $10.0 million payment to Lucky Brand shareholders to purchase an additional 1.9 percent interest in Lucky Brand, the $16.3 million final payment to complete the C & C acquisition, the $80.3 million advance against the contingent purchase price paid to Juicy Couture’s sellers, the repurchase of $224.6 million of shares of common stock, $176.0 million for capital and in-store expenditures, mostly offset by cash flow from operations over the last twelve months of $443.8 million and the effect of foreign currency translation on our Eurobond, which increased our debt balance by $23.7 million. We ended the first half of 2006 with $1.982 billion in stockholders’ equity, giving us a total debt to total capital ratio of 22.7% compared to $1.872 billion in stockholders’ equity last year with a debt to total capital ratio of 21.2% and $2.003 billion in stockholders’ equity at year end with a debt to total capital ratio of 18.9%.

Accounts Receivable increased $34.4 million, or 7.0%, at July 1, 2006 compared to the end of first half of 2005, primarily due to increased shipments in our international wholesale apparel businesses, the addition of receivables of $10.1 million from our acquired prAna and Mac & Jac businesses, offset by slightly lower receivables in our domestic wholesale businesses and the impact of foreign currency exchange rates of $8.2 million, primarily related to the strengthening of the euro. Accounts receivable increased $109.9 million, or 26.4%, at July 1, 2006 compared to December 31, 2005 due primarily to the timing of shipments in our domestic operations.

Inventories increased by $21.9 million at the end of the second quarter 2006 compared to the end of the second quarter 2005, primarily due to a $30.6 million increase resulting from acquisitions, new business initiatives and the

expansion of our retail business, net of discontinued lines, a $12.0 million increase resulting from the impact of foreign currency exchange rate fluctuations due to the strengthening of the euro in our international businesses, partially offset by a $20.7 million decrease in inventories our comparable businesses, primarily in our domestic wholesale apparel segment. Inventories increased by $61.6 million, or 11.5%, compared to December 31, 2005, primarily due to an increase in new business inventories as well as increases resulting from foreign exchange rate fluctuations. Our average inventory turnover rate decreased slightly to 4.3 times for the twelve-month period ended July 1, 2006, 4.5 times for the twelve-month period ended July 2, 2005, and 4.4 times for the twelve-month period ended December 31, 2005.

Borrowings under our revolving credit facility and other credit facilities peaked at $140.8 million during the first half of 2006; at the end of the first half of 2006, our borrowings under these facilities were $130.7 million.

Net cash provided by operating activities was $26.9 million in the first half of 2006, compared to net cash provided by operating activities of $23.7 million in the first half of 2005. This $3.2 increase in cash flow was primarily due to changes in accrued expenses primarily due to a reduction of certain employment-related obligations and changes in other current assets, partially offset by reduced net income resulting from the impact of our streamlining initiatives as well as changes in accounts receivable due to timing of shipments in our wholesale businesses and accounts payable due to the timing of payments.

Net cash used in investing activities was $214.1 million in the first half of 2006, compared to $157.8 million in the first half of 2005. Net cash used in the first half of 2006 primarily reflected payments of $10.0 million for the acquisition of additional Lucky Brand shares, the 26.2 million Canadian dollars (or $22.7 million) payment made related to Mac & Jac, the $16.3 million final payment to complete the C & C acquisition, the $80.3 million advance against the contingent purchase price paid to Juicy Couture’s sellers, payments of $13.5 million made to prAna as additional purchase price, and $77.4 million for capital and in-store expenditures, partially offset by proceeds from the sale of certain equity investments. Net cash used in the first half of 2005 primarily reflected payments of $60.2 for capital and in-store expenditures, $37.1 million to complete the acquisition of MEXX Canada, $35.0 million for the acquisition of additional Lucky Brand shares, and payments of $29.3 for the acquisition of C & C.

Net cash used in financing activities was $31.2 million in the first half of 2006, compared to $83.8 million in the first half of 2005. The $52.6 million year-over-year increase in cash used primarily reflected a $65.9 million net increase in commercial paper and short-term borrowings as well as a $12.5 million increase in proceeds from the exercise of stock options, partially offset by a $26.3 million increase in stock repurchases.

Commitments and Capital Expenditures

We may be required to make additional payments in connection with our acquisitions. If paid in cash, these payments will be funded with net cash provided by operating activities, our revolving credit and other credit facilities and/or the issuance of debt:

•		On January 26, 2006, we acquired 100 percent of the equity interests of Westcoast Contempo Fashions Limited and Mac & Jac Holdings Limited for an initial payment of 26.2 million Canadian dollars (or $22.7 million). The Mac & Jac acquisition agreement provides for contingent payments in fiscal years 2006, 2008, 2009 and 2010 that will be based upon a multiple of Mac & Jac’s earnings in each year. We estimate that the aggregate contingent payments will be in the range of approximately $11-20 million. The contingent payments will be accounted for as additional purchase price when paid.

•		On January 17, 2006, we purchased 1.9 percent of the remaining outstanding shares of Lucky Brand for $10.0 million. The remaining 4.85 percent will be purchased as follows: 1.5 percent in January 2007 and 1.1 percent in January 2008 for $10 million each year and the final 2.25 percent in June 2008 at a price equal to the value of the sellers’ Lucky Brand shares based on a multiple of Lucky Brand’s 2007 earnings. We estimate that this final payment will be $22-25 million.

•		Under the Segrets acquisition agreement, we may elect, or be required, to purchase the remaining minority interest in Segrets. We estimate that if the eligible payment for Segrets is triggered in 2006, it would fall in the range of $1-2 million, and the payment will be made in either cash or shares of our common stock at the option of either the Company or the seller.

•		The Juicy Couture acquisition agreement provides for a contingent payment to be determined as a multiple of Juicy Couture’s earnings for one of the years ended 2005, 2006 or 2007. This payment will be made in either cash or shares of our common stock at the option of the Company. In March of 2005, the contingent payment

		agreement was amended to include an advance option for the sellers provided that (i) if the 2005 measurement year is not selected, the sellers may elect to receive up to 70 percent of the estimated contingent payment based upon 2005 results; (ii) if the 2005 and 2006 measurement years are not selected, the sellers may elect to receive up to 85 percent of the estimated contingent payment based on the 2006 measurement year net of any 2005 advances. In April 2006, the sellers elected to receive a 70 percent advance against the contingent purchase price and were paid $80.3 million on April 20, 2006. The payment was accounted for as additional purchase price and an increase to goodwill. We estimate that, if the 2006 measurement year is selected, the remaining contingent payment would be in the range of approximately $25-30 million. The contingent payments will be accounted for as additional purchase price when paid.

•		The C & C acquisition agreement provides for contingent payments in fiscal years 2007, 2008 and 2009 based upon a multiple of C & C’s earnings in each year. On May 2, 2006, the Company and the sellers of C & C agreed to settle the contingent payment agreement based on a projection of earnings for 2007, 2008 and 2009. This payment, which totaled $16.3 million, was made in cash and accounted for as additional purchase price.

•		The prAna acquisition agreement provides for contingent payments in fiscal years 2008, 2009 and 2010 that will be based upon a multiple of prAna’s earnings in each year. We estimate that the aggregate contingent payments will be in the range of approximately $47-53 million. The contingent payments will be accounted for as additional purchase price when paid.

Financing Arrangements

On August 7, 2001, we issued 350 million euro (or $307.2 million based on the exchange rate in effect on such date) 6.625% Notes due on August 7, 2006 (the “Eurobonds”). The Eurobonds are listed on the Luxembourg Stock Exchange and received a credit rating of BBB from Standard & Poor’s and Baa2 from Moody’s Investor Services. Interest on the Eurobonds is being paid on an annual basis until maturity. These bonds are designated as a hedge of our net investment in MEXX (see Note 3 of Notes to Consolidated Financial Statements in the Company’s 2005 Annual Report on Form 10-K). The Eurobonds are classified as Long-term debt as we have the intent and ability to refinance the Eurobonds on a long-term basis. The fair value of the Eurobonds was 351.1 million euro as of July 1, 2006.

On July 6, 2006, we completed the issuance of 350 million euro 5% Notes due July 8, 2013 (the “Notes”) and the net proceeds of the offering are intended to refinance our outstanding 350 million euro 6.625% Notes due August 7, 2006, which were originally issued on August 7, 2001 (see Notes 8, 14 and 17 of Notes to Condensed Consolidated Financial Statements), and for general corporate purposes. The Notes bear interest from and including July 6, 2006, payable annually in arrears on July 8 of each year beginning on July 8, 2007. The Notes have been listed on the Luxembourg Stock Exchange and received a credit rating of BBB from Standard & Poor’s and Baa2 from Moody’s Investor Services.

On October 13, 2004, we entered into a $750 million, five-year revolving credit agreement (the “Agreement”), replacing the $375 million, 364-day unsecured credit facility that was scheduled to mature in October 2004 and the existing $375 million bank revolving credit facility which was scheduled to mature in October 2005. A portion of the funds available under the Agreement not in excess of $250 million is available for the issuance of letters of credit. Additionally, at our request, the amount of funds available under the Agreement may be increased at any time or from time to time by an aggregate principal amount of up to $250 million with only the consent of the lenders (which may include new lenders) participating in such increase. The Agreement includes a $150 million multi-currency revolving credit line, which permits us to borrow in U.S. dollars, Canadian dollars and euro. The Agreement has two borrowing options, an “Alternative Base Rate” option, as defined in the Agreement, and a Eurocurrency rate option with a spread based on our long-term credit rating. The Agreement contains certain customary covenants, including financial covenants requiring us to maintain specified debt leverage and fixed charge coverage ratios, and covenants restricting our ability to, among other things, incur indebtedness, grant liens, make investments and acquisitions, and sell assets. We believe we are in compliance with such covenants as of July 1, 2006. The funds available under the Agreement may be used to refinance existing debt, to provide working capital and for general corporate purposes of the Company, including, without limitation, the repurchase of capital stock and the support of our $750 million commercial paper program. Our ability to obtain funding through our commercial paper program is subject to, among other things, the Company maintaining an investment-grade credit rating. At July 1, 2006, we had $98 million of commercial paper outstanding under the Agreement. The commercial paper is classified as Long-term debt as we have the intent and ability to refinance the commercial paper on a long-term basis.

As of July 1, 2006, December 31, 2005 and July 2, 2005, we had lines of credit aggregating $597 million, $567 million and $571 million, respectively, which were primarily available to cover trade letters of credit. At July 1, 2006, December 31, 2005 and July 2, 2005, we had outstanding trade letters of credit of $319 million, $298 million and $338 million, respectively. These letters of credit, which have terms ranging from one to ten months, primarily collateralize our obligations to third parties for the purchase of inventory. The fair value of these letters of credit approximates contract values.

Our Canadian and European subsidiaries also have unsecured lines of credit totaling approximately $175.8 million (based on the exchange rates as of July 1, 2006), which is included in the aforementioned $597 million available lines of credit. As of July 1, 2006, a total of $32.7 million of borrowings denominated in foreign currencies was outstanding at an average interest rate of 3.75%. These lines of credit bear interest at rates based on indices specified in the contracts plus a margin. The lines of credit are in effect for less than one year and mature at various dates in 2007. These lines are guaranteed by the Company. Most of our debt will mature in less than one year and will be refinanced under existing credit lines. The capital lease obligations in Europe expire in 2007 and 2008.

Off-Balance Sheet Arrangements

On May 22, 2001, we entered into an off-balance sheet financing arrangement (commonly referred to as a “synthetic lease”) to acquire various land and equipment and construct buildings and real property improvements associated with warehouse and distribution facilities in Ohio and Rhode Island. The leases expire on November 22, 2006, with renewal subject to the consent of the lessor. The lessor under the operating lease arrangements is an independent third-party limited liability company, wholly owned by a publicly traded corporation. That public corporation consolidates the financial statements of the lessor in its financial statements. The lessor has other leasing activities and has contributed equity of 5.75 percent of the $63.7 million project costs. The leases include guarantees by us for a substantial portion of the financing and options to purchase the facilities at original cost; the maximum guarantee is approximately $56 million. The guarantee becomes effective if we decline to purchase the facilities at the end of the lease and the lessor is unable to sell the property at a price equal to or greater than the original cost. We selected this financing arrangement to take advantage of the favorable financing rates such an arrangement afforded as opposed to the rates available under alternative real estate financing options. The lessor financed the acquisition of the facilities through funding provided by third-party financial institutions. The lessor has no affiliation or relationship with us or any of our employees, directors or affiliates, and our transactions with the lessor are limited to the operating lease agreements and the associated rent expense that will be included in SG&A in the Condensed Consolidated Statements of Income.

In December 2003, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 46R, “Consolidation of Variable Interest Entities” (“FIN 46R”), which amends the same titled FIN 46 that was issued in January 2003. FIN 46R addresses how to identify variable interest entities and the criteria that requires the consolidation of such entities. The third party lessor does not meet the definition of a variable interest entity under FIN 46R, and therefore consolidation by the Company is not required.

Hedging Activities

At July 1, 2006, we had various Canadian currency collars outstanding with a notional amount of $7.5 million, maturing through December 2006 and with values ranging between 1.1215 and 1.1900 Canadian dollars per U.S. dollar, various Canadian currency collars outstanding with a notional amount of 5.4 million Hong Kong dollars, maturing through November 2006 and with values ranging between 6.5020 and 6.8120 Hong Kong dollars per Canadian dollar and various euro currency collars outstanding with a notional amount of 372 million Hong Kong dollars, maturing through December 2006 and with values ranging between 8.75 and 10.09 Hong Kong dollars per euro. The Company had $19 million in Canadian currency collars and $37 million in euro currency collars at July 2, 2005, and $21 million in Canadian currency collars and 325 million Hong Kong Dollars in euro currency collars at year-end 2005. At the end of the second quarter of 2006, the Company also had forward contracts maturing through June 2007 to sell 9.0 million Canadian dollars for $7.7 million, to sell 7.5 million Canadian dollars for 50.0 million Hong Kong dollars and to sell 18.1 million euro for 178.3 million Hong Kong dollars. The notional value of the foreign exchange forward contracts at the end of the second quarter of 2006 was approximately $37.1 million, as compared with approximately $67 million at year-end 2005 and approximately $47.6 million at the end of the second quarter of 2005. Unrealized gains (losses) for outstanding foreign exchange forward contracts and currency options were approximately $(1.7) million at the end of the second quarter of 2006, $0.7 million at year-end 2005 and approximately $2.1 million the end of the second quarter of 2005. The ineffective portion of these trades is recognized currently in earnings and was not material for the six months ended July 1, 2006. Approximately $(1.6)

million of income relating to cash flow hedges in Accumulated other comprehensive income (loss) will be reclassified into earnings in the next twelve months as the inventory is sold.

In connection with the variable rate financing under the synthetic lease agreement, the Company entered into two interest rate swap agreements with an aggregate notional amount of $40.0 million that began in January 2003 and terminated in May 2006, in order to fix the interest component of rent expense at a rate of 5.56%. The Company entered into these arrangements to hedge against potential future interest rate increases. The ineffective portion of these swaps, recognized in earnings, was not material for the six months ended July 1, 2006.

We hedge our net investment position in euro functional subsidiaries by designating the 350 million Eurobonds as a hedge of net investments. The change in the Eurobonds due to changes in currency rates is recorded to Currency translation adjustment, a component of Accumulated other comprehensive income (loss). The unrealized (loss) gain recorded to Cumulative translation adjustment was $(22.9) million for the quarter ended July 1, 2006 and $31.0 million for the quarter ended July 2, 2005. The unrealized (loss) gain recorded to Cumulative translation adjustment was $(34.2) million and $51.5 million for the six months ended July 1, 2006 and July 2, 2005, respectively.

USE OF ESTIMATES AND CRITICAL ACCOUNTING POLICIES

The preparation of financial statements in conformity with accounting principles generally accepted in the United States 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 date of the financial statements and revenues and expenses during the period. Significant accounting policies employed by us, including the use of estimates, are presented in the Notes to Consolidated Financial Statements in our 2005 Annual Report on Form 10-K.

Use of Estimates

Estimates by their nature are based on judgments and available information. The estimates that we make are based upon historical factors, current circumstances and the experience and judgment of our management. We evaluate our assumptions and estimates on an ongoing basis and may employ outside experts to assist in our evaluations. Therefore, actual results could materially differ from those estimates under different assumptions and conditions.

Critical accounting policies are those that are most important to the portrayal of our financial condition and the results of operations and require management’s most difficult, subjective and complex judgments as a result of the need to make estimates about the effect of matters that are inherently uncertain. Our most critical accounting policies, discussed below, pertain to revenue recognition, income taxes, accounts receivable — trade, net, inventories, net, the valuation of goodwill and intangible assets with indefinite lives, accrued expenses, derivative instruments and share-based compensation. In applying such policies, management must use some amounts that are based upon its informed judgments and best estimates. Because of the uncertainty inherent in these estimates, actual results could differ from estimates used in applying the critical accounting policies. Changes in such estimates, based on more accurate future information, may affect amounts reported in future periods.

For accounts receivable, we estimate the net collectibility, considering both historical and anticipated trends as well as an evaluation of economic conditions and the financial positions of our customers. For inventory, we review the aging and salability of our inventory and estimate the amount of inventory that we will not be able to sell in the normal course of business. This distressed inventory is written down to the expected recovery value to be realized through off-price channels. If we incorrectly anticipate these trends or unexpected events occur, our results of

operations could be materially affected. We use independent third-party appraisals to estimate the fair values of both our goodwill and intangible assets with indefinite lives. These appraisals are based on projected cash flows, interest rates and other competitive market data. Should any of the assumptions used in these projections differ significantly from actual results, material impairment losses could result where the estimated fair values of these assets become less than their carrying amounts. For accrued expenses related to items such as employee insurance, workers’ compensation and similar items, accruals are assessed based on outstanding obligations, claims experience and statistical trends; should these trends change significantly, actual results would likely be impacted. Derivative instruments in the form of forward contracts and options are used to hedge the exposure to variability in probable future cash flows associated with inventory purchases and sales collections primarily associated with our European and Canadian entities. If fluctuations in the relative value of the currencies involved in the hedging activities were to move dramatically, such movement could have a significant impact on our results. Changes in such estimates, based on more accurate information, may affect amounts reported in future periods. We are not aware of any reasonably likely events or circumstances which would result in different amounts being reported that would materially affect our financial condition or results of operations.

Revenue Recognition

Revenue is recognized from our wholesale, retail, and licensing operations. Revenue within our wholesale operations is recognized at the time title passes and risk of loss is transferred to customers. Wholesale revenue is recorded net of returns, discounts and allowances. Returns and allowances require pre-approval from management. Discounts are based on trade terms. Estimates for end-of-season allowances are based on historic trends, seasonal results, an evaluation of current economic conditions and retailer performance. We review and refine these estimates on a monthly basis based on current experience, trends and retailer performance. Our historical estimates of these costs have not differed materially from actual results. Retail store revenues are recognized net of estimated returns at the time of sale to consumers. Licensing revenues are recorded based upon contractually guaranteed minimum levels and adjusted as actual sales data is received from licensees.

Income Taxes

Income taxes are accounted for under SFAS No. 109, “Accounting for Income Taxes.” In accordance with SFAS No. 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, as measured by enacted tax rates that are expected to be in effect in the periods when the deferred tax assets and liabilities are expected to be settled or realized. Significant judgment is required in determining the worldwide provisions for income taxes. In the ordinary course of a global business, there are many transactions for which the ultimate tax outcome is uncertain. It is our policy to establish provisions for taxes that may become payable in future years as a result of an examination by tax authorities. We establish the provisions based upon management’s assessment of exposure associated with permanent tax differences, tax credits and interest expense applied to temporary difference adjustments. The tax provisions are analyzed periodically (at least annually) and adjustments are made as events occur that warrant adjustments to those provisions.

Accounts Receivable — Trade, Net

In the normal course of business, we extend credit to customers that satisfy pre-defined credit criteria. Accounts receivable — trade, net, as shown on the Condensed Consolidated Balance Sheets, is net of allowances and anticipated discounts. An allowance for doubtful accounts is determined through analysis of the aging of accounts receivable at the date of the financial statements, assessments of collectibility based on an evaluation of historic and anticipated trends, the financial condition of our customers, and an evaluation of the impact of economic conditions. An allowance for discounts is based on those discounts relating to open invoices where trade discounts have been extended to customers. Costs associated with potential returns of products as well as allowable customer markdowns and operational charge backs, net of expected recoveries, are included as a reduction to net sales and are part of the provision for allowances included in Accounts receivable — trade, net. These provisions result from seasonal negotiations with our customers as well as historic deduction trends net of expected recoveries and the evaluation of current market conditions. Should circumstances change or economic or distribution channel conditions deteriorate significantly, we may need to increase its provisions. Our historical estimates of these costs have not differed materially from actual results.

Inventories, Net

Inventories are stated at lower of cost (using the first-in, first-out method) or market. We continually evaluate the composition of our inventories assessing slow-turning, ongoing product as well as prior seasons’ fashion product. Market value of distressed inventory is valued based on historical sales trends for this category of inventory of our individual product lines, the impact of market trends and economic conditions, and the value of current orders in-

house relating to the future sales of this type of inventory. Estimates may differ from actual results due to quantity, quality and mix of products in inventory, consumer and retailer preferences and market conditions. We review our inventory position on a monthly basis and adjust our estimates based on revised projections and current market conditions. If economic conditions worsen, we incorrectly anticipate trends or unexpected events occur, our estimates could be proven overly optimistic, and required adjustments could materially adversely affect future results of operations. Our historical estimates of these costs and our provisions have not differed materially from actual results.

Goodwill and Other Intangibles, Net

A two-step impairment test is performed on goodwill. In the first step, we compare the fair value of each reporting unit to its carrying value. Our reporting units are consistent with the reportable segments identified in Note 13 of Notes to Condensed Consolidated Financial Statements. We determine the fair value of our reporting units using the market approach as is typically used for companies providing products where the value of such a company is more dependent on the ability to generate earnings than the value of the assets used in the production process. Under this approach we estimate the fair value based on market multiples of revenues and earnings for comparable companies. If the fair value of the reporting unit exceeds the carrying value of the net assets assigned to that unit, goodwill is not impaired and we are not required to perform further testing. If the carrying value of the net assets assigned to the reporting unit exceeds the fair value of the reporting unit, then we must perform the second step in order to determine the implied fair value of the reporting unit’s goodwill and compare it to the carrying value of the reporting unit’s goodwill. The activities in the second step include valuing the tangible and intangible assets of the impaired reporting unit, determining the fair value of the impaired reporting unit’s goodwill based upon the residual of the summed identified tangible and intangible assets and the fair value of the enterprise as determined in the first step, and determining the magnitude of the goodwill impairment based upon a comparison of the fair value residual goodwill and the carrying value of goodwill of the reporting unit. If the carrying value of the reporting unit’s goodwill exceeds the implied fair value, then we must record an impairment loss equal to the difference.

The fair value of the purchased intangible assets with indefinite lives, primarily trademarks and trade names, are estimated and compared to the carrying value. We estimate the fair value of these intangible assets based on an income approach using the relief-from-royalty method. This methodology assumes that, in lieu of ownership, a firm would be willing to pay a royalty in order to exploit the related benefits of these types of assets. This approach is dependent on a number of factors, including estimates of future growth and trends, royalty rates in the category of intellectual property, discount rates and other variables. We base our fair value estimates on assumptions we believe to be reasonable, but which are unpredictable and inherently uncertain. Actual future results may differ from those estimates. We recognize an impairment loss when the estimated fair value of the intangible asset is less than the carrying value.

Accrued Expenses

change significantly, then actual results would likely be impacted. Our historical estimates of these costs and our provisions have not differed materially from actual results.

Derivative Instruments

SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended and interpreted, requires that each derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the Condensed Consolidated Balance Sheet as either an asset or liability and measured at its fair value. The statement also requires that changes in the derivative’s fair value be recognized currently in earnings in either income (loss) from continuing operations or Accumulated other comprehensive income (loss), depending on whether the derivative qualifies for hedge accounting treatment.

We use foreign currency forward contracts and options for the specific purpose of hedging the specific exposure to variability in forecasted cash flows associated primarily with inventory purchases mainly with our European and Canadian entities and other specific activities and the swapping of variable interest rate debt for fixed rate debt in connection with the synthetic lease. These instruments are designated as cash flow hedges and, to the extent the hedges are highly effective, the effective portion of the changes in fair value of the hedging instrument are included in Accumulated other comprehensive income (loss), net of related tax effects, with the corresponding asset or liability recorded in the Condensed Consolidated Balance Sheets. The ineffective portion of a cash flow hedge is recognized primarily as a component of Cost of goods sold in current period earnings or in the case of swaps, if any, to SG&A. Amounts recorded in Accumulated other comprehensive income (loss) are reflected in current period earnings when the hedged transaction affects earnings. If fluctuations in the relative value of the currencies involved in the hedging activities were to move dramatically, such movement could have a significant impact on our results of operations. We are not aware of any reasonably likely events or circumstances which would result in different amounts being reported that would materially affect its financial condition or results of operations.

Hedge accounting requires that, at the beginning of each hedge period, we justify an expectation that the hedge will be highly effective. This effectiveness assessment involves an estimation of the probability of the occurrence of transactions for cash flow hedges. The use of different assumptions and changing market conditions may impact the results of the effectiveness assessment and ultimately the timing of when changes in derivative fair values and underlying hedged items are recorded in earnings.

We hedge our net investment position in euro functional subsidiaries by borrowing directly in foreign currency and designating a portion of foreign currency debt as a hedge of net investments. The change in the borrowings due to changes in currency rates is recorded to Cumulative translation adjustment, a component of Accumulated other comprehensive income (loss). We use derivative instruments to hedge the changes in the fair value of the debt due to interest rates, and the change in fair value is recognized currently in Interest expense, net together with the change in fair value of the hedged item due to interest rates.

Occasionally, we purchase short-term foreign currency contracts and options outside of the cash flow hedging program to neutralize quarter-end balance sheet and other expected exposures. These derivative instruments do not qualify as cash flow hedges under SFAS No. 133 and are recorded at fair value with all gains or losses, which have not been significant, recognized as a component of SG&A in current period earnings immediately.

Share-Based Compensation

RECENT ACCOUNTING PRONOUNCEMENTS

In March 2005, the FASB issued Interpretation No. 47, “Accounting for Conditional Asset Retirement Obligations — an interpretation of FASB Statement No. 143” (“FIN 47”). FIN 47 requires an entity to recognize a liability for the fair value of a conditional asset retirement obligation if the fair value can be reasonably estimated. A conditional asset retirement obligation is a legal obligation to perform an asset retirement activity in which the timing or method of settlement are conditional upon a future event that may or may not be within control of the entity. We adopted FIN 47 for the fiscal year ended December 31, 2005 and the adoption did not have a material impact on the financial position or results of operations.

On October 6, 2005, the FASB issued FASB Staff Position (“FSP”) No. FAS 13-1 “Accounting for Rental Costs Incurred during a Construction Period.” The FASB has concluded that rental costs incurred during and after a construction period are for the right to control the use of a leased asset and must be recognized as rental expense. Such costs were previously capitalizable as construction costs if the company had a policy to do so. The FSP is effective for reporting periods beginning after December 15, 2005. We expect that the implementation of FSP No. FAS 13-1 will decrease Net Income by approximately $4-5 million for the fiscal year ending December 30, 2006.

On November 3, 2005, FASB issued FSP Nos. FAS 115-1 and FAS 124-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.” This FSP addresses the determination, as to when an investment is considered impaired, whether that impairment is other than temporary, and the timing and measurement of an impairment loss. The FSP is required to be applied to reporting periods beginning after December 15, 2005 and was adopted in the first quarter of fiscal 2006. The adoption of this FSP did not have a material impact on our consolidated financial statements.

On November 10, 2005, the FASB issued FSP No. FAS 123(R)-3 “Transition Election Related to Accounting for Tax Effects of Share-Based Payment Awards.” This FSP provides an alternative method of calculating the excess tax benefits available to absorb tax deficiencies recognized subsequent to the adoption of SFAS No. 123(R). We have until November 2006 to make a one-time election to adopt the transition method described in FSP No. FAS 123(R)-3. We are currently evaluating this FSP; the one-time election is not expected to affect operating income or net earnings.

On February 3, 2006, the FASB issued FSP No. FAS 123(R)-4 “Classification of Options and Similar Instruments Issued as Employee Compensation That Allow for Cash Settlement upon the Occurrence of a Contingent Event.” This FSP amends SFAS No. 123(R), addressing cash settlement features that can be exercised only upon the occurrence of a contingent event that is outside the employee’s control. These instruments are not required to be classified as a liability until it becomes probable that the event will occur. We adopted this FSP in the second quarter of 2006. The implementation did not have an effect on the results of operations or financial position.

On April 13, 2006, the FASB issued FSP No. FIN 46(R)-6, “Determining the Variability to Be Considered in Applying FASB Interpretation No. 46(R),” which requires the use of a “by design” approach for determining whether an interest is variable when applying FASB Interpretation No. 46, “Consolidation of Variable Interest Entities.” This approach includes evaluating whether an interest is variable based on a thorough understanding of the design of the potential variable interest entity (“VIE”), including the nature of the risks that the potential VIE was designed to create and pass along to interest holders in the entity. The guidance in this FSP is effective for reporting periods beginning after June 15, 2006. We will adopt the guidance presented in this FSP in the third quarter of 2006 on a prospective basis. We do not expect the adoption of this FSP to have a material impact on our results of operations or financial position.

On July 13, 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109” (“FIN 48”), which clarifies the accounting for uncertainty in tax positions. This Interpretation requires recognition in the financial statements of the impact of a tax position, if that position is more likely than not of being sustained on audit, based on the technical merits of the position. The provisions of FIN 48 are effective for the 2007 fiscal year with the cumulative effect of the change in accounting principle recorded as an adjustment to opening balance of retained earnings. We are currently evaluating the impact of adopting FIN 48 on the consolidated financial statements.

STATEMENT REGARDING FORWARD-LOOKING DISCLOSURE

Statements contained herein and in future filings by the Company with the Securities and Exchange Commission (the “SEC”), in the Company’s press releases, and in oral statements made by, or with the approval of, authorized personnel that relate to the Company’s future performance, including, without limitation, statements with respect to the Company’s anticipated results of operations or level of business for fiscal 2006, any fiscal quarter of 2006 or any other future period, including those herein under the heading “Forward Outlook” or otherwise, are forward-looking statements within the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Such statements, which are indicated by words or phrases such as “intend,” “anticipate,” “plan,” “estimate,” “project,” “management expects,” “the Company believes,” “we are optimistic that we can,” “current visibility indicates that we forecast” or “currently envisions” and similar phrases are based on current expectations only, and are subject to certain risks, uncertainties and assumptions. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated or projected. Included among the factors that could cause actual results to materially differ are risks with respect to the following:

Risks Associated with Competition and the Marketplace

The apparel and related product markets are highly competitive, both within the United States and abroad. The Company’s ability to compete successfully within the marketplace depends on a variety of factors, including:

•		The continuing challenging retail and macroeconomic environment, including the levels of consumer confidence and discretionary spending, and levels of customer traffic within department stores, malls and other shopping and selling environments, and a continuation of the deflationary trend for apparel products;

•		The Company’s ability to successfully continue to evolve its supply chain system, including its product development, sourcing, logistics and technology functions, to reduce product cycle-time and costs and meet customer demands;

•		The Company’s ability to effectively anticipate, gauge and respond to changing consumer demands and tastes, across multiple product lines, shopping channels and geographies;

•		The Company’s ability to translate market trends into appropriate, saleable product offerings relatively far in advance, while minimizing excess inventory positions, including the Company’s ability to correctly balance the level of its fabric and/or merchandise commitments with actual customer orders;

•		Consumer and customer demand for, and acceptance and support of, Company products (especially by the Company’s largest customers) which are in turn dependent, among other things, on product design, quality, value and service;

•		Risks associated with the possible failure of the Company’s unaffiliated manufacturers to manufacture and deliver products in a timely manner, to meet quality standards or to comply with the Company’s policies regarding labor practices or applicable laws or regulations;

•		The Company’s ability to adapt to and compete effectively in the current quota environment, including changes in sourcing patterns resulting from the elimination of quota on apparel products, as well as lowered barrier to entry;

•		Risks associated with the Company’s dependence on sales to a limited number of large United States department store customers, including risks related to the Company’s ability to respond effectively to:

	-		these customers’ buying patterns, including their purchase and retail floor space commitments for apparel in general (compared with other product categories they sell), and our products specifically (compared with products offered by our competitors, including with respect to customer and consumer acceptance, pricing, and new product introductions);

	-		these customers’ strategic and operational initiatives, including their continued focus on further development of their “private label” initiatives;

	-		these customers’ desire to have us provide them with exclusive and/or differentiated designs and product mixes;

	-		these customers’ requirements for vendor margin support;

	-		any credit risks presented by these customers, especially given the significant proportion of our accounts receivable they represent; and

	-		the effect that any potential consolidation among one or more of these larger customers, such as the merger between Federated Department Stores, Inc. and The May Department Store Company, might have on the foregoing and/or other risks;

•

Risks associated with maintaining and enhancing favorable brand recognition, which may be affected by consumer attitudes towards the desirability of fashion products bearing a “mega brand” label and which are widely available at a broad range of retail stores; and

•

Risks associated with the Company’s operation and expansion of retail business, including the ability to successfully find appropriate sites, negotiate favorable leases, design and create appealing merchandise, appropriately manage inventory levels, install and operate effective retail systems, apply appropriate pricing strategies, and integrate such stores into the Company’s overall business mix.

Management and Employee Risks

•		The Company’s ability to attract and retain talented, highly qualified executives and other key personnel in design, merchandising, sales, marketing, production, systems and other functions, and its ability to provide for the succession of senior management, including the Chief Executive Officer;

•		The Company’s ability to hire and train qualified retail management and associates; and

•		Risks associated with any significant disruptions in the Company’s relationship with its employees, including union employees, and any work stoppages by the Company’s employees, including union employees.

Economic, Social and Political Factors

Also impacting the Company and its operations are a variety of economic, social and political factors, including the following:

•		Risks associated with war, the threat of war, and terrorist activities, including reduced shopping activity as a result of public safety concerns and disruption in the receipt and delivery of merchandise;

•		Changes in national and global microeconomic and macroeconomic conditions in the markets where the Company sells or sources its products, including the levels of consumer confidence and discretionary spending, consumer income growth, personal debt levels, rising energy costs and energy shortages, and fluctuations in foreign currency exchange rates, interest rates and stock market volatility, and currency devaluations in countries in which we source product;

•		Changes in social, political, legal and other conditions affecting foreign operations;

•		Risks of increased sourcing costs, including costs for materials and labor, including as a result of the elimination of quota on apparel products;

•		Any significant disruption in the Company’s relationships with its suppliers, manufacturers as well as work stoppages by any of the Company’s suppliers or service providers;

•		The enactment of new legislation or the administration of current international trade regulations, or executive action affecting international textile agreements, including the United States’ reevaluation of the trading status of certain countries, and/or retaliatory duties, quotas or other trade sanctions, which, if enacted, would increase the cost of products purchased from suppliers in such countries, and the January 1, 2005 elimination of quota, which may significantly impact sourcing patterns; and

•		Risks related to the Company’s ability to establish, defend and protect its trademarks and other proprietary rights and other risks relating to managing intellectual property issues.

Risks Associated with Acquisitions and New Product Lines and Markets

The Company, as part of its growth strategy, from time to time acquires new product lines and/or enters new markets, including through licensing arrangements. These activities (which also include the development and launch of new product categories and product lines), are accompanied by a variety of risks inherent in any such new business venture, including the following:

•		Ability to identify appropriate acquisition candidates and negotiate favorable financial and other terms, against the background of increasing market competition (from both strategic and financial buyers) for the types of acquisitions the Company have been making;

•		Risks that the new product lines or market activities may require methods of operations and marketing and financial strategies different from those employed in the Company’s other businesses, including risks associated with acquisitions with significant foreign operations. In addition, these businesses may involve buyers, store customers and/or competitors different from the Company’s historical buyers, store customers and competitors;

•		Possible difficulties, delays and/or unanticipated costs in integrating the business, operations, personnel, and/or systems of an acquired business;

•		Risks that projected or satisfactory level of sales, profits and/or return on investment for a new business will not be generated;

•		Risks involving the Company’s ability to retain and appropriately motivate key personnel of an acquired business;

•		Risks that expenditures required for capital items or working capital will be higher than anticipated;

•		Risks associated with unanticipated events and unknown or uncertain liabilities;

•		Uncertainties relating to the Company’s ability to successfully integrate an acquisition, maintain product licenses, or successfully launch new products and lines;

•		Certain new businesses may be lower margin businesses and may require the Company to achieve significant

		cost efficiencies; and

•		With respect to businesses where the Company acts as licensee, the risks inherent in such transactions, including compliance with terms set forth in the applicable license agreements, including among other things the maintenance of certain levels of sales, and the public perception and/or acceptance of the licensor’s brands or other product lines, which are not within the Company’s control.

The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We have exposure to interest rate volatility relating to interest rate changes applicable to our revolving credit facility, other credit facilities and our 175 million euro fixed rate to floating rate swap associated with our 350 million Eurobonds. These loans and swaps bear interest at rates which vary with changes in prevailing market rates.

We do not speculate on the future direction of interest rates. As of July 1, 2006, December 31, 2005 and July 2, 2005 our exposure to changing market rates was as follows:


Dollars in millions	July 1, 2006	December 31, 2005	July 2, 2005

Variable rate debt	$130.7	$48.4	$72.3
Average interest rate	5.0%	3.0%	2.8%

Notional amount of interest rate swap	$223.3	$206.2	$211.5
Current implied interest rate	6.24%	5.69%	5.63%

A ten percent change in the average rate would have resulted in a $0.9 million change in interest expense during the first half of 2006.

We finance our capital needs through available cash and marketable securities, operating cash flows, letters of credit, synthetic lease and bank revolving credit facilities, other credit facilities and commercial paper issuances. Our floating rate bank revolving credit facility, bank lines and commercial paper program expose us to market risk for changes in interest rates. As of July 1, 2006, we have not employed interest rate hedging to mitigate such risks with respect to our floating rate facilities. We believe that our Eurobond offering, which is a fixed rate obligation, partially mitigates the risks with respect to our variable rate financing.

The acquisition of MEXX, which transacts business in multiple currencies, has increased our exposure to exchange rate fluctuations. We mitigate the risks associated with changes in foreign currency rates through foreign exchange forward contracts and collars to hedge transactions denominated in foreign currencies for periods of generally less than one year and to hedge expected payment of intercompany transactions with our non-U.S. subsidiaries, which now include MEXX. Gains and losses on contracts, which hedge specific foreign currency denominated commitments, are recognized in the period in which the transaction is completed.

At July 1, 2006, December 31, 2005 and July 2, 2005, we had outstanding foreign currency collars with net notional amounts aggregating to $56 million, $63 million and $56 million, respectively. We had forward contracts aggregating to $37.1 million at July 1, 2006, $67.5 million at December 31, 2005 and $47.6 million at July 2, 2005. Unrealized gains (losses) for outstanding foreign currency options and foreign exchange forward contracts were approximately $(1.7) million at July 1, 2006, $0.7 million at December 31, 2005 and $2.1 million at July 2, 2005. A sensitivity analysis to changes in the foreign currencies when measured against the U.S. dollar indicates if the U.S. dollar uniformly weakened by 10% against all of the hedged currency exposures, the fair value of instruments would decrease by $6.9 million. Conversely, if the U.S. dollar uniformly strengthened by 10% against all of the hedged currency exposures, the fair value of these instruments would increase by $9.6 million. Any resulting changes in the fair value of the hedged instruments would be partially offset by changes in the underlying balance sheet positions. The sensitivity analysis assumes a parallel shift in foreign currency exchange rates. The assumption that exchange rates change in a parallel fashion may overstate the impact of changing exchange rates on assets and liabilities denominated in foreign currency. We do not hedge all transactions denominated in foreign currency.

The table below presents the amount of contracts outstanding, the contract rate and unrealized (loss), as of July 1, 2006:


	U.S. Dollar		Hong Kong		Contract		Unrealized
Currency in thousands	Amount		Dollar Amount		Rate		(Loss)

Forward Contracts:
Euro				178,250		0.0987 to 0.1084	$	(361	)
Canadian Dollars	$	7,727				0.8579 to 0.8592		—
Canadian Dollars				50,021		0.1493 to 0.1502		—

Foreign Exchange Collar Contracts:
Euro				372,000		0.0991 to 0.1143	$	(1,353	)
Canadian Dollars	$	7,533				0.8403 to 0.8917		—
Canadian Dollars				5,443		0.1468 to 0.1538		—

The table below presents the amount of contracts outstanding, the contract rate and unrealized gain, as of December 31, 2005:


	U.S. Dollar		Hong Kong		Contract		Unrealized
Currency in thousands	Amount		Dollar Amount		Rate		Gain

Forward Contracts:
Euro				193,750		0.1037 to 0.1094	$	498
Canadian Dollars	$	16,723				0.8549 to 0.8592		—
Canadian Dollars				199,806		0.1491 to 0.1508		—

Foreign Exchange Collar Contracts:
Euro				325,362		0.0992 to 0.1143	$	208
Canadian Dollars	$	21,072				0.8403 to 0.8881		—

The table below presents the amount of contracts outstanding, the contract rate and unrealized gain or (loss), as of July 2, 2005:


	U.S. Dollar		Euro		Contract		Unrealized
Currency in thousands	Amount		Amount		Rate		Gain (Loss)

Forward Contracts:
Euro	$	26,500				1.2047 to 1.2800	$	251
Canadian Dollars		12,281				0.8176 to 0.8199		98
Pounds Sterling				7,247		0.6815 to 0.7024		(78	)

Foreign Exchange Collar Contracts:
Euro	$	37,000				1.2000 to 1.3753	$	735
Canadian Dollars		19,472				0.8000 to 0.8484		306

ITEM 4. CONTROLS AND PROCEDURES

The Company, under the supervision and with participation of management, including the Company’s Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures, as such term is defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act, as of the end of the period covered by this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that as of the end of the period covered by this report our disclosure controls and procedures were effective to ensure that all material information required to be disclosed by the Company in reports filed or submitted under the Exchange Act is (1) recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and (2) accumulated and communicated to the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure. There was no change in the Company’s internal control over financial reporting during the second quarter of fiscal 2006 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II — OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

During 2004, our Augusta, Georgia facility, which is no longer operational, became listed on the State of Georgia’s Hazardous Site Inventory of environmentally impacted sites due to the detection of certain chemicals at the site. In November 2005, the Georgia Department of Natural Resources requested that we submit a compliance status report and compliance status certification regarding the site. The Company submitted the requested materials in the second quarter of 2006.

ITEM 1A. RISK FACTORS

There are no material changes from the risk factors previously disclosed in our Annual Report on Form 10-K for the 2005 fiscal year.

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

The following table summarizes information about purchases by the Company during the six months ended July 1, 2006 of equity securities that are registered by the Company pursuant to Section 12 of the Exchange Act:


							Maximum
							Approximate Dollar
					Total Number of		Value of Shares that
	Total Number				Shares Purchased as		May Yet Be
	of Shares				Part of Publicly		Purchased Under the
	Purchased		Average Price		Announced Plans or		Plans or Programs
Period	(in thousands)		Paid Per Share		Programs		(in thousands)(2)

January 1, 2006 - January 28, 2006		—	$	—		—	$	153,308
January 29, 2006 - March 4, 2006		269.8		36.93		269.8		143,345
March 5, 2006 - April 1, 2006 (1)		1,767.6		37.57		1,738.2		78,023
April 2, 2006- April 29, 2006		—		—		—		78,023
April 30, 2006- June 3, 2006		8.5		37.95		8.5		327,701
June 4, 2006- July 1, 2006		1,489.4		37.54		1,489.4		271,796

Total six months ended July 1, 2006		3,535.3	$	37.51		3,505.9	$	271,796


(1)		Includes shares withheld to cover tax-withholding requirements relating to the vesting of restricted stock issued to employees pursuant to the Company’s shareholder-approved stock incentive plans.

(2)		The Company initially announced the authorization of a share buyback program in December 1989. Since its inception, the Company’s Board of Directors has authorized the purchase under the program of an aggregate of $2.175 billion. As of July 1, 2006, the Company had $271.8 million remaining in buyback authorization under its program.

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

At the Company’s 2006 Annual Meeting of Stockholders held on May 18, 2006, the stockholders of the Company (i) approved the ratification of the appointment of Deloitte & Touche LLP as the Company’s independent auditors for fiscal 2006 (the number of affirmative votes cast was 90,281,658, the number of negative votes cast was 3,254,247 and the number of abstentions was 588,240); (ii) did not approve the stockholder proposal relating to a “majority vote” standard for Director elections (the number of affirmative votes cast was 36,603,968, the number of negative votes cast was 47,961,399 and the number of abstentions was 825,688); and (iii) elected the following

nominees to the Company’s Board of Directors, to serve until the 2009 annual meeting of stockholders and until their respective successors are duly elected and qualified:


	Votes
Nominee	For		Withheld

Bernard W. Aronson		91,595,169		2,528,976
Daniel A. Carp		93,318,241		805,904
Nancy J. Karch		93,251,743		872,402
Paul E. Tierney, Jr.		93,168,330		955,815

The other directors, whose terms of office continued after the Annual Meeting, are: Paul R. Charron, Raul J. Fernandez, Mary Kay Haben, Kenneth P. Kopelman, Kay Koplovitz, Arthur C. Martinez and Oliver R. Sockwell.

ITEM 5. OTHER INFORMATION

None.

ITEM 6. EXHIBITS


31(a)		Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31(b)		Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32(a)*		Certification of Chief Executive Officer Pursuant to Section 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32(b)*		Certification of Chief Financial Officer Pursuant to Section 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

A signed original of the written statement required by Section 906 has been provided to the Company and will be retained by the Company and forwarded to the S.E.C. or its staff upon request.

SIGNATURES

PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THE

REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE

UNDERSIGNED THEREUNTO DULY AUTHORIZED.

DATE: August 2, 2006


LIZ CLAIBORNE, INC.		LIZ CLAIBORNE, INC.

By:	/s/ Michael Scarpa	By:	/s/ Elaine H. Goodell

	MICHAEL SCARPA		ELAINE H. GOODELL
	Senior Vice President — Finance and		Vice President — Corporate Controller and
	Distribution and Chief Financial Officer		Chief Accounting Officer
	(Principal financial officer)		(Principal accounting officer)

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Kate Spade & Co (KATE) Inactive 10-Q2007 Q0 Quarterly report

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