<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------------------------
FORM 10-Q/A
-----------------------------------
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 29, 1996
OR
/ / 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 1-11805
---------------------------------------
DONNA KARAN INTERNATIONAL INC.
(Exact name of registrant as specified in its charter)
Delaware 13-3882426
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
550 Seventh Avenue, New York, New York 10018
(Address of principal executive offices)
(Zip Code)
(212) 789-1500
(Registrant's telephone number, including area code)
NOT APPLICABLE
(Former name, former address and former
fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter periods that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. YES X NO
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date.
CLASS OUTSTANDING AS
Common Stock, par value $.01* OF NOVEMBER 7, 1996
-------------------
21,468,034
* Does not include 18 shares of Class A Common Stock, par value $.01 per
share, and two shares of Class B Common Stock, par value $.01 per share,
outstanding as of such date.
<PAGE>
DONNA KARAN INTERNATIONAL INC.
INDEX TO FORM 10-Q
Items 1 and 2 of the Company's Quarterly Report on Form 10-Q for the quarter
ended September 29, 1996 are hereby amended, and, as so amended, are restated
below in their entirety.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
PAGE
Statements of income for the three months and nine months ended
October 1, 1995 and September 29, 1996, respectively. . . . . . . . . . . 3
Balance sheets as of December 31, 1995 and September 29, 1996 . . . . . . 4
Statements of cash flows for the nine months ended
October 1, 1995 and September 29, 1996, respectively. . . . . . . . . . . 5
Notes to Financial Statements . . . . . . . . . . . . . . . . . . . . . . 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations . . . . . . . . . . . . . . . . . . . . . . 11
2
<PAGE>
<TABLE>
<CAPTION>
DONNA KARAN INTERNATIONAL INC.
STATEMENTS OF INCOME (NOTE 5)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
------------------- -----------------
OCTOBER 1, SEPTEMBER 29, OCTOBER 1, SEPTEMBER 29,
1995 1996 * 1995 1996 *
---- ---- ---- ----
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Net revenues. . . . . . . . . . . . . . . $ 152,389 $ 173,415 $ 375,813 $450,641
Cost of sales . . . . . . . . . . . . . . 96,227 117,909 244,336 305,129
--------- --------- --------- --------
Gross profit. . . . . . . . . . . . . . . 56,162 55,506 131,477 145,512
Selling, general and administrative expenses 34,288 52,386 98,988 129,829
--------- --------- --------- --------
Operating income. . . . . . . . . . . . . 21,874 3,120 32,489 15,683
Other income (expense):
Equity in earnings of affiliates . . . . 816 1,180 2,207 2,789
Interest expense, net. . . . . . . . . . (1,933) (2,518) (5,851) (6,814)
Interest expense on distribution notes . -- (75) -- (1,957)
Gain on sale of interest in affiliates . -- -- 18,673 --
--------- --------- --------- --------
Income before income taxes . . . . . . . . 20,757 1,707 47,518 9,701
Provision (benefit) for income taxes . . . 735 (14,737) 2,095 (14,292)
--------- --------- --------- --------
Net income . . . . . . . . . . . . . . . . $ 20,022 $ 16,444 $ 45,423 $ 23,993
--------- --------- --------- --------
--------- --------- --------- --------
PRO FORMA
Historical income before income taxes. . . $ 20,757 $ 1,707 $ 47,518 $ 9,701
Pro forma adjustments other than income
taxes. . . . . . . . . . . . . . . . . . (1,326) -- (2,109) (1,436)
--------- --------- --------- --------
Pro forma income before income taxes . . . 19,431 1,707 45,409 8,265
Pro forma provision for income taxes . . . 8,257 755 19,389 3,601
--------- --------- --------- --------
Pro forma net income . . . . . . . . . . . $ 11,174 $ 952 $ 26,020 $ 4,664
--------- --------- --------- --------
--------- --------- --------- --------
PER SHARE DATA
Net income per share . . . . . . . . . . . $ 0.93 $ 0.77 $ 2.12 $ 1.12
--------- --------- --------- --------
--------- --------- --------- --------
Common shares outstanding. . . . . . . . . 21,468,034 21,468,034 21,468,034 21,468,034
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
* Restated (see Note 13)
</TABLE>
See Note to Financial Statements.
3
<PAGE>
DONNA KARAN INTERNATIONAL INC.
BALANCE SHEETS
(PREDECESSOR)
DECEMBER 31, SEPTEMBER 29,
1995 1996
---- ----
(AUDITED) (UNAUDITED)
(IN THOUSANDS)
ASSETS
Current assets:
Cash. . . . . . . . . . . . . . . . . . . . . $ 12,153 $ 18,012
Accounts receivable, net of allowances of
$22,507 at December 31, 1995 and $29,946 at
September 29, 1996 . . . . . . . . . . . . 62,231 85,827
Inventories. . . . . . . . . . . . . . . . . 85,655 94,066
Deferred income taxes. . . . . . . . . . . . 1,400 16,400
Prepaid expenses and other current assets. . 8,546 11,705
----- ------
Total current assets . . . . . . . . . . . 169,985 226,010
Property and equipment, at cost - net. . . . 22,505 27,885
Deferred income taxes. . . . . . . . . . . . 300 3,800
Deposits and other noncurrent assets . . . . 11,185 16,568
----- ------
$ 203,975 $ 274,263
--------- ---------
--------- ---------
LIABILITIES AND STOCKHOLDERS' EQUITY AND PARTNERS' CAPITAL
Current liabilities:
Accounts payable . . . . . . . . . . . . . . $ 53,825 $ 37,456
Accrued expenses and other current liabilities 15,766 32,956
Current portion of long-term debt. . . . . . 7,759 276
----- ---
Total current liabilities. . . . . . . . . 77,350 70,688
Long-term debt . . . . . . . . . . . . . . . 45,779 109
Stockholders' equity and partners' capital:
Common stock of intermediate entities . . 1,146 --
Common stock . . . . . . . . . . . . . . . -- 215
Additional paid in capital . . . . . . . . -- 186,899
Retained earnings and partners' capital. . 79,748 16,444
Cumulative translation adjustment. . . . . (48) (92)
--------- --------
Total stockholders' equity and partners'
capital. . . . . . . . . . . . . . . . . 80,846 203,466
------ ---------
$ 203,975 $274,263
-------- -------
-------- -------
See Note to Financial Statements.
4
<PAGE>
DONNA KARAN INTERNATIONAL INC.
STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
-----------------
OCTOBER 1, SEPTEMBER 29,
1995 1996
----- ----
(IN THOUSANDS)
<S> <C> <C>
OPERATING ACTIVITIES
Net income . . . . . . . . . . . . . . . . . . . . . . $ 45,423 $ 23,993
Adjustments to reconcile net cash provided by (used in)
operating activities, as adjusted for effect of sale of Donna
Karan Japan:
Depreciation and amortization. . . . . . . . . . . . 4,098 6,072
Provision for bad debts. . . . . . . . . . . . . . . 408 (97)
Equity in earnings of affiliate. . . . . . . . . . . (2,207) (2,789)
Deferred taxes . . . . . . . . . . . . . . . . . . . -- (18,500)
Stock award grant. . . . . . . . . . . . . . . . . . -- 2,522
Gain on sale of interests in affiliates. . . . . . . (18,673) --
Changes in operating assets and liabilities:
Decrease (increase) in accounts receivables . . . 7,761 (23,499)
Increase in inventories . . . . . . . . . . . . . (24,820) (8,455)
Increase in prepaid expenses and other current assets (15,681) (3,159)
Increase in deposits and other noncurrent assets. (261) (4,043)
Increase in accounts payable, accrued expenses, and
other current liabilities . . . . . . . . . . . 18,811 821
------ ---
Net cash provided by (used in) operating activities. . 14,859 (27,134)
------ --------
INVESTING ACTIVITIES
Purchase of property and equipment . . . . . . . . . . (3,944) (10,003)
Net cash from sale of interests in affiliates. . . . . 23,526 --
------ -------
Net cash provided by (used in ) investing activities . 19,582 (10,003)
------ --------
FINANCING ACTIVITIES
Net increase (decrease) in borrowing under revolving credit
facility . . . . . . . . . . . . . . . . . . . . . . 6,683 (7,961)
Payments under capital lease . . . . . . . . . . . . . (239) (192)
Repayment of distribution notes. . . . . . . . . . . . -- (114,484)
Repayments of long-term debt . . . . . . . . . . . . . (12,675) (45,000)
Distributions to partners. . . . . . . . . . . . . . . (22,536) (25,387)
Issuance of common stock . . . . . . . . . . . . . . . -- 236,020
------- -------
Net cash (used in) provided by financing activities. . (28,767) 42,996
-------- ------
Increase in cash . . . . . . . . . . . . . . . . . . . 5,674 5,859
Cash at beginning of period. . . . . . . . . . . . . . 3,728 12,153
----- ------
Cash at end of period. . . . . . . . . . . . . . . . . $ 9,402 $ 18,012
-------- --------
-------- --------
SUPPLEMENTAL CASH FLOW INFORMATION
Interest paid. . . . . . . . . . . . . . . . . . . . . $ 4,984 $ 6,145
-------- --------
-------- --------
Taxes paid . . . . . . . . . . . . . . . . . . . . . . $ 2,062 $ 474
-------- --------
-------- --------
</TABLE>
See Note to Financial Statements.
5
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 29, 1996
(UNAUDITED)
1. UNAUDITED FINANCIAL STATEMENTS
The unaudited financial statements do not include all information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles. For further
information, such as significant accounting policies followed by the Company,
refer to the notes to the Company's audited predecessor combined financial
statements.
In the opinion of management, the unaudited financial statements include
all necessary adjustments (consisting of normal, recurring accruals) for a fair
presentation of the financial position, results of operations and cash flows for
the interim periods presented. On a quarter to quarter basis, the Company's
operations may vary as a result of, among other things, production and shipping
schedules, the introduction of new products, and variation in the timing of
certain holidays from year to year. The results of operations for the
three-month and nine-month periods ended October 1, 1995 and September 29, 1996,
respectively, are not necessarily indicative of the operating results to be
expected for a full year.
2. BASIS OF PRESENTATION
Donna Karan International Inc. ("DKI") was incorporated in Delaware in
April 1996. In connection with DKI's initial public offering of stock (the
"Offering") on July 3, 1996, the former principals of the predecessor group of
companies and certain of their affiliates simultaneously contributed to DKI all
of the outstanding stock and partnership interests in the entities that
comprised the predecessor group of companies, in exchange for common stock (the
"Reorganization"). The accompanying predecessor combined financial statements
include the results of operations for the period from January 2, 1995 to
October 1, 1995, and from January 1, 1996 to July 2, 1996 of The Donna Karan
Company, Donna Karan Studio, The Donna Karan Company Store G.P., DK Footwear
Partners, Takihyo Fashion Company, L.P., Takihyo Design Company, L.P., TFT Store
Company, L.P., TFT Shoe Company, L.P., TFT Japan Company, L.P., and DSTF Japan
Company, which are affiliated general and limited partnerships; Gabby Apparel,
Inc., Tolara Tetragon Inc., Full Requirements Merchandising, Inc., The Donna
Karan Store Corporation, Tomio Tangents, Inc., Formal Reserve Management, Inc.,
DK Shoe Corp., Tangents Two, Inc., First Run Management, Inc., Gabrielle Japan,
Inc., TT DK Japan, Inc., and FM DK Japan, Inc., which are affiliated United
States corporations; Donna Karan Canada Inc., Donna Karan (H.K.) Limited and
Donna Karan Italy, S.R.L., Donna Karan Italy Shoe Company, S.R.L., which are
foreign corporations; and, for the period it was a wholly-owned subsidiary (see
Note 11), Donna Karan Japan, K.K. ("Donna Karan Japan"), a Japanese joint stock
company (together, the " Predecessor Company").
For the period from July 3, 1996 through September 29, 1996, the
accompanying financial statements include the results of operations of Donna
Karan International Inc., as well as all entities that were included in the
Predecessor Company, except for Takihyo Fashion Company, L.P., Takhiyo Design
Company, L.P., TFT Store Company, L.P., TFT Shoe Company, L.P. and TFT Japan
Company, L.P., all of which were dissolved in connection with the Reorganization
(the "Company"). All companies other than The Donna Karan Company, Donna Karan
Studio, The Donna Karan Company Store, G.P., DK Footwear Partners, Donna Karan
Canada Inc., Donna Karan (H.K.) Limited, Donna Karan Italy, S.R.L., Donna Karan
Italy Shoe Company, S.R.L., and Donna Karan Japan are intermediate United States
holding companies.
The financial statements of the Predecessor Company are being presented on
a combined basis because of their common ownership. The combined financial
statements have been prepared as if the entities had operated as a single
consolidated group since their respective dates of organization. Because DKI
conducted no business prior to the Reorganization, it was not included in the
results of operations of the Predecessor Company.
For comparative purposes, certain prior period amounts have been
reclassified to conform to current period presentation.
All significant intercompany balances and transactions have been
eliminated. The equity method of accounting is used for Donna Karan Japan
during the period when it is 70% owned by a nonaffiliated partner (see Note 11).
3. DISTRIBUTION NOTES
On April 16, 1996, the Company issued to its former principals and certain
of their affiliates distribution notes totaling $114,484,000,which represented
an estimate of the cumulative undistributed taxable income (on which taxes
previously have been paid) of the Predecessor Company since its inception
through the anticipated closing date of the Offering. The notes bore interest
at a rate of 8% per annum, and were repaid with the proceeds from the Offering
see Note 4).
6
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
4. INITIAL PUBLIC OFFERING
Effective July 3, 1996, the Company sold 10,750,000 shares of its common
stock in an initial public offering. Net proceeds of the Offering, after
deducting underwriting discounts and commissions, and professional fees
aggregated $236.0 million. Proceeds of the Offering were used to retire the
distribution notes and accrued interest thereon totaling approximately $116.4
million, to repay the Predecessor Company's term loans and the revolving line
of credit which totaled approximately $76.8 million, to pay a certain one-time
bonus under an employment agreement which amounted to approximately $5.0 million
(which is included in selling, general and administrative expenses) and to pay a
one-time fee under a license agreement which amounted to approximately $4.6
million (which is included in cost of sales). The remaining $33.2 million was
used for other general corporate purposes.
5. STATEMENT OF INCOME PRESENTATION
The statement of income of the Company for the nine month period ended
September 29, 1996 reflects the results of operations of the Predecessor Company
for the period January 1, 1996 through July 2, 1996 and the results of the
Company from July 3, 1996 (the date of the consummation of the Offering) through
September 29, 1996.
Selected statement of income data for the nine months ended September 29,
1996 are as follows (the date of the Offering has been deemed to be July 1,
1996):
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 29, 1996
-------------------------------------------
JULY 1 TO NINE MONTHS
JANUARY 1 TO SEPTEMBER 29, ENDED
JUNE 30, 1996 1996 SEPTEMBER 29, 1996
(PREDECESSOR) (COMPANY) CONSOLIDATED
------------- --------- ------------
(IN THOUSANDS)
<S> <C> <C> <C>
Net revenues $ 277,226 $173,415 $ 450,641
Gross profit 90,006 55,506 145,512
Operating income 12,563 3,120 15,683
Other income (expense) (4,569) (1,413) (5,982)
---------- --------- ----------
Income before income taxes 7,994 1,707 9,701
Provision (benefit) for income
taxes 445 (14,737) (14,292)
--------- -------- ----------
Net income $ 7,549 $ 16,444 $ 23,993
--------- -------- ----------
--------- -------- ----------
</TABLE>
6. PRO FORMA INFORMATION
The pro forma financial information on the income statement presents the
effects on the historical financial statements of certain transactions as if
they had occurred in 1995. The impact of these adjustments are: (i) increased
royalty expense to be paid to a corporation owned by two of the Company's
stockholders and their affiliated trusts pursuant to a licensing agreement, (ii)
reduced levels of compensation for two of the Company's executives pursuant to
their employment agreements, (iii) reduction in interest costs assuming the
application of the proceeds from the Offering to reduce the actual outstanding
indebtedness under the Company's credit agreement, (iv) reduction in
amortization of deferred financing costs which would have been written off in
connection with repayment of outstanding indebtedness under the Company's credit
agreement, and (v) increase in income taxes as if the Company had been subject
to Federal and additional state income taxes for the entire period (see Note
15).
7. PRO FORMA PER SHARE INFORMATION
The computation of net income per share as reflected on the Company's
statements of income was based on the weighted average number of common shares
outstanding, assuming that the Offering had taken place as of the beginning of
1995.
Pro forma earnings per share for the nine months ended September 29, 1996
and October 1, 1995 were $0.12 and $1.43, respectively, and for the quarters
ended September 29, 1996 and October 1, 1995 were $0.04 and $0.63, respectively.
Pro forma per share information prior to the Offering is based upon (a)
10,612,934 shares of common stock outstanding during the period,
7
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
7. PER SHARE INFORMATION (CONTINUED)
(b) the number of shares of common stock (5,298,998) sold by the Company, at an
offering price of $24.00 per share ($21.96, net of expenses), the proceeds of
which would be necessary to pay approximately $116.4 million to the former
principals of the Company and certain of their affiliates in satisfaction of the
distribution notes previously issued (includes accrued interest thereon),
representing cumulative undistributed taxable income on which taxes previously
have been paid, and (c) 105,100 shares of common stock which the Company awarded
to certain employees pursuant to the Company's stock incentive plan. Pro forma
per share information for the quarter ended September 29, 1996 is based upon
21,468,034 shares outstanding subsequent to the Offering. Pro forma per share
information for the nine months ended September 29, 1996 is based upon the
weighted average number of shares outstanding during the period. The net income
used in the calculation of pro forma per share information for the nine months
ended September 29, 1996 and October 1, 1995 excludes the reduction of interest
costs of $3.5 million and $4.9 million in 1996 and 1995, respectively, and the
reduction in amortization of deferred financing costs of $0.8 million and $0.4
million in 1996 and 1995, respectively, and the related tax effect of $1.8
million and $2.3 million in 1996 and 1995, respectively. The net income used in
the calculation of pro forma per share information for the quarter ended October
1, 1995 excludes the reduction of interest costs of $1.7 million, the reduction
in amortization of deferred financing costs of $0.1 million, and the related tax
effect of $0.8 million.
Supplementary pro forma earnings per share for the nine months ended
September 29, 1996 and October 1, 1995 were $0.23 and $1.35, respectively, and
for the quarters ended September 29, 1996 and October 1, 1995 were $0.04 and
$0.58, respectively. Supplementary pro forma per share information prior to the
Offering is based upon 10,612,934 shares of common stock outstanding during the
period increased by (a) the sale of 5,298,998 shares of common stock at an
offering price of $24.00 per share ($21.96, net of expenses), the proceeds of
which would be necessary to pay approximately $116.4 in satisfaction of the
distribution notes, (b) the sale of 3,279,827 shares of common stock, at an
offering price of $24.00 per share, ($21.96, net of expenses), the proceeds of
which would be necessary to repay approximately $72.0 million to the Company's
lenders for the term loans under the Company's credit facility and to reduce the
amount outstanding under the Company's revolving line of credit, and (c) 105,100
shares of common stock which the Company awarded to certain employees pursuant
to the Company's stock incentive plan. Supplementary pro forma per share
information for the quarter ended September 29, 1996 is based upon 21,468,034
shares outstanding subsequent to the Offering. Supplementary pro forma per
share information for the nine months ended September 29, 1996 is based upon the
weighted average number of shares outstanding during the period.
8. INVENTORIES
Inventories consist of the following (in thousands):
DECEMBER 31, SEPTEMBER 29,
1995 1996
---- ----
Raw materials . . . . . . . . . . . . . . $16,369 $21,325
Work in process. . . . . . . . . . . . . . 11,697 11,055
Finished goods . . . . . . . . . . . . . . 57,589 61,686
------ ------
$ 85,655 $94,066
-------- -------
-------- -------
9. ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
Accrued expenses and other current liabilities are comprised of the
following (in thousands):
DECEMBER 31, SEPTEMBER 29,
1995 1996
---- ----
Accrued operating expenses. . . . . . . . . $8,590 $11,152
Accrued income taxes. . . . . . . . . . . . 2,351 5,326
Accrued compensation. . . . . . . . . . . . 885 8,636
Accrued taxes other than income taxes . . . 2,244 2,412
Accrued royalties . . . . . . . . . . . . . -- 4,614
Other . . . . . . . . . . . . . . . . . . . 1,696 816
----- ----
$ 15,766 $32,956
-------- -------
-------- -------
8
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
10. 1996 STOCK INCENTIVE PROGRAM
In connection with the Offering, the Board of Directors of the Company
granted options to purchase an aggregate of 1,389,500 shares of DKI common stock
under the 1996 Stock Incentive Plan adopted on June 19, 1996 to certain
employees of and consultants to the Company. The options vest in 25%
installments commencing on the first anniversary of the date of the grant and
have an exercise price of $24 per share. The options expire 10 years after the
date of grant.
In addition, in connection with the Offering, the Board of Directors of the
Company granted awards of an aggregate of 105,100 shares of DKI common stock
under the 1996 Stock Incentive Plan to certain employees of the Company and
Donna Karan Japan. This award, which was treated as compensation expense,
amounted to approximately $2.5 million.
11. SALE OF INTERESTS IN AFFILIATES
The Company conducts operations in Japan through Donna Karan Japan. DSTF
Japan Company has a profit sharing agreement (the "DSTF Agreement") with Donna
Karan Japan whereby 90% of the income before taxes of Donna Karan Japan is
allocated to DSTF Japan Company. On March 31, 1995, the Company sold 70% of
its interest in the DSTF Agreement and 70% of the stock of Donna Karan Japan to
a nonaffiliated party. The Company recognized a gain on this transaction, net
of transaction costs, of $18.7 million. Subsequent to the sale, the Company
records a 27% interest in the operations of Donna Karan Japan through its 30%
interest in the DSTF Agreement and a 3% interest in the operations of Donna
Karan Japan through its remaining interest in Donna Karan Japan. As a result,
the Company has accounted for its combined 30% interest in the operations of
Donna Karan Japan using the equity method of accounting. Simultaneously with
the sales transaction, the Company entered into an agreement with Donna Karan
Japan which provides for a fee based upon net sales of Donna Karan Japan.
Management fee income, which is included in selling, general and administrative
expenses, amounted to $0.5 million and $1.4 million during the three- and nine -
month periods ended September 29, 1996, respectively. The equity investment in
Donna Karan Japan of $2,535,000 and $5,308,000 as of December 31, 1995 and
September 29, 1996, respectively, is included in "Deposits and other noncurrent
assets" in the accompanying balance sheet.
12. REVOLVING CREDIT FACILITY
In September 1996, the Company entered into a new $150 million, three-year
revolving Credit Facility (the "Facility"). Direct borrowings under the
Facility bear interest at the lead bank's prime rate or, at the option of the
Company, at a fixed spread over the London Iinterbank Offered Rate (LIBOR). The
Facility is secured by accounts receivable, inventory and certain intangibles of
the Company, as well as a pledge of all equity interests of the subsidiaries of
the Company. The Facility also contains certain restrictive covenants which,
among other things, require the Company to maintain certain financial ratios and
restrict investments, additional indebtedness, and payment of dividends. No
amounts were outstanding under the Facility at September 29, 1996. Unamortized
deferred financing costs of $2.4 million related to the prior bank credit
facility have been expensed and are included in interest expense for the third
quarter of 1996.
13. TERMINATION OF DKNY JEANS(Registered Trademark) LICENSING AGREEMENT
On September 27, 1996, the Company entered into a 30-year licensing
agreement with subsidiaries of Designer Holdings Ltd. for the exclusive
production, sale and distribution of men's, women's, and, with certain
exceptions, children's jeanswear under the DKNY Jeans(Registered Trademark)
label (the "Jeans License"). Under the terms of the agreement, the Company
received an initial payment of $6.0 million from Designer Holdings Ltd. to
reimburse the Company for certain costs related to the start-up and development
of the DKNY Jeans(Registered Trademark) label. Subsequently, the Company and the
licensee agreed to terminate this agreement, and as part of the settlement, the
$6 million was returned. The accompanying financial statements for the three
and nine month periods ended September 29, 1996 have been revised from those
originally issued to reflect the termination of this agreement. Net income for
both periods has been reduced by approximately $3.4 million ($0.16 per share)
which is the effect, net of taxes, of reversing the $6.0 million reimbursement
that was originally recognized.
14. RELATED PARTY TRANSACTIONS
As of July 3, 1996, the Company entered into a licensing agreement (the
"Gabrielle License") with Gabrielle Studio, Inc. ("Gabrielle Studio"), a
corporation owned by two of the Company's stockholders and their affiliated
trusts, which grants the Company the exclusive rights to use the trademarks
"DONNA KARAN", "DONNA KARAN NEW YORK", "DKNY", "DK", and all variations thereof.
Under the Gabrielle License, the Company pays Gabrielle Studio a royalty on net
sales of product bearing the licensed mark. During the three month period ended
September 29, 1996, the Company incurred $4.6 million in royalty expense, which
is included in cost of sales. In addition, the
9
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
14. RELATED PARTY TRANSACTIONS (CONTINUED)
Company made a one-time payment of $4.6 million to Gabrielle Studio in
connection with entering into the Gabrielle License, which is also included in
cost of sales.
15. PRO FORMA INCOME TAXES
The entities in the Predecessor Company were partnerships, or corporations
that had elected to be taxed as S corporations pursuant to the Internal Revenue
Code. In connection with the Offering, the Company became subject to Federal
and additional state income tax. The pro forma provision for income taxes
represents the income tax provisions that would have been reported if the
Company had been subject to Federal and additional state income taxes.
The Company has adopted the provisions of SFAS No. 109. This adoption had
no material effect on the provision for income taxes. SFAS No. 109 requires the
asset and liability method of accounting for income taxes. Under the asset and
liability method, deferred income taxes are recognized for the tax consequences
of "temporary differences" by applying enacted statutory tax rates applicable to
future years to differences between the financial carrying amounts and the tax
bases of existing assets and liabilities. The pro forma income tax provision
has been prepared according to SFAS No. 109.
Concurrent with becoming subject to Federal and additional state income
taxes, the Company recorded a deferred tax asset and a corresponding tax benefit
in the statement of income in accordance with the provisions of SFAS No. 109.
This was approximately $15.5 million, and, as of the date of the Offering,
resulted in a total deferred tax asset of approximately $17.2 million which
includes certain state and local tax assets recorded on a historical basis.
Income tax expense for the three- and nine- month periods ended September
29, 1996 includes a provision for Federal, state and local taxes of
approximately $0.7 million at an effective rate of approximately 43%. This
amount is comprised of current expense of $3.7 million and a deferred benefit of
$3.0 million.
10
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
OVERVIEW
Donna Karan International Inc. is one of the world's leading international
fashion design houses. The Company designs, contracts for the production of,
markets, and distributes "designer" and "bridge" collections of men's and
women's clothing, sportswear, accessories, and shoes under the DONNA KARAN NEW
YORK(Registered Trademark) and DKNY(Registered Trademark) brand names,
respectively. The Company also develops, contracts for the production of,
markets, and distributes collections of men's and women's fragrance, bath and
body, and treatment products under the DK MEN(Trademark) and DONNA KARAN NEW
YORK(Trademark) brand names, respectively. In addition, the Company selectively
has granted licenses for the manufacture and distribution of certain other
products under the DONNA KARAN NEW YORK(Registered Trademark) and
DKNY(Registered Trademark) brand names, including hosiery, intimate apparel,
eyewear and children's apparel under the DKNY(Registered Trademark) brand name
in Europe and the Middle East.
The following discussion provides information and analysis of the Company's
results of operations for the three months ended October 1, 1995 and September
29, 1996 and for the nine months ended October 1, 1995 and September 29, 1996.
The Company utilizes a 52- or 53- week fiscal year ending on the Sunday nearest
December 31. (Accordingly, the third quarters and nine months of 1995 and 1996
ended October 1, 1995 and September 29, 1996, respectively.) The third quarters
in 1995 and 1996 contained 13 weeks and the nine months in 1995 and 1996
contained 39 weeks. As used in "Management's Discussion and Analysis of
Financial Condition and Results of Operations," the DONNA KARAN NEW
YORK(Registered Trademark) collections and the DKNY(Registered Trademark)
collections each include apparel, accessories, and shoes.
CERTAIN STATEMENTS CONTAINED HEREIN ARE FORWARD LOOKING STATEMENTS THAT
HAVE BEEN MADE PURSUANT TO THE SAFE HARBOR PROVISIONS OF THE PRIVATE SECURITIES
LITIGATION REFORM ACT OF 1995. FORWARD-LOOKING STATEMENTS INVOLVE KNOWN AND
UNKNOWN RISKS AND UNCERTAINTIES WHICH MAY CAUSE THE COMPANY'S ACTUAL RESULTS IN
FUTURE PERIODS OR PLANS FOR FUTURE PERIODS TO DIFFER MATERIALLY FROM WHAT WAS
ANTICIPATED. THOSE RISKS INCLUDE, AMONG OTHERS, RISKS ASSOCIATED WITH THE
RECEIPT, PRICING AND TIMING OF CUSTOMER ORDERS, TIMING, TERMS AND CONSUMMATION
OF A JOINT VENTURE, SALE OR LICENSING OF THE COMPANY'S BEAUTY DIVISION, TIMING
OF AND COSTS ASSOCIATED WITH NEW STORE OPENINGS, GENERAL COMPETITIVE FACTORS AND
A CHANGE IN RETAILER OR CONSUMER ACCEPTANCE OF THE COMPANY'S PRODUCTS.
On September 27, 1996, the Company entered into a 30-year licensing
agreement with subsidiaries of Designer Holdings Ltd. for the exclusive
production, sale and distribution of men's, women's, and, with certain
exceptions, children's jeanswear under the DKNY Jeans-Registered Trademark-
label (the "Jeans License"). Under the terms of the agreement, the Company
received an initial payment of $6.0 million from Designer Holdings Ltd. to
reimburse the Company for certain costs related to the start-up and development
of the DKNY Jeans-Registered Trademark- label. Subsequently, the Company and the
licensee agreed to terminate this agreement, and as part of the settlement, the
$6 million was returned. The accompanying financial statements for the three
and nine month periods ended September 29, 1996 have been revised from those
originally issued to reflect the termination of this agreement. Net income for
both periods has been reduced by approximately $3.4 million ($0.16 per share)
which is the effect, net of taxes, of reversing the $6.0 million reimbursement
that was originally recognized.
On October 28, 1996, the Company announced that the Board of Directors had
authorized management to explore strategic alternatives for the beauty division,
including a joint venture, license or possible sale of the business.
While revenues for the beauty division grew 74% in the third quarter of 1996
compared to the third quarter of 1995, revenues were approximately $5.0 million
below the anticipated level. Management has concluded that the potential of the
business would be better realized through a strategic alliance that would devote
greater resources to the beauty business.
11
<PAGE>
PRO FORMA STATEMENTS OF INCOME FOR THE THREE MONTHS ENDED SEPTEMBER 29,
1996 AND OCTOBER 1, 1995 - (UNAUDITED)
The following table sets forth for the three-month periods ended October 1,
1995 and September 29, 1996 : (a) historical combined and consolidated
statements of income data; (b) pro forma adjustments to reflect the
Reorganization, the Offering, and certain other adjustments as if they had
occurred on January 1, 1996 and January 2, 1995; and (c) pro forma combined and
consolidated statements of income data.
THREE MONTHS ENDED SEPTEMBER 29, 1996
-------------------------------------
HISTORICAL PRO FORMA PRO FORMA
CONSOLIDATED ADJUSTMENTS CONSOLIDATED
------------ ----------- ------------
(IN THOUSANDS)
Net revenues $173,415 $173,415
-------- --------
Gross profit 55,506 4,635 (i) 60,141
Selling, general and
administrative expenses 52,386 (5,347)(ii) 44,517
------ ------
(2,522)(iii)
Operating income 3,120 15,624
Equity in earnings of affiliate 1,180 1,180
Interest (expense) income, net (2,518) 197 (iv) 99
2,420 (v)
Interest expense on distribution notes (75) 75 (vi) 0
---- -----
Income before income taxes 1,707 16,903
Provision (benefit) for income
taxes (14,737) 22,069 (vii) 7,332
-------- -----
Net income $16,444 $9,571
------- ------
------- ------
Pro forma earnings per share $0.45(xi
-------
-------
THREE MONTHS ENDED OCTOBER 1, 1995
----------------------------------
HISTORICAL PRO FORMA PRO FORMA
COMBINED ADJUSTMENTS COMBINED
-------- ----------- --------
(IN THOUSANDS)
Net revenues $ 152,389 $ 152,389
--------- ---------
Gross profit 56,162 (3,748)(viii) 52,414
Selling, general and administrative
expenses 34,288 (579)(ix) 33,709
------ ------
Operating income 21,874 18,705
Equity in earnings of affiliate 816 816
Interest expense, net (1,933) 1,694 (x) (90)
149 (iv)
------- ------
Income before income taxes 20,757 19,431
Provision for income taxes 735 7,522(vii) 8,257
--- -----
Net income $ 20,022 $ 11,174
-------- --------
Pro forma earnings per share $0.52(xi)
--------
--------
(i) One-time fee of $4.6 million paid to a corporation owned by two of the
Company's stockholders and their affiliated trusts pursuant to a licensing
agreement.
(ii) One-time bonus under an employment agreement which amounted to $5.0
million, and additional one-time bonuses of $0.3 million paid to key executives
relating to the Offering.
12
<PAGE>
(iii) One-time charge of $2.5 million representing the award of 105,100 shares
of common stock to certain employees pursuant to the Company's 1996 Stock
Incentive Plan.
(iv) Reduction of $0.1 million and $0.2 million in 1995 and 1996,
respectively, in amortization of deferred financing costs, which would have been
written off in connection with repayment of outstanding indebtedness under the
Company's credit agreement.
(v) Reduction in expense of $2.4 million related to the write-off of
deferred financing costs in connection with repayment of outstanding
indebtedness under the Company's credit agreement.
(vi) Reduction in interest expense on distribution notes of $0.1 million in
1996, assuming the distribution notes would not have been outstanding during the
period.
(vii) Increase of $7.5 million and $22.1 million (including $15.5 million of
deferred income tax assets recognized) in 1995 and 1996, respectively, for
income tax expense based upon pro forma pre-tax income as if the Company had
been subject to Federal and additional state income taxes.
(viii) Royalty of $3.7 million in 1995 to be paid to a corporation owned by two
of the Company's stockholders and their affiliated trusts pursuant to a
licensing agreement.
(ix) Decrease in aggregate compensation from $1.1 million to $0.5 million in
1995 for two of the Company's executives pursuant to their employment
agreements.
(x) Reduction in interest costs of $1.7 million in 1995, assuming the
application of up to $82.9 million (which amount represents the maximum amount
outstanding during the period) of the proceeds from the Offering to reduce the
actual outstanding indebtedness under the Company's credit agreement.
(xi) Pro forma earnings per share have been calculated using 21,468,034 shares,
which assumes the number of shares outstanding after the Offering were
outstanding for the entire period.
COMPARISON OF THE THREE MONTHS ENDED SEPTEMBER 29, 1996 TO THE THREE MONTHS
OCTOBER 1, 1995
<TABLE>
<CAPTION>
HISTORICAL PRO FORMA
--------------------------- -----------------------------
1995 1996 1995 1996
------ --------- --------- ---------
(Dollars in millions)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues. . . . . . . . $152.4 100.0% $173.4 100.0% $152.4 100.0% $173.4 100.0%
Gross profit. . . . . . . . 56.2 36.8 55.5 32.0 52.4 34.4 60.1 34.7
Selling, general and
administrative expenses. 34.3 22.5 52.4 30.2 33.7 22.1 44.5 25.7
Operating income. . . . . . 21.9 14.4 3.1 1.8 18.7 12.3 15.6 9.0
Equity in earnings of
affiliate. . . . . . . . .8 .5 1.2 .7 .8 .5 1.2 .7
Net income. . . . . . . . . 20.0 13.1 16.4 9.5 11.2 7.3 9.6 5.5
</TABLE>
NET REVENUES were $173.4 million in the third quarter of 1996, an increase
of 13.8% from the net revenues of $ 152.4 million recorded in the third quarter
of 1995. This increase was due primarily to: a $7.8 million, or 63.4%, increase
in the DKNY(Registered trademark) men's collections; a $4.2 million, or 28.7%,
increase in outlet stores and licensing; a $4.8 million, or 74.0%, increase in
beauty products; a $3.2 million, or 3.8%, increase in DKNY(Registered trademark)
women's collections; and a $2.0 million, or 15.9%, increase in DONNA KARAN NEW
YORK(Registered Trademark) collections for men. The increase was somewhat
offset by a decrease of $1.0 million, or 4.1%, in the DONNA KARAN NEW
YORK(Registered Trademark) collections for women.
The increase in the DKNY(Registered trademark) men's collections resulted
from continued growth in international sales, as well as domestic growth. The
increase in outlet store and licensing was due to an increase in the number of
outlet stores and an increase in same store sales. The increase in the beauty
division was primarily due to expanded distribution and the expanded product
offerings in 1996 compared to 1995, including the launch of CHAOS(Trademark) in
the third quarter of 1996. The increase in the DKNY(Registered Trademark)
women's collections resulted primarily from international and domestic growth in
its DKNY(Registered trademark) accessories business. The increase in DONNA
KARAN NEW YORK(Registered trademark) collections for men primarily resulted from
international growth, as well as domestic growth. The decrease in net revenue in
the DONNA KARAN NEW YORK(Registered trademark) collections for women resulted
primarily from the reduction of the accessories business as it is refocused from
a collection-coordinated line to a "main floor" line.
GROSS PROFIT as a percent of sales was 32.0% and 36.8% (34.7% and 34.4% on
a pro forma basis) in the third quarter of 1996 and 1995, respectively. The
decrease in the historical gross margin was primarily attributable to $9.2 in
royalty fees expensed in 1996, as cost of sales, in connection with the license
agreement (the "Gabrielle License") between Donna Karan Studio and Gabrielle
Studio, Inc., a corporation owned by two of the Company's stockholders and their
affiliated trusts. (See Note 14 to Financial Statements). Included in this
royalty fee was a $4.6 million one-time payment made by the Company in
connection with entering into the Gabrielle License. The slight improvement in
the gross margin percentage, on a pro forma basis, was primarily attributable to
leveraging relatively fixed production costs as a result of increased sales
volume.
13
<PAGE>
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES increased to 30.2% (25.7% on
a pro forma basis) of net revenues in the third quarter of 1996 from 22.5%
(22.1% on a pro forma basis) of net revenues for the same period of 1995. The
increase in the pro forma selling, general and administrative expense primarily
was due to the expansion of the Company's international division to service its
increasing international business; costs for infrastructure spending and costs
associated with being a public company; and advertising expense related to the
Company's DONNA KARAN NEW YORK(Registered trademark) advertising campaign
featuring Bruce Willis and Demi Moore. The increase in the historical selling,
general and administrative expense, additionally reflected the one-time charges
incurred in connection with the Offering (see Notes (ii), (iii) and (ix), above
in the Pro Forma Statements of Income).
OPERATING INCOME decreased to $3.1 million in the third quarter of 1996
from $21.9 million in the same period in 1995. On a pro forma basis, operating
income increased to $15.6 million in the third quarter of 1996 from $18.7
million in the same period in 1995.
INTEREST EXPENSE increased to $2.5 million in the third quarter of 1996, or
30.3%, from $1.9 million in the same period in 1995 primarily due to the
write-off of $2.4 million of deferred financing charges in 1996, offset by a
reduction in outstanding borrowings during the third quarter of 1996.
PROVISION FOR INCOME TAXES on a historical basis reflected the recognition
in the third quarter of 1996 of a $15.5 million deferred tax asset in connection
with the Company becoming subject to Federal and additional state income taxes,
which amount was offset by a provision for income taxes of $0.7 million. During
the same period in 1995, the Company was not subject to Federal and certain
state income taxes. On a pro forma basis, income taxes were recorded as if the
Company had been subject to Federal and additional state income taxes for the
entire 1996 and 1995 periods.
NET INCOME for the third quarter was $16.4 million ($9.6 million on a pro
forma basis) in 1996 and $ 20.0 million ($11.2 million on a pro forma basis) in
1995.
14
<PAGE>
PRO FORMA STATEMENTS OF INCOME FOR THE NINE MONTHS ENDED SEPTEMBER 29, 1996 AND
OCTOBER 1, 1995 - (UNAUDITED)
The following table sets forth for the nine-month periods ended October 1,
1995 and September 29, 1996: (a) historical combined and consolidated statements
of income data; (b) pro forma adjustments to reflect the Reorganization, the
Offering, certain other adjustments as if they had occurred on January 1, 1996
and January 2, 1995, and adjustments arising from the sale of the Company's 70%
interest in the operations of Donna Karan Japan as if it had occurred on January
2, 1995; and (c) pro forma combined and consolidated statements of income data.
NINE MONTHS ENDED SEPTEMBER 29, 1996
------------------------------------
PRO FORMA
HISTORICAL ADJUSTMENTS PRO FORMA
---------------- ----------- ---------
(IN THOUSANDS)
Net revenues $ 450,641 $ 450,641
--------- ---------
Gross profit 145,512 (7,248)(i) 142,899
4,635 (ii)
Selling, general and
administrative expenses 129,829 (1,500)(iii) 120,460
------- -------
(5,347)(iv)
(2,522)(v)
Operating income 15,683 22,439
Equity in earnings of
affiliate 2,789 2,789
Interest expense, net (6,814) 3,475 (vi) (82)
837 (vii)
Interest expense on
distribution notes (1,957) 1,957 (viii) 0
-------
2,420 (ix)
Income before income taxes 9,701 25,146
Provision (benefit) for
income taxes (14,292) 25,202 (x) 10,910
-------- ------
Net income $ 23,993 $ 14,236
-------- --------
-------- --------
Pro forma earnings per share $0.66(xii)
---------
---------
NINE MONTHS ENDED OCTOBER 1, 1995
---------------------------------
PRO FORMA
HISTORICAL ADJUSTMENTS PRO FORMA
---------------- ----------- ---------
(IN THOUSANDS)
Net revenues $375,813 (5,521)(xi) $ 370,292
-------- ----------- ---------
Gross profit 131,477 (6,814)(xi) 115,456
(9,207)(i)
Selling, general and
administrative expenses 98,988 (4,828)(xi) 92,423
------ ------
(1,737)(iii)
Operating income 32,489 23,033
Equity in earnings
of affiliate 2,207 394 (xi) 2,601
Interest expense, net (5,851) 4,929 (vi) (490)
432(vii)
Gain on sale of interest
in affiliates 18,673 (18,673)(xi) 0
------ -
Income before income taxes 47,518 25,144
Provision for income taxes 2,095 8,640 (x) 10,735
----- ------
Net income $ 45,423 $ 14,409
--------- --------
--------- --------
Pro forma earnings per share $0.67(xii)
----------
----------
15
<PAGE>
(i) Royalties of $9.2 million and $7.2 million in 1995 and 1996,
respectively, to be paid to a corporation owned by two of the Company's
stockholders and their affiliated trusts pursuant to a licensing agreement.
(ii) One-time fee of $4.6 million paid to a corporation owned by two of the
Company's stockholders and their affiliated trusts pursuant to a licensing
agreement.
(iii) Decrease in aggregate compensation from $3.2 million to $1.5 million in
1995, and from $2.5 million to $1.0 million in 1996 for two of the Company's
executives pursuant to their employment agreements.
(iv) One-time bonus under an employment agreement which amounted to $5.0
million and additional one-time bonuses of $0.3 million paid to key executives
relating to the Offering.
(v) One-time charge of $2.5 million representing the award of 105,100 shares
of common stock to certain employees pursuant to the Company's 1996 Stock
Incentive Plan.
(vi) Reduction in interest costs of $4.9 million and $3.5 million in 1995 and
1996, respectively, assuming the application of up to $82.9 million and $90.4
million in 1995 and 1996, respectively (which amounts represent the maximum
amount outstanding during the periods) of the proceeds from the Offering to
reduce the actual outstanding indebtedness under the Company's credit agreement.
(vii) Reduction of $0.4 million and $0.8 million in 1995 and 1996,
respectively, in amortization of deferred financing costs, which would have been
written off in connection with repayment of outstanding indebtedness under the
Company's credit agreement.
(viii)Reduction in interest expense on distribution notes of $2.0 million in
1996, assuming the distribution notes would not have been outstanding during the
period.
(ix) Reduction in expense of $2.4 million related to the write-off of
deferred financing costs in connection with the refinancing of outstanding
indebtedness under the Company's credit agreement.
(x) Increase of $8.6 million and $25.2 million (including $15.5 million of
deferred income tax assets recognized) in 1995 and 1996, respectively, for
income taxes based upon pro forma pre-tax income as if the Company had been
subject to Federal and additional state income taxes for the entire period.
(xi) Adjustments to reflect the Company's sale of its 70% interest in the
operations of Donna Karan Japan, as if it had occurred on January 2, 1995. The
gain of $18.7 million has been excluded, and as a result of this sale, the
Company's combined statement of income has been adjusted to reflect the
accounting for the Company's interest in Donna Karan Japan using the equity
method of accounting for the period from January 2, 1995 until March 31, 1995,
the date of the sale. Accordingly, net revenues have been decreased by $5.5
million, which reflects the difference between net revenues generated by sales
from Donna Karan Japan to its customers and those net revenues of the Company
derived from sales to Donna Karan Japan (as if Donna Karan Japan were a customer
of the Company); gross profit has been decreased by $6.8 million; and selling,
general and administrative expenses have been decreased by $4.8 million, which
included management fee income of $0.3 million from an agreement with Donna
Karan Japan. In addition, under the equity method of accounting, $0.4 million
of equity in earnings of affiliate has been recorded to reflect the Company's
portion of Donna Karan Japan's net income (See Note 11).
(xii) Pro forma earnings per share have been calculated using 21,468,034 shares,
which assumes the number of shares outstanding after the Offering were
outstanding for the entire period.
COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 29, 1996 TO THE NINE MONTHS ENDED
OCTOBER 1, 1995
<TABLE>
<CAPTION>
HISTORICAL PRO FORMA
------------------------------ ------------------------------
1995 1996 1995 1996
---------- ---------- ---------- ----------
(Dollars in millions)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues. . . . . . . $ 375.8 100.0% $450.6 100.0% $370.3 100.0% $450.6 100.0%
Gross profit. . . . . . . 131.5 35.0 145.5 32.3 115.5 31.2 142.9 31.7
Selling, general and
administrative expenses 99.0 26.3 129.8 28.8 92.4 24.9 120.5 26.7
Operating income. . . . . 32.5 8.6 15.7 3.5 23.0 6.2 22.4. 5.0
Equity in earnings of
affiliate . . . . . . . 2.2 .6 2.8 .6 2.6 .7 2.8 .6
Net income. . . . . . . . 45.4 12.1 24.0 5.3 14.4 3.9 14.2 3.2
</TABLE>
NET REVENUES were $450.6 million in the nine months ended September 29,
1996, an increase of 19.9% (21.7% on a pro forma basis) from the net revenues
of $375.8 million ($370.3 million on a pro forma basis) recorded in the nine
months ended October 1, 1995. The increase was due primarily to: a $27.2
million, or 12.9%, increase in the DKNY(Registered trademark) women's
collections; a $26.5 million, or 109.3%, increase in the DKNY(Registered
trademark) men's collections; a $9.9 million, or 25.4%, increase in outlet
stores and licensing; a $8.4 million, or 29.4%, increase in DONNA KARAN NEW
YORK(Registered trademark) collections for men and a $7.3 million, or 44.8%,
increase in beauty products. The increase was somewhat offset in the nine
months ended September 29, 1996 by a decrease of $4.4 million, or 7.7%, in the
DONNA KARAN NEW YORK(Registered trademark) collections for women from the same
period in 1995. Revenues on a pro forma basis were impacted by the sale of Donna
Karan Japan (see Note 11 to Financial Statements).
The increase in DKNY(Registered Trademark) women's collections was the
result of growth in DKNY(Registered trademark) apparel combined with strong
growth in DKNY(Registered trademark) accessories. Both apparel and accessories
experienced more rapid growth internationally. The increase in net revenue in
the DKNY(Registered trademark) men's collections resulted from significant
growth in international sales, as well as domestic growth. The increase in
outlet store and licensing was primarily due to an increase in the number of
outlet stores and an increase in same store sales. The increase in DONNA KARAN
NEW YORK(Registered trademark) collections for men primarily resulted from
growth internationally, as well as domestically. The increase in the beauty
division was due to expanded distribution and to expanded product offerings in
1996 compared to 1995, including the launch of CHAOS(Trademark), in the third
quarter of 1996. The
16
<PAGE>
decrease in net revenue in the DONNA KARAN NEW YORK(Registered trademark)
collections for women resulted primarily from a planned reduction in the number
of doors carrying the women's collections in anticipation of the introduction of
the new Signature collection for Spring 1997 and the reduction of the
accessories business as it is refocused from a collection-coordinated line to a
"main floor" line.
GROSS PROFIT as a percent of sales was 32.3% and 35.0% (31.7% and 31.2% on
a pro forma basis) during the first nine months of 1996 and 1995, respectively.
The decrease in the historical gross margin was primarily attributable to $9.2
in royalty fees expensed in connection with the Gabrielle License (see Note 14
to Financial Statements) as well as the impact of the sale of 70% of the
operations of Donna Karan Japan as described in footnote (xi) above. These
royalty fees are included in cost of sales. Included in the royalty fees was a
$4.6 million one-time payment made by the Company in connection with entering
into the Gabrielle License. The slight improvement in the gross margin
percentage, on a pro forma basis, was primarily attributable to leveraging
relatively fixed production costs as a result of increased sales volume.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES increased to 28.8% (26.7% on a
pro forma basis) of net revenues in the nine months ended September 29, 1996
from 26.3% (24.9% on a pro forma basis) of net revenues for the same period of
1995. The increase in the pro forma selling, general and administrative expense
primarily was due to the expansion of the Company's international division to
service its increasing international business; costs for infrastructure spending
and costs associated with being a public company. The increase in the
historical selling, general and administrative expense additionally reflected
the one-time charges incurred in connection with the Offering which was somewhat
offset by the effect of the sale of the Company's 70% interest in Donna Karan
Japan. (See Notes (iii), (iv), (v) and (xi) in the above Pro Forma Statements of
Income)
OPERATING INCOME decreased to $15.7 million in the nine months ended
September 29, 1996 from $32.5 million in the same period in 1995. On a pro
forma basis, operating income decreased to $22.4 million in the nine months
ended September 29, 1996 from $23.0 million in the same period in 1995.
INTEREST EXPENSE increased to $6.8 million in the nine months ended
September 29, 1996, or 16.5%, from $5.9 million in the same period in 1995
primarily due to the write-off of $2.4 million of deferred financing charges in
1996, offset by a reduction in outstanding borrowings in 1996.
INTEREST EXPENSE ON DISTRIBUTION NOTES was incurred on the distribution
notes that were issued to the former principals of the Company and their
affiliates, which were paid on July 3, 1996 with the proceeds of the Offering.
PROVISION FOR INCOME TAXES on a historical basis reflected the recognition
in the third quarter of 1996 of a $15.5 million deferred tax asset in connection
with the Company becoming subject to Federal and additional state income taxes,
which amount was offset by a provision for income taxes in such quarter of $0.7
million. During the same period in 1995 and for the first half of 1996, the
Company was not subject to Federal and certain state income taxes. On a pro
forma basis, income taxes were recorded as if the Company had been subject to
Federal and additional state income taxes for the entire 1996 and 1995 periods.
NET INCOME decreased, on an historical basis, to $24.0 million in the first
nine months of 1996 from $45.4 million in the first nine months of 1995. This
decrease was primarily due to the factors described above and the gain on the
sale of Donna Karan Japan in March of 1995 of $18.7 million. On a pro forma
basis, net income decreased to $14.2 million for the first nine months of 1996
from $14.4 million for the first nine months of 1995.
LIQUIDITY AND CAPITAL RESOURCES
Historically, the Company's principal need for funds was to finance working
capital (principally inventory and receivables), capital expenditures, and
investments in the start up of new collections and the extension of existing
collections. The Company has relied on cash flow from operations, bank lines of
credit, and term loans for its capital requirements.
Subsequent to the consummation of the Offering, the Company's cash flow
needs have changed as a result of (i) reduced interest costs associated with the
application of the net proceeds of the Offering to reduce outstanding
indebtedness under the Company's credit agreement, (ii) decreased compensation
for two of the Company's executives pursuant to their new employment agreements,
and (iii) the absence of distributions, primarily for payment of taxes, paid by
the Company to
17
<PAGE>
the former principals and stockholders of the intermediate holding companies.
Offsetting such changes will be the need to apply funds to the payment of
Federal and additional state and local income taxes and royalties pursuant to
the Gabrielle License. Any net use of cash for such changes is expected to be
funded through operations.
At September 29, 1996, the Company had working capital of $155.3 million,
compared to working capital of $92.6 million at December 31, 1995. Changes in
working capital included an increase in accounts receivable of $23.6 million,
an increase in inventories of $8.4 million, and a decrease in accounts payable
of $16.4 million, in each case due to revenue growth and the effects of
seasonality; an increase of $15.0 million of deferred income taxes recorded in
part as a result of the Company becoming subject to Federal and additional
state income taxes; an increase in accrued expenses of $17.2 million primarily
due to accruals for income taxes, royalties due under the Gabrielle License and
other operating expense accruals, and a decrease in the current portion of
long-term debt of $7.5 million in connection with the repayment of debt with
the proceeds from the Offering.
On September 18, 1996, the Company closed a new $150.0 million, three-year
revolving credit facility (the "New Credit Facility"), which includes a $60.0
million subfacility for letters of credit and a $30.0 million subfacility for
loans in certain foreign currencies. Borrowings under the New Credit Facility
will bear interest at the lead bank's prime rate or, at the option of the
Company, at a fixed margin (ranging from 0.5% to 0.75%) over LIBOR. The
outstanding balance under the New Credit Facility will be required to be paid
down below a specified level for 45 days each year. The New Credit Facility is
secured by accounts receivable, inventory, and certain intangibles of the
Company and a pledge of all the equity interests of the subsidiaries of the
Company. The New Credit Facility includes financial and other restrictive
covenants, including a limitation on additional debt which can be incurred and
on the amount of dividends which the Company can pay. The New Credit Facility
will be used for working capital needs, and for general corporate purposes.
Capital expenditures, primarily for equipment, machinery, computers, office
furniture, leasehold improvements, and outlet stores, were approximately $3.2
million and $0.7 million for the quarters ended September 29, 1996 and October
2, 1995, respectively. Capital expenditures for the nine months ended September
29, 1996 and October 2, 1995 were $10.0 million and $3.9 million, respectively.
The Company is continuing to evaluate its alternatives with respect to the
proposed consolidation of its New Jersey warehouse facilities. As a result, the
Company has not at this time accrued the charge with respect to such
consolidation that it had previously anticipated to incur.
The Company anticipates that it will be able to satisfy its ongoing cash
requirements for the foreseeable future, primarily with cash flow from
operations, supplemented by borrowings under the New Credit Facility.
SEASONALITY OF BUSINESS
As previously disclosed, the Company's business varies with general
seasonal trends that are characteristic of the apparel and beauty industries,
and it generally experiences lower net revenues and net income in the first half
of each fiscal year as compared to the second half of its fiscal year.
Accordingly, the Company's outstanding borrowings under its credit agreement,
historically, have been lower on or about its fiscal year end. On a quarter to
quarter basis, the Company's operations may vary with production and shipping
schedules, the introduction of new products, and variation in the timing of
certain holidays from year to year. To the extent the Company continues to
expand its business, the Company's operating performance may not reflect the
typical seasonality of the apparel and beauty industries.
The Company historically has experienced lower net revenues in the second
quarter than in other quarters due to (i) lower demand among retail customers
typical of the apparel industry, and (ii) certain expenses that are constant
throughout the year being relatively higher as a percentage of net revenues. To
the extent sales of the Company's beauty products increase relative to sales of
its other products, the Company's net revenues and operating income will be
increasingly influenced by the seasonality of the beauty industry. In general,
the fragrance portion of the beauty industry experiences lower net revenues and
operating income in the first three quarters and has substantially higher net
revenues and operating income in the fourth quarter. Fragrance products are the
primary component of the Company's beauty business.
18
<PAGE>
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.
DONNA KARAN INTERNATIONAL INC.
(Registrant)
Date: March 25, 1997 By: /s/ Stephen L. Ruzow
-------------------------------
Stephen L. Ruzow, President &
Chief Operating Officer
Date: March 25, 1997 By: /s/ Joseph B. Parsons
-------------------------------
Joseph B. Parsons, Executive
Vice President &
Chief Financial Officer
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<PAGE>
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<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> SEP-29-1996
<PERIOD-END> SEP-29-1996
<CASH> 18,012
<SECURITIES> 0
<RECEIVABLES> 115,773
<ALLOWANCES> (29,946)
<INVENTORY> 94,066
<CURRENT-ASSETS> 226,010
<PP&E> 55,372
<DEPRECIATION> (27,487)
<TOTAL-ASSETS> 274,263
<CURRENT-LIABILITIES> 70,688
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0
0
<COMMON> 215
<OTHER-SE> 203,466
<TOTAL-LIABILITY-AND-EQUITY> 274,263
<SALES> 450,641
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<CGS> 305,129
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<OTHER-EXPENSES> 129,829
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 6,814
<INCOME-PRETAX> 9,701
<INCOME-TAX> (14,292)
<INCOME-CONTINUING> 23,993
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