SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549-1004
______________________
FORM 10-Q
(Mark One)
X Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
- Exchange Act of 1934
For the quarterly period ended September 30, 2003
OR
Transition Report Pursuant to Section 13 or 15(d) of the Securities
- Exchange Act of 1934
Commission file number 1-14064
The Estee Lauder Companies Inc.
(Exact name of registrant as specified in its charter)
Delaware 11-2408943
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
767 Fifth Avenue, New York, New York 10153
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code 212-572-4200
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
- -
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes X No
- -
At October 24, 2003, 121,371,039 shares of the registrant's Class A Common
Stock, $.01 par value, and 106,662,533 shares of the registrant's Class B Common
Stock, $.01 par value, were outstanding.
THE ESTEE LAUDER COMPANIES INC.
Index
Page
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Part I. Financial Information
Consolidated Statements of Earnings --
Three Months Ended September 30, 2003 and 2002......................... 2
Management's Discussion and Analysis of
Financial Condition and Results of Operations.......................... 3
Consolidated Balance Sheets --
September 30, 2003 and June 30, 2003................................... 12
Consolidated Statements of Cash Flows --
Three Months Ended September 30, 2003 and 2002.......................... 13
Notes to Consolidated Financial Statements............................... 14
Controls and Procedures.................................................. 20
Part II. Other Information............................................... 21
THE ESTEE LAUDER COMPANIES INC.
PART I. FINANCIAL INFORMATION
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited)
Three Months Ended
September 30
------------
2003 2002
---- ----
(In millions,
except per share data)
Net Sales................................................................. $1,351.7 $ 1,242.5
Cost of sales............................................................. 366.3 357.1
--------- ---------
Gross Profit.............................................................. 985.4 885.4
--------- ---------
Operating expenses:
Selling, general and administrative.................................... 852.7 766.4
Related party royalties................................................ 4.3 4.6
--------- ---------
857.0 771.0
--------- ---------
Operating Income.......................................................... 128.4 114.4
Interest expense, net..................................................... 7.7 2.9
--------- ---------
Earnings before Income Taxes and Minority Interest........................ 120.7 111.5
Provision for income taxes................................................ 43.5 37.4
Minority interest, net of tax............................................. (0.2) (0.7)
--------- ---------
Net Earnings ............................................................. 77.0 73.4
Preferred stock dividends................................................. - 5.9
--------- ---------
Net Earnings Attributable to Common Stock................................. $ 77.0 $ 67.5
========= =========
Basic net earnings per common share:
Net earnings attributable to common stock.............................. $ .34 $ .29
========= =========
Diluted net earnings per common share:
Net earnings attributable to common stock.............................. $ .33 $ .28
========= =========
Weighted average common shares outstanding:
Basic................................................................ 228.1 235.2
Diluted.............................................................. 230.6 237.4
See notes to consolidated financial statements.
THE ESTEE LAUDER COMPANIES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Results Of Operations
---------------------
We manufacture, market and sell skin care, makeup, fragrance and hair care
products which are distributed in over 130 countries and territories. The
following is a comparative summary of operating results for the three months
ended September 30, 2003 and 2002, and reflects the basis of presentation
described in Note 1 to the Notes to Consolidated Financial Statements for all
periods presented. Sales of products and services that do not meet our
definition of skin care, makeup, fragrance or hair care have been included in
the "other" category.
Three Months Ended
September 30
------------
2003 2002
---- ----
(In millions)
Net Sales
By Region:
The Americas............................................... $ 856.6 $ 787.7
Europe, the Middle East & Africa........................... 327.8 304.5
Asia/Pacific............................................... 167.3 150.3
-------- --------
$1,351.7 $1,242.5
======== ========
By Product Category:
Skin Care.................................................. $ 462.9 $ 421.7
Makeup..................................................... 494.1 468.0
Fragrance.................................................. 331.1 296.5
Hair Care.................................................. 54.8 50.4
Other...................................................... 8.8 5.9
-------- --------
$1,351.7 $1,242.5
======== ========
Operating Income
By Region:
The Americas............................................... $ 117.8 $ 65.1
Europe, the Middle East & Africa........................... 7.7 44.6
Asia/Pacific............................................... 2.9 4.7
-------- --------
$ 128.4 $ 114.4
======== ========
By Product Category:
Skin Care.................................................. $ 39.6 $ 46.0
Makeup..................................................... 44.2 37.7
Fragrance.................................................. 39.2 28.7
Hair Care.................................................. 4.7 3.8
Other...................................................... 0.7 (1.8)
-------- --------
$ 128.4 $ 114.4
======== ========
THE ESTEE LAUDER COMPANIES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following table presents certain consolidated earnings data as a percentage
of net sales:
Three Months Ended
September 30
------------
2003 2002
---- ----
Net sales........................................................ 100.0% 100.0%
Cost of sales.................................................... 27.1 28.7
----- -----
Gross profit..................................................... 72.9 71.3
----- -----
Operating expenses:
Selling, general and administrative........................... 63.1 61.7
Related party royalties....................................... 0.3 0.4
----- -----
63.4 62.1
----- -----
Operating income................................................. 9.5 9.2
Interest expense, net............................................ 0.6 0.2
----- -----
Earnings before income taxes and minority interest............... 8.9 9.0
Provision for income taxes....................................... 3.2 3.0
Minority interest, net of tax.................................... - (0.1)
----- -----
Net earnings..................................................... 5.7% 5.9%
===== =====
First Quarter Fiscal 2004 as Compared with First Quarter Fiscal 2003
Net Sales
Net sales increased 9% or $109.2 million to $1,351.7 million reflecting growth
in all product categories and geographic regions. Fragrance sales, fueled by
new product launches in our core brands, as well as higher skin care and makeup
sales, were the principal contributors to the increase in net sales.
Geographically, all regions had growth led by the Americas. Excluding the impact
of foreign currency translation, net sales increased 6%.
Product Categories
Skin Care
Net sales of skin care products increased 10% or $41.2 million to $462.9
million. This increase in net sales was primarily attributable to newly
launched products such as Idealist Micro-D Deep Thermal Refinisher and DayWear
Plus by Estee Lauder and Pore Minimizer products by Clinique. The increase was
supported by strong sales of Perfectionist Correcting Serum for Lines/Wrinkles,
Re-Nutriv Intensive Lifting products and Resilience Lift by Estee Lauder, and
the Repairwear line of products from Clinique and products in Clinique's 3-Step
Skin Care System, as well as the addition of the Darphin line of products.
Partially offsetting these increases were lower net sales of certain existing
products such as Advanced Stop Signs by Clinique and White Light by Estee
Lauder. Excluding the impact of foreign currency translation, skin care net
sales increased 7%.
Makeup
Makeup net sales increased 6% or $26.1 million to $494.1 million. In addition to
strong sales of certain of our makeup artist lines, the increase in net sales
reflected the current period launches of Ideal Matte Refinishing Makeup SPF 8
and Pure Color Eye Shadow Duo by Estee Lauder, and Clarifying Powder Makeup,
Glossware for Lips Cream Shines, High Impact Mascara and High Impact Eye Shadow
Quad by Clinique. Recently launched products such as MagnaScopic Maximum Volume
Mascara, Artist's Lip and Eye Pencils and Pure Color Lip Vinyl from Estee Lauder
also contributed to increased net sales. Offsetting these increases were lower
net sales of certain existing products such as Pure Color Velvet Lipstick and
Nail Lacquer and So Ingenious Multi-Dimension Liquid Makeup and Loose Powder
from Estee Lauder which launched during the prior-year's quarter. Excluding the
impact of foreign currency translation, makeup net sales increased 4%.
THE ESTEE LAUDER COMPANIES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Fragrance
Net sales of fragrance products increased 12% or $34.6 million to $331.1
million. The increase in net sales was primarily attributable to current period
launches of Estee Lauder Beyond Paradise, Clinique Simply, Aramis Life and Tommy
Jeans, as well as the recent launch of Clinique Happy Heart. The increase in net
sales also benefited from improved results from our travel retail business.
These net sales increases were partially offset by lower net sales of Estee
Lauder pleasures, Beautiful and Intuition by Estee Lauder, T Girl from Tommy
Hilfiger and Clinique Happy. Excluding the impact of foreign currency
translation, fragrance net sales increased 9%.
Hair Care
Hair care net sales increased 9% to $54.8 million. This increase was the result
of sales growth from Aveda led by Be Curly and Hang Straight styling products,
and from Bumble and bumble products including Gentle Shampoo and Thickening
Spray, Shampoo and Conditioner. Partially offsetting these increases were lower
sales from Clinique's Simple Hair Care System.
The introduction of new products may have some cannibalizing effect on sales of
existing products, which we take into account in our business planning.
Geographic Regions
Net sales in the Americas increased 9% or $68.9 million to $856.6 million
primarily reflecting growth from our newer brands as well as the success of new
and recently launched products and an improving retail environment.
In Europe, the Middle East & Africa, net sales increased 8% or $23.3 million to
$327.8 million primarily reflecting the effects of favorable foreign currency
exchange rates to the U.S. dollar. We benefited from higher net sales in the
United Kingdom and South Africa as well as the addition of Darphin and to a
lesser extent increased sales from our travel retail business. Adverse weather
conditions in Europe during the current-year quarter negatively impacted the
retail environment particularly in Italy, Germany and France. This resulted in
lost sales in July and August and also caused a delay in the receipt of
customers' orders. Additionally, net sales were adversely affected by lower
sales orders due to a change in the fiscal year of one key customer and the
renegotiation of certain trading terms with another. Excluding the impact of
foreign currency translation, net sales in Europe, the Middle East & Africa were
flat relative to the prior-year period.
Net sales in Asia/Pacific increased 11% or $17.0 million to $167.3 million. This
increase reflected higher net sales in Australia, Korea, and China. Excluding
the impact of foreign currency translation, Asia/Pacific net sales increased 8%.
We strategically stagger our new product launches by geographic market, which
may account for differences in regional sales growth.
Cost of Sales
Cost of sales as a percentage of total net sales improved to 27.1% from 28.7%,
reflecting production and supply chain efficiencies and lower costs from
promotional activities. We continued to emphasize sourcing initiatives and
overall supply chain management which resulted in lower manufacturing costs.
A strategic shift from promotions to advertising, as well as a shift in the
timing of certain promotions, contributed to the improvement in our gross profit
margin for the current-year quarter. Since the cost of these promotional
activities is a component of cost of sales and the timing and level of
promotions vary with our promotional calendar, we have experienced, and expect
to continue to experience, fluctuations in the cost of sales percentage.
THE ESTEE LAUDER COMPANIES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Operating Expenses
Operating expenses increased to 63.4% of net sales as compared with 62.1% of net
sales in the prior-year period. The increase in spending primarily related to
advertising, merchandising and sampling activities to support our product
launches, to promote brand building and to support future sales growth as well
as to build momentum into the holiday selling season. Other operating expenses
reflect spending behind BeautyBank (a new division dedicated to developing new
beauty brand concepts and business opportunities, including the development of
new brands for sale in Kohl's Department Stores), the higher operating costs
associated with newly acquired brands and expenses related to compliance with
new regulatory requirements (such as those arising under the Sarbanes-Oxley
Act of 2002). We continue to control our other operating expenses in line with
our business needs. Changes in advertising, sampling and merchandising spending
result from the type, timing and level of advertising, sampling and
merchandising activities related to product launches and rollouts, as well as
the markets being emphasized.
Operating Income
Operating income increased 12% or $14.0 million to $128.4 million as compared
with the prior-year period. Operating margins were 9.5% of net sales in the
current period as compared with 9.2% in the prior-year period. The increase in
operating margin was primarily due to improvement in the components of cost of
sales.
Product Categories
Operating income increased 37% or $10.5 million in fragrance primarily related
to the shipment of recently launched products, 17% or $6.5 million in makeup
primarily related to successful new and recent product launches and 24% or $0.9
million in hair care due to higher sales of Bumble and bumble and Aveda
products. Skin care operating income decreased 14% or $6.4 million reflecting
the difficult retail environment we experienced in continental Europe (which
excludes the United Kingdom and Travel Retail) and investment spending in Asia/
Pacific both of which regions for us are more heavily dependent upon skin care
products.
Geographic Regions
Operating income in the Americas increased 81% or $52.7 million to $117.8
million. This region's profitability reflects more historical first quarter
levels, similar to fiscal 2000 and 2001, when the region was not affected by a
slow retail environment as it has been for the last couple of years.
Contributing to the current-year quarter increase were strong product launches,
as well as the timing of certain promotional events and efficiencies as
reflected in cost of sales. In Europe, the Middle East & Africa, operating
income decreased 83% or $36.9 million to $7.7 million reflecting the adverse
weather conditions in continental Europe during the current-year quarter which
negatively impacted the retail environment causing the loss or delay of certain
customers' orders. Operating results were also adversely affected by lower sales
orders due to a change in the fiscal year of one key customer and from the
renegotiation of certain trading terms with another. In addition, we continue to
build momentum into the holiday season through increases in selling, marketing
and advertising support programs. In Asia/Pacific, operating income decreased
38% or $1.8 million to $2.9 million. This decrease, off a smaller sales base,
reflects our commitment to build the infrastructure necessary to support future
growth in the region including, the launch of Aveda in Japan, as well as our
continued investments to support new brand expansion and business opportunities
in developing markets such as China.
Interest Expense, Net
Net interest expense was $7.7 million as compared with $2.9 million in the
prior-year period. The increase in net interest expense was due to the inclusion
of the preferred stock dividends of $5.9 million as interest expense in the
current period. This change in reporting resulted from a change in accounting
standards which prohibits us from restating the prior period results (see "Newly
Adopted Accounting Standard"). To a lesser extent, interest expense benefited
from lower average net borrowings and a lower effective interest rate compared
with the prior-year quarter. This improvement was partially offset by decreased
interest income generated by lower average interest rates and cash balances.
Provision for Income Taxes
The provision for income taxes represents Federal, foreign, state and local
income taxes. The effective rate for income taxes for the three months ended
September 30, 2003 was 36.0% as compared with 33.5% in the prior-year period.
These rates differ from statutory rates reflecting the effect of state and local
taxes, tax rates in foreign jurisdictions and certain nondeductible expenses.
The increase in the effective income tax rate was attributable to the inclusion
of the preferred stock dividends as interest expense which are not deductible
for income tax purposes and the anticipated full-year mix of global earnings.
THE ESTEE LAUDER COMPANIES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Financial Condition
-------------------
Liquidity and Capital Resources
Our principal sources of funds historically have been cash flows from operations
and borrowings under our commercial paper program, borrowings from the issuance
of long-term debt and committed and uncommitted credit lines provided by banks
in the United States and abroad. At September 30, 2003, we had cash and cash
equivalents of $482.7 million compared with $364.1 million at June 30, 2003.
At September 30, 2003, our outstanding borrowings of $842.1 million included:
(i) $360.0 million $6.50 Cumulative Redeemable Preferred Stock, which shares
have a mandatory redemption date of June 30, 2005 (see "Newly Adopted Accounting
Standard"); (ii) $249.1 million of 6% Senior Notes due January 2012 consisting
of $250.0 million principal, unamortized debt discount of $1.0 million, and $0.1
million adjustment to reflect the fair value of an outstanding interest rate
swap; (iii) $197.3 million of 5.75% Senior Notes due October 2033 consisting of
$200.0 million principal and unamortized debt discount of $2.7 million; (iv) a
3.0 billion yen term loan (approximately $25.8 million at current exchange
rates), which is due in March 2006; (v) $8.6 million of other short-term
borrowings; and (vi) $1.2 million of other long-term borrowings.
In September 2003, we issued and sold $200.0 million of 5.75% Senior Notes due
October 2033 ("5.75% Senior Notes") in a public offering. The 5.75% Senior Notes
were priced at 98.645% with a yield of 5.846%. Interest payments will be made
semi-annually on April 15 and October 15 of each year, commencing April 15,
2004. In May 2003, in anticipation of the issuance of the 5.75% Senior Notes, we
entered into a series of treasury lock agreements on a notional amount totaling
$195.0 million at a weighted average all-in rate of 4.53%. The treasury lock
agreements were settled upon the issuance of the new debt and we received
payment of $15.0 million that will be amortized against interest expense over
the life of the 5.75% Senior Notes. As a result of the treasury lock agreements,
the debt discount and debt issuance costs, our effective interest rate on the
5.75% Senior Notes will be 5.395% over the life of the debt. The net proceeds
from the sale of the 5.75% Senior Notes will be used for general corporate
purposes, including but not limited to the eventual redemption of our
outstanding redeemable preferred stock. We issued these fixed-rate notes to lock
in long-term liquidity at historically low prevailing market rates and to
mitigate future interest rate volatility.
We have a $750.0 million commercial paper program under which we may issue
commercial paper in the United States. Our commercial paper is currently rated
A-1 by Standard & Poor's and P-1 by Moody's. Our long-term credit ratings are A+
with a negative outlook by Standard & Poor's and A1 with a stable outlook by
Moody's. At September 30, 2003, we had no commercial paper outstanding. We also
have an effective shelf registration statement covering the potential issuance
of up to an additional $300.0 million in debt securities. As of September 30,
2003, we had an unused $400.0 million revolving credit facility, expiring on
June 28, 2006, and $149.2 million in additional uncommitted credit facilities.
Our business is seasonal in nature and, accordingly, our working capital needs
vary. From time to time, we may enter into investing and financing transactions
that require additional funding. To the extent that these needs exceed cash from
operations, we could, subject to market conditions, issue commercial paper,
issue long-term debt securities or borrow under the revolving credit facility.
Total debt as a percent of total capitalization was 36% at September 30, 2003 as
compared with 14% at June 30, 2003. This increase primarily reflects the
reclassification of the redeemable preferred stock to long-term debt as well as
the issuance of the 5.75% Senior Notes.
The effects of inflation have not been significant to our overall operating
results in recent years. Generally, we have been able to introduce new products
at higher selling prices or increase selling prices sufficiently to offset cost
increases, which have been moderate.
We believe that cash on hand, cash generated from operations, available credit
lines and access to credit markets will be adequate to support currently planned
business operations and capital expenditures on both a near-term and long-term
basis.
THE ESTEE LAUDER COMPANIES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Cash Flows
Net cash used in operating activities was $46.9 million during the three months
ended September 30, 2003 as compared with net cash provided by operating
activities of $3.1 million in the prior-year period. The use of cash from
operating activities resulted primarily from increased accounts receivable
reflecting sales growth and a return to a more seasonal level of accounts
receivable at September 30th than was experienced at the end of the prior-year
period. Additionally, accounts receivable increased as a result of the inclusion
of Darphin, where pharmacy customers typically receive longer payment terms.
Offsetting this use of cash was a benefit derived from an increase in accrued
liabilities where, in order to build sales momentum into the second quarter, we
have increased the level of advertising, sampling and merchandising spending
relative to the same period last year resulting in a corresponding increase in
accrued liabilities. Also contributing to the net cash used in operating
activities was the inclusion of $5.9 million of preferred stock dividends as
interest expense reducing net earnings in the current-year period, whereas in
the prior-year period this amount was included in net cash used for financing
activities. Net cash used for investing activities was $45.4 million during the
three months ended September 30, 2003, which primarily reflects capital
expenditures. Net cash provided by financing activities of $213.3 million
primarily related to the issuance of the 5.75% Senior Notes.
Dividends
Total dividends declared for the three months ended September 30, 2003 and 2002,
represented dividends on the $6.50 Cumulative Redeemable Preferred Stock of $5.9
million in each period. The dividends declared in the quarter ended September
30, 2003 have been characterized as interest expense (see "Newly Adopted
Accounting Standard").
Share Repurchase Program
We are authorized by the Board of Directors to repurchase up to 18.0 million
shares of Class A Common Stock in the open market or in privately negotiated
transactions, depending on market conditions and other factors. During the first
quarter of fiscal 2004, we purchased 0.4 million shares for $12.3 million,
bringing the cumulative total of acquired shares to 14.2 million.
Commitments and Contingencies
We will be required to redeem the outstanding $6.50 Cumulative Redeemable
Preferred Stock on June 30, 2005. However, in the event that Mrs. Estee Lauder
were to pass away before such date, then we would have the right to redeem the
shares from the current holders, and the holders of such shares would have the
right to put the shares to us, at $100 per share (or an aggregate of $360.0
million). If shares of the $6.50 Cumulative Redeemable Preferred Stock are put
to us, we would have up to 120 days after notice to purchase such shares.
Certain of our business acquisition agreements include "earn-out" provisions.
These provisions generally require that we pay to the seller or sellers of the
business additional amounts based on the performance of the acquired business.
The payments typically are made after a certain period of time and our next
"earn-out" payment is expected to be made after the end of fiscal 2005. Since
the size of each payment depends upon performance of the acquired business, we
do not expect that such payments will have a material adverse impact on our
future results of operations or financial condition.
Contractual Obligations
In July 2003, we signed a new lease for our principal offices at the same
location. Our rental obligations under the new lease will commence in fiscal
2005 and expire in fiscal 2020. Obligations pursuant to the lease in fiscal
2005, 2006, 2007, 2008 and thereafter are $5.9 million, $23.6 million, $23.6
million, $24.1 million and $324.2 million, respectively. There have been no
other significant changes to our contractual obligations since June 30, 2003.
Business Acquisitions
During the first quarter of fiscal 2004, we acquired the Rodan & Fields skin
care line. The initial purchase price, paid at closing, was funded by cash
provided by operations, the payment of which did not have a material effect on
our results of operations or consolidated financial condition. We may make
additional payments between fiscal 2007 and 2011 based on certain conditions.
THE ESTEE LAUDER COMPANIES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Derivative Financial Instruments and Hedging Activities
We address certain financial exposures through a controlled program of risk
management that includes the use of derivative financial instruments. We
primarily enter into foreign currency forward exchange contracts and foreign
currency options to reduce the effects of fluctuating foreign currency exchange
rates. We also enter into interest rate derivative contracts to manage the
effects of fluctuating interest rates. We categorize these instruments as
entered into for purposes other than trading.
For each derivative contract entered into where we look to obtain special hedge
accounting treatment, we formally document the relationship between the hedging
instrument and hedged item, as well as its risk-management objective and
strategy for undertaking the hedge. This process includes linking all
derivatives that are designated as fair-value, cash-flow, or foreign-currency
hedges to specific assets and liabilities on the balance sheet or to specific
firm commitments or forecasted transactions. We also formally assess, both at
the hedge's inception and on an ongoing basis, whether the derivatives that are
used in hedging transactions are highly effective in offsetting changes in fair
values or cash flows of hedged items. If it is determined that a derivative is
not highly effective, then we will be required to discontinue hedge accounting
with respect to that derivative prospectively.
Foreign Exchange Risk Management
We enter into forward exchange contracts to hedge anticipated transactions as
well as receivables and payables denominated in foreign currencies for periods
consistent with our identified exposures. The purpose of the hedging activities
is to minimize the effect of foreign exchange rate movements on our costs and on
the cash flows that we receive from foreign subsidiaries. Almost all foreign
currency contracts are denominated in currencies of major industrial countries
and are with large financial institutions rated as strong investment grade by a
major rating agency. We also enter into foreign currency options to hedge
anticipated transactions where there is a high probability that anticipated
exposures will materialize. The forward exchange contracts and foreign currency
options entered into to hedge anticipated transactions have been designated as
cash-flow hedges. As of September 30, 2003, these cash-flow hedges were highly
effective, in all material respects.
As a matter of policy, we only enter into contracts with counterparties that
have at least an "A" (or equivalent) credit rating. The counterparties to these
contracts are major financial institutions. We do not have significant exposure
to any one counterparty. Our exposure to credit loss in the event of
nonperformance by any of the counterparties is limited to only the recognized,
but not realized, gains attributable to the contracts. Management believes risk
of loss under these hedging contracts is remote and in any event would not be
material to the consolidated financial results. The contracts have varying
maturities through the end of October 2004. Costs associated with entering into
such contracts have not been material to our consolidated financial results. We
do not utilize derivative financial instruments for trading or speculative
purposes. At September 30, 2003, we had foreign currency contracts in the form
of forward exchange contracts and option contracts in the amount of $435.2
million and $54.5 million, respectively. The foreign currencies included in
forward exchange contracts (notional value stated in U.S. dollars) are
principally the Euro ($94.9 million), British pound ($67.2 million), Swiss franc
($66.6 million), Japanese yen ($40.6 million), Canadian dollar ($31.6 million),
South Korean won ($31.3 million) and Australian dollar ($29.5 million). The
foreign currencies included in the option contracts (notional value stated in
U.S. dollars) are principally the Swiss franc ($21.9 million), Canadian dollar
($17.7 million) and Euro ($11.7 million).
Interest Rate Risk Management
We enter into interest rate derivative contracts to manage the exposure to
fluctuations of interest rates on our funded and unfunded indebtedness, as well
as cash investments, for periods consistent with the identified exposures. All
interest rate derivative contracts are with large financial institutions rated
as strong investment grade by a major rating agency.
We have an interest rate swap agreement with a notional amount of $250.0 million
to effectively convert fixed interest on the existing $250.0 million 6% Senior
Notes to variable interest rates based on LIBOR. We designated the swap as a
fair value hedge. As of September 30, 2003, the fair value hedge was highly
effective, in all material respects.
Additionally, in May 2003, in connection with the anticipated issuance of debt,
we entered into a series of treasury lock agreements on a notional amount
totaling $195.0 million at a weighted average all-in rate of 4.53%. These
treasury lock agreements were used to hedge the exposure to the rise in interest
rates prior to the September 2003 issuance of debt. The agreements were settled
upon the issuance of the 5.75% Senior Notes and we realized a gain in other
comprehensive income of $15.0 million that will be amortized against interest
expense over the life of the 5.75% Senior Notes.
THE ESTEE LAUDER COMPANIES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Market Risk
Using the value-at-risk model, as discussed in our annual report on Form 10-K
for the fiscal year ended June 30, 2003, our average value-at-risk, calculated
for the most recent twelve months, is $7.5 million related to our foreign
exchange contracts. As of September 30, 2003, our average value-at-risk related
to our interest rate contracts for the three month period for which these
contracts were outstanding was $15.2 million. There have been no significant
changes in market risk since June 30, 2003 that would have a material effect on
our calculated value-at-risk exposure, as disclosed in the annual report on Form
10-K for the fiscal year ended June 30, 2003.
Off-Balance Sheet Arrangements
We do not maintain any off-balance sheet arrangements, transactions, obligations
or other relationships with unconsolidated entities that would be expected to
have a material current or future effect upon our financial condition or results
of operations.
Critical Accounting Policies
As disclosed in the annual report on Form 10-K for the fiscal year ended June
30, 2003, the discussion and analysis of our financial condition and results
of operations are based upon our consolidated financial statements, which have
been prepared in conformity with accounting principles generally accepted in the
United States. The preparation of these financial statements requires us to make
estimates and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses reported in those financial statements. These
judgments can be subjective and complex, and consequently actual results could
differ from those estimates. Our most critical accounting policies relate to
revenue recognition; concentration of credit risk; inventory; pension and other
postretirement benefit costs; goodwill and other intangible assets; income
taxes; and derivatives. Since June 30, 2003, there have been no changes in our
critical accounting policies and no significant changes to the assumptions and
estimates related to them.
Newly Adopted Accounting Standard
We have adopted Statement of Financial Accounting Standard No. 150, "Accounting
for Certain Financial Instruments with Characteristics of both Liabilities and
Equity" ("SFAS No. 150"). SFAS No.150 established standards for classifying and
measuring certain financial instruments with characteristics of both liabilities
and equity. Among other things, it specifically requires that mandatorily
redeemable instruments, such as redeemable preferred stock, be classified as a
liability. Initial and subsequent measurements of the instruments differ based
on the characteristics of each instrument and as provided for in the statement.
Based on the provisions of this statement, we have classified the $6.50
Cumulative Redeemable Preferred Stock as a liability and the related dividends
thereon have been characterized as interest expense. Restatement of financial
statements for earlier years presented was not permitted. The adoption of this
statement has resulted in the inclusion of the dividends on the preferred stock
(equal to $5.9 million in the current quarter) as interest expense. While the
inclusion has impacted net earnings, net earnings attributable to common stock
and earnings per common share were unaffected. Given that the dividends are not
deductible for income tax purposes, the inclusion of the preferred stock
dividends as an interest expense has caused an increase in our effective tax
rate. The adoption of SFAS No. 150 had no impact on our financial condition.
THE ESTEE LAUDER COMPANIES INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Information
We and our representatives from time to time make written or oral
forward-looking statements, including statements contained in this and other
filings with the Securities and Exchange Commission, in our press releases and
in our reports to stockholders. The words and phrases "will likely result,"
"expect," "believe," "planned," "will," "will continue," "may," "could,"
"should," "anticipated," "estimate," "project" or similar expressions are
intended to identify "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. These statements include,
without limitation, our expectations regarding sales, earnings or other future
financial performance and liquidity, product introductions, entry into new
geographic regions, information systems initiatives, new methods of sale and
future operations or operating results. Although we believe that our
expectations are based on reasonable assumptions within the bounds of our
knowledge of our business and operations, actual results may differ materially
from our expectations. Factors that could cause actual results to differ from
expectations include, without limitation:
(1) increased competitive activity from companies in the skin care,
makeup, fragrance and hair care businesses, some of which have greater
resources than we do;
(2) our ability to develop, produce and market new products on which
future operating results may depend;
(3) consolidations, restructurings, bankruptcies and reorganizations in
the retail industry causing a decrease in the number of stores that
sell our products, an increase in the ownership concentration within
the retail industry, ownership of retailers by our competitors and
ownership of competitors by our customers that are retailers;
(4) shifts in the preferences of consumers as to where and how they
shop for the types of products and services we sell;
(5) social, political and economic risks to our foreign or domestic
manufacturing, distribution and retail operations, including changes in
foreign investment and trade policies and regulations of the host
countries and of the United States;
(6) changes in the laws, regulations and policies that affect, or will
affect, our business, including changes in accounting standards, tax
laws and regulations, trade rules and customs regulations, and the
outcome and expense of legal or regulatory proceedings;
(7) foreign currency fluctuations affecting our results of operations
and the value of our foreign assets, the relative prices at which we
and our foreign competitors sell products in the same markets and our
operating and manufacturing costs outside of the United States;
(8) changes in global or local economic conditions that could affect
consumer purchasing, the willingness of consumers to travel, the
financial strength of our customers, the cost and availability of
capital, which we may need for new equipment, facilities or
acquisitions, and the assumptions underlying our critical accounting
estimates;
(9) shipment delays, depletion of inventory and increased production
costs resulting from disruptions of operations at any of the facilities
which, due to consolidations in our manufacturing operations, now
manufacture nearly all of our supply of a particular type of product
(i.e. focus factories);
(10) real estate rates and availability, which may affect our ability
to increase the number of retail locations at which we sell our
products and the costs associated with our other facilities;
(11) changes in product mix to products which are less profitable;
(12) our ability to acquire or develop e-commerce capabilities,
and other new information and distribution technologies, on a timely
basis and within our cost estimates;
(13) our ability to capitalize on opportunities for improved
efficiency, such as globalization, and to integrate acquired businesses
and realize value therefrom; and
(14) consequences attributable to the events that are currently taking
place in the Middle East, including further attacks, retaliation and
the threat of further attacks or retaliation.
We assume no responsibility to update forward-looking statements made herein or
otherwise.
THE ESTEE LAUDER COMPANIES INC.
CONSOLIDATED BALANCE SHEETS
September 30 June 30
2003 2003
---- ----
(Unaudited)
(In millions)
ASSETS
Current Assets
Cash and cash equivalents............................................................... $ 482.7 $ 364.1
Accounts receivable, net................................................................ 841.0 634.2
Inventory and promotional merchandise, net.............................................. 627.9 599.0
Prepaid expenses and other current assets............................................... 238.5 247.6
-------- --------
Total current assets............................................................... 2,190.1 1,844.9
-------- --------
Property, Plant and Equipment, net...................................................... 604.4 607.7
-------- --------
Other Assets
Investments, at cost or market value.................................................... 13.7 14.0
Deferred income taxes................................................................... 33.4 38.7
Goodwill, net .......................................................................... 695.2 695.3
Other intangible assets, net............................................................ 66.8 65.4
Other assets, net....................................................................... 96.6 83.9
-------- --------
Total other assets................................................................. 905.7 897.3
-------- --------
Total assets.............................................................. $3,700.2 $3,349.9
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Short-term debt......................................................................... $ 8.6 $ 7.8
Accounts payable........................................................................ 242.9 229.9
Accrued income taxes.................................................................... 115.8 111.9
Other accrued liabilities............................................................... 779.5 704.0
-------- --------
Total current liabilities.......................................................... 1,146.8 1,053.6
-------- --------
Noncurrent Liabilities
Long-term debt.......................................................................... 833.5 283.6
Other noncurrent liabilities............................................................ 203.2 216.8
-------- --------
Total noncurrent liabilities....................................................... 1,036.7 500.4
-------- --------
$6.50 Cumulative Redeemable Preferred Stock, at redemption value........................ - 360.0
-------- --------
Minority Interest....................................................................... 13.1 12.3
-------- --------
Stockholders' Equity
Common stock, $.01 par value; 650,000,000 shares Class A authorized; shares
issued: 135,345,415 at September 30, 2003 and 133,616,710 at June 30, 2003;
240,000,000 shares Class B authorized; shares issued and outstanding: 106,662,533 and
107,462,533 at September 30, 2003 and June 30, 2003, respectively.................... 2.4 2.4
Paid-in capital......................................................................... 315.8 293.7
Retained earnings....................................................................... 1,690.6 1,613.6
Accumulated other comprehensive income (loss)........................................... (60.0) (53.1)
-------- --------
1,948.8 1,856.6
Less: Treasury stock, at cost; 13,988,060 Class A shares at September 30, 2003
and 13,623,060 at June 30, 2003...................................................... (445.2) (433.0)
-------- --------
Total stockholders' equity......................................................... 1,503.6 1,423.6
-------- --------
Total liabilities and stockholders' equity................................ $3,700.2 $3,349.9
======== ========
See notes to consolidated financial statements.
THE ESTEE LAUDER COMPANIES INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Ended
September 30
------------
2003 2002
---- ----
(In millions)
Cash Flows from Operating Activities
Net earnings............................................................................... $ 77.0 $ 73.4
Adjustments to reconcile net earnings to net cash
flows provided by (used for) operating activities:
Depreciation and amortization.......................................................... 45.1 41.7
Deferred income taxes.................................................................. - 7.5
Minority interest...................................................................... 0.2 0.7
Non-cash stock compensation............................................................ 0.7 (1.4)
Other.................................................................................. 0.2 -
Changes in operating assets and liabilities:
Increase in accounts receivable, net................................................... (214.2) (157.4)
Increase in inventory and promotional merchandise, net................................. (34.5) (38.3)
Increase in other assets, net.......................................................... (17.0) (12.2)
Increase in accounts payable........................................................... 15.1 22.2
Increase in accrued income taxes....................................................... 12.0 17.8
Increase in other accrued liabilities.................................................. 62.1 39.1
Increase in other noncurrent liabilities............................................... 6.4 10.0
------- -------
Net cash flows provided by (used for) operating activities........................... (46.9) 3.1
------- -------
Cash Flows from Investing Activities
Capital expenditures....................................................................... (42.2) (36.2)
Acquisition of businesses, net of cash acquired............................................ (3.1) (0.7)
Proceeds from the disposition of long-term investments..................................... - 1.3
Purchases of long-term investments......................................................... (0.1) -
------- -------
Net cash flows used for investing activities......................................... (45.4) (35.6)
------- -------
Cash Flows from Financing Activities
Increase (decrease) in short-term debt, net................................................ 1.0 (0.1)
Proceeds from the issuance of long-term debt, net.......................................... 197.3 -
Debt issuance costs........................................................................ (1.8) -
Proceeds from the net settlement of treasury lock agreements............................... 15.0 -
Net proceeds from employee stock transactions.............................................. 14.5 1.0
Payments to acquire treasury stock......................................................... (12.3) (138.1)
Dividends paid to stockholders............................................................. - (17.7)
Distributions made to minority holders..................................................... (0.4) -
------- -------
Net cash flows provided by (used for) financing activities........................... 213.3 (154.9)
------- -------
Effect of Exchange Rate Changes on Cash and Cash Equivalents.................................. (2.4) (2.3)
------- -------
Net Increase (Decrease) in Cash and Cash Equivalents....................................... 118.6 (189.7)
Cash and Cash Equivalents at Beginning of Period........................................... 364.1 546.9
------- -------
Cash and Cash Equivalents at End of Period................................................. $ 482.7 $ 357.2
======== =======
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest .............................................................................. $ 12.4 $ 8.5
======== ========
Income taxes........................................................................... $ 28.6 $ 23.9
======== ========
Non-cash items:
Tax benefit from exercise of stock options............................................. $ 6.9 $ 0.1
======== ========
See notes to consolidated financial statements.
THE ESTEE LAUDER COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1 -- Summary of Significant Accounting Policies
Basis of Presentation
The accompanying consolidated financial statements include the accounts of The
EstEe Lauder Companies Inc. and its subsidiaries (collectively, the "Company").
All significant intercompany balances and transactions have been eliminated.
The consolidated financial statements have been prepared in accordance with
generally accepted accounting principles for interim financial information and
with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
In the opinion of management all adjustments (including normal recurring
accruals) considered necessary for a fair presentation have been included. The
results of operations of any interim period are not necessarily indicative of
the results of operations to be expected for the fiscal year. For further
information, refer to the consolidated financial statements and accompanying
footnotes included in the Company's annual report on Form 10-K for the fiscal
year ended June 30, 2003.
Certain amounts in the consolidated financial statements of prior periods have
been reclassified to conform to current period presentation for comparative
purposes.
Net Earnings Per Common Share
For the three month period ended September 30, 2003, net earnings per common
share ("basic EPS") is computed by dividing net earnings, which includes
preferred stock dividends (see "Newly Adopted Accounting Standard"), by the
weighted average number of common shares outstanding and contingently issuable
shares (which satisfy certain conditions). For the three month period ended
September 30, 2002, net earnings per common share ("basic EPS") is computed by
dividing net earnings, after deducting preferred stock dividends on the
Company's $6.50 Cumulative Redeemable Preferred Stock, by the weighted average
number of common shares outstanding and contingently issuable shares (which
satisfy certain conditions). Net earnings per common share assuming dilution
("diluted EPS") is computed by reflecting potential dilution from the exercise
of stock options.
A reconciliation between the numerators and denominators of the basic and
diluted EPS computations is as follows:
Three Months Ended
September 30
------------
2003 2002
---- ----
(Unaudited)
(In millions, except per share data)
Numerator:
Net earnings.......................................................... $ 77.0 $ 73.4
Preferred stock dividends............................................. - (5.9)
------- -------
Net earnings attributable to common stock............................. $ 77.0 $ 67.5
======= =======
Denominator:
Weighted average common shares outstanding- Basic.................... 228.1 235.2
Effect of dilutive securities: Stock options.......................... 2.5 2.2
------- -------
Weighted average common shares outstanding - Diluted.................. 230.6 237.4
======= =======
Basic net earnings per common share:
Net earnings.......................................................... $ .34 $ .29
======= =======
Diluted net earnings per common share:
Net earnings.......................................................... $ .33 $ .28
======= =======
As of September 30, 2003 and 2002, options to purchase 11.6 million and 21.7
million shares of common stock, respectively, were not included in the
computation of diluted EPS because the exercise prices of those options were
greater than the average market prices of the common stock at such dates. The
options were still outstanding at the end of the respective periods.
THE ESTEE LAUDER COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Employee Stock-Based Compensation
As of September 30, 2003, the Company had established a number of share
incentive programs as discussed in more detail in our annual report on Form
10-K for the year ended June 30, 2003. The Company applies the intrinsic value
method as outlined in Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees," and related interpretations in accounting for
stock options and share units granted under these programs. Under the intrinsic
value method, no compensation expense is recognized if the exercise price of the
Company's employee stock options equals the market price of the underlying stock
on the date of the grant. Accordingly, no compensation cost has been recognized.
Statement of Financial Accounting Standard ("SFAS") No. 123, "Accounting for
Stock-Based Compensation," requires that the Company provide pro forma
information regarding net earnings and net earnings per common share as if
compensation cost for the Company's stock option programs had been determined in
accordance with the fair value method prescribed therein. The Company adopted
the disclosure portion of SFAS No. 148, "Accounting for Stock-Based Compensation
- Transition and Disclosure" requiring quarterly SFAS No. 123 pro forma
disclosure. The following table illustrates the effect on net income and
earnings per share as if the fair value method had been applied to all
outstanding awards in each period presented.
Three Months Ended
September
---------
2003 2002
---- ----
(Unaudited)
(In millions, except per share data)
Net earnings attributable to common stock, as reported................ $ 77.0 $ 67.5
Deduct: Total stock-based employee compensation expense
determined under fair value method for all awards,
net of related tax effects................................... (8.3) (5.6)
--------- ---------
Pro forma net earnings, attributable to common stock.................. $ 68.7 $ 61.9
========= =========
Earnings per common share:
Basic - as reported................................................ $ .34 $ .29
========= ========
Basic - pro forma.................................................. $ .30 $ .26
========= ========
Diluted - as reported.............................................. $ .33 $ .28
========= ========
Diluted - pro forma................................................ $ .30 $ .26
========= ========
Accounts Receivable
Accounts receivable is stated net of the allowance for doubtful accounts and
retail customer deductions of $32.1 million and $31.8 million as of September
30, 2003 and June 30, 2003, respectively.
Inventory and Promotional Merchandise
Inventory and promotional merchandise only includes inventory considered
saleable or usable in future periods, and is stated at the lower of cost or
market, with cost being determined on the first-in, first-out method.
Promotional merchandise is charged to expense at the time the merchandise is
shipped to the Company's customers.
September 30 June 30
2003 2003
---- ----
(Unaudited)
(In millions)
Inventory and promotional merchandise consists of:
Raw materials......................................... $ 109.1 $ 137.7
Work in process....................................... 31.4 34.1
Finished goods........................................ 349.2 296.6
Promotional merchandise............................... 138.2 130.6
-------- --------
$ 627.9 $ 599.0
======== ========
THE ESTEE LAUDER COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Property, Plant and Equipment
Property, plant and equipment is carried at cost less accumulated depreciation
and amortization. For financial statement purposes, depreciation is provided
principally on the straight-line method over the estimated useful lives of the
assets ranging from 3 to 40 years. Leasehold improvements are amortized on a
straight-line basis over the shorter of the lives of the respective leases or
the expected useful lives of those improvements.
September 30 June 30
2003 2003
---- ----
(Unaudited)
(In millions)
Land ................................................... $ 13.4 $ 13.5
Buildings and improvements.............................. 151.7 152.7
Machinery and equipment................................. 694.1 676.7
Furniture and fixtures.................................. 96.5 95.3
Leasehold improvements.................................. 555.0 538.6
-------- --------
1,510.7 1,476.8
Less accumulated depreciation and amortization.......... 906.3 869.1
-------- --------
$ 604.4 $ 607.7
======== ========
Depreciation and amortization of property, plant and equipment was $41.1 million
and $36.4 million during the three months ended September 30, 2003 and 2002,
respectively.
Restructuring Accrual
During the three-month period ending September 30, 2003, the Company paid $4.4
million against its restructuring accrual of which $3.6 million related to the
fiscal 2002 charges and $0.8 million related to the fiscal 2001 charges,
bringing the restructuring accrual balance to $20.0 million as of September 20,
2003. Approximately $3.4 million of the amounts paid in the current period
related to severance payments. There have been no material changes to the
restructuring plans since June 30, 2003.
Management Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets, liabilities, revenues and expenses
reported in those financial statements. Actual results could differ from those
estimates and assumptions.
Newly Adopted Accounting Standard
The Company has adopted Statement of Financial Accounting Standard No. 150,
"Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity" ("SFAS No. 150"). SFAS No. 150 established standards for
classifying and measuring certain financial instruments with characteristics of
both liabilities and equity. Among other things, it specifically requires that
mandatorily redeemable instruments, such as redeemable preferred stock, be
classified as a liability. Initial and subsequent measurements of the
instruments differ based on the characteristics of each instrument and as
provided for in the statement. Based on the provisions of this statement, the
Company has classified the $6.50 Cumulative Redeemable Preferred Stock as a
liability and the related dividends thereon have been characterized as interest
expense. Restatement of financial statements for earlier years presented was not
permitted. The adoption of this statement has resulted in the inclusion of the
dividends on the preferred stock (equal to $5.9 million in the current quarter)
as interest expense. While the inclusion has impacted net earnings, net earnings
attributable to common stock and earnings per common share were unaffected.
Given that the dividends are not deductible for income tax purposes, the
inclusion of the preferred stock dividends as an interest expense has caused an
increase in the effective tax rate. The adoption of SFAS No. 150 had no impact
on the Company's financial condition.
THE ESTEE LAUDER COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 2 - Long-Term Debt
At September 30, 2003, the Company's long-term debt of $833.5 million included:
(i) $360.0 million $6.50 Cumulative Redeemable Preferred Stock, which shares
have a mandatory redemption date of June 30, 2005 (see "Newly Adopted Accounting
Standard"); (ii) $249.1 million of 6% Senior Notes due January 2012 consisting
of $250.0 million principal, unamortized debt discount of $1.0 million, and $0.1
million adjustment to reflect the fair value of an outstanding interest rate
swap; (iii) $197.3 million of 5.75% Senior Notes due October 2033 consisting of
$200.0 million principal and unamortized debt discount of $2.7 million; (iv) a
3.0 billion yen term loan (approximately $25.8 million at current exchange
rates), which is due in March 2006; and (v) $1.2 million of other long-term
borrowings.
On July 1, 2003, the Company completed the adoption of SFAS No. 150 and,
accordingly, has classified the $360.0 million $6.50 Cumulative Redeemable
Preferred Stock as long-term debt. This standard requires the classification of
the Cumulative Redeemable Preferred Stock as a liability without restatement,
and, as such, the Company did not restate the financial statements for earlier
periods presented.
In September 2003, the Company issued and sold $200.0 million of 5.75% Senior
Notes due October 2033 ("5.75% Senior Notes") in a public offering. The 5.75%
Senior Notes were priced at 98.645% with a yield of 5.846%. Interest payments
will be made semi-annually on April 15 and October 15 of each year, commencing
April 15, 2004. In anticipation of the issuance of the 5.75% Senior Notes, in
May 2003 the Company entered into a series of treasury lock agreements on a
notional amount totaling $195.0 million at a weighted average all-in rate of
4.53%. The treasury lock agreements were settled upon the issuance of the new
debt and the Company received a payment of $15.0 million that will be amortized
against interest expense over the life of the 5.75% Senior Notes. As a result of
the treasury lock agreements, debt discount and debt issuance costs, the
effective interest rate on the 5.75% Senior Notes will be 5.395% over the life
of the debt.
Note 3 - Comprehensive Income
The components of accumulated other comprehensive income ("OCI") included in the
accompanying consolidated balance sheets consist of net unrealized investment
gain (loss), net gain or (loss) on derivative instruments designated and
qualifying as cash-flow hedging instruments, net minimum pension liability
adjustments and cumulative translation adjustments as of the end of each period.
Comprehensive income and its components, net of tax, are as follows:
Three Months Ended
September 30
------------
2003 2002
---- ----
(Unaudited)
(In millions)
Net earnings.............................................................. $ 77.0 $ 73.4
--------- ---------
Other comprehensive income:
Net unrealized investment losses...................................... - (1.3)
Net derivative instruments gains...................................... 7.5 3.6
Net minimum pension liability adjustments............................. 0.5 (0.3)
Translation adjustments............................................... (14.9) (6.4)
--------- ---------
Other comprehensive income (loss)..................................... (6.9) (4.4)
--------- ---------
Comprehensive income...................................................... $ 70.1 $ 69.0
========= =========
THE ESTEE LAUDER COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The accumulated net loss on derivative instruments consists of the following:
Three Months Ended
September 30
------------
2003 2002
---- ----
(Unaudited)
(In millions)
OCI - Net derivative instruments, beginning of period................. $ (1.5) $ (9.1)
------- -------
Gain on derivative instruments....................................... 11.2 2.2
Reclassification to earnings of net loss during the period........... 1.3 3.4
Provision for deferred income taxes.................................. (5.0) (2.0)
------- -------
Net derivative instruments gain (loss)............................ 7.5 3.6
------- -------
OCI - Net derivative instruments, end of period....................... $ 6.0 $ (5.5)
======= =======
Of the $6.0 million, net of tax, derivative instrument gain recorded in OCI at
the end of the current-year period, $9.2 million, net of tax, related to the
gain on the settlement of the treasury lock agreements upon issuance of the
5.75% Senior Notes which will be reclassified to earnings as an offset to
interest expense over the life of the debt and was offset by a $3.2 million
loss, net of tax, related to forward and option contracts which the Company will
reclassify to earnings during the next nine months. At the end of the prior-year
period the $5.5 million, net of tax, derivative instrument loss recorded in OCI
related to forward contracts.
Note 4 - Acquisition of Business
In July 2003, the Company acquired the Rodan & Fields skin care line. The
initial purchase price, paid at closing, was funded by cash provided by
operations, the payment of which did not have a material effect on the Company's
results of operations or financial condition. The Company may make additional
payments between fiscal 2007 and 2011 based on certain conditions.
THE ESTEE LAUDER COMPANIES INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 5 - Segment Data and Related Information
Reportable operating segments include components of an enterprise about which
separate financial information is available that is evaluated regularly by the
chief operating decision maker (the "Chief Executive") in deciding how to
allocate resources and in assessing performance. Although the Company operates
in one business segment, beauty products, management also evaluates performance
on a product category basis. Performance is measured based upon net sales and
operating income. Operating income represents earnings before income taxes and
net interest expense. The accounting policies for each of the reportable
segments are substantially the same as those for the consolidated financial
statements, as described in the segment data and related information footnote
included in the June 30, 2003 annual report on Form 10-K. The assets and
liabilities of the Company are managed centrally and are reported internally in
the same manner as the consolidated financial statements, thus no additional
information is produced for the Chief Executive or included herein. There has
been no significant variance in the total or long-lived asset value associated
with each segment since June 30, 2003.
Three Months Ended
September 30
------------
2003 2002
---- ----
(Unaudited)
(In millions)
SEGMENT DATA
Net Sales:
Skin Care........................................................ $ 462.9 $ 421.7
Makeup........................................................... 494.1 468.0
Fragrance........................................................ 331.1 296.5
Hair Care........................................................ 54.8 50.4
Other............................................................ 8.8 5.9
--------- ---------
$ 1,351.7 $ 1,242.5
========= =========
Operating Income:
Skin Care........................................................ $ 39.6 $ 46.0
Makeup........................................................... 44.2 37.7
Fragrance........................................................ 39.2 28.7
Hair Care........................................................ 4.7 3.8
Other............................................................ 0.7 (1.8)
--------- ---------
128.4 114.4
Reconciliation:
Interest expense, net......................................... 7.7 2.9
--------- ---------
Earnings before income taxes and minority interest............... $ 120.7 $ 111.5
========= =========
REGIONAL DATA
Net Sales:
The Americas..................................................... $ 856.6 $ 787.7
Europe, the Middle East & Africa................................. 327.8 304.5
Asia/Pacific..................................................... 167.3 150.3
--------- ---------
$ 1,351.7 $ 1,242.5
========= =========
Operating Income:
The Americas..................................................... $ 117.8 $ 65.1
Europe, the Middle East & Africa................................. 7.7 44.6
Asia/Pacific..................................................... 2.9 4.7
--------- ---------
$ 128.4 $ 114.4
========= =========
THE ESTEE LAUDER COMPANIES INC.
CONTROLS AND PROCEDURES
Item 4. Controls and Procedures
Our disclosure controls and procedures (as defined in Rules13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange
Act")) are designed to ensure that information required to be disclosed in the
reports that we file or submit under the Exchange Act is recorded, processed,
summarized and reported within the time periods specified in the rules and forms
of the Securities and Exchange Commission. The Chief Executive Officer and the
Chief Financial Officer, with assistance from other members of management, have
reviewed the effectiveness of our disclosure controls and procedures as of
September 30, 2003 and, based on their evaluation, have concluded that the
disclosure controls and procedures were effective as of such date.
There has been no change in our internal control over financial reporting (as
defined in Rules13a-15(f) and 15d-15(f) of the Exchange Act) that occurred
during the first quarter of fiscal 2004 that has materially affected, or is
reasonably likely to materially affect, the Company's internal control over
financial reporting.
THE ESTEE LAUDER COMPANIES INC.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
We are involved in various routine legal proceedings incident to the ordinary
course of business. In management's opinion, the outcome of pending legal
proceedings, separately and in the aggregate, will not have a material adverse
effect on our business or consolidated financial condition.
In July 2003, the U.S. Magistrate Judge appointed by the U.S. District Judge,
Southern District of New York, issued his report and recommendation finding in
favor of the Company and its subsidiaries with respect to, among other things,
our motion for summary judgment of non-infringement in the case brought against
us in August 2000 by an affiliate of Revlon, Inc. Revlon claimed, among other
things, that five Estee Lauder products, two Origins foundations, a La Mer
concealer and a jane foundation infringed its patent. Revlon sought, among other
things, treble damages, punitive damages, equitable relief and attorneys' fees.
After the grant of summary judgment, Revlon proposed settlement and dismissal of
the case with prejudice. Dismissal papers have now been approved by the Court,
and the Company incurred no liability in the settlement.
In July 2003, we entered into a settlement agreement with the plaintiffs, the
other Manufacturer Defendants (as defined below) and the Department Store
Defendants (as defined below) in a consolidated class action lawsuit that had
been pending in the Superior Court of the State of California in Marin County
since 1998. In connection with the settlement, the case has been refiled in the
United States District Court for the Northern District of California on behalf
of a nationwide class of consumers of prestige cosmetics in the United States.
The settlement requires Court approval and, if approved by the Court, will
result in the plaintiffs' claims being dismissed, with prejudice, in their
entirety. There has been no finding or admission of any wrongdoing by the
Company in this lawsuit. We entered into the settlement agreement solely to
avoid protracted and costly litigation. In connection with the settlement
agreement, the defendants, including the Company, will provide consumers with
certain free products and pay the plaintiffs' attorneys' fees. To meet its
obligations under the settlement, the Company took a special pre-tax charge of
$22.0 million, or $13.5 million after-tax, equal to $.06 per diluted common
share in the fourth quarter of fiscal 2003. The charge will not have a material
adverse effect on the Company's financial condition. In the federal action, the
plaintiffs, purporting to represent a class of all U.S. residents who purchased
prestige cosmetics products at retail for personal use from eight department
stores groups that sold such products in the United States (the "Department
Store Defendants"), alleged that the Department Store Defendants, the Company
and eight other manufacturers of cosmetics (the "Manufacturer Defendants")
conspired to fix and maintain retail prices and to limit the supply of prestige
cosmetics products sold by the Department Store Defendants in violation of state
and federal laws. The plaintiffs sought, among other things, treble damages,
equitable relief, attorneys' fees, interest and costs.
In 1998, the Office of the Attorney General of the State of New York (the
"State") notified the Company and ten other entities that they are potentially
responsible parties ("PRPs") with respect to the Blydenburgh landfill in Islip
New York. Each PRP may be jointly and severally liable for the costs of
investigation and cleanup, which the State estimates to be $16 million. While
the State has sued other PRPs in connection with the site (including Hickey's
Carting, Inc., Dennis C. Hickey and Maria Hickey, collectively the "Hickey
Parties"), the State has not sued the Company. The Company and certain other
PRPs are in discussions with the State regarding possible settlement of the
matter. On September 9, 2002, the Hickey Parties brought contribution actions
against the Company and other Blydenburgh PRPs in the State's lawsuit against
the Hickey Parties in the U.S. District Court for the Eastern District of New
York. These actions seek to recover, among other things, any damages for which
the Hickey Parties are found liable in the State's lawsuit against them, and
related costs and expenses, including attorneys' fees. The Company intends to
defend the contribution claim vigorously. While no assurance can be given as to
the ultimate outcome, management believes that the Blydenburgh matters will not
have a material adverse effect on the Company's consolidated financial
condition.
In 1998, the State notified the Company and fifteen other entities that they are
PRPs with respect to the Huntington/East Northport landfill. The cleanup costs
are estimated at $20 million. No litigation has commenced. The Company and other
PRPs are in discussions with the State regarding possible settlement of the
matter. While no assurance can be given as to the ultimate outcome, management
believes that the matter will not have a material adverse effect on the
Company's consolidated financial condition.
In June 2003, a lawsuit was filed in the U.S. District Court, Eastern District
of New York, on behalf of two former employees and one former temporary employee
alleging race and disability discrimination, harassment and retaliation. The
complaint seeks $10 million in damages for each of seven causes of action. We
intend to defend the action vigorously. While no assurances can be given as to
the ultimate outcome, we believe that this matter will not have a material
adverse effect on the Company's consolidated financial condition.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits --
Exhibit
Number Description
------ -----------
31.1 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 (CEO).
31.2 Certification pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 (CFO).
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (CEO).
(furnished)
32.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (CFO).
(furnished)
(b) Reports on Form 8-K --
On July 17, 2003, we filed a Current Report on Form 8-K. Pursuant to Item 5 of
Form 8-K, we reported that we had entered into a proposed settlement agreement
of a class action lawsuit.
On August 14, 2003, we furnished a Current Report on Form 8-K. Pursuant to Item
12 of Form 8-K, we furnished our press release reporting our fiscal 2003
full-year and fourth-quarter results and our then anticipated fiscal 2004
full-year and first-half results.
On September 24, 2003, we filed a Current Report on Form 8-K. Pursuant to Item 5
of Form 8-K, we provided an update on our credit ratings.
On September 29, 2003, we filed a Current Report on Form 8-K. Pursuant to Item 5
of Form 8-K, we reported that we issued and sold in an underwritten offering
$200.0 million aggregate principal amount of 5.75% Senior Notes due 2033.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
THE ESTEE LAUDER COMPANIES INC.
Date: October 28, 2003 By: /s/Richard W. Kunes
-------------------------------
Richard W. Kunes
Senior Vice President
and Chief Financial Officer
(Principal Financial and
Accounting Officer)