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 June 30, 1999
Commission file number 1-9340
REEBOK INTERNATIONAL LTD.
- -----------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Massachusetts 04-2678061
- ------------------------------------ --------------------
(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 August 6, 1999, was 56,108,567 shares.
<PAGE>
REEBOK INTERNATIONAL LTD.
INDEX
PART I. FINANCIAL INFORMATION:
Item 1 Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets -
June 30, 1999 and 1998, and December 31, 1998 . . 3-4
Condensed Consolidated Statements of Income - Three
and Six months Ended June 30, 1999 and 1998 . . . 5
Condensed Consolidated Statements of Cash Flows -
Six months Ended June 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 . . . . . . . 12-21
Part II. OTHER INFORMATION:
Items 1-5 Not Applicable . . . . . . . . . . . . . . . . . . . 22
Item 6 Exhibits and Reports on Form 8-K . . . . . . . . . . 22
2
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Amounts in thousands)
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998 1998
---- ---- ----
(Unaudited) (See Note 1)
<S> <C> <C> <C>
Current assets:
Cash and cash equivalents $ 150,111 $ 143,924 $ 180,070
Accounts receivable, net
of allowance for doubtful
accounts (June 1999,
$51,426; June 1998,
$48,014; December 1998,
$47,383) 512,970 543,580 517,830
Inventory 502,030 596,600 535,168
Deferred income taxes 70,627 81,375 78,419
Prepaid expenses and other
current assets 56,219 57,715 46,451
--------- --------- ---------
Total current assets 1,291,957 1,423,194 1,357,938
--------- --------- ---------
Property and equipment, net 181,717 156,960 172,585
Other non-current assets:
Intangibles, net of
amortization 73,017 63,245 72,506
Deferred income taxes 49,993 21,698 44,212
Other 31,519 46,565 37,383
--------- --------- ---------
154,529 131,508 154,101
--------- --------- ---------
Total Assets $1,628,203 $1,711,662 $1,684,624
========= ========= =========
</TABLE>
3
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (Continued)
(Amounts in thousands)
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998 1998
---- ---- ----
(Unaudited) (See Note 1)
<S> <C> <C> <C>
Current liabilities:
Notes payable to banks $ 45,826 $ 62,218 $ 48,070
Current portion of
long-term debt 185,172 105,920 86,640
Accounts payable 159,747 174,609 203,144
Accrued expenses 230,995 202,845 191,833
Income taxes payable 28,944 20,637 27,597
---------- ---------- ----------
Total current liabilities 650,684 566,229 557,284
---------- ---------- ----------
Long-term debt, net of
current portion 423,619 607,822 554,432
Minority interest 18,018 27,185 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
June 30, 1999, 92,822; issued
June 30, 1998, 93,159;
issued December 31,1998,
93,307 928 932 933
Retained earnings 1,181,121 1,133,769 1,156,739
Less 36,716 shares
in treasury at cost (617,620) (617,620) (617,620)
Unearned compensation (56) (26)
Accumulated other
comprehensive expense (28,547) (23,158) (15,649)
---------- ---------- ----------
535,882 493,867 524,377
---------- ---------- ----------
Total liabilities and
stockholders' equity $1,628,203 $1,711,662 $1,684,624
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of the condensed consolidated
financial statements.
4
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Amounts in thousands except share data)
(Unaudited)
<TABLE>
<CAPTION>
Three months Ended Six months Ended
June 30, June 30,
---------------------- ------------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net sales $ 697,393 $ 760,567 $1,483,177 $1,640,690
Other expense (2,740) (5,393) (1,572) (5,586)
--------- ---------- --------- ----------
694,653 755,174 1,481,605 1,635,104
Costs and expenses:
Cost of sales 432,592 480,239 920,358 1,046,311
Selling, general and
administrative expenses 243,357 253,428 495,611 518,871
Special charge 35,000
Amortization of intangibles 1,599 776 2,735 1,743
Interest expense 12,431 16,616 26,427 34,225
Interest income (1,582) (3,376) (2,977) (8,225)
--------- ---------- --------- ----------
688,397 747,683 1,442,154 1,627,927
--------- ---------- --------- ----------
Income before income
taxes and minority interest 6,256 7,491 39,451 7,177
Income tax expense 2,252 2,411 14,202 2,311
--------- ---------- --------- ----------
Income before minority
interest 4,004 5,080 25,249 4,866
Minority interest (564) (1,066) 2,776 2,078
--------- ---------- --------- ----------
Net income $ 4,568 $ 6,146 22,473 2,788
========= ========== ========= ==========
Basic earnings per share $ .08 $ .11 $ .40 $ .05
========= ========== ========= ==========
Diluted earnings per share $ .08 $ .11 $ .40 $ .05
========= ========== ========= ==========
</TABLE>
The accompanying notes are an integral part of the condensed consolidated
financial statements.
5
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Six months Ended
June 30,
----------------
1999 1998
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income $ 22,473 $ 2,788
Adjustments to reconcile net income
to net cash provided by (used for)
operating activities:
Depreciation and amortization 22,622 24,760
Minority interest 2,776 2,078
Deferred income taxes (2,767) (12,123)
Special charge 35,000
Changes in operating assets and
liabilities:
Accounts receivable (15,634) 13,325
Inventory 19,649 (42,462)
Prepaid expenses (7,107) (3,555)
Other (3,371) 17,232
Accounts payable and accrued expenses 2,857 (66,526)
Income taxes payable 5,459 15,594
---------- ----------
Total adjustments 24,484 (16,677)
---------- ----------
Net cash provided by (used for)
operating activities 46,957 (13,889)
---------- ----------
Cash flows from investing activity:
Payments to acquire property and
equipment (29,238) (20,128)
---------- ----------
Net cash used for investing activity (29,238) (20,128)
---------- ----------
</TABLE>
6
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Cont'd)
(Amounts in thousands)
(Unaudited)
<TABLE>
<CAPTION>
Six months Ended
June 30,
----------------
1999 1998
---- ----
<S> <C> <C>
Cash flows from financing activities:
Net borrowings of notes payable to banks $ 21,931 $ 23,135
Payments of long-term debt (53,060) (46,693)
Proceeds from issuance of common stock to
employees 1,904 1,295
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 (56,008) (30,091)
-------- --------
Effect of exchange rate changes on cash
and cash equivalents 8,330 (1,734)
-------- --------
Net decrease in cash and cash equivalents (29,959) (65,842)
-------- --------
Cash and cash equivalents at beginning of
period 180,070 209,766
-------- ---------
Cash and cash equivalents at end of period $ 150,111 $ 143,924
======== =========
Supplemental disclosures of cash flow information:
1999 1998
---- ----
Cash paid during the period for:
Interest $ 26,285 $ 23,835
Income taxes 3,559 9,600
</TABLE>
The accompanying notes are an integral part of the condensed consolidated
financial statements.
7
<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
- ---------------------------------------------------
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 six months ended June 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.
8
<PAGE>
NOTE 2 - SPECIAL CHARGE
- -----------------------
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 first quarter 1998 charge are presented below with
additional information concerning the activities affecting the liability for
special charges recorded during 1998 and 1999:
<TABLE>
<CAPTION>
Balance 1998 1998 Balance 1999 Balance
12/31/97 Charges Utilization 12/31/98 Utilization 6/30/99
-------- ------- ---------- -------- ----------- -------
<S> <C> <C> <C> <C> <C> <C>
Marketing contracts $ 25,000 $ 18,476 $ (28,734) $ 14,742 $ (1,923) $ 12,819
Fixed asset
write-downs 6,900 (1,134) 5,766 ( 16) 5,750
Employee severance 8,400 14,798 (15,983) 7,215 (1,345) 5,870
Termination of
leases and other 6,761 1,726 (5,912) 2,575 (1,038) 1,537
-------- -------- --------- -------- ------- -------
$ 47,061 $ 35,000 $ (51,763) $ 30,298 $ (4,322) $ 25,976
======== ======== ========= ======== ======== =========
</TABLE>
The fixed asset write-downs relate to assets that have been or will be abandoned
or sold.
9
<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):
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30 June 30
------------------- -----------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Numerator:
Net income $ 4,568 $ 6,146 $ 22,473 $ 2,788
------- ------- ------- -------
Denominator for basic
earnings per share:
Weighted average shares 55,975 56,338 56,020 56,341
Dilutive employee stock
options 902 817 707 816
------- ------- ------- -------
Denominator for diluted
earnings per share:
Weighted average shares
and assumed conversions 56,877 57,155 56,727 57,157
======= ======= ======= =======
Basic earnings per share $ .08 $ .11 $ .40 $ .05
Diluted earnings per
share $ .08 $ .11 $ .40 $ .05
</TABLE>
NOTE 4 - COMPREHENSIVE INCOME
- -----------------------------
Comprehensive income (loss) for the quarters ended June 30, 1999 and June 30,
1998 was $(409) and $5,414 respectively. Comprehensive income for the six months
ended June 30, 1999 and 1998 was $9,575 and $915, respectively. Comprehensive
income (loss) for all periods presented represents net income (loss) and changes
in foreign currency translation adjustments.
NOTE 5 - CONTINGENCIES
- ----------------------
The Company is involved in various legal proceedings generally incidental to its
business. While it is not feasible to predict or determine the outcome of these
proceedings, management does not believe that they should result in a materially
adverse effect on
10
<PAGE>
the Company's financial position, results of operations or liquidity. The
Company settled for $4,000 in April, 1999 a lawsuit filed by a former
distributor in which the plaintiff asserted a claim for damages in excess
of $50,000. The settlement was recorded as a charge to other expense in the
Company's second quarter.
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 June
30, 1998 as "Outstanding redemption value of equity put options." At June 30,
1999, no shares of outstanding common stock were subject to repurchase under the
terms and conditions of equity put options.
11
<PAGE>
REEBOK INTERNATIONAL LTD. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
The following discussion contains forward-looking statements about the Company's
revenues, earnings, spending, margins, orders, inventory, products, actions,
plans, strategies and objectives. 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.
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 include, but are not limited to, those
discussed below and those described in Exhibit 99 - Issues and Uncertainties
filed with this quarterly report on Form 10-Q.
Operating Results
- -----------------
Second Quarter 1999 Compared to Second Quarter 1998
- ---------------------------------------------------
Net sales for the quarter ended June 30, 1999 were $697.4 million, an 8.3%
decrease from 1998's second quarter net sales of $760.6 million. The Reebok
Division's worldwide sales (including the sales of the Greg Norman Collection)
were $570.1 million, a 10.1% decrease from sales of $634.3 million in the second
quarter of 1998. U.S. footwear sales of the Reebok Brand decreased 8.9% to
$245.1 million in the second quarter of 1999 from $268.9 million in the second
quarter of 1998. U.S. footwear categories that generated sales increases in the
second quarter of 1999 were kids, walking, tennis and basketball; whereas U.S.
footwear sales in most other 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 second quarter by 25.8% to $59.2 million from $79.8 million in the second
quarter of 1998. Part of the sales decline in U.S. apparel is attributable to
the Company's plans to strategically reposition this business to be more
consistent with its International apparel operations. This strategic initiative
includes segmenting distribution and reducing some of the Company's U.S. apparel
product offerings. The decrease also includes a decline in sales of the Greg
Norman Collection. The Greg Norman brand is being repositioned as a collections
business and in the short term that has resulted in a reduction of the number of
retail storefronts in which the brand is sold.
12
<PAGE>
International sales of the Reebok Brand (including footwear and apparel) were
$265.8 million in the second quarter of 1999, a decrease of 6.9% from $285.6
million in the second quarter of 1998. Most of the Reebok Brand's International
footwear categories declined during the quarter and International apparel sales
decreased slightly. International sales were adversely impacted by start-up
problems experienced in the Company's new Logistics and Shared Service Companies
in Rotterdam in the first quarter. However, the move of the Company's German and
certain other European subsidiaries into the Company's new distribution center
has substantially stabilized in the second quarter and the Company is currently
able to ship orders received from customers on a timely basis from the new
facility. During the quarter and for the first six months of 1999, the Company's
sales performance was adversely affected by economic conditions in Latin America
and Russia. As compared to the second quarter of 1998, footwear sales to
unconsolidated Latin American distributors declined by 46.5%, or approximately
$7.3 million, and sales in Russia declined 54.1% or $7.3 million. Business in
the Asia Pacific region during the quarter stabilized with sales for the 1999
second quarter approximately equal to those in the same period in 1998.
Rockport's second quarter 1999 sales were $104.0 million as compared to sales of
$109.9 million in the second quarter of 1998. Domestic sales for the Rockport
brand decreased by 8.1% while International sales increased by 7.2%.
Domestically, sales decreased in the men's category and were negatively impacted
by declines in the Company's outlet store business and by heavy promotional
activity at retail for the brown shoe segment. International revenues accounted
for 19.6% of Rockport's sales in the second quarter of 1999 as compared to 17.2%
in the second quarter of 1998.
Sales of the Company's Polo Ralph Lauren Footwear products were $23.3 million in
the second quarter of 1999, an increase of 42.1% from $16.4 million in the
second quarter of 1998. This increase was led by growth in the rugged casual and
athletic segments. During the first half of 1999, the Company debuted the
RLX/Polo Sport Ralph Lauren performance product line and in July of 1999 the
Company debuted a separate Lauren by Ralph Lauren product line for women. For
the balance of 1999, the Company's Polo Ralph Lauren Footwear business plans to
increase advertising, expand distribution and continue to invest in branded
retail presence.
During the second quarter of 1999, the Company's overall gross margin was 38.0%
of sales, this compares to 36.9% for 1998's second quarter, an increase of 110
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.
13
<PAGE>
Selling, general and administrative expenses for the second quarter of 1999 were
$243.4 million, or 34.9% of sales, as compared to $253.4 million, or 33.3% of
sales in 1998's second quarter. While the Company's overall spending declined by
$10.0 million in the quarter, spending did increase as a percentage of sales.
During the quarter 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 second quarter of 1999,
these start-up expenses, many of which are redundant in nature, amounted to
approximately $8.0 million as compared to $10.0 million in the second quarter 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. Start-up expenses are expected to aggregate approximately $40 million
for the full year 1999. Selling, general and administrative expenses for the
1999 second quarter, exclusive of these start-up expenses, were about 33.7% of
sales as compared with 32.1% in the second quarter of 1998. The Company
considers this level to be too high and will begin to initiate programs to
reduce selling, general and administrative spending to a lower percentage of
sales. The impact of these programs will not begin to be realized until calendar
year 2000.
Net interest expense was $10.8 million for the second quarter of 1999, a
decrease of $2.4 million as compared to the second 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 second quarter of 1999 as
compared to 32.2% in the second quarter of 1998 and 32.2% for the full year
1998. Looking forward, dependent on the geographic mix of earnings in 1999, the
Company expects the second 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 Six Months 1999 Compared to First Six Months 1998
- ---------------------------------------------------
Net sales for the first six months ended June 30, 1999 were $1.483 billion, a
9.6% decrease from 1998's first six months net sales of $1.641 billion. The
Reebok Division's worldwide sales (including the sales of the Greg Norman
Collection) were $1.222 billion, an 11.8% decrease from sales of $1.385 billion
in the first six months of 1998. U.S. footwear sales of the Reebok Brand
decreased 9.1% to $511.4 million in the first six months of 1999 from $562.6
million in the first six months of 1998. U.S. footwear categories that generated
sales increases in the first six months of 1999 were kids, walking and cleated;
whereas U.S. footwear sales in most other categories declined. The Classics
category declined
14
<PAGE>
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 six months by 27.9% to $127.4 million from
$176.6 million in the first six months of 1998. Part of the sales decline in
U.S. apparel is attributable to the Company's plans to strategically reposition
this business to be more consistent with its International apparel operations.
This strategic initiative includes segmenting distribution and reducing some of
the Company's U.S. apparel product offerings. The decrease also includes a
decline in sales of the Greg Norman Collection. The Greg Norman brand is being
repositioned as a collections business and in the short 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
$582.8 million in the first six months of 1999, a decrease of 9.7% from $645.6
million in the first six months of 1998. Most of the Reebok Brand's
International footwear categories declined during the first six months whereas
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. However, the move of the Company's German and
certain other European subsidiaries into the Company's new distribution center
has substantially stabilized in the second quarter and the Company is currently
able to ship orders received from customers on a timely basis from the new
facility. Sales in Europe increased by 5% for the first six months of 1999
compared with the same period in 1998, excluding the 42% sales decline in
Germany where a portion of the decrease can be attributed to the start-up
problems at the new Rotterdam Distribution facility. The Company's sales
performance in its other International regions is being adversely affected by
economic conditions in Latin America, Asia Pacific and Russia. As compared to
the first six months of 1998, footwear sales to unconsolidated Latin American
distributors declined by 5.8%, or approximately $22.8 million, sales in Asia
Pacific declined 11.9% or $11.1 million and sales in Russia declined 53.9% or
$12.4 million.
Rockport's sales for the first six months of 1999 were $213.7 million as
compared to sales of $220.7 million in the first six months of 1998. Domestic
sales for the Rockport brand decreased by 7.5% while International sales
increased by 14.0%. Domestically, sales decreased in both the men's and outdoor
categories and were negatively impacted by declines in the Company's outlet
store business and by heavy promotional activity at retail for the brown shoe
segment. International revenues accounted for 23.6% of Rockport's sales in the
first six months of 1999 as compared to 20.0% in the first six months of 1998.
Sales of the Company's Polo Ralph Lauren Footwear products were $47.9 million in
the first six months of 1999, an increase of
15
<PAGE>
36.1% from $35.2 million in the first six months of 1998. This increase was led
by growth in the rugged casual and athletic segments. During the first half of
1999, the Company debuted the RLX/Polo Sport Ralph Lauren performance product
line and in July of 1999 the Company debuted a separate Lauren by Ralph Lauren
product line for women. For the balance of 1999, the Company's Polo Ralph Lauren
Footwear business plans to increase advertising, expand U.S. distribution and
continue to invest in branded retail presence.
During the first six months of 1999, the Company's overall gross margin was
37.9% of sales, this compares to 36.2% for 1998's first six months, an increase
of 170 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 six months of 1999
were $495.6 million, or 33.4% of sales, as compared to $518.9 million, or 31.6%
of sales in 1998's first six months. While the Company's overall spending
declined by $23.3 million during the first six months of 1999 as compared with
the same period in 1998, spending did increase as a percentage of sales. During
the six 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 six months of
1999, these start-up expenses, many of which are redundant in nature, amounted
to approximately $17.0 million as compared to $15.0 million in the first six
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. These start-up expenses are expected to aggregate approximately $40
million for the full year 1999. Selling, general and administrative expenses for
the six months of 1999, exclusive of these start-up expenses, were about 32.3%
of sales as compared with 30.7% for the first six months of 1998. The Company
considers this level to be too high and will begin to initiate programs to
reduce selling, general and administrative spending to a lower percentage of
sales. The impact of these programs will not begin to be realized until calendar
year 2000.
Net interest expense was $23.4 million for the first six months of 1999, a
decrease of $2.6 million as compared to the first six 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 six months of 1999 as
compared to 32.2% in the first six months of 1998 and 32.2% for the full year
1998. Looking forward, dependent
16
<PAGE>
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 July 1 through December
31, 1999 declined 13.5% as compared to the same period last year. North American
backlog for the Reebok Brand, which includes the U.S. and Canada, decreased
24.9%, and, the International backlog increased 5.3%. On a constant dollar
basis, worldwide Reebok Brand backlog was down 11.7%, and International backlog
increased 10.1%. U.S. footwear backlog decreased 17.5% and U.S. apparel backlog
(including Greg Norman Collection apparel) decreased 45.7% as compared to the
same period last year. When the decline in the footwear backlog of 17.5% for the
second quarter 1999 is compared to the first quarter decline of 16.3%, there
appears to be a slight decrease in the comparisons. The Company believes that
this decrease in comparisons is primarily the result of a higher percentage of
July future orders being shipped to retailers this year when compared to last
year. Since these orders have been shipped, they are not included in the June
backlog, thereby adversely impacting the comparisons. Therefore, the Company
believes that the decrease in comparisons quarter to quarter is not necessarily
indicative of the trend for the balance of the year. In North America, the rate
of returns and cancellations during the first six months of 1999 has improved
substantially when compared to the same period last year. In addition, the
Company believes retailers are leaving more open-to-buy dollars available for
at-once business. These changes in business conditions suggest that these
percentage decreases in open backlog in the U.S. are not necessarily indicative
of future sales trends. In addition, many orders are cancelable, sales by
Company-owned retail stores can vary from year to year, many markets in South
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
- --------------------------------
The Company's financial position remains strong. Working capital was $641.3
million at June 30, 1999 and $857.0 million at June 30, 1998. The
reclassification to a current liability of the $100.0 million medium-term note
due in May 2000 resulted in a portion of the working capital reduction. The
current ratio at June 30, 1999 was 1.9 to 1 as compared to 2.4 to 1 at December
31, 1998 and 2.5 to 1 at June 30, 1998.
17
<PAGE>
Accounts receivable decreased by $30.6 million from June 30, 1998, a decrease of
5.6%. The decrease is primarily due to the sales decline. Inventory decreased by
$94.6 million or 15.9% from June 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 16.9%. U.S. Reebok Brand apparel inventories were down 50.6% and
retail inventories were down 6.7% 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 six months of 1999 was $47.0
million, as compared to cash used for operations of $13.9 million during the
first six months of 1998, a $60.9 million improvement. Capital expenditures for
the first six months of 1999 were $29.2 million, an increase from 1998 due to
investments in the Company's European Logistics and Shared Service Companies,
international retail expansion and various Year 2000 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 1999 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 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
18
<PAGE>
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. This new
global system will replace most legacy systems with year 2000 compliant software
and will 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 2000. 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 will not
pose significant operational problems for the Company's computer systems.
However, if the modifications and conversions 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. 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 begin 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 a number 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. Accordingly, the Company
has decided to continue to implement the SAP system in certain of its operating
units during 1999. However, because of the technical difficulties with the SAP
system and the delays resulting therefrom, the Company has decided to delay full
implementation of the SAP system in its North American operating unit until
after January 2000. For its North American operating unit, the Company is,
instead, proceeding with its contingency plan to modify existing software to
make it year 2000 compliant. The Company has already modified existing software
to
19
<PAGE>
process customer orders and purchase orders for the year 2000, and has been
processing such orders. Other software systems for the North American operating
unit still need to be modified to make them year 2000 compliant. The Company has
retained the same consultant which modified software for its Rockport subsidiary
and certain other units to handle this modification, and expects such
modification to be complete by the end of the third quarter 1999 with final
testing and implementation occurring in October 1999. The costs of such
modification, are not anticipated to be 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 during 1999.
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
currently in process. The Company will be assessing its largest customers and
vendors to determine that their operations are year 2000 compliant. The Company
is also in 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. The Company has completed year
2000 compliance evaluation of all of its major footwear factories through site
visits. The Company is also in the process of evaluating and testing year 2000
compliance with its major customers including its EDI customers. 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
20
<PAGE>
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.
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 SAP and
other package conversion; 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.
21
<PAGE>
PART II - OTHER INFORMATION
Item 1-5
Not applicable
Item 6
(a) Exhibits:
10.1 Agreement dated as of April 19, 1999 between Reebok International Ltd.
and Paul Fireman
10.2 Consent dated April 19, 1999 from Paul Fireman to Reebok International
Ltd.
10.3 Consent dated April 19, 1999 from Kenneth Watchmaker to Reebok
International Ltd.
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 June 30,
1999.
22
<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: August 12, 1999
REEBOK INTERNATIONAL LTD.
BY: /s/ KENNETH WATCHMAKER
-------------------------
Kenneth Watchmaker
Executive Vice President and
Chief Financial Officer
23
EXHIBIT 10.1
AGREEMENT
Agreement, dated as of April 19, 1999, between Reebok International
Ltd. ("Reebok) and Paul Fireman ("Fireman") amending and extending a portion of
the stock option granted by Reebok to Fireman on July 24, 1990 (the "Stock
Option Grant") and amending the Stock Option Agreement dated as of July 24, 1990
between Reebok and Fireman relating to the Stock Option Grant (the "Stock Option
Agreement").
For good and valuable consideration, the receipt and sufficiency of
which are hereby acknowledged, and in consideration of the mutual covenants
contained herein, the parties hereto agree to amend and extend the Stock Option
Grant and the Stock Option Agreement in the following respects:
1. With respect to 500,000 shares of the Stock Option Grant
exercisable at $18.01 per share (the "Amended Option Shares"),
such Amended Stock Option Shares shall become, as of the date
hereof, stock option shares issued to Fireman pursuant to
Reebok's 1994 Equity Incentive Plan, as amended (the "Plan"),
and shall in all respects be subject to, and governed for all
purposes by, the terms and conditions of such Plan.
2. With respect to the Amended Option Shares, the Final Exercise
Date (as such term is referred to in the Stock Option Grant
and the Stock Option Agreement) shall be July 24, 2010.
3. That portion of the Stock Option Grant concerning the Amended
Option Shares may be transferred by Fireman through a gift to
any or all of the following: any child, stepchild, grandchild,
parent, stepparent, mother-in-law, father-in-law or spouse of
Fireman, any trust in which these persons have more than a
fifty percent (50%) beneficial interest or a foundation in
which these persons (or Fireman) control the management of
assets, and may be retransferred by any of these permitted
transferees back to Fireman.
4. In exchange for the amendment and extension set forth above,
Fireman hereby relinquishes all right and interest in the
500,000 shares of the Stock Option Grant exercisable at $18.01
which were granted under Reebok's 1985 Stock Option Plan.
IN WITNESS WHEREOF, this Agreement has been executed by the parties
hereto as of the date first above written.
REEBOK INTERNATIONAL LTD.
/s/ KENNETH WATCHMAKER /s/ PAUL FIREMAN
By: Kenneth Watchmaker PAUL FIREMAN
EXHIBIT 10.2
CONSENT
This Consent, dated as of April 19, 1999, is from Paul Fireman
("Employee") to Reebok International Ltd. ("Reebok").
On February 23, 1999, the Compensation Committee of the Board of
Directors of Reebok adopted an amendment to the Reebok Supplemental Executive
Retirement Plan (the "SERP"), a copy of which is attached hereto as Exhibit 1,
providing that under certain circumstances detailed in such amendment
Participants in the SERP would forfeit their benefits under the SERP.
Employee is a Participant under the SERP and Reebok has requested that
Employee consent to the amendment to the SERP attached as Exhibit 1 hereto. In
consideration of Employee consenting to such amendment, Reebok is amending and
extending until July 24, 2010 the term of 1000 shares of stock held by Employee
under an option to purchase Reebok Common Stock granted July 24, 1990 (the "1990
Option").
NOW, THEREFORE, in consideration of the amendment and extension of the
term until July 24, 2010 of 1000 shares of stock held by Employee under the 1990
Option and other good and valuable consideration, the receipt and sufficiency of
which are hereby acknowledged, Employee consents and agrees to amend the SERP by
adding a new clause 4(f) as set forth on Exhibit 1 hereto and agrees that, with
respect to Employee's participation in the SERP, Employee shall be bound by the
SERP as amended and that his rights to benefits under the SERP shall in all
respects be governed by the amended SERP.
IN WITNESS WHEREOF, Employee has executed this Consent as of the date
first written above.
/s/ PAUL FIREMAN
Paul Fireman
EXHIBIT 1
SECTION 4.
(F) FORFEITURE OF BENEFIT. Notwithstanding any other provision of this
Plan, a Participant shall cease participation in this Plan and such Participant
(and his/her spouse) shall forfeit his/her entire benefits under this Plan upon
the occurrence of any of the following events:
(1) The Participant voluntarily terminates his/her
employment with Employer prior to attaining age 65
and following his/her termination of employment with
Employer, but prior to attaining age 65, the
Participant provides services as an employee,
consultant, or otherwise for any person or entity
other than Employer for remuneration ("Outside
Services"). For purposes of this clause, the
determination of what constitutes Outside Services
shall be made by Employer, in its sole judgment and
discretion, taking into account whatever factors
Employer deems necessary or appropriate; PROVIDED,
that Participant shall not be deemed to be providing
Outside Services, if Participant is engaged in
teaching, government or public service, or service as
a corporate director, or the Participant works fewer
than 25 hours per week either as a consultant or as
an employee of a non-profit company, or if
Participant is employed by a public accounting firm.
Notwithstanding the foregoing, if all of the
following conditions are satisfied, then this
provision relating to the forfeiture of benefits
shall not apply: (1) if a Participant has entered
into a Change in Control Agreement with Employer, (2)
such Participant voluntarily terminates employment
following a Change of Control (as defined in such
agreement), and (3) such termination results in the
payment of benefits under the Change of Control
Agreement.
(2) The Participant's employment with Employer is
terminated by Employer for "cause", as determined by
Employer in its reasonable judgment and discretion.
(3) At any time the Participant, directly or indirectly,
owns, manages, operates, controls, is employed by or
acts as an officer, director or consultant for, any
footwear or apparel company (a "Competitive
Activity") unless Employer consents in advance in
writing to such Competitive Activity.
In order to administer the restrictions set forth above, each
Participant who is no longer employed by Employer shall be required to certify
to Employer on an annual basis (1) if the Participant voluntarily terminated
his/her employment, that the Participant is not providing Outside Services and
(2) that the Participant is not engaged in any Competitive Activity. Participant
shall also provide Employer with such additional information regarding his/her
activities as Employer may request in order to confirm compliance with the
restrictions set forth above.
EXHIBIT 10.3
CONSENT
This Consent, dated as of April 19, 1999, is from Ken Watchmaker
("Employee") to Reebok International Ltd. ("Reebok").
On February 23, 1999, the Compensation Committee of the Board of
Directors of Reebok adopted an amendment to the Reebok Supplemental Executive
Retirement Plan (the "SERP"), a copy of which is attached hereto as Exhibit 1,
providing that under certain circumstances detailed in such amendment
Participants in the SERP would forfeit their benefits under the SERP.
Employee is a Participant under the SERP and Reebok has requested that
Employee consent to the amendment to the SERP attached as Exhibit 1 hereto. In
consideration of Employee consenting to such amendment, Reebok is granting
Employee a stock option to purchase 1,000 shares of Reebok Common Stock.
NOW, THEREFORE, in consideration of the grant of stock options to
Employee and other good and valuable consideration, the receipt and sufficiency
of which are hereby acknowledged, Employee consents and agrees to amend the SERP
by adding a new clause 4(f) as set forth on Exhibit 1 hereto and agrees that,
with respect to Employee's participation in the SERP, Employee shall be bound by
the SERP as amended and that his rights to benefits under the SERP shall in all
respects be governed by the amended SERP.
IN WITNESS WHEREOF, Employee has executed this Consent as of the date
first written above.
/s/ KEN WATCHMAKER
Ken Watchmaker
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THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE JUNE 30,
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OF INCOME AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
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<NAME> REEBOK INTERNATIONAL LTD.
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<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
<CASH> 150,111
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<RECEIVABLES> 564,396
<ALLOWANCES> 51,426
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<CURRENT-ASSETS> 1,291,957
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<COMMON> 928
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<TOTAL-LIABILITY-AND-EQUITY> 1,628,203
<SALES> 1,483,177
<TOTAL-REVENUES> 1,481,605
<CGS> 920,358
<TOTAL-COSTS> 920,358
<OTHER-EXPENSES> 498,145
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 26,427
<INCOME-PRETAX> 36,675
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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.
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 175 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 June 30, 1999, the outstanding balance of such debt was
approximately $397 million) and has a $400 million revolving credit line (as of
June 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 1999. 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.
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.
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.
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 $177 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 is currently consolidating
its warehouses in Europe. Such consolidation should enable it to achieve
efficiencies and improve logistics. However, in the short-term, such benefits
may not be achieved and if difficulties arise in effecting such consolidation,
the Company could experience operational difficulties, excess inventory or a
decline in sales. The Company previously had difficulties in shipping product
from its Rotterdam distribution center on a timely basis, which resulted in
increased costs and decreased sales. Although these problems in shipping product
seem to have substantially stabilized in the 1999 second quarter, there is no
assurance that additional problems will not be encountered, especially as more
subsidiaries use the warehouse facility and increased demands are placed in
shipping product out of such warehouse. Delays in product shipment could result
in additional order cancellations, added distribution costs and increased
markdowns on products. Moreover, the plan to consolidate many of the Company's
warehouse facilities in Europe to the Rotterdam distribution center has been
predicated on certain assumptions as to sales volume, and the timing of SAP
implementation and migration of various European subsidiaries into such
warehouse facility. If these assumptions are not met, the Company's distribution
costs could increase significantly and the Company could be forced to
re-evaluate its consolidation strategy. In the second quarter of 1999 the
Company incurred approximately $8.2 million in start-up costs as a result of its
global restructuring efforts. These incremental start-up expenses are expected
to continue throughout 1999.
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 are being 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 January 2000. Instead,
the Company will modify existing software for North America to make it year 2000
compliant. The Company presently believes that, with modifications to existing
software and converting to SAP software and other packaged software, the year
2000 will not pose significant operational problems for the Company's computer
systems. However, if the modifications and conversions 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. 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 and, because of the year 2000 time
restraints, the schedule for implementation is accelerated. 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. Finally, 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 hold to the schedule
defined for SAP and other package conversion; 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.
G:/L/L/R/SEC/10Q2.2
