- - --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED OCTOBER 3, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 1-10857
THE WARNACO GROUP, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 95-4032739
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
90 PARK AVENUE
NEW YORK, NEW YORK 10016
(ADDRESS OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
(212) 661-1300
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
COPIES OF ALL COMMUNICATIONS TO:
THE WARNACO GROUP, INC.
90 PARK AVENUE
NEW YORK, NEW YORK 10016
ATTENTION: VICE PRESIDENT AND GENERAL COUNSEL
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.
[X] Yes [ ] No
The number of shares outstanding of the registrant's Class A Common Stock as of
November 13, 1998 is as follows: 59,631,076.
- - --------------------------------------------------------------------------------
THE WARNACO GROUP, INC.
I N D E X
Page No.
--------
PART I. FINANCIAL INFORMATION
Item 1 - Financial Statements:
Consolidated Condensed Balance Sheets - October 3, 1998 and January 3, 1998.. 3
Consolidated Condensed Statements of Income - Three and Nine Months
Ended October 3, 1998 and October 4, 1997................................. 4
Consolidated Condensed Statements of Cash Flows - Nine Months
Ended October 3, 1998 and October 4, 1997................................. 5
Notes to Consolidated Condensed Financial Statements......................... 6
Item 2 - Management's Discussion and Analysis of Results of Operations
and Financial Condition...................................................... 12
PART II. OTHER INFORMATION
Item 6 - Exhibits and Reports on Form 8-K........................................ 17
- 2 -
PART I
FINANCIAL INFORMATION
Item 1. Financial Statements
THE WARNACO GROUP, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS
(In thousands)
OCTOBER 3, JANUARY 3,
1998 1998
----------- -----------
(UNAUDITED)
ASSETS
Current assets:
Cash .......................................................... $ 17,189 $ 12,009
Accounts receivable - net ..................................... 459,697 296,378
Inventories:
Finished goods .............................................. 415,514 340,246
Work in process ............................................. 151,638 107,495
Raw materials ............................................... 58,393 78,444
---------- ----------
Total inventories ............................................. 625,545 526,185
Other current assets .......................................... 40,453 45,228
---------- ----------
Total current assets ............................................ 1,142,884 879,800
Property, plant and equipment (net of accumulated depreciation of
$120,717 and $101,982, respectively) .......................... 212,914 130,400
Other assets:
Excess of cost over net assets acquired - net ................. 428,815 349,235
Other assets - net ............................................ 453,724 368,213
---------- ----------
Total other assets .............................................. 882,539 717,448
---------- ----------
$2,238,337 $1,727,648
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Borrowing under foreign credit facilities ..................... $ 26,297 $ 12,751
Short-term borrowings ......................................... 25,000 --
Current portion of long-term debt ............................. 8,838 7,850
Accounts payable .............................................. 451,793 289,817
Accrued liabilities ........................................... 120,136 116,892
Income taxes payable .......................................... 4,954 5,203
---------- ----------
Total current liabilities ....................................... 637,018 432,513
---------- ----------
Long-term debt .................................................. 627,030 354,263
Other long-term liabilities ..................................... 12,383 14,022
Deferred income taxes ........................................... 34,496 18,009
Company-Obligated Mandatorily Redeemable Convertible Preferred
Securities of Designer Finance Trust Holding Solely
Convertible Debentures ........................................ 101,566 100,758
Stockholders' equity:
Preferred Stock; $.01 par value ............................... -- --
Common Stock; $.01 par value .................................. 692 633
Additional paid-in capital .................................... 957,866 940,461
Cumulative translation adjustment ............................. (17,720) (14,838)
Retained earnings/(deficit) ................................... 13,414 (63,900)
Treasury stock, at cost ....................................... (108,553) (38,567)
Notes receivable for common stock issued
and unearned stock compensation ............................. (19,855) (15,706)
---------- ----------
Total stockholders' equity ...................................... 825,844 808,083
---------- ----------
$2,238,337 $1,727,648
========== ==========
This Statement should be read in conjunction with the accompanying Notes to
Consolidated Condensed Financial Statements.
- 3 -
THE WARNACO GROUP, INC.
CONSOLIDATED CONDENSED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED NINE MONTHS ENDED
----------------------- ------------------------
OCTOBER 3, OCTOBER 4, OCTOBER 3, OCTOBER 4,
1998 1997 1998 1997
---------- ---------- ---------- ---------
(UNAUDITED)
Net revenue ...................................................... $544,125 $333,413 $1,402,207 $875,143
Cost of goods sold ............................................... 357,194 209,410 915,993 559,093
-------- -------- ---------- --------
Gross profit ..................................................... 186,931 124,003 486,214 316,050
Selling, administrative and general expenses ..................... 104,390 61,707 296,528 175,401
-------- -------- ---------- --------
Income before interest and income taxes .......................... 82,541 62,296 189,686 140,649
Interest expense ................................................. 15,077 11,484 43,856 31,999
-------- -------- ---------- --------
Income before income taxes ....................................... 67,464 50,812 145,830 108,650
Provision for income taxes ....................................... 23,349 18,731 51,478 41,288
-------- -------- ---------- --------
Net income ....................................................... $ 44,115 $ 32,081 $ 94,352 $ 67,362
======== ======== ========== ========
Earnings per share:
Basic ........................................................ $0.71 $0.62 $1.52 $1.31
===== ===== ===== =====
Diluted ...................................................... $0.70 $0.60 $1.48 $1.26
===== ===== ===== =====
Cash dividends per share of common stock ......................... $0.09 $0.08 $0.27 $0.24
===== ===== ===== =====
Weighted average number of shares of common stock outstanding:
Basic ........................................................ 61,830 51,444 62,197 51,328
======== ======== ========== ========
Diluted ...................................................... 63,300 53,636 63,807 53,378
======== ======== ========== ========
This Statement should be read in conjunction with the accompanying Notes to
Consolidated Condensed Financial Statements.
- 4 -
THE WARNACO GROUP, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
NINE MONTHS ENDED
-----------------------
OCTOBER 3, OCTOBER 4,
1998 1997
---------- ---------
(UNAUDITED)
Cash flow from operations:
Net income ...................................................... $ 94,352 $ 67,362
Non-cash items included in net income:
Depreciation and amortization ............................... 44,660 22,492
Amortization of unearned stock compensation ................. 3,533 2,486
Change in deferred income taxes ............................. 52,132 --
Other changes in operating accounts ......................... (105,814) (178,351)
--------- ---------
Net cash provided (used) in operations before non-recurring items 88,863 (86,011)
Cash expenses related to non-recurring charges .................. (4,811) (3,994)
--------- ---------
Net cash provided by (used in) operations ....................... 84,052 (90,005)
--------- ---------
Cash flow from investing activities:
Proceeds from sale of fixed assets .......................... 2,210 610
Purchase of property, plant & equipment ..................... (103,737) (32,086)
Payment of assumed liabilities and acquisition accruals ..... (18,801) (15,027)
Acquisition of assets and licenses .......................... (44,088) --
Increase in intangible and other assets ..................... (116,284) (15,400)
--------- ---------
Net cash used in investing activities ........................... (280,700) (61,903)
--------- ---------
Cash flow from financing activities:
Borrowings under revolving credit facilities ................ 322,637 351,197
Borrowings under term loan agreement ........................ 42,206 --
Repayment of borrowings under term loan agreement ........... (21,500) --
Repayment of debt ........................................... (34,438) (189,828)
Proceeds from the exercise of options and payment of
notes receivable from employees ...................... 41,982 4,188
Purchase of treasury shares and payment of withholding taxes
on option exercises ..................................... (105,631) (8,120)
Dividends paid .............................................. (16,082) (12,074)
Other ....................................................... (33,393) (786)
--------- ---------
Net cash provided by financing activities ....................... 195,781 144,577
--------- ---------
Effect of exchange rate changes on cash ......................... 6,047 7,176
--------- ---------
Increase (decrease) in cash ..................................... 5,180 (155)
Cash at beginning of period ................................. 12,009 11,840
--------- ---------
Cash at end of period ....................................... $ 17,189 $ 11,685
========= =========
Other changes in operating accounts:
Accounts receivable ......................................... $(166,305) $ (63,312)
Inventories ................................................. (95,269) (145,918)
Other current assets ........................................ 4,554 (1,284)
Accounts payable and accrued liabilities .................... 151,694 34,996
Income taxes payable ........................................ (488) 981
Other ....................................................... -- (3,814)
--------- ---------
$(105,814) $(178,351)
========= =========
This Statement should be read in conjunction with the accompanying Notes to
Consolidated Condensed Financial Statements.
- 5 -
THE WARNACO GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
NOTE 1 - Basis of Presentation
The accompanying unaudited consolidated condensed financial statements have been
prepared in accordance with generally accepted accounting principles and
Securities and Exchange Commission rules and regulations for interim financial
information. Accordingly, they do not contain all of the information and notes
required by generally accepted accounting principles for complete financial
statements. In the opinion of the Company, the accompanying consolidated
condensed financial statements contain all adjustments (all of which were of a
normal recurring nature) necessary to present fairly the financial position of
the Company as of October 3, 1998 as well as its results of operations and cash
flows for the periods ended October 3, 1998 and October 4, 1997. Operating
results for interim periods may not be indicative of results for the full fiscal
year. For further information, refer to the consolidated financial statements
and notes thereto included in the Company's Annual Report on Form 10-K for the
fiscal year ended January 3, 1998. Certain amounts for prior periods have been
reclassified to be comparable with the current period presentation.
NOTE 2 - ACQUISITIONS
In June 1998, the Company acquired certain inventory and other assets as well as
the sub-license to produce Calvin Klein jeans and jeans-related products for
children in the United States, Mexico and Central and South America from
Commerce Clothing Company LLC ("Commerce") for approximately $36.9 million. A
preliminary allocation of the purchase price to the fair value of the assets
acquired is summarized below:
(in millions)
Inventories................................... $ 5.3
Other current assets.......................... 0.3
Fixed assets.................................. 0.3
Intangible and other assets................... 39.0
Accrued liabilities........................... (8.0)
-----
Purchase price................................ $36.9
=====
In addition, the Company entered into a supply agreement with a subsidiary of
Commerce whereby the Company will purchase, at a specified price, certain
products for a period of eighteen months.
In June 1998, the Company also acquired certain assets as well as the
sub-license to distribute Calvin Klein jeans, jeans-related products and khakis
for men and women in Mexico and Central Mexico from Macro Jeans S.A. de C.V. for
approximately $4.0 million.
These acquisitions, accounted for as purchases, did not have a material
pro-forma impact on 1998 consolidated earnings.
NOTE 3 - CAPITAL STOCK
On August 19, 1998, the Company's Board of Director's declared a quarterly cash
dividend of $0.09 per share to be paid on October 8, 1998 to shareholders of
record as of September 3, 1998. During
- 6 -
THE WARNACO GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)
the first nine months of fiscal 1998, the Company repurchased approximately
2,609,200 shares in open market purchases and under equity option arrangements
at a cost of approximately $72.3 million. Excluded from these amounts are the
repurchase of approximately 1,446,700 shares at a cost of $34.2 million, for
which settlement did not occur prior to the end of the Company's fiscal quarter.
Including the shares settling subsequent to the Company's quarter end, a total
of approximately 5,038,400 shares have been repurchased under the current
authorization of 12,420,000 million shares leaving approximately 7,381,600
shares available to repurchase. In addition, as of October 3, 1998 the Company
had options outstanding on approximately 2,257,700 shares at an average forward
price of approximately $36.48 per share. These option arrangements expire
between November 1998 and August 1999. Under these option arrangements, the
Company is obligated to either purchase its common stock at the forward price or
pay or receive cash for the difference between the forward price and the market
price of the Company's common stock at the option expiration date. After
accounting for these options, the Company has approximately 5,123,900 shares
available to repurchase. As of October 3, 1998, treasury stock includes
approximately 3,985,100 shares at a cost of $108.6 million. The change in
additional paid-in capital during the first nine months of fiscal 1998 primarily
relates to stock options exercised in which previously owned shares were
tendered for payment of the exercise price of the options and the related
employee withholding taxes, net of related tax benefits to the Company.
NOTE 4 - RESTRICTED STOCK
In May 1998, the Company's Board of Directors authorized the issuance of 182,903
shares of restricted stock to certain employees, including certain officers and
directors of the Company. The restricted shares vest ratably over four years and
will be fully vested in May 2002. The fair market value of the restricted shares
was approximately $7.7 million at the date of grant. The Company will recognize
compensation expense equal to the fair value of the restricted shares over the
vesting period.
NOTE 5 - NEW ACCOUNTING STANDARDS
In June 1997, the FASB issued Statement of Financial Accounting Standards No.
131, "Disclosures about Segments of an Enterprise and Related Information" (SFAS
No. 131). In December 1997, the FASB issued SFAS No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits" (SFAS No. 132),
which revises disclosure requirements for employers' pension and other retiree
benefits. These statements are effective for the Company for fiscal 1998. The
Company is studying the application of these new statements to evaluate the
disclosure requirements. The adoption of these statements will have no impact on
the Company's consolidated financial position, liquidity, cash flows or results
of operations. However, the Company will present reportable segment information
pursuant to the adoption of SFAS No. 131.
In February, 1998, the FASB approved the issuance of an AICPA Statement of
Position (SOP 98-5) requiring that pre-operating costs relating to the start-up
of new manufacturing facilities and product launches be expensed as incurred. It
has been the Company's consistent accounting policy to capitalize such costs for
amortization over appropriate periods not to exceed five years. Adoption of the
SOP will be required for the Company in fiscal 1999 and will be reported as the
cumulative effect of a change in accounting principle, net of tax. Based on
amounts capitalized at October 3, 1998 and projected pre-operating costs to be
incurred through the balance of the fiscal year, net of amortization, the impact
of the change in accounting could result in a non-cash charge of approximately
$120.0 million, net of income tax benefits.
In June 1998, the FASB issued Statement of Financial Accounting Standards No.
133, "Accounting for Derivative Instruments and Hedging Activities" (SFAS No.
133). This statement, which is effective for the fiscal year beginning January
3, 2000, establishes accounting and reporting standards for derivative
instruments and hedging activities. SFAS No. 133 requires the recognition of all
derivatives as either assets or liabilities in the statement of financial
position along with the measurement of such instruments at fair value.
Management believes that the implementation of SFAS No. 133 will not have a
material impact on the Company's consolidated financial position, liquidity,
cash flows or results of operations.
- 7 -
THE WARNACO GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)
NOTE 6 - COMPREHENSIVE INCOME
The Company adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income" (SFAS No. 130) effective with the beginning of
fiscal 1998. SFAS No. 130 establishes standards for reporting of changes in
equity from nonowner sources in the financial statements; however, the adoption
of SFAS No. 130 has no impact on the Company's net earnings or stockholders'
equity. Under SFAS No. 130, among other things, foreign currency translation
adjustments, which are reported separately in stockholders' equity, are included
in other comprehensive income.
Total comprehensive income, representing changes in foreign currency translation
adjustments, was $39.5 million and $28.2 million for the three month periods
ended October 3, 1998 and October 4, 1997 and $92.5 million and $64.1 million
for the nine month periods ending October 3, 1998 and October 4, 1997,
respectively.
NOTE 7 - DEBT
In April 1998, the Company amended a 1996 bank credit agreement (the
"Agreement") to increase a revolving loan facility to 480 million French Francs
from 120 million French Francs. Borrowings under the Agreement bear interest at
LIBOR plus .40% and mature on December 31, 2001.
In July 1998, the Company amended its $300 million Trade Letter of Credit
Facility (the "L/C Facility") to increase the size of the facility to $450
million, to extend the borrowing period for amounts due under the maturing
letters of credit from 120 days to 180 days, to extend the maturity of the L/C
Facility to July 29, 1999 and to eliminate certain restrictions relating to debt
and investments. In conjunction with the amendment of the L/C Facility, the
Company also amended its $600 million revolving credit facility and its $200
million 364-day credit facility to allow for the increase in the L/C Facility
and the elimination of certain restrictions relating to debt and investments.
The Company uses derivative financial instruments in the management of interest
rate and foreign currency exposures. The Company does not use derivative
financial instruments for trading or speculative purposes. During the first nine
months of fiscal 1998, the Company entered into new
- 8 -
THE WARNACO GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)
interest rate swap agreements and amended certain existing interest rate swap
agreements with several of its lenders to convert variable rate obligations of
$610.0 million, including amounts under the L/C Facility, to fixed rate
borrowings bearing interest at 5.99%. The agreements mature in September 2004.
The Company follows accrual accounting for these interest rate swap agreements.
NOTE 8 - SUMMARIZED FINANCIAL AND PRO-FORMA INFORMATION
The following is summarized unaudited financial information of the Company's
wholly-owned subsidiary, Designer Holdings as of October 3, 1998 and January 3,
1998 and for the nine month periods ended October 3, 1998 and September 30,
1997, respectively. Designer Holdings, acquired by the Company in the fourth
quarter of 1997, develops, manufactures and markets designer jeanswear and
jeans-related sportswear for men, women and juniors and holds a 40-year
extendable license from Calvin Klein, Inc. to develop, manufacture and market
designer jeanswear and jeans- related sportswear collections in North, South and
Central America under the Calvin Klein Jeans(R), CK Calvin Klein Jeans(R), and
CK/Calvin Klein/Khakis(R) labels.
(DOLLARS IN THOUSANDS)
BALANCE SHEET SUMMARY: OCTOBER 3, JANUARY 3,
1998 1998
--------- ---------
Current assets............................. $148,745 $129,285
Noncurrent assets.......................... 528,334 497,557
Current liabilities........................ 122,126 104,458
Noncurrent liabilities..................... 58,500 59,800
Redeemable preferred securities............ 101,566 100,758
Stockholders' equity....................... 394,887 361,826
INCOME STATEMENT SUMMARY: NINE MONTHS ENDED
--------------------------
OCTOBER 3, SEPTEMBER 30,
--------- -------------
1998(A) 1997(B)
Net revenues............................... $332,806 $365,049
Cost of good sold.......................... 223,449 262,759
Net income before extraordinary item....... 33,061 274
Net income (loss).......................... 33,061 (633)
(a) Excludes net revenues of $59.3 million now reported as Retail division
net revenues. As a result of the continuing integration of Designer
Holdings into the operations of the Company, cost of goods sold and net
income associated with these net revenues cannot be separately
identified.
(b) The summarized income statement information for the nine months ended
September 30, 1997 is presented on a historical basis and does not
reflect the effect of the acquisition by the Company. Certain amounts
have been reclassified to cost of goods sold to conform to the current
year presentation.
The following summarized unaudited pro forma information combines the historical
results of operations of the Company with Designer Holdings, after the effects
of estimated purchase accounting adjustments, assuming the acquisition had
occurred at the beginning of fiscal 1997. The pro forma information does not
reflect any cost savings or other benefits anticipated as a result of the
acquisition. The pro forma information does not purport to be indicative of the
results that would have been obtained if the operations had actually been
combined during the period presented nor are they indicative of future results
for the combined companies.
- 9 -
THE WARNACO GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)
(dollars in thousands)
NINE MONTHS ENDED
OCTOBER 4, 1997
Statement of Income Data:
Net revenues......................................... $1,240,100
Net income before extraordinary item................. $ 68,100
Net income........................................... $ 67,200
Income per common share before extraordinary item:
Basic............................................ $1.10
=====
Diluted.......................................... $1.07
=====
Income per common share:
Basic............................................ $1.09
=====
Diluted.......................................... $1.05
=====
The final assessment of the purchase accounting estimates have not yet been
completed. During the nine months ended October 3, 1998, adjustments to these
estimates (primarily for revisions to estimated liabilities assumed) increased
the excess of cost over net assets acquired by approximately $70.0 million.
NOTE 9 - EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
share:
THREE MONTHS ENDED NINE MONTHS ENDED
---------------------- -----------------------
OCTOBER 3, OCTOBER 4, OCTOBER 3, OCTOBER 4,
1998 1997 1998 1997
---------- ---------- ---------- ----------
(IN THOUSANDS EXCEPT PER SHARE DATA)
Numerator for basic and diluted earnings per share:
Net income....................................... $ 44,115 $ 32,081 $ 94,352 $ 67,362
========= ========= ======== =========
Denominator for basic earnings per share--
weighted average shares........................ 61,830 51,444 62,197 51,328
--------- --------- -------- ---------
Effect of dilutive securities:
Employee stock options......................... 521 1,721 1,019 1,605
Restricted stock shares........................ 507 471 481 445
Shares under put option contracts.............. 442 -- 110 --
--------- --------- -------- ---------
Dilutive potential common shares................. 1,470 2,192 1,610 2,050
--------- --------- -------- ---------
Denominator for diluted earnings per share--
weighted average adjusted shares............... 63,300 53,636 63,807 53,378
========= ========= ======== =========
Basic earnings per share......................... $0.71 $0.62 $1.52 $1.31
========= ========= ======== =========
Diluted earnings per share....................... $0.70 $0.60 $1.48 $1.26
========= ========= ======== =========
Options to purchase 315,000 shares of common stock at prices ranging from $39.25
to $42.88 per share were outstanding during the first nine months of fiscal 1998
but were not included in the computation of diluted earnings per share because
the options' exercise price was greater than the average market price of the
common shares. The options, which expire from March 2008 through July 2008, were
still outstanding as of October 3, 1998.
Incremental shares issuable on the assumed conversion of the preferred
securities (1,653,177 shares) were not included in the computation of diluted
earnings per share as the impact would have been antidilutive.
NOTE 10 - CASH FLOW INFORMATION
NINE MONTHS ENDED
-----------------------
OCTOBER 3, OCTOBER 4,
1998 1997
---------- ----------
(DOLLARS IN THOUSANDS)
Cash paid (received) for:
Interest (net of amounts capitalized of $962 in fiscal 1998;
0 in fiscal 1997)......................................... $ 42,224 $ 29,923
Income taxes, net of refunds received....................... $ (7,571) $ 5,573
- 10 -
THE WARNACO GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS - (Continued)
NOTE 11 - SUBSEQUENT EVENTS
In October 1998, the Company entered into a $200 million revolving accounts
receivable securitization facility. Under this facility, the Company entered
into agreements to sell, for a period of up to five years, undivided
participation interests in designated pools of U. S. trade receivables.
Participation interests in new receivables may be sold as collections reduce
previously sold participation interests. The participation interests are sold
at a discount to reflect normal dilution. Net proceeds to the company were
$200 million.
As part of a continuing strategic review of facilities, products and functions
following significant acquisitions in 1996 and 1997, the Company intends to
implement programs designed to streamline operations and improve profitability.
As a result of this review, the Company expects to report a charge in the fourth
quarter of fiscal 1998, currently estimated to be approximately $55 million, net
of tax benefits. The charge will be for the consolidation of both domestic and
international manufacturing, warehouse and distribution and administrative
operations and facilities and the discontinuation of non-strategic
brands/licenses. Included in the fourth quarter charge will be employee costs,
non-cash inventory and other asset write-downs and other costs related to these
actions. These programs will commence in the fourth quarter of fiscal 1998 and
are expected to be substantially completed by mid-1999, generating annual cash
savings of approximately $10 million on a pre-tax basis.
- 11 -
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION.
RESULTS OF OPERATIONS
STATEMENTS OF INCOME (SELECTED DATA)
(AMOUNTS IN MILLIONS OF DOLLARS)
THREE MONTHS ENDED NINE MONTHS ENDED
OCTOBER 3, OCTOBER 4, OCTOBER 3, OCTOBER 4,
1998 1997 1998 1997
--------- ---------- ---------- --------
Net revenues ............................... $ 544.1 $ 333.4 $1,402.2 $875.1
Cost of goods sold ......................... 357.2 209.4 916.0 559.1
-------- -------- -------- ------
Gross profit ............................... 186.9 124.0 486.2 316.0
% of net revenues ........................ 34.4% 37.2% 34.7% 36.1%
Selling, administrative and general expenses 104.4 61.7 296.5 175.4
-------- -------- -------- ------
Income before interest and income taxes .... 82.5 62.3 189.7 140.6
% to net revenues ...................... 15.2% 18.7% 13.5% 16.1%
Interest expense ........................... 15.1 11.5 43.8 32.0
Provision for income taxes ................. 23.3 18.7 51.5 41.2
-------- -------- -------- ------
Net income ................................. $ 44.1 $ 32.1 $ 94.4 $ 67.4
======== ======== ======== ======
Net revenues in the third quarter of fiscal 1998 were $544.1 million, $210.7
million or 63.2% higher than the $333.4 million recorded in the third quarter of
fiscal 1997. 1998 net revenues include $169.8 million associated with the Calvin
Klein Jeanswear acquisitions, completed in the fourth quarter of 1997 and the
second quarter of 1998. Excluding the impact of the above acquisitions, net
revenues increased $40.9 million or 12.3%. International net revenues increased
$15.7 million or 21.7% during the quarter due to strength in the Calvin Klein
business in Europe coupled with increases at the Company's Lejaby division. Net
revenues for the nine months ended October 3, 1998 were $1,402.2 million, an
increase of $527.1 million or 60.2% over the $875.1 million in the first nine
months of fiscal 1997. Acquisitions contributed $409.1 million to net revenues
for the nine month period ended October 3, 1998. Excluding net revenues
attributable to the Calvin Klein Jeanswear acquisitions, net revenues increased
$118.0 million or 13.5%.
Intimate apparel division net revenues increased $9.4 million or 4.0% to $245.1
million from $235.7 million in the third quarter of fiscal 1997. The increase in
net revenues in the third quarter of fiscal 1998 compared with fiscal 1997 was
generated by a strong increase in core domestic branded products, attributed
substantially to the continued success of Olga's Simply Perfect and Warner's
Naked Truth lines. In addition, Calvin Klein Underwear net revenues increased
approximately 9.5% and Bodyslimmers net revenues nearly tripled during the
period. Partially offsetting these increases were declines in private label net
revenues, reflecting the Company's strategic decision to reduce private label
business. Net revenues for the nine months ended October 3, 1998 increased
$39.1 million or 6.1% to $683.6 million compared with $644.5 million in the
first nine months of 1997. The increase was due to stronger shipments of core
domestic branded products as well as increases in Bodyslimmers and Lejaby.
Sportswear division net revenues increased $177.9 million or 210.3% to $262.5
million in the third quarter of fiscal 1998. The Calvin Klein Jeanswear
acquisitions in the fourth quarter of 1997 and the second quarter of 1998 added
$152.9 million to the Sportswear division's net revenues. Excluding these
acquisitions, net revenues increased by $25.0 million or 29.6%. This increase
is attributable to a 31.1% increase in Chaps by Ralph Lauren. Net revenues for
- 12 -
the nine months ended October 3, 1998 increased $429.6 million or 220.9% to
$624.1 million compared with $194.5 million in the first nine months of fiscal
1997. Excluding the Calvin Klein jeanswear and kidswear acquisitions for the
nine-month period, net revenues increased by $64.5 million or 33.2%. The
increase for the nine months primarily reflects an increase in net revenues of
34.5% in Chaps by Ralph Lauren and an 11.4% increase for Calvin Klein
accessories.
Gross profit increased by $62.9 million or 50.7% to $186.9 million in the third
quarter of fiscal 1998 compared with $124.0 million in the third quarter of
fiscal 1997. Gross profit as a percentage of net revenues was 34.4% in the third
quarter of fiscal 1998 compared with 37.2% in the third quarter of fiscal 1997.
The decrease in gross margin was a result of the addition of the jeanswear
business, which carries a lower gross margin than the intimate apparel division.
Gross profit for the first nine months of fiscal 1998 increased $170.2 million
or 53.9% to $486.2 million from $316.0 million in the first nine months of
fiscal 1997. Gross profit as a percentage of net revenues was 34.7% for the nine
months of fiscal 1998 compared with 36.1% in 1997. The year-to-date gross margin
reflects the inclusion of the jeanswear business, which carries a lower gross
margin.
Selling, administrative and general expenses increased $42.7 million or 69.2% to
$104.4 million (19.2% of net revenues) in the third quarter of fiscal 1998
compared with $61.7 million (18.5% of net revenues) in the third quarter of
fiscal 1997. Selling, administrative and general expenses for the first nine
months of fiscal 1998 increased $121.1 million or 69.0% to $296.5 million (21.1%
of net revenues) compared with $175.4 million (20.0 % of net revenues) in fiscal
1997. The increase in selling, administrative and general expenses is due
primarily to higher marketing and corporate expenses reflecting additional
headcount and costs associated with information services related to new systems
and the year 2000 implementation.
Interest expense increased $3.6 million in the third quarter of fiscal 1998 to
$15.1 million. Interest expense for the nine months ended October 3, 1998
increased $11.8 million to $43.8 million from $32.0 million in the first nine
months of fiscal 1997. The increase in 1998 interest expense reflects the
funding of the Company's recent acquisitions and stock buyback program.
The estimated full year effective tax rate for fiscal 1998 was lowered to 35.3%
resulting in an effective tax rate of 34.6% for the third quarter. The
difference between the United States federal statutory rate of 35% and the
Company's estimated effective tax rate of 35.3% reflects the impact of state
income taxes and the effects of non-deductible intangible amortization offset by
foreign income taxed at rates more favorable than the United States statutory
rate.
Net income for the third quarter of fiscal 1998 was $44.1 million, an increase
of $12.0 million or 37.4% compared with $32.1 million in the third quarter of
fiscal 1997. Net income for the first nine months of fiscal 1998 increased $27.0
million or 40.1% to $94.4 million compared with $67.4 million in the first nine
months of fiscal 1997. The increase for both the quarter and nine months
reflects higher net revenues and associated gross profit mentioned above.
CAPITAL RESOURCES AND LIQUIDITY
The Company's liquidity requirements arise primarily from its debt service
requirements, capital expenditures related to the Company's year 2000 compliance
program and the funding of the Company's working capital needs, primarily
inventory and accounts receivable. The Company's borrowing requirements are
seasonal, with peak needs generally arising at the end of the second quarter and
during the third quarter of the fiscal year. The Company typically generates
nearly all of its operating cash flow in the fourth quarter of the fiscal year
reflecting third and fourth quarter shipments and the sale of inventory built
during the first half of the fiscal year.
- 13 -
Cash provided by/(used in) operations before non-recurring items was $88.9
million in the first nine months of fiscal 1998 compared with $(86.0) million in
the first nine months of fiscal 1997. The increase in cash provided by operating
activities reflects better management of working capital and higher net income.
Receivable levels increased at quarter end in line with the third quarter sales
increase and inventory levels were up in anticipation of fourth quarter shipment
levels.
Cash used in investing activities was $280.7 million for the first nine months
of fiscal 1998 compared with $61.9 million in the first nine months of fiscal
1997. Capital expenditures were $103.7 million in the first nine months of
fiscal 1998, compared with $32.1 million in the first nine months of fiscal 1997
and included amounts for information systems and store fixture programs for
Calvin Klein Jeans "shop in shops". During the second quarter of 1998, the
Company acquired certain inventory and other assets as well as the sub-license
to produce Calvin Klein jeans and jeans-related products for children in the
United States, Mexico and Central and South America. In addition, the Company
acquired certain assets as well as the sub-license to distribute Calvin Klein
jeans and jeans-related products and khakis for men and women in Mexico and
Central America. The purchase price of these acquisitions was approximately
$40.9 million.
Cash provided from financing activities was $195.8 million in the first nine
months of fiscal 1998 compared with $144.6 million in the first nine months of
fiscal 1997. The increase in the Company's revolving credit balance during the
first nine months of fiscal 1998 was $322.6 million compared with $351.2 million
in the first nine months of fiscal 1997 due to the funding of the most recent
acquisitions and stock repurchase program and capital expenditures for the
Company's year 2000 compliance program. The Company paid approximately $105.6
million for the repurchase of shares and withholding taxes on option exercises
in the first nine months of fiscal 1998. The Company repurchased approximately
2.6 million shares of its common stock in the first nine months of fiscal 1998
at an average cost of approximately $27.72 per share or approximately $72.3
million. Excluded from these amounts are the repurchase of approximately 1.4
million shares at a cost of approximately $34.2 million, for which settlement
did not occur prior to the end of the Company's fiscal quarter. Including these
shares, the Company has purchased approximately 5.0 million shares of its common
stock under the current repurchase authorization of 12.4 million shares, leaving
approximately 7.4 million shares available to repurchase. At October 3, 1998 the
Company has options outstanding on approximately 2.3 million of its shares at an
average forward price of $36.48 per share, expiring between November 1998 and
August 1999. Under these option arrangements, the Company is obligated to either
purchase its stock at the forward price or pay or receive cash for the
difference between the forward price and the market price of the Company's stock
at the option expiration date. If fully exercised, the aggregate purchase price
for the Company's stock under these options would be $82.4 million.
In April 1998, the Company amended its 1996 Bank Credit Agreements (the
"Agreement") to increase its revolving loan facilities to 480 million French
Francs from 120 million French Francs. Borrowings under the Agreement bear
interest at LIBOR plus .40% and mature on December 31, 2001. In July 1998, the
Company amended its $300 million Trade Letter of Credit Facility (the "L/C
Facility") to increase the size of the facility to $450 million, to extend the
borrowing period for amounts due under the maturing letters of credit from 120
days to 180 days, to extend the maturity of the L/C Facility to July 29, 1999
and to eliminate certain restrictions relating to debt and investments. The
amount of borrowings available under both the 1996 Bank Credit Agreements and
the L/C Facility was increased to accommodate the internal growth of the
Company's business as well as the increased demand for finished product
purchases stemming from the acquisition of Designer Holdings in the fourth
quarter of 1997 and the acquisition of the CK Kids business in the second
quarter of 1998. In conjunction with the amendment of the L/C Facility, the
Company also
- 14 -
amended its $600 million revolving credit facility and its $200 million 364-day
credit facility to allow for the increase in the L/C Facility and the
elimination of certain restrictions relating to debt and investments.
In October 1998, the Company entered into a $200 million revolving accounts
receivable securitization facility. Under this facility, the Company entered
into agreements to sell, for a period of up to five years, undivided
participation interests in designated pools of U. S. trade receivables.
Participation interests in new receivables may be sold as collections reduce
previously sold participation interests. The participation interests are sold at
a discount to reflect normal dilution. Net proceeds to the Company from the
initial funding were $200 million, and were used primarily to retire long-term
debt.
YEAR 2000 AND ECONOMIC AND MONETARY UNION ("EMU") COMPLIANCE.
The Year 2000 issue is the result of computer programs being written using
two digits rather than four to define the applicable year. Any of the Company's
computer programs that have time- sensitive software may recognize a date
using "00" as the year 1900 rather than the year 2000. These programs, including
some that are critical to the Company's operations, could fail to properly
process data that contain dates after 1999 unless they are modified or replaced.
Following a comprehensive review of current systems and future requirements
to support international growth, the Company initiated a program to replace
existing capabilities with enhanced hardware and software applications. The
objectives of the program are to achieve competitive benefits for the Company,
as well as assuring that all information systems will meet Year 2000 and EMU
compliance. Full implementation of this program is expected to require
expenditures, primarily capital, of approximately $17 million over the next
twelve to eighteen months, primarily for Year 2000 compliance and system
upgrades. Funding requirements have been incorporated into the Company's capital
expenditure planning and are not expected to have a material adverse impact on
financial condition, results of operations or liquidity. Approximately $43.2
million has been incurred through October 3, 1998 and such amounts are included
in property and equipment. The implementation and testing processes are expected
to be complete in the first quarter of fiscal 1999 for the Chaps and Calvin
Klein Underwear divisions and in mid-1999 for all of the remaining divisions
of the Company.
As a part of its Year 2000 process, the Company intends to test its Year 2000
readiness for critical business processes and application systems. The Company
anticipates that minor issues will be identified during this test period and
intends to address such issues during the first half of fiscal 1999. The Company
has contacted key suppliers and vendors in order to determine the status of such
third parties' Year 2000 remediation plans. The Company recognizes the need for
Year 2000 contingency plans in the event that remediation is not fully
successful or that the remediation efforts of its vendors, suppliers and
governmental/regulatory agencies are not timely completed. This process will be
on-going throughout 1999 and the Company will be better able to assess the risk
and prepare contingency plans when third party processes are more complete.
The Company recognizes that issues related to Year 2000 constitute a material
known uncertainty. The Company also recognizes the importance of ensuring its
operations will not be adversely affected by Year 2000 issues. It believes that
the processes described above will be effective to manage the risks associated
with the problem. However, there can be no assurance that the process can be
completed on the timetable described above or that the remediation process will
be fully effective. The failure to identify and remediate Year 2000 problems
or, the failure of key third
- 15 -
parties who do business with the Company or governmental regulatory agencies to
timely remediate their Year 2000 issues could cause system failures or errors
and business interruptions.
Readers are cautioned that forward-looking statements contained in the Year 2000
update should be read in conjunction with the Company's disclosure under
"Statement Regarding Forward-looking Disclosures".
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risk related to changes in interest rates
and foreign currency exchange rates, and selectively uses financial instruments
to manage these risks. The Company does not enter into financial instruments for
speculative or trading purposes. The Company has interest rate agreements with
several financial institutions to limit exposure to interest rate volatility.
Additionally, the Company enters into foreign currency forward and option
contracts to mitigate the risks of doing business in foreign currencies. The
Company hedges currency exposures of firm commitments and anticipated
transactions denominated in non-functional currencies to protect against the
possibility of diminished cash flow and adverse impacts on earnings. The Company
is exposed to credit loss in the event of nonperformance by counterparties on
foreign exchange contracts and interest rate swap agreements. The Company
minimizes such risk exposure by limiting the counterparties to major
international banks and financial institutions. The Company's currency exposures
vary, but are primarily concentrated in the Canadian dollar, Mexican peso,
British pound, German mark, French franc and Hong Kong dollar.
The value of market risk sensitive instruments is subject to change as a
result of movement in market rates and prices.
STATEMENT REGARDING FORWARD-LOOKING DISCLOSURE
This Report includes "forward-looking statements" within the meaning of
Section 27A of Securities Act of 1933, as amended and Section 21E of the
Securities Exchange Act of 1934, as amended which represent the Company's
expectations or beliefs concerning future events that involve risks and
uncertainties, including those associated with the effect of national and
regional economic conditions, the overall level of consumer spending, the
performance of the Company's products within the prevailing retail environment,
customer acceptance of both new designs and newly-introduced product lines, and
financial difficulties encountered by customers. All statements other than
statements of historical facts included in this quarterly report, including,
without limitation, the statements under Management's Discussion and Analysis of
Financial Condition, are forward-looking statements. Although the Company
believes that the expectations reflected in such forward-looking statements are
reasonable, it can give no assurance that such expectations will prove to have
been correct.
- 16 -
PART II -- OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits.
10.4 Amended and Restated Master Agreement of Sale, dated as of September
30, 1998, among Warnaco Inc., as Originator, and Gregory Street, Inc.,
as Buyer and Servicer.
10.5 Master Agreement of Sale, dated as of September 30, 1998, among Calvin
Klein Jeanswear Company, as Originator, and Gregory Street, Inc., as
Buyer and Servicer.
10.6 Purchase and Sale Agreement, dated as of September 30, 1998, among
Gregory Street, Inc., as Seller and initial Servicer and Warnaco
Operations Corporation, as Buyer.
10.7 Parallel Purchase Commitment, dated as of September 30, 1998, among
Warnaco Operations Corporation, as Seller and certain commercial
lending institutions, as the Banks, and Gregory Street, Inc., as the
initial Servicer and The Bank of Nova Scotia, as Agent.
10.8 Receivables Purchase Agreement, dated as of September 30, 1998, among
Warnaco Operations Corporation, as Seller, Gregory Street, Inc., as
Servicer, Liberty Street Funding Corp. and Corporate Asset Funding
Company, Inc., as Investors and The Bank of Nova Scotia, as Agent, and
Citicorp North America, Inc., as Co-Agent.
27.1 -- Financial Data Schedule
(b) Reports on Form 8-K.
No reports on Form 8-K were filed during the third quarter of fiscal
1998.
- 17 -
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.
THE WARNACO GROUP, INC.
Date: November 17, 1998 By: /s/ WILLIAM S. FINKELSTEIN
---------------------------------
William S. Finkelstein
Director, Senior Vice President
and Chief Financial Officer
Principal Financial and
Accounting Officer
Date: November 17, 1998 By: /s/ STANLEY P. SILVERSTEIN
--------------------------------
Stanley P. Silverstein
Vice President, General Counsel
and Secretary
- 18 -