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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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ANNUAL REPORT ON FORM 10-K
(MARK ONE)
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED JANUARY 3, 1999
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
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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 office) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (212) 789-1500
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
---------------------------------------- ---------------------------------
Common Stock New York Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE
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Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes /X/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. /X/
The aggregate market value of Registrant's Common Stock held by
nonaffiliates as of March 31, 1999 was $84,465,899 based on 11,077,495 such
shares outstanding on such date and the closing sales price for the Common Stock
on such date of $7.625 as reported on the New York Stock Exchange. As of March
31, 1999, the Registrant had 21,599,264 shares of Common Stock outstanding.*
PART III incorporates information by reference from the Registrant's
definitive Proxy Statement for its 1999 Annual Meeting of Shareholders to be
filed with the Commission within 120 days of January 3, 1999.
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* 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.
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PART I
ITEM 1. BUSINESS
OVERVIEW
Donna Karan International Inc. is one of the world's leading international
fashion design houses. The Company designs, contracts for the manufacture of,
markets, retails, and distributes collections of men's and women's clothing,
sportswear, accessories, and shoes under the DONNA KARAN NEW YORK and DKNY brand
names. The Company also selectively has granted licenses for the manufacture and
distribution of certain other products under the DONNA KARAN NEW YORK, DKNY,
DKNY JEANS and DKNY ACTIVE brand names, including beauty and beauty-related
products, jeanswear, activewear, hosiery, intimate apparel, eyewear, and
children's apparel.
The Company's mission is to build and maintain a balanced company through
the right combination of wholesale, licensing, and retail operations. The
Company's four major brands are:
- DONNA KARAN NEW YORK, which addresses the complete lifestyle needs of the
luxury goods customer.
- DKNY, which is a brand that addresses the spirit and energy of New York,
and includes a wide range of merchandise from evening to work to weekend.
- DKNY JEANS, which addresses the jeans market, primarily targeted to a
younger, more casual consumer.
- DKNY ACTIVE, which addresses the apparel and lifestyle needs of consumers
with an active lifestyle.
The Company's principal trademarks, "DONNA KARAN," "DONNA KARAN NEW YORK,"
"DKNY," and variations thereof are licensed to the Company pursuant to a license
agreement with Gabrielle Studio, Inc., a corporation wholly-owned by Ms. Donna
Karan and, her husband, Mr. Stephan Weiss, and certain affiliated trusts. See
"Trademarks" below in this section for the terms on which the trademarks are
licensed to the Company.
As of January 3, 1999, the Company operated in three segments: wholesale,
licensing, and retail. During fiscal 1998, approximately 62% of the Company's
wholesale net revenues were derived from sales within the United States and
approximately 38% were derived from sales outside the United States. See Note 16
to notes to financial statements included elsewhere herein for financial
information relating to the Company's business and geographic segments.
As used in this report, references to the "Company" mean the predecessors to
Donna Karan International Inc. as of the dates and periods prior to the
consummation of the Company's initial public offering in July 1996 and,
thereafter, collectively, Donna Karan International Inc. and its subsidiaries.
The principal executive offices of the Company are located at 550 Seventh
Avenue, New York, New York 10018. Its telephone number is (212) 789-1500.
WHOLESALE
The Company's wholesale segment consists of womenswear, menswear, and
accessories products offered under the DONNA KARAN NEW YORK and DKNY brands.
Accessory products also are offered under the DKNY JEANS and DKNY ACTIVE brands.
The Company's total wholesale net revenues for fiscal 1998 were $510.9 million.
Included in wholesale net revenues are sales of apparel and accessory products
by the Company to department stores, specialty stores, boutiques and the
Company's free-standing International Retail Stores (as defined below in
"Licensing"). In 1998, wholesale sales include certain sales of merchandise to
Liz Claiborne, Inc. ("LCI") relating to the Company's DKNY JEANS license
amounting to $26.8 million.
To increase sell-through at retail, the Company has begun to refocus and
balance its merchandise assortment, improve the price/value relationship on
certain items in the DKNY lines, improve in-store presentations through
expansion and/or renovation of in-store shops ("shop-in-shop"), and initiate a
new
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merchandise coordinator program to enhance the retail presentation standards and
train in-store selling specialists.
The approximate suggested retail price ranges for the wholesale products
sold by the Company set forth below are indicative of their approximate
individual item price ranges:
<TABLE>
<CAPTION>
DRESSES
SKIRTS AND SHIRTS AND (OTHER THAN
JACKETS PANTS BODYSUITS EVENING WEAR)
------------ ---------- ---------- -------------
<S> <C> <C> <C> <C>
WOMENSWEAR:
DONNA KARAN NEW YORK
Collection (black label)................................. $ 975-1,800 $ 450-700 $ 300-600 $ 650-1,400
Signature (gold label)................................... 750-1,100 300-600 200-400 500-850
DKNY....................................................... 220-525 65-225 45-175 130-395
</TABLE>
<TABLE>
<CAPTION>
SUITS SPORTSCOATS TROUSERS
-------------- ------------ ----------
<S> <C> <C> <C>
MENSWEAR:
DONNA KARAN NEW YORK
Collection (black label)............................................. $ 1,395-2,100 $ 850-1,300 $ 250-450
Signature (gold label)............................................... 795-1,350 550-900 195-210
DKNY................................................................... -- 225-495 98-195
</TABLE>
<TABLE>
<CAPTION>
SMALL LEATHER
HANDBAGS GOODS SHOES
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<S> <C> <C> <C>
ACCESSORIES:
DONNA KARAN NEW YORK....................................................... -- -- $ 250-595
DKNY....................................................................... $ 30-395 $ 15-125 25-265
</TABLE>
WOMENSWEAR
The Company designs, sources, markets, and distributes womenswear under the
DONNA KARAN NEW YORK and DKNY brands. The original DONNA KARAN NEW YORK
collection for women was based upon Ms. Karan's concept of "seven easy pieces,"
a collection of bodysuits and tights, dresses, skirts, blouses, jackets, pants,
and accessories that when layered in combinations achieved a varied, but
consistent, high fashion look. There are four annual seasonal presentations for
each DONNA KARAN NEW YORK and DKNY collection: Fall, Resort, Spring, and Summer.
The spring and fall collections generally are presented at major fashion shows,
which generate extensive press coverage in the domestic and international
fashion press as well as in the general media.
DONNA KARAN NEW YORK COLLECTIONS. The DONNA KARAN NEW YORK brand consists
of two collections: DONNA KARAN NEW YORK and DONNA KARAN SIGNATURE.
The DONNA KARAN NEW YORK collection ("black label") is the foundation of the
Donna Karan brands. This exclusive apparel collection is a modern system of
dressing which embodies the ultimate in luxury, sensuality, comfort, and
creative expression using the finest quality fabrics, workmanship, and
technological innovation. This collection is designed for sophisticated,
international, affluent women and is distributed exclusively in key markets to a
limited number of doors. (A "door" is a single retail outlet.) For the Fall 1998
season, the Company reintroduced into the DONNA KARAN NEW YORK collection an
"Essentials" program, which includes timeless versions of the Company's most
successful styles and newly designed classic signature styles.
The DONNA KARAN SIGNATURE collection ("gold label") is a complete lifestyle
collection addressing the specific needs of the modern, professional woman.
Based on the spirit of the Donna Karan design vision the DONNA KARAN SIGNATURE
collection was created to deliver a balanced mix of fashion expression,
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sportswear function, and classification items. While still a designer
collection, the DONNA KARAN SIGNATURE collection is merchandised for wider
distribution than the DONNA KARAN NEW YORK collection.
DKNY COLLECTION. DKNY is the energy and spirit of New York. The DKNY product
line is designed to appeal to a broader customer base and has wider distribution
than the DONNA KARAN NEW YORK and DONNA KARAN SIGNATURE collections.
The DKNY collection addresses a broad range of lifestyle needs from work to
weekend to eveningwear. The collection includes jackets, skirts, blouses,
bodysuits, dresses, pants, knits, sweaters and outerwear.
To address the difficult business environment resulting from general
economic conditions in Asia and competitive pressures, the Company has refocused
its resources to maximize the value of the DKNY women's brand, which initiatives
include:
- Refocusing the merchandise mix to improve retail sell-through;
- Expanding an "Essentials" program to include timeless styles and
silhouettes;
- Improving the price/value relationship by lowering price points on key
items;
- Reducing SKUs to gain greater sourcing and production efficiencies; and
- Expanding the shop-in-shop program and renovating existing shop-in-shops
in the United States.
MENSWEAR
The Company's menswear business consists of three collections: DONNA KARAN
NEW YORK, DONNA KARAN SIGNATURE, and DKNY. Generally, there are four annual
seasonal presentations for each collection: Fall, Resort, Spring, and Summer. In
recognition of the DONNA KARAN NEW YORK collection, Ms. Karan received the
Council of Fashion Designers of America's Menswear Designer of the Year Award
for 1992.
DONNA KARAN NEW YORK COLLECTIONS. THE DONNA KARAN NEW YORK brand consists of
two collections of men's apparel: DONNA KARAN NEW YORK ("black label") and DONNA
KARAN SIGNATURE ("gold label").
THE DONNA KARAN NEW YORK collection is designed to deliver the same
simplified system of dressing for men that originally was created for women.
This collection expresses the ultimate in style, comfort, function,
technological innovation, and quality using the finest fabrication and
workmanship. It is comprised of a balanced mix of handmade tailored clothing,
dress furnishings, and luxury sportswear. Like the DONNA KARAN NEW YORK women's
collection, the menswear collection has limited and exclusive distribution
through premier retailers.
THE DONNA KARAN SIGNATURE collection is a full lifestyle collection created
specifically for the modern professional man and captures the design vision of
Donna Karan through a balanced mix of tailored clothing, dress furnishings,
better sportswear, and classification items. Targeting a broader audience and
more widely distributed, this collection is priced below the DONNA KARAN NEW
YORK black label collection but maintains a similar dedication to quality and
design, while using lower cost fabrications and more commercial production
techniques.
DKNY COLLECTION. The DKNY menswear collection is positioned as a modern
lifestyle collection. The collection includes relaxed sportswear and weekend
wear. Other products in the collection, including suitings and classification
items, are being produced by licensees. The DKNY menswear collection is designed
to appeal to a broader customer base than the DONNA KARAN NEW YORK collections
for men and is more widely distributed than those collections.
The Company relaunched the DKNY men's sportswear collection for the Spring
1999 season to offer a more competitively priced and broadly distributed product
range. Additionally, the Company plans to increase the number of fixtured
shop-in-shops, which carry the DKNY men's collection.
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ACCESSORIES
The Company sells accessory products under the DONNA KARAN NEW YORK, DKNY,
DKNY JEANS and DKNY ACTIVE brands. These lifestyle collections are designed to
complement their respective apparel collections, as well as exist as stand-alone
collections.
DONNA KARAN NEW YORK COLLECTIONS. The DONNA KARAN NEW YORK collection of
accessories is a limited designer collection of luxury footwear for women and
men. These collections are sold exclusively to the Company's licensed
free-standing, full-priced stores and to a limited number of specialty stores.
DKNY, DKNY JEANS AND DKNY ACTIVE COLLECTIONS. The DKNY accessories
collection includes bags, small leather goods, and footwear for men and women,
including a balance of fashion, function, and value items. The women's
accessories and shoe collections are widely distributed through department and
specialty stores, while the men's collections have a more limited range of
distribution. For the Fall 1999 season, the Company plans to launch a DKNY
children's shoe collection. Also, for the Fall 1999 season, the Company plans to
launch a new comfort shoe line under the DKNY brand, with a price range of $69
to $89.
Under the DKNY ACTIVE label, the Company offers an extensive athleisure and
performance athletic footwear collection for men, women, and, beginning for the
Spring 1999 season, children. This collection is sold through department stores
and specialty athletic stores. For the Fall 1998 season, the Company launched a
DKNY JEANS footwear line, which is more broadly distributed than the DKNY
footwear collection. Additionally, for the Fall 1998 season, the Company
launched a new casual bag collection under both the DKNY ACTIVE and DKNY JEANS
brand names.
WHOLESALE CUSTOMERS, SALES, AND SUPPORT
The Company distributes its wholesale products through better department and
specialty stores and boutiques, and through the free-standing International
Retail Stores operated under the DONNA KARAN NEW YORK, DKNY, and DKNY JEANS
brand names. The Company's better department and large specialty store customers
include Bloomingdale's, Macy's, Saks Fifth Avenue, Neiman Marcus, Bergdorf
Goodman, and Nordstrom. Certain of the Company's customers, including some under
common ownership with each other, have accounted for significant portions of the
Company's revenues. During fiscal 1998, sales to entities affiliated with HPL
(as herein defined), including certain free-standing International Retail
Stores, accounted for approximately 10.5% of the Company's revenues for fiscal
1998. The Company's 10 largest wholesale customers accounted for approximately
48% of the Company's revenues during 1998. The Company also sells excess and
out-of-season products through secondary distribution channels, including the
Company's outlet stores.
Retailers carrying the Company's collections stock and display the
merchandise generally in accordance with the Company's standards, which may
include creating an in-store shop within the store ("shop-in-shop"), or
providing special signs, display cases, and display racks, depending on the
collection. The Company and its licensees are expanding the shop-in-shop program
for the Company's products. Under this program, participating retailers set
aside dedicated floor space to provide for a broad assortment of Company
products in a combination of wall case and free-standing fixtures. The Company
believes that shop-in-shops enhance brand recognition and encourage a store to
carry a representative cross-section of the Company's product line for each
season. The Company has focused its efforts and its licensees' efforts on
increasing the number and size of shop-in-shops or renovating existing
shop-in-shops, where appropriate. The size of the shop-in-shops typically range
from 600 to 2,000 square feet for womenswear, 400 to 750 square feet for
menswear, and 100 to 300 square feet for accessories. The continued expansion of
the Company's shop-in-shop and fixturing program is dependent on market
conditions, including continued demand for the Company's and its licensees'
products.
As of January 3, 1999, the Company had a sales force of approximately 95
people, all of whom were based in the Company's New York showrooms. The Company
has begun to utilize regional sales
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representatives or agents, both domestically and internationally, for several of
its product categories to expand its channels of distribution.
LICENSING
In late 1997, the Company began to expand its licensing activities by
forming strategic alliances with companies to develop, market, and sell products
under the DONNA KARAN NEW YORK, DKNY, DKNY JEANS and DKNY ACTIVE brands. In
fiscal 1998, the Company entered into its first regional license whereby the
licensee also produces and sources products independently and together with the
Company and its product licensees. The Company's licensing strategy consists of
the following elements: leveraging the Company's brands by entering into
licenses for related product categories, increasing awareness for the Company's
brands, entering new distribution channels, increasing floor space in existing
distribution channels, increasing the advertising and overall promotion of the
Company's brands, and generating an increased stream of royalty income that
provides a balance to the Company's wholesale and retail business. The Company's
licensing revenues for fiscal 1998 were $18.5 million.
PRODUCT LICENSES
Product licensees are granted the right to manufacture and sell at
wholesale, and in certain cases, at retail, specified products under the DONNA
KARAN NEW YORK, DKNY, DKNY JEANS, and/or DKNY ACTIVE brand names. In
consideration for such licenses, each licensee pays royalties to the Company
based upon a percentage of net sales of licensed products (as defined), subject,
generally, to payment of a minimum royalty. Additionally, the Company typically
obtains a commitment from the licensee for a minimum level of advertising and
marketing based upon a percentage of net sales of licensed products, with
additional funds allocated to the launch of new products. License agreements
generally have three- to five-year terms, with renewal options if certain
minimum sales thresholds are met. To ensure that products sold by its licensees
meet the Company's design and quality standards, the Company takes an active
role in the design, quality control, packaging, advertising, marketing,
merchandising and distribution of each licensed product and such items are also
subject to the Company's prior approval.
As of March 1, 1999, the Company had license agreements with the following
licensees providing for the manufacture and distribution of the categories of
products listed below under the trademarks and in the territories specified as
of such date:
<TABLE>
<CAPTION>
LICENSEE PRODUCTS LICENSED MARKS TERRITORY
- --------------------------- --------------------------- --------------------------- ---------------------------
<S> <C> <C> <C>
Estee Lauder Inc. Men's and women's beauty DONNA KARAN NEW YORK Worldwide
and beauty-related products DKNY
LC Libra, LLC, a subsidiary Men's and women's jeanswear DKNY JEANS Western Hemisphere
of Liz Claiborne, Inc. and active lifestyle DKNY ACTIVE
products
Hanes Hosiery, a division Women's pantyhose, DONNA KARAN NEW YORK Worldwide, excluding Japan
of Sara Lee Corp. knee-high stockings, tights DKNY
and socks
Wacoal America, Inc. Women's intimate apparel DONNA KARAN NEW YORK United States and Canada(1)
Women's and men's intimate DKNY United States, Canada, and
apparel Europe
</TABLE>
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(1) This license provides that the licensee may sell its products to existing
customers of the Company outside of the United States and Canada under
certain circumstances.
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<TABLE>
<CAPTION>
LICENSEE PRODUCTS LICENSED MARKS TERRITORY
- --------------------------- --------------------------- --------------------------- ---------------------------
<S> <C> <C> <C>
The Lantis Corporation Sunglasses, optical frames, DONNA KARAN NEW YORK Worldwide
magnifiers, and eyewear DKNY
accessories
Esprit de Corp. Children's apparel DKNY North America
DKNY KIDS
Albert S.A. Children's apparel DKNY Europe and the Middle East
DKNY KIDS
Peerless Delaware, Inc. Men's tailored clothing DKNY North America
Phillips-Van Heusen Corp. Men's dress shirts DKNY North America
Mallory & Church Men's neckwear and hosiery DKNY United States and Canada
Fairbrooke Fashion Corp. Women's coats DONNA KARAN SIGNATURE United States and Canada
DKNY
Mantero Seta, SPA Men's ties DONNA KARAN SIGNATURE Europe
Women's scarves DKNY Worldwide, excluding Japan
and certain other
territories
Cipriani Accessories Inc. & Women's and Men's belts DKNY/DKNY JEANS United States and Canada
The Max Leather Group, Inc. Men's small leather goods DKNY ACTIVE
Global Amici, Inc. Decorative accessories DONNA KARAN NEW YORK Worldwide, excluding Japan
DKNY and certain other
territories
Butterick Company, Inc. Paper patterns and knitting DONNA KARAN NEW YORK Worldwide
(Vogue Patterns) patterns DKNY
T. Kawabi & Co., Ltd. Handkerchiefs and face DKNY Japan and certain Asian
towels free-standing stores
Echo Lake Industries, Ltd. Men's hosiery DONNA KARAN NEW YORK Worldwide, excluding Asia
</TABLE>
The Company entered into two long-term strategic licensing alliances for its
beauty products and jeans and activewear lines, which are described below.
BEAUTY PRODUCTS. In November 1997, the Company granted to Estee Lauder Inc.
("ELI") the exclusive, long-term, worldwide license rights to the DONNA KARAN
NEW YORK and DKNY trademarks for the manufacture, marketing, distribution and
sale of beauty and beauty-related products, including fragrances, cosmetics,
skincare products, and beauty-related accessories. The Company also granted to
ELI an exclusive sublicense for the bottles designed by Stephan Weiss, Vice
Chairman of the Board of Directors of the Company and a principal stockholder.
DKNY JEANS AND ACTIVE PRODUCTS. In December 1997, the Company and a
subsidiary of LCI entered into a strategic licensing alliance for new lines of
men's and women's jeanswear and active clothing under the DKNY label. LCI was
granted the exclusive, long-term license rights to the DKNY JEANS and DKNY
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ACTIVE trademarks for apparel products and the rights to market, distribute, and
sell the DKNY JEANS and DKNY ACTIVE collections in the Western Hemisphere. LCI
also agreed to purchase the Spring and Summer 1998 DKNY JEANS collection, which
was introduced at retail in February 1998. The DKNY ACTIVE lines were launched
for the Spring 1999 season. This licensing alliance marks the Company's
expansion from the designer and bridge markets into the women's better casual
sportswear market.
REGIONAL LICENSES
Starting in fiscal 1998, the Company began to enter into regional licenses
for a given geographic area to expand its channels of distribution. Regional
licensees generally are granted the right to import, manufacture, and/or
distribute, and, in certain cases, license specified products under one or more
brand names in the specified geographic region. These regional licenses also
generally are granted retail development rights in the region. The economic
arrangements of these regional licenses are similar to those of the Company's
product licenses. The Company seeks to preserve the integrity of its brands by
monitoring and approving the design and quality of the products sold in the
region. The license agreements provide that the regional licensees also will
collaborate with the Company's product licensees in order to offer a broad range
of the Company's products of consistent style and quality.
The first of these regional license arrangements began in March 1998 with
the grant to Donna Karan Japan K.K., a Japanese corporation ("Donna Karan
Japan"), of a 16-year exclusive license to import, manufacture, license, and/or
distribute DONNA KARAN NEW YORK and DKNY products in Japan, with certain
exceptions. In addition, Donna Karan Japan was granted the exclusive right to
develop and operate a total of 12 DONNA KARAN NEW YORK and DKNY retail boutiques
in Japan over the term of the agreement. The Company receives a royalty on net
sales of licensed products and a servicing fee on net sales of Donna Karan
products imported by Donna Karan Japan. In connection with this license, Onward
Kashiyama Co. Ltd. ("OKC"), a Japanese public company, purchased all of the
equity interests of Donna Karan Japan from the Company and HPL. See Note 7 in
the notes to financial statements elsewhere herein.
On March 3, 1999, the Company entered into a regional license with Palmer
Corporation Limited for Australia and New Zealand. Palmer Corporation was
granted import, manufacturing, and distribution rights for certain of the
Company's apparel products. Additionally, Palmer Corporation has agreed to open
four DKNY and a total of six DKNY JEANS and DKNY ACTIVE retail boutiques in the
region during the term of the agreement.
RETAILING
The Company is pursuing a strategy to expand its channels of distribution by
opening a limited number of full-price, domestic free-standing retail stores,
while continuing to have licensed free-standing stores opened.
In fiscal 1998, the Company's net revenues from its retail operations were
$93.3 million, which represented primarily the Company's outlet store
operations. With respect to licensed stores, products manufactured by the
Company and sold to the licensed stores are included in the Company's wholesale
net revenues and royalties derived from sales by the Company's licensees of
their licensed products to the licensed stores are included in the Company's
licensing revenues.
COMPANY-OWNED FULL-PRICE STORES
The Company plans to open a limited number of full-price, domestic
free-standing retail stores in upscale regional malls and major street locations
generally in the largest urban markets in the United States. In fiscal 1998, the
Company opened DKNY full-price stores in Las Vegas, Nevada, Beverly Center, Los
Angeles and Short Hills, New Jersey, and a DONNA KARAN NEW YORK full-price store
in Manhasset, New York. In fiscal 1999, the Company expects to open four or five
additional DKNY stores, including a flagship DKNY store on Madison Avenue in New
York City. Additionally, in January 1999, the Company acquired
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two DKNY and one DONNA KARAN NEW YORK free-standing retail stores in the United
Kingdom from an affiliate of HPL, which previously had operated these stores.
See Note 18 in the notes to financial statements elsewhere herein.
OUTLET STORES
As of January 3, 1999, the Company operated 58 outlet stores in 26 states
and two outlet stores in the United Kingdom. The Company established its outlet
stores primarily to dispose of excess inventory in a manner that it believes
does not adversely affect its department and specialty store customers. The
outlet stores also carry a limited amount of the Company's licensed products. In
fiscal 1998, the Company began a remerchandising program through which certain
core products will be produced specifically for the outlet stores. This program
is designed to enable the Company to better balance the merchandise flow in the
outlet stores in an effort to maintain consistent sales results and improve
operating margins. The Company currently anticipates that it will have
approximately 59 outlet stores (net of anticipated outlet store closings) in
operation by the end of 1999; however, the Company currently is evaluating the
performance of its outlet stores and may determine to close certain additional
underperforming stores.
LICENSED FULL-PRICE AND OUTLET STORES
The Company has granted to LCI the right to open both retail and outlet
stores under the DKNY JEANS mark in the Western Hemisphere during the term of
the Company's product license with LCI. As of the end of fiscal 1998, six outlet
stores under the DKNY JEANS mark had opened. Additionally, in October 1998, the
Company granted an affiliate of Ms. Donna Karan, the Chairman and Chief Designer
of the Company, the right to open and operate a DONNA KARAN NEW YORK flagship
full-price, free-standing retail store on Madison Avenue in New York City, which
store is anticipated to open in 2000. See Note 11 in the notes to financial
statements elsewhere herein.
The Company also has entered into license arrangements and strategic
alliances for the opening by third parties of full-price, free-standing retail
stores in a number of international markets under the DONNA KARAN NEW YORK,
DKNY, DONNA KARAN, and DKNY JEANS marks (the "International Retail Stores"). The
free-standing International Retail Stores operated under these names carry the
corresponding product lines exclusively. There are provisions in certain of the
agreements for these International Retail Stores granting certain product and/or
boutique exclusivity within a defined geographical area. These licenses are
granted on a royalty-free basis but require certain minimum purchases of Company
product. As of January 3, 1999, there were 72 free-standing International Retail
Stores owned by third parties unaffiliated with the Company operating in 34
countries.
Eighteen of these International Retail Stores were operated by Hotel
Properties Limited, a Singapore corporation ("HPL") and its affiliates. Six
International Retail Stores are open under a retail agreement with HPL and a
corporation owned by the Ong family, which also has a substantial interest in
HPL. This agreement provides HPL with certain retail development rights and
obligations in certain territories in North Asia, including Hong Kong. This
agreement further provides HPL with certain distribution rights under limited
circumstances and boutique exclusivity in the covered territories. As noted
above, in January 1999, the Company purchased three of the International Retail
Stores operated in the United Kingdom by affiliates of the Ong family.
The Company anticipates that 79 free-standing International Retail Stores
will be in operation in 36 countries by the end of fiscal 1999.
DESIGN
The Company was founded upon the marketing and design talents of Ms. Donna
Karan. The Company believes that its future success will depend in substantial
part on its ability to continue to originate and define fashion trends, as well
as to anticipate and react to changing consumer demands in a
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timely manner. Ms. Karan, who has been designing high fashion apparel for over
25 years, ultimately is responsible for the Company's creative inspiration,
marketing, and overall fashion direction. In addition to Ms. Karan, as of
January 3, 1999, the Company employed a design staff of approximately 100
people, some of whom have assumed substantial design responsibilities under Ms.
Karan's supervision. The Company has nine design teams, each with a head
designer, responsible for the creation, development, and coordination of the
fabrications and silhouettes of the Company's collections.
ADVERTISING, PUBLIC RELATIONS, AND MARKETING
All worldwide advertising, public relations, and marketing programs are
managed on a centralized basis through the Company's Creative Services and
Public Relations Departments to promote a consistent global image for the
Company and its products.
The Company supports the marketing of its products with extensive image
advertising designed to appeal to a specific target group of customers. The
Company advertises principally in print and outdoor advertising media, but also
makes extensive use of video for point-of-sale displays, as well as mailers,
magalogs, catalogues, newsletters, and consumer awareness programs. For example,
the Company markets its DONNA KARAN NEW YORK brand name and image through its
WOMAN TO WOMAN bi-annual newsletter, which is a dialogue between the Company,
the designer, and consumers.
The Company's Public Relations Department is responsible for the worldwide
coordination and communication for each of the Company's brands with the
industry and general press and media and offers up-to-date information on the
Company's products and activities. A variety of public relations activities is
managed on a centralized base in order to ensure consistency of message and
presentation. Each of the spring and fall womenswear collections is introduced
at major fashion shows in New York, which generates extensive worldwide media
coverage. The spring and fall menswear collections are introduced in Milan and
New York at presentations organized for international and domestic fashion press
and retailers. The Company and its licensees further strengthen consumer
awareness with sponsorships and special events.
SOURCING, PRODUCT DEVELOPMENT AND QUALITY CONTROL
The Company sources products through its established relationships with
leading contractors. The Company works with fabric mills in the United States,
Europe, and the Far East to develop woven and knitted fabrics that enhance the
comfort, design, and look of its products. The Company employs fabric
specialists in the United States and Hong Kong who perform this function.
The lead times for the various stages of the Company's operations from
sourcing to delivery of finished goods differ for each of the Company's
divisions and for the various selling seasons. Fabric purchases for a
substantial portion of the Company's apparel products takes place generally four
to five months prior to the corresponding selling season, although the Company
may begin to acquire fabric for certain products up to a year in advance of the
corresponding selling season. Apparel production (cut, manufacture, and trim)
generally begins approximately 90 to 120 days prior to delivery of finished
goods to customers.
The Company does not own any production facilities and engages both domestic
and foreign contractors for the production of its products. Total contracters
used by the Company during the year for apparel products, including the
production of samples, were approximately 440 worldwide. During 1998,
approximately 57% of direct purchases of raw materials, labor, and finished
goods were produced in Hong Kong, Taiwan, South Korea, and other Asian
countries; approximately 21% were produced in the United States and its
territories; and approximately 22% were produced in Europe. None of the
contractors engaged by the Company accounted for more than 10% of the Company's
total production during 1998. The Company has had long-term relationships with
many of its contractors. The production and sourcing staff in New York oversees
all aspects of fabric acquisition, apparel manufacturing, quality control, and
production, as well as researching and developing new sources of supply. The
Company operates product
9
<PAGE>
sourcing and quality control offices in Hong Kong. Finished goods production,
quality control, and delivery for products sourced through South Korea are
monitored through an exclusive buying agent in the territory. Additionally,
fabric and finished goods production, quality control, and delivery for
materials and products sourced through Italy are monitored through exclusive
agents in Italy.
The Company uses a variety of raw materials, principally consisting of woven
and knitted fabrics and yarns. During 1998, approximately 25% of the Company's
raw materials were purchased by the Company directly from suppliers and sent to
contractors to be cut and sewn or assembled. Contractors from mills designated
by the Company purchased the rest of the raw materials used in the Company's
products. In certain cases, the Company must commit to purchase fabric from a
mill before it will begin production. If the Company overestimates the demand
for a particular fabric or yarn, it frequently can utilize the excess in
garments made for subsequent seasons or made into past seasons' silhouettes for
distribution through secondary distribution channels.
The Company monitors the quality of its fabrics prior to the production of
garments and inspects prototypes of products before production runs are
commenced. The Company also performs random in-line quality control checks
during and after production before the garments leave the contractor. Final
random inspections occur when the garments are received in the Company's
distribution centers.
WAREHOUSE AND DISTRIBUTION CENTERS
To facilitate the distribution of its apparel products, the Company utilizes
distribution centers at five sites. Two of the distribution centers are operated
by the Company and three are operated by independent contractors. Distribution
of the Company's apparel and accessory products in the United States primarily
is conducted in Carlstadt, New Jersey facilities operated by the Company. The
Company operates a distribution center in Hong Kong, which services the Pacific
Rim, other than Japan. Additionally, the Company utilizes a warehouse operator
in The Netherlands that services the entire European market. The Company also
utilizes a third party operator in California for distribution of certain of its
shoe products and a warehouse operator in Montreal that services the Canadian
market.
MANAGEMENT INFORMATION SYSTEMS; CREDIT CONTROL
The Company's information systems are designed to provide, among other
things, order processing, production, accounting and management information for
the marketing, manufacturing, importing and distribution functions of the
Company's business. The Company also has a retail management software system,
which is used in all of its retail and outlet stores. The system is used for
point-of-sale transactions and information, as well as office management,
including inventory control.
The Company manages its own credit and collection functions. The Company
does not factor its accounts receivable and maintains credit insurance to manage
the risk of bad debts. The Company's loss due to bad debts was immaterial during
fiscal 1998.
COMPETITION
Competition is strong in the segments of the fashion industry in which the
Company operates. The Company competes with numerous designers and
manufacturers, domestic and foreign, some of which are significantly larger and
have substantially greater resources than the Company. Further, with sufficient
financial backing, talented designers can become competitors within several
years of establishing a new label. The Company competes primarily on the basis
of fashion, quality, and service. The Company's business depends on its ability
to shape and stimulate consumer tastes and demands by producing innovative,
attractive, and exciting fashion products, as well as on its ability to remain
competitive in the areas of quality and price.
10
<PAGE>
BACKLOG
The Company generally receives wholesale orders for its products
approximately three to five months prior to the time the products are delivered
to stores. All such orders are subject to cancellation for late delivery. At
March 24, 1999, backlog was $252.7 million, as compared to $276.7 million at
March 24, 1998. The Company's backlog depends upon a number of factors,
including the timing of the market weeks for its collections, during which a
significant percentage of the Company's orders is received, the timing of
shipments and the planned reorder business which is not ordered in advance. As a
consequence, a comparison of backlog from period to period is not necessarily
meaningful and may not be indicative of eventual shipments.
TRADEMARKS
The principal trademarks used by the Company to distinguish its brands are
DONNA KARAN NEW YORK, DKNY, DKNY JEANS and DKNY ACTIVE. Under these brands, the
Company uses many variations of these trademarks. Upon consummation of the
Company's initial public offering, Gabrielle Studio, Inc. ("Gabrielle Studio"),
a corporation owned by Ms. Donna Karan, Mr. Stephan Weiss, and certain
affiliated trusts, granted to the Company an exclusive worldwide license (the
"Gabrielle License") in perpetuity to use and sublicense the right to use the
licensed marks including the principal trademarks of the Company, and to use and
sublicense the right to use the name and likeness of Ms. Karan, in connection
with the sale of all products and store services, other than certain products
and specified services for which Gabrielle Studio retained the right to use or
license such trademarks. Gabrielle Studio has licensed such specified products
and services to Ms. Karan. The Gabrielle License provides, however, that at such
time as Ms. Karan is no longer the Chairman of the Board of Directors and Chief
Designer of the Company, the licensed marks may only be used by the Company in
the market segments in which such licensed marks previously were used.
The Gabrielle License may be terminated by Gabrielle Studio upon the failure
of the Company to pay any amount due within 60 days of receipt of notice of such
failure, or if the Company violates the quality control provisions of the
Gabrielle License and fails to initiate and thereafter pursue appropriate
corrective action within 60 days after a final unappealable determination by an
arbitration tribunal or court of competent jurisdiction that such violation has
occurred. The Gabrielle License also may be terminated by Gabrielle Studio upon
the occurrence of, among other events, a "change of control" of the Company,
including certain changes in ownership of voting securities, an acquisition by a
third party of 30% of the voting securities of the Company, mergers, sales of
assets, and certain changes in the composition of the Board of Directors.
Gabrielle Studio and its shareholders have agreed that Gabrielle Studio will
not engage in any activities other than those related to the Gabrielle License
and its license agreement with Ms. Karan. However, there is no restriction on
the transferability of shares of Gabrielle Studio. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations" included herein
and "Certain Relationships and Related Transactions--License Agreement for
Principal Trademarks" included in the 1999 Proxy Statement for a more complete
description of the terms of this license and the royalties payable thereunder.
The principal trademarks used by the Company are the subject of
registrations and pending applications throughout the world filed by the Company
or its licensees on behalf of Gabrielle Studio, for use on a variety of items of
apparel, apparel-related products, and beauty products, as well as in connection
with retail services, and the Company continues to expand its worldwide usage
and registration of related trademarks. The Company regards the license to use
the trademarks and its other proprietary rights in and to the trademarks as
valuable assets in the marketing of its products, and on a worldwide basis,
vigorously seeks to protect them against infringement. The Company also has an
enforcement program to control the sale of counterfeit products in the United
States and in major markets abroad.
11
<PAGE>
EMPLOYEES
As of January 3, 1999, the Company had approximately 1,885 employees,
including 1,715 in the United States and 170 in foreign countries. Approximately
865 employees are engaged in the Company's wholesale, licensing and corporate
operations and 870 employees in the Company's retail operations (most of whom
are part-time employees). Previously, the Company reported the number of its
part-time retail sales associates in terms of full-time equivalents.
Approximately 245 of the Company's United States production, design, and
distribution employees are members of three locals of the Union of Needletrades,
Industrial & Textile Employees, which operates under a collective bargaining
agreement. The Company considers its relations with its employees to be
satisfactory and has not experienced any job actions or labor stoppages since
its inception.
GOVERNMENT REGULATIONS
The Company and its products are subject to regulation by the Federal Trade
Commission in the United States. Such regulations relate principally to the
labeling of the Company's products. The Company believes that it is in
substantial compliance with such regulations, as well as applicable federal,
state, local, and foreign rules and regulations governing the discharge of
materials hazardous to the environment. There are no significant capital
expenditures for environmental control matters either estimated in the current
year or expected in the near future. The Company's licensed products and
licensees also are subject to additional legislation. The Company's license
agreements require that its licensees operate in compliance with all applicable
laws and regulations.
The Company's import operations are subject to constraints imposed by
bilateral textile agreements between the United States and a number of foreign
countries. These agreements, which have been negotiated bilaterally either under
the framework established by the Arrangement Regarding International Trade in
Textiles, known as the Multifiber Agreement, or other applicable statutes,
impose quotas on the amounts and types of merchandise which may be imported into
the United States from these countries. These agreements also allow the
signatories to adjust the quantity of imports for categories of merchandise
that, under the terms of the agreements, are not currently subject to specific
limits. The Company's imported products are also subject to United States
customs duties. In addition, each of the countries in which the Company's
products are sold have laws and regulations regarding import restrictions,
quotas, and duties. The United States and other countries in which the Company's
products are manufactured or sold may, from time to time, impose new quotas,
duties, tariffs or other restrictions, or adversely adjust present prevailing
rates, which could adversely affect the Company's operations.
FORWARD-LOOKING STATEMENTS AND BUSINESS CONSIDERATIONS
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. The words and phrases "will likely result," "are
expected to," "will continue," "is anticipated," "estimates," "projects,"
"believes," "plans" or similar expressions, are intended to identify
"forward-looking statements include, without limitation, the Company's
expectations regarding sales, earnings, or other future financial performance
and liquidity, and general statements about future operations and operating
results. Although the Company believes that its expectations are based on
reasonable assumptions within the bounds of its knowledge of its business and
operations, there can be no assurance that actual results will not differ
materially from its expectations. Factors that could cause actual results to
differ from expectations include, without limitation: (i) the failure of certain
key members of the Company's design teams or management, including Ms. Karan, to
continue to be active in the business of the Company; (ii) the possibility of a
termination of the Company's license with Gabrielle Studio, Inc., a bankruptcy
of Gabrielle Studio or transfer of the stock of Gabrielle Studio; (iii) the
timing and expense associated with, and effects of, the strategic initiatives
being implemented by the Company; (iv) risks associated with the receipt,
pricing, and timing of customer orders; (v) general competitive factors and the
overall financial condition of the
12
<PAGE>
apparel industry, the retail industry, and the general economy; (vi) timing of
and costs associated with new stores openings and the Company's economic ability
to continue to open stores; (vii) a change in retailer or consumer acceptance of
the Company's products; (viii) the variability of the Company's results in any
period due to the seasonal nature of the business, the timing and level of the
Company's sales, the timing of launch of new products and collections and
opening of new doors, fashion trends, and the timing, terms, consummation, or
success of any joint ventures, licenses, or other dispositions of product lines;
(ix) consolidation and restructuring in the retail industry causing a decrease
in the number of stores that sell the Company's products, or an increase in the
ownership concentration within the retail industry; (x) social, political and
economic risks to the Company's foreign operations and customers, including
changes in foreign investment and trade policies and regulations of the host
countries and of the United States; (xi) risks associated with the Company's
increasing royalty revenues as a percent of the Company's total revenues and
risks associated with a lack of operational or financial control over the
Company's licensees; (xii) changes in laws, regulations, and policies, including
changes in accounting standards, that affect, or will affect, the Company in the
United States and abroad; (xiii) foreign currency fluctuations affecting the
Company's results of operations and value of its foreign assets, the relative
price at which the Company and foreign competitors sell their products in the
same markets, and the Company's operating and manufacturing costs outside of the
United States; (xiv) shipment delays, depletion of inventory, and increased
production costs resulting from disruption at any of the Company's facilities or
other causes; (xv) changes in product mix to ones which are less profitable;
(xvi) the ability of the Company and third parties, including customers or
suppliers, to adequately address Year 2000 issues; (xvii) infringements of the
Company's trademarks and other proprietary rights, imitations or diversions of
the Company's products, or inability to obtain trademark protection outside the
United States for one or more of the Company's marks; (xviii) political or
economic instability resulting in the disruption of trade from the countries in
which the Company's contractors, suppliers, licensees, or customers are located,
the imposition of additional regulations relating to imports, the imposition of
additional duties, taxes, and other charges on imports, significant fluctuations
of the value of the dollar against foreign currencies, or restriction on
transfer of funds; (xix) the inability of a contractor to deliver the Company's
products in a timely manner thereby causing the Company to miss the delivery
date requirements of its customers, which in turn could result in the
cancellation of orders, refusal to accept deliveries, or a reduction in the
selling price; or (xx) the violation of labor or other laws by any independent
manufacturer or any licensee. The Company undertakes no obligation to publicly
update or revise any forward-looking statements made herein or elsewhere whether
as a result of new information, future events or otherwise.
ITEM 2. PROPERTIES
Certain information concerning the Company's principal facilities, all of
which are leased, is set forth below:
<TABLE>
<CAPTION>
APPROXIMATE AREA IN
LOCATION USE SQUARE FEET
- --------------------------------------- --------------------------------------------------- -------------------
<S> <C> <C>
550 Seventh Avenue..................... Principal executive and administrative offices; 70,000
New York, New York Designer Collections design facilities, sales
offices, and showrooms
West 40th Street....................... DKNY's executive and administrative offices, 115,000
New York, New York including its design facilities, sales offices,
production offices, and showrooms
Carlstadt, New Jersey.................. Distribution and warehouse facility; administrative 385,000
offices
Kowloon, Hong Kong..................... Distribution and warehouse facility; production 63,000
control, sourcing, and quality control
</TABLE>
13
<PAGE>
The leases for the above facilities expire between 1999 and 2009. The
Company anticipates that it will be able to extend those leases which expire in
the near future on terms satisfactory to the Company or, if necessary, locate
substitute facilities on acceptable terms.
As of January 3, 1999, the Company operated four full price stores and 60
retail outlet stores in leased premises. The full price retail stores range in
size from approximately 4,400 square feet to 7,800 square feet and outlet stores
range in size from approximately 2,100 square feet to 7,600 square feet. The
leases for these stores expire between 1999 and 2008. The Company expects to
renew, for the applicable option renewal period, those leases, which expire in
1999. In 1997, the Company also entered into a 15-year lease for a 16,700-square
foot DKNY flagship store on Madison Avenue in New York City, which is scheduled
to open in 1999.
The Company believes that its existing facilities are well maintained and in
good operating condition and are adequate for their intended use and the
Company's present level of operations.
ITEM 3. LEGAL PROCEEDINGS
In 1997, the Company and certain directors and officers of the Company (the
"DK Defendants") were named as defendants in four separate class actions filed
in the United States District Court for the Eastern District of New York. Each
of the actions sought unspecified damages and purported to be a class action on
behalf of all purchasers of common stock during certain specified periods
between June 1996 and May 1997. In September 1997, these actions were
consolidated by court order. The complaints alleged violations of the Securities
Exchange Act of 1934 and the Securities Act of 1933 and the rules thereunder as
well as New York common law. On August 14, 1998, the Court granted motions to
dismiss filed by the Company and the Underwriter defendants, and dismissed the
action in all respects. The Court offered plaintiffs the opportunity to file a
motion seeking leave to file an amended complaint. Plaintiffs did not file such
a motion and the Court entered judgment dismissing the action. On October 9,
1998, plaintiffs filed a notice of appeal, and on December 10, 1998, the United
States Court of Appeals so ordered the parties' stipulation dismissing the
appeal, thereby concluding this matter.
Additionally, the Company is involved from time to time in routine legal
matters incidental to its business. In the opinion of the Company's management,
the resolution of such matters will not have a material effect on its financial
position or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
EXECUTIVE OFFICERS OF THE REGISTRANT
The names of the executive officers of the Company and their ages and
positions with the Company are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ------------------------------------ --- ---------------------------------------------------------------------
<S> <C> <C>
Donna Karan......................... 50 Chairman of the Board and Chief Designer
Stephan Weiss....................... 60 Vice Chairman and Director
John D. Idol........................ 40 Chief Executive Officer and Director
Lee Goldenberg...................... 48 Corporate Executive Vice President-Worldwide Operations
Joseph B. Parsons................... 45 Corporate Executive Vice President-Chief Financial and Administrative
Officer and Treasurer
David L. Bressman................... 47 Corporate Senior Vice President, General Counsel, and Secretary
Lynn E. Usdan....................... 39 Corporate Senior Vice President, General Counsel and Secretary--Elect
</TABLE>
14
<PAGE>
DONNA KARAN founded the Company along with Stephan Weiss, Tomio Taki, Frank
Mori, and Takihyo Inc. in 1984 and has served as Chief Designer of the Company
from the date of its formation and Chief Executive Officer from the date of the
Company's formation until August 1997. Ms. Karan has served on the Board of
Directors of the Company since April 1996, and has served as Chairman of the
Board since July 1996. Immediately prior to the formation of the Company in
1984, Ms. Karan was the head designer at Anne Klein & Company. Ms. Karan is a
member of the Board of Directors of the Council of Fashion Designers of America
("CFDA"), the Design Industries Foundation for AIDS, and the Martha Graham
Center of Contemporary Dance. Ms. Karan also serves as a member of the Board of
Governors of the Parsons School of Design, a division of The New School. Ms.
Karan was honored as the CFDA's Designer of the Year in 1985 and 1990, as its
Menswear Designer of the Year in 1992, and as its Womenswear Designer of the
Year in 1996.
STEPHAN WEISS has served on the Board of Directors of the Company since
April 1996, and as Vice Chairman since July 1996. From 1985 to 1992, Mr. Weiss
served as the Operating Principal of the Company and from 1993 through 1995 as
the Co-Chief Executive Officer. During this time, Mr. Weiss has served the
Company in various capacities, including having direct supervisory
responsibility for the legal department, licensing, new business ventures, and
developing the Creative Services Department.
JOHN D. IDOL joined the Company in July 1997 and has served as Chief
Executive Officer and a director of the Company since August 1997. Prior to
joining the Company, Mr. Idol was employed by Polo Ralph Lauren Corporation, a
publicly traded apparel company, from 1984 through July 1997, most recently as
Group President, Product Licensing and the Home Collection.
LEE GOLDENBERG served as Corporate Executive Vice President-Worldwide
Operations of the Company since November 1995. From April 1993 to November 1995,
Mr. Goldenberg held increasingly responsible positions with the Company,
including Senior Vice President and Chief Information and Logistics Officer.
From 1985 to April 1993, Mr. Goldenberg was employed in various management
positions at Bernard Chaus Inc., most recently as Vice President Management
Information Systems.
JOSEPH B. PARSONS has served as Corporate Executive Vice President and Chief
Financial Officer of the Company since February 1996, as Treasurer of the
Company since June 1996, and as Chief Administrative Officer since January 1999.
From January 1993 to February 1996, Mr. Parsons held increasingly responsible
financial positions with the Company, most recently as Vice President Finance.
DAVID L. BRESSMAN has served as Corporate Senior Vice President and General
Counsel to the Company since July 1996 and as Secretary of the Company since
June 1996. From April 1994 to July 1996, Mr. Bressman was Vice President and
General Counsel of the Company. From 1984 to April 1994, Mr. Bressman was a
member of the New York law firm Phillips, Nizer, Benjamin, Krim & Ballon. Mr.
Bressman has resigned from the Company effective in April 1999.
LYNN E. USDAN has been named to serve as Corporate Senior Vice President,
General Counsel, and Secretary of the Company upon the effective date of Mr.
Bressman's resignation in April 1999. She joined the Company in January 1996 as
Associate General Counsel and was named Vice President in November 1997. From
February 1994 to December 1995, Ms. Usdan was Senior Counsel at Proskauer Rose
LLP, a New York law firm. Prior thereto, she was a partner of the law firm of
Shea & Gould, which filed a voluntary petition under the United States
Bankruptcy Code on December 22, 1995.
Donna Karan and Stephan Weiss are married to each other. There are no other
family relationships among the directors and executive officers.
15
<PAGE>
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS
The Company's Common Stock trades on the New York Stock Exchange under the
symbol "DK." The following table reflects the high and low sales prices of the
Company's Common Stock, as reported by the New York Stock Exchange, for each
quarter of fiscal 1998 and 1997.
<TABLE>
<CAPTION>
FISCAL 1998 FISCAL 1997
-------------------- --------------------
QUARTER HIGH LOW HIGH LOW
- --------------------------------------------------------------------------- --------- --------- --------- ---------
<S> <C> <C> <C> <C>
First...................................................................... $ 13.81 $ 10.50 $ 15.25 $ 8.88
Second..................................................................... $ 16.75 $ 12.63 $ 12.88 $ 9.13
Third...................................................................... $ 16.25 $ 7.25 $ 15.50 $ 10.13
Fourth..................................................................... $ 8.44 $ 5.06 $ 17.75 $ 10.94
</TABLE>
As of March 18, 1999, the number of holders of record of the Company's
Common Stock was approximately 1,277. As of March 18, 1999, there were two
record owners of each of the Company's Class A Common Stock and Class B Common
Stock.
DIVIDEND INFORMATION
The Company anticipates that all of its earnings in the foreseeable future
will be retained to finance the continued growth and expansion of its business
and has no current intention to pay cash dividends. The Company's future
dividend policy will depend on the Company's earnings, capital requirements,
financial condition, requirements of the financing agreements to which the
Company is party, and other factors considered relevant by the Board of
Directors. The Company's existing credit agreement limits the amount of cash
dividends the Company may pay to its stockholders.
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction with the
Company's Financial Statements and the notes thereto and "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included elsewhere herein.
16
<PAGE>
<TABLE>
<CAPTION>
YEAR ENDED
--------------------------------------------------------------------
JANUARY 3, DECEMBER 28, DECEMBER 29, DECEMBER 31, JANUARY 1,
1999 1997 1996 1995 1995
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF INCOME DATA:
Net revenues (1)........................ $ 622,646 $ 638,725 $ 612,840 $ 510,126 $ 420,164
------------ ------------ ------------ ------------ ------------
Gross profit (1)........................ 154,087 121,407 200,776 179,437 148,992
Selling, general, and administrative
expenses (1) (2)...................... 152,089 204,088 187,474 136,906 119,995
Restructuring (credits) charges (1)..... (267) 8,635 -- -- --
------------ ------------ ------------ ------------ ------------
Operating income (loss)................. 2,265 (91,316) 13,302 42,531 28,997
Equity in (loss) earnings of
affiliate (3)......................... (65) 1,435 3,089 2,519 --
Interest expense, net................... (2,050) (2,515) (8,534) (7,650) (8,862)
Other expense (4)....................... -- -- -- -- (2,651)
Gain on sale of interests in
affiliate (3)......................... 88 -- -- 18,673 --
------------ ------------ ------------ ------------ ------------
Income (loss) before provision for
certain state, local, and foreign
income taxes.......................... 238 (92,396) 7,857 56,073 17,484
Provision (benefit) for
income taxes (5)...................... 110 (11,034) (17,179) 2,398 1,139
------------ ------------ ------------ ------------ ------------
Net income (loss)....................... $ 128 $ (81,362) $ 25,036 $ 53,675 $ 16,345
------------ ------------ ------------ ------------ ------------
------------ ------------ ------------ ------------ ------------
Net income (loss) per
common shares (6):
Basic................................. $ 0.01 $ (3.78) $ 0.02 $ 0.91 --
Diluted............................... $ 0.01 $ (3.78) $ 0.02 $ 0.91 --
Weighted average common shares
outstanding (6):
Basic................................. 21,598,264 21,512,050 18,742,533 16,017,032 --
Diluted............................... 21,631,664 21,512,050 18,742,533 16,017,032 --
BALANCE SHEET DATA:
Working capital......................... $ 91,668 $ 79,989 $ 146,805 $ 92,635 $ 52,289
Total assets............................ 278,729 287,488 311,695 203,975 157,004
Total long-term debt, including current
portion............................... -- 36 318 53,538 51,426
Stockholders' equity and partners'
capital............................... 122,104 122,464 203,791 80,846 47,837
</TABLE>
- ------------------------
(1) Included in the financial statements for the fiscal year ended December 28,
1997 are restructuring charges, other charges, primarily nonrecurring, and
operating losses aggregating $61.5 million as follows: restructuring charges
of $8.6 million; $21.1 million related to the wind-down of the Company's
beauty business (net of a $2.2 million gain in connection with the
consummation of this transaction) of which $11.7 million is recorded as cost
of sales, $10.9 million is recorded as sales returns and $0.7 million is
recorded as selling, general, and administrative expenses; $2.3 million of
operating losses of the beauty business subsequent to the consummation of
this transaction; $12.5 million related to the wind-down of the Company's
DKNY JEANS business as a result of the license of the business classified as
$9.4 million of cost of sales and $3.1 million of selling, general and
administrative expenses; and, $17.0 million of other charges related to the
realignment of a retail and distribution arrangement, additional severance
costs, and other costs related to strategic initiatives and cost
containment, which have been classified as $15.4 million of selling, general
and administrative expenses and $1.6 million of cost of sales.
17
<PAGE>
(2) Included in selling, general and administrative expenses for the fiscal year
ended December 29, 1996 are one-time charges for bonuses relating to the
Company's initial public offering (the "Offering") of $5.3 million, the
award of 105,100 shares of common stock to certain employees pursuant to the
Company's 1996 Stock Incentive Plan which amounted to $2.5 million, and $3.2
million related to the purchase of all sales and marketing plans, patterns,
samples, fabrics and other materials developed by Designer Holdings, Ltd. in
connection with the termination of the DH License (as hereafter defined).
(3) On March 31, 1995, the Company sold 70% of its interest in the operations 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 accounted for its remaining 30% interest in the
operations of Donna Karan Japan using the equity method of accounting.
Equity in earnings (loss) of affiliate amounted to ($0.1) million, $1.4
million, $3.1 million and $2.5 million for the quarter ended March 30, 1998
and fiscal 1997, 1996 and 1995, respectively. An agreement with Donna Karan
Japan provides for a management fee payable to the Company based upon net
sales of Donna Karan Japan, which amount is included as an offset against
selling, general and administrative expenses. In March 1998, the Company and
HPL sold all of their outstanding shares in Donna Karan Japan to OKC. See
Note 7 in the notes to financial statements elsewhere herein.
(4) Other expenses represent charges related to a proposed debt offering in 1994
amounting to $2.7 million.
(5) The benefit for income taxes for the fiscal year ended December 28, 1997 is
net of a $24.0 million valuation allowance which was recorded due to the
inherent uncertainties in estimating future taxable income. The provision
for income taxes for the fiscal year ended December 29, 1996 includes a
$19.0 million tax benefit which was recorded by the Company concurrent with
becoming subject to Federal and additional state income taxes. See Note 14
in the notes to financial statements elsewhere herein.
(6) Options outstanding during 1997 were not included in the calculation of
earnings per share because the effect would be antidilutive. Net income
(loss) per common share data for 1995 and 1996 are presented on a pro forma
basis. Pro forma net income (loss) per common share for the year ended
December 31, 1995 is based upon (a) 10,612,934 shares of common stock
outstanding during the period, (b) the number of shares of common stock
(5,298,988) sold by the Company, at an offering price of $24.00 ($21.96 net
of expenses) per share, the proceeds of which would be necessary to pay
approximately $116.0 million of distribution notes previously issued
(including accrued interest thereon), representing cumulative undistributed
taxable income on which taxes previously had been paid, and (c) 105,100
shares of Common Stock which the Company awarded to certain employees
pursuant to the Company's 1996 Stock Incentive Plan. Pro forma net income
(loss) per common share for the year ended December 29, 1996 is based on the
weighted average of the above shares outstanding for the period prior to the
Offering, and 21,468,034 shares for the period subsequent to the Offering.
The net income (loss) used in the calculation of pro forma per common share
information excludes the reduction of interest costs of $3.5 million and
$6.2 million in 1996 and 1995, respectively, and the reduction in
amortization of deferred financing costs of $0.8 million and $0.6 million in
1996 and 1995, respectively, and the related tax effect of $1.8 million and
$2.9 million in 1996 and 1995, respectively. Basic and diluted pro forma net
income (loss) per common share are the same since there were no options
outstanding in 1995, and there was no dilutive effect of options in 1996.
Pro forma net income is as follows (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED
---------------------------
DECEMBER 29, DECEMBER 31,
1996 1995
------------- ------------
<S> <C> <C>
Pro forma-unaudited
Historical income before income taxes............................ $ 7,857 $ 56,073
Pro forma adjustments other than income taxes.................... 1,436 23,943
------ ------------
Pro forma income before income taxes............................. 6,421 32,130
Pro forma provision for income taxes............................. 3,537 13,705
------ ------------
Pro forma net income............................................. $ 2,884 $ 18,425
------ ------------
------ ------------
</TABLE>
18
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company's business is comprised of wholesale, licensing and retail
activities. The following table is a comparative summary of the Company's
results of operations for the fiscal years ended January 3, 1999 ("fiscal
1998"), December 28, 1997 ("fiscal 1997"), and December 29, 1996 ("fiscal 1996")
and reflects the basis of presentation described in Note 1 in the notes to
financial statements elsewhere herein. The Company utilizes a 52- or 53-week
fiscal year ending on the Sunday nearest December 31. Fiscal 1998 results
include 53 weeks as compared to 52 weeks in fiscal 1997 and 1996.
<TABLE>
<CAPTION>
YEAR ENDED
----------------------------------------------------------------
JANUARY 3, DECEMBER 28, DECEMBER 29,
1999 1997 1996
-------------------- -------------------- --------------------
(IN MILLIONS)
<S> <C> <C> <C> <C> <C> <C>
Net revenues.............................. $ 622.6 100.0% $ 638.7 100.0% $ 612.8 100.0%
Gross profit.............................. 154.1 24.7 121.4 19.0 200.8 32.8
Selling, general and administrative
expenses................................ 152.1 24.4 204.1 32.0 187.5 30.6
Operating income (loss)................... 2.3 0.4 (91.3) (14.3) 13.3 2.2
Net income (loss)......................... 0.1 -- (81.4) (12.7) 25.0 4.1
</TABLE>
SIGNIFICANT TRANSACTIONS
In January 1998, the Company granted LCI the exclusive, long-term rights to
the DKNY JEANS and DKNY ACTIVE trademarks for apparel products and to market,
distribute and sell both collections in the Western Hemisphere. In connection
therewith and with the sale to LCI of certain usable inventory and other assets
relating to the existing business, the Company received $30.0 million and
receives additional royalties from LCI based on sales of such jeans and
activewear products. In connection with the transaction with LCI, in fiscal 1997
the Company recorded a loss of $12.5 million, which represents the writedown of
inventory to net realizable value, as well as other costs necessary to exit its
existing jeans business.
The Company sells its products in Japan through Donna Karan Japan, a
Japanese corporation, which was the exclusive distributor of the Company's
products in Japan, subject to certain limited exceptions. In March 1998, the
Company and HPL sold all of their outstanding shares in Donna Karan Japan to
OKC. At the same time, Donna Karan Japan was granted a 16-year exclusive license
to import, manufacture, license and/or distribute DONNA KARAN NEW YORK and DKNY
products in Japan, with certain exceptions. In addition, Donna Karan Japan was
granted the exclusive right to develop and operate a total of 12 DONNA KARAN NEW
YORK and DKNY retail boutiques in Japan over the term of the agreement. Upon
consummation of this transaction, the Company received $15.9 million. The
Company will receive a royalty on net sales of licensed products and a servicing
fee on net sales of Donna Karan products imported by Donna Karan Japan.
In fiscal 1997, the Company granted to ELI exclusive worldwide rights to the
DONNA KARAN NEW YORK and DKNY trademarks for the manufacture, marketing,
distribution and sale of beauty and beauty-related products, including
fragrances, cosmetics, skincare products, and beauty-related accessories. In
connection therewith and with the sale to ELI of certain assets relating to the
existing business, the Company received $25.0 million and will receive
additional royalties from ELI based on sales of such beauty and beauty-related
products. Under certain circumstances, the Company is obligated to repay to ELI
a portion of
19
<PAGE>
these payments plus a penalty amount, if certain products are not launched in
accordance with an agreed-upon schedule, as a result of the Company's actions or
lack thereof. In fiscal 1997, the Company recorded a loss of $21.1 million
related to the wind-down of the Company's beauty business (net of a $2.2 million
gain in connection with the consummation of this transaction).
On December 16, 1997 the Company announced a restructuring and strategic
plan to reduce expenses and streamline operations. The major strategic
initiatives were aimed at strengthening financial performance by reducing costs,
increasing efficiencies, increasing licensing royalties and focusing on key
business areas. As a result of the restructuring and strategic plan, and the May
28, 1997 plan aimed at containing costs and restructuring certain of its
operations, in fiscal 1997 the Company recognized restructuring charges of $8.6
million, charges of $23.4 million related to the wind-down of the Company's
beauty business, charges of $12.5 million related to the wind-down of the DKNY
JEANS and ACTIVE business and $17.0 million of other charges, primarily
nonrecurring, related to strategic initiatives.
In September 1996, the Company entered into a license (the "DH" license)
with Designer Holdings, Ltd. ("Designer Holdings"), for the exclusive
production, sale and distribution of men's, women's and, with certain
exceptions, children's jeanswear under the DKNY JEANS label. In March 1997, the
DH License was terminated by mutual agreement of the Company and Designer
Holdings. Pursuant to the termination of the agreement, the Company returned to
Designer Holdings a $6.0 million payment and a $1.3 million advance royalty
payment. Additionally, the Company purchased, for $3.2 million, all sales and
marketing plans, patterns, samples, fabrics and other materials developed by
Designer Holdings in connection with the jeanswear business, which amount was
included in selling, general, and administrative expenses in fiscal 1996.
In July 1996, the Company sold 10,750,000 shares of its common stock in the
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 distribution notes and accrued interest thereon
totaling approximately $116.4 million, to repay the 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 the Gabrielle License
which amounted to $4.6 million (which is included in cost of sales). The
remaining $33.2 million was used for other general corporate purposes. The
distribution notes were issued in April 1996 to the principals (and certain of
their affiliates) of the Company, and represented an estimate of the cumulative
undistributed taxable income (on which taxes previously had been paid) of the
Company since its inception through the anticipated closing date of the
Offering.
Upon the consummation of the Offering, the Company entered into the
Gabrielle License with Gabrielle Studio. The Gabrielle License provides that the
Company will pay to Gabrielle Studio an annual royalty equal to 1.75% of the
first $250 million net sales (as defined in the Gabrielle License, which
includes products and store services) for such year, plus 2.5% of the next $500
million of net sales for such year, plus 3% for the next $750 million of net
sales for such year, plus 3.5% of all net sales for such year in excess of $1.5
billion. For purposes of computing the annual royalty, "net sales" includes
sales by the Company, its affiliates, its subsidiaries, and its licensees of
products bearing any of the licensed trademarks or Ms. Karan's name or likeness.
20
<PAGE>
PRO FORMA STATEMENT OF INCOME FOR FISCAL 1996--(UNAUDITED)
The following table sets forth for fiscal 1996: (a) historical statement of
income data; (b) pro forma adjustments to reflect the Offering and certain other
adjustments as if they had occurred on January 1, 1996; and (c) pro forma
statement of income data.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 29, 1996
------------------------------------------------
PRO FORMA
HISTORICAL ADJUSTMENTS PRO FORMA
---------- -------------- ------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C>
Net revenues................................................................... $ 612,840 $612,840
---------- ------------
Gross profit................................................................... 200,776 (7,248)(i) 198,163
4,635(ii)
Selling, general and administrative expenses................................... 187,474 (1,500)(iii) 178,105
(5,347)(iv)
(2,522)(v)
---------- ------------
Operating income............................................................... 13,302 20,058
Equity in earnings of affiliate................................................ 3,089 3,089
Interest (expense) income, net................................................. (6,577) 3,475(vi) 155
837(vii)
2,420(ix)
Interest (expense) on distribution notes....................................... (1,957) 1,957(viii) --
---------- ------------
Income before income taxes..................................................... 7,857 23,302
Provision (benefit) for income taxes........................................... (17,179) 27,898(x) 10,719
---------- ------------
Net income..................................................................... $ 25,036 $ 12,583
---------- ------------
---------- ------------
Pro forma earnings per common share............................................ $ 0.59(xi)
------------
------------
</TABLE>
- ------------------------
(i) Royalties of $7.2 million in 1996, to be paid to a corporation owned by two
of the Company's principal 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 principal stockholders and their affiliated trusts pursuant to a
licensing agreement.
(iii) Decrease in aggregate compensation 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 $3.5 million in 1996, assuming the
application of up to $90.4 million in 1996, (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.
(vii) Reduction of $0.8 million in 1996 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 $27.9 million (including $19.0 million of deferred income tax
assets recognized) in 1996, 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) Pro forma earnings per common 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.
21
<PAGE>
RESULTS OF OPERATIONS
NET REVENUES
Net revenues in fiscal 1998 decreased 2.5% to $622.6 million as compared to
fiscal 1997 and increased 4.2% to $638.7 million for fiscal 1997 as compared to
fiscal 1996. Excluding certain sales of merchandise to LCI in fiscal 1998
relating to the DKNY JEANS license and sales in fiscal 1997 related to the
Company's beauty business, net revenues decreased $24.2 million, or 3.9%, in
fiscal 1998 as compared to fiscal 1997.
In fiscal 1998, net revenues decreased due to a 5.4% decrease in wholesale
revenues, from $539.9 million in fiscal 1997 to $510.9 million in fiscal 1998,
partially offset by an $8.9 million, or 92.2%, increase in licensing revenues
and a $22.8 million, or 32.3%, increase in retail sales. In fiscal 1997, net
revenues increased due to a 28.0% increase in licensing revenues from $7.5
million in fiscal 1996 to $9.6 million in fiscal 1997, a 15.8% increase in
retail revenues from $60.9 million in fiscal 1996 to $70.5 million in fiscal
1997, and a 7.8% increase in wholesale revenues from $500.7 million in fiscal
1996 to $539.9 million in fiscal 1997, partially offset by a 57.3% decrease in
beauty products revenues from $43.8 million in fiscal 1996 to $18.7 million in
fiscal 1997. The decrease in revenues associated with the beauty business is
primarily due to the wind-down of the beauty business as a result of the
Company's grant in fiscal 1997 to ELI of the exclusive worldwide rights to the
DONNA KARAN NEW YORK and DKNY trademarks for the manufacture, marketing,
distribution, and sale of beauty and beauty-related products. See Note 9 in the
notes to financial statements elsewhere herein.
Wholesale revenues in fiscal 1998, exclusive of the Company's beauty
business and certain sales of merchandise to LCI relating to the DKNY JEANS
license, decreased primarily due to a decrease in revenues of the womenswear and
menswear businesses due primarily to a decrease in the women's and men's DKNY
businesses. In fiscal 1997, the increase in wholesale revenues was attributable
to an increase in the revenues of the accessories business due to an increase in
the shoe business, an increase in revenues associated with the menswear business
primarily due to an increase in the DKNY business, and an increase in revenues
of the womenswear business due to an increase in THE DONNA KARAN NEW YORK
collection business, partially offset by a decrease in the DKNY business.
Licensing revenues increased in fiscal 1998 primarily due to royalties from
LCI associated with the DKNY JEANS and ACTIVE license, as well as growth in
sales of certain other new and existing licensed products. In fiscal 1997, the
increase in licensing revenues was primarily due to the inclusion of a full year
of revenues related to the DKNY Kids license in Europe and the Middle East, as
well as growth in sales of other licensed products.
Retail sales in fiscal 1998 increased primarily due to an increase in the
number of outlet stores, a slight increase in comparable store sales, and the
opening of four full-price free-standing retail stores. In fiscal 1997, the
increase in retail sales was attributable to an increase in the number of outlet
stores, partially offset by a 5.4% decrease in comparable store sales.
Net revenues in the United States in fiscal 1998 decreased approximately
1.8% to $422.9 million as compared to fiscal 1997 and increased approximately
0.9% to $415.5 million in fiscal 1997 as compared to fiscal 1996.
Net revenues in Japan in fiscal 1998 decreased 30.4% to $46.5 million as
compared to fiscal 1997 and decreased 10.3% to $66.8 million in fiscal 1997 as
compared to fiscal 1996. In fiscal 1998, the decrease was primarily attributable
to general economic conditions in Japan, and the Company anticipates that it
will continue to be a difficult market. Additionally, the Company anticipates
further decreases in wholesale revenues in Japan, while recording increased
royalties, as a result of its licensing agreement with DKJ. See Note 7 in the
notes to financial statements elsewhere herein. In fiscal 1997, the decrease in
net revenues in Japan was due to reduced sales in the Company's businesses,
primarily its DKNY women's and men's collections. The Company believes the
business was impacted, in part, by general economic conditions in Japan.
22
<PAGE>
Net revenues in other foreign countries decreased 2.0% to $153.2 million in
fiscal 1998 as compared to fiscal 1997 and increased 23.7% to $156.4 million in
fiscal 1997 as compared to fiscal 1996.
GROSS PROFIT
Gross profit in fiscal 1998 was 24.7% of net revenues as compared to 19.0%
of net revenues in fiscal 1997 and 32.8% (32.3% on a pro forma basis) of net
revenues in fiscal 1996. Excluding the impact of the DKNY JEANS sales to LCI in
fiscal 1998 and the effect of beauty business sales in fiscal 1997, gross profit
margin for fiscal 1998 increased to 25.9% as compared to 20.6% in fiscal 1997.
In fiscal 1997, the gross profit was impacted by the wind-down of the Company's
beauty and DKNY JEANS businesses, and other charges, primarily nonrecurring,
related to strategic initiatives. As a result of these transactions, the Company
recorded charges which were included in cost of sales of $11.7 million related
to the beauty business, $9.4 million related to the DKNY JEANS business and $1.6
million related to strategic initiatives. Exclusive of these charges, gross
profit was 23.6% of net revenues for fiscal 1997. The increase, as adjusted for
DKNY JEANS sales, beauty business sales, and other charges, to 25.9% in fiscal
1998 as compared to 23.6% in fiscal 1997, primarily reflects the impact of
greater licensing revenues, shifts in product mix, and lower operating costs
attributable to production efficiencies achieved as a result of the Company's
cost reduction initiatives. The decrease to 23.6% (as adjusted) in fiscal 1997
from 32.3% on a pro forma basis in fiscal 1996, was primarily attributable to
decreased gross profit margins in the Company's wholesale business due to
increased dilution, planned reductions in initial margins, a greater mix of
lower margin off-price products, and an increase in certain manufacturing costs,
combined with lower margins in the Company's retail business due to a strategy
to liquidate prior season's merchandise as a result of a plan to change the
merchandising strategy for the Company's outlet stores.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses decreased to 24.4% of net
revenues in fiscal 1998, as compared with 32.0% and 30.6% (29.1% on a pro forma
basis) of net revenues in fiscal 1997 and fiscal 1996, respectively. The
decrease in fiscal 1998 was primarily attributable to: the absence of charges,
primarily nonrecurring; and lower selling, marketing, advertising and personnel
and related expenses, primarily as a result of the Company's strategic
initiatives, including the licensing of the beauty and DKNY JEANS businesses.
These decreases were partially offset by increased costs associated with the
Company's ongoing licensing efforts. The fiscal 1997 increase was attributable
to charges, primarily nonrecurring, recorded in the amount of $22.7 million, of
which: $15.4 million related to strategic initiatives; $4.2 million related to
the wind-down of the Company's beauty business, net of a gain of approximately
$2.2 million representing the portion of proceeds recognized as income reduced
by the cost of exiting the beauty business; and $3.1 million related to the
wind-down of the Company's DKNY JEANS business. Exclusive of nonrecurring
expenses of $22.7 million in fiscal 1997 and $3.2 million in fiscal 1996
attributable to the purchase of sales and marketing plans, fabrics, patterns,
and other materials in connection with the termination of the DH license,
selling, general and administrative expenses for fiscal 1997 and 1996, would
have been 28.2% and 30.1% (28.5% on a pro forma basis), respectively.
RESTRUCTURING (CREDITS) CHARGES
In fiscal 1998, the Company utilized $5.5 million of the reserves previously
established in connection with its restructuring plan and credited into income
approximately $0.3 million of the restructuring accrual, which was determined to
no longer be required. In fiscal 1997, the Company recorded restructuring
charges in the amount of $8.6 million primarily related to severance costs and
related benefits.
23
<PAGE>
OPERATING INCOME (LOSS)
Operating income (loss) increased $93.6 million to $2.3 million in fiscal
1998 as compared to fiscal 1997 and decreased $104.6 million to ($91.3) million
in fiscal 1997 as compared to fiscal 1996. Exclusive of restructuring and other
charges, primarily nonrecurring, the operating loss would have been ($29.8)
million in fiscal 1997. Operating income (loss) as a percent of net revenues for
fiscal 1998 was 0.4%, as compared to (14.3%) and 2.2%, in fiscal 1997 and 1996,
respectively.
In fiscal 1998, the increase in operating income is attributable to a higher
gross profit, decreased selling, general and administrative expenses, and the
absence of restructuring and other nonrecurring charges. In fiscal 1997, the
decrease in operating income was primarily due to restructuring and other
nonrecurring charges, as well as a lower gross margin in fiscal 1997 as compared
to fiscal 1996.
EQUITY IN (LOSS) EARNINGS OF AFFILIATE
Equity in (loss) earnings of affiliate was approximately ($0.1) million in
fiscal 1998 as compared with $1.4 million and $3.1 million in fiscal 1997 and
fiscal 1996, respectively. In March 1998, the Company sold all of its interests
in Donna Karan Japan to OKC. In fiscal 1998 and 1997, the decreases were due to
a decrease in earnings of the operations of Donna Karan Japan.
INTEREST EXPENSE
Interest expense, net of interest income, decreased 18.5% to $2.1 million in
fiscal 1998 as compared to fiscal 1997 and decreased 61.8% to $2.5 million in
fiscal 1997 from $6.6 million (excluding interest expense on distribution notes)
in fiscal 1996. On a pro forma basis, the Company recorded $0.2 million of
interest income in fiscal 1996. In fiscal 1998, the decrease was primarily
attributable to lower borrowings during the last quarter of fiscal 1998. In
fiscal 1997, the decrease was primarily attributable to the Company having the
benefit for the full year of the proceeds of the Offering. The increase in
interest expense in fiscal 1997 as compared to fiscal 1996, on a pro forma
basis, was primarily due to higher borrowing requirements to fund working
capital, operating losses, other losses, and nonrecurring charges, as well as
for other general corporate purposes.
PROVISION (BENEFIT) FOR INCOME TAXES
The provision (benefit) for income taxes represents federal, foreign, state
and local income taxes. The provision (benefit) for income taxes for fiscal
1998, 1997 and 1996 was $0.1 million, ($11.0) million and ($17.2) million,
respectively. On a pro forma basis, the provision for income taxes was $10.7
million in 1996. In years prior to 1997, the Company had significant taxable
income. However, until July 2, 1996, the date of the Offering, the various
entities were partnerships or corporations that had elected to be taxed as S
corporations pursuant to the Internal Revenue Code, and the taxes were paid by
the partners and the shareholders of the S corporations. Accordingly, tax loss
carrybacks are limited to the period subsequent to July 2, 1996. Therefore,
realization of the future tax benefits related to any deferred tax assets is
dependent primarily on the Company's ability to generate sufficient taxable
income within the net operating loss carryforward period. Due to the inherent
uncertainties in estimating future taxable income, the Company provided for a
valuation allowance of $24.0 million in fiscal 1997.
NET INCOME (LOSS)
Net income was $0.1 million in fiscal 1998, as compared to a net loss of
$81.4 million in fiscal 1997 and net income of $25.0 million ($12.6 million on a
pro forma basis) in fiscal 1996. In fiscal 1998, the improvement in net income
as compared to fiscal 1997 (excluding the restructuring and nonrecurring
24
<PAGE>
charges) was primarily attributable to an increased gross profit and lower
selling, general and administrative expenses. The net loss in fiscal 1997 was
due to the reduced margin in fiscal 1997 compared to fiscal 1996, as well as the
restructuring and nonrecurring charges recorded in fiscal 1997, as described
above.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal sources of funds have historically been, and are
expected to continue to be, cash flow from operations and borrowings under its
revolving credit facility. The Company's principal need for funds is to finance
working capital (principally inventory and receivables), capital expenditures
(including the construction of new shop-in-shops, outlet and full-price
free-standing retail stores), and investments in the start-up of new collections
and the extension of existing collections. At January 3, 1999, the Company had
cash and cash equivalents of $7.4 million compared with $4.5 million at December
28, 1997.
In September 1996, the Company entered into a $150.0 million revolving
credit facility (the "Facility"), which was amended in 1998 and 1997. The
Facility expires on January 30, 2001. The Facility includes a $70.0 million
subfacility for letters of credit and a $30.0 million subfacility for loans in
certain foreign currencies. Borrowings under the Facility bear interest at a
fixed spread over the lead bank's prime rate or, at the option of the Company,
at a fixed spread over the LIBOR and are limited to a borrowing base calculated
on eligible accounts receivable, inventory, and letters of credit, except during
certain periods when the borrowings may exceed the borrowing base by certain
amounts. The Facility is secured by accounts receivable and inventory of the
Company and a pledge of all the equity interests of the subsidiaries of the
Company. The 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 Facility is used for working
capital requirements and general corporate purposes. At January 3, 1999, there
were no amounts outstanding under the current Facility, as compared to $22.3
million for the corresponding prior-year period. The Company also had a $6.7
million note payable to a principal stockholder as of December 28, 1997 which
was repaid by the Company during the first quarter of 1998.
The Company has supplemented its cash flow from operations and bank lines of
credit with proceeds from the Offering and its license and strategic alliances.
In March 1998, the Company received $15.2 million related to a 16-year exclusive
license to import, manufacture, license and/or distribute DONNA KARAN NEW YORK
and DKNY products in Japan, with certain exceptions. In January 1998, the
Company received from LCI $30.0 million related to the granting of rights for
the marketing, distribution, and sale of DKNY JEANS and ACTIVEWEAR apparel
products in the Western Hemisphere. In November 1997, the Company received from
ELI $25.0 million related to the grant of worldwide rights for the
manufacturing, marketing, distribution and sale of beauty and beauty-related
products and the sale of certain assets relating to the existing business. Under
certain circumstances, the Company is obligated to repay to ELI a portion of
these payments plus a penalty amount if certain products are not launched in
accordance with an agreed-upon schedule, as a result of the Company's actions or
lack thereof.
Net cash provided by operating activities in fiscal 1998 was $39.5 million,
as compared to net cash used in operating activities of $54.9 million in fiscal
1997, and net cash provided by operating activities of $2.2 million in fiscal
1996. The fiscal 1998 increase primarily reflects the Company's increased
earnings, the recording of deferred revenues associated with the Company's
recent licensing agreements, lower inventory levels, a decrease in deferred
income taxes, partially offset by a decrease in accounts payable, accrued
expenses, and other current liabilities, an increase in accounts receivable and
prepaid expenses and other current assets, and a lesser increase in deposits and
other noncurrent assets. For fiscal 1997, the decrease primarily related to
reduced earnings (due in part to the recording of restructuring and other
charges) and a lesser increase in accounts payable, accrued expenses, and other
current liabilities, partially offset by lower deferred taxes, accounts
receivable, prepaid expenses and other current assets, and a lesser increase
25
<PAGE>
in deposits and other noncurrent assets. Net cash used for investing activities
in fiscal 1998 was $7.5 million, as compared to $9.8 million in fiscal 1997 and
$16.3 million in fiscal 1996. Net cash used for investing activities primarily
reflects the purchase of property and equipment, as well as leasehold
improvements during the year. Net cash used for financing activities of $29.1
million in fiscal 1998 primarily relates to the repayment of amounts outstanding
under the Company's Facility and the repayment of a note payable to a principal
stockholder. Net cash provided by financing activities of $28.7 million and
$42.5 million in fiscal 1997 and 1996, respectively, primarily reflects
borrowings and proceeds from the issuance of common stock, net of payments of
distribution notes, payments of long-term debt, and distributions to partners.
Capital expenditures amounted to $8.2 million, $9.8 million and $16.3
million in fiscal 1998, 1997 and 1996, respectively. Spending for all three
periods primarily reflects expenditures for equipment, machinery, computers,
office furniture, leasehold improvements, and outlet stores, and in fiscal 1998
reflects spending for full-price free-standing retail stores. As of January 3,
1999, the Company had outstanding commitments for capital expenditures of
approximately $9.7 million.
The Company uses derivative financial instruments for the purpose of
managing its exposure to adverse fluctuations in foreign currency exchange
rates. The Company does not utilize derivative financial instruments for trading
or other speculative purposes. The Company conducts business in many foreign
currencies. As a result, it is subject to foreign currency exchange rate risk
due to the effects that foreign exchange rate movements of these currencies,
principally the Italian lire, Spanish peseta, Dutch guilder, and Thai baht, have
on the Company's costs and cash flows. The Company addresses its risks through a
program of risk management, the principal objective of which is to minimize the
effect of foreign exchange rate movements on the Company's operating activities.
The Company enters into forward exchange contracts to hedge inventory
purchases, accounts receivable and accounts payable denominated in foreign
currencies for periods consistent with its identified exposures. Gains and
losses related to qualifying hedges of these exposures are deferred and
recognized in operating income when the underlying hedged transaction occurs.
The Company from time to time also enters into purchased foreign currency
options to hedge anticipated transactions where there is a high probability that
anticipated exposures will materialize. Any gains realized on such options that
qualify as hedges are deferred and recognized in operating income when the
underlying hedged transaction occurs. Premiums on foreign currency options are
amortized over the period being hedged. Foreign currency transactions that do
not qualify as hedges are marked-to-market on a current basis with gains and
losses recognized through income and reflected in operating expenses. In
addition, any previously deferred gains and losses on hedges that are terminated
prior to the transaction date are recognized in current income when the hedge is
terminated. The contracts have varying maturities with none exceeding 18 months.
As a matter of policy, the Company enters into contracts with parties who
are major international banks and financial institutions that have at least an
"A" (or equivalent) credit rating. The Company's exposure to credit loss in the
event of nonperformance by any of the counterparties is limited to only the
recognized, but not realized, gains attributable to the contracts. Management
believes risk of loss is remote, and in any event, would be immaterial. Costs
associated with entering into such contracts have not been material to the
Company's financial results. At January 3, 1999, the Company had contracts to
exchange foreign currencies in the form of forward exchange contracts in the
amount of $71.6 million.
The Company extends credit to its customers, including those who have
accounted for significant portions of the Company's gross revenues. Accordingly,
the Company may have significant exposure for accounts receivable from its
customers, or group of customers under common ownership. The Company has credit
policies and procedures which it uses to manage its credit risk. To further
manage its credit risk, the Company insures its accounts receivable under credit
risk insurance policies, subject to certain limitations.
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 its
26
<PAGE>
Facility and, from time to time, amounts received in connection with strategic
transactions, including licensing arrangements. Events that may impact this
include, but are not limited to, future events that may have the effect of
reducing available cash balances (such as unexpected operating losses or
increased capital or other expenditures), as well as future circumstances that
might reduce or eliminate the availability of external financing.
DERIVATIVE FINANCIAL INSTRUMENTS
The Company conducts business in many foreign currencies. As a result, it is
subject to foreign currency exchange rate risk due to the effects that foreign
exchange rate movements of these currencies have on the Company's costs and on
the cash flows which it receives from its foreign subsidiaries. The Company
believes that currently it has no other material market risk exposures. The
Company addresses its risks through a controlled program of risk management that
includes the use of derivative financial instruments. The Company primarily
enters into foreign currency forward exchange contracts to reduce the effects of
fluctuating foreign currency exchange rates, and accordingly categorizes these
instruments as entered into for purposes other than trading. See Note 4 in the
notes to financial statements elsewhere herein.
The Company uses a value-at-risk model to assess the market risk of its
derivative financial instruments. Value-at-risk represents the potential losses
for an instrument or portfolio from adverse changes in market factors, for a
specified time period and confidence level. The Company estimates value-at-risk
across all of its derivative financial instruments using a model with historical
volatilities and correlations calculated over the past 250-day period. At
January 3, 1999, the Company's measured value-at-risk from holding such
derivative instruments was immaterial, using a variance/co-variance model with a
95 percent confidence level and assuming normal market conditions.
The Company's calculated value-at-risk exposure represents an estimate of
reasonably possible net losses that would be recognized on its portfolio of
derivative financial instruments assuming hypothetical movements in future
market rates and is not necessarily indicative of actual results which may or
may not occur. It does not represent the maximum possible loss nor any expected
loss that may occur, since actual future gains and losses will differ from those
estimated, based upon actual fluctuations in market rates, operating exposures
and the timing thereof, and changes in the Company's portfolio of derivative
financial instruments during the year.
The Company believes however, that any loss incurred would be offset by the
effects of currency movements on the respective underlying transaction for which
the hedge is intended.
OUTLOOK
The Company continues to invest in additional full-price free-standing
retail stores, expand its licensing activities, implement its strategic plan,
and respond to external market conditions and, as a result, selling, general and
administrative expenses are expected to increase as a percent of net revenues in
fiscal 1999 and thereafter.
In fiscal 1998 and fiscal 1997, wholesale net revenues from sales to the
Asian region represented approximately 11.7% and 18.2%, respectively, of the
Company's total wholesale net revenues, including approximately 8.9% and 11.9%
to Japan, respectively, and approximately 2.7% and 6.3%, respectively, to other
areas in Asia. The Company has continued to experience a declining sales trend
in sales to the Asian region in fiscal 1998 as compared to fiscal 1997, which
the Company believes was due, in part, to the general economic conditions in
Asia and currency fluctuations. The Company anticipates that the region will
continue to be a difficult market for the Company's businesses.
27
<PAGE>
SEASONALITY OF BUSINESS
The Company's business varies with general seasonal trends that are
characteristic of the apparel industry, and it generally experiences lower net
revenues and net income (or higher net losses) 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 revolving credit facility,
historically, have been lower on or about its fiscal year end. On a quarterly
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. The Company historically has experienced lower net
revenues and operating income 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. As the Company's business continues to
evolve, the Company's operating performance may not reflect the typical
seasonality of the apparel industry.
YEAR 2000
The efficient operation of the Company's business is dependent in part on
its computer software programs and operating systems (collectively, "Programs
and Systems"). These Programs and Systems are used in several key areas of the
Company's business, including purchasing, inventory management, pricing, sales,
shipping, and financial reporting, as well as in various administrative
functions. The Company is in the process of addressing the Year 2000 issue, and
as a result of this process, the Company has identified three phases of its Year
2000 project: i) inventory, ii) assessment, and iii) remediation and testing. As
of January 3, 1999, the Company has completed its inventory and assessment of
substantially all internal computer systems and application software, and plans
for establishing compliance have been developed. These plans include, among
other things: which non-compliant hardware and software will be remediated,
upgraded, or replaced, the timetable and resources (both internal and external)
required to achieve those objectives, and the estimated costs. The Company
currently expects to complete remediation and testing of its internal systems
during the summer of 1999.
The Company has identified those items which may require remediation.
Additionally, the Company has initiated formal communications with its
significant vendors, customers, and financial institutions to determine their
Year 2000 state of readiness and the extent to which the failure of any of those
systems may otherwise impact the Company's operations. This communication and
evaluation process is ongoing.
Based upon current information, the Company estimates that the costs of
addressing the Year 2000 issue have not been material and are expected to
continue to be immaterial. Although the Company is not currently aware of any
material operational issues or costs associated with preparing its internal
systems for the Year 2000, there can be no assurance that there will not be a
delay in, or increased costs associated with, the implementation of the
necessary systems and changes to address the Year 2000 issues.
The Company currently believes that it is difficult to identify its most
reasonably likely worst case Year 2000 scenario. However, a reasonable worst
case scenario would be the result of failures of third parties that would
continue for more than several days in various geographic areas in which the
Company's products are produced and sold. Continuing failures in these areas
which could affect the manufacture of Company products or limit the consumers'
ability to purchase the Company's products, would most likely have a material
adverse effect on the Company's results of operations. The extent of such impact
cannot be reasonably estimated at this time. The Company is currently evaluating
its alternatives with respect to contingency plans to limit, to the extent
possible, the effect of Year 2000 issues on the Company's results of operations.
Any such plans would necessarily be limited to situations over which the Company
can be reasonably expected to control.
The cost of the project and the date on which the Company believes it will
complete the Year 2000 modifications are based on management's estimates. The
Company currently believes that the Year 2000 issue will not pose significant
operational problems for its computer systems. However, if the required
28
<PAGE>
modifications and conversions are not made, or are not completed on a timely
basis, or the systems from third parties (i.e. suppliers, customers, and
financial institutions) with whom the Company relies on directly, or indirectly,
to be Year 2000 compliant, are not operational, the Year 2000 could have a
material adverse effect on the Company's future results of operations.
EURO CONVERSION
As part of the European Economic and Monetary Union (EMU), a single currency
(the "Euro") will replace the national currencies of most of the European
countries in which the Company conducts business. The conversion rates between
the Euro and the participating countries' national currencies were fixed
irrevocably as of January 1, 1999, with the participating national currencies
being removed from circulation between January 1 and June 30, 2002 and replaced
by Euro notes and coinage. During the "transition period" from January 1, 1999
through December 31, 2001, public and private entities as well as individuals
may pay for goods and services using either checks, drafts, or wire transfers
denominated in Euro or the participating country's national currency.
Under the regulations governing the transition to a single currency, there
is a "no compulsion, no prohibition" rule which states that no one is obliged to
use the Euro until the notes and coinage have been introduced on January 1,
2002. The Company is studying the impact of the Euro on its business and
believes it will be able to conduct transactions in the Euro by January 1, 2002.
Full conversion of operations to the Euro is expected to be completed by the
time national currencies are removed from circulation. The anticipated cost
related to software and business process conversion to the Euro is currently not
expected to be material.
ACCOUNTING STANDARDS
In April 1998, the Accounting Standards Executive Committee issued Statement
of Position ("SOP") No. 98-5 "Reporting on the Costs of Start-up Activities."
This statement establishes accounting standards for the costs of start-up
activities, and requires that all such costs be expensed as incurred. SOP No.
98-5 is effective for financial statements for fiscal years beginning after
December 15, 1998. The Company is currently evaluating the impact SOP No. 98-5
will have on its financial statements.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("SFAS") No. 133 "Accounting for Derivative
Instruments and Hedging Activities." This statement establishes accounting and
reporting standards for derivative financial instruments. SFAS No. 133 is
effective after June 15, 1999 and requires the recognition of all derivative
instruments as either assets or liabilities in the statement of financial
position and to measure those instruments at fair value. The Company has not yet
determined the effects, of adopting SFAS No. 133, will have on its financial
position or the results of its operations.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Information required by this item is set forth in Item 7 under the heading
"Derivative Financial Instruments" and in Note 4 to the Company's financial
statements included in this Annual Report on Form 10-K and is incorporated
herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See "Index to Financial Statements" for a listing of the financial
statements and supplementary data filed with this report.
29
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information with respect to Executive officers of the Company is set forth
in Part I of this Annual Report on Form 10-K.
Information with respect to Directors of the Company which is called for by
this Item 10 is incorporated by reference to the information set forth under the
heading "Election of Directors" in the Company's Proxy Statement relating to its
1999 Annual Meeting of Stockholders to be filed pursuant to Regulation 14A (the
"Company's 1999 Proxy Statement").
ITEM 11. EXECUTIVE COMPENSATION
Information called for by this Item 11 is incorporated by reference to the
information set forth under the heading "Executive Compensation" in the
Company's 1999 Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information called for by this Item 12 is incorporated by reference to the
information set forth under the headings "Security Ownership of Certain
Beneficial Owners" and "Security Ownership of Management" in the Company's 1999
Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS
Information called for by this Item 13 is incorporated by reference to the
information set forth under the headings "Election of Directors," "Employment
Arrangements," and "Certain Relationships and Related Transactions" in the
Company's 1999 Proxy Statement.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this report:
1. Financial Statements-See "Index to Financial Statements"
2. Financial Statement Schedule-Schedule II Valuation and Qualifying
Accounts and Reserves
All other schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under the
related instructions or are inapplicable and therefore have been omitted.
3. Exhibits--see "Exhibit Index"
(b) The Company filed no reports on Form 8-K during the last quarter of the
period covered by this report.
30
<PAGE>
DONNA KARAN INTERNATIONAL INC.
INDEX TO FINANCIAL STATEMENTS
YEARS ENDED JANUARY 3, 1999, DECEMBER 28, 1997 AND DECEMBER 29, 1996
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Report of Independent Auditors............................................................................. F-2
Statements of Operations for the years ended January 3, 1999, December 28, 1997 and December 29, 1996...... F-3
Balance Sheets as of January 3, 1999 and December 28, 1997................................................. F-4
Statements of Stockholders' Equity and Partners' Capital for the years ended January 3, 1999, December 28,
1997 and December 29, 1996............................................................................... F-5
Statements of Cash Flows for the years ended January 3, 1999, December 28, 1997 and December 29, 1996...... F-6
Notes to Financial Statements.............................................................................. F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
The Board of Directors of
Donna Karan International Inc.
We have audited the consolidated balance sheets of Donna Karan International
Inc. and subsidiaries (the "Company") as of January 3, 1999 and December 28,
1997, and the related consolidated statements of operations, stockholders'
equity and cash flows for the years then ended. We have also audited the
combined balance sheet of The Donna Karan Company and affiliates as of December
29, 1996, and the related combined statements of operations, stockholders'
equity and partners' capital and cash flows for the year then ended. Our audits
also included the financial statement schedule listed in the Index at Item
14(a). These financial statements and schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Donna Karan
International Inc. as of January 3, 1999 and December 28, 1997, and the
consolidated results of their operations and their cash flows for the years then
ended and the combined results of operations and cash flows of The Donna Karan
Company and affiliates for the year ended December 29, 1996 in conformity with
generally accepted accounting principles. Also, in our opinion, the related
financial statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly in all material respects the
information set forth therein.
ERNST & YOUNG LLP
New York, New York
March 24, 1999
F-2
<PAGE>
DONNA KARAN INTERNATIONAL INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED
----------------------------------------
JANUARY 3, DECEMBER 28, DECEMBER 29,
1999 1997 1996
------------ ------------ ------------
(IN THOUSANDS, EXCEPT SHARE DATA)
<S> <C> <C> <C>
NET REVENUES........................................................... $ 622,646 $ 638,725 $ 612,840
Cost of sales.......................................................... 468,559 517,318 412,064
------------ ------------ ------------
GROSS PROFIT........................................................... 154,087 121,407 200,776
Selling, general, and administrative expenses.......................... 152,089 204,088 187,474
Restructuring (credits) charges........................................ (267) 8,635 --
------------ ------------ ------------
OPERATING INCOME (LOSS)................................................ 2,265 (91,316) 13,302
Other income (expense):
Equity in (loss) earnings of affiliate............................... (65) 1,435 3,089
Interest income...................................................... 599 560 548
Interest expense..................................................... (2,649) (3,075) (7,125)
Interest expense on distribution notes............................... -- -- (1,957)
Gain on sale of interests in affiliates.............................. 88 -- --
------------ ------------ ------------
INCOME (LOSS) BEFORE INCOME TAXES...................................... 238 (92,396) 7,857
Provision (benefit) for income taxes................................... 110 (11,034) (17,179)
------------ ------------ ------------
NET INCOME (LOSS) ATTRIBUTABLE TO COMMON STOCK......................... $ 128 $ (81,362) $ 25,036
------------ ------------ ------------
------------ ------------ ------------
Net income (loss) per common share (Note 1):
Basic................................................................ $ .01 $ (3.78) --
Diluted.............................................................. $ .01 $ (3.78) --
Weighted average common shares outstanding (Note 1):
Basic................................................................ 21,598,264 21,512,050 --
Diluted.............................................................. 21,631,664 21,512,050 --
Pro forma--unaudited
Historical income before income taxes.................................. $ 7,857
Pro forma adjustments other than income taxes.......................... 1,436
------------
Pro forma income before income taxes................................... 6,421
Pro forma provision for income taxes................................... 3,537
------------
Pro forma net income................................................... $ 2,884
------------
------------
Pro forma net income per share......................................... $ 0.02
------------
------------
Pro forma weighted average common shares outstanding................... 18,742,533
------------
------------
</TABLE>
See notes to financial statements
F-3
<PAGE>
DONNA KARAN INTERNATIONAL INC.
BALANCE SHEETS
<TABLE>
<CAPTION>
JANUARY 3, DECEMBER 28,
1999 1997
---------- ------------
(IN THOUSANDS)
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents............................................................ $ 7,448 $ 4,537
Accounts receivable, net of allowances of $29,872 and $52,035 respectively........... 70,977 68,138
Inventories.......................................................................... 89,825 112,366
Deferred income taxes................................................................ 24,688 33,474
Prepaid expenses and other current assets............................................ 18,860 12,248
---------- ------------
TOTAL CURRENT ASSETS............................................................... 211,798 230,763
Property and equipment, at cost--net................................................... 33,675 31,005
Deferred income taxes.................................................................. 17,052 7,278
Deposits and other noncurrent assets................................................... 16,204 18,442
---------- ------------
$ 278,729 $ 287,488
---------- ------------
---------- ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable..................................................................... $ 59,266 $ 61,013
Accrued expenses and other current liabilities....................................... 60,864 60,747
Note payable to principal stockholder................................................ -- 6,700
Borrowing under revolving line of credit............................................. -- 22,314
---------- ------------
TOTAL CURRENT LIABILITIES.......................................................... 120,130 150,774
Deferred income........................................................................ 36,495 14,250
Commitments and contingencies
STOCKHOLDERS' EQUITY
Common stock, $0.01 par value, 35,000,000 shares authorized, 21,599,264 shares at
January 3, 1999, and 21,597,764 shares at December 28, 1997 issued and
outstanding........................................................................ 216 216
Common stock class A, $0.01 par value, 18 shares authorized, issued and
outstanding........................................................................ -- --
Common stock, class B, $0.01 par value, 2 shares authorized, issued and
outstanding........................................................................ -- --
Preferred stock, $0.01 par value, 1,000,000 shares authorized, no shares issued and
outstanding........................................................................ -- --
Additional paid-in capital........................................................... 188,479 188,491
Retained deficit..................................................................... (63,747) (63,875)
Accumulated other comprehensive income............................................... (1,206) (455)
---------- ------------
123,742 124,377
Less: Treasury stock, at cost (18,770 shares and 20,270 shares, respectively)........ (443) (479)
Unearned compensation............................................................ (1,195) (1,434)
---------- ------------
Total stockholders' equity......................................................... 122,104 122,464
---------- ------------
$ 278,729 $ 287,488
---------- ------------
---------- ------------
</TABLE>
See notes to financial statements
F-4
<PAGE>
DONNA KARAN INTERNATIONAL INC.
STATEMENTS OF STOCKHOLDERS' EQUITY AND PARTNERS' CAPITAL
<TABLE>
<CAPTION>
JANUARY 3, DECEMBER 28, DECEMBER 29,
1999 1997 1996
---------- ------------ ------------
<S> <C> <C> <C>
(IN THOUSANDS)
Common stock, beginning of year......................................... $ 216 $ 215 $ --
Reorganization.......................................................... -- -- 106
Issuance of common stock................................................ -- -- 108
Stock bonus award....................................................... -- -- 1
Stock award............................................................. -- 1 --
---------- ------------ ------------
Common stock, end of year (1)........................................... 216 216 215
---------- ------------ ------------
Paid-in capital, beginning of year...................................... 188,491 186,899 --
Reorganization.......................................................... -- -- (51,534)
Issuance of common stock................................................ -- -- 235,912
Stock bonus award....................................................... -- -- 2,521
Stock award............................................................. (12) 1,592 --
---------- ------------ ------------
Paid-in capital, end of year (1)........................................ 188,479 188,491 186,899
---------- ------------ ------------
Retained earnings (deficit) and partners' capital,
beginning of year..................................................... (63,875) 17,487 79,748
Reorganization.......................................................... -- -- 52,574
Payment of distribution notes........................................... -- -- (114,484)
Distribution to partners................................................ -- -- (25,387)
Net income (loss) (2)................................................... 128 (81,362) 25,036
---------- ------------ ------------
Retained earnings (deficit), end of year (1)............................ (63,747) (63,875) 17,487
---------- ------------ ------------
Treasury stock, beginning of year....................................... (479) (479) (479)
Stock award............................................................. 36 -- --
---------- ------------ ------------
Treasury stock, end of year (1)......................................... (443) (479) (479)
---------- ------------ ------------
Unearned compensation, beginning of year................................ (1,434) -- --
Stock award............................................................. 239 (1,434) --
---------- ------------ ------------
Unearned compensation, end of year (1).................................. (1,195) (1,434) --
---------- ------------ ------------
Accumulated other comprehensive income, beginning of year............... (455) (331) (48)
Foreign currency translation, adjustments (2)........................... (751) (124) (283)
---------- ------------ ------------
Accumulated other comprehensive income, end of year(1).................. (1,206) (455) (331)
---------- ------------ ------------
Comprehensive (loss) income............................................. $ (623) $ (81,486) $ 24,753
---------- ------------ ------------
---------- ------------ ------------
TOTAL STOCKHOLDERS' EQUITY.............................................. $ 122,104 $ 122,464 $ 203,791
---------- ------------ ------------
---------- ------------ ------------
</TABLE>
- ------------------------
(1) Total stockholders' equity is comprised of these items.
(2) Comprehensive (loss) income is comprised of these items.
See notes to financial statements
F-5
<PAGE>
DONNA KARAN INTERNATIONAL INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED
---------------------------------------
JANUARY 3, DECEMBER 28, DECEMBER 29,
1999 1997 1996
----------- ------------ ------------
(IN THOUSANDS)
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income (loss)...................................................... $ 128 $ (81,362) $ 25,036
Adjustments to reconcile net income (loss) to net cash provided by
(used in) operating activities, as adjusted for effect of sale of
interests in Donna Karan Japan:
Depreciation and amortization...................................... 11,169 13,115 11,309
Amortization of deferred income.................................... (7,956) -- --
Provision for bad debts............................................ 1,544 843 62
Equity in (loss) earnings of affiliate............................. 65 1,244 (1,734)
Deferred taxes..................................................... (989) (9,439) (29,631)
Stock award grant.................................................. -- -- 2,522
Provision for restricted stock compensation........................ 239 159 --
Gain on sale of affiliate.......................................... (88) -- --
Write-off of property, plant and equipment......................... -- 3,301 --
Restructuring (credits) charges.................................... (267) -- --
Treasury stock used for restricted stock grants.................... 24 -- --
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable......................... (4,383) 4,789 (11,601)
Decrease (increase) in inventories................................. 22,541 (11,686) (15,308)
(Increase) decrease in prepaid expenses and other current assets... (6,790) 2,218 (5,822)
Increase in deposits and other noncurrent assets................... (3,508) (6,368) (10,619)
(Decrease) increase in accounts payable, accrued expenses, and
other current liabilities........................................ (8,616) 28,264 37,995
Increase in deferred income........................................ 36,360 -- --
----------- ------------ ------------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES................ 39,473 (54,922) 2,209
----------- ------------ ------------
INVESTING ACTIVITIES
Proceeds from sale of affiliate........................................ 646 -- --
Purchase of property and equipment..................................... (8,158) (9,823) (16,262)
----------- ------------ ------------
NET CASH (USED IN) INVESTING ACTIVITIES............................ (7,512) (9,823) (16,262)
----------- ------------ ------------
FINANCING ACTIVITIES
Net (repayment) proceeds of revolving credit facility.................. (22,314) 22,314 (7,961)
(Repayment) proceeds of note payable to principal...................... (6,700) 6,700 --
Payments under capital lease........................................... (36) (282) (259)
Payments of long-term debt............................................. -- -- (45,000)
Payments of distribution notes......................................... -- -- (114,484)
Issuance of common stock............................................... -- -- 236,020
Purchase of treasury stock............................................. -- -- (479)
Distributions to partners.............................................. -- -- (25,387)
----------- ------------ ------------
NET CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES................ (29,050) 28,732 42,450
----------- ------------ ------------
NET INCREASE (DECREASE) IN CASH.......................................... 2,911 (36,013) 28,397
CASH AT BEGINNING OF YEAR................................................ 4,537 40,550 12,153
----------- ------------ ------------
CASH AT END OF YEAR...................................................... $ 7,448 $ 4,537 $ 40,550
----------- ------------ ------------
----------- ------------ ------------
</TABLE>
See notes to financial statements
F-6
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS
NOTE 1.--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The accompanying financial statements include the accounts of Donna Karan
International Inc. and subsidiaries ("DKI" or the "Company"). In July 1996, in
connection with the Company's initial public offering (the "Offering"), the
former principals of the Predecessor Company (as hereinafter defined) and
certain of their affiliates simultaneously contributed to DKI all of the
outstanding stock and partnership interests in the Predecessor Company, in
exchange for common stock of DKI (the "Reorganization"). The accompanying
financial statements include the results of operations of DKI for the fiscal
year ended January 3, 1999, and December 28, 1997, and for the period from July
3, 1996 through December 29, 1996, of DKI, as well as all entities that were
included in the Predecessor Company, except for Takihyo Fashion Company, L.P.,
Takihyo 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. 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 ("DKJ") are intermediate
United States holding companies. All significant intercompany balances and
transactions have been eliminated. The equity method of accounting was used for
DKJ since the date the Company sold 70% of it's interest to a nonaffiliated
party and until March 1998, when the Company and such nonaffiliated party sold
all of their remaining outstanding shares to a subsidiary of Onward Kashiyama
Co. Ltd., a Japanese public company (see Note 7).
For the period from January 1, 1996 to July 2, 1996, the accompanying
financial statements include the results of operations 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 were 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 were affiliated United
States corporations; Donna Karan Canada Inc., Donna Karan (H.K.) Limited, Donna
Karan Italy, S.R.L., and Donna Karan Italy Shoe Company, S.R.L., which were
foreign corporations (together, the "Predecessor Company").
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.
The Company's fiscal year consists of the 52- or 53-week period ending on
the Sunday nearest December 31, with fiscal 1998 consisting of a 53-week year
and fiscal 1997 and fiscal 1996 consisting of a 52-week year.
Certain amounts in the financial statements of prior years have been
reclassified to conform to the current year presentation for comparative
purposes.
F-7
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1.--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
STATEMENT OF OPERATIONS PRESENTATION
The statement of operations of the Company for fiscal 1996 reflects the
results of operations of the Predecessor Company for the period from January 1,
1996 through July 2, 1996 and the results of operations of the Company from July
3, 1996 (the date of the consummation of the Offering) through December 29,
1996.
Selected statement of income data for fiscal 1996 are as follows (the date
of the Offering has been deemed to be July 1, 1996):
<TABLE>
<CAPTION>
JANUARY 1, JULY 1, YEAR ENDED
TO TO DECEMBER 29,
JUNE 30, DECEMBER 29, 1996
1996 1996 CONSOLIDATED
----------- -------------- --------------
(IN THOUSANDS)
<S> <C> <C> <C>
Net revenues.................... $ 277,226 $ 335,614 $ 612,840
----------- -------------- --------------
Gross profit.................... $ 90,006 $ 110,770 $ 200,776
----------- -------------- --------------
Operating income................ $ 12,563 $ 739 $ 13,302
Other expense, net.............. (4,569) (876) (5,445)
----------- -------------- --------------
Income (loss) before income
taxes......................... 7,994 (137) 7,857
Provision (benefit) for income
taxes......................... 445 (17,624) (17,179)
----------- -------------- --------------
Net income...................... $ 7,549 $ 17,487 $ 25,036
----------- -------------- --------------
----------- -------------- --------------
</TABLE>
PRO FORMA ADJUSTMENTS (UNAUDITED)
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 January 1, 1996. These adjustments are: (i) increased royalty
expense to be paid to a corporation owned by two of the Company's principal
stockholders and their affiliated trusts pursuant to a licensing agreement of
$7.2 million, (ii) reduced levels of compensation for two of the Company's
executives pursuant to their employment agreements of $1.5 million, (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 of $3.5 million, (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 of $0.8
million, and (v) increase in income taxes of $20.7 million, as if the Company
had been subject to Federal and additional state income taxes for the entire
period (see Note 14).
PRO FORMA NET INCOME PER COMMON SHARE
Pro forma net income per common share for fiscal 1996 is based on the
weighted average of 10,612,934 shares of common stock outstanding prior to the
Offering increased by (a) the sale of 8,578,825 shares of common stock as a
result of the Offering and (b) 105,100 shares of common stock which the Company
awarded to certain employees pursuant to the Company's 1996 Stock Incentive Plan
for the period prior to the Offering, and 21,468,034 shares for the period
subsequent to the Offering. The net income used in the calculation of pro forma
per share information excludes the reduction of interest costs of $3.5 million,
the reduction in amortization of deferred financing costs of $0.8 million, and
the related tax
F-8
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1.--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
effect of $1.8 million. In fiscal 1996, basic and diluted pro forma earnings per
share amounts are the same, since there was no dilutive effect of options
outstanding.
Supplementary pro forma earnings per share for fiscal 1996 was $0.14.
Supplemental pro forma net income per share for fiscal 1996 is based on the
weighted average of 10,612,934 shares of common stock outstanding prior to the
Offering increased by (a) the sale of 8,578,825 shares of common stock as a
result of the Offering and (b) 105,100 shares of common stock which the Company
awarded to certain employees pursuant to the Company's 1996 Stock Incentive Plan
for the period prior to the Offering, and 21,468,034 shares for the period
subsequent to the Offering.
NET INCOME (LOSS) PER COMMON SHARE
In December 1997, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 128, "Earnings per Share." In accordance with the
requirements of SFAS No. 128, net income (loss) per common share amounts ("basic
EPS") were computed by dividing net income (loss), by the weighted average
number of common shares outstanding and contingently issuable shares (which
satisfy certain conditions) and excluded any potential dilution. Net income
(loss) per common share amounts assuming dilution ("diluted EPS") were computed
by reflecting potential dilution from the exercise of stock options. SFAS No.
128 requires the presentation of both basic EPS and diluted EPS on the face of
the statements of operations. Income (loss) per share amounts for the same
prior-year periods have been restated to conform with the provisions of SFAS No.
128.
Reconciliation between the numerators and denominators of the basic and
diluted EPS computations is as follows:
<TABLE>
<CAPTION>
JANUARY 3, DECEMBER 28,
1999 1997
---------- ------------
(IN THOUSANDS, EXCEPT
SHARE DATA)
<S> <C> <C>
NUMERATOR:
Net income (loss) attributable to common stock...................................................... $ 128 $ (81,362)
---------- ------------
---------- ------------
DENOMINATOR:
Weighted average common shares outstanding--
Basic............................................................................................. 21,598,264 21,512,050
Effect of dilutive securities: stock options........................................................ 33,400 --
---------- ------------
Weighted average common shares outstanding--
Diluted........................................................................................... 21,631,664 21,512,050
---------- ------------
Basic EPS........................................................................................... $ 0.01 $ (3.78)
---------- ------------
---------- ------------
Diluted EPS......................................................................................... $ 0.01 $ (3.78)
---------- ------------
---------- ------------
</TABLE>
Options to purchase 1,741,500 shares of common stock at various prices
outstanding during 1997 were not included in the calculation of earnings per
share because the effect would have been antidilutive.
F-9
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1.--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INVENTORIES
Inventory only includes those items considered saleable or usable in future
periods, and is stated at the lower of cost or market, with cost being
determined on the first-in, first-out method.
<TABLE>
<CAPTION>
JANUARY 3, DECEMBER 28,
1999 1997
---------- ------------
(IN THOUSANDS)
<S> <C> <C>
Raw materials....................................................................................... $ 6,588 $ 10,306
Work in process..................................................................................... 4,654 11,316
Finished goods...................................................................................... 78,583 90,744
---------- ------------
$89,825 $112,366
---------- ------------
---------- ------------
</TABLE>
PROPERTY AND EQUIPMENT
Property and equipment are carried at cost less accumulated depreciation.
For financial statement purposes depreciation of machinery, equipment and
fixtures, including amounts accounted for under capital leases, is computed
using straight-line and accelerated methods based on their estimated useful
lives, which range from 5 to 7 years. Leasehold improvements are amortized on a
straight-line basis over the lease term, which in certain instances include the
anticipated renewal period. The Company's share of the cost of constructing
in-store shop displays is capitalized and amortized using the straight-line
method over their estimated useful lives of 4 years. The Company's share of the
cost of constructing full-price free-standing retail stores under license
agreements is capitalized and amortized on a straight-line basis over their
estimated useful lives of 8 years. At January 3, 1999 and December 28, 1997, the
unamortized balance of these costs of $12.8 million and $11.5 million,
respectively, was included in "Deposits and other noncurrent assets" in the
accompanying balance sheets. Amortization expense of these costs for fiscal
1998, 1997 and 1996 amounted to approximately $4.4 million, $4.2 million and
$1.4 million, respectively. Major additions and betterments are capitalized and
repairs and maintenance are charged to operations in the period incurred.
Major classes of property and equipment consist of the following:
<TABLE>
<CAPTION>
JANUARY 3, DECEMBER 28,
1999 1997
---------- ------------
(IN THOUSANDS)
<S> <C> <C>
Machinery, equipment and fixtures................................................................... $25,443 $20,314
Property and equipment under capital leases......................................................... -- 1,207
Leasehold improvements.............................................................................. 44,924 40,688
---------- ------------
70,367 62,209
Less accumulated depreciation and amortization...................................................... (36,692) (31,204)
---------- ------------
$33,675 $31,005
---------- ------------
---------- ------------
</TABLE>
Depreciation and amortization of property and equipment amounted to $5.5
million, $7.9 million, and $6.4 million for fiscal 1998, 1997, and 1996,
respectively.
F-10
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1.--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
REVENUE RECOGNITION
Revenues from merchandise sales are recognized upon shipment of products to
the customer or, in the case of sales by Company-owned stores, when payment is
received. The Company reports its sales on a net basis, which is computed by
deducting from gross sales the amount of actual returns and the amount of
estimated returns established at the time of sales, for anticipated returns.
Income from licensing agreements is recognized when earned and is included in
net revenues.
ADVERTISING AND PROMOTION
Costs associated with the production of advertising are expensed upon the
first showing of the related advertisement, which is generally less than six
months after the production costs are incurred. At January 3, 1999 and December
28, 1997, advertising costs totaling $2.6 million and $0.9 million,
respectively, were included in "Prepaid expenses and other current assets" in
the accompanying balance sheets. Advertising, marketing, and public relations
expenses, including costs related to the Company's Creative Services Department,
for fiscal 1998, 1997 and 1996 were $36.2 million, $53.0 million and $53.2
million, respectively. Advertising, marketing, and public relations expenses,
including costs related to the Company's Creative Services Department, exclusive
of the beauty business, were $41.6 million and $38.3 million, for fiscal 1997
and 1996, respectively.
COMPREHENSIVE (LOSS) INCOME
In fiscal 1998, the Company adopted the provisions of SFAS No. 130,
"Reporting Comprehensive Income." SFAS No.130 establishes standards for the
reporting and display of comprehensive (loss) income and its components in a
full set of financial statements. Comprehensive (loss) income as reported by the
Company, is comprised of net income (loss) and other comprehensive (loss)
income, which contains gains or losses from foreign currency translation, and is
reflected in the Company's Statements of Stockholders' Equity and Partners'
Capital (see Note 15).
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments with original maturities
of three months or less to be cash equivalents. Cash and cash equivalents
includes $5.4 million of short-term deposits at January 3, 1999.
STATEMENT OF CASH FLOWS
Supplemental disclosures of cash flow information:
<TABLE>
<CAPTION>
YEAR ENDED
---------------------------------------
DECEMBER DECEMBER
JANUARY 3, 28, 29,
1999 1997 1996
------------- ----------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
Cash paid during the year for:
Interest............................. $ 1,507 $ 2,369 $ 6,594
------ ----------- -----------
------ ----------- -----------
Taxes................................ $ 6,174 $ 5,605 $ 5,884
------ ----------- -----------
------ ----------- -----------
</TABLE>
F-11
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 1.--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FOREIGN CURRENCY TRANSLATION AND TRANSACTIONS
For foreign operations, local currencies are considered the functional
currency. All assets and liabilities of foreign subsidiaries and affiliates are
translated at year-end rates of exchange, while results of operations are
translated at weighted average rates of exchange for the year. Unrealized
translation gains or losses are generally reported in stockholders' equity as
accumulated other comprehensive (loss) income. Such adjustments amounted to
approximately $0.8 million and $0.1 million of unrealized translation losses in
fiscal 1998 and fiscal 1997, respectively. Gains and losses from foreign
currency transactions are included in other comprehensive (loss) income (see
Note 15).
The Company enters into forward exchange contracts and purchases foreign
currency options to hedge foreign currency transactions for periods consistent
with its identified exposures. These financial instruments are designed to
minimize exposure and reduce risk from exchange rate fluctuations in the regular
course of business. The Company does not engage in speculation. Gains and losses
on foreign exchange contracts which hedge exposures on firm foreign currency
commitments are deferred and recognized as adjustments to the bases of those
assets. For fiscal 1998, 1997 and 1996, gains and losses on foreign exchange
contracts were not material (see Note 4).
MANAGEMENT ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses reported in those financial statements. Actual results could differ
from those estimates and assumptions.
IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS
In August 1998, The Accounting Standards Executive Committee issued
Statement of Position ("SOP") No. 98-5 "Reporting on the Costs of Start-up
Activities." This statement establishes accounting standards for the costs of
start-up activities and requires that all such costs be expensed as incurred.
SOP No. 98-5 is effective for financial statements for fiscal years beginning
after December 15, 1998. The Company is currently evaluating the impact SOP No.
98-5 will have on its financial statements.
In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 133 "Accounting for Derivative Instruments and Hedging Activities." This
statement establishes accounting and reporting standards for derivative
financial instruments. SFAS No. 133 is effective after June 15, 1999 and
requires the recognition of all derivative instruments as either assets or
liabilities in the statement of financial position and to measure those
instruments at fair value. The Company has not yet determined what the effect of
adopting SFAS No. 133 will have on its financial position or the results of its
operations.
NOTE 2.--INITIAL PUBLIC OFFERING
Effective July 3, 1996, the Company sold 10,750,000 shares of its common
stock in the 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 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
F-12
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 2.--INITIAL PUBLIC OFFERING (CONTINUED)
under an employment agreement which amounted to $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 $4.6 million (which is included in cost of
sales). The remaining $33.2 million was used for other general corporate
purposes. The distribution notes were issued in April 1996 to the principals,
and certain of their affiliates, of the Predecessor Company, and represented an
estimate of the cumulative undistributed taxable income (on which taxes
previously had been paid) of the Predecessor Company since its inception through
the anticipated closing date of the Offering.
In connection with the Offering, the Board of Directors of the Company
granted awards of an aggregate of 105,100 shares of DKI's common stock under the
Company's 1996 Stock Incentive Plan to certain employees of the Company and DKJ.
This award, which was treated as compensation expense, amounted to $2.5 million.
In connection with this award, the Company offered to purchase back from these
employees the approximate number of shares, at the initial offering price,
needed to be sold to satisfy personal income taxes on this award. As part of
this arrangement, the Company purchased 20,270 shares of common stock, which are
being held in treasury, at cost.
NOTE 3.--BORROWINGS
With the proceeds of the Offering, the Company repaid all amounts due under
its then existing credit facility, and in September 1996, the Company entered
into a new $150.0 million, revolving Credit Facility as amended during 1997 and
in 1998 (the "Facility"). The Facility expires on January 30, 2001. Direct
borrowings under the Facility bear interest at a fixed spread over the lead
bank's prime rate or, at the option of the Company, at a fixed spread over the
LIBOR and are limited to a borrowing base calculated on eligible accounts
receivable, inventory, and letters of credit, except during certain periods when
the borrowings may exceed the borrowing base by certain amounts. At January 3,
1999, the weighted average interest rate on the outstanding balance was 9.7%.
The Facility is secured by accounts receivable and inventory 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, incurrence of additional indebtedness, and payment of dividends.
In connection with the Facility, the Company incurred certain financing
costs which were deferred and are being amortized over the remaining term of the
Facility. At January 3, 1999, and December 28, 1997 unamortized financing costs
of approximately $1.5 million were included in "Deposits and other noncurrent
assets" in the accompanying balance sheets. Amortization of deferred financing
costs of approximately $1.3 million, $0.6 million and $3.5 million in fiscal
1998, 1997 and 1996, respectively, were included in interest expense.
Letters of credit outstanding were approximately $56.0 million and $48.8
million at January 3, 1999 and December 28, 1997, respectively.
NOTE 4.--FINANCIAL INSTRUMENTS
DERIVATIVE FINANCIAL INSTRUMENT RISK
The Company selectively uses a combination of derivative financial
instruments to maintain the value-at-risk inherent in its foreign currency
exposures within acceptable parameters, as determined by
F-13
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 4.--FINANCIAL INSTRUMENTS (CONTINUED)
senior management. The purpose of this approach is to reduce the Company's
exposure to market risk resulting from fluctuations in foreign exchange rates.
Derivative financial instruments currently utilized by the Company are
principally forward exchange contracts. Substantially all hedges are executed
centrally to facilitate the netting of offsetting currency exposures, to ensure
control over the use of derivative financial instruments and to minimize
transaction costs. The Company does not hold or enter into financial instruments
for trading or speculative purposes.
The Company has a policy of only entering into contracts with counterparties
that have at least an "A" (or equivalent) credit rating. The counterparties to
these contracts are major financial institutions and the Company does not have
significant exposure to any one counterparty. Management believes that risk of
loss is remote and in any event would be immaterial.
FOREIGN EXCHANGE RISK MANAGEMENT
The Company enters into forward exchange contracts to hedge inventory
purchases, accounts receivable and accounts payable denominated in foreign
currencies for periods consistent with its identified exposures. Gains and
losses related to qualifying hedges of these exposures are deferred and
recognized in operating income when the underlying hedged transaction occurs.
The Company also enters into purchased foreign currency options to hedge
anticipated transactions where there is a high probability that anticipated
exposures will materialize. Any gains realized on such options that qualify as
hedges are deferred and recognized in operating income when the underlying
hedged transactions occurs. Foreign currency transactions, which do not qualify
as hedges, are marked-to-market on a current basis with associated gains and
losses reflected in operating income. In addition, any previously deferred gains
and losses on hedges which are terminated prior to the transaction date are
recognized in current income when the hedge is terminated. The contracts have
varying maturities with none exceeding 18 months. Foreign currencies exchanged
under these contracts are principally the Italian Lira, Spanish Peseta, Dutch
Guilder and Thai Baht.
Deferred unrealized gains and losses from derivative financial instruments
consist of the following:
<TABLE>
<CAPTION>
JANUARY 3, 1999 DECEMBER 28, 1997
--------------------------------- -----------------------------------
NOTIONAL NOTIONAL
(IN THOUSANDS) AMOUNTS GAINS LOSSES AMOUNTS GAINS LOSSES
- --------------------------------------------------------- --------- ----------- --------- --------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Forward exchange contracts............................... $ 71,556 $ 17 $ 2,913 $ 27,455 $ 210 $ 912
Foreign currency options................................. -- -- -- 2,250 -- --
</TABLE>
F-14
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 4.--FINANCIAL INSTRUMENTS (CONTINUED)
FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value:
Cash and cash equivalents:
The carrying amount approximated fair value, primarily because of the
short maturity of cash equivalent instruments.
Borrowing under revolving line of credit and note payable to principal
stockholder:
The fair value of the Company's debt approximates its carrying value.
Foreign currency options and forward exchange contracts:
The fair value of foreign currency options and forward exchange contracts
is the estimated amount the Company would receive or pay to terminate the
agreements.
The estimated fair values of the Company's financial instruments are as
follows:
<TABLE>
<CAPTION>
JANUARY 3, 1999 DECEMBER 28, 1997
---------------------- --------------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
--------- ----------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
NONDERIVATIVES
Cash and cash equivalents............................................ $ 7,448 $ 7,448 $ 4,537 $ 4,537
Borrowing under revolving line of credit............................. -- -- 22,314 22,314
Note payable to principal stockholder................................ -- -- 6,700 6,700
DERIVATIVES
Forward exchange contracts........................................... $ 71,556 $ 68,660 $ 27,455 $ 26,753
Foreign currency options............................................. -- -- 2,250 2,250
</TABLE>
NOTE 5.--EMPLOYEE BENEFIT PLANS
The Company is required to make contributions to a multi-employer union
pension and health and welfare plan. These payments are based on wages paid to
the Company's union employees and amounts paid to contractors utilized by the
Company. The Company does not participate in the management of the plans and has
not been furnished with any information with respect to the type of benefits
provided, vested and nonvested benefits or plan assets. Health and welfare plan
expense approximated $1.7 million, $2.4 million and $2.1 million for fiscal
1998, 1997, and 1996, respectively. Pension expense approximated $0.7 million,
$1.1 million and $0.9 million for fiscal 1998, 1997, and 1996, respectively.
Separate actuarial calculations regarding the Company's share of plan benefits
and net assets available for plan benefits have not been determined.
Under the Employee Retirement Income Security Act of 1974, as amended, an
employer, upon withdrawal from or termination of a multi-employer plan, is
required to continue funding its proportionate share of the plan's unfunded
vested benefits. As of January 3, 1999, the Company had no intention of
withdrawing from the plan.
F-15
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 5.--EMPLOYEE BENEFIT PLANS (CONTINUED)
The Company sponsors a defined contribution benefit plan covering its
non-union employees with a minimum of six months of eligible service. The
Company matches employee contributions at a rate of 50% to a maximum of 6% of an
employee's annual salary. Under the terms of the plan, a participant is 100%
vested in the employer's matching contribution after six years of credited
service. Expenses under this plan were approximately $0.8 million, $1.0 million
and $0.8 million for fiscal 1998, 1997, and 1996, respectively.
During 1997, the Company adopted a bonus plan covering executives and
certain members of management. Individual bonus payments are based on management
and compensation levels, performance goals and the Company's overall
performance. The Company also adopted a deferred compensation plan covering
certain senior executives, which is based on compensation, is dependent upon the
Company achieving profitability, and vests after a five-year period. In fiscal
1998, expenses under these plans were approximately $5.9 million.
NOTE 6.--LEASES
Rent expense included in the Company's financial statements was
approximately $20.6 million, $18.2 million and $15.0 million for fiscal 1998,
1997 and 1996, respectively. At January 3, 1999, future minimum annual rental
commitments under noncancellable operating leases for office, warehouse and
retail facilities, and equipment are as follows (in thousands):
<TABLE>
<C> <S> <C>
1999 ...................................................... $ 21,293
2000 ...................................................... 19,201
2001 ...................................................... 17,022
2002 ...................................................... 12,586
2003 ...................................................... 10,637
Thereafter ...................................................... 53,810
---------
$ 134,549
---------
---------
</TABLE>
In addition, certain of the leases contain options to renew for periods up
to 10 years and others include contingent payments based on sales.
The Company has entered into certain sub-lease arrangements. At January 3,
1999, future offsets to annual rental commitments as a result of these subleases
are as follows (in thousands):
<TABLE>
<C> <S> <C>
1999 ...................................................... $ 1,148
2000 ...................................................... 1,148
2001 ...................................................... 1,148
2002 ...................................................... 845
2003 ...................................................... 845
Thereafter ...................................................... 4,225
---------
$ 9,359
---------
---------
</TABLE>
NOTE 7.--SALE OF INTERESTS IN AFFILIATES
In March 1998, the Company and a nonaffiliated party sold all of their
remaining outstanding shares in DKJ to a subsidiary of Onward Kashiyama Co.
Ltd., a Japanese public company ("OKC"). At the same
F-16
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 7.--SALE OF INTERESTS IN AFFILIATES (CONTINUED)
time, DKJ was granted a 16-year exclusive license to import, manufacture,
license and/or distribute DONNA KARAN NEW YORK and DKNY products in Japan, with
certain exceptions. In addition, DKJ was granted the exclusive right to develop
and operate a total of 12 DONNA KARAN NEW YORK and DKNY retail boutiques in
Japan over the term of the agreement. On consummation of the transaction, the
Company received $15.9 million. The Company will receive a royalty on net sales
of licensed products and a servicing fee on net sales of Donna Karan products
imported by DKJ.
In consideration of the sale of its interest in DKJ, the Company received
approximately $646,000 and recognized a gain, net of transaction costs of
approximately $88,000. Equity in (loss) earnings amounted to approximately
($0.1) million, $1.4 million and $3.1 million, for fiscal 1998, 1997 and 1996,
respectively. As a result of the Company's agreement with DKJ in 1995, which
provided for a fee based upon net sales of DKJ, the Company recognized
management fee income, recorded as an offset of selling, general, and
administrative expenses of approximately $0.8 million, $1.5 million and $1.8
million during fiscal 1998, 1997 and 1996, respectively.
NOTE 8.--DKNY JEANS LICENSING AGREEMENT
On January 8, 1998, the Company and Liz Claiborne Inc. ("LCI") consummated a
transaction whereby the Company granted to LCI exclusive, long-term rights to
the DKNY JEANS and DKNY ACTIVE trademarks for apparel products to market,
distribute and sell both collections in the Western Hemisphere. Under the
agreement, LCI is obligated to pay the Company a royalty equal to a percentage
of net sales of the DKNY JEANS and ACTIVE products. The initial term of the
license agreement is for 15 years through December 31, 2012, with an option to
renew for an additional 15-year period if certain sales thresholds are met,
which would continue the license through December 31, 2027. Upon consummation of
the transaction, the Company received from LCI $30.0 million which will be
amortized in accordance with the terms of the agreement. Aggregate minimum
royalties for the initial 15-year term are $152.0 million. In connection with
the transaction with LCI, the Company recorded a loss of $12.5 million, which
represents the write down of inventory to net realizable value, as well as other
costs necessary to exit its existing jeans business. Of this amount, $9.4
million was classified as cost of sales and $3.1 million was classified as
selling, general and administrative expenses.
In September 1996, the Company entered into a license (the "DH" license)
with Designer Holdings, Ltd. ("Designer Holdings"), for the exclusive
production, sale and distribution of men's, women's and, with certain
exceptions, children's jeanswear under the DKNY JEANS label. In March 1997, the
DH License was terminated by mutual agreement of the Company and Designer
Holdings. Pursuant to the termination of the agreement, the Company returned to
Designer Holdings a $6.0 million payment and a $1.3 million advance royalty
payment. Additionally, the Company purchased, for $3.2 million, all sales and
marketing plans, patterns, samples, fabrics and other materials developed by
Designer Holdings in connection with the jeanswear business, which amount was
included in selling, general, and administrative expenses in fiscal 1996.
NOTE 9.--BEAUTY LICENSING AGREEMENT
On November 10, 1997, the Company and Estee Lauder Inc. ("ELI") consummated
the transaction whereby the Company granted to ELI exclusive worldwide rights to
the DONNA KARAN NEW YORK and DKNY trademarks for the manufacture, marketing,
distribution and sale of beauty and beauty-related products, including
fragrances, cosmetics, skincare products, and beauty-related accessories. In
connection therewith
F-17
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 9.--BEAUTY LICENSING AGREEMENT (CONTINUED)
and with the sale to ELI of certain other assets relating to the existing
business, the Company received $25.0 million and will receive additional
royalties from ELI based on sales of such beauty and beauty-related products.
Under certain circumstances, the Company is obligated to repay to ELI a portion
of these payments plus a penalty amount if certain products are not launched in
accordance with an agreed-upon schedule, as a result of the Company's actions or
lack thereof. At December 28, 1997, $15.0 million of the proceeds received had
been recorded as deferred income. As a result of the closing of the transaction
with ELI, the Company recorded a loss of approximately $21.1 million (net of a
$2.2 million gain in connection with the consummation of this transaction), of
which $11.7 million was recorded as cost of sales, $10.9 million was recorded as
sales returns and $0.7 million was recorded as selling, general and
administrative expenses. This loss represents reserves recorded, primarily
related to inventories, receivables and severance to cover the write-down of its
existing beauty business, and is net of a gain of approximately $2.2 million,
included in selling, general and administrative expenses, representing the
portion of the proceeds recognized as income reduced by the cost of exiting the
beauty business. Subsequent to closing the transaction, the Company recorded an
operating loss of approximately $2.3 million related to the beauty business.
The following table presents certain pro forma condensed financial
information for fiscal 1997 and 1996 for the Company as if the beauty business
had been shut down prior to those years, including the aforementioned loss of
approximately $21.1 million:
<TABLE>
<CAPTION>
DECEMBER 28, 1997 DECEMBER 29, 1996
------------------------------- -------------------------------
AS PRO AS PRO
(IN THOUSANDS) REPORTED BEAUTY FORMA REPORTED BEAUTY FORMA
- ----------------------------------------- --------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Net revenues............................. $ 638,725 $ 18,682 $ 620,043 $ 612,840 $ 43,769 $ 569,071
Operating income (loss) (1).............. (91,316) (33,722) (57,594) 13,302 (6,748) 20,050
Net income (loss) (2).................... (81,362) (30,046) (51,316) 4,243 (3,644) 7,887
Current assets........................... 230,763 1,677 229,086 254,673 26,032 228,641
Total assets............................. 287,488 1,677 285,811 311,695 27,601 284,094
</TABLE>
- ------------------------
(1) In fiscal 1997 the Company recorded a loss of approximately $21.1 million
(net of a $2.2 million gain) related to the wind-down of the Company's
beauty business. The loss is reflected in the results in the beauty business
for fiscal 1997.
(2) For fiscal 1996, the Company's net income included the recognition of a
deferred tax asset of approximately $19.0 million, concurrent with the
Company becoming subject to Federal and additional state income taxes. For
purposes of comparison, the Company has presented pro forma net income for
this period which excludes the recognition of this asset, and also assumes
that the Company was subject to Federal and additional state taxes for the
entire period.
NOTE 10.--RESTRUCTURING AND OTHER CHARGES
As a result of the restructuring and strategic plan announced on December
16, 1997 and the May 28, 1997 plan aimed at containing costs and restructuring
certain of its operations, the Company recognized in fiscal 1997 restructuring
charges of $8.6 million, which include $7.1 million related to severance, $0.8
million related to abandoning lease space, $0.7 million to close the Company's
Prato, Italy office; and other charges, primarily nonrecurring, amounting to
$17.0 million, including, $5.9 million for the realignment of a retail and
distribution arrangement in Europe, $3.6 million relating to additional
severance costs and
F-18
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 10.--RESTRUCTURING AND OTHER CHARGES (CONTINUED)
other costs recorded during the cost containment review process which have been
classified as $15.4 million of selling, general and administrative expense and
approximately $1.6 million of cost of sales. The charges relating to the May 28,
1997 plan include restructuring charges of $1.6 million and other charges of
$3.6 million.
In fiscal 1998, the Company utilized $5.5 million of the reserves previously
established in connection with its restructuring plan and credited into income
approximately $0.3 million of the restructuring accrual, which was determined to
no longer be required.
NOTE 11.--RELATED PARTY TRANSACTIONS
In October 1998, the Company and a wholly-owned affiliate of Ms. Donna
Karan, Chairman of the Board and Chief Designer of the Company, entered into a
boutique license agreement (the "Boutique Agreement"), granting the affiliated
entity the right to open and operate a DONNA KARAN NEW YORK flagship collection
store. The store, which is anticipated to open in 2000, will be located at 819
Madison Avenue in New York City. The Boutique Agreement stated that the Company
will provide the affiliated entity with certain management services related to
the operation of the store in exchange for a fee. The store will also be
entitled to offer a limited amount of non-branded products.
In July 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 principal stockholders and their affiliated trusts,
which grants the Company the exclusive rights, in perpetuity, 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 products bearing the licensed mark. The Company
incurred $19.5 million, $17.6 million and $9.3 million in royalty expense for
fiscal 1998 and 1997, and for the six month period ended December 29, 1996,
respectively, which was included in cost of sales. Included in accrued expenses
at January 3, 1999 and December 28, 1997 was royalties payable of $5.8 million
and $4.2 million, respectively. In addition, in fiscal 1997, the 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.
The note payable to a principal stockholder of $6.7 million at December 28,
1997 incurred interest at 8% per annum and was repaid during fiscal 1998.
Sales to DKJ (see Note 7) amounted to 7.3%, 9.8% and 11.5% of the Company's
gross revenues for fiscal 1998, 1997, and 1996, respectively.
NOTE 12.--STOCK OPTIONS
During 1996, the Company adopted two option plans which reserve shares of
common stock for issuance. One plan is for employees, officers, advisors and
independent consultants of the Company (the "Stock Incentive Plan"), and the
other is for non-employee directors (the "Non-Employee Director Stock Option
Plan"). The Company has adopted the disclosure-only provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation." Accordingly, no compensation cost has
been recognized for the stock option plans. If compensation cost for the stock
option plans had been determined based on the fair value at the grant dates for
awards in fiscal 1998 and 1997 consistent with the provisions of SFAS No. 123,
the
F-19
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 12.--STOCK OPTIONS (CONTINUED)
Company's pro forma net income (loss) and net income (loss) per common share
would have been as follows (in thousands, except per share data):
<TABLE>
<CAPTION>
JANUARY 3, DECEMBER 28, DECEMBER 29,
1999 1997 1996
----------- ------------ ------------
<S> <C> <C> <C>
Net income (loss)--as reported........................................... $ 128 $ (81,362) $ 25,036
----------- ------------ ------------
----------- ------------ ------------
Net income (loss)--pro forma............................................. $ (1,829) $ (83,359) $ 23,713
----------- ------------ ------------
----------- ------------ ------------
Net income (loss) per common share--basic
As reported............................................................ $ 0.01 $ (3.78) $ --
Pro forma.............................................................. (0.08) $ (3.87) --
Net income (loss) per common share--diluted
As reported............................................................ $ 0.01 $ (3.78) $ --
Pro forma.............................................................. (0.08) (3.87) --
</TABLE>
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following assumptions:
<TABLE>
<CAPTION>
YEAR ENDED
-------------------------
JANUARY 3, DECEMBER 28,
1999 1997
----------- ------------
<S> <C> <C>
Expected volatility................................................ 59.2% 51.3%
Average expected option life....................................... 6 years 6 years
Average risk free interest rate.................................... 5.1% 5.7%
Dividend yield..................................................... 0.0% 0.0%
</TABLE>
Under the Stock Incentive Plan, which was amended in fiscal 1997, options to
purchase shares of common stock and awards of restricted shares of common stock
of up to a combined 2,600,000 shares may be granted (includes an award of
105,100 shares granted at the Offering and 150,000 shares of restricted common
stock (see Note 13)). The exercise price of the options may not be less than
100% of the fair market value of a share of common stock at the time of grant.
An incentive stock option may not be exercised within one year of the date of
grant, and no options may be exercised after ten years from the effective date
of the plan. The options granted in fiscal 1998 and fiscal 1997 vest on a yearly
basis in 33 1/3% increments and options granted in fiscal 1996 vest on a yearly
basis in quarterly increments, beginning on the first anniversary of the date of
grant.
Under the Non-Employee Director Stock Option Plan, options to purchase up to
100,000 shares of common stock may be granted, subject to adjustments in certain
circumstances. Each eligible director, on the initial grant date, is granted
options to purchase 7,500 shares of common stock. Each year, other than with
respect to the year in which an eligible director receives an initial grant of
options, each eligible director will receive an additional option to purchase
1,000 shares of common stock. Upon the exercise of an option, the purchase price
paid will be 100% of the fair market value of such share at the time of the
grant of the option. Options granted will be exercisable on or after the first
anniversary of the date of grant, and will expire on the tenth anniversary of
the date of grant.
F-20
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 12.--STOCK OPTIONS (CONTINUED)
A summary of the Company's stock option programs as of fiscal 1998, 1997 and
1996 and changes during the years then ended, are presented below:
<TABLE>
<CAPTION>
NON-EMPLOYEE DIRECTOR
STOCK INCENTIVE PLAN STOCK OPTION PLAN
------------------------ ------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
EXERCISE EXERCISE
SHARES PRICE SHARES PRICE
--------- ------------- --------- -------------
<S> <C> <C> <C> <C>
Outstanding at December 29, 1996................ 1,369,000 $ 23.84 15,000 $ 20.81
Granted......................................... 733,000 11.41 8,500 12.98
Forfeited or Cancelled.......................... (360,500) 23.22 -- --
--------- ---------
Outstanding at December 28, 1997................ 1,741,500 18.74 23,500 17.98
Granted......................................... 953,717 8.90 3,000 15.56
Forfeited or Cancelled.......................... (1,413,707) 20.16 -- --
--------- ---------
Outstanding at January 3, 1999.................. 1,281,510 9.85 26,500 17.71
--------- ---------
--------- ---------
</TABLE>
The weighted average grant fair value of options granted during fiscal 1998
and 1997 was $5.36 and $6.36 per share, respectively.
For various price ranges, weighted average characteristics of outstanding
stock options at January 3, 1999 are as follows:
<TABLE>
<CAPTION>
OUTSTANDING EXERCISABLE
------------------------------------------ ------------------------
REMAINING WEIGHTED WEIGHTED
RANGE OF EXERCISE PRICES OPTIONS LIFE (YEARS) AVERAGE PRICE OPTIONS AVERAGE PRICE
- -------------------------------------------------------- ---------- --------------- ------------- --------- -------------
<S> <C> <C> <C> <C> <C>
STOCK INCENTIVE PLAN
$ 6.25 to $10.44...................................... 1,028,717 8.3 $ 7.88 50,000 $ 10.44
$12.38 to $24.00...................................... 252,793 8.6 17.87 134,458 12.71
---------- ---------
$ 6.25 to $24.00...................................... 1,281,510 8.3 9.85 184,458 12.09
---------- ---------
---------- ---------
NON-EMPLOYEE DIRECTOR STOCK OPTION PLAN
$10.94 to $13.25...................................... 8,500 8.1 $ 12.98 8,500 $ 12.98
$15.56 to $21.13...................................... 18,000 7.9 19.94 15,000 20.81
---------- ---------
$10.94 to $21.13...................................... 26,500 8.0 17.71 23,500 17.98
---------- ---------
---------- ---------
</TABLE>
NOTE 13.--COMMITMENTS AND CONTINGENCIES
The Company has employment agreements with key executives which provide for
guaranteed minimum compensation, minimum cash bonuses, stock options and
termination payments and benefits. One employment agreement contains a provision
whereby the Company has granted 150,000 shares of restricted common stock to a
key employee. These shares are subject to certain restrictions on
transferability and a risk of forfeiture. The forfeiture provisions expire at
the earlier of five years from the date of grant or upon the attainment of
certain market value goals for the common stock. As of January 3, 1999, all
150,000 shares were subject to the forfeiture provisions. These shares have been
recorded as unearned stock grant compensation and are presented as a separate
component of stockholders' equity. The
F-21
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 13.--COMMITMENTS AND CONTINGENCIES (CONTINUED)
unearned compensation is being charged to selling, general and administrative
expenses over the five-year vesting period, until such time as the market value
goals are attained, in which case the expense will be accelerated to match the
amounts earned. Total expense for the year ended January 3, 1999 amounted to
approximately $239,000.
The Company also has a Non-Employee Director Restricted Stock Plan and a
Voluntary Deferred Compensation Plan. The Company's 1998 Non-Employee Director
Restricted Stock Plan entitles each non-employee director to receive a grant of
restricted stock of 500 shares of common stock as of the first day of the month
following the annual meeting of stockholders, which award will vest on the first
anniversary of the date of grant. In addition, the restricted stock award will
become fully vested upon a change in control of the Company (as defined in the
plan).
The Voluntary Deferred Compensation Plan for Non-Employee Directors of the
Company provides that an eligible director, at the election of the director, may
defer payment of his or her cash retainer and meeting fees for five years or
until he or she ceases to be a director. The deferred amounts, at the election
of the director, during the deferral period either (i) are credited with
interest at prescribed rates or (ii) are converted to the equivalent of that
number of shares of the Company's common stock (based on the market price at the
time of the deferral) that could be purchased with the deferred amounts. All
payments under the Deferred Compensation Plan are in the form of cash. The
Deferred Compensation Plan provides that lump-sum payments of all deferred
compensation will be made as soon as administratively feasible following the
date that (i) the participating director ceases to be a member of the Board of
Directors or (ii) the Deferred Compensation Plan is terminated.
In 1997, the Company was a defendant in a consolidated purported class
action, which alleges violations of certain sections of the federal securities
laws. In 1998, the United States Court of Appeals dismissed the action in all
respects.
The Company is involved from time to time in routine legal matters
incidental to its business. In the opinion of the Company's management, the
resolution of such matters will not have a material effect on its financial
position or results of operations.
NOTE 14.--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. Therefore, for the six-month period ended July 2, 1996 (the day prior to
the Offering), no provision has been made in the accompanying financial
statements for such periods for Federal income taxes, since such taxes were the
liability of the partners or the shareholders of the S corporations. In
connection with the Offering, the Company became subject to Federal and
additional state income tax.
The Company accounts for income taxes under SFAS No. 109, "Accounting for
Income Taxes" which 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.
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.
The actual amount, which was determined upon completion of the
F-22
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 14.--INCOME TAXES (CONTINUED)
final tax returns of the Predecessor Company, was approximately $19.0 million,
and, as of the date of the Offering, resulted in a total deferred tax asset of
approximately $20.7 million, which includes certain state and local tax assets
recorded on a historical basis.
The income tax provision consists of the following:
<TABLE>
<CAPTION>
YEAR ENDED
---------------------------------------
JANUARY 3, DECEMBER 28, DECEMBER 29,
1999 1997 1996
----------- ------------ ------------
(IN THOUSANDS)
<S> <C> <C> <C>
Current income taxes:
Federal taxes......................................................... $ (2,374) $ (2,903) $ 8,605
State and local taxes................................................. 1,245 787 2,717
Foreign taxes......................................................... 2,227 521 1,130
----------- ------------ ------------
1,098 (1,595) 12,452
Deferred income taxes................................................... (988) (9,439) (29,631)
----------- ------------ ------------
$ 110 $ (11,034) $ (17,179)
----------- ------------ ------------
----------- ------------ ------------
</TABLE>
Deferred income taxes reflect the net effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant items
comprising the Company's net deferred tax asset were as follows:
<TABLE>
<CAPTION>
YEAR ENDED
-------------------------
JANUARY 3, DECEMBER 28,
1999 1997
----------- ------------
(IN THOUSANDS)
<S> <C> <C>
Current:
Uniform inventory capitalization..................................................... $ 3,560 $ 2,679
Allowance for doubtful accounts and other receivable related reserves................ 10,459 18,854
Inventory reserves................................................................... 8,601 15,518
Other book accruals.................................................................. 8,417 20,423
Deferred revenue..................................................................... 6,008 --
Net operating loss carry forwards.................................................... 1,838 --
----------- ------------
38,883 57,474
----------- ------------
Non-Current:
Deferred revenue..................................................................... 14,710 --
Depreciation......................................................................... 8,813 7,278
Foreign tax credit carry forwards.................................................... 3,334 --
----------- ------------
26,857 7,278
----------- ------------
Valuation Allowance.................................................................... (24,000) (24,000)
----------- ------------
$ 41,740 $ 40,752
----------- ------------
----------- ------------
</TABLE>
The Company has available Federal net operating loss carryforwards of
approximately $4.0 million and state net operating loss carry forwards of
approximately $19.5 million for tax purposes to offset future taxable income.
The net operating loss carryforwards expire through fiscal 2018. In addition the
Company
F-23
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 14.--INCOME TAXES (CONTINUED)
has foreign tax credit carryforwards of approximately $3.3 million which expire
from fiscal 2001 through fiscal 2003.
Realization of the future tax benefits related to the deferred tax assets is
dependent on many factors including the Company's ability to generate sufficient
taxable income within the net operating loss carry forward period and potential
limitations imposed by the Internal Revenue Code. Due to the inherent
uncertainties in estimating future taxable income, the Company has recorded a
valuation allowance.
The pro forma provision for income taxes represents the income tax
provisions that would have been reported had the Company been subject to Federal
and additional state income taxes for the entire period. The pro forma income
tax provision has been prepared according to SFAS No. 109.
The foreign and domestic components of income (loss) before income taxes
were a foreign loss of $0.06 million and domestic income of $0.3 million in
fiscal 1998 and foreign income of $2.6 million and domestic loss of $95.0
million in fiscal 1997.
The foreign and domestic components of pro forma income before pro forma
income taxes for fiscal 1996 were as follows (in thousands):
<TABLE>
<S> <C>
Domestic............................................ $ 1,565
Foreign............................................. 4,856
---------
$ 6,421
---------
---------
</TABLE>
The pro forma income tax provision for fiscal 1996 consists of the following
(in thousands):
<TABLE>
<S> <C>
Current income taxes:
Federal taxes.................................... $ 11,642
State and local taxes............................ 4,777
Foreign taxes.................................... 1,130
---------
17,549
Deferred income taxes.............................. (14,012)
---------
$ 3,537
---------
---------
</TABLE>
A reconciliation between the provision for income taxes computed by applying
the statutory Federal income tax rate to income (loss) before taxes and the
actual provision for income taxes (pro forma for 1996) is as follows:
<TABLE>
<CAPTION>
YEAR ENDED
-----------------------------------------------------
JANUARY 3, 1999 DECEMBER 28, 1997 DECEMBER 29, 1996
--------------- ----------------- -----------------
(IN THOUSANDS)
<S> <C> <C> <C>
Federal statutory rate............................... $ 83 $ (32,339) $ 2,247
State and local taxes, net of Federal tax benefits... 770 (4,620) 449
Taxes related to foreign income, net of credits...... (1,080) 739 899
Valuation allowance.................................. -- 24,000 --
Other items, net, none of which individually exceeds
5% of Federal taxes at statutory rate.............. 337 1,186 (58)
------- -------- ------
$ 110 $ (11,034) $ 3,537
------- -------- ------
------- -------- ------
Effective tax rate................................... 46.2% (11.9)% 55.1%
------- -------- ------
------- -------- ------
</TABLE>
F-24
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 15.--COMPREHENSIVE (LOSS) INCOME
In fiscal 1998, the Company adopted the provisions of SFAS No. 130,
"Reporting Comprehensive Income." Comprehensive (loss) income is comprised of
net income (loss) and other comprehensive (loss) income, which contains gains or
losses from foreign currency translation. Accumulated other comprehensive loss
at January 3, 1999 and December 28, 1997 is as follows:
<TABLE>
<CAPTION>
YEAR ENDED
--------------------------
JANUARY 3, DECEMBER 28,
1999 1997
----------- -------------
(IN THOUSANDS)
<S> <C> <C>
Accumulated other comprehensive loss, beginning of year............ $ (455) $ (331)
Foreign currency translation, current-period change................ (751) (124)
----------- -----
Accumulated other comprehensive loss, end of year.................. $ (1,206) $ (455)
----------- -----
----------- -----
</TABLE>
Other comprehensive loss for fiscal 1998, 1997 and 1996 is as follows:
<TABLE>
<CAPTION>
YEAR ENDED
-----------------------------------------
JANUARY 3, DECEMBER 28, DECEMBER 29,
1999 1997 1996
----------- ------------- -------------
(IN THOUSANDS)
<S> <C> <C> <C>
Foreign currency translation adjustments,
before taxes............................ $ (751) $ (124) $ (283)
Provision (benefit) for taxes (1)......... -- -- --
----- ----- -----
Foreign currency translation adjustments,
net of taxes............................ $ (751) $ (124) $ (283)
----- ----- -----
----- ----- -----
</TABLE>
- ------------------------
(1) For fiscal 1998, 1997, and 1996 there was no sale or liquidation of the
Company's investment in a foreign entity. As such, no reclassification
adjustments were required and gross amounts were displayed exclusive of any
provision for income taxes.
NOTE 16.--SEGMENT INFORMATION
The Company has three reportable business segments: wholesale, licensing,
and retail. The Company's wholesale business consists of three divisions;
womenswear, menswear, and accessories, all of which sell products under the
DONNA KARAN NEW YORK and DKNY brands to department stores, specialty stores,
boutiques, and to the Company's owned and licensed free-standing stores. The
licensing division forms strategic alliances with companies, through which it
licenses the right to develop, market, and sell products under the DONNA KARAN
NEW YORK, and DKNY brands, and licenses, on a royalty-free basis, free-standing
stores under the DONNA KARAN NEW YORK, DKNY and DKNY JEANS names. The retail
division operates outlet stores and a limited number of full-price, domestic
free-standing retail stores.
The Company's reportable segments are individual business units that offer
different products and services. They are managed separately because each
business requires different strategic initiatives, promotional campaigns,
marketing, and advertising, based upon its own individual positioning in the
market.
The accounting policies of the segments are the same as those described in
the summary of significant accounting policies. The Company evaluates
performance based upon profit or loss from operations before interest expense
and interest income, nonrecurring gains and losses, and income taxes.
F-25
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 16.--SEGMENT INFORMATION (CONTINUED)
Intersegment sales and transfers are recorded at amounts that approximate
cost. All intercompany revenues and profit or loss is eliminated in
consolidation.
<TABLE>
<CAPTION>
WHOLESALE LICENSING RETAIL BEAUTY (1) TOTAL
----------- ----------- --------- ----------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
JANUARY 3, 1999
Net revenues from external customers........... $ 510,872 $ 18,458 $ 93,316 $ -- $ 622,646
Intersegment revenues.......................... 56,420 -- -- -- 56,420
Segment operating profit (loss)................ 11,999 6,382 (16,116) -- 2,265
Segment assets................................. 242,399 1,421 34,909 -- 278,729
DECEMBER 28, 1997
Net revenues from external customers........... 539,892 9,602 70,549 18,682 638,725
Intersegment revenues.......................... 61,318 -- -- 1,490 62,808
Segment operating profit (loss)................ (48,974) 4,889 (13,509) (33,722) (91,316)
Segment assets................................. 249,725 1,100 34,986 1,677 287,488
DECEMBER 29, 1996
Net revenues from external customers........... 500,706 7,473 60,892 43,769 612,840
Intersegment revenues.......................... 46,010 -- -- 1,085 47,095
Segment operating profit (loss)................ 18,808 3,327 (2,085) (6,748) 13,302
Segment assets................................. 258,362 1,095 24,637 27,601 311,695
</TABLE>
- ------------------------
(1) In November 1997, the Company exited the beauty business (see Note 9).
Information related to the Company's geographic segments are as follows:
<TABLE>
<CAPTION>
DECEMBER DECEMBER
JANUARY 3, 28, 29,
1999 1997 1996
----------- ----------- -----------
(IN THOUSANDS)
<S> <C> <C> <C>
Net revenues:
United States......................... $ 422,947 $ 415,513 $ 411,904
Japan................................. 46,528 66,839 74,488
Other................................. 153,171 156,373 126,448
----------- ----------- -----------
$ 622,646 $ 638,725 $ 612,840
----------- ----------- -----------
----------- ----------- -----------
</TABLE>
Sales to Japan for the quarter ended March 28, 1998 and fiscal 1997 and 1996
were made to a 30% owned subsidiary (see Note 7).
In fiscal 1998 and 1997, sales to entities affiliated with HPL, including
DKJ, and certain free-standing international retail stores, accounted for
approximately 10.5% and 16.0% of the Company's revenues, respectively.
Additionally, the Company's wholesale segment had one customer which accounted
for approximately 13.0% and 12.8% of the Company's revenues for fiscal 1997 and
1996, respectively.
Primarily all of the Company's identifiable assets are located in the United
States.
F-26
<PAGE>
DONNA KARAN INTERNATIONAL INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
NOTE 17.--QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following summarizes the unaudited quarterly operating results of the
Company for fiscal 1998 and fiscal 1997 (in thousands, except per share
amounts):
<TABLE>
<CAPTION>
QUARTER ENDED
----------------------------------------------------------
1998 MAR. 30 JUNE 28 SEPT. 28 JAN. 3
- ---------------------------------------------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net revenues........................................ $ 181,153 $ 124,854 $ 170,569 $ 146,070
Gross profit........................................ 42,531 24,701 50,226 36,629
Net income (loss)................................... 2,070 (6,318) 7,565 (3,189)
Net income (loss) per common share:
Basic............................................. .10 (.29) .35 (.15)
Diluted........................................... .10 (.29) .35 (.15)
</TABLE>
<TABLE>
<CAPTION>
QUARTER ENDED
----------------------------------------------------------
1997 MAR. 30 JUNE 29 (1) SEPT. 28 DEC. 28 (2)
- ---------------------------------------------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net revenues........................................ $ 158,776 $ 111,045 $ 214,870 $ 154,034
Gross profit........................................ 45,038 22,611 56,801 (3,043)
Net income (loss)................................... 806 (14,682) 923 (68,409)
Net income (loss) per common share:
Basic............................................. .04 (.68) .04 (3.17)
Diluted........................................... .04 (.68) .04 (3.17)
</TABLE>
- ------------------------
(1) Includes a restructuring charge of $1.6 million and other charges of $3.6
million, relating primarily to additional severance costs, the estimated
economic impairment of DONNA KARAN NEW YORK accessories inventory and
receivables and certain other charges recorded during the cost containment
process.
(2) Includes a charge of $21.1 million related to the wind-down of the Company's
beauty business (net of a $2.2 million gain in connection with entering the
agreement), a charge of $12.5 million in connection with the wind-down of
the DKNY JEANS business as a result of the license of the business,
restructuring charges of $7.1 million, $13.2 million of other charges and a
$24.0 million valuation allowance against the deferred income tax benefit.
NOTE 18.--SUBSEQUENT EVENTS
In January 1999, the Company acquired three free-standing retail stores in
the United Kingdom which were previously owned and operated by an affiliate of
Club 21 PTE Ltd. ("Club 21"), a Singapore based company, affiliated with Ong
Beng Seng.
The aggregate purchase price, which includes acquisition costs, was financed
with proceeds received from borrowings under the Company's revolving credit
facility and the issuance of a subordinated note to an affiliate of Club 21,
which matures in January 2002. The acquisition will be accounted for as a
purchase, with any excess of the purchase price over the estimated fair value of
the assets acquired, being recorded as goodwill.
F-27
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Act of
1934, the Registrant has duly caused this Form 10-K to be signed on its behalf
by the undersigned, thereunto duly authorized.
Dated: March 31, 1999
<TABLE>
<S> <C> <C>
DONNA KARAN INTERNATIONAL INC.
By: /s/ JOHN D. IDOL
-----------------------------------------
John D. Idol
CHIEF EXECUTIVE OFFICER
</TABLE>
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
- ------------------------------ --------------------------- -------------------
/s/ DONNA KARAN Chairman of the Board and
- ------------------------------ Chief Designer March 31, 1999
Donna Karan
/s/ STEPHAN WEISS Vice Chairman of the Board
- ------------------------------ March 31, 1999
Stephan Weiss
/s/ JOHN D. IDOL Chief Executive Officer and
- ------------------------------ Director March 31, 1999
John D. Idol
/s/ M. WILLIAM BENEDETTO Director
- ------------------------------ March 31, 1999
M. William Benedetto
/s/ ANN MCLAUGHLIN Director
- ------------------------------ March 31, 1999
Ann McLaughlin
Executive Vice President
and Chief Financial and
/s/ JOSEPH B. PARSONS Administrative Officer
- ------------------------------ (Principal Financial March 31, 1999
Joseph B. Parsons Officer and Principal
Accounting Officer)
<PAGE>
DONNA KARAN INTERNATIONAL INC.
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
THREE YEARS ENDED JANUARY 3, 1999
(IN THOUSANDS)
<TABLE>
<CAPTION>
BALANCE AT CHARGED TO ADDITIONS BALANCE AT
BEGINNING OF COSTS AND CHARGED TO OTHER END OF
DESCRIPTION PERIOD EXPENSES ACCOUNTS DEDUCTIONS PERIOD
- -------------------------------------------- ------------ ----------- ------------------- ----------- -----------
<S> <C> <C> <C> <C> <C>
YEAR ENDED JANUARY 3, 1999
Allowance for doubtful accounts............. $ 1,182 $ 1,544 $ -- $ 1,484 $ 1,242
Allowance for chargebacks................... 37,357 13,144 -- 29,394 21,107
Allowance for cash discounts................ 2,940 14,279 -- 14,635 2,584
Allowance for sales returns................. 10,556 18,579 -- 24,196 4,939
------------ ----------- ----- ----------- -----------
$ 52,035 $ 47,546 -- $ 69,709 $ 29,872
------------ ----------- ----- ----------- -----------
------------ ----------- ----- ----------- -----------
YEAR ENDED DECEMBER 28, 1997
Allowance for doubtful accounts............. $ 1,661 $ 843 -- $ 1,322 $ 1,182
Allowance for chargebacks................... 18,847 43,329 -- 24,819 37,357
Allowance for cash discounts................ 3,198 18,647 -- 18,905 2,940
Allowance for sales returns................. 3,051 36,000 -- 28,495 10,556
------------ ----------- ----- ----------- -----------
$ 26,757 $ 98,819 $ -- $ 73,541 $ 52,035
------------ ----------- ----- ----------- -----------
------------ ----------- ----- ----------- -----------
YEAR ENDED DECEMBER 29, 1996
Allowance for doubtful accounts............. $ 5,653 $ 62 -- $ 4,054 $ 1,661
Allowance for chargebacks................... 12,905 22,810 -- 16,868 18,847
Allowance for cash discounts................ 1,688 18,960 -- 17,450 3,198
Allowance for sales returns................. 2,261 18,429 -- 17,639 3,051
------------ ----------- ----- ----------- -----------
$ 22,507 $ 60,261 $ -- $ 56,011 $ 26,757
------------ ----------- ----- ----------- -----------
------------ ----------- ----- ----------- -----------
</TABLE>
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF EXHIBITS
- ------------- -----------------------------------------------------------------------------------------------------
<C> <S>
2.1 Agreement and Plan of Contribution, dated as of June 10, 1996, among the Company, Takihyo Inc., Donna
Karan, Stephan Weiss, Stephan Weiss, as trustee under Trust Agreement for the benefit of Lisa Weiss
Keyes, Corey Weiss, and Gabrielle Karan, Stephan Weiss, as trustee under Trust Agreement for the
benefit of Donna Karan, Gabrielle Studio, Inc., Tomio Taki, Frank Mori, Christopher Mori, and Heather
Mori (Incorporated by reference from Exhibit 2.1 to the Company's Registration Statement on Form S-1,
dated June 27, 1996)
3.1 Amended and Restated Certificate of Incorporation of the Company (Incorporated by reference from
Exhibit 3.2 to the Company's Registration Statement on Form S-1, dated June 27, 1996)
3.2 Bylaws of the Company (Incorporated by reference from Exhibit 3.3 to the Company's Registration
Statement on Form S-1, dated June 27, 1996)
3.3 Amendment No.1 to By-laws of the Company (Incorporated by reference from Exhibit 3.1 to the Company's
Form 10-Q for the quarter ended September 28, 1997.)
10.1 Second Amended and Restated Credit Agreement, dated as of January 29, 1998 among The Donna Karan
Company, The Donna Karan Company Store, G.P., Donna Karan Studio, DK Footwear Partners, the
institutions time to time parties thereto, and Citibank, N.A., as administrative agent (Incorporated
by reference from Exhibit 10.1 to the Company's Form 10-K for the year ended December 28, 1997)
10.2 1996 Stock Incentive Plan of the Company (Incorporated by reference from Exhibit A to the Company's
Proxy Statement, dated May 8, 1997)*
10.3 1996 Non-Employee Director Stock Option Plan (Incorporated by reference from Exhibit 10.3 to the
Company's Registration Statement on Form S-1, dated June 27, 1996)*
10.4 Registration Rights Agreement, dated as of June 10, 1996, among the Company, Donna Karan, Stephan
Weiss, Stephan Weiss, as trustee under Trust under trust agreement for the benefit of Lisa Weiss
Keyes, Corey Weiss, and Gabrielle Karan, Stephan Weiss, as trustee under Trust Agreement for the
benefit of Donna Karan, Gabrielle Studio, Inc., Takihyo Inc., Tomio Taki, Frank Mori, Christopher
Mori, and Heather Mori (Incorporated by reference from Exhibit 10.4 to the Company's Registration
Statement on Form S-1, dated June 27, 1996)
10.5 License Agreement, dated as of July 3, 1996, between Gabrielle Studio, Inc. and Donna Karan Studio
(Incorporated by reference from Exhibit 10.5 to the Company's Registration Statement on Form S-1,
dated June 27, 1996)
10.6 Guaranty of License, dated as of July 3, 1996, from the Company to Gabrielle Studio, Inc.
(Incorporated by reference from Exhibit 10.6 to the Company's Registration Statement on Form S-1,
dated June 27, 1996)
10.7 License Agreement, dated as of July 3, 1996, between Donna Karan Studio and Stephan Weiss
(Incorporated by reference from Exhibit 10.7 to the Company's Registration Statement on Form S-1,
dated June 27, 1996)
10.8 Employment Agreement, dated as of July 3, 1996, between the Company and Donna Karan (Incorporated by
reference from Exhibit 10.8 to the Company's Registration Statement on Form S-1, dated June 27,
1996)*
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF EXHIBITS
- ------------- -----------------------------------------------------------------------------------------------------
<C> <S>
10.9 Employment Agreement, dated as of July 3, 1996, between the Company and Stephan Weiss (Incorporated
by reference from Exhibit 10.9 to the Company's Registration Statement on Form S-1, dated June 27,
1996)*
10.10 Stockholders Agreement, dated as of June 10, 1996, among Donna Karan, Stephan Weiss, Stephan Weiss as
trustee under Trust Agreement for the benefit of Lisa Weiss Keyes, Corey Weiss, and Gabrielle Karan,
Stephan Weiss as trustee under Trust Agreement for the benefit of Donna Karan, Gabriel Studio, Inc.,
Takihyo Inc., Tomio Taki, Frank Mori, Christopher Mori, and Heather Mori (Incorporated by reference
from Exhibit 10.10 to the Company's Registration Statement on Form S-1, dated June 27, 1996)
10.11 Employment Agreement, dated as of October 15, 1996, between The Donna Karan Company and Joseph B.
Parsons (Incorporated by reference from Exhibit 10.14 to the Company's Form 10-K for the year ended
December 29, 1996)*
10.12 Employment Agreement, dated as of July 25, 1997, among the Company, The Donna Karan Company and John
D. Idol, and related bonus programs. (Incorporated by reference from Exhibit 10.5 to the Company's
Form 10-Q for the quarter ended September 28, 1997)*
10.13 Amendment No. 1 to Employment Agreement between the Company and Donna Karan (Incorporated by
reference from Exhibit 10.2 to the Company's 10-Q for the quarter ended September 28, 1997)*
10.14 Amendment No. 1 to Employment Agreement between the Company and Stephan Weiss (Incorporated by
reference from Exhibit 10.3 to the Company's Form 10-Q for the quarter ended September 28, 1997)*
10.15 Amendment No. 2 to Employment Agreement between the Company and Stephan Weiss (Incorporated by
reference from Exhibit 10.4 to the Company's Form 10-Q for the quarter ended September 28, 1997)*
10.16 Agreement, dated as of September 30, 1997, between The Donna Karan Company and Estee Lauder Inc.
(Incorporated by reference from Exhibit 2.1 to the Company's Form 8-K, dated November 10, 1997).
10.17 Executive Incentive Plan (Incorporated by reference from Exhibit 10.17 to the Company's Form 10-K for
the year ended December 28, 1997)*
10.18 Wealth Accumulation Plan (Incorporated by reference from Exhibit 10.18 to the Company's Form 10-K for
the year ended December 28, 1997)*
10.19 Donna Karan International Inc. Deferred Compensation Plan*
10.20 Amended and Restated Second Amendment, dated as of October 30, 1998, among The Donna Karan Company,
The Donna Karan Company Store, G.P., Donna Karan Studio, and DK Footwear Partners, the financial
institutions time to time parties thereto as lenders, the financial institutions from time to time
parties thereto as issuing banks, and Citibank, N.A., as administrative agent
10.21 Employment Agreement, dated as of December 18, 1998, between the Company and Lee Goldenberg. *
10.22 1998 Non-Employee Director Restricted Stock Plan (Incorporated by reference from Exhibit 10.1 to the
Company's Form 10-Q for the quarter ended June 28, 1998). *
10.23 Amendment to 1996 Non-Employee Director Stock Option Plan (Incorporated by reference from Exhibit
10.2 to the Company's Form 10-Q for the quarter ended June 28, 1998). *
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION OF EXHIBITS
- ------------- -----------------------------------------------------------------------------------------------------
<C> <S>
10.24 Voluntary Deferred Compensation Plan for Non-Employee Directors (Incorporated by reference from
Exhibit 10.3 to the Company's Form 10-Q for the quarter ended June 28, 1998). *
21.1 Subsidiaries of the Company
23.1 Consent of Ernst & Young LLP
27.1 Financial Data Schedule
</TABLE>
- ------------------------
* Exhibit is a management contract or compensatory plan or arrangement.
<PAGE>
Exhibit 10.19
- --------------------------------------------------------------------------------
DONNA KARAN INTERNATIONAL INC.
DEFERRED BONUS PLAN
Effective as of February 1, 1999
- --------------------------------------------------------------------------------
<PAGE>
DONNA KARAN INTERNATIONAL INC.
DEFERRED BONUS PLAN
The Plan is established in order to provide a select group of management
and highly compensated employees of Donna Karan International Inc., its
Subsidiaries and any Parent with the opportunity to defer the receipt of all or
a portion of their annual performance awards under the Executive Incentive Plan
and certain other designated bonus payments in accordance with the terms and
conditions set forth herein.
1. Definitions. For purposes of the Plan, the following definitions apply:
(a) "Award" means the annual performance award payable to an Eligible
Employee under the Executive Incentive Plan or, subject to the approval of the
Committee, the bonus payable under a plan, agreement or arrangement between an
Eligible Employee and the Employer.
(b) "Beneficiary" means, unless otherwise specified by the Participant in
a written election filed with the Committee, the person or persons (if any)
designated by the Participant under the Qualified Plan (or otherwise determined
under the terms of the Qualified Plan if no such designation is made) to receive
his or her benefits under the Qualified Plan in the event of the Participant's
death.
(c) "Board" means the Board of Directors of the Company.
(d) "Cause" means, with respect to a Participant's Termination of
Employment, a Participant's fraud, embezzlement or commission of a crime with
regard to the Company , its Subsidiaries, any Parent or their respective assets.
The Committee shall have sole discretion in determining whether cause exists,
and its determination shall be final, binding and conclusive.
(e) "Change in Control" means any of the following:
(i) the acquisition by any "person" (as such term is used in Section
13(d) or 14(d) of the Exchange Act of 1934, as amended) other than a person who
is a stockholder of the Company on the effective date of the registration
statement filed under the Securities Act of 1933, as amended, relating to the
first public offering of securities of the Company (an "Initial Stockholder") of
thirty percent (30%) or more of the voting power of securities of the Company or
the acquisition by an Initial Stockholder other than an affiliate of Gabrielle
Studio, Inc. (and excluding any such acquisition resulting from a purchase, sale
or transfer of Takihyo Inc. stock by and between any of the current stockholders
of Takihyo Inc.) of an additional five percent (5%) of the voting power of
securities of the Company over and above that owned immediately after the
closing date of the initial public offering of the Company's Common Stock;
excluding, however, the following: (a) any acquisition by the Company or a
Subsidiary or an affiliate of any of the foregoing, or (b) any acquisition by an
employee benefit plan (or related trust) sponsored or maintained by the Company
or a Subsidiary; or
<PAGE>
(ii) any merger or sale of substantially all of the assets of the
Company under circumstances where the holders of twenty percent (20%) or more of
the equity securities of the surviving entity of such transaction were not
holders of the Common Stock of the Company immediately prior to the consummation
of such transaction; or
(iii) any change in the composition of the Board not approved by (a)
a majority of the Board prior to such change and (b) by not less than two (2)
directors of the Company who were directors prior to the time any person who was
not an Initial Stockholder acquired thirty percent (30%) or more of the voting
power of securities of the Company.
(f) "Code" means the Internal Revenue Code of 1986, as amended.
(g) "Committee" means the committee which administers the Plan on behalf
of the Company which: (i) solely with respect to Non-Covered Employees, consists
of the chief executive officer of the Company, the most senior executive from
the human resources department, the most senior executive from the finance
department and any other individual designated by the by the Board; and (ii)
solely with respect to Covered Employees who receive Awards that are intended to
qualify as performance-based compensation within the meaning of Section 162(m),
consists of the Incentive Compensation Subcommittee of the Compensation
Committee or such other committee or subcommittee of the Board appointed by the
Board, provided that such committee shall consist of two (2) or more members of
the Board. To the extent that no committee exists, the Board shall be deemed to
be the Committee.
(h) "Common Stock" means the common stock of the Company, par value $0.01
per share, any Common Stock into which the Common Stock may be converted and any
Common Stock resulting from any reclassification of the Common Stock.
(i) "Company" means Donna Karan International Inc., a Delaware
corporation, and any successor thereto.
(j) "Covered Employee" means an Employee who is, or may become, a "covered
employee" as defined under Section 162(m)(3) of the Code of the Company and is
designated as such by the Committee for purposes of the Plan from time to time.
(k) "Deferral Period" means, with regard to each Deferred Bonus, the
earlier of: (i) the period of deferral selected by the Participant for the
period described in Section 4(a); or (ii) the period beginning on the effective
date of a deferral election and ending on a Participant's Termination of
Employment.
(l) "Deferred Bonus" means the Awards deferred under Section 4(a) hereof
by a Participant.
(m) "Deferred Benefit" means the benefits payable under the Plan which
shall be payable in accordance with Sections 6, 7 and 8 hereof.
2
<PAGE>
(n) "Deferred Compensation Account" means the individual account
established pursuant to Section 5 hereof, to which a Participant's Deferred
Awards are credited.
(o) "Earnings" means, for any Plan Year, earnings and losses on amounts in
the Deferred Compensation Account computed in accordance with Section 6 hereof.
(p) "Eligible Employee" means an Employee who has been designated by an
Employer as a Vice President or above and any other Employee who is a member of
a select group of management or highly compensated employees and who is
designated by the Committee, in its sole discretion, as an Eligible Employee.
(q) "Employee" means any person employed by an Employer excluding any
"leased employee," as defined in Section 414(n) of the Code, any independent
contractor or agent.
(r) "Employer" means the Company, any Parent and any Subsidiary.
(s) "ERISA" means the Employee Retirement Income Security Act of 1974, as
amended.
(t) "Executive Incentive Plan" means the Donna Karan International Inc.
Executive Incentive Plan, as amended from time to time.
(u) "Non-Covered Employee" means a Participant who is not a Covered
Employee.
(v) "Parent" means, other than the Company, (i) any corporation in an
unbroken chain of corporations ending with the Company which owns stock
possessing fifty percent (50%) or more of the total combined voting power of all
classes of stock in one of the other corporations in such chain; or (ii) any
corporation or trade or business (including, without limitation, a partnership
or limited liability company) which controls fifty percent (50%) or more
(whether by ownership of stock, assets or an equivalent ownership interest) of
the Company.
(w) "Participant" means any Eligible Employee who: (i) elects to defer his
or her Award in accordance with the terms hereunder or, subject to the approval
of the Committee, elects to defer a bonus payable under a plan, agreement or
arrangement between the Employer and the Eligible Employee; and (ii) has a
balance in his or her Deferred Compensation Account under the Plan.
(x) "Plan" means the Donna Karan International Inc. Deferred Bonus Plan.
(y) "Plan Year" means the fiscal year of the Company.
(z) "Qualified Plan" means the Donna Karan New York 401(k) Retirement
Plan, as restated effective as of January 1, 1997 and as amended from time to
time thereafter.
3
<PAGE>
(aa) "Subsidiary" means, other than the Company, (i) any corporation in an
unbroken chain of corporations beginning with the Company which owns stock
possessing fifty percent (50%) or more of the total combined voting power of all
classes of stock in one of the other corporations in such chain; (ii) any
corporation or trade or business (including, without limitation, a partnership
or limited liability company) which is controlled fifty percent (50%) or more
(whether by ownership of stock, assets or an equivalent ownership interest) by
the Company or one of its Subsidiaries; or (iii) any other entity, approved by
the Board as a Subsidiary under the Plan, in which the Company or any of its
Subsidiaries has an equity or other ownership interest.
(bb) "Termination of Employment" or "Terminates Employment" means
termination of employment as an Employee of the Company, all Subsidiaries and
all Parents (if any), for any reason whatsoever, including but not limited to
death, retirement, resignation or firing (with or without Cause).
2. Effective Date. The Plan shall become effective as of February 1, 1999.
3. Administration and Interpretation of the Plan. The Plan shall be administered
by the Committee. The Committee shall have the exclusive authority and
responsibility to: (i) interpret the Plan; (ii) approve the designation of
Eligible Employees; (iii) determine when an individual shall cease to be
eligible to make deferrals hereunder; (iv) authorize the payment of all benefits
and expenses of the Plan as they become payable under the Plan; (v) adopt, amend
and rescind rules and regulations relating to the Plan; and (viii) make all
other determinations and take all other actions necessary or desirable for the
Plan's administration including, without limitation, correcting any defect,
supplying any omission or reconciling any inconsistency in the Plan in the
manner and to the extent it shall deem necessary to carry the Plan into effect.
Decisions made by the Committee shall be made by a majority of its members. The
Committee shall have exclusive and final authority in all determinations and
decisions affecting Employees. All decisions of the Committee on any question
concerning the interpretation and administration of the Plan shall be final,
conclusive and binding on all persons. The Committee may rely on information,
and consider recommendations, provided by the Board or the executive officers of
the Company.
4. Election to Defer.
(a) An Eligible Employee may elect in writing, on a form prescribed by the
Company, to defer receipt of all or a specified portion (in increments of ten
(10%) percent, unless specified otherwise by the Company) of his or her Award
payable with respect to a Plan Year. At the time of the deferral election, a
Participant shall also elect a Deferral Period of either three (3) or five (5)
years, which Deferral Period shall begin on day on which the Award to which the
deferral relates would otherwise have been paid. The election to defer an Award
must be made at such time as the Company shall prescribe but in no event later
than the last day of the Plan Year immediately preceding the Plan Year in which
the Award to which the deferral relates is earned. Notwithstanding the
foregoing, in the case of the Plan Year in which the Plan is first adopted, an
election to defer an
4
<PAGE>
Award earned during such Plan Year may be made no later than March 2, 1999 and,
in the case of the Plan Year in which an individual first becomes an Eligible
Employee (other than as a result of the adoption of the Plan), such individual
may make an election to defer an Award earned during such Plan Year within
thirty (30) days of the date of initial eligibility (but only with respect to
compensation for services after such date). A Participant must make a separate
election with respect to each Award he or she chooses to defer. Each election to
defer an Award shall be irrevocable.
(b) Notwithstanding subparagraph (a) above, a Participant may on one (1)
occasion elect to extend any Deferral Period on a form prescribed by the Company
for either three (3) or five (5) additional years, provided that any such
election is made at least one (1) year prior to the expiration of the applicable
Deferred Period. Each election to extend a Deferral Period shall be irrevocable.
(c) An election made pursuant to this Section 4 by a Participant who
ceases to be an Eligible Employee but who does not incur a Termination of
Employment shall remain in effect and such Participant shall not be entitled to
receive a distribution from the Plan solely as a result of such change in
status.
5. Establishment of Deferred Compensation Account.
At the time the Participant's initial Award becomes payable, the Company
shall establish a Deferred Compensation Account for such Participant. The
Deferred Bonus shall be credited to the Participant's Deferred Compensation
Account as of the day on which the Award to which the deferral relates would
otherwise have been paid to the Participant.
6. Additions to Deferred Compensation Account.
(a) The measuring alternatives used for the measurement of Earnings on the
amounts in a Participant's Deferred Compensation Account shall be selected by
each Participant in writing, on a form prescribed by the Committee, from among
the various measuring alternatives offered by the Committee. Each Participant
may change the selection of his or her measuring alternative as of the beginning
of any calendar quarter (or at such other times and in such manner as prescribed
by the Committee, in its sole discretion), subject to such notice and other
administrative procedures as established by the Committee. The Committee shall
credit the Earnings computed under this Section to the balance in each
Participant's Deferred Compensation Account as of the last business day of each
calendar quarter, or such other dates as are selected by the Committee, in its
sole discretion, at a rate equal to the performance of the measuring alternative
selected by the Participant for the calendar quarter (or such other applicable
period) to which such selection relates.
(b) Notwithstanding subsection (a) above, the measuring alternatives used
for the measurement of Earnings on the amounts in a Covered Employee's Deferred
Compensation Account shall be selected in advance by the Committee, in its sole
discretion, from among the various measuring alternatives, provided, however,
that any such measuring alternatives shall be based on
5
<PAGE>
actual predetermined investments (whether or not assets are actually invested
therein) in accordance with Section 162(m) of the Code and the applicable
regulations thereunder. The Company shall provide written notice to each Covered
Employee of the predetermined measuring alternatives actually selected by the
Committee for the measurement of Earnings on amounts in his or her Deferred
Compensation Account.
7. Commencement of Benefits.
(a) Except as otherwise provided in subparagraphs (b), (c) and (d) below,
a Participant's Deferred Bonus and the Earnings attributable thereto shall be
paid from such Participant's Deferred Compensation Account to the Participant
(or, in the case of the Participant's death, his or her Beneficiary) as soon as
administratively practicable after the end of the applicable Deferral Period in
the form set forth in Section 8.
(b) Notwithstanding subparagraph (a), to the extent that the Committee
determines that the Company would not be entitled to a tax deduction pursuant to
Section 162(m) of the Code with respect to the payment of any portion of a
Participant's Deferred Compensation Account, the Committee shall have the
authority to defer payment of all or a portion of such Participant's Deferred
Compensation Account until such time as the Committee determines, in its sole
discretion, that such deduction may be taken.
(c) Notwithstanding subparagraph (a), the Committee may, in its sole
discretion, accelerate payment of all or a portion of the Participant's Deferred
Compensation Account to a Participant in any manner (including, without
limitation, upon his or her Termination of Employment).
(d) Notwithstanding anything herein to the contrary, including, without
limitation, the Deferral Period, in the event of a Change in Control, each
Participant hereunder shall receive his or her entire Deferred Benefit, from the
Plan, equal to the Participant's entire Deferred Compensation Account, payable
in the form of one (1) lump sum, as soon as administratively practicable
following such Change in Control, but in no event later than five (5) days after
the date of such Change in Control.
8. Form of Payment of Benefits.
(a) Unless the Participant elects in writing, on a form prescribed by the
Company, to receive payment of his or her Deferred Bonus and the Earnings
attributable thereto in annual installment payments (not to exceed five (5)
years), a Participant's Deferred Bonus and the Earnings attributable thereto
shall be paid to him or her (or, in the event of death, his or her Beneficiary)
in a lump sum. A Participant's election to receive annual installment payments
must be made at such time as the Company shall prescribe but in any event no
later than one (1) year prior to the expiration of the applicable Deferral
Period. An election by a Participant pursuant to this subparagraph (a) will
apply to all then current and future amounts in such Participant's Deferred
Compensation Account.
6
<PAGE>
Notwithstanding the foregoing, a Participant may change the foregoing election
in the same manner as provided above, provided that no such change shall be
applicable to any Deferred Benefit which becomes payable within the one (1) year
period prior to the expiration of the Deferral Period. The Deferred Compensation
Account of a Participant who elects to receive annual installment payments shall
continue to be credited with Earnings until the final installment is paid.
(b) If a Participant dies prior to receiving his or her total Deferred
Compensation Account, the unpaid portion of such Deferred Compensation Account
shall be paid to the Participant's Beneficiary in a single lump sum, as soon as
administratively practicable following the Participant's death.
9. Forfeiture. Notwithstanding any provision to the contrary hereunder, in the
event that a Participant is terminated by an Employer for Cause, such
Participant forfeits his or her entire Deferred Compensation Account, effective
immediately upon such termination.
10. Claims Procedure.
(a) The Committee shall be responsible for determining all claims for
benefits under the Plan by the Participants or their Beneficiaries. Within
ninety (90) days after receiving a claim (or within up to one hundred eighty
(180) days, if the claimant is notified of the need for additional time,
including notification of the reason for the delay), the Committee shall notify
the Participant or Beneficiary of its decision in writing, giving the reasons
for its decision if adverse to the claimant. If the decision is adverse to the
claimant, the Committee shall advise him or her of the Plan provisions involved,
of any additional information which he or she must provide to perfect his or her
claim and why, and of his or her right to request a review of the decision.
(b) A claimant may request a review of an adverse decision by written
request to the Committee made within sixty (60) days after receipt of the
decision. The claimant, or his or her duly authorized representative, may review
pertinent documents and submit written issues and comments.
(c) Within sixty (60) days after receiving a request for review (or up to
one hundred twenty (120) days after such receipt if the Participant is notified
of the delay and the reasons therefor), the Committee shall notify the claimant
in writing of (i) its decision, (ii) the reasons therefore, and (iii) the Plan
provisions upon which it is based.
(d) The Committee may at any time alter the claims procedure set forth
above, so long as the revised claims procedure complies with the ERISA, and the
regulations issued thereunder.
(e) The Committee shall have the full power and authority to interpret,
construe and administer the Plan in its sole discretion based on the provisions
of the Plan and to decide any questions and settle all controversies that may
arise in connection with the Plan. The Committee's interpretations and
construction thereof, and actions thereunder, made in the sole discretion of the
Committee, including any valuation of the Deferred Benefit, any determination
under this
7
<PAGE>
Section 10, or the amount of the payment to be made hereunder, shall be final,
binding and conclusive on all persons. No member of the Committee shall be
liable to any person for any action taken or omitted in connection with the
interpretation and administration of the Plan.
(f) The Committee shall determine, subject to the provisions of the Plan
(i) the additional Employees who shall participate in the Plan from time to time
and (ii) when an Employee shall cease to be a Participant.
11. Construction of Plan.
(a) The Plan is "unfunded" and any Deferred Benefit payable hereunder
shall be paid by the Company out of its general assets. Participants and their
designated Beneficiaries shall not have any interest in any specific asset of
the Company as a result of the Plan. Nothing contained in the Plan and no action
taken pursuant to the provisions of the Plan shall create or be construed to
create a trust of any kind, or a fiduciary relationship between the Company and
the Participants, their designated Beneficiaries or any other person. Any funds
which may be invested under the provisions of the Plan shall continue for all
purposes to be part of the general funds of the Company and no person other than
the Company shall by virtue of the provisions of the Plan have any interest in
such funds. To the extent that any person acquires a right to receive payments
from the Company under the Plan, such right shall be no greater than the right
of any unsecured general creditor of the Company. The Company, in its sole
discretion, may establish a "rabbi trust" or invest in group annuities or other
investment products to pay Deferred Benefits hereunder.
(b) All expenses incurred in administering the Plan shall be paid by the
Company.
12. Minors and Incompetents. If the Committee shall find that any person to whom
payment is payable under the Plan is unable to care for his or her affairs
because of illness or accident, or is a minor, any payment due (unless a prior
claim therefore shall have been made by a duly appointed guardian, committee or
other legal representative) may be paid to the spouse, a child, parent, or
brother or sister, or to any person deemed by the Committee to have incurred
expense for such person otherwise entitled to payment, in such manner and
proportions as the Committee may determine it its sole discretion. Any such
payment shall be a complete discharge of the liabilities of the Company, the
Committee and the Board under the Plan.
13. Limitation of Rights. This Plan is not an agreement of employment. Nothing
contained herein shall be construed as conferring upon an Employee the right to
continue in the employ of any Employer as an Employee on or above a Vice
President level or in any other capacity or to interfere with the Employer's
right to discharge him or her at any time for any reason whatsoever.
14. Payment Not Salary. Any Deferred Benefit payable under the Plan shall not be
deemed salary or other compensation to the Employee for the purposes of
computing benefits to which he
8
<PAGE>
or she may be entitled under any pension plan or other arrangement of any
Employer maintained for the benefit of its Employees.
15. Severability. In case any provision of the Plan shall be illegal or invalid
for any reason, said illegality or invalidity shall not affect the remaining
parts hereof, but the Plan shall be construed and enforced as if such illegal
and invalid provision never existed.
16. Withholding. The Company shall have the right to make such provisions as it
deems necessary or appropriate to satisfy any obligations it may have to
withhold federal, state or local income or other taxes incurred by reason of
payments or accruals pursuant to the Plan.
17. Assignment. The Plan shall be binding upon and inure to the benefit of the
Company, its successors and assigns and the Participants and their heirs,
executors, administrators and legal representatives. In the event that the
Company sells all or substantially all of the assets of its business and the
acquiror of such assets assumes the obligations hereunder, the Company shall be
released from any liability imposed herein and shall have no obligation to
provide any benefits payable hereunder.
18. Non-Alienation of Benefits. The benefits payable under the Plan shall not be
subject to alienation, transfer, assignment, garnishment, execution or levy of
any kind, and any attempt to cause any benefits to be so subjected shall not be
recognized.
19. Governing Law. To the extent legally required, the Code and ERISA shall
govern the Plan and, if any provision hereof is in violation of any applicable
requirement thereof, the Company reserves the right to retroactively amend the
Plan to comply therewith. To the extent not governed by the Code and ERISA, the
Plan shall be governed by the laws of the State of New York.
20. Amendment or Termination of Plan. The Board (or a duly authorized committee
thereof) may, in its sole and absolute discretion, amend the Plan from time to
time and at any time in such manner as it deems appropriate or desirable, and
the Board (or a duly authorized committee thereof) may, in its sole and absolute
discretion, terminate the Plan for any reason from time to time and at any time
in such manner as it deems appropriate or desirable. No amendment or termination
shall reduce or terminate the then vested benefit of any Participant or
Beneficiary. Upon an amendment or termination, the Company shall not be required
to distribute a Participant's Deferred Benefit prior to the Participant's
Termination of Employment, but, in the event of a termination of the Plan, may
do so in a lump sum at the discretion of the Company.
9
<PAGE>
21. Non-Exclusivity. The adoption of the Plan by the Company shall not be
construed as creating any limitations on the power of the Company to adopt such
other supplemental retirement income arrangements as it deems desirable, and
such arrangements may be either generally applicable or limited in application.
22. Headings and Captions. The headings and captions herein are provided for
reference and convenience only. They shall not be considered part of the Plan
and shall not be employed in the construction of the Plan.
23. Gender and Number. Whenever used in the Plan, the masculine shall be deemed
to include the feminine and the singular shall be deemed to include the plural,
unless the context clearly indicates otherwise.
IN WITNESS WHEREOF, the Company has caused the Plan to be executed as of the 1st
day of February, 1999.
DONNA KARAN INTERNATIONAL INC.
By: /s/ Joseph Parsons
------------------------------------
Name: Joseph Parsons
Title: Executive Vice President
10
<PAGE>
Exhibit 10.20
EXECUTION COPY
AMENDED AND RESTATED SECOND AMENDMENT
Dated as of October 30, 1998
This AMENDED AND RESTATED SECOND AMENDMENT (the "Second Amendment")
among The Donna Karan Company, a New York general partnership, The Donna Karan
Company Store, G.P., a New York general partnership, Donna Karan Studio, a New
York general partnership, and DK Footwear Partners, a New York general
partnership (collectively, the "Borrowers"), the financial institutions from
time to time parties thereto as lenders (the "Lenders"), the financial
institutions from time to time parties thereto as issuing banks (the "Issuing
Banks"), Citibank, N.A., in its capacity as administration agent for the Lenders
and the Issuing Banks (the "Administrative Agent"), The Chase Manhattan Bank and
Nationsbank, N.A., in their capacity as co-agents (the "Co-Agents"). This Second
Amendment amends and restates the Second Amendment dated as of April 30, 1998
among the Borrowers, the Lenders, the Issuing Banks, the Administrative Agent
and the Co-Agents.
PRELIMINARY STATEMENTS:
(1) The Borrowers, the Lenders, the Issuing Banks, the Co-Agents and
the Administrative Agent have entered into a Second Amended and Restated Credit
Agreement dated as of January 29, 1998, as amended from time to time (as so
amended, the "Credit Agreement"). Unless otherwise defined herein, the terms
defined in the Credit Agreement shall be used herein as therein defined.
(2) The Borrowers and the Lenders have agreed to amend the Credit
Agreement as hereinafter set forth.
SECTION 1. Amendment to Credit Agreement. The Credit Agreement is,
effective as of the date hereof and subject to the satisfaction of the
conditions precedent set forth in Section 2 hereof, hereby amended as follows:
(a) The definition of "Applicable Fixed Rate Margin" set forth in
Section 1.01 of the Credit Agreement is amended by deleting such
definition in its entirety and substituting therefor the following:
"'Applicable Fixed Rate Margin' means a rate equal to 2.50% per
annum until the day that the Borrowers deliver the EBITDA
certificate pursuant to Section 7.01(f). Thereafter, such rate will
fluctuate on such date and on the first day of each subsequent
fiscal quarter based upon the Fixed Charge Coverage Ratio for the
preceding twelve-month period, calculated as of the last day of such
preceding twelve-month period, as set forth below:
If the Fixed Charge Applicable Fixed
Coverage Ratio is: Rate Margin
------------------ -----------
Less than 4.00 2.50%
Greater than or equal to
4.00 but less than 5.00 2.25%
<PAGE>
Greater than or equal to 5.00 2.00%"
(b) The definition of "Applicable Floating Rate Margin" set forth in
Section 1.01 of the Credit Agreement is amended by deleting such
definition in its entirety and substituting therefor the following:
"'Applicable Floating Rate Margin' means a rate equal to 1.50% per
annum until the day that the Borrowers deliver the EBITDA
certificate pursuant to Section 7.01(f). Thereafter, such rate will
fluctuate on such date and on the first day of each subsequent
fiscal quarter based upon the Fixed Charge Coverage Ratio for the
preceding twelve-month period, calculated as of the last day of such
preceding twelve-month period, as set forth below:
If the Fixed Charge Applicable Floating
Coverage Ratio is: Rate Margin
------------------ -----------
Less than 4.00 1.50%
Greater than or equal to
4.00 but less than 5.00 1.25%
Greater than or equal to 5.00 1.00%"
(c) The definition of "Investment" in Section 1.01 of the Credit
Agreement is amended by deleting the period at the end thereof and adding
in substitution therefor the following:
"; provided, however, that the subordinated indebtedness permitted
under Section 9.01(x) issued in connection with the UK Acquisition
shall be excluded from the calculation of Investments."
(d) The definition of "Special Advance" set forth in Section 1.01 of
the Credit Agreement is amended by deleting such definition in its
entirety and substituting therefor the following:
"'Special Advance Amount' means, at any time during July 1999 and
August 1999, the lesser of (a) the amount which equals the product
of ninety-five percent (95%) of Eligible Finished Goods Inventory
and Eligible Raw Materials minus the Borrowing Base Inventory
Availability and (b) $10,000,000 during July 1999 and $10,000,000
during August 1999; provided, however, (i) upon receipt of Net Cash
Proceeds from one or more Asset Sales in an amount of up to
$10,000,000 in the aggregate or (ii) if the Commitments are
permanently reduced pursuant to Section 3.01, each such Special
Advance Amount shall be reduced, on a dollar for dollar basis, at
such time and for all times thereafter, by the amount of such Net
Cash Proceeds or such permanent reduction, as the case may be."
(e) Section 1.01 of the Credit Agreement is amended by adding a new
definition after the term "Type" and before the term "Uniform Commercial
Code" to read as follows:
"'UK Acquisition' means the acquisition by one of the Borrowers or
one of its direct or indirect wholly-owned Subsidiaries of the Donna
Karan and DKNY United Kingdom
2
<PAGE>
retail operations from affiliates of B.S. Ong/Club 21 for an upfront
cash payment of up to $9,200,000 and the issuance of subordinated
debt in the principal amount of up to $12,000,000, which
subordinated debt shall be on terms and conditions satisfactory to
the Administrative Agent."
(f) Section 7.01 of the Credit Agreement is amended by adding a new
subsection (f) at the end thereof to read as follows:
"(f) EBITDA Report. On or prior to January 31, 2000, a certificate,
signed by Donna Karan International's chief financial officer or
controller, setting forth calculations (with such specificity as the
Requisite Lenders may reasonably request) for the determination of
EBITDA for the Fiscal Year 1999 and compliance with Section 10.06."
(g) Section 9.01 of the Credit Agreement is amended by adding at the
end thereof a new clause (x) to read as follows:
"(x) subordinated indebtedness issued by one of the Borrowers or one
of its direct or indirect wholly-owned Subsidiaries in connection
with the UK Acquisition, which subordinated indebtedness shall be
evidenced by a non-amortizing subordinated note in the principal
amount of up to $12,000,000 with a maturity date no earlier than
January 20, 2002 and have terms satisfactory to the Administrative
Agent."
(h) Section 9.03 of the Credit Agreement is amended by adding at the
end thereof a new clause (viii) to read as follows:
"(viii)Lien on the assets acquired in connection with the UK
Acquisition or a Lien on a wholly-owned Subsidiary of a Borrower (so
long as such Subsidiary holds nothing but the assets acquired in
connection with the UK Acquisition), securing the subordinated
indebtedness permitted under Section 9.01(x), provided that an
intercreditor agreement, in form and substance satisfactory to the
Administrative Agent, is entered into by the holder of such Lien and
subordinated indebtedness."
(i) Section 9.14 of the Credit Agreement is amended by deleting such
Section in its entirety and substituting therefor the following:
"9.14. Capital Expenditures. No member of the Donna Karan Group
shall make or incur Capital Expenditures (a) during Fiscal Year 1998
if the aggregate amount of Capital Expenditures for the Donna Karan
Group plus the aggregate amount of the Investments made pursuant to
Section 9.04(iv) plus the $9,200,000 for the UK Acquisition would
exceed Twenty-Seven Million Dollars ($27,000,000) for such Fiscal
Year, (b) during Fiscal Year 1999 if the aggregate amount of Capital
Expenditures for the Donna Karan Group plus the aggregate amount of
the Investments made pursuant to Section 9.04(iv) would exceed
Seventeen Million Two Hundred Thousand Dollars ($17,200,000) for
such Fiscal Year, and (c) during Fiscal Year 2000 if the aggregate
amount of Capital Expenditures for the Donna Karan Group plus the
aggregate amount of the Investments made pursuant to Section
9.04(iv) would exceed Twenty Million Five Hundred Thousand Dollars
($20,500,000) for such Fiscal Year; provided, however, that the
Donna Karan Group may carry forward from one Fiscal Year to another
Fiscal Year any Capital Expenditures permitted hereunder, but not
made or incurred in such Fiscal Year, in an amount of up to Five
Million Dollars ($5,000,000); provided, further, that cost of
3
<PAGE>
Equipment purchased to replace Equipment damaged or destroyed shall
not be included in the calculations for Capital Expenditures under
this Section 9.14 to the extent of the amount of insurance proceeds
received and applied against the Obligations."
(j) Section 10.01 of the Credit Agreement is amended by deleting
such Section in its entirety and substituting therefor the following:
"10.01. Minimum Adjusted Net Worth. The Adjusted Net Worth of Donna
Karan International and its Subsidiaries on a consolidated basis at
the end of each fiscal quarter set forth below shall not be less
than the amount set forth opposite such quarter:
Fiscal Quarter Minimum Amount
-------------- --------------
First Fiscal Quarter 1998 $100,000,000
Second Fiscal Quarter 1998 $ 95,000,000
Third Fiscal Quarter 1998 $100,000,000
Fourth Fiscal Quarter 1998 $115,000,000
First Fiscal Quarter 1999 $115,000,000
Second Fiscal Quarter 1999 $115,000,000
Third Fiscal Quarter 1999 $120,000,000
Fourth Fiscal Quarter 1999 $120,000,000
First Fiscal Quarter 2000 $120,000,000
Second Fiscal Quarter 2000 $120,000,000
Third Fiscal Quarter 2000 $125,000,000
Fourth Fiscal Quarter 2000 $125,000,000
(k) Section 10.02 of the Credit Agreement is amended by deleting
such Section in its entirety and substituting therefor the following:
"10.02. Minimum Interest Coverage Ratio. The Interest Coverage Ratio
of Donna Karan International and its Subsidiaries on a consolidated
basis at the end of each fiscal quarter set forth below shall not be
less than the ratio set forth opposite such quarter:
Fiscal Quarter Ratio
-------------- -----
Fourth Fiscal Quarter 1998 3.00 to 1.0
First Fiscal Quarter 1999 3.00 to 1.0
Second Fiscal Quarter 1999 3.00 to 1.0
Third Fiscal Quarter 1999 3.00 to 1.0
Fourth Fiscal Quarter 1999 4.50 to 1.0
First Fiscal Quarter 2000 4.50 to 1.0
Second Fiscal Quarter 2000 5.00 to 1.0
Third Fiscal Quarter 2000 5.00 to 1.0
Fourth Fiscal Quarter 2000 5.00 to 1.0"
(l) Section 10.03 of the Credit Agreement is amended by deleting
such Section in its entirety and substituting therefor the following:
4
<PAGE>
"10.03. Minimum Fixed Charge Coverage Ratio. The Fixed Charge
Coverage Ratio of Donna Karan International and its Subsidiaries on
a consolidated basis at the end of each fiscal quarter set forth
below shall not be less than the ratio set forth opposite such
quarter:
Fiscal Quarter Ratio
-------------- -----
Fourth Fiscal Quarter 1998 10.50 to 1.0
Fourth Fiscal Quarter 1999 2.50 to 1.0
First Fiscal Quarter 2000 3.00 to 1.0
Second Fiscal Quarter 2000 3.00 to 1.0
Third Fiscal Quarter 2000 3.00 to 1.0
Fourth Fiscal Quarter 2000 3.00 to 1.0"
(m) Section 10.04 of the Credit Agreement is amended by deleting
such Section in its entirety and substituting therefor the following:
"10.04. Minimum Working Capital Ratio. The Working Capital Ratio of
Donna Karan International and its Subsidiaries on a consolidated
basis at the end of each fiscal quarter set forth below shall not be
less than the ratio set forth opposite such quarter:
Fiscal Quarter Ratio
-------------- -----
Fourth Fiscal Quarter 1999 1.40 to 1.0
First Fiscal Quarter 2000 1.40 to 1.0
Second Fiscal Quarter 2000 1.40 to 1.0
Third Fiscal Quarter 2000 1.40 to 1.0
Fourth Fiscal Quarter 2000 1.40 to 1.0"
(n) Section 10.05 of the Credit Agreement is amended by deleting
such Section in its entirety and substituting therefor the following:
"10.05. Maximum Leverage Ratio. The Leverage Ratio of Donna Karan
International and its Subsidiaries on a consolidated basis at the
end of each fiscal quarter set forth below shall not be greater than
the ratio set forth opposite such quarter:
Fiscal Quarter Ratio
-------------- -----
Fourth Fiscal Quarter 1998 2.00 to 1.0
First Fiscal Quarter 1999 2.00 to 1.0
Second Fiscal Quarter 1999 2.00 to 1.0
Third Fiscal Quarter 1999 3.00 to 1.0
Fourth Fiscal Quarter 1999 2.00 to 1.0
First Fiscal Quarter 2000 2.00 to 1.0
Second Fiscal Quarter 2000 2.00 to 1.0
Third Fiscal Quarter 2000 2.00 to 1.0
Fourth Fiscal Quarter 2000 2.00 to 1.0"
(o) Article X of the Credit Agreement is amended by adding a new
Section at the end thereof to read as follows:
5
<PAGE>
"10.06. EBITDA. The EBITDA for Donna Karan International and its
Subsidiaries on a consolidated basis at the end of the fourth fiscal
quarter of 1999 shall be at least $30,000,000."
SECTION 2. Conditions of Effectiveness. This Second Amendment shall
become effective when the Administrative Agent shall have received (i)
counterparts of this Second Amendment executed by the Borrowers and the
Requisite Lenders and (ii) the documents set forth on Schedule I attached
hereto.
SECTION 3. Representations and Warranties of the Borrowers. Each
Borrower represents and warrants as follows:
(a) After giving effect to this Second Amendment, all of the
representations and warranties contained in Section 6.01 of the Credit
Agreement and in the other Loan Documents shall be true in all material
respects.
(b) After giving effect to this Second Amendment, no Default or
Event of Default shall have occurred and be continuing.
(c) As of the date hereof, no material adverse change shall have
occurred in the condition (financial or otherwise), performance,
properties, operations or prospects of the Borrowers or Donna Karan
International and its Subsidiaries, taken as a whole, since December 29,
1996 except as publicly disclosed prior to the date hereof.
SECTION 4. Reference to and Effect on the Loan Documents. (a) Upon
the effectiveness of this Second Amendment, on and after the date hereof each
reference in the Credit Agreement to "this Agreement", "hereunder", "hereof" or
words of like import referring to the Credit Agreement, and each reference in
the other Loan Documents to "the Credit Agreement", "thereunder", "thereof" or
words of like import referring to the Credit Agreement, shall mean and be a
reference to the Credit Agreement as amended hereby.
(b) Except as specifically amended above, the Credit Agreement and
all other Loan Documents, are and shall continue to be in full force and effect
and are hereby in all respects ratified and confirmed. Without limiting the
generality of the foregoing, the Loan Documents and all of the Collateral
described therein do and shall continue to secure the payment of all obligations
of the Borrowers under the Credit Agreement, the Notes and the other Loan
Documents, in each case as amended hereby.
(c) The execution, delivery and effectiveness of this Second
Amendment shall not, except as expressly provided herein, operate as a waiver of
any right, power or remedy of any Lender or the Agent under any of the Loan
Documents, nor constitute a waiver of any provision of any of the Loan
Documents.
SECTION 5. Execution in Counterparts. This Second Amendment may be
executed in any number of counterparts and by different parties hereto in
separate counterparts, each of which when so executed and delivered shall be
deemed to be an original and all of which taken together shall constitute but
one and the same agreement.
SECTION 6. Governing Law. This Second Amendment shall be governed
by, and construed in accordance with, the laws of the State of New York.
6
<PAGE>
IN WITNESS WHEREOF, the parties hereto have caused this Second
Amendment to be executed as of the date first above written.
THE DONNA KARAN COMPANY
By: Donna Karan International Inc., a general partner
By: /s/ JOSEPH PARSONS
---------------------------------------------
Title: Executive Vice President
--------------------------------------
DONNA KARAN STUDIO
By: Donna Karan International Inc., a general partner
By: /s/ JOSEPH PARSONS
---------------------------------------------
Title: Executive Vice President
--------------------------------------
THE DONNA KARAN COMPANY STORE, G.P.
By: Donna Karan International Inc., a general partner
By: /s/ JOSEPH PARSONS
---------------------------------------------
Title: Executive Vice President
--------------------------------------
DK FOOTWEAR PARTNERS
By: Donna Karan International Inc., a general partner
By: /s/ JOSEPH PARSONS
---------------------------------------------
Title: Executive Vice President
--------------------------------------
CITIBANK, N.A., as Administrative Agent and Lender
By: /s/
---------------------------------------------
Vice President
7
<PAGE>
THE CHASE MANHATTAN BANK, as Co-Agent and Lender
By: /s/
-------------------------------------------------
Title:
NATIONSBANK N.A., as Co-Agent and Lender
By: /s/
-------------------------------------------------
Title:
PNC BANK NATIONAL ASSOCIATION
By: /s/
-------------------------------------------------
Title:
THE CIT GROUP/COMMERCIAL SERVICES, INC.
By: /s/
-------------------------------------------------
Title:
NATIONAL CITY COMMERCIAL FINANCE, INC.
By: /s/
-------------------------------------------------
Title:
PPM AMERICA, INC.
By: /s/
-------------------------------------------------
Title:
8
<PAGE>
Exhibit 10.21
December 18, 1998
Mr. Lee Goldenberg
63 Brush Hill Road
Kinnelon, New Jersey 07405
Dear Lee:
On behalf of The Donna Karan Company (the "Company"), a New York general
partnership, I am pleased to confirm your employment with the Company on the
terms set forth in this letter agreement. If you agree with the following terms,
please sign a copy of this letter agreement and return it to me upon our receipt
of which it will become a binding contract.
1. Duties. You (the "Executive") shall be employed as Executive Vice President -
Worldwide Operations of the Company or in a substantially equivalent-level
position. You shall perform such duties and services commensurate with your
position, including assisting in the day-to-day business operations of the
Company and its Affiliates (as hereinafter defined), and such other duties and
services commensurate with your position as are from time to time assigned to
you by the Chief Executive Officer of the Company or such other senior officers
or executives as the Chief Executive Officer may designate. Executive shall
devote Executive's full working time and efforts to the Company's business and
to the performance of Executive's duties under this Agreement. Executive shall
be available to travel as the needs of the business require, which travel shall
be in accordance with the Company's travel policy applicable to similarly
situated employees of the Company and its Affiliates. As used herein,
"Affiliates" shall mean all companies or entities which the Company directly or
indirectly controls, is controlled by, or is under common control with.
2. Term. The Company agrees to employ Executive and Executive agrees to serve,
on the terms and conditions of this Agreement, for a period commencing as of the
date hereof and ending on December 31, 2000, unless earlier terminated pursuant
to the terms hereof (the "Initial Employment Term"). The Initial Employment Term
shall be extended for successive one-year terms (each, an "Additional Employment
Term") unless the Company or the Executive gives written notice of non-extension
at least 90 days prior to the end of the Initial Employment Term or the then
Additional Employment Term, unless earlier terminated pursuant to the terms
hereof. Additionally, Executive shall have the right to terminate Executive's
employment at any time upon 60 days' prior
<PAGE>
written notice to the Chief Executive Officer of the Company. During the term
Executive is employed hereunder, the Initial Employment Term and the Additional
Employment Terms, if applicable, collectively shall be referred to as the
"Employment Term."
3. Compensation.
(a) Base Salary. For Executive's services under this Agreement, the
Company shall pay Executive a minimum annual base salary of $350,000 payable in
accordance with the Company's customary payroll practices from time to time in
effect. The Company will review Executive's compensation annually and may, in
its sole discretion, increase Executive's base salary.
(b) Annual Cash Bonuses.
i. During the Employment Term, Executive shall be entitled to a cash
bonus (the "Bonus") with a target of between 50% and 100% of Executive's annual
base salary, in accordance with the terms and provisions of the Company's then
existing executive bonus plan (the "Bonus Plan"). The Bonus shall be determined
annually at the same time bonuses are determined for similarly situated
employees of the Company, in accordance with the Bonus Plan, and shall be
payable at the same time and in the same manner as bonuses are paid to other
similarly situated employees of the Company.
ii. For fiscal 1998, fifty percent (50%) of the Bonus shall be based
on the corporate performance of Donna Karan International Inc. ("DKI"), and
fifty percent (50%) of the Bonus shall be based upon the divisional performance
of the division for which Executive is then responsible. A copy of the 1998
Executive Bonus Program previously has been furnished to you.
iii. During the Employment Term, the targets and performance goals,
including but not limited to the extent to which they will be based on corporate
performance, divisional performance, or other criteria, shall be established
annually by the Company in accordance with the Bonus Plan.
(c) Stock Options. Commencing in 1998 and for each fiscal year during the
term hereof, Executive will be eligible to receive annual grants of options, in
accordance with the Company's then current annual option grant program. A copy
of the 1998 Option Grant Program previously has been furnished to you.
(d) Deferred Compensation Program. Commencing in 1998 and for each fiscal
year during the term hereof, Executive also shall be eligible to participate in
a deferred compensation program in accordance with the Company's then current
deferred compensation program. A copy of the 1998 Wealth Accumulation Program
previously has been furnished to you.
(e) Participation in Benefit Plans and other Benefits. Executive also
shall be entitled to (i) participate in all other Executive benefit plans
generally available to similarly situated employees of the Company, subject to
Executive's eligibility therefor, (ii) a car allowance of $1,200 per month, and
(iii) four weeks of paid vacation per annum.
2
<PAGE>
(f) Successor Executive Compensation Programs. The Company hereby reserves
the right from time to time to amend, alter, or rescind the executive bonus,
annual option, and deferred compensation programs and plans referred to in
Sections 3(b), 3(c), and 3(d); provided, however, that the Company agrees that
during the term of employment hereunder Executive shall be entitled to
participate in executive compensation programs of a similar type, subject to the
approval of such programs and plans by the applicable compensation committee of
the Board of Directors and legal limitations.
4. Severance Payments.
(a) Severance Payments. The Company may terminate Executive's employment
at any time with or without Cause (as defined below). If during the Employment
Term, Executive's employment with the Company is terminated by the Company
without Cause (which right the Company shall have at any time during the
Employment Term) and other than as a result of death, notice of non-extension of
Employment Term or as provided in Section 5 of this Agreement, upon Executive's
execution and effectiveness of a general release of claims which is acceptable
in form and substance to the Company, the Company shall pay to Executive an
amount equal to Executive's then current annual base salary (the "Severance
Amount"). The Severance Amount shall be paid in equal installments over a
12-month period in accordance with the Company's customary payroll practices
(but not as an employee). Executive agrees to accept the Severance Amount, as
may be reduced below, in full settlement of all claims against the Company and
its Affiliates and their respective officers, directors, executives and
employees. The Severance Amount payable to Executive under this Section 4(a)
shall be reduced by any compensation actually received, whether or not during
the period, by Executive as a result of Executive's employment or retention by
another employer as an employee or in a consulting capacity for services
rendered during the period. Executive shall advise the Company promptly of any
such employment and/or consulting fees received by Executive and rebate any
amount due to the Company. No Severance Amount shall be payable by reason of
termination due to the death or disability of the Executive, termination for
Cause, or non-extension of the Employment Term in accordance with Section 2 of
this Agreement.
(b) Termination of Severance Payments. Notwithstanding Section 4(a) above,
if Executive violates the provisions of Section 6 of this Agreement after
Executive's termination of employment by the Company, Executive shall have no
further right to the payment of any Severance Amount payable thereafter under
this Agreement.
(c) "Cause". As used in this Agreement, "Cause" shall mean (i) a
continuous or substantial dereliction of duties which continues after written
notice by the Company, (ii) failure to promptly follow the written direction of
the Chief Executive Officer or such other senior officers or executives as the
Chief Executive Officer may designate, (iii) dishonesty, fraud or breach of
fiduciary duty with respect to the Company or Executive's duties, (iv) gross
negligence in the performance of Executive's duties, (v) willful misconduct with
regard to the Company, its business, assets or employees which in the good
faith, sole discretion of the Chief Executive Officer is material, (vi)
conviction of, or pleading nolo contendre to, a felony or any other crime
involving fraud, dishonesty or moral turpitude, or (vii) any other material
breach of the terms of this Agreement or the Company's policy manuals as in
effect from time to time which breach continues more than 30 days after written
notice from the Company to the Executive setting forth the conduct
3
<PAGE>
and the provisions of this Agreement or policies alleged to have been breached.
For purposes of this Section 4(c), "Company" shall include Affiliates and
licensees of the Company.
(d) Salary and Accrued Benefits. If Executive's employment with the
Company is terminated for any reason, including death, the Company shall pay to
Executive (or his estate) any unpaid base salary and other accrued benefits to
which Executive is entitled on the date of termination under the terms of the
Company's compensation plans.
5. Disability, Illness, Etc. If by reason of Executive's physical or mental
incapacity Executive is unable to perform Executive's material duties for a
period of more than 90 days, whether or not consecutive, in any 365-day period,
the compensation otherwise payable to Executive during such period shall be
discontinued for any portion of such period in excess of 90 days, and the
Company, at its option, may at any time after such 90-day period while Executive
is incapacitated terminate this Agreement upon written notice to Executive. In
the event of such termination, Executive will not be entitled to any Severance
Amount.
6. Additional Provisions.
(a) Confidential Information. All confidential information relating to the
business of Company or its Affiliates or their respective officers, directors,
executives or employees, or of any customer, supplier, or licensee of the
Company or its Affiliates ("Confidential Information") which Executive now or
hereafter possesses as a result of his or her employment by the Company or its
Affiliates shall not be furnished, published, disclosed, or made accessible by
Executive to any other person, firm, or corporation either during or after the
termination of Executive's employment or used by Executive except while employed
hereunder in the regular course of business and for the benefit of the Company
and its Affiliates, in each case without the prior written permission of the
Company. Executive shall return all tangible evidence of such confidential
information to the Company prior to or on the date of termination of Executive's
employment. As used in this Section 6(a), "Confidential Information" shall
exclude that information which is or comes into the public domain through no
fault of Executive or which Executive obtains after the termination of
Executive's employment by the Company from a third party who to the knowledge of
Executive has the right to disclose such information. The foregoing shall not
prohibit compliance with legal process provided that Executive gives the Company
prompt written notice thereof and cooperates with the Company in its efforts to
obtain a protective order for the Confidential Information.
(b) Non-Competition and Non-Solicitation.
i. In view of the unique and valuable services it is expected
Executive has rendered and will continue to render to the Company and its
Affiliates, the relationship Executive has and will have with the customers of
the Company and its Affiliates, Executive's knowledge of the customers, trade
secrets, and other proprietary information relating to the business of the
Company and its Affiliates and their customers, suppliers and licensees and
similar knowledge regarding the Company and its Affiliates which Executive has
obtained and will continue to obtain, and in consideration of the rights granted
to Executive under this Agreement, Executive agrees that Executive will not
during the period Executive is employed by the Company or any of its Affiliates
Participate In (as herein defined) any other business or organization, whether
or not such business
4
<PAGE>
or organization now is or shall then be competing with or of a nature similar to
the business of the Company or any of its Affiliates.
ii. Executive further agrees that while Executive is employed by the
Company or any of its Affiliates and thereafter (notwithstanding the reason or
basis for the termination of Executive's employment with the Company or its
Affiliates) for a period of 24 months, Executive shall not, directly or
indirectly, hire, engage or retain, or aid or assist any other person or entity
to hire, engage, or retain (A) (x) any designers of the Company or its
Affiliates, (y) any person who held the position of Director or any equivalent
or more senior position at the Company or any of its Affiliates, or (z) any
person who acted as one of the Company's or its Affiliates' outside consultants,
in each instance at the time of termination of Executive's employment or within
the six-month period prior thereto, (B) any person employed by a licensee of the
Company or its Affiliates who worked on the Donna Karan or DKNY brand at the
time of termination of Executive's employment or within the six-month period
prior thereto, or (C) any person or entity that supplied piece goods or designs
to, or that manufactured or sold apparel to, the Company or any of its
Affiliates during the six-month period prior to such termination.
(c) "Participate In." For purposes of this Section 6, the term
"Participate In" shall mean: "directly or indirectly, for Executive's own
benefit or for, with, or through any other person, firm, or corporation, own,
manage, operate, control, loan money to, or participate in the ownership,
management, operation, or control of, or be connected as a director, officer,
executive, partner, consultant, agent, independent contractor, or otherwise
with, or acquiesce in the use of Executive's name in."
(d) Non- Disparagement. During the period of Executive's employment and
thereafter, the Executive agrees that he shall not disparage the Company or its
Affiliates or their respective past or present officers, directors, or
executives, and shall not publish or make any statement which is reasonably
forseeable to become public with respect to the Company or its Affiliates, or
any of their respective past or present directors, officers, or executives.
(e) Copyrights, Inventions, etc. Any interest in patents, patent
applications, inventions, technological innovations, copyrights, copyrightable
works, developments, discoveries, designs, concepts, ideas and processes ("Such
Inventions") which Executive during the period he is employed by the Company or
any of its Affiliates under this Agreement or otherwise may own or develop
either individually or with others relating to the fields in which any of the
Company or its Affiliates may then be engaged or contemplates being engaged
shall belong to the Company or any of its Affiliates and forthwith upon request
of the Company, Executive shall execute all such assignments and other documents
(including applications for patents, copyrights, trademarks and assignments
thereof) and take all such other action as the Company may reasonably request in
order to assign to and vest in the Company or its Affiliates all Executive's
right, title, and interest (including, but not limited to, waivers to any moral
rights) in and to Such Inventions, throughout the world free and clear of liens,
mortgages, security interests, pledges, charges and encumbrances. The Employee
acknowledges that all copyrightable works created by the Executive as an
employee will be " works made for hire" on behalf of the Company and that the
Company shall have all rights therein in perpetuity throughout the world. The
Executive hereby appoints any officer of the Company as the Executive's duly
authorized attorney-in-fact to execute, file, prosecute and protect Such
Inventions before any government agency, court or authority. If for any reason
the Company does not own any Such Invention, the DK Companies shall have the
exclusive and royalty free right to use in their
5
<PAGE>
businesses, and to make products therefrom, Such Invention as well as any
improvements or know-how related thereto.
(f) Equitable Remedies; Survival. Executive acknowledges that a breach or
threatened breach of any of the provisions of this Section 6 will cause
irreparable harm and that any remedy at law may be inadequate and that
accordingly the Company, in addition to its remedies at law, shall be entitled
to seek an injunction or specific performance or any other mode of equitable
relief without the necessity of showing any actual damage, posting a bond or
furnishing other security. The provisions of this Section 6 shall survive the
termination of this Agreement.
7. Expenses. Executive shall be entitled to reimbursement for all reasonable
out-of-pocket expenses incurred in accordance with the Company's then existing
policies, upon submission and approval of written statements and bills in
accordance with the Company's applicable expense reimbursement and related
policies and procedures as in effect from time to time. Notwithstanding the
foregoing, after notice of termination of employment by the Company or
Executive, Executive shall be entitled to reimbursement of such expenses
incurred after the date of such notice of termination only if approved in
advance by the Chief Executive Officer of the Company.
8. Arbitration. Any dispute arising out of, or in any manner relating to, this
Agreement or the termination of Executive's employment with the Company, other
than injunctive relief pursuant to Section 6(f ), shall be resolved in
arbitration before a panel of three arbitrators before the American Arbitration
Association in the City of New York according to its then existing commercial
rules and regulations. The parties agree that in any such arbitration, the
arbitrators shall not have the power to reform or modify this Agreement in any
way and to that extent their powers are so limited. The parties also agree that
in any such arbitration, the arbitrators may not award punitive damages to any
party. The determination of the arbitrators shall be final and binding on the
parties hereto and judgment thereon may be entered in any court of competent
jurisdiction. Except as required by law, neither the Company nor Executive shall
issue any press release or make any statement which is reasonably foreseeable to
become public with respect to any arbitration or any proceedings in connection
therewith without receiving the prior written consent of the other party to the
content of such press release or statement.
9. Entire Agreement. This Agreement represents the entire understanding among
the parties relating to the subject matter hereof, supersedes all prior oral or
written understandings and agreements relating hereto, and may not be amended,
terminated or discharged except in writing signed by all of the parties hereto.
10. Assignment; Binding Effect. Executive shall not assign or otherwise transfer
its rights or obligations hereunder and such rights shall not be subject to
commutation, encumbrance, or the claims of creditors, and any attempt by
Executive to do any of the foregoing shall be void and of no force or effect.
The provisions of this Agreement shall be binding upon and inure to the benefit
of Executive and Executive's heirs and personal representatives, and shall be
binding upon and inure to the benefit of the Company and its successors and
assigns.
11. Notice. Any notice or other communication required or permitted to be given
hereunder shall be in writing and shall be mailed by certified mail, return
receipt requested, or delivered by overnight courier, by hand or by telecopy
against receipt to the party to whom it is to be given at the address of such
party set forth in this Agreement (or to such other address as the party shall
have furnished
6
<PAGE>
in writing in accordance with the provisions of this Section 11). Notice to
Executive's estate shall be sufficient if addressed to Executive as provided in
this Section 11. Any notice or other communication shall be deemed given at the
time of receipt thereof.
12. Governing Law. This Agreement shall be deemed entered into in the State of
New York and shall be governed in all respects by the laws of New York
applicable to agreements made and to be performed therein, without giving effect
to conflicts of law principles. The Executive and the Company both consent to
the jurisdiction of the state courts of the State of New York and the Federal
courts whose districts encompass any part of New York in connection with any
dispute arising under this Agreement and hereby waive, to the maximum extent
permitted by law, any objection based on forum non conveniens, to the conducting
of any such proceeding in such jurisdiction. The Executive and the Company each
consent to service of process in any action brought in such courts by registered
or certified mail sent to the address indicated on the first page hereof. The
Executive and the Company both waive trial by jury in connection with the trial
of any action or dispute in connection with this Agreement or matters of a
similar nature.
13. Waiver. Any waiver by either party of a breach of any provision of this
Agreement shall not operate as or be construed to be a waiver of any other
breach of such provision or of any breach of any other provision of this
Agreement. The failure of a party to insist upon strict adherence to any term of
this Agreement on one or more occasions shall not be considered a waiver or
deprive that party of the right thereafter to insist upon strict adherence to
that term or any other term of this Agreement. Any waiver must be in writing,
signed by the party giving the waiver.
14. Separability. If any provision of this Agreement shall be deemed to be
invalid, illegal, or unenforceable by reason of the extent, duration, or
geographical scope thereof, or otherwise, then the parties agree that the
arbitration panel making such determination shall reduce such extent, duration,
geographical scope, or other provisions hereof to the extent required to render
them valid, legal, and enforceable, and in its reduced form such restriction
shall then be enforceable in the manner contemplated hereby.
15. Representations. Executive represents and warrants that the entering into
and performance of this Agreement will not be in violation of any other
agreement to which Executive is a party and no activities of Executive currently
conflict with the non-competition provisions provided herein.
7
<PAGE>
If the foregoing is correct, please sign and return to us a copy of this
letter agreement, which when signed shall constitute a binding agreement.
THE DONNA KARAN COMPANY
By: Donna Karan International
Inc., a general partner
By: /s/ JOHN D. IDOL
-----------------------------------
John D. Idol
Chief Executive Officer
Agreed to:
/s/ LEE GOLDENBERG
- ---------------------
Lee Goldenberg
8
<PAGE>
EXHIBIT 21.1
SUBSIDIARIES OF DONNA KARAN INTERNATIONAL INC.
DK Footwear Partners, a New York general partnership (d/b/a Donna Karan Shoe)
DK Shoe Corporation, a New York corporation
Donna Karan (H.K.) Limited, a Hong Kong corporation
Donna Karan (Italy) S.R.L., an Italian corporation
Donna Karan (Italy) Shoe Company S.R.L., an Italian corporation
Donna Karan Studio, a New York general partnership
DSTF Japan Company, a New York general partnership
First Run Management, Inc., a New York corporation
FM DK Japan, Inc., a New York corporation
Formal Reserve Management, Inc., a New York corporation
Full Requirements Merchandising, Inc., a New York corporation
Gabby Apparel, Inc., a New York corporation
Gabrielle Japan, Inc., a New York corporation
Tangents Two, Inc., a New York corporation
The Donna Karan Company, a New York general partnership
The Donna Karan Company Store, G.P., a New York general partnership
The Donna Karan Store Corporation, a New York corporation
Tolara Tetragon, Inc., a New York corporation
Tomio Tangents, Inc., a New York corporation
TT DK Japan, Inc., a New York corporation
Donna Karan Company Store (UK) Limited, a U.K. corporation
Donna Karan Company Stores UK Retail Limited, a U.K. corporation
Donna Karan Company Stores UK Holding Limited, a U.K. corporation
Donna Karan UK (Holding) L.L.C., a Delaware limited liability company
<PAGE>
EXHIBIT 23.1
ERNST & YOUNG LLP LETTERHEAD
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statements
(Form S-8 No. 333-09729 and Form S-8 No. 333-58171) pertaining to the 1996 Stock
Incentive Plan and the 1996 Non-Employee Director Stock Option Plan of Donna
Karan International Inc. of our report dated March 24, 1999, with respect to the
consolidated financial statements and schedule of Donna Karan International Inc.
included in its Annual Report (Form 10-K) for the year ended January 3, 1999
filed with the Securities and Exchange Commission.
/s/ ERNST & YOUNG LLP
New York, New York
March 24, 1999
<TABLE> <S> <C>
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<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE DONNA
KARAN INTERNATIONAL INC. FORM 10-K AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
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<SALES> 622,646
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