FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
Commission file number 1-9340
REEBOK INTERNATIONAL LTD.
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(Exact name of registrant as specified in its charter)
Massachusetts 04-2678061
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
100 Technology Center Drive, Stoughton, Massachusetts 02072
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(Address of principal executive offices) (Zip Code)
(781) 401-5000
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes (X) No ( )
The number of shares outstanding of registrant's common stock, par value $.01
per share, at November 3, 1999, was 56,265,056 shares.
<PAGE>
REEBOK INTERNATIONAL LTD.
INDEX
PART I. FINANCIAL INFORMATION:
Item 1 Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets -
September 30, 1999 and 1998, and
December 31, 1998 . . . . . . . . . . . . . . . . . 3-4
Condensed Consolidated Statements of Income - Three
and Nine months Ended September 30, 1999 and 1998 . 5
Condensed Consolidated Statements of Cash Flows -
Nine months Ended September 30, 1999 and 1998 . . . 6-7
Notes to Condensed Consolidated Financial
Statements . . . . . . . . . . . . . . . . . . . . 8-11
Item 2
Management's Discussion and Analysis of Results
Of Operations and Financial Condition . . . . . . . 12-22
Part II. OTHER INFORMATION:
Item 1 Legal Proceedings . . . . . . . . . . . . . . . . . . 23
Items 2-5 Not Applicable . . . . . . . . . . . . . . . . . . . 23
Item 6 Exhibits and Reports on Form 8-K . . . . . . . . . . 23
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Amounts in thousands)
September 30, December 31,
1999 1998 1998
---- ---- ----
(Unaudited) (See Note 1)
Current assets:
Cash and cash equivalents $ 143,060 $ 99,021 $ 180,070
Accounts receivable, net
of allowance for doubtful
accounts (September 1999,
$49,138; September 1998,
$51,678; December 1998,
$47,383) 579,859 617,353 517,830
Inventory 449,743 535,734 535,168
Deferred income taxes 79,361 79,183 78,419
Prepaid expenses and other
current assets 52,690 50,971 46,451
--------- --------- ---------
Total current assets 1,304,713 1,382,262 1,357,938
--------- --------- ---------
Property and equipment, net 177,449 174,286 172,585
Other non-current assets:
Intangibles, net of
amortization 71,975 62,344 72,506
Deferred income taxes 51,067 21,037 44,212
Other 28,860 41,643 37,383
--------- --------- ---------
151,902 125,024 154,101
--------- --------- ---------
Total Assets $1,634,064 $1,681,572 $1,684,624
========= ========= =========
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (Continued)
(Amounts in thousands)
September 30, December 31,
1999 1998 1998
---- ---- ----
(Unaudited) (See Note 1)
Current liabilities:
Notes payable to banks $ 37,571 $ 45,541 $ 48,070
Current portion of
long-term debt 185,186 60,572 86,640
Accounts payable 144,376 190,412 203,144
Accrued expenses 272,771 207,617 191,833
Income taxes payable 25,834 20,381 27,597
---------- ---------- ----------
Total current liabilities 665,738 524,523 557,284
---------- ---------- ----------
Long-term debt, net of
current portion 400,012 578,614 554,432
Minority interest 22,552 34,706 31,972
Commitments and contingencies
Outstanding redemption value
of equity put options 16,559 16,559
Stockholders' equity:
Common stock, par value
$.01; authorized 250,000
shares; issued
September 30, 1999, 92,826;
issued September 30, 1998,
93,161; issued
December 31, 1998,
93,307 928 932 933
Retained earnings 1,184,452 1,162,019 1,156,739
Less 36,716 shares
in treasury at cost (617,620) (617,620) (617,620)
Unearned compensation (41) (26)
Accumulated other
comprehensive expense (21,998) (18,120) (15,649)
---------- ---------- ----------
545,762 527,170 524,377
---------- ---------- ----------
Total liabilities and
stockholders' equity $1,634,064 $1,681,572 $1,684,624
========== ========== ==========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Amounts in thousands except share data)
(Unaudited)
Three months Ended Nine months Ended
September 30, September 30,
---------------------- ------------------
1999 1998 1999 1998
---- ---- ---- ----
Net sales $ 793,937 $ 878,335 $2,277,114 $2,519,026
Other expense (4,650) (6,280) (6,222) (11,869)
--------- ---------- --------- ----------
789,287 872,055 2,270,892 2,507,157
Costs and expenses:
Cost of sales 484,677 546,341 1,405,035 1,592,651
Selling, general and
administrative expenses 246,302 267,623 741,913 786,495
Special charge 38,000 38,000 35,000
Amortization of intangibles 1,157 846 3,892 2,588
Interest expense 11,943 15,939 38,370 50,164
Interest income (2,181) (3,737) (5,158) (11,962)
--------- ---------- --------- ----------
779,898 827,012 2,222,052 2,454,936
--------- ---------- --------- ----------
Income before income
taxes and minority interest 9,389 45,043 48,840 52,221
Income tax expense 3,380 14,500 17,582 16,811
--------- ---------- --------- ----------
Income before minority
interest 6,009 30,543 31,258 35,410
Minority interest 2,743 2,314 5,519 4,392
--------- ---------- --------- ----------
Net income $ 3,266 $ 28,229 $ 25,739 $ 31,018
========= ========== ========= ==========
Basic earnings per share $ .06 $ .50 $ .46 $ .55
========= ========== ========= ==========
Diluted earnings per share $ .06 $ .50 $ .45 $ .54
========= ========== ========= ==========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in thousands)
(Unaudited)
Nine months Ended
September 30,
----------------
1999 1998
---- ----
Cash flows from operating activities:
Net income $ 25,739 $ 31,018
Adjustments to reconcile net income
to net cash provided by
operating activities:
Depreciation and amortization 32,902 35,981
Minority interest 5,519 4,393
Deferred income taxes (9,108) ( 5,141)
Special charge 38,000 35,000
Changes in operating assets and
liabilities:
Accounts receivable (71,693) (36,844)
Inventory 79,678 36,732
Prepaid expenses (2,997) 4,122
Other (1,536) 6,150
Accounts payable and accrued expenses (9,368) (57,925)
Income taxes payable (1,896) 15,341
---------- ----------
Total adjustments 59,501 37,809
---------- ----------
Net cash provided by operating activities 85,240 68,827
---------- ----------
Cash flows from investing activity:
Payments to acquire property and
equipment (36,291) (45,610)
---------- ----------
Net cash used for investing activity (36,291) (45,610)
---------- ----------
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Cont'd)
(Amounts in thousands)
(Unaudited)
Nine months Ended
September 30,
----------------
1999 1998
---- ----
Cash flows from financing activities:
Net borrowings (payments) of notes
payable to banks $ (12,265) $ 3,125
Payments of long-term debt (54,945) (121,049)
Proceeds from issuance of common stock to
employees 1,966 3,470
Proceeds from premium on equity put options 2,002
Dividends to minority shareholders (10,224) (6,649)
Repurchases of common stock (16,559) (3,181)
-------- --------
Net cash used for financing activities (92,027) (122,282)
-------- --------
Effect of exchange rate changes on cash
and cash equivalents 6,068 (11,680)
-------- --------
Net decrease in cash and cash equivalents (37,010) (110,745)
-------- --------
Cash and cash equivalents at beginning of
period 180,070 209,766
-------- ---------
Cash and cash equivalents at end of period $ 143,060 $ 99,021
======== =========
Supplemental disclosures of cash flow information:
1999 1998
---- ----
Cash paid during the period for:
Interest $ 38,301 $ 35,551
Income taxes 30,966 23,879
The accompanying notes are an integral part of the condensed consolidated
financial statements.
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
(Dollar amounts in thousands, except share data)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
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Basis of Presentation
- ---------------------
The balance sheet at December 31, 1998 has been derived from the audited
financial statements at that date but does not include all of the information
and footnotes required by generally accepted accounting principles ("GAAP")for
complete financial statements.
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with GAAP for interim financial information and reflect
all adjustments (consisting of normal recurring accruals, as well as special
charges) which are, in the opinion of management, necessary for a fair
presentation of the results of operations for the interim periods. The interim
financial information and notes thereto should be read in conjunction with the
Company's latest annual report to shareholders. The results of operations for
the nine months ended September 30, 1999 are not necessarily indicative of
results to be expected for the entire year.
Certain amounts in the prior year have been reclassified to conform to the 1999
presentation.
<PAGE>
NOTE 2 - SPECIAL CHARGE
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In the third quarter of 1999, the Company recorded a special charge for certain
one time expenses of $38,000 ($24,320 after tax, or $0.43 per share) for
restructuring activities in the Company's global operations. The charge relates
primarily to personnel expenses for headcount reductions, asset valuation
reserves and accruals related to the abandonment of certain activities. The
business re-engineering will result in the elimination of approximately 600
full-time positions. The remainder of the charge is primarily for lease
terminations and the write-down of assets no longer in use or for sale.
Approximately $22 million of the charge will affect cash.
In the first quarter of 1998, the Company recorded a special charge of $35,000
($23,674 after tax, or $0.42 per share) in connection with the Company's ongoing
business re-engineering efforts. The charge was for personnel related expenses
and certain other expenses associated with the restructuring or adjustment of
underperforming marketing contracts. The business re-engineering resulted in the
termination of approximately 485 full-time positions. The underperforming
marketing contracts have been terminated or restructured to focus the Company's
spending on those key athletes and teams who are more closely aligned with its
brand positioning. The charge consists of certain one-time expenses,
substantially all of which will affect cash.
The components of the 1998 and 1999 charges are presented below with additional
information concerning the activities affecting the liability for special
charges recorded during 1998 and 1999:
Balance 1999 1999 Balance
1/1/99 Charges Utilization 9/30/99
-------- ------- ---------- --------
Marketing contracts $ 14,742 $ $ (2,444) $ 12,298
Asset write-downs 5,766 13,604 (4,494) 14,876
Employee severance
and related costs 7,215 20,283 (2,347) 25,151
Termination of
leases and other 2,575 4,113 (2,632) 4,056
-------- -------- --------- --------
$ 30,298 $ 38,000 $ (11,917) $ 56,381
======== ======== ========= ========
Balance 1998 1998 Balance
12/31/97 Charges Utilization 12/31/98
-------- ------- ---------- --------
Marketing contracts $ 25,000 $ 18,476 $ (28,734) $ 14,742
Asset write-downs 6,900 (1,134) 5,766
Employee severance
and related costs 8,400 14,798 (15,983) 7,215
Termination of
leases and other 6,761 1,726 (5,912) 2,575
-------- -------- --------- --------
$ 47,061 $ 35,000 $ (51,763) $ 30,298
======== ======== ========= ========
<PAGE>
NOTE 3 - EARNINGS PER SHARE
- ---------------------------
The following table sets forth the computation of basic and diluted earnings per
share (amounts in thousands, except per share data):
Three Months Ended Nine months Ended
September 30 September 30
------------------- -----------------
1999 1998 1999 1998
---- ---- ---- ----
Numerator:
Net income $ 3,266 $ 28,229 $ 25,739 $ 31,018
------- ------- ------- -------
Denominator for basic earnings per share:
Weighted average shares 56,109 56,445 56,050 56,376
Dilutive employee stock
options 45 445 681 696
------- ------- ------- -------
Denominator for diluted earnings per share:
Weighted average shares
and assumed conversions 56,154 56,890 56,731 57,072
======= ======= ======= =======
Basic earnings per share $ .06 $ .50 $ .46 $ .55
Diluted earnings per
share $ .06 $ .50 $ .45 $ .54
NOTE 4 - COMPREHENSIVE INCOME
- -----------------------------
Comprehensive income for the quarters ended September 30, 1999 and September 30,
1998 was $9,815 and $33,627 respectively. Comprehensive income for the nine
months ended September 30, 1999 and 1998 was $19,390 and $34,182, respectively.
Comprehensive income for all periods presented represents net income and changes
in foreign currency translation adjustments.
NOTE 5 - CONTINGENCIES
- ----------------------
The Company is involved in various legal proceedings generally incidental to its
business. The only currently pending material legal matter that could have an
adverse effect upon the Company's financial position or liquidity is the
litigation filed against the Company by Supracor, Inc. See Item 1. Legal
Proceedings for a further description of the Supracor litigation.
NOTE 6 - EQUITY PUT OPTIONS
- ---------------------------
During 1998, the Company issued equity put options as part of its ongoing share
repurchase program. These options provide the Company with an additional source
to supplement open market purchases of its common stock. The options were priced
based on the market value of the Company's common stock at the date of issuance.
The redemption value of the options, which represents the option price
multiplied by the number of shares under option, is presented in the
accompanying condensed consolidated balance sheets at December 31, 1998 and
September 30, 1998 as "Outstanding redemption value of equity put options." At
September 30, 1999, no shares of outstanding common stock were subject to
repurchase under the terms and conditions of equity put options.
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
This Form 10-Q contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995, including statements with
regard to the Company's revenues, earnings, spending, margins, cash flow,
orders, inventory, products, actions, plans, strategies and objectives.
Forward-looking statements include, without limitation, any statement that may
predict, forecast, indicate or imply future results, performance or
achievements, and may contain the words "believe," "anticipate," "expect,"
"estimate," "intend," "plan," "project," "will be," "will continue," "will
result," "could," "may," "might," or any variations of such words with similar
meanings. Any such statements are subject to risks and uncertainties that could
cause the Company's actual results to differ materially from those discussed in
such forward-looking statements. Prospective information is based on
management's then current expectations or forecasts. Such information is subject
to the risk that such expectations or forecasts, or the assumptions underlying
such expectations or forecasts, become inaccurate.
Risks and uncertainties that could affect the Company's actual results and could
cause such results to differ materially from those contained in forward-looking
statements made by or on behalf of the Company include, but are not limited to,
the following: technological, marketing, product, promotional or other success
by one of more of the Company's competitors; changes in consumer preferences;
failure by the Company to adequately forecast consumer demand and sales volume,
leading to increased spending, inventory risk, tooling and other costs;
inability to obtain desired pricing margins and profitability because of
industry conditions, production inefficiencies, increased costs of goods,
currency trends, the general retail environment or the lack of success of the
Company's products or marketing; higher-than-anticipated levels of customer
cancellations or returns; lack of success in the Company's retail operations due
to general retail market conditions or loss of market share to competitors;
failure to meet delivery deadlines because of design, production or distribution
problems; currency fluctuations, government actions, import regulations,
political instability or general economic factors that negatively impact the
Company's business in one or more international regions; interruption or
unavailability of sources of supply; inability to make timely payments on the
Company's indebtedness or to meet debt covenants; loss of one or more
significant customers; inability to protect significant trademarks, patents or
other intellectual property of the Company; negative results in litigation;
general economic factors impacting consumer purchasing power and preferences;
changes in the Company's tax rate or its ability to fully utilize deferred tax
assets; the Company's ability to achieve desired operating and logistical
efficiencies in the areas of distribution and information systems; disruptions
due to Year 2000 non-compliance in Company systems or the systems of its key
suppliers, customers, distributors or other business partners; and other factors
mentioned or incorporated by reference in this report or other reports.
This list of risk factors is not exhaustive. Other risks and uncertainties are
discussed elsewhere in this report and in further detail in Exhibit 99 - Issues
and Uncertainties filed with this quarterly report on Form 10-Q, as well as in
other reports filed by the Company with the SEC such as Forms 8-K, 10-Q and
10-K. In addition, the Company operates in a highly competitive and rapidly
changing environment. Therefore, new risk factors can arise, and it is not
possible for management to predict all such risk factors, nor to assess the
impact of all such risk factors on the Company's business or the extent to which
any individual risk factor, or combination of factors, may cause results to
differ materially from those contained in any forward-looking statement.
Accordingly, investors should not place undue reliance on forward-looking
statements as a prediction of actual results.
Operating Results
- -----------------
Third Quarter 1999 Compared to Third Quarter 1998
- ---------------------------------------------------
Net sales for the quarter ended September 30, 1999 were $793.9 million, a 9.6%
decrease from 1998's third quarter net sales of $878.3 million. The Reebok
Division's worldwide sales (including the sales of the Greg Norman Collection)
were $649.4 million, an 11.2% decrease from sales of $731.1 million in the third
quarter of 1998. U.S. footwear sales of the Reebok Brand decreased 17.5% to
$223.5 million in the third quarter of 1999 from $270.8 million in the third
quarter of 1998. U.S. footwear sales in most categories declined. The Classics
category declined partially as a result of the Company's strategic initiative to
segment the distribution of these products in the marketplace. U.S. apparel
sales of the Reebok Division (including the sales of the Greg Norman
Collection)decreased in the third quarter by 29.7% to $69.9 million from $92.0
million in the third quarter of 1998. During 1999, there has been general
softness in the U.S. for branded athletic apparel. These market conditions,
combined with the Company's efforts to strategically reposition the U.S.
business to be more consistent with its International apparel offerings has had
an adverse impact on U.S. apparel revenues. Sales of Greg Norman apparel also
declined in the quarter. For most of 1999 there has been an overcapacity of golf
apparel at retail which has resulted in markdowns and cancellations. In
addition, the Greg Norman brand is being repositioned to be more of a
collections business and in the near-term that has resulted in a reduction of
the number of retail storefronts in which the brand is sold.
International sales of the Reebok Brand (including footwear and apparel) were
$356.0 million in the third quarter of 1999, a decrease of 1.4% from $360.8
million in the third quarter of 1998. On a local currency basis, International
sales were approximately the same as the third quarter of 1998. International
categories that generated sales increases in the third quarter of 1999 were
basketball, tennis, cross-training and walking, whereas International sales in
most other categories declined. International apparel sales decreased slightly.
European sales declined about $7.0 million or 3%. Sales increases in France, UK
and Italy were more than offset by declines in Germany where sales decreased
$10.0 million. During the quarter the Company's sales performance was also
adversely affected by economic conditions in Latin America. As compared to the
third quarter of 1998, footwear sales to unconsolidated Latin American
distributors declined by 27.0%, or approximately $4.5 million. Sales in the Asia
Pacific region increased $10.0 million or 28% during the quarter.
Rockport's third quarter 1999 sales were $118.3 million as compared to sales of
$127.8 million in the third quarter of 1998. Domestic sales for the Rockport
brand decreased by 9.8% while International sales decreased by 2.4%.
Domestically, sales decreased in most categories. Rockport is in a period where
many of its product offerings will be transitioned. Sales for many of the
Company's core dress products for men are declining and the Company will be
updating and refreshing this line over the next year. In addition, the Company
is introducing DMX technology into many of the new products along with a new and
improved "Millennium" fit. International revenues accounted for 25.1% of
Rockport's sales in the third quarter of 1999 as compared to 23.8% in the third
quarter of 1998.
Sales of the Company's Polo Ralph Lauren Footwear products were $26.2 million in
the third quarter of 1999, an increase of 35.1% from $19.4 million in the third
quarter of 1998. This increase was led by growth in the rugged casual segment.
During the first half of 1999, the Company debuted at retail the RLX/Polo Sport
Ralph Lauren performance product line and in the third quarter of 1999 the
Company debuted a separate Lauren by Ralph Lauren product line for women.
During the third quarter of 1999, the Company's overall gross margin was 39.0%
of sales, this compares to 37.8% for 1998's third quarter, an increase of 120
basis points. The increase is primarily attributable to the strengthening of the
Company's initial pricing margins due to manufacturing and sourcing
efficiencies, and to lower cancellations, markdowns and returns. The U.S.
footwear initial pricing margins for the Reebok Brand have returned to levels
the Company was experiencing prior to the introduction of its DMX and 3D
Ultralite technology products in 1997. Adversely impacting margins in the
quarter were sales of U.S. apparel, Rockport and Greg Norman, due to a higher
volume of off-price business and higher markdown allowances for these product
segments than in the prior year's quarter.
Selling, general and administrative expenses for the third quarter of 1999 were
$246.3 million, or 31.0% of sales, as compared to $267.6 million, or 30.5% of
sales in 1998's third quarter. While the Company's overall spending declined by
$21.3 million in the quarter, spending as a percentage of sales did not improve.
During the quarter the Company incurred start-up expenses for its new Logistics
and Shared Service Companies in Rotterdam as well as for its global information
system re-engineering efforts. In the third quarter of 1999, these start-up
expenses, many of which are redundant in nature, amounted to approximately $9.2
million as compared to $8.6 million in the third quarter of 1998. A portion of
the start-up costs reflect redundant costs resulting from the lower than planned
volume of product in the Rotterdam facility and the delayed implementation of
the Company's global re-engineering. Start-up expenses are expected to aggregate
approximately $35 million for the full year 1999. Selling, general and
administrative expenses for the 1999 third quarter, exclusive of these start-up
expenses, were about 29.9% of sales as compared with 29.5% in the third quarter
of 1998. The Company has initiated programs in an effort to reduce general and
administrative spending to a lower percentage of sales. The Company plans to
invest most of these cost savings into increased marketing and other expenses to
support all the company's brands. The impact of these programs will not begin to
be realized until calendar year 2000.
As described in Note 2 to the condensed consolidated financial statements, in
the third quarter of 1999, the Company recorded a special pre-tax charge of
$38.0 million, amounting to approximately $24.3 million after taxes or $0.43 per
share, relating to restructuring activities in the Company's global operations.
The charge related primarily to personnel expenses for headcount reductions,
asset valuation reserves and accruals related to the abandonment of certain
activities.
Net interest expense was $11.9 million for the third quarter of 1999, a decrease
of $4.0 million as compared to the third quarter of 1998. The decrease was a
result of improved cash flow and debt repayment.
The effective income tax rate was 36.0% in the third quarter of 1999 as compared
to 32.2% in the third quarter and full year of 1998. Looking forward, dependent
on the geographic mix of earnings in 1999, the Company expects the third quarter
1999 rate to be indicative of the full year 1999 rate. However, the rate could
fluctuate from quarter to quarter depending on where the Company earns income
geographically, and, if the Company incurs non-benefitable losses in certain
economically troubled regions, the rate could increase further.
First Nine Months 1999 Compared to First Nine Months 1998
- ---------------------------------------------------------
Net sales for the first nine months ended September 30, 1999 were $2.277
billion, a 9.6% decrease from 1998's first nine months net sales of $2.519
billion. The Reebok Division's worldwide sales (including the sales of the Greg
Norman Collection) were $1.871 billion, an 11.6% decrease from sales of $2.116
billion in the first nine months of 1998. U.S. footwear sales of the Reebok
Brand decreased 11.8% to $734.9 million in the first nine months of 1999 from
$833.4 million in the first nine months of 1998. U.S. footwear sales in most
categories declined. The Classics category declined partially as a result of the
Company's strategic initiative to segment the distribution of these products in
the marketplace. U.S. apparel sales of the Reebok Division (including the sales
of the Greg Norman Collection)decreased in the first nine months by 28.5% to
$197.3 million from $276.0 million in the first nine months of 1998. During
1999, there has been general softness in the U.S. for branded athletic apparel.
These market conditions, combined with the Company's efforts to strategically
reposition the U.S. business to be more consistent with its International
apparel offerings has had an adverse impact on U.S. apparel revenues. Sales of
Greg Norman apparel also declined in the quarter. For most of 1999 there has
been an overcapacity of golf apparel at retail which has resulted in markdowns
and cancellations. In addition, the Greg Norman brand is being repositioned as a
collections business and in the near-term that has resulted in a reduction of
the number of retail storefronts in which the brand is sold.
International sales of the Reebok Brand (including footwear and apparel) were
$938.8 million in the first nine months of 1999, a decrease of 6.7% from $1.007
billion in the first nine months of 1998. Most of the Reebok Brand's
International footwear categories declined during the nine month period;
however, the men's cross-training and basketball categories had sales increases.
International apparel sales increased slightly. International sales were
adversely impacted by start-up problems experienced in the Company's new
Logistics and Shared Service Companies in Rotterdam. The Company estimates that
between $15-$20 million of the International sales decline can be directly
attributable to these issues. Sales in Europe decreased by 3.2% for the first
nine months of 1999 compared with the same period in 1998. Sales increases in
France, UK and Italy were more than offset by declines in Germany where sales
decreased $36.0 million. The sales decline in Germany can be partly attributed
to the start-up problems at the new Rotterdam Distribution facility. The
Company's sales performance has also been adversely affected by economic
conditions in Latin America and Russia. As compared to the first nine months of
1998, footwear sales to unconsolidated Latin American distributors declined by
43.7%, or approximately $23.1 million and sales in Russia declined 47.1% or
$15.3 million.
Rockport's sales for the first nine months of 1999 were $332.0 million as
compared to sales of $348.5 million in the first nine months of 1998. Domestic
sales for the Rockport brand decreased by 8.9% while International sales
increased by 7.8%. Domestically, sales decreased in most categories. Rockport is
in a period where many of its product offerings will be transitioned. Sales for
many of the Company's core dress products for men are declining and the Company
will be updating and refreshing this line over the next year. In addition, the
Company is introducing DMX technology into many of the new products along with a
new and improved "Millennium" fit. International revenues accounted for 24.2% of
Rockport's sales in the first nine months of 1999 as compared to 21.4% in the
first nine months of 1998.
Sales of the Company's Polo Ralph Lauren Footwear products were $74.1 million in
the first nine months of 1999, an increase of 35.7% from $54.6 million in the
first nine months of 1998. This increase was led by growth in the rugged casual
segment. During the first half of 1999, the Company debuted at retail the
RLX/Polo Sport Ralph Lauren performance product line and in the third quarter of
1999 the Company debuted a separate Lauren by Ralph Lauren product line for
women.
During the first nine months of 1999, the Company's overall gross margin was
38.3% of sales, this compares to 36.8% for 1998's first nine months, an increase
of 150 basis points. The increase is primarily attributable to the strengthening
of the Company's initial pricing margins due to manufacturing and sourcing
efficiencies, and to lower cancellations, markdowns and returns. The U.S.
footwear initial pricing margins for the Reebok Brand have returned to levels
the Company was experiencing prior to the introduction of its DMX and 3D
Ultralite technology products in 1997. Adversely impacting margins for the year
to date were sales of U.S. apparel, Rockport and Greg Norman due to a higher
volume of off-price business and higher markdown allowances.
Selling, general and administrative expenses for the first nine months of 1999
were $741.9 million, or 32.6% of sales, as compared to $786.5 million, or 31.2%
of sales in 1998's first nine months. While the Company's overall spending
declined by $44.6 million during the first nine months of 1999 as compared with
the same period in 1998, spending as a percentage of sales did not improve.
During the nine month period, the Company incurred significant start-up expenses
for its new Logistics and Shared Service Companies in Rotterdam, as well as for
its global information system re-engineering efforts. In the first nine months
of 1999, these start-up expenses, many of which are redundant in nature,
amounted to approximately $25.7 million as compared to $23.3 million in the
first nine months of 1998. A portion of the start-up costs reflect redundant
distribution costs resulting from the lower than planned volume of product in
the Rotterdam facility and the delayed implementation of the Company's Global
Information Systems re-engineering. These start-up expenses are expected to
aggregate approximately $35 million for the full year 1999. Selling, general and
administrative expenses for the nine months of 1999, exclusive of these start-up
expenses, were about 31.4% of sales as compared with 30.3% for the first nine
months of 1998. The Company has initiated programs in an effort to reduce
general and administrative spending to a lower percentage of sales. The Company
plans to invest most of these cost savings into increased marketing and other
expenses to support all the Company's brands. The impact of these programs will
not begin to be realized until calendar year 2000.
As described in Note 2 to the condensed consolidated financial statements, in
the third quarter of 1999, the Company recorded a special pre-tax charge of
$38.0 million, amounting to approximately $24.3 million after taxes or $0.43 per
share, relating to restructuring activities in the Company's global operations.
The charge related primarily to personnel expenses for headcount reductions,
asset valuation reserves and accruals related to the abandonment of certain
activities.
Net interest expense was $38.4 million for the first nine months of 1999, a
decrease of $11.8 million as compared to the first nine months of 1998. The
decrease was a result of improved cash flow and debt repayments.
The effective income tax rate was 36.0% in the first nine months of 1999 as
compared to 32.2% in the first nine months and full year 1998. Looking forward,
dependent on the geographic mix of earnings in 1999, the Company expects the
year-to-date 1999 rate to be indicative of the full year 1999 rate. However, the
rate could fluctuate from quarter to quarter depending on where the Company
earns income geographically, and, if the Company incurs non-benefitable losses
in certain economically troubled regions, the rate could increase further.
Reebok Brand Backlog of Open Orders
- -----------------------------------
The Reebok Brand backlog (including Greg Norman Collection apparel) of open
customer orders scheduled for delivery during the period October 1, 1999 through
March 31, 2000 declined 10.6% as compared to the same period last year. This is
an improvement from the second quarter of 1999 when the backlog was down 17.5%.
North American backlog for the Reebok Brand, which includes the U.S. and Canada,
decreased 17.0%, and, the International backlog decreased 0.7%. On a constant
dollar basis, worldwide Reebok Brand backlog was down 8.1%, and International
backlog increased 6.2%. U.S. footwear backlog decreased 10.0% and U.S. apparel
backlog (including Greg Norman Collection apparel) decreased 40.8% as compared
to the same period last year. These backlog comparisons are not necessarily
indicative of future sales trends. Many orders are cancelable, sales by
Company-owned retail stores can vary from year to year, many markets in Latin
America and Asia Pacific are not included in the open orders since sales are
made by independent distributors and the ratio of orders booked early to at-once
shipments can vary from period to period.
Liquidity and Sources of Capital
- --------------------------------
At September 30, 1999 the Company's working capital was $639.0 million as
compared with $857.7 million at September 30, 1998. The second quarter 1999
reclassification to a current liability of the $100.0 million medium-term note
due in May 2000 and other debt of $24.6 million resulted in a portion of the
working capital reduction. In addition, the Company repaid $55.0 million of debt
during the preceding twelve month period which further reduced working capital.
The current ratio at September 30, 1999 was 2.0 to 1 as compared to 2.4 to 1 at
December 31, 1998 and 2.6 to 1 at September 30, 1998.
Accounts receivable decreased by $37.5 million from September 30, 1998, a
decrease of 6.1%. The decrease is primarily due to the sales decline. Inventory
decreased by $86.0 million or 16.1% from September 30, 1998. This decrease is in
line with the Company's plans. In the U.S., the Company's Reebok Brand footwear
inventories were down 8.2%. U.S. Reebok Brand apparel inventories were down
55.1% and retail inventories were down 7.2% from last year. Inventories of all
brands outside the U.S. decreased 14.0%. The Company believes that the overall
condition of its inventory at wholesale and at retail has improved from last
year, with more of the inventory being current product.
Cash provided by operations during the first nine months of 1999 was $85.2
million, as compared to $68.8 million during the first nine months of 1998, a
$16.4 million improvement. Capital expenditures for the first nine months of
1999 were $36.3 million, a decrease from 1998 due to the timing of investments
in the Company's European Logistics and Shared Service Companies, international
retail expansion and other information systems initiatives. Cash generated from
operations during the balance of 1999, together with the Company's existing
credit lines and other financial resources, is expected to adequately finance
the Company's current and planned 2000 cash requirements. However, the Company's
actual experience may differ from the expectations set forth in the preceding
sentence. Factors that might lead to a difference include, but are not limited
to, the matters discussed above and in Exhibit 99 - Issues and Uncertainties
filed herewith, as well as future events that might have the effect of reducing
the Company's available cash balances (such as unexpected operating losses or
increased capital or other expenditures, as well as increases in the Company's
inventory or accounts receivable) or future events that might reduce or
eliminate the availability of external financial resources.
Year 2000 Readiness Disclosure
- ------------------------------
The year 2000 issue, which is common to most corporations, concerns the
inability of information technology (IT) systems, including computer software
programs, as well as non-IT systems, to properly recognize and process date
sensitive information related to the year 2000 and beyond. This could
potentially cause a system failure or miscalculation that could disrupt
operations.
In order to determine the Company's readiness for the year 2000, the Company has
conducted a global review of both its IT and non-IT systems to identify the
systems that could be affected by the technical problems associated with the
year 2000. As part of this review, a management team was selected to inventory
all IT (mainframe, network and desktop hardware and software), and non-IT
embedded systems (security, fire prevention, elevators, climate control systems,
etc.) to address the year 2000 issue, including an assessment of the costs
required to effect such a plan. The team has evaluated these inventoried items
to determine a remediation method and implementation plan. The IT evaluation and
non-IT evaluations are substantially complete. While the Company believes that
most of its critical non-IT systems will function without substantial year 2000
compliance problems, the Company will continue to review, test and remediate (if
necessary) such systems.
In 1993 the Company developed a strategic information systems plan which
provided for the adoption of a new global information systems infrastructure
which would substantially improve the Company's systems capability. Where
implemented, this new global system will replace existing legacy systems with
year 2000 compliant software and thus also address the year 2000 issue. The
Company began investments in this new global strategic system in 1994, with
investments continuing each year thereafter and expected to continue through the
year 2001. The global SAP system being adopted by the Company did not previously
have an appropriate application for the footwear and apparel industry. Thus the
Company, together with its software vendor and another company in the apparel
industry, developed a new software application for the footwear and apparel
industry which is now being implemented by the Company.
The Company believes that, with modifications to existing software and
converting to SAP software and other packaged software, the year 2000 would not
pose significant operational problems for the Company's computer systems.
However, if the modifications and conversions were not implemented or completed
in a timely or effective manner, the year 2000 problem could have a material
adverse impact on the operations and financial condition of the Company. In
addition, in converting to SAP software, the Company is relying on its software
partner to develop and support new software applications and there could be
problems in successfully developing and implementing such new applications. The
Company is the first in the apparel and footwear industry to implement this new
software application. Thus there are substantial risks that problems could arise
in implementation or that the system may not be fully effective by the end of
1999.
The SAP system has been installed and implementation has been substantially
completed in some of the Company's business units, as well as in certain other
functional areas. These units have experienced certain technical difficulties
with the SAP system resulting in processing delays and selected integrity of
information issues. The Company, together with its software partner, has
substantially remedied these deficiencies. However, because of the technical
difficulties with the SAP system and the delays resulting therefrom, the Company
has decided to postpone full implementation of the SAP system in its North
American operating unit until 2001. For its North American operating unit, the
Company has, instead, proceeded with its contingency plan and modified existing
software to make it year 2000 compliant. These remediation efforts are
substantially complete, have been tested and are now in operation. The costs of
such modifications were not material.
As previously indicated, the Company's Rockport and Polo Ralph Lauren Footwear
subsidiaries, as well as certain other International units, will not be
converted to the new SAP system by the end of 1999. The necessary modifications
to their existing software to make them year 2000 compliant have been
substantially completed. The Company has tested the effectiveness of these
modifications and found them to be substantially compliant. Testing on these
modifications, as well as the modifications for the North American unit, will
continue for the balance of 1999.
Since the Company is no longer under an accelerated timetable to implement SAP
as a Year 2000 solution, the Company has re-evaluated its implementation
schedule and postponed most new conversions to SAP until 2001. This should
substantially reduce the Company's business risks and allow the Company to
better manage the investments in this project over the short-term. Because the
Company's conversion to SAP software will replace much of the Company's software
with year 2000 compliant systems, it is difficult to segregate the incremental
costs associated with the year 2000 issue. The Company expects that the total
costs of converting to the global SAP system will be approximately $75 million,
of which approximately $60 million has been spent to date. Capitalized costs
which are included in this estimate are expected to be approximately $30
million. These estimates assume that the Company will not incur significant year
2000 related costs on behalf of its suppliers, customers or other third parties.
The Company is also focusing on major suppliers and customers to assess their
compliance with the year 2000. This effort is being handled internally and is
substantially complete. The Company has assessed its largest customers and
vendors and determined that their operations are substantially year 2000
compliant. The Company is also continuing the process of testing year 2000
compliance with significant suppliers and will use the results of such tests to
determine if contingency plans are necessary and to prepare such plans. A
significant portion of the Company's business transactions are based on
receiving customer orders six months in advance of shipment and placing orders
with factories based on these future orders. Therefore, the Company has already
been processing transactions for the year 2000 and is currently accepting and
processing customer orders and placing orders with factories for year 2000. The
Company is dependent on its suppliers, joint venture partners, independent
distributors and customers to implement appropriate changes to their computer
systems to address the year 2000 issue. The failure of such third parties to
effectively address such an issue could have a material adverse effect on the
Company's business.
Contingency plans for year 2000-related interruptions are being developed and
will include, but not be limited to, the development of emergency backup and
recovery procedures, remediation of existing systems parallel with
implementation of the new systems, and replacing electronic applications with
manual processes. These contingency plans are, however, subject to variables and
uncertainties. There can be no assurance that the Company will correctly
anticipate the level, impact or duration of potential non-compliance or that its
contingency plans will be sufficient to mitigate the impact of any potential
failures. The Company will be establishing a command and rollover center which
will be staffed to respond to any year 2000 difficulties which may occur
globally during the rollover period.
Estimates of time and cost and risk assessments are based on currently available
information. Developments that could affect estimates and assessments include,
but are not limited to, the ability to hold to the schedule defined for other
package conversions; the ability to remediate all relevant computer code for
those applications targeted to be remediated; co-operation and remediation
success of the Company's suppliers and customers; and the ability to implement
suitable contingency plans in the event of year 2000 system failures at the
Company or its suppliers or customers.
<PAGE>
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
In September, 1997 Supracor, Inc. ("Supracor") filed a lawsuit against the
Company in the U.S. District Court for the Northern District of California. The
suit arises from a June 1,1989 License and Purchase Agreement (the "Agreement")
between Supracor and the Company, which obligated the Company to use Supracor as
its sole source for honeycomb cushioning material produced in processes
developed by Supracor. Supracor seeks damages and injunctive relief, alleging,
among other things, that the Company breached its obligations under the
Agreement by purchasing honeycomb material from another supplier. In addition,
Supracor alleges that the Company fraudulently induced Supracor to enter into
the Agreement, and the Company misappropriated certain Supracor trade secrets.
Supracor seeks compensatory damages in excess of $50 million as well as punitive
damages. The Company has denied Supracor's claims, and has filed a counterclaim
alleging that Supracor owes the Company approximately $1 million in unpaid
rebates.
On October 8, 1999, the trial judge issued an order holding as a matter of law
that a 1991 patent obtained by Supracor describes a "process developed by
Supracor" under the Agreement. Supracor alleges that the honeycomb material
purchased by the Company from its second source comes within the scope of this
patent, and that the Company is therefore contractually precluded from
purchasing such material from its second source. Although the Company believes
that Supracor's patent is invalid and unenforceable, the judge further ruled
that the invalidity and unenforceability of the patent could not be used as a
defense to liability under the Agreement. However, the trial judge's October 8th
ruling did not affect the Company's principal defense in this matter, that
Supracor failed to assert its claims in a timely manner. The trial of the case
is scheduled to begin on November 29, 1999.
Item 2-5
Not applicable
Item 6
(a) Exhibits:
27. Financial Data Schedule
99. Issues and Uncertainties
(b) Reports on Form 8-K:
There were no reports on form 8-K filed during the quarter ended September
30, 1999.
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Dated: , 1999
REEBOK INTERNATIONAL LTD.
BY: /s/ KENNETH WATCHMAKER
-------------------------
Kenneth Watchmaker
Executive Vice President and
Chief Financial Officer
EXHIBIT 99
ISSUES AND UNCERTAINTIES
The Company's Quarterly report on Form 10-Q filed herewith includes,
and other documents, information or statements released or made from time to
time by the Company may include, forward-looking statements. These statements
involve risks and uncertainties. The Company's actual results may differ
materially from those discussed in such forward-looking statements. Prospective
information is based on management's then current expectations or forecasts.
Such information is subject to the risk that such expectations or forecasts, or
the assumptions underlying such expectations or forecasts, become inaccurate.
The following discussion identifies certain important issues and uncertainties
that are among the factors that could affect the Company's actual results and
could cause such results to differ materially from those contained in forward
looking statements made by or on behalf of the Company.
COMPETITION AND CONSUMER PREFERENCES
The footwear and apparel industry is intensely competitive and subject
to rapid changes in consumer preferences, as well as technological innovations.
A major technological breakthrough or marketing or promotional success by one of
the Company's competitors could adversely affect the Company's competitive
position. A shift in consumer preferences could also negatively impact the
Company's sales and financial results.
The athletic footwear and apparel industry has been experiencing some
shift in consumer preference away from athletic footwear to "casual" product
offerings. This change in preference has adversely affected some of the
Company's businesses, as well as that of some of its competitors. The Company is
taking steps to respond to this shift by focusing on its products and
technologies and pursuing growth opportunities with its ROCKPORT, RALPH LAUREN
Footwear and GREG NORMAN brands. There is, however, substantial uncertainty as
to whether the Company's actions will be effective, especially given recent
difficulties faced by certain department store chains (who are important
customers for these brands), and the softness in the branded apparel market in
the U.S. The outcome will be dependent on a number of factors, including the
extent of the change in consumer preference, consumer and retailer acceptance of
the Company's products, technologies and marketing, and the ability of the
Company to effectively respond to the shift in the marketplace, as well as the
other factors described herein.
Whether the Company's DMX(R) technology will be successful on a
long-term basis is dependent on numerous factors including consumer preference,
consumer and retailer acceptance of such technology, competitive product
offerings, the Company's ability to utilize such technology and to extend it to
other products, as well as other factors described herein.
In addition, in countries where the athletic footwear market is mature
(including the U.S.), sales growth may be dependent in part on the Company
increasing its market share at the expense of its competitors, which may be
difficult to accomplish. The Company also faces strong competition with respect
to its other product lines, such as the ROCKPORT product line, the GREG NORMAN
Collection and the RALPH LAUREN and POLO SPORT footwear lines.
<PAGE>
Competition in the markets for the Company's products occurs in a
variety of ways, including price, quality, product design, brand image,
marketing and promotion and ability to meet delivery commitments to retailers.
The intensity of the competition faced by the various operating units of the
Company and the rapid changes in the consumer preference and technology that can
occur in the footwear and apparel markets constitute significant risk factors in
the Company's operations.
The Company launched the RLX/Polo Sport performance product line in the
first half of 1999 and launched a new Lauren by Ralph Lauren product line for
women in July 1999. Investments in product development, advertising, marketing
and merchandising will be made in conjunction with such launches. The success of
such launches will depend on a number of factors including consumer preference,
retailer acceptance, competitive product offerings, the effectiveness of the
advertising and marketing, as well as other factors described herein.
INVENTORY RISK
The footwear industry has relatively long lead times for design and
production of product and thus, the Company must commit to production tooling
and in some cases to production in advance of orders. If the Company fails to
accurately forecast consumer demand or if there are changes in consumer
preference or market demand after the Company has made such production
commitments, the Company may encounter difficulty in filling customer orders or
in liquidating excess inventory, or may find that retailers are canceling orders
or returning product, all of which may have an adverse effect on the Company's
sales, its margins and brand image. In addition, the Company may be required to
pay for certain tooling if it does not satisfy minimum production quantities.
SALES FORECASTS
The Company's investment in advertising and marketing and in certain
other expenses is based on sales forecasts and is necessarily made in advance of
actual sales. The markets in which the Company does business are highly
competitive, and the Company's business is affected by a variety of factors,
including brand awareness, changing consumer preferences, fashion trends, retail
market conditions, currency changes and economic and other factors. There can be
no assurance that sales forecasts will be achieved, and to the extent sales
forecasts are not achieved, these investments will represent a higher percentage
of revenues, and the Company will experience higher inventory levels and
associated carrying costs, all of which would adversely impact the Company's
financial condition and results. See also discussion below under "Advertising
and Marketing Investment."
PRICING AND MARGINS
The prices that the Company is able to charge for its products are
dependent on the type of product offered and the consumer and retailer response
to such product, as well as the prices charged by the Company's competitors. If,
for example, the Company's products provide enhanced performance capabilities,
the Company should be able to achieve relatively higher prices for such
products. The gross margins which the Company earns are dependent on the prices
which the Company can charge for these goods and the costs incurred in acquiring
the products for sale. To the extent that the Company has higher costs, such as
the higher startup costs associated with technological products, its margins
will be lower unless it can increase its prices or reduce its costs. Recently,
the Company has experienced an improving trend in its pricing margins as a
result of manufacturing efficiencies and changes in sourcing initiated to take
advantage of currency opportunities in the Far East, as well as reduced returns
and cancellations in its Reebok U.S. business. There can be no assurance that
these trends will continue. The ability of the Company to increase its full
margin business is dependent on a number of factors including the success of the
Company's products and marketing, the retail environment and general industry
conditions. In addition, because of the over-inventoried environment, retailers
have been more reluctant to place future orders for products, thus the Company
has fewer future orders and may be required to take on more inventory risk to
fulfill "at once" business.
BACKLOG
The Company reports its backlog of open orders for the Reebok brand.
However, its backlog position is not necessarily indicative of future sales
because the ratio of future orders to "at once" shipments, as well as sales by
Company-owned retail stores, may vary from year to year. In addition, many
customer orders are cancelable. A slowdown at retail may result in higher
cancellations and returns. Additionally, many markets in South America and Asia
Pacific are not included in the backlog since sales are made by independent
distributors.
ADVERTISING AND MARKETING INVESTMENT
Because consumer demand for athletic footwear and apparel is heavily
influenced by brand image, the Company's business requires substantial
investments in marketing and advertising, including television and other
advertising, athlete endorsements and athletic sponsorships, as well as
investments in retail presence. In the event that such investments do not
achieve the desired effect in terms of increased retailer acceptance and/or
consumer purchase of the Company's products, there could be an adverse impact on
the Company's financial results. There has been some shift in the marketplace
away from certain "icon" athletes and the products they endorse. As a result,
the Company has re-evaluated its investment in certain sports marketing deals
and has eliminated or restructured certain of its marketing contracts that no
longer reflect Reebok's brand positioning.
RETAIL OPERATIONS
The Company currently operates approximately 180 retail store fronts in
the U.S. (including REEBOK, ROCKPORT and GREG NORMAN stores and combination
stores, in which stores for all three brands are located at a single site) and a
significant number of retail stores internationally which are operated either
directly or through the Company's distributors or other third parties. The
Company has made a significant capital investment in opening these stores and
incurs significant expenditures in operating these stores. To the extent the
Company continues to expand its retail organization, the Company's performance
could be adversely affected by lower than anticipated sales at its retail
stores. The performance of the Company's retail organization is also subject to
general retail market conditions. The recent over-inventoried promotional
environment in the U.S. has resulted in a decline in retail margins, thus
adversely affecting the Company's own retail business. Because of the retail
environment and increased competition, comparative store sales in the Company's
own retail business have declined.
TIMELINESS OF PRODUCT
Timely product deliveries are essential in the footwear and apparel
business since the Company's orders are cancelable by customers if agreed upon
delivery windows are not met. If as a result of design, production or
distribution problems, the Company is late in delivering product, it could have
an adverse impact on its sales and/or profitability.
INTERNATIONAL SALES AND PRODUCTION
A substantial portion of the Company's products are manufactured abroad
and approximately 40% of the Company's sales are made outside the U.S. The
Company's footwear and apparel production and sales operations are thus subject
to the usual risks of doing business abroad, such as currency fluctuations,
longer payment terms, potentially adverse tax consequences, repatriation of
earnings, import duties, tariffs, quotas and other threats to free trade, labor
unrest, political instability and other problems linked to local production
conditions and the difficulty of managing multinational operations. If such
factors limited or prevented the Company from selling products in any
significant international market or prevented the Company from acquiring
products from its suppliers in China, Indonesia, Thailand or the Philippines, or
significantly increased the cost to the Company of such products, the Company's
operations could be seriously disrupted until alternative suppliers were found
or alternative markets were developed, with a significant negative impact. See
also discussion below under "Economic Factors".
SOURCES OF SUPPLY
The Company depends upon independent manufacturers to manufacture
high-quality product in a timely and cost-efficient manner and relies upon the
availability of sufficient production capacity at its existing manufacturers or
the ability to utilize alternative sources of supply. A failure by one or more
of the Company's significant manufacturers to meet established criteria for
pricing, product quality or timeliness could negatively impact the Company's
sales and profitability. In addition, if the Company were to experience
significant shortages in raw materials or components used in its products, it
could have a negative effect on the Company's business, including increased
costs or difficulty in delivering product. Some of the components used in the
Company's technologies are obtained from only one or two sources and thus a loss
of supply could disrupt production. See also discussion below under "Economic
Factors".
RISK ASSOCIATED WITH INDEBTEDNESS
The Company has a substantial credit facility which consists of a $640
million term loan (as of September 30, 1999, the outstanding balance of such
debt was approximately $372 million) and has a $400 million revolving credit
line (as of September 30, 1999, there were no borrowings outstanding under the
revolving credit line). As a result of this indebtedness, the Company currently
faces significant interest expense and debt amortization. The credit arrangement
contains certain covenants (including restrictions on liens and the requirements
to maintain a minimum interest coverage ratio and a minimum debt to cash flow
ratio) which are intended to limit the Company's future actions and which may
also limit the Company's financial, operating and strategic flexibility. In
addition, the Company's failure to make timely payments of interest and
principal on its debt, or to comply with the material covenants applicable
thereto, could result in significant negative consequences.
The Company believes that its cash, short-term investments and access
to credit facilities, together with its anticipated cash flow from operations,
are adequate for the Company's current and planned needs in 2000. However, the
Company's actual experience may differ from the expectations set forth in the
preceding sentence. Factors that might lead to a difference include, but are not
limited to, the matters discussed herein, as well as future events that might
have the effect of reducing the Company's available cash balances (such as
unexpected operating losses or increased capital or other expenditures, as well
as increases in the Company's inventory or accounts receivable) or future events
that might reduce or eliminate the availability of external financial resources.
RISK OF CURRENCY FLUCTUATIONS
The Company conducts operations in various international countries and
a significant portion of its sales are transacted in local currencies. As a
result, the Company's revenues are subject to foreign exchange rate
fluctuations. The Company enters into forward currency exchange contracts and
options to hedge its exposure for merchandise purchased in U.S. dollars that
will be sold to customers in other currencies. The Company also uses foreign
currency exchange contracts and options to hedge significant inter-company
assets and liabilities denominated in other currencies. However, no assurance
can be given that fluctuation in foreign currency exchange rates will not have
an adverse impact on the Company's revenues, net profits or financial condition.
Recently, the Company's international sales, gross margins and profits have been
negatively impacted by changes in foreign currency exchange rates.
EURO CONVERSION
On January 1, 1999, eleven of the fifteen member countries of the
European Union adopted a single currency called the Euro. On this date, fixed
conversion rates between the existing currencies of these countries ("legacy
currencies") and the Euro were established and the Euro is now traded in the
currency markets and may be used in business transactions. The legacy currencies
will remain as legal tender together with the Euro until at least January 1,
2002 (but not later than July 1, 2002). During the transition period, parties
may settle transactions using either the Euro or a participating country's
legacy currency.
The use of a single currency in the eleven participating countries may
result in increased price transparency which may affect Reebok's ability to
price its products differently in various European markets. Although it is not
clear what the result of this price harmonization might be, one possible result
is lower average prices for products sold in certain of these markets.
Conversion to the Euro is not expected to have a significant impact on the
amount of Reebok's exposures to changes in foreign exchange rates since most of
Reebok's exposures are incurred against the U.S. dollar, as opposed to other
legacy currencies. Reebok's foreign exchange hedging costs should also not
change significantly. Nevertheless, because there will be less diversity in
Reebok's currency exposures, changes in the Euro's value against the U.S. dollar
could have a more pronounced effect, whether positive or negative, on the
Company.
<PAGE>
The Company has made the necessary changes in its internal and banking
systems in Europe to accommodate introduction of the Euro and can make and
receive payments in Europe using the Euro. As part of its global restructuring,
the Company is in the process of implementing SAP software on a global basis;
the SAP system will be Euro-compatible. Other business functions will be
converted for the Euro by the end of the transition period or earlier to meet
business needs. The Company does not expect such conversion costs to be
material.
CUSTOMERS
Although the Company has no single customer that represents 10% or more
of its sales, the Company has certain significant customers, the loss of which
could have an adverse effect on its business. There could also be a negative
effect on the Company's business if any such significant customer became
insolvent or otherwise failed to pay its debts. See also discussion below under
"Economic Factors".
INTELLECTUAL PROPERTY
The Company believes that its trademarks, technologies and designs are
of great value. From time to time the Company has been, and may in the future
be, the subject of litigation challenging its ownership of certain intellectual
property. Loss of the REEBOK, ROCKPORT or GREG NORMAN trademark rights could
have a serious impact on the Company's business. Because of the importance of
such intellectual property rights, the Company's business is subject to the risk
of counterfeiting, parallel trade or intellectual property infringement. The
Company is, however, vigilant in protecting its intellectual property rights.
LITIGATION
The Company is subject to the normal risks of litigation with respect
to its business operations. In addition, the Company is a defendant in a lawsuit
filed by Supracor, Inc., which, if resolved in a manner unfavorable to the
Company, could have a material adverse effect on the Company's financial
condition and liquidity. See Item 1. Legal Proceedings for a further description
of the Supracor litigation.
ECONOMIC FACTORS
The Company's business is subject to economic conditions in the
Company's major markets, including, without limitation, recession, inflation,
general weakness in retail markets and changes in consumer purchasing power and
preferences. Adverse changes in such economic factors could have a negative
effect on the Company's business. For example, the recent slowdown in the
athletic footwear and branded apparel markets has had negative effects on the
Company's business. As a result of current market conditions, a number of the
Company's competitors have generated excess inventories which they are
attempting to sell off. The U.S. market has also suffered from over capacity due
to significant retail expansion during a period of softening consumer demand.
This has resulted in inventory backups and heavy promotional activity which has
made it more difficult for the Company to sell its products.
<PAGE>
The financial crisis in the Far East has also had a negative impact on
the Company's business. The economic problems in Asia have had an adverse effect
on the Company's sales to that region. Such financial difficulties have also
increased the risk that certain of the Company's customers in the region will be
unable to pay for product orders. In addition, most of the Company's products
are manufactured in the Far East by third party manufacturers. The current
economic conditions have made it more difficult for such manufacturers to gain
access to working capital and there is a risk that such manufacturers could
encounter financial problems which could affect their ability to produce
products for the Company. Similar problems have also resulted from the financial
difficulties in Latin America (especially Brazil) and in Russia.
TAX RATE CHANGES AND DEFERRED TAX ASSETS
If the Company was to encounter significant tax rate changes in the
major markets in which it operates, it could have an adverse effect on its
business or profitability. In addition, the tax rate can be affected by the
Company's geographic mix of earnings. If more revenue is earned in markets where
the tax rate is relatively higher, the Company's effective tax rate will
increase. The Company expects that the full year 1999 tax rate will be higher
than the rate for 1998.
The Company has approximately $185 million of net deferred tax assets,
of which approximately $70 million is attributable to the expected utilization
of tax net operating loss carry-forwards. There can be no assurance that the
Company will realize the full value of such deferred tax assets, although the
Company has tax planning strategies which are designed to utilize at least a
portion of the tax net operating loss carryforwards and thereby reduce the
likelihood that they expire unused. Realization of the deferred tax assets will
be dependent on a number of factors including the level of taxable income
generated by the Company, the countries in which such income is generated, as
well as the effectiveness of the Company's tax planning strategies. If the
Company estimates of future taxable income are not realized in the near-term,
the net carrying value of the deferred tax assets could be reduced, thereby
reducing future net income.
GLOBAL RESTRUCTURING ACTIVITIES
The Company is currently undertaking various global restructuring
activities designed to enable the Company to achieve operating efficiencies,
improve logistics and reduce expenses. There can be no assurance that the
Company will be able to effectively execute on its restructuring plans or that
such benefits will be achieved. Moreover, in the short-term the Company could
experience difficulties in product delivery or other logistical operations as a
result of its restructuring activities, which could have an adverse effect on
the Company's business. In the short-term, the Company could also be subject to
increased expenditures and charges because of inefficiencies resulting from such
restructuring activities. For example, the Company recently made a decision to
defer the consolidation of its warehouse facilities in Europe into its Rotterdam
distribution center, as well as to delay implementation of certain aspects of
its planned SAP implementation. This decision was made with the intention of
removing certain logistical risks from the Company's business in the year 2000.
However, a consequence of this decision may be to lose certain logistical
advantages and efficiencies that may have been obtained through a consolidation
of the Company's European distribution facilities and full implementation of
SAP. In addition, the Company expects to continue to incur some duplicate
start-up expenses in 2000, and it is likely that such duplicate expenses will
continue into 2001 because of the decision to defer warehouse consolidation and
full implementation of SAP.
YEAR 2000 READINESS DISCLOSURE
The Company has conducted a global review of its information technology
(IT) systems, as well as its non-IT computer systems, to identify the systems
that could be affected by the technical problems associated with the year 2000
and has developed an implementation plan to address the "year 2000" issue. The
Company made a strategic decision in 1993 to adopt a new global information
system, the SAP system, which will replace most legacy systems. The Company's
Rockport subsidiary and certain other business units will not be converted to
the new SAP system by the end of 1999 and thus modifications to their existing
software have been made to make them year 2000 compliant. In addition, because
of technical difficulties and delays experienced by the Company in implementing
the SAP system, the Company has decided to delay full implementation of the SAP
system in its North American operating unit until after year 2000. Instead, the
Company has modified existing software for North America to make it year 2000
compliant. The Company presently believes that, with modifications to existing
software, the year 2000 will not pose significant operational problems for the
Company's computer systems. However, if the modifications are not implemented or
completed in a timely or effective manner, the year 2000 problem could have a
material adverse impact on the operations and financial condition of the
Company.
The Company is dependent on its suppliers, joint venture partners,
independent distributors and customers to implement appropriate changes to their
IT and non-IT systems to address the "year 2000" issue. The failure of such
third parties to effectively address such issue could have a material adverse
effect on the Company's business.
Estimates of time and cost and risk assessments are based on currently
available information. Developments that could affect such estimates and
assessments include, but are not limited to, the ability to remediate all
relevant computer code for those limited applications targeted to be remediated;
co-operation and remediation success of the Company's suppliers and customers;
and the ability to implement suitable contingency plans in the event of year
2000 system failures at the Company or its suppliers or customers.
QUARTERLY REPORTS
The financial results reflected in the Company's quarterly report on
Form 10-Q are not necessarily indicative of the financial results which may be
achieved in future quarters or for year-end, which results may vary.
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