-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, URGiBgVVA7n6EzNcb1vg/++iEbtSrno14bZHgxMBGAesy0vu/VqfGrCSXp9uXx8U ShZaUv0imm5xoTSTbMKmpg== 0000950117-98-001818.txt : 19981005 0000950117-98-001818.hdr.sgml : 19981005 ACCESSION NUMBER: 0000950117-98-001818 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19980704 FILED AS OF DATE: 19981002 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: AUTHENTIC FITNESS CORP CENTRAL INDEX KEY: 0000887538 STANDARD INDUSTRIAL CLASSIFICATION: APPAREL & OTHER FINISHED PRODS OF FABRICS & SIMILAR MATERIAL [2300] IRS NUMBER: 954268251 STATE OF INCORPORATION: DE FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 001-11202 FILM NUMBER: 98720303 BUSINESS ADDRESS: STREET 1: 6040 BANDINI BLVD CITY: COMMERCE STATE: CA ZIP: 90040 BUSINESS PHONE: 2137261262 MAIL ADDRESS: STREET 1: 6040 BANDINI BOULEVARD CITY: COMMERCE STATE: CA ZIP: 90040 10-K405 1 AUTHENTIC FITNESS CORPORATION 10-K ________________________________________________________________________________ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K (Mark One) X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF --- THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended July 4, 1998 OR --- TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM________TO________
COMMISSION FILE NUMBER: 1-11202 ------------------------------ AUTHENTIC FITNESS CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 95-4268251 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
6040 BANDINI BOULEVARD COMMERCE, CALIFORNIA 90040 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES INCLUDING ZIP CODE) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (323) 726-1262 ------------------------------ SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NAME OF EACH EXCHANGE TITLE OF EACH CLASS ON WHICH REGISTERED - ------------------------------------------------ ------------------------ Common Stock, par value $.001 per share New York Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE ------------------------------ Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes [x] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendments to this Form 10-K. [x] The aggregate market value of the voting stock held by non-affiliates of the Registrant as of September 30, 1998 was approximately $230,709,000. The number of shares of Common Stock outstanding as of September 30, 1998 was 22,990,086. Documents incorporated by reference: The definitive Proxy Statement of Authentic Fitness Corporation, relating to the 1998 Annual Meeting of Stockholders is incorporated by reference in Part III hereof. ________________________________________________________________________________ PART I ITEM 1. BUSINESS. Authentic Fitness Corporation (the 'Company'), a Delaware corporation, was organized in 1990. The Company designs, manufactures and markets swimwear, swim accessories and active fitness apparel under the Speedo'r', Speedo'r' Authentic Fitness'r', Catalina'r', Anne Cole'r', Cole of California'r', Oscar de la Renta'r', Sunset Beach'r', Sandcastle'r' and Sporting Life'r' brand names; and activewear and swimwear under the White Stag'r' brand name. In addition, the Company operates 139 Speedo'r' Authentic Fitness'r' retail stores which sell active fitness apparel in major metropolitan areas of the United States and Canada. The Speedo'r', Designer Swimwear, Retail and White Stag'r' Divisions accounted for 54%, 27%, 15% and 2%, respectively, of net revenues in fiscal 1998. On February 1, 1998, the Company entered into an exclusive worldwide licensing agreement with The Polo/Lauren Company, L.P. and PRL USA, Inc. and a design services agreement with Polo/Ralph Lauren Corporation for Ralph Lauren'r', Polo Sport Ralph Lauren'r' and Polo Sport-RLX'r' brand swimwear for women and girls. The Company has leveraged the strength of its brand names and reputation for quality to (i) continue to develop its core business, (ii) expand its product offerings into new categories and (iii) enter new channels of distribution. Due to the successful implementation of these strategies, the Company's net revenues increased to $367.5 million in fiscal 1998 from $85.5 million in fiscal 1991, a compound annual growth rate of 23.1%. SPEEDO'r' DIVISION The Speedo'r' brand name is preeminent in the competition swimwear market with over a 60% market share in fiscal 1998 and is widely recognized for product innovation, quality and performance. The Speedo'r' Division's product line consists of women's and men's competition swimwear and swim accessories, men's swimwear and coordinating t-shirts, women's fitness swimwear, Speedo'r' Authentic Fitness'r' activewear and children's swimwear, all of which are marketed under the Speedo'r' brand name. The Company's license to use the Speedo'r' trademark and such other related trademarks was granted in perpetuity subject to certain conditions by Speedo International, Ltd., the licensor of the Speedo'r' brand name and is exclusive in the United States, its territories and possessions, Canada, Mexico and the Caribbean Islands. The Company's strategy for the Speedo'r' Division is to attract new customers to its core competition swimwear lines, and to expand its dominance in competition swimwear to other markets for fitness apparel such as aerobics, recreational water sports and volleyball; thereby targeting customers for whom performance, quality and authenticity are important product attributes and to open new channels of distribution, including its growing chain of Speedo'r' Authentic Fitness'r' retail stores. Speedo'r' swimwear has been associated with swimming and diving champions since the 1950's, when it was first worn by the Australian Olympic Swim Team. In the 1996 Summer Olympics in Atlanta, 24 out of 26 of the U.S. swimming medals were won by athletes wearing Speedo'r' suits. The Company has promotional contracts with Olympic medalists and world champions including Amy Van Dyken, Jenny Thompson, Lenny Krayzelburg, Brooke Bennett, Bill Pilczuk, Josh Davis, Greg Louganis, Janet Evans and Summer Sanders, as well as top-ranked beach volleyball players Sinjin Smith, Holly McPeak, Linda Hanley and 1996 Olympic beach volleyball gold medalist Karch Kiraly. At the 1998 United States Swimming National Championships held in Clovis, California, swimmers wearing Speedo'r' suits won 88% of the gold medals awarded and 91% of all medals awarded. In addition, over 90% of all competing swimmers at the meet wore Speedo'r'. At the 1998 Goodwill Games, Speedo'r' participated as the official swimwear and swim accessory sponsor. In the swimming events, athletes competing in Speedo'r' suits won 6 gold medals, 7 silver medals and 2 bronze medals. Overall, 86% of all U.S. swimmers competed in Speedo'r', with 100% of all U.S. male divers competing in Speedo'r', 100% of all U.S. triathletes and water polo players and 37% of all U.S. beach volleyball players also competing in Speedo'r'. Since 1985, the Company has been an official sponsor of the U.S. National Swim Federation, U.S. Diving Federation and, since 1993, the U.S. Water Polo Federation as well as the corresponding Canadian federations. The Company is also an official sponsor of USA Triathlon. The Company has extended these sponsorships through the year 2000 ensuring that Speedo'r' competitive swimwear and Speedo'r' apparel will be worn through the 2000 Summer Olympics in Sydney, Australia. Management 1 believes these athletes and the U.S. and Canadian federations provide exposure and publicity prior to and during the Olympic Games and other national and international swim meets that benefits not only the Company's competition swimwear but also the Company's other Speedo'r' swimwear and accessories, as well as the Speedo'r' Authentic Fitness'r' line of active fitness apparel. Speedo'r' is the official swimwear and activewear sponsor of the 1998 Miss Teen USA, the 1999 Miss USA and the 1999 Miss Universe pageants. COMPETITION SWIMWEAR The Speedo'r' brand first established its reputation for high performance in competition swimwear and Speedo'r' continues to be the dominant brand in competition swimwear with over 60% market share in the United States and Canada. The Company believes that it has achieved such preeminence by focusing on technological advances which provide superior performance. Although the competition swimwear line includes a wide variety of styles and designs, the majority of its sales represent repeat business in a relatively constant core group of basic body styles. The Company's competition swimsuits are manufactured to provide outstanding fit, thus reducing water drag and enhancing freedom of movement. The fabric used in these swimsuits also resists degradation from the sun and pool chemicals enabling Speedo'r' competition swimsuits to last longer and to maintain their fit better than suits made with other Lycra'r' types. The Company has consistently worked to develop technologically advanced fabrics to provide superior performance, including the following: the S-2000 suit developed for the 1992 Summer Olympic Games, the revolutionary Speedo'r' Aquablade'TM' fabric which creates less water drag than exposed skin and the Speedo'r' Aquablade'TM' Vortex Generator swimsuit designed to reduce significant drag forces beneath the water. Speedo'r' Aquablade'TM' suits and briefs were worn in the 1996 Summer Olympics by 12 of the 16 gold medal winners and 33 of the 48 overall medal winners in women's swimming events including gold medal winners Amy Van Dyken, Angel Martino and Jenny Thompson. Two of the four world records set at the 1996 Summer Olympics were set by swimmers wearing Speedo'r' Aquablade'TM' suits. At the 1998 United States Swimming National Championships, Lenny Krayzelburg won a gold medal and set an American record wearing the Speedo'r' Aquablade'TM' Vortex Generator swimsuit. The competition swimwear line is sold primarily through sporting goods stores and approximately 300 independent team dealers who interact with coaches and managers of competitive and recreational swim programs. The Company contracts domestically for the manufacture of substantially all products in its competition swimwear line. Nylon, nylon Lycra'r' and cotton Lycra'r', the principal raw materials for the competition swimwear line, as well as the fitness swimwear line and certain Speedo'r' Authentic Fitness'r' products, are sourced from and printed by a variety of domestic and international mills and converters. The Company considers its relationships with its present fabric sources and manufacturers to be good. Net revenues for the competition swimwear line increased to $43.3 million in fiscal 1998 from $19.9 million in fiscal 1991, a compound annual growth rate of 11.7%. ACTIVE FITNESS The active fitness line includes both fitness swimwear for women and the Speedo'r' Authentic Fitness'r' line of active fitness apparel for men and women. The Company believes that the Speedo'r' brand's reputation for performance, quality and authenticity provides a natural base from which to build into the fitness apparel market. The fitness line of swimsuits is designed for the growing number of women who participate in swimming or water aerobics as part of their regular exercise program. The sale of fitness swimsuits is complemented by the Company's complete line of accessories designed for aquatic exercise. The Company launched its highly successful Speedo'r' Authentic Fitness'r' line of active fitness apparel in the fall of 1991. Currently, the line consists primarily of cotton Lycra'r' products for women, such as leotards, unitards and tights, all made with the same emphasis on styling and performance as the Company's other Speedo'r' products. In addition, the Company sells coordinated sportswear, including fleece and nylon warm-ups, jackets, shorts and pants for men and women under the Speedo'r' Authentic 2 Fitness'r' label. The Speedo'r' Authentic Fitness'r' line is designed to be both functional for fitness work-outs and fashionable enough for everyday wear. Styles are coordinated to mix and match and are available in a variety of updated colors. Speedo'r' Authentic Fitness'r' products function for a wide variety of fitness activities which range from aerobics and running to volleyball and for a wide variety of fitness participants from once-a-week health club members to triathletes. The Company has benefited from increased awareness of the Speedo'r' Authentic Fitness'r' line as a result of its promotional contracts with several of the medalists who wore Speedo'r' swimwear products in the 1996 Summer Olympics and a number of professional volleyball players and triathletes. The Company has promotional contracts with Karch Kiraly who was a gold medal winner at the 1996 Summer Olympics, Sinjin Smith, professional beach volleyball's winningest player with 139 tournament victories, Holly McPeak, currently a member of the No. 1 ranked U.S. team on the FIVB tour and Linda Hanley, currently a member of the No. 2 ranked U.S. team on the FIVB tour. The Company also has a promotional contract with Spencer Smith, a world champion triathlete. The increased awareness of the Speedo'r' and Speedo'r' Authentic Fitness'r' brands has allowed the Company to further expand its product line. In fiscal 1993, the Company introduced a line of swimwear, T-shirts and sportswear for children. The Speedo'r' kids line has been highly successful generating net revenues of $18.7 million in fiscal 1998, an increase of more than 21% from fiscal 1997. In September 1996, the Company's Speedo'r' kids line was the winner of the prestigious Earnie Award presented by Earnshaw Publications for 'Excellence in Design -- Swimwear'. The Company expects that this business will continue to grow significantly in future years. The Company's fitness swimwear is sold primarily through department, sporting goods and specialty stores. The Speedo'r' Authentic Fitness'r' line of active fitness apparel is currently sold primarily through the Company's Speedo'r' Authentic Fitness'r' retail stores. The fitness swimwear and Speedo'r' Authentic Fitness'r' lines are currently sourced from and printed and manufactured by the same mills, converters and sub-contractors as the competition swimwear line. Certain Speedo'r' Authentic Fitness'r' styles are manufactured in Company owned manufacturing facilities. The Company acquires the cotton, fleece and nylon used in some of its Speedo'r' Authentic Fitness'r' products from a variety of domestic and international sources and uses a variety of domestic sewing sub-contractors to produce them. The Company considers its relationship with these suppliers and sub-contractors to be good. Net revenues for the fitness swimwear and related lines increased to $22.6 million in fiscal 1998 from $1.5 million in fiscal 1991, a compound annual growth rate of 47.3%. MEN'S SWIMWEAR The Company's Speedo'r' brand watershorts were introduced in 1984 and are one of the leading brands of men's and boy's branded swimwear in department and specialty stores commanding a 14% market share for the 1998 selling season according to The NPD Group, Inc. The Company's watershorts are designed for men who participate in active sports and recreation in and out of the water. The watershorts are made of cotton or nylon fabric and come in a wide variety of color combinations, designs and lengths. Since 1990, the Company has offered a collection of colorful Speedo'r' T-shirts with bold graphics that coordinate with the color schemes and designs used in Speedo'r' swimwear to provide an important complement to the swimwear and Speedo'r' Authentic Fitness'r' lines. Stores which previously sold only Speedo'r' swimwear may now display Speedo'r' T-shirts with such swimwear and thus provide the consumer with the opportunity to purchase coordinated tops and bottoms. The Company has also developed garments for use for a wide variety of fitness activities which range from aerobics and running to triathlon and cycling including shorts, pants and tops primarily made of cotton and nylon knitted fabrics. The Company's successful extensions of the men's swimwear line include the introduction of the Speedo'r' Surf Runner'TM' nylon cross training watershorts, which have become a key item in Speedo'r's activewear collection. 3 The Company's Speedo'r' brand watershorts and T-shirts are sold primarily through department, sporting goods and specialty stores and catalogs. The Company purchases T-shirt blanks and prints them domestically. The watershorts are sourced principally from a variety of international sources. The buying agent for products that are sourced from the Far East is either ASCO International Sourcing Limited or Soaring Force Limited (collectively, 'ASCO'). ASCO sources the manufacture of such products, inspects finished goods prior to shipment, facilitates the shipment of goods from foreign ports and arranges for the issuance of letters of credit to manufacturers for finished products. ASCO is an affiliate of Pentland Ventures Ltd ('Pentland'), one of the Company's principal stockholders. Net revenues for men's swimwear, primarily watershorts and T-shirts increased to $25.2 million in fiscal 1998 from $15.7 million in fiscal 1991, a compound annual growth rate of 7.0%. ACCESSORIES Speedo'r' accessories represent a major and growing product classification for the Company complementing the competition swimwear, aquatic fitness and recreational watersports lines. The Company's Speedo'r' accessories include a diverse range of products including swim goggles, swimming caps, nose clips, masks, snorkels, ear plugs, kickboards, flotation devices, and aquatic exercise gear including the Speedo'r' Aquatic Cross-Training Mitt'TM' which provides a more effective and efficient full body workout while swimming. Accessories which can be used by fitness participants out of the pool include duffel bags, athletic bags, sandals and Speedo'r' Surf Walker'TM' and Beachers'r' footwear, for use by the pool or at the beach. The Company continues to develop innovative and functional accessories to support the growing number of fitness swimmers participating in water aerobics and lap swimming. The mainstay of the Speedo'r' accessories line is swim goggles. Made from polycarbonate plastic, the goggles come in varied shapes and tints and include anti-fog, hypo-allergenic and prescription vision models. Management believes that Speedo'r' is the number one brand of swim goggles sold in sporting goods stores. The swim goggle line is primarily manufactured by the Company to provide more control over the manufacturing process and quick response to the needs of the Company's customers. Latex and silicone swimming caps are sourced from the Far East from manufacturers using specially-designed molds that the Company either owns or has exclusive rights to use. Other products in the Speedo'r' accessories line are sourced from a variety of domestic and international sources. Swim goggles and other accessories are available in most department, sporting goods and specialty stores which carry other Speedo'r' products. Net revenues of the accessories line increased to $53.1 million in fiscal 1998 from $19.5 million in fiscal 1991, a compound annual growth rate of 15.4%. DESIGNER SWIMWEAR DIVISION: CATALINA'r', ANNE COLE'r', COLE OF CALIFORNIA'r', OSCAR DE LA RENTA'r', SANDCASTLE'r', SUNSET BEACH'r', SPORTING LIFE'r' AND WHITE STAG'r' The Designer Swimwear Division's product line consists of women's swimwear under the nationally recognized brand names: Catalina'r', Anne Cole'r', Cole of California'r', Oscar de la Renta'r', Sandcastle'r', Sunset Beach'r', White Stag'r' and Sporting Life'r'. Each of the brands targets a specific consumer and price point. Anne Cole'r' and Oscar de la Renta'r' are designer brands, Cole of California'r', Sandcastle'r' and Sporting Life'r' are missy brands and Sunset Beach'r' is a junior brand, all of which target the department and specialty store market. The Catalina'r' and White Stag'r' brands target the mass merchandise market. These brands have allowed the Company to expand its distribution in department and specialty stores and to add new channels of distribution, including mass merchandisers. Prior to the Catalina/Cole Acquisition in 1993, the Company estimates that less than 10% of the Company's total women's Speedo'r' swimwear sales were through department and specialty stores. The Company seeks to grow its Designer Swimwear Division by expanding the number of stores that carry its brands and increasing the presence of its brands within each store location. On February 1, 1998, the Company entered into an exclusive worldwide licensing agreement with The Polo/Lauren Company, L.P. and PRL USA, Inc. and a design services agreement with Polo/Ralph Lauren Corporation for Ralph Lauren'r', Polo Sport Ralph Lauren'r' and Polo Sport-RLX'r' brand 4 swimwear for women and girls. Under the license, the Company will produce and market swimsuits, bathing suits and coordinating cover-ups, tops and bottoms for women and girls. First shipments under this licensing agreement are scheduled for January 1999. For the 1998 selling season, three of the Company's designer brand names were top ten best sellers at retail according to The NPD Group, Inc. Anne Cole'r' was the third best selling missy swimwear brand, Cole of California'r' was the eighth best selling missy swimwear brand and Sunset Beach'r' was the eighth best selling junior swimwear brand. During fiscal 1994, the Company capitalized on the high level of consumer recognition and mass appeal of the Catalina'r' brand by repositioning it to a line of swimwear and active apparel for the mass merchandise market. The Company entered into a license agreement with Wal-Mart Stores, Inc. ('Wal-Mart') pursuant to which Wal-Mart has the right, on a non-exclusive basis, to source, distribute and sell activewear under the Catalina'r' brand name and to purchase from the Company Catalina'r' swimwear for distribution and sale in Wal-Mart stores. In fiscal 1998, net revenues from this agreement under the Catalina'r' brand were $25.3 million. Also in fiscal 1994, the Company entered into an exclusive license agreement for a period of ten years with an option to renew for successive additional ten year terms with The Warnaco Group, Inc., a related party ('Warnaco'), pursuant to which Warnaco has the right to manufacture and distribute men's and women's sportswear under the Catalina'r' brand name. The Company recorded approximately $1.3 million of royalty income associated with this agreement in fiscal 1998. See Note 13 of Notes to Consolidated Financial Statements. In October 1993, the Company entered into a worldwide license agreement with Anne Cole and Anne Cole Design Studio Ltd. Under the worldwide license agreement, the Company obtained the exclusive right in perpetuity to use the Anne Cole'r' trademark for women's swimwear, activewear, sportswear and beachwear and children's swimwear. Also in 1993, the Company entered into a worldwide licensing agreement with Oscar de la Renta Licensing Corporation for the design, manufacture and marketing of women's and girls' swimwear and activewear under the Oscar de la Renta'r' brand name. The Designer Swimwear Division's net revenues have increased 244% to $98.8 million since the Company purchased the designer brands from Taren in October 1993. Net revenues for the Designer Swimwear Division increased 10.7% to $98.8 million in fiscal 1998 from $89.3 million in fiscal 1997. The White Stag'r' brand name, over 100 years old, is one of the most recognized brand names in the United States. In 1992, the Company made a strategic decision to capitalize on the awareness and potential mass appeal of the White Stag'r' brand name by redirecting it to a line of activewear, outerwear, swimwear and goggles for the mass merchandise market. In fiscal 1998, the Company shipped approximately $7.3 million of men's and women's activewear and swimwear under the White Stag'r' brand to Wal-Mart. SPEEDO'r' AUTHENTIC FITNESS'r' RETAIL STORES DIVISION Speedo'r' Authentic Fitness'r' retail stores are designed to appeal to participants in water and land-based fitness activities, and to offer a complete line of Speedo'r' and Speedo'r' Authentic Fitness'r' products that sell throughout the year. The stores are a model for innovative retailing of the Company's products and a proving ground for new products and marketing and merchandising techniques. In November 1992, the Company opened its first Speedo'r' Authentic Fitness'r' retail store in Los Angeles; since then the Company has opened 138 additional stores (through September 30, 1998) in major metropolitan areas of the United States and Canada to bring the total number of stores open to 139. During fiscal 1998, the Company opened six new stores while closing two others. The Company expects to open ten additional stores in fiscal 1999. The stores average approximately 1,100 square feet in size. Capital expenditures for each new store of average size are expected to be approximately $200,000 and will require approximately $50,000 of working capital. The Company believes that the success of the retail stores to date evidences substantial consumer interest in new innovative channels of distribution for fitness apparel. Net revenues of the Retail Division increased 18.8% to $56.8 million in fiscal 1998 from $47.8 million in fiscal 1997 and comparable store sales increased 7.9% in fiscal 1998. 5 INTERNATIONAL OPERATIONS The Catalina/Cole Acquisition and the signing of the worldwide license agreement for Ralph Lauren'r', Polo Sport Ralph Lauren'r' and Polo Sport-RLX'r' are strategically intended to increase the Company's access to international markets. Catalina'r', Cole of California'r' and Anne Cole'r' products are sold directly to department and specialty stores and through various license agreements throughout the world. Although historically a small portion of the Company's business was international, the Company believes that the strength of the Designer Swimwear brand names will create an opportunity to increase its international presence over the next several years. The Company's licensing agreements with Speedo International, Ltd. geographically restrict the Company's international use of the Speedo'r' and other brand names to the United States, its territories and possessions, Canada, Mexico and the Caribbean Islands. The Company has a Canadian subsidiary which engages in manufacturing, sales and marketing activities. Net revenues of such Canadian operations contributed $13.0 million of the Company's net revenues for fiscal 1998. With the exception of the fluctuation of local currencies against the U.S. dollar, the Company does not believe that the Canadian operations are subject to risks which are significantly different from domestic operations. IMPORTS AND IMPORT RESTRICTIONS Although the Company imported approximately 65.5% of its finished products in fiscal 1998, substantially all of its competition swimwear is sourced domestically or manufactured in the Company's facilities in the U.S. from Kentucky Textiles or its affiliate KT West, Inc. ("KT West") which also provides other manufacturing services for the Company. The Company's fashion swimwear for women is manufactured in the Company's facilities or is sourced from domestic and international contractors. A portion of the Company's manufacturing is performed by a related party (See Note 13 of the Notes to Consolidated Financial Statements). Imports from certain countries are subject to the constraints imposed by bilateral agreements between the United States and substantially all of the countries from which the Company imports goods. These agreements impose quotas that limit the quantity of certain types of goods, including many of those imported by the Company, which can be imported into the United States from those countries. Such agreements also allow the United States to impose, under certain conditions, restraints on the importation of categories of merchandise that, under the terms of the agreements, are not subject to specified limits. The bilateral agreements through which quotas are imposed have been negotiated under the framework established by the Arrangement Regarding International Trade in Textiles, known as the Multifiber Arrangement. Many quota and tariff restrictions negotiated under the Multifiber Arrangement are being phased out over periods of up to ten years under the World Trade Organization. The Company's continued ability to source products that it imports may be adversely affected by additional bilateral agreements, unilateral trade restrictions, significant decreases in import quotas, the disruption of trade from exporting countries as a result of political instability or the imposition of additional duties, taxes and other charges on imports. EMPLOYEES The Company and its subsidiaries employed approximately 1,293 employees at July 4, 1998, less than 1% of whom were represented by a labor union. The Company considers its relationship with employees to be good and has not experienced interruptions of operations due to labor disagreements. CUSTOMERS The Company has over 2,700 customers. In fiscal 1996, Wal-Mart accounted for approximately 11% of the Company's net revenues. COMPETITION The apparel industry is highly competitive. The Company's competitors include apparel manufacturers of all sizes, some of which have substantially greater resources than the Company. 6 The Company believes that it has a significant competitive advantage because of high consumer recognition and acceptance of its brand names and its strong presence and strong share of the market in the major sporting goods, department and specialty store chains. TRADEMARKS AND LICENSING AGREEMENTS The Company has license agreements in perpetuity with Speedo International, Ltd. which permit the Company to design, manufacture and market certain men's, women's and children's apparel including swimwear, sportswear and a wide variety of other products using the Speedo'r' trademark and certain other trademarks including Speedo'r' Surf Walkers'TM' and Speedo'r' Authentic Fitness'r'. The Company's license to use the Speedo'r' trademark and such other trademarks was granted in perpetuity subject to certain conditions and is exclusive in the United States, its territories and possessions, Canada, Mexico and the Caribbean Islands. Speedo International, Ltd. retains the right to use or license such brand names in other jurisdictions and actively uses or licenses such brand names throughout the world outside of the Company's licensed areas. The agreements provide for minimum royalty payments to be credited against future royalty payments based on a percentage of net sales. Speedo International, Ltd. has the right to approve any designs bearing the licensed trademark as defined in the license agreements. The license agreements may be terminated, with respect to a particular territory only in the event the Company does not pay royalties for, or abandons, the trademark in such territory or in the event the Company manufactures or is controlled by a company that manufactures racing/competitive swimwear, swimwear caps or swimwear accessories, as specifically defined in the license agreements, under a different trademark. Speedo International, Ltd. is an affiliate of Pentland. In addition, the Company has certain rights to sublicense the Speedo'r' trademark within the geographic regions covered by the licenses. In 1992, the Company entered into an agreement with Speedo Holdings B.V., and its successor, Speedo International, Ltd., granting certain irrevocable rights to the Company relating to the use of the Authentic Fitness'r' name and service mark, which rights are in addition to the rights under the license agreements with Speedo International, Ltd. In October 1993, the Company entered into a worldwide license agreement with Anne Cole and Anne Cole Design Studio Ltd. Under the worldwide licensing agreement, the Company obtained the exclusive right in perpetuity to use the Anne Cole'r' trademark for women's swimwear, activewear, sportswear and beachwear, and children's swimwear, subject to certain terms and conditions. Under the license, the licensee is required to pay certain minimum guaranteed annual royalties, to be credited against earned royalties, based on a percentage of net sales. The licensor has the right to approve products bearing the licensed trademark as defined in the agreement. In 1993, the Company entered into a worldwide license agreement with Oscar de la Renta Licensing Corporation for the design, manufacture and marketing of women's and girls' swimwear and activewear under the Oscar de la Renta'r' brand name. The agreement granting the exclusive right to use the Oscar de la Renta'r' trademark is valid for a term up to and including March 31, 1999 and provides for the payment of certain minimum royalty payments to be credited against earned royalty payments for each agreement year. On February 1, 1998, the Company entered into an exclusive worldwide licensing agreement with The Polo/Lauren Company, L.P. and PRL USA, Inc. and a design services agreement with Polo/Ralph Lauren Corporation for Ralph Lauren'r', Polo Sport Ralph Lauren'r' and Polo Sport-RLX'r' brand swimwear for women and girls. Under the license, the Company will produce and market swimsuits, bathing suits and coordinating cover-ups, tops and bottoms for women and girls. First shipments under this licensing agreement are scheduled for January 1999. The Company owns other trademarks, the most important of which are White Stag'r', Catalina'r', Sunset Beach'r' and Cole of California'r'. 7 The Company licenses the White Stag'r' brand name to Warnaco in perpetuity for women's and children's non-athletic sportswear pursuant to a licensing agreement which is royalty free for so long as Warnaco is the licensee. In 1992, the Company entered into a non-exclusive license agreement with Wal-Mart pursuant to which Wal-Mart has the right to source, distribute and sell men's, women's and children's activewear, skiwear and fashion swimwear under the White Stag'r' brand name. The Company designs and develops products for Wal-Mart in connection with this license agreement. The Company licenses the Catalina'r', White Stag'r' and Cole of California'r' brand names to several licensees for a variety of products. These agreements generally require the licensee to pay royalties and fees to the Company based on a percentage of the licensee's net sales. The Company monitors product design, development, quality and merchandising of its licensees and meets with individual licensees from time to time to assure compliance with the Company's overall marketing, merchandising and design strategies. Royalties derived from such licenses were approximately $0.7 million, $0.5 million and $0.1 million in fiscal 1998, fiscal 1997 and fiscal 1996, respectively. In fiscal 1994, the Company entered into an exclusive license agreement with Warnaco pursuant to which Warnaco has the right to manufacture and distribute men's and women's sportswear under the Catalina'r' brand name. In fiscal 1995, the Company entered into a sub-license agreement with Warnaco to manufacture and market women's intimate apparel under the Speedo'r' name. The Company recognized royalty income of approximately $1.4 million, $0.8 million and $0.8 million from these agreements in fiscal 1998, fiscal 1997 and fiscal 1996, respectively (See Note 13 of Notes to Consolidated Financial Statements). The Company believes that only the trademarks mentioned herein are material to the business of the Company. BACKLOG Backlog represents booked orders which, although terminable without penalty, are believed by the Company to be firm. Because of the seasonality of the Company's business, the Company's backlog varies over the course of the year. Backlog usually peaks in November for swimwear. At September 30, 1998, the Company's backlog was $114.3 million, an increase of 24% compared to the prior year. See 'Management's Discussion and Analysis of Financial Condition and Results of Operations -- Seasonality.' ITEM 2. PROPERTIES. The principal executive offices of the Company are located at 6040 Bandini Blvd., Commerce, California 90040 and are occupied pursuant to a lease which expires in 2000. The Company also maintains executive offices at 90 Park Ave., New York, New York 10016 and 11111 Santa Monica Blvd., Los Angeles, CA 90025. The 90 Park Ave. and 11111 Santa Monica Blvd. properties are occupied on month to month leases from Warnaco. The Company has manufacturing, distribution and administrative facilities located in Sparks, Nevada (distribution facility), Los Angeles, California, (one warehouse, administrative and manufacturing facility and two manufacturing facilities), in Checotah, Oklahoma, (manufacturing facility), Vancouver, British Columbia, Canada (manufacturing and distribution facility) and Montreal, Quebec, Canada (distribution facility). Certain of the Company's manufacturing and warehouse facilities are also used for administrative functions. All of the Company's facilities are leased except the Checotah, Oklahoma facility, which the Company owns. Lease terms expire from January 1999 to November 2003. The Company leases 139 retail store locations in various cities in the United States and Canada. The leases expire from 1998 to 2006. All of the Company's production and warehouse facilities are located in appropriately designed buildings which are kept in good repair. All such facilities have well maintained equipment and sufficient capacity to handle present volumes. No significant facility is materially under utilized. ITEM 3. LEGAL PROCEEDINGS. The Company is not a party to any litigation, other than routine litigation incidental to the business of the Company, which is, individually or in the aggregate, material to the business of the Company. 8 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS. None EXECUTIVE OFFICERS OF THE COMPANY The executive officers of the Company, their ages and their positions are set forth below.
NAME AGE POSITION - --------------------------------------------------- --- --------------------------------------------------- Linda J. Wachner................................... 52 Director, Chairman of the Board and Chief Executive Officer Christopher G. Staff............................... 56 President and Chief Operating Officer Susan Guensch...................................... 38 President Speedo'r' Division Michael P. McHugh.................................. 59 Senior Vice President and Chief Financial Officer
Mrs. Linda J. Wachner has been a Director, Chairman of the Board and Chief Executive Officer of the Company since its inception in May 1990. Mrs. Wachner concurrently serves as and has been a Director, President and Chief Executive Officer of The Warnaco Group, Inc. ('Warnaco') since August 1987, and the Chairman of the Board of Warnaco since August 1991. Mrs. Wachner was a Director and President of Warnaco from March 1986 to August 1987. Mrs. Wachner held various positions, including President and Chief Executive Officer, with Max Factor and Company from December 1978 to October 1984. Mrs. Wachner also serves as a Director of Travelers Group Inc., Applied Graphics Technologies, Inc. and New York Stock Exchange, Inc. Mr. Christopher G. Staff has been President and Chief Operating Officer of the Company since February 1997. Mr. Staff served as President of the Speedo'r' and White Stag'r'/Skiwear Divisions and Chief Operating Officer of the Company from April 1992 until September 1994 and as President of the Company from May 1990 until April 1992. Mr. Staff also served as a Director of the Company from May 1990 until September 1994. Mr. Staff served as President and Chief Executive Officer of Van's, Inc. from September 1994 until June 1995 and as a consultant to the apparel and sportswear industry from June 1995 until November 1996. Mr. Staff rejoined the Company in November 1996. Ms. Susan Guensch has been President of the Speedo'r' Division since July 1996. Ms. Guensch joined the Company in June 1984 as Assistant Merchandiser for the Speedo'r' Division and since that time has served in various positions of increasing responsibility with the Company and its predecessor. Mr. Michael P. McHugh has been the Senior Vice President and Chief Financial Officer of the Company since May 1998. Mr. McHugh served as Corporate Vice President and Chief Financial Officer of J. Crew Group, Inc. from September 1986 to April 1998. From 1983 to 1986, Mr. McHugh was Vice President of Finance and Chief Financial Officer of the Regina Company and from 1977 to 1983 was Controller of Operations for Revlon, Inc. Mr. McHugh served as U.S. Controller of Canada Dry Corporation from 1975 to 1977 and from 1968 to 1975 was with Borden, Inc. holding various divisional positions including Controller, Group Controller and Vice President of Finance and Administration. 9 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The Company's Common Stock is listed on the New York Stock Exchange under the symbol 'ASM'. The table below sets forth, for the periods indicated, the high and low sales prices of the Company's Common Stock, as reported on the New York Stock Exchange Composite Tape.
PERIOD HIGH LOW - -------------------------------------------------------------------------------- ------- ------ Fiscal 1996: First quarter.............................................................. 23 3/8 16 1/8 Second quarter............................................................. 23 1/8 18 1/8 Third quarter.............................................................. 29 21 Fourth quarter............................................................. 28 17 Fiscal 1997: First quarter.............................................................. 18 7/8 11 Second quarter............................................................. 12 1/8 10 3/8 Third quarter.............................................................. 16 1/8 11 1/2 Fourth quarter............................................................. 16 12 3/8 Fiscal 1998: First quarter.............................................................. 15 3/4 11 Second quarter............................................................. 19 9/16 14 15/16 Third quarter.............................................................. 21 15 7/8 Fourth quarter............................................................. 18 7/8 14 3/8 Fiscal 1999: First quarter through September 30, 1998................................... 15 3/4 10 1/2
- ------------------ A recent last sales price for the shares of Common Stock as reported on the New York Stock Exchange Composite Tape was 15 1/4 on September 30, 1998. On September 30, 1998 there were 117 holders of Common Stock, based upon the number of holders of record and the number of individual participants in certain security position listings. The Company paid its initial quarterly cash dividend of 1.25[c] per share on October 2, 1995. Since that time the Company has declared twelve successive quarterly cash dividends of 1.25[c] per share. ITEM 6. SELECTED FINANCIAL DATA. The following table sets forth for the periods indicated selected consolidated financial data for Authentic Fitness Corporation. This information should be read in conjunction with the consolidated financial statements included elsewhere herein and 'Management's Discussion and Analysis of Financial Condition and Results of Operations.' The selected consolidated balance sheet data for the Company as of July 2, 1994, July 1, 1995 and July 6, 1996 and the selected consolidated financial data for the fiscal years ended July 2, 1994 and July 1, 1995 are derived from audited consolidated financial statements not included herein. The selected consolidated financial data for the Company for the fiscal years ended July 6, 1996, July 5, 1997 and July 4, 1998 and as of July 5, 1997 and July 4, 1998 are derived from audited consolidated financial statements included elsewhere herein. The fiscal year ended July 6, 1996 included 53 weeks of operations. The additional week of operations is not considered material to the results of operations of the Company. 10 SELECTED FINANCIAL DATA (IN THOUSANDS, EXCEPT PER SHARE DATA)
FISCAL YEAR ENDED ------------------------------------------------------------ JULY 2, JULY 1, JULY 6, JULY 5, JULY 4, 1994 1995 1996 1997 1998 -------- -------- -------- -------- -------- STATEMENT OF OPERATIONS DATA: Net revenues.............................. $178,567 $266,133 $309,609 $323,088 $367,484 Gross profit.............................. 63,710 97,696 75,398(b) 132,296 148,664 Selling, general and administrative expenses................................ 32,902 52,578 91,723(b) 76,456 87,124 Non-recurring items....................... 5,658(a) -- 13,642(b) 3,354(c) 1,408(d) Depreciation and amortization............. 4,338 6,549 15,462 9,824 10,351 -------- -------- -------- -------- -------- Income (loss) before interest, income taxes and extraordinary items........... 20,812 38,569 (45,429) 42,662 49,781 Interest expense.......................... 4,400 6,977 11,547 13,554 14,253 -------- -------- -------- -------- -------- Income (loss) before income taxes and extraordinary items..................... 16,412 31,592 (56,976) 29,108 35,528 Income taxes (benefit).................... 6,831 12,118 (17,623) 10,073 12,759 -------- -------- -------- -------- -------- Income (loss) before extraordinary items................................... 9,581 19,474 (39,353) 19,035 22,769 Extraordinary items....................... (1,591)(e) -- (1,497)(f) -- -- -------- -------- -------- -------- -------- Net income (loss) applicable to common stock................................... $ 7,990 $ 19,474 $(40,850) $ 19,035 $ 22,769 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- Dividends on common stock................. -- -- $ 964 $ 1,127 $ 1,149 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- PER SHARE DATA: Net income (loss): Basic................................. $ 0.50 $ 1.10 $ (2.08) $ 0.85 $ 1.02 Diluted............................... $ 0.41 $ 0.90 $ (2.08) $ 0.85 $ 1.01 Weighted average number of shares of common stock outstanding(g): Basic................................. 15,827 17,779 19,607 22,362 22,310 Diluted............................... 19,724 21,712 19,607 22,514 22,510 PRODUCT LINE SUMMARY: Net revenues: Speedo'r'............................. $113,138 $143,991 $161,920 $171,856 $198,420 Designer Swimwear..................... 28,739 68,572 80,695 89,258 98,804 Authentic Fitness'r' Retail........... 4,620 20,418 38,135 47,786 56,764 White Stag'r'/Skiwear................. 32,070 33,152 28,859 14,188 7,299 Other................................. -- -- -- -- 6,197 -------- -------- -------- -------- -------- $178,567 $266,133 $309,609 $323,088 $367,484 -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- Percentage of net revenues: Speedo'r'............................. 63.3% 54.1% 52.3% 53.2% 54.0% Designer Swimwear..................... 16.1% 25.8% 26.1% 27.6% 26.9% Authentic Fitness'r' Retail........... 2.6% 7.7% 12.3% 14.8% 15.4% White Stag'r'/Skiwear................. 18.0% 12.4% 9.3% 4.4% 2.0% Other................................. -- -- -- -- 1.7% -------- -------- -------- -------- -------- 100.0% 100.0% 100.0% 100.0% 100.0% -------- -------- -------- -------- -------- -------- -------- -------- -------- -------- BALANCE SHEET DATA: Working capital....................... $ 54,580 $ 66,051 $ 50,373 $ 53,118 $ 69,097 Total assets.......................... 197,602 278,239 281,466 321,872 316,162 Long-term debt (excluding current maturities)......................... 19,191 32,446 49,432 42,682 33,178 Stockholders' equity.................. 121,690 141,908 116,723 133,708 150,842
- ------------ (a) Non-recurring expenses include bonuses paid to senior executives in connection with the acquisition of Catalina/Cole and the disposition of certain assets of $2.8 million, expenses and bonus related to the modifications and extension of the Chairman's employment agreement of $1.2 million and the write-off of certain new product development and retail division start-up costs of $1.7 million. (b) The total non-recurring charges and other items (noted in Statement of Operations) recorded in fiscal 1996 were $43.0 million after-tax or $2.19 per diluted share. (footnotes continued on next page) 11 (footnotes continued from previous page) (c) Reflects excess distribution costs, not covered by insurance, of $2.2 million after-tax (or $0.10 per diluted share) as a result of the flood at the Company's Sparks, Nevada facility in January 1997. See Note 12 of Notes to Consolidated Financial Statements. (d) Reflects costs incurred for plant consolidation and retail store closures of $0.9 million after-tax (or $0.04 per diluted share). See Note 12 of Notes to Consolidated Financial Statements. (e) Reflects the write-off of deferred financing costs related to certain indebtedness repaid with the proceeds of the Company's public offering in December 1993 and the refinancing of the Company's revolving and term debt in April 1994. (f) Reflects the write-off of deferred financing costs related to certain indebtedness and the refinancing of the Company's credit agreement in March 1996. See Note 16 of Notes to Consolidated Financial Statements. (g) All share and per share amounts have been restated to reflect the two-for-one stock split effective February 10, 1994 and the impact of Statement of Financial Accounting Standards No. 128, 'Earnings Per Share', adopted effective July 4, 1998. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The Company's strategy is to leverage its leading brand names by entering new channels of distribution and expanding its product lines. Key elements of this strategy include opening Company-owned Speedo'r' Authentic Fitness'r' retail stores, expanding its product offerings through mass merchandisers and entering international markets. The Company's accomplishments over the past five years include (i) the successful transition of the Speedo'r' brand through line extensions from a highly focused competitive swimwear brand to a complete active fitness brand, (ii) the repositioning of White Stag'r' as an activewear, outerwear and swimwear brand for the mass merchandise market, (iii) the opening of 139 Company-owned Speedo'r' Authentic Fitness'r' retail stores through September 30, 1998, which has resulted in a new channel of distribution for Speedo'r' and Speedo'r' Authentic Fitness'r' products, (iv) the acquisition of the Catalina'r', Cole of California'r' and Anne Cole'r' swimwear brands, and the signing of the worldwide license in perpetuity for the Anne Cole'r' trademark and (v) the signing of an exclusive worldwide license agreement with the Polo/Lauren Company, L.P. and PRL USA, Inc. to produce and market Ralph Lauren'r', Polo Sport Ralph Lauren'r' and Polo Sport-RLX'r' brand swimsuits, bathing suits and coordinating cover-ups, tops and bottoms for women and girls. Due primarily to the successful implementation of its business strategies, the Company increased net revenues to $367.5 million in fiscal 1998 from $85.5 million in fiscal 1991, a compound annual growth rate of 23.1%. RESULTS OF OPERATIONS The table below summarizes certain operating information for the Company for each of the last three fiscal years. The operating results for fiscal 1996 have been adjusted to segregate losses and expenses associated with exiting the skiwear and outlet store businesses, the special bad debt loss, other reserves and the terminated merger with Warnaco from the other operations of the Company. This supplemental information should be read in conjunction with the consolidated financial statements and notes thereto provided elsewhere herein. The Company has also separately identified the impact of certain incremental inventory and accounts receivable reserves on the results of operations for fiscal 1996. 12 STATEMENT OF OPERATIONS (SELECTED DATA)
FISCAL YEAR ENDED ----------------------------------------------------------------- JULY 6, % OF NET JULY 5, % OF NET JULY 4, % OF NET 1996 REVENUES 1997 REVENUES 1998 REVENUES ------- -------- ------- -------- ------- -------- (IN MILLIONS) Net revenues.................. $ 309.6 100.0% $ 323.1 100.0% $ 367.5 100.0% Gross profit -- as adjusted for items below............. 97.3 31.4% 132.3 40.9% 148.7 40.5% Selling, administrative and general expenses -- as adjusted for items below.... 83.6 27.0% 76.5 23.7% 87.1 23.7% Depreciation and amortization................ 7.3 9.8 10.4 Income before extraordinary items -- as adjusted for items below................. $ 2.2 $ 21.2 $ 23.7 Other items: Plant and retail store closures.................... -- -- 1.4 Excess distribution costs related to the flood not covered by insurance........ -- 3.4 -- Special bad debt loss......... 11.6 -- -- Merger costs.................. 2.0 -- -- Exit costs related to Skiwear..................... 15.5 -- -- Exit costs related to outlet stores...................... 12.4 -- -- Inventory and accounts receivable and other reserves.................... 18.7 -- -- Income taxes (benefit)........ (17.2) 1.2 0.5 ------- ------- ------- Net income (loss)............. $ (40.8) $ 19.0 $ 22.8 ------- ------- ------- ------- ------- -------
COMPARISON OF FISCAL 1998 TO FISCAL 1997 Net revenues increased 13.7% in fiscal 1998 to $367.5 million from $323.1 million in fiscal 1997. The increase in net revenues was attributable to an increase in Speedo'r' net revenues of 15.5%, an increase in Designer Swimwear net revenues of 10.7% and an increase in Speedo'r' Authentic Fitness'r' Retail Stores Division net revenues of 18.8%. White Stag'r'/Skiwear net revenues decreased $6.9 million in fiscal 1998 as a result of the Company's strategic decision to discontinue its skiwear business in May 1996. The increase in Speedo'r' net revenues reflects an increased volume in all lines with significant increases in fitness swimwear, accessories, and goggles. The increase in Designer Swimwear net revenues reflects significant increases in Cole of California'r', and private label. The increase in Speedo'r' Authentic Fitness'r' Retail Stores Division net revenue is the result of a comparable store sales increase of 7.9% and the opening of six new stores, partially offset by the closing of two stores. On January 18, 1998, one of the Company's three distribution centers, located in Los Angeles, California suffered a fire. The building was damaged and certain inventory stored in the distribution center was damaged or destroyed. The Company is fully insured for any inventory lost as well as profits lost due to business interruption and other incurred expenses. The Company recorded a $36.8 million receivable from the insurance company related to this claim. As of July 4, 1998, the Company had received $24.5 million from the insurance company against such claim receivable leaving an outstanding claim receivable of $12.3 million. The Company is currently finalizing its claim for profits lost due to business interruption. Gross profit in fiscal 1998 increased to $148.7 million from $132.3 million in fiscal 1997. Gross profit as a percentage of net revenues was 40.5% in fiscal 1998 compared to 40.9% in fiscal 1997. The decrease in gross profit as a percentage of net revenues is primarily the result of markdowns relating to the Company's strategic decision to sell certain slow moving inventory ahead of the market in the third quarter of fiscal 1998 and other promotional selling during the fourth quarter of fiscal 1998 which resulted in a lowering of year-end inventory of 26.1% versus fiscal 1997. Partially offsetting the impact of markdowns in fiscal 1998 was the production of approximately 6.6 million swimsuits off-shore at lower costs, an increase of 32% over the 5 million produced in fiscal 1997. Gross profit as a percentage of net revenues for fiscal 1998 also reflects $17.2 million of reimbursements from the Company's insurance 13 carrier related to lost gross profit from the previously mentioned distribution center fire. Adjusting for the insurance reimbursement, gross profit as a percentage of net revenues would have been 37.5% for fiscal 1998. Selling, general and administrative expenses for fiscal 1998 increased to $87.1 million from $76.5 million in fiscal 1997. Selling, general and administrative expenses as a percentage of net revenues for both fiscal 1998 and fiscal 1997 were at 23.7%. Marketing expenses as a percentage of net revenues decreased 3.2% in fiscal 1998 as a result of the Olympic Games promotions in fiscal 1997. The decrease as a percentage of net revenues was off-set by the full year impact of the fiscal 1997 opening of 52 new Speedo'r' Authentic Fitness'r' retail stores impacting fiscal 1998 and the six new stores opened in fiscal 1998. Depreciation and amortization expenses increased to $10.4 million in fiscal 1998 from $9.8 million in fiscal 1997. The increase in depreciation and amortization expenses primarily reflects the amortization of leasehold improvements related to the full year impact of the fiscal 1997 opening of 52 new Speedo'r' Authentic Fitness'r' retail stores impacting fiscal 1998 and the six new stores opened in fiscal 1998. Interest expense increased to $14.3 million in fiscal 1998 from $13.6 million in fiscal 1997. As a percentage of net revenues interest expense in fiscal 1998 decreased to 3.9% of net revenues compared to 4.2% of net revenues in fiscal 1997. The increase in interest expense in fiscal 1998 primarily reflects the borrowing to fund the expansion of the Company's Speedo'r' Authentic Fitness'r' retail stores and the related increase in working capital. The Company's borrowing rate for fiscal 1998 automatically decreased to LIBOR plus 1% from LIBOR plus 1.5% at the end of fiscal 1997 pursuant to the terms of the Company's credit agreement. The Company's effective income tax rate for fiscal 1998 was 35.9% compared to 34.6% in fiscal 1997. The difference between the Company's effective income tax rate and the statutory income tax rate of 35% reflects the impact of state income taxes offset by the benefit of reversing the valuation allowance recorded by the Company in fiscal 1996 related to net operating loss carryforwards. COMPARISON OF FISCAL 1997 TO FISCAL 1996 On January 1, 1997, one of the Company's three distribution centers, located in Sparks, Nevada, was flooded destroying certain inventory owned by the Company. The Company is insured for such losses as well as for profits lost due to business interruption. As of July 5, 1997, the Company had recorded a $25.0 million claim receivable from the insurance company representing the cost of inventory damaged in the flood, lost profit on orders that were not shipped due to the flood and other covered expenses. In addition, in the fourth quarter of fiscal 1997, the Company incurred $3.4 million of distribution and other expenses in excess of amounts covered by insurance, which have been identified as a non-recurring expense. As of July 5, 1997, the Company had received $15.5 million from the insurance company against its insurance claim, leaving an outstanding claim receivable of $9.5 million. In fiscal 1998, in order to achieve an early resolution of the insurance claim, the Company accepted a cash settlement offer on the outstanding claim receivable of approximately $8.8 million and wrote-off the remaining receivable of $0.7 million. Net revenues increased 4.4% in fiscal 1997 to $323.1 million from $309.6 million in fiscal 1996. This increase was accomplished despite revenues lost in the second half of fiscal 1997 due to the previously discussed Sparks flood as well as the loss of revenues generated by the discontinued skiwear and outlet store businesses. Adjusting for the impact of these items, the Company estimates that net revenues would have increased approximately 20% over fiscal 1996. The increase in net revenues reflects an increase in Speedo'r' net revenues of 6.1%, an increase in Designer Swimwear net revenues of 10.6% and an increase in Speedo'r' Authentic Fitness'r' Retail Stores Division net revenues of 25.3%. White Stag'r'/Skiwear net revenues decreased over $14 million primarily due the Company's strategic decision to discontinue its skiwear business in May 1996. The increase in Speedo'r' net revenues primarily reflects an increase in accessories, including Speedo'r' kids accessories, of 69%, goggles of 16% and fitness swimwear of 32%. The increase in Designer Swimwear net revenues reflects increases in Sunset Beach'r' of 19.7%, Cole of California'r' of 75.9%, Anne Cole'r' of 8.6%. Catalina'r' shipments to Wal-Mart increased 5.5%. Speedo'r' Authentic Fitness'r' Retail Stores Division net revenues increased 25.3% reflecting the opening of 52 stores during fiscal 1997. 14 Gross profit in fiscal 1997 increased to $132.3 million from $75.4 million in fiscal 1996. Gross profit as a percentage of net revenues were 40.9% in fiscal 1997 compared to 24.4% in fiscal 1996. Gross profit for fiscal 1996 includes the impact of gross profit losses attributable to the discontinued skiwear and outlet store businesses and certain incremental inventory reserve adjustments. Fiscal 1996 gross profit before the impact of these items was $97.3 million or 31.4% of net revenues. The increase in gross profit in fiscal 1997 compared to fiscal 1996 reflects a more favorable sales mix, the Company's strategic decision to move production of approximately 5 million swimsuits off-shore and the higher mix of Speedo'r' Authentic Fitness'r' Retail Stores Division sales which produce a higher gross profit margin than the wholesale divisions. The increase in gross profit as a percentage of net revenues in fiscal 1997 compared to fiscal 1996 reflects the favorable impact of discontinuing the outlet and skiwear operations, more favorable sales mix and favorable variances associated with off-shore sourcing, as noted above. Gross profit as a percentage of net revenues for fiscal 1997 also reflects the benefit of $8.7 million of reimbursements from the Company's insurance carrier related to losses from the Sparks, Nevada flood without the offsetting cost of goods sold. Adjusting for this item, gross profit as a percentage of net revenues was 39.3% for fiscal 1997. Selling, general and administrative expenses for fiscal 1997 decreased to $76.5 million (23.7% of net revenues) from $91.7 million in fiscal 1996. Selling, general and administrative expenses for fiscal 1996 include the impact of the decision to exit the skiwear and outlet store businesses and certain incremental accounts receivable and other allowances recorded by the Company in fiscal 1996. Selling, general and administrative expenses, before the impact of these items was $83.6 million (27.0% of net revenues). The decrease in selling, general and administrative expenses in fiscal 1997 compared to fiscal 1996 primarily reflects a gain of approximately $3 million related to the sale of certain barter credits in the second quarter of fiscal 1997 as well as cost saving measures implemented by the Company in the first quarter of fiscal 1997. Depreciation and amortization expenses decreased to $9.8 million in fiscal 1997 from $15.5 million in fiscal 1996. Depreciation and amortization expense for fiscal 1996 includes the write-off of goodwill and intangible assets related to the discontinued skiwear and outlet store businesses. Depreciation and amortization expense was $7.3 million before the write-off. The increase in depreciation and amortization expense primarily reflects the amortization of leasehold improvements related to the increase in the number of Speedo'r' Authentic Fitness'r' retail stores compared to fiscal 1996. Interest expense increased to $13.6 million in fiscal 1997 compared to $11.5 million in fiscal 1996. The increase in interest expense in fiscal 1997 compared to fiscal 1996 primarily reflects the borrowing to fund the expansion of the Company's Speedo'r' Authentic Fitness'r' retail stores and the related increase in working capital. The Company's effective income tax rate for fiscal 1997 was 34.6% compared to 31% in fiscal 1996. The difference between the Company's effective income tax rate and the statutory income tax rate of 35% reflects the impact of state income taxes offset by the benefit of reversing the valuation allowance recorded by the Company in fiscal 1996 related to net operating loss carryforwards. Net income in fiscal 1997 was $19.0 million compared to a net loss of $(40.8) million in fiscal 1996. The increase in net income of over $59 million reflects the increase in gross profit and lower selling, general and administrative expenses partially offset by the higher interest expense and income taxes, all as noted above. The net loss in fiscal 1996 reflects the impact of the special bad debt loss, terminated merger costs, losses related to discontinuing the skiwear and outlet store businesses and additional reserves and adjustments. CAPITAL RESOURCES AND LIQUIDITY On September 6, 1996, the Company entered into a $200 million Credit Agreement with GE Capital, The Bank of Nova Scotia, Societe Generale and Union Bank of California (the '$200 Million Credit Agreement'). The $200 Million Credit Agreement is for a term of five years and provides for a term loan (the 'Term Loan') in the amount of $50 million and a revolving loan facility (the 'Revolving Loan') in the amount of $150 million. Borrowing under the $200 Million Credit Agreement accrued interest at the lenders' base rate or at LIBOR plus 1.5-2.0% during fiscal 1997 but decreased to LIBOR 15 plus 1.0% in the first quarter of fiscal 1998. The rate of interest payable on outstanding borrowing will be automatically reduced, to as low as LIBOR plus .75%, as the Company's EBITDA to Debt ratio improves to 2.5 to 1. The $200 Million Credit Agreement as amended, allows the Company to purchase up to $50 million of its Common Stock. The Company's Board of Directors has authorized a stock repurchase program which currently allows the Company to buy up to $50 million of its outstanding Common Stock. As of September 30, 1998, the Company had purchased approximately 2.4 million shares of the Company's Common Stock at an aggregate cost of approximately $34.8 million. On October 2, 1995, the Company paid its first quarterly cash dividend of 1 1/4[c] per share, equivalent to an annual rate of 5[c] per share. The Company has declared twelve successive quarterly cash dividends. The Company believes that its stock repurchase program as well as the regular quarterly cash dividend demonstrates the Company's ongoing commitment to increase stockholder value. The Company plans to expand its channels of distribution and provide growth in its operations by opening additional retail stores. The Company currently has 139 stores open and expects to open approximately ten additional stores during fiscal 1999. The cost of leasehold improvements, fixtures and the additional working capital associated with the opening of an average new store is expected to be approximately $250,000. The Company's liquidity requirements have historically arisen primarily from its debt service requirements and the funding of the Company's working capital needs, primarily inventory and accounts receivable. The Company's borrowing requirements are seasonal, with peak working capital needs generally arising at the end of the third quarter and the beginning of the fourth quarter of the fiscal year. The Company typically generates nearly all of its operating cash flow in the fourth quarter of the fiscal year reflecting third and fourth quarter shipments and the sale of inventory built during the first half of the fiscal year. The Company meets its seasonal working capital needs by utilizing amounts available under its revolving line of credit. The Company has amended and increased its lines of credit primarily to support the growth of its swimwear divisions and to fund the roll-out of the Company's Speedo'r' Authentic Fitness'r' retail stores. Cash provided by (used in) operating activities was $33.4 million, $17.8 million and $(40.2) million in fiscal 1998, 1997, and fiscal 1996, respectively. The increase in cash flow from operating activities in fiscal 1998 compared to fiscal 1997 of $15.6 million primarily reflects a decrease in inventory of $22.6 million in fiscal 1998 due to improved inventory controls, primarily in raw materials, an increase in net income in fiscal 1998 of $3.7 million and a decrease in accounts payable of $10.1 million due to reduced inventory purchases in the last months of fiscal 1998. Accounts receivable increased by $22.3 million primarily reflecting increased fourth quarter sales in fiscal 1998 compared to fiscal 1997. The increase in cash flow from operating activities in fiscal 1997 compared to fiscal 1996 of $58.0 million primarily reflects the increase of over $59 million in net income in fiscal 1997 compared to fiscal 1996 and income tax refunds received in fiscal 1997 from the carryback of the Company's fiscal 1996 net loss. Inventory increased $21.7 million in fiscal 1997 primarily related to the expansion of the Company's Speedo'r' Authentic Fitness'r' Retail Stores Division and an increase in raw material and work in process to support expected sales increases in fiscal 1998. Accounts receivable increased primarily reflecting the insurance claim receivable of $9.5 million and higher sales in the last month of fiscal 1997 compared to fiscal 1996. Accounts payable and accrued liabilities increased by $14.8 million reflecting the purchase of raw material, as noted above. Cash used in investing activities was $7.5 million, $15.1 million and $16.4 million for fiscal 1998, fiscal 1997 and fiscal 1996, respectively. Cash used in investing activities for fiscal 1998 primarily reflects capital expenditures of $6.7 million related to computer equipment and systems, the opening of six Speedo'r' Authentic Fitness'r' retail stores and an increase in intangible assets. Cash used in investing activities for fiscal 1997 primarily reflects capital expenditures of $16.9 million, primarily related to leasehold improvements and other costs associated with the opening of 52 Speedo'r' Authentic Fitness'r' retail stores and an increase in intangible and other assets partially offset by the proceeds from the sale of other assets of $8.5 million. Cash used in investing activities in fiscal 1996 primarily reflects capital 16 expenditures and increases in other assets, primarily related to the expansion of the Company's Speedo'r' Authentic Fitness'r' retail stores. Cash provided by (used in) financing activities was $(26.5) million, $(3.0) million and $57.4 million for fiscal 1998, fiscal 1997 and fiscal 1996, respectively. Cash used in financing activities for fiscal 1998 primarily reflects repayments under the revolving credit facility of $13.8 million, repayment of the term loan of $6.9 million and purchase of treasury stock of $7.0 million. Cash used in financing activities for fiscal 1997 primarily reflects repayments of debt (including the pay down of the Revolving Loan), repurchase of the Series A Warrant, dividend payments and the payment of deferred debt issue costs offset by the proceeds from the Term Loan. In fiscal 1996 the Company sold 2.5 million shares of its Common Stock in an underwritten public offering which generated $50.8 million of cash flow from financing activities. In fiscal 1996 the Company purchased one-half of a warrant representing 1,809,179 shares of Common Stock from GE Capital, the funds for which were provided by an increase in long-term debt. In addition, the Company repaid certain debt obligations by borrowing amounts available under its revolving credit agreement. The Company's Revolving Loan balance was approximately $84.5 million as of September 30, 1998. The Company's Term Loan balance was $41.3 million on September 30, 1998. The Company believes that funds available under its current $200 Million Credit Agreement, as noted above, combined with cash flow to be generated from future operations will be sufficient for the operations of the Company, including debt service, dividend payments and costs associated with the expansion of its Speedo'r' Authentic Fitness'r' retail stores for at least the next twelve months. Although the Company believes that its current credit agreement and cash flow to be generated from future operations will also be sufficient for its long-term operations (periods beyond the next twelve months), circumstances may arise that would require the Company to seek additional financing. In those circumstances the Company expects to evaluate potential additional sources of funds, for example, sales of additional common stock and expanded or additional bank credit facilities. YEAR 2000 COMPLIANCE Comprehensive plans for achieving Year 2000 compliance were finalized during fiscal 1998, and implementation work was under way at year-end. All required systems modifications are expected to be completed in fiscal 1999. Also during fiscal 1999, attention will continue to be focused on compliance attainment efforts of vendors and others, including key system interfaces with customers and suppliers. Notwithstanding the efforts described above, the Company could potentially experience disruptions to some aspects of its various activities and operations as a result of non-compliant systems utilized by unrelated business entities. Contingency plans are therefore under development to mitigate the extent of such potential disruption to business operations. The total estimated cost to the Company for enhanced hardware and software applications and to achieve Year 2000 compliant systems is expected to require expenditures, primarily capital, of approximately $9.0 million over the next three years. FISCAL 1999 ACTIONS In April 1998, the FASB approved a Statement of Position (SOP), 'Reporting on the Costs of Start-up Activities'. The SOP provides guidance on the financial reporting of start-up costs and requires that such costs, as defined, be expensed as incurred. The SOP is effective for fiscal years beginning after December 15, 1998 but earlier adoption is encouraged and the Company has elected to implement the SOP beginning with the first quarter of fiscal 1999. The impact of this change in accounting policy to write-off costs previously deferred and amortized is a non-cash pre-tax charge of $4.1 million. On October 2, 1998, the Company announced plans to discontinue sourcing from KT West from the Company's owned Checotah, Oklahoma facility and to consolidate sourcing from the Company's leased Montebello, California facility into the Company's Commerce, California facility. This decision is part of the Company's continued strategy to secure the most efficient sourcing of its products. A pre-tax charge of $3.3 million primarily related to the above is anticipated, including $2.2 million in non-cash 17 asset write-offs, $0.6 million in connection with contractual obligations to KT West and severance costs, and $0.5 million in other costs. In the aggregate, the above actions will result in a charge of $7.4 million in the first quarter of fiscal 1999 or $4.5 million, net of tax. STATEMENT REGARDING FORWARD-LOOKING DISCLOSURE This Report includes 'forward-looking statements' within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended which represent the Company's expectations or beliefs concerning future events that involve risks and uncertainties, including those associated with the effect of national and regional economic conditions, the overall level of consumer spending, the performance of the Company's products within the prevailing retail environment, customer acceptance of both new designs and newly-introduced product lines, and financial difficulties encountered by customers. All statements other than statements of historical facts included in this Annual Report, including, without limitation, the statements under 'Management's Discussion and Analysis of Financial Condition', are forward-looking statements. Although the Company believes that the expectations reflected in such forward-looking statements are reasonable; it can give no assurance that such expectations will prove to have been correct. SEASONALITY The Company's operations are seasonal. In fiscal 1998, approximately 70% of the Company's net revenues were generated in the second half of the fiscal year and substantially all of the Company's cash flow from operating activities is generated in the fourth quarter of the fiscal year. The following table summarizes the net revenues of the Company for each of the quarters in fiscal 1997 and fiscal 1998:
THREE MONTHS ENDED ----------------------------------------------------------------------------------- OCT 4, JAN 4, APRIL 5, JULY 5, OCT 4, JAN 3, APRIL 14, JULY 4, 1996 1997 1997 1997 1997 1998 1998 1998 ------ ------ -------- ------- ------ ------ --------- ------- (IN MILLIONS) Net revenues........................... $ 38.7 $ 70.4 $105.0 $ 109.0 $ 37.0 $ 72.7 $ 127.9 $ 129.9
The Speedo'r' Division produces a variety of products during the year and is seasonal in nature with 72% of net revenues realized in the second half of fiscal 1998. The Designer Swimwear Division is seasonal in nature, with most customer orders placed in the July through December period and product is shipped to customers starting in November. In fiscal 1998, 77% of net revenues for the Designer Swimwear Division were realized in the second half of the year. INFLATION The Company does not believe that the relatively moderate levels of inflation which have been experienced in the United States and Canada have had a significant effect on its net revenues or its profitability. In the past, the Company has been able to offset such effects by increasing prices or by instituting improvements in efficiency. IMPACT OF NEW ACCOUNTING STANDARDS In June 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 130, 'Reporting Comprehensive Income' and SFAS No. 131, 'Disclosure about Segments of an Enterprise and Related Information.' Both SFAS No. 130 and SFAS No. 131 are effective for financial statements for fiscal years beginning after December 15, 1997. The Company is evaluating the application of the new statements. The adoption of these statements will have no significant impact on the Company's consolidated financial position, liquidity, cash flows or results of operations. In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, 'Accounting for Derivative Instruments and Hedging 18 Activities'. SFAS No. 133 is effective for financial statements for fiscal years beginning after June 15, 1999. The Company is evaluating the application of the new statement and the impact on the Company's consolidated financial position, liquidity, cash flows and results of operations. In April 1998, the FASB approved the Statement of Position (SOP) on Reporting on the Costs of Start-Up Activities. The SOP provides guidance on the financial reporting of start-up costs and requires that such costs, as defined, be expensed as incurred. See Fiscal 1999 Actions above for impact of adoption. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK. The Company is exposed to market risk related to changes in interest rates and foreign currency exchange rates, and selectively uses financial instruments to manage these risks. The Company does not enter into financial instruments for speculation or trading purposes. The Company has an interest rate swap agreement with a financial institution to limit exposure to interest rate volatility. The value of market risk sensitive instruments is subject to change as a result of movement in market rates and prices. Based on a hypothetical (one-percentage point) increase in interest rates, the potential losses in future earnings, fair value and cash flows are immaterial. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The information required by Item 8 of Part II is incorporated herein by reference to the Consolidated Financial Statements filed with this report. See Item 14 of Part IV. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Not Applicable PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. The information required by Item 10 is herein incorporated by reference from page 9 of Item 4 of Part I included herein and the Proxy Statement of the Company, relating to the 1998 Annual Meeting of Stockholders. ITEM 11. EXECUTIVE COMPENSATION. The information required by Item 11 is herein incorporated by reference from the Proxy Statement of the Company, relating to the 1998 Annual Meeting of Stockholders. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. The information required by Item 12 is hereby incorporated by reference from the Proxy Statement of the Company, relating to the 1998 Annual Meeting of Stockholders. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. The information required by Item 13 is hereby incorporated by reference from the Proxy Statement of the Company, relating to the 1998 Annual Meeting of Stockholders. 19 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. (a) 1. Consolidated Financial Statements of Authentic Fitness Corporation Report of Independent Accountants, PricewaterhouseCoopers LLP. Report of Independent Auditors, Ernst & Young LLP. Consolidated Balance Sheets as of July 5, 1997 and July 4, 1998. Consolidated Statements of Operations for the Years Ended July 6, 1996, July 5, 1997 and July 4, 1998. Consolidated Statements of Stockholders' Equity for the Years Ended July 6, 1996, July 5, 1997 and July 4, 1998. Consolidated Statements of Cash Flows for the Years Ended July 6, 1996, July 5, 1997 and July 4, 1998. Notes to Consolidated Financial Statements. 2. Financial Statement Schedules Schedule II Valuation and Qualifying Accounts and Reserves All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission which are not included with this additional financial data have been omitted because they are not applicable or the required information is shown in the Consolidated Financial Statements or Notes thereto. 3. List of Exhibits:
3.1 Restated Certificate of Incorporation of the Registrant, as amended. (Incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended July 5, 1997). 3.2 Bylaws of the Registrant (Incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended July 3, 1993). 10.1 Management Stock Subscription Agreement dated May 11, 1990 among the registrant and the Management Participants listed therein (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.2 Amendment to Management Stock Subscription Agreement dated as of June 1, 1992 among the registrant and the Management Participants listed therein (Incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended July 3, 1993). 10.3 Registration Rights Agreement dated as of May 14, 1990 among the registrant and the Management Participants listed therein (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.4 Amendment to Registration Rights Agreement dated as of June 1, 1992 among the registrant, Warnaco Inc., Pentland Ventures Ltd. and the Management Participants listed therein (Incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended July 3, 1993). 10.5 Series A Warrant for 633,200 shares of Class A Common Stock of the Registrant (3,618,358 shares of Class A Common Stock as adjusted for subsequent stock splits) issued to General Electric Capital Corporation (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.6 Amendment to Series A Warrant dated as of June 1, 1992 between the registrant and General Electric Capital Corporation (Incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended July 3, 1993).
20 10.7'D' License Agreement dated May 10, 1990 among Speedo International Limited, Speedo International B.V., Warnaco Inc. and Warnaco International Inc. and related assignments to Authentic Fitness Products, Inc. (formerly S Acquisition Corp.) (United States, its territories and possessions, and Canada) (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.8'D' License Agreement dated May 10, 1990 among Speedo Knitting Mills Pty. Limited, Warnaco Inc. and Warnaco International Inc. and related assignments to Authentic Fitness Products, Inc. (formerly S Acquisition Corp.) (Mexico and the Caribbean Islands) (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.9 Buying Agency Agreement dated as of May 14, 1990 among Authentic Fitness Products, Inc. (formerly S Acquisition Corp.), 171173 Canada Inc., Asco International Sourcing Limited and Soaring Force Limited (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.10 Amendment to Buying Agency Agreement dated as of June 1, 1992 among Authentic Fitness Products, Inc. (formerly S Acquisition Corp.), 171173 Canada Inc., Asco International Sourcing Limited and Soaring Force Limited (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.11 Employment Agreement ('Employment Agreement') dated as of July 2, 1992 between the registrant and Linda J. Wachner (Incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended July 3, 1993). 10.12 First Amendment to Employment Agreement (Incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended July 2, 1994). 10.13 Incentive Compensation Plan (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.14 1990 Key Management Stock Option Plan (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.15 1992 Long Term Stock Incentive Plan (Incorporated herein by reference to the Company's Annual report on Form 10-K for the fiscal year ended July 1, 1995). 10.16 1993 Stock Option Plan for Non-Employee Directors (Incorporated herein by reference to the Company's Registration Statement on Form S-3 No. 33-71540). 10.17 1998 Stock Option Plan. 10.18 Form of Indemnification Agreements between the Registrant and its directors and executive officers (Incorporated herein by reference to the Company's Registration Statement on Form S-1, No. 33-47907). 10.19 $200,000,000 Credit Agreement Dated as of September 6, 1996 among Authentic Fitness Products, Inc., as Borrower, and Authentic Fitness Corporation and The Bank of Nova Scotia and General Electric Capital Corporation as Agents, and The Bank of Nova Scotia, as Administrative Agent, Swing Line Bank and Fronting Bank, and General Electric Capital Corporation as Documentation Agent and Collateral Agent (Incorporated herein by reference to the Company's Annual report on Form 10-K for the fiscal year ended July 6, 1996).
21 10.20 Restated Credit Agreement, dated as of March 18, 1998, among Authentic Fitness Products, Inc. as Borrower and Authentic Fitness Corporation, The Financial Institutions named as Lenders and The Bank of Nova Scotia and General Electric Capital Corporation as Agents, and The Bank of Nova Scotia as Administrative Agent, Paying Agent, Swing Line Bank and Fronting Bank, and General Electric Capital Corporation as Documentation Agent and Collateral Agent and Societe Generale, as Co-Agent (Incorporated herein by reference to the Company's Report on Form 10-Q for the quarterly period ended April 4, 1998). 10.21 Amended and Restated Stockholders Agreement dated as of June 1, 1992 among the registrant, Pentland Ventures Ltd., General Electric Capital Corporation, Warnaco Inc. and the Management Participants listed therein (Incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended July 3, 1993). 21.1 Subsidiaries of the registrant (Incorporated herein by reference to the Company's Annual Report on Form 10-K for the fiscal year ended July 2, 1994). 23.1 Consent of PricewaterhouseCoopers LLP. 23.2 Consent of Ernst & Young LLP. 27.1 Financial Data Schedule.
- ------------ 'D' Confidential treatment granted. (b) Reports on Form 8-K. No reports on Form 8-K were filed by the Registrant in the last quarter of fiscal 1998. 22 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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 on the 2nd day of October 1998. AUTHENTIC FITNESS CORPORATION By: /S/ LINDA J. WACHNER ___________________________________ Linda J. Wachner Chairman and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed by the following persons in the capacities and on the dates indicated.
SIGNATURE TITLE DATE - ------------------------------------------ -------------------------------------------- ------------------- /s/ LINDA J. WACHNER Chairman of the Board of Directors; Chief October 2, 1998 - ------------------------------------------ Executive Officer (Principal Executive (LINDA J. WACHNER) Officer) /s/ MICHAEL P. MCHUGH Senior Vice President and Chief Financial October 2, 1998 - ------------------------------------------ Officer (Principal Financial and Accounting (MICHAEL P. MCHUGH) Officer) /s/ STANLEY S. ARKIN Director October 2, 1998 - ------------------------------------------ (STANLEY S. ARKIN) /s/ STUART D. BUCHALTER Director October 2, 1998 - ------------------------------------------ (STUART D. BUCHALTER) /s/ JOSEPH A. CALIFANO, JR. Director October 2, 1998 - ------------------------------------------ (JOSEPH A. CALIFANO, JR.) /s/ WILLIAM S. FINKELSTEIN Director October 2, 1998 - ------------------------------------------ (WILLIAM S. FINKELSTEIN) /s/ ROBERT D. WALTER Director October 2, 1998 - ------------------------------------------ (ROBERT D. WALTER)
23 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Shareholders of Authentic Fitness Corporation In our opinion, the consolidated financial statements listed in the index appearing under Item 14(a) 1 and 2 on page 20 present fairly, in all material respects, the financial position of Authentic Fitness Corporation and its subsidiaries at July 4, 1998 and July 5, 1997, and the results of their operations and their cash flows for each of the two years in the period ended July 4, 1998, in conformity with generally accepted accounting principles. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. The consolidated financial statements of Authentic Fitness Corporation and its subsidiaries for the fiscal year ended July 6, 1996 were audited by other independent accountants whose report dated October 2, 1996 expressed an unqualified opinion on those statements. PRICEWATERHOUSECOOPERS LLP Los Angeles, California August 20, 1998 F-1 REPORT OF INDEPENDENT AUDITORS The Board of Directors Authentic Fitness Corporation We have audited the accompanying consolidated statements of operations, stockholders' equity and cash flows for the year ended July 6, 1996. Our audit also included the financial statement schedule listed in the Index at Item 14(a) for the year ended July 6, 1996. These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, Authentic Fitness Corporation's consolidated results of its operations and its cash flow for the year ended July 6, 1996, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedule for the year ended July 6, 1996, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein. ERNST & YOUNG LLP Los Angeles, California October 2, 1996 F-2 AUTHENTIC FITNESS CORPORATION CONSOLIDATED BALANCE SHEETS (IN THOUSANDS EXCEPT FOR SHARE AMOUNTS)
JULY 5, JULY 4, 1997 1998 -------- -------- ASSETS Current assets: Cash................................................................................. $ 1,246 $ 638 Accounts receivable -- net of allowances of $6,871 -- 1997 and $4,864 -- 1998 (includes insurance claim receivable of $9,500 -- 1997 and $12,276 -- 1998)......... 85,240 114,710 Accounts receivable from affiliates.................................................. 14,443 7,250 Inventories.......................................................................... 86,467 63,910 Other current assets................................................................. 6,119 8,080 -------- -------- Total current assets............................................................ 193,515 194,588 Property, plant and equipment, net (Note 4)............................................... 52,566 50,417 Other assets, net (Note 5)................................................................ 75,791 71,157 -------- -------- $321,872 $316,162 -------- -------- -------- -------- LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilites: Borrowing under revolving credit facility............................................ $ 75,776 $ 61,963 Current maturities of long-term debt................................................. 6,751 9,324 Accounts payable..................................................................... 27,227 23,429 Payable to affiliates................................................................ 22,937 16,604 Other accrued expenses............................................................... 5,911 6,636 Accrued income taxes................................................................. 1,795 4,386 Deferred income taxes................................................................ -- 3,149 -------- -------- Total current liabilities....................................................... 140,397 125,491 Long-term debt............................................................................ 42,682 33,178 Deferred income taxes..................................................................... 5,085 6,651 Commitments and contingencies (Note 11) Stockholders' equity: Preferred Stock, $.01 par value, 15,000,000 shares authorized; none outstanding...... -- -- Common Stock, $.001 par value, shares authorized 60,000,000; outstanding 22,419,730 -- 1997 and 22,990,086 -- 1998............................................... 23 23 Additional paid-in capital........................................................... 160,186 163,164 Cumulative translation adjustment.................................................... (741) (1,173) Accumulated deficit.................................................................. (23,906) (2,286) Treasury stock, at cost.............................................................. (1,854) (8,886) -------- -------- Total stockholders' equity...................................................... 133,708 150,842 -------- -------- $321,872 $316,162 -------- -------- -------- --------
The accompanying notes are an integral part of these consolidated financial statements. F-3 AUTHENTIC FITNESS CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS EXCEPT SHARE AND PER SHARE INFORMATION)
FOR THE YEARS ENDED ---------------------------------- JULY 6, JULY 5, JULY 4, 1996 1997 1998 ---------- ---------- ---------- Net revenues.............................................................. $309,609 $323,088 $367,484 Cost of goods sold........................................................ 234,211 190,792 218,820 ---------- ---------- ---------- Gross profit.............................................................. 75,398 132,296 148,664 Selling, general and administrative expenses.............................. 91,723 76,456 87,124 Plant and retail store closures........................................... -- -- 1,408 Excess distribution costs................................................. -- 3,354 -- Herman's special bad debt loss............................................ 11,642 -- -- Merger termination costs.................................................. 2,000 -- -- Depreciation and amortization............................................. 15,462 9,824 10,351 ---------- ---------- ---------- Income (loss) before interest and income taxes............................ (45,429) 42,662 49,781 Interest expense.......................................................... 11,547 13,554 14,253 ---------- ---------- ---------- Income (loss) before income taxes......................................... (56,976) 29,108 35,528 Provision (benefit) for income taxes...................................... (17,623) 10,073 12,759 ---------- ---------- ---------- Income (loss) before extraordinary items.................................. (39,353) 19,035 22,769 Extraordinary item, net of income tax benefit of $705 -- 1996............. (1,497) -- -- ---------- ---------- ---------- Net income (loss)......................................................... $(40,850) $ 19,035 $ 22,769 ---------- ---------- ---------- ---------- ---------- ---------- Basic earnings (loss) per common share: Income (loss) before extraordinary items............................. $ (2.00) $ 0.85 $ 1.02 Extraordinary items.................................................. (0.08) -- -- ---------- ---------- ---------- Basic earnings (loss) per common share.................................... $ (2.08) $ 0.85 $ 1.02 ---------- ---------- ---------- ---------- ---------- ---------- Diluted earnings (loss) per common share: Income (loss) before extraordinary items............................. $ (2.00) $ 0.85 $ 1.01 Extraordinary items.................................................. (0.08) -- -- ---------- ---------- ---------- Diluted earnings (loss) per common share.................................. $ (2.08) $ 0.85 $ 1.01 ---------- ---------- ---------- ---------- ---------- ---------- Weighted average number of shares of common stock outstanding: Basic................................................................ 19,607,410 22,362,350 22,310,089 ---------- ---------- ---------- ---------- ---------- ---------- Diluted.............................................................. 19,607,410 22,513,513 22,509,736 ---------- ---------- ---------- ---------- ---------- ----------
The accompanying notes are an integral part of these consolidated financial statements. F-4 AUTHENTIC FITNESS CORPORATION CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (IN THOUSANDS EXCEPT FOR SHARE AMOUNTS)
RETAINED SHARES OF ADDITIONAL CUMULATIVE EARNINGS/ TREASURY TOTAL COMMON COMMON PAID IN TRANSLATION ACCUMULATED STOCK, STOCKHOLDERS' STOCK STOCK CAPITAL ADJUSTMENT DEFICIT AT COST EQUITY ---------- ------ ---------- ----------- --------- --------- ------------- Balance at July 1, 1995..... 17,789,104 $ 18 $ 112,078 $ (740) $ 30,552 $ -- $ 141,908 Exercise of options......... 235,617 -- 2,291 2,291 Sale of Common Stock, net of expenses of $3,258........ 2,500,000 3 50,802 50,805 Repurchase of portion of Series A Warrant.......... -- -- (5,932) (30,552) (36,484) Dividends declared.......... (964) (964) Change in cumulative translation adjustment.... 17 17 Net loss.................... (40,850) (40,850) ---------- ------ ---------- ----------- --------- --------- ------------- Balance at July 6, 1996..... 20,524,721 21 159,239 (723) (41,814) -- 116,723 Exercise of options......... 86,000 -- 949 949 Dividends declared.......... (1,127) (1,127) Exercise of Series A Warrant................... 1,809,009 2 (2) -- Change in cumulative translation adjustment.... (18) (18) Purchase of 125,000 shares of treasury stock......... -- -- (1,854) (1,854) Net income.................. 19,035 19,035 ---------- ------ ---------- ----------- --------- --------- ------------- Balance at July 5, 1997..... 22,419,730 23 160,186 (741) (23,906) (1,854) 133,708 Exercise of options......... 570,356 -- 2,978 2,978 Dividends declared.......... (1,149) (1,149) Change in cumulative translation adjustment.... (432) (432) Purchase of 430,700 shares of treasury stock......... -- -- (7,032) (7,032) Net income.................. 22,769 22,769 ---------- ------ ---------- ----------- --------- --------- ------------- Balance at July 4, 1998..... 22,990,086 $ 23 $ 163,164 $ (1,173) $ (2,286) $ (8,886) $ 150,842 ---------- ------ ---------- ----------- --------- --------- ------------- ---------- ------ ---------- ----------- --------- --------- -------------
The accompanying notes are an integral part of these consolidated financial statements. F-5 AUTHENTIC FITNESS CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
FOR THE YEARS ENDED -------------------------------- JULY 6, JULY 5, JULY 4, 1996 1997 1998 -------- -------- -------- Cash flows from operating activities: Net income (loss)........................................................... $(40,850) $ 19,035 $ 22,769 Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Provision for uncollectible accounts receivable.......................... 26,368 20,135 27,188 Depreciation and amortization............................................ 15,462 9,824 10,351 Amortization of deferred financing costs................................. 359 1,208 1,454 Amortization of other assets............................................. -- -- 2,607 Gain on disposal of other assets, net.................................... -- (2,439) -- Income taxes............................................................. (18,328) 4,665 4,715 Extraordinary item....................................................... 2,202 -- -- Changes in assets and liabilities: Accounts receivable...................................................... (24,549) (40,540) (49,465) Inventories.............................................................. 8,226 (21,690) 22,557 Other current assets..................................................... (2,518) 4,035 (1,961) Accrued income taxes..................................................... (5,724) 11,352 2,619 Accounts payable......................................................... (4,175) 14,482 (10,131) Other accrued expenses................................................... 3,209 (2,240) 725 Other.................................................................... 69 -- -- -------- -------- -------- Net cash provided by (used in) operating activities........................... (40,249) 17,827 33,428 Cash flows from investing activities: Proceeds from the sale of other assets................................... -- 8,500 -- Purchases of fixed assets................................................ (12,668) (16,901) (6,716) Purchase of intangible assets and other assets........................... -- (7,154) (2,012) Other, net............................................................... (3,739) 451 1,220 -------- -------- -------- Net cash used in investing activities......................................... (16,407) (15,104) (7,508) Cash flows from financing activities: Net borrowing (repayments) under revolving credit facility............... 81,427 (42,438) (13,813) Net proceeds from the sale of Common Stock and exercise of options....... 53,102 955 2,978 Issuance's of long-term debt............................................. 38,500 50,274 -- Payment of deferred financing fees....................................... (2,139) (5,669) (581) Repayments of debt....................................................... (76,059) (3,117) (6,931) Dividends................................................................ (964) (1,127) (1,149) Purchase of treasury stock............................................... -- (1,854) (7,032) Purchase of Series A Warrant............................................. (36,484) -- -- -------- -------- -------- Net cash provided by (used in) financing activities........................... 57,383 (2,976) (26,528) -------- -------- -------- Net increase (decrease) in cash............................................... 727 (253) (608) Cash -- beginning of year..................................................... 772 1,499 1,246 -------- -------- -------- Cash -- end of year........................................................... $ 1,499 $ 1,246 $ 638 -------- -------- -------- -------- -------- -------- Supplemental disclosures of cash flow information: Cash paid for interest................................................... $ 11,850 $ 12,239 $ 13,027 Cash paid (refunds received) for income taxes, net....................... $ 7,458 $ (6,163) $ 5,453
The accompanying notes are an integral part of these consolidated financial statements. F-6 AUTHENTIC FITNESS CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOW (CONTINUED) Supplemental disclosures of non-cash operating, investing and financing activities: During the years ended July 6, 1996 and July 5, 1997 the Company entered into capital leases for new equipment and recorded capital lease obligations for the cost of the new equipment of $600,000 and $274,000, respectively. No capital leases were entered into during the year ended July 4, 1998. The accompanying notes are an integral part of these consolidated financial statements. F-7 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Basis of consolidation and presentation. The accompanying consolidated financial statements include the accounts of the Company and all subsidiaries for the fiscal years ended July 6, 1996, July 5, 1997 and July 4, 1998. The 1996 fiscal year included 53 weeks of operations, the additional week of operations is not considered material to the operations of the Company. All significant intercompany accounts and transactions have been eliminated. Certain amounts have been reclassified to conform to the current year presentation. Use of 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 and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Currency translation. For operations outside of the U.S. that prepare financial statements in currencies other than the U.S. dollar, the Company translates income statement amounts at average exchange rates for the year and translates assets and liabilities at year-end exchange rates. The translation adjustments are presented as a separate component of stockholders' equity. Inventories. Inventories are stated at the lower of cost, determined on a first-in first-out basis, or market. Advertising expenses. Advertising costs, primarily print advertising, are expensed when the advertisement is first shown. Advertising expense for the years ended July 6, 1996, July 5, 1997 and July 4, 1998 were approximately $18,885,000, $20,432,000 and $12,909,000, respectively. Prepaid expenses. Design, sample and certain selling costs (primarily product books) for the upcoming season are deferred and amortized using the straight-line method over the season to which they pertain. Pre-opening and start-up costs. The Company defers certain start-up costs and pre-operating costs associated with new manufacturing facilities, certain new businesses and certain costs associated with the opening of new retail stores. Start-up costs associated with new manufacturing facilities and new businesses are amortized using the straight-line method over 36 months. Pre-opening costs associated with new retail stores are amortized using the straight-line method over 12 to 18 months. Capitalized leases. The Company has financed the purchase of certain machinery and equipment using capitalized leases. Assets related to capitalized leases are stated at cost and are classified with fixed assets; the related capitalized lease obligations are classified with long-term debt. Depreciation. Depreciation of property, plant and equipment is provided using the straight-line method over the assets' estimated useful lives, ranging from 3 to 20 years, and in the case of leasehold improvements and capital lease assets, over the shorter of the lives of the assets or the lease term. Intangible assets. Amortization of licenses and trademarks is provided using the straight-line method over the economic lives of the assets, which is principally 20 years. Excess of cost over net assets acquired is amortized using the straight-line method over 40 years. The Company periodically reviews the carrying value of intangible assets for recoverability based on future undiscounted cash flow. Deferred financing costs. Deferred financing costs are amortized over the life of the related debt using the interest method. Income taxes. Income taxes are accounted for using an asset and liability approach that requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been recognized in the Company's financial statements or tax returns. Revenue recognition. Revenue is recognized when goods are shipped or sold to customers. Returns and allowances are provided for at the time of sale. F-8 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Concentration of credit risk. The Company sells its products to department stores, sporting goods stores, mass merchandisers and specialty outlets primarily in the United States and Canada. The Company performs periodic credit evaluations of its customers' financial condition and generally does not require collateral. Credit losses have been within management's expectations, except with respect to Herman's Sporting Goods, Inc. ('Herman's') which filed for bankruptcy on April 26, 1996 and on May 2, 1996 announced their liquidation. (See Note 12 of Notes to Consolidated Financial Statements). In 1996 and 1998, individual customers accounted for 11% and 10%, respectively of the Company's net revenues. In 1997, no customer accounted for 10% of the Company's net revenues. Earnings Per Share. In February 1997, the Financial Accounting Standards Board ('FASB') issued Statement of Financial Accounting Standards ('SFAS') No. 128 'Earnings Per Share' ('SFAS No. 128'), which revised the methodology of calculating earnings per share and requires the dual presentation of basic and diluted earnings per share. Basic earnings per share is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding in each year. Diluted earnings per share is computed by dividing income available to common stockholders plus income associated with dilutive securities by the weighted average number of common shares outstanding plus any potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock in each year. The Company adopted SFAS No. 128 in the second quarter of fiscal 1998. All earnings per share amounts for all periods presented have been restated to conform to the SFAS No. 128 requirements. Stock Based Compensation. Compensation cost attributable to stock option and similar plans is recognized based on the difference, if any, between the closing market price of the stock on the date of grant over the exercise price of the option. The Company has not issued any stock options with an exercise price less than the closing market price of the stock on the date of grant. Accounting changes. In June 1998, the FASB issued SFAS No. 133, 'Accounting for Derivative Instruments and Hedging Activities'. SFAS No. 133 is effective for financial statements for fiscal years beginning after June 15, 1999. The Company is studying the application of the new statement to evaluate disclosure requirements and the impact on the Company's consolidated financial position, liquidity, cash flows and results of operations. In April 1998, the FASB approved the Statement of Position (SOP) on Reporting on the Costs of Start-Up Activities. The SOP provides guidance on the financial reporting of start-up costs and requires that such costs, as defined, be expensed as incurred. The SOP is effective for fiscal years beginning after December 15, 1998 and the Company will adopt the provisions of the new SOP beginning in the first quarter of fiscal 1999. Based upon amounts capitalized at July 4, 1998, net of amortization, the impact of implementing the SOP will result in a non-cash pre-tax charge of $4.1 million. 2 - INVENTORIES Inventories consist of the following (in thousands):
JULY 5, JULY 4, 1997 1998 ------- ------- Raw materials and work in process....................................... $28,796 $17,754 Finished goods.......................................................... 57,671 46,156 ------- ------- $86,467 $63,910 ------- ------- ------- -------
F-9 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 3 - PREPAID EXPENSES AND OTHER ASSETS Prepaid design, sample and certain selling costs (primarily product books) relating to upcoming seasons which are included in prepaid expenses amounted to $3,193,000 and $4,097,000 at July 5, 1997 and July 4, 1998, respectively. Pre-opening costs, net of accumulated amortization, associated with the Company's retail stores were $2,081,000 and $1,449,000 at July 5, 1997 and July 4, 1998, respectively. Amortization expense related to pre-opening costs was $937,000, $617,000 and $285,000 for the years ended July 6, 1996, July 5, 1997 and July 4, 1998, respectively. Start-up costs, net of accumulated amortization, associated with opening new manufacturing facilities and new product lines were $3,789,000 and $2,679,000 at July 5, 1997 and July 4, 1998, respectively. 4 - PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment is recorded at cost and consists of the following (in thousands):
JULY 5, JULY 4, 1997 1998 ------- ------- Land.................................................................... $ 238 $ 238 Buildings and improvements.............................................. 1,038 1,038 Machinery and equipment................................................. 16,648 20,912 Leasehold improvements.................................................. 34,447 34,546 Furniture and fixtures.................................................. 17,804 16,972 ------- ------- 70,175 73,706 Accumulated depreciation................................................ (17,609) (23,289) ------- ------- $52,566 $50,417 ------- ------- ------- -------
Depreciation expense was $5,340,000, $6,644,000 and $7,190,000 for the years ended July 6, 1996, July 5, 1997 and July 4, 1998, respectively. During the years ended July 6, 1996, July 5, 1997 and July 4, 1998 the Company capitalized approximately $146,000, $177,000 and $84,000 of interest costs related to the construction of certain fixed assets. 5 - OTHER ASSETS As of July 4, 1998, other assets consists of deferred financing costs of $4,582,000 (net of accumulated amortization of $5,663,000), licenses, trademarks and other assets of $37,586,000 (net of accumulated amortization of $22,542,000) and excess of cost over net assets acquired of $28,989,000 (net of accumulated amortization of $11,293,000). As of July 5, 1997, other assets consists of deferred financing costs of $5,455,000 (net of accumulated amortization of $4,209,000), licenses, trademarks and other assets of $40,480,000 (net of accumulated amortization of $23,793,000) and excess of cost over net assets acquired of $29,856,000 (net of accumulated amortization $10,426,000). 6 - DEBT On September 6, 1996, the Company entered into a $200 Million Credit Agreement (the '$200 Million Credit Agreement'), with GE Capital, The Bank of Nova Scotia, Societe Generale and Union Bank of California. The $200 Million Credit Agreement is for a term of five years expiring September 1, 2001. Borrowing under the $200 Million Credit Agreement accrued interest at the lenders base rate or at LIBOR plus 1.5-2.0%. In September 1997 the Company's interest rate on outstanding borrowing under the $200 Million Credit Agreement was automatically reduced to LIBOR plus 1.00% F-10 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 6 - DEBT (CONTINUED) (approximately 6.7% at July 4, 1998). On December 12, 1997, the Company amended its $200 Million Credit Agreement such that the Company's ability under the terms of the $200 Million Credit facility to purchase its own Common Stock was immediately increased from $10,000,000 to $20,000,000 and further increased to $30,000,000 when the Company achieved $60,000,000 in EBITDA and an EBITDA to debt ratio of 2.75 to 1. See Note 7 of Notes to Consolidated Financial Statements. On March 18, 1998, after a syndication of the Company's $200 million credit facility was oversubscribed, the Company and its banks agreed to increase the amount of credit available under the Company's revolving loan (the 'Revolving Loan') from $150 million to $165 million ('Restated Credit Agreement') while maintaining the Company's outstanding balance of $45 million on its term loan (the 'Term Loan'). The terms of the Company's Restated Credit Agreement are the same as those of the $200 Million Credit Agreement. The Company is also required to pay a commitment fee on the unused portion of the Revolving Loan on the average daily unused revolving loan commitment. Commitment fees are included in interest expense and amounted to $282,000, $283,000 and $381,000 for the years ended July 6, 1996, July 5, 1997 and July 4, 1998, respectively. The rate of interest payable on outstanding borrowing under the $200 Million Credit Agreement will be automatically reduced as the Company's debt to EBITDA ratio improves and can be reduced to as low as LIBOR plus .75%. The commitment fee payable on the unused revolving loan commitment will also be automatically reduced as the Company's debt to EBITDA ratio improves and can be reduced to as low as .25% per annum. Borrowing under the $200 Million Credit Agreement is secured by substantially all of the assets of the Company. The collateral will be automatically released when the Company achieves an investment grade implied senior debt rating, as determined by certain credit rating agencies. In addition, the $200 Million Credit Agreement contains various restrictions and covenants and requires the Company maintain certain financial ratios relating to interest and lease coverage, minimum adjusted net worth, maximum total debt to EBITDA and minimum EBITDA and limits the amount of capital expenditures the Company may incur in any one fiscal year. The Company was in compliance with all its covenants at July 4, 1998. On June 4, 1998, the Company entered into an interest rate swap agreement with a bank that is a lender in the Restated Credit Agreement. The agreement allows the Company to convert variable rate borrowings with a notional amount of $75,000,000 to a fixed rate interest rate. Borrowings under the swap agreement are fixed at 4.99% until maturity in September 2001. As of July 4, 1998, the variable rate under the Company's Restated Credit Agreement of LIBOR plus 1.00% is approximately 6.7%. Differences between the fixed interest rate and the variable interest rate are settled quarterly. No payments were due under the interest rate swap agreement for the year ended July 4, 1998. A summary of the terms of the Company's previous credit agreements follows. All of the Company's previous credit agreements were secured by substantially all of the Company's assets, required the Company to meet certain financial tests and ratios and contained various restrictions and covenants. On September 13, 1995, the Company amended its Credit Agreement ('Amended Credit Agreement'). The Amended Credit Agreement provided for an additional term loan ('Bridge Loan') of $75 million. The Company borrowed $36,183,580 of the amount available under the Bridge Loan and repurchased a portion of the Series A Warrant, see Note 8 of Notes to Consolidated Financial Statements. Borrowing under the Amended Credit Agreement accrued interest at LIBOR plus 1.75% or at the managing agent's base rate plus .75%. Amounts outstanding under the Bridge Loan were repaid in full from the proceeds of the Company's public offering of Common Stock which was completed in October 1995, see Note 7 of Notes to Consolidated Financial Statements. F-11 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 6 - DEBT (CONTINUED) On March 26, 1996, the Company entered into a $250 million Amended and Restated Credit Agreement (the '$250 Million Credit Agreement'). The $250 Million Credit Agreement provided the Company with a $250 million revolving line of credit and replaced the Amended Credit Agreement. Amounts outstanding under the $250 Million Credit Agreement accrued interest at the Bank's base rate or at LIBOR plus .75% (approximately 6.4% at July 6, 1996). The weighted averaged interest rate on borrowings outstanding was 7.7% per annum and 6.7% per annum at July 5, 1997 and July 4, 1998, respectively. The Term Loan is payable in nine semi-annual installments commencing on June 30, 1997 with a final installment of $7,500,000 due on September 1, 2001. The current portion of the Term Loan as of July 4, 1998 is $8,750,000. Maturities of the Term Loan at July 4, 1998 are as follows (in thousands):
FISCAL YEAR AMOUNT ---- ------- 1999........................................................... $ 8,750 2000........................................................... 11,250 2001........................................................... 13,750 2002........................................................... 7,500
The Company has entered into various lease agreements to finance the purchase of certain computer and other equipment. The leases are generally payable in 36-60 monthly installments, mature from September 1998 through December 2002 and bear interest at rates ranging from approximately 7% to 11% per annum. The leases are secured by the financed equipment. The outstanding principal amount of the leases at July 5, 1997 and July 4, 1998 was $1,933,000 and $1,252,000, respectively. In April 1995, the Company entered into an agreement ('Collar Agreement') with a bank. The terms of the Collar Agreement provided that the Company's interest rate on $40,000,000 of debt would not fall below 6.25% or rise above 7.25% unless the prevailing LIBOR rate rose above 9% in which case the Company's interest rate would have been LIBOR plus 1.50% as defined under the $200 Million Credit Agreement, as noted above. The cost to the Company of entering the agreement was $116,000 and was amortized over the life of the agreement using the straight-line method. The additional interest expense to the Company for the year ended July 5, 1997 related to the Collar Agreement was approximately $46,000. The Collar Agreement matured on February 24, 1997. Interest payments/receipts on the Collar Agreement were made quarterly. Costs incurred to secure debt financing of the Company have been classified as deferred financing costs. These costs are amortized over the life of the related debt instrument using the interest method. Amortization of deferred financing costs amounted to $359,000, $1,208,000 and $1,454,000 for the years ended July 6, 1996, July 5, 1997 and July 4, 1998, respectively. The Company's lender issues letters of credit guaranteeing the Company's performance under certain trade purchase agreements. The letters of credit are issued under the terms of the Company's credit facility. Total letters of credit outstanding were $935,000 and $1,484,000 at July 5, 1997 and July 4, 1998, respectively. In connection with the refinancing of the Company's Credit Agreement in March 1996, the Company recognized an extraordinary loss on the write-off of deferred financing costs due to the early extinguishment of debt of $1,497,000, net of income tax benefits of $705,000 in the third quarter of fiscal 1996. F-12 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 7 - CAPITAL STOCK On October 2, 1995 the Company paid its first quarterly dividend on its Common Stock. Total dividends paid during the years ended July 6, 1996, July 5, 1997 and July 4, 1998 were $964,000, $1,127,000 and $1,149,000, respectively. In connection with the purchase of the assets of the Activewear Division of Warnaco and the initial capitalization of the Company, the Company granted to a major stockholder the option to purchase Class A Common Stock of the Company should the investor's ownership of issued and outstanding Common Stock fall below 50%. The investor was entitled to purchase unissued Common Stock of the Company (at fair value) sufficient to increase the investor's ownership of Common Stock of the Company to more than 50% of all issued and outstanding Common Stock. The Company and the major stockholder revised, upon the closing of the Initial Public Offering of the Company's common stock ('IPO'), the option agreement, which had allowed the major stockholder to purchase shares to maintain its 50% interest at all times, to an option, for as long as the major stockholder owns 20% or more of the outstanding Common Stock of the Company to maintain its percentage interest in the outstanding Common Stock of the Company in the event of certain issuance's of Common Stock by the Company. As of July 4, 1998, the major stockholder held approximately 22% of the Company's outstanding Common Stock. On October 17, 1995 the Company sold 2,500,000 shares of its Common Stock in an underwritten public offering at a sales price of $21.625 per share. Net proceeds from the offering were approximately $50,805,000 (after underwriting discounts and expenses of $3,258,000). Proceeds from the offering were used to repay the amounts outstanding under the Bridge Loan and to repay amounts outstanding under the Company's term loan. The Company's Board of Directors has authorized a stock repurchase program which currently allows the Company to buy up to $50,000,000 of its outstanding Common Stock. As of July 4, 1998 the Company had purchased 555,700 shares of its Common Stock amounting to $8,886,000. As part of the Company's repurchase program the Company has entered into equity option arrangements to purchase Authentic Fitness Corporation Common Stock. At July 4, 1998, the Company had options outstanding on approximately 579,000 shares for a total value of approximately $11,179,000. If these arrangements were settled on a net cash basis at their expiration dates of September 4, 1998 through December 22, 1998, based upon the July 2, 1998 market price for the Company's common stock of $15.94, the Company would be obligated to pay approximately $1,945,000. Any movement in market price of $1 would increase or decrease this obligation by $579,000. 8 - WARRANTS At May 14, 1990, the Company issued a warrant for the purchase of 3,618,358 shares (Series A Warrant) of its Common Stock for a nominal exercise price per share. On September 13, 1995 the Company purchased from GE Capital one-half of the shares available for purchase under the Series A Warrant for $36,183,580 or $20 per share (representing 1,809,179 shares). This purchase was funded from the proceeds of the Bridge Loan. During the first quarter of fiscal 1997, GE Capital exercised the remaining portion of the Series A Warrant and acquired 1,809,009 shares of the Company's Common Stock. 9 - STOCK OPTIONS The 1990 Key Management Stock Purchase Option Plan (the 'Option Plan') provided for the granting of options to key employees to purchase the Company's Common Stock at an exercise price of $.00875 per share. Options to purchase 286,668 shares of Common Stock were granted under the plan. At July 4, 1998 options to purchase 16,150 shares were outstanding which are exercisable. The Company F-13 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 9 - STOCK OPTIONS (CONTINUED) has 16,150 shares of Common Stock reserved for future issuance for the exercise of Key Management Options. The 1992 Long Term Incentive Plan (the 'Stock Plan') was adopted by the Board of Directors on May 7, 1992. In November 1994, the stockholders approved an amendment to the Stock Plan whereby the number of options available for grant under the Stock Plan increases by an amount equal to 3% of the outstanding shares of Common Stock of the Company on the first day of each fiscal year. As a result, 771,266 options were available for grant under the Stock Plan as of July 4, 1998. In November 1993, the stockholders approved and the Company adopted the 1993 Stock Option Plan for Non-Employee Directors ('Directors Plan'). The Directors Plan provides for awards of non-qualified stock options to Directors of the Company who are not employees of the Company or its affiliates and who have not, within one year, received any other award under any plan of the Company or its affiliates. Options granted under the Directors Plan shall be exercisable in whole or in part at all times during the period beginning on the date of grant until the earlier of (i) ten years from the date of grant or (ii) one year from the date on which an optionee ceases to be an eligible Director. Options are granted at the fair market value of the Company's Common Stock at the date of the grant. The Directors Plan provides for the automatic grant of options to purchase (i) 15,000 shares of Common Stock upon a Director's election to the Company's Board of Directors and (ii) 5,000 shares of Common Stock immediately following each annual shareholders' meeting as of the date of such meeting. In May 1998, the Company's Board of Directors approved the adoption of The Authentic Fitness Corporation 1998 Stock Option Plan ('1998 Plan'). The plan provides for the issuance of stock options up to the number of shares of common stock held in treasury. The 1998 Plan is administered by a committee of the Board of Directors of the Company which determines the number of stock options to be granted under the 1998 Plan, and the terms and conditions of such grants. The 1998 Plan provides for the granting of non-qualified stock options and restricted stock. During fiscal 1998, no options were granted under the 1998 Plan. Options granted, exercised, cancelled and outstanding under the Stock Plan, the Directors Plan and the 1998 Plan at July 4, 1998 are summarized below:
WEIGHTED-AVERAGE SHARES EXERCISE PRICE ---------- ---------------- Outstanding July 1, 1995............................................... 1,742,000 $12.42 Options granted........................................................ 1,284,000 20.41 Options exercised...................................................... (235,617) 9.72 Options cancelled...................................................... (142,364) 13.81 ---------- Outstanding July 6, 1996............................................... 2,648,019 16.49 Options granted........................................................ 970,000 13.13 Options exercised...................................................... (66,000) 8.94 Options cancelled...................................................... (489,667) 19.14 ---------- Outstanding July 5, 1997............................................... 3,062,352 15.16 Options granted........................................................ 2,161,900 18.53 Options exercised...................................................... (570,356) 12.54 Options cancelled...................................................... (1,403,568) 13.73 ---------- Outstanding July 4, 1998............................................... 3,250,328 18.47 ---------- ----------
Options are exercisable for a period of ten years from date of grant and vest when granted in the case of the Directors Plan and from the grant date to three years for the Option Plan, Stock Plan and 1998 Plan. Options expire from August 14, 2002 to May 7, 2008. The Company has reserved 4,052,744 shares of Class A Common Stock for issuance under the Option Plan, Stock Plan and Directors Plan as of July 4, 1998. In addition, there are 555,700 shares of Class A Common Stock in treasury stock available for issuance under the 1998 Plan. F-14 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 9 - STOCK OPTIONS (CONTINUED) The following table summarizes information about stock options outstanding at July 4, 1998:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE --------------------------------------- ------------------------ WEIGHTED- NUMBER AVERAGE WEIGHTED- NUMBER WEIGHTED- OUTSTANDING REMAINING AVERAGE EXERCISABLE AVERAGE AT JULY 4, CONTRACTUAL EXERCISE AT JULY 4, EXERCISE RANGE OF EXERCISE PRICES 1998 LIFE PRICE 1998 PRICE - ---------------------------------------- ----------- ----------- --------- ----------- --------- $ 8.00 - $11.38........................ 158,668 5.3 $ 10.10 158,668 $ 10.10 13.00 - 15.25........................ 864,760 8.0 14.28 370,739 14.43 17.19 - 20.88........................ 2,226,900 8.7 20.70 2,002,000 20.82 --------- --------- 3,250,328 8.4 18.47 2,531,407 19.21 --------- --------- --------- ---------
The Company has elected to follow APB 25 and related interpretations in accounting for its employee stock options. Under APB 25, because the exercise price of the Company's employee stock options equals the market price of the underlying stock on the date of the grant, no compensation expense has been recognized. Pro forma information regarding net income and earnings per share is required by SFAS No. 123, 'Accounting for Stock Based Compensation' (SFAS No. 123), which also requires that the pro forma information be determined as if the Company had accounted for its employee stock options granted subsequent to July 1, 1995 under the fair-value method of SFAS No. 123. The fair value for these options was estimated at the date of grant using a Black-Scholes option-pricing model with the following assumptions:
JULY 6, JULY 5, JULY 4, 1996 1997 1998 ------- ------- ------- Risk-free interest rate................................................ 6.32% 6.04% 5.84% Dividend yield......................................................... 0.02% 0.38% 0.28% Expected volatility of market price of company's Common Stock.......... 0.5368 0.5313 0.4217 Expected option life................................................... 4 years 4 years 4 years
The Company's pro forma information is as follows:
FOR THE FISCAL YEARS ENDED -------------------------------- JULY 6, JULY 5, JULY 4, 1996 1997 1998 -------- -------- -------- Pro forma net income (loss)......................................... $(45,196) $ 16,549 $ 11,995 Pro forma basic income (loss) per share............................. $ (2.31) $ 0.74 $ 0.54 Pro forma diluted income (loss) per share........................... $ (2.31) $ 0.74 $ 0.53
These pro forma effects may not be representative of the effects on future years because of the prospective application required by SFAS No. 123, and the fact that options vest over several years and new grants generally are made each year. The weighted-average fair value of options granted during fiscal 1996, fiscal 1997 and fiscal 1998 for which the exercise price equals the market price on the grant date was $6.00, $10.21 and $7.36, respectively. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. F-15 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 10 - EARNINGS (LOSS) PER SHARE The following table sets forth the computation of basic and diluted earnings per share:
FOR THE YEAR ENDED ------------------------------ JULY 6, JULY 5, JULY 4, 1996 1997 1998 -------- ------- ------- Numerator for basic and diluted earnings per share -- Income (loss) before extraordinary item............................. $(39,353) $19,035 $22,769 -------- ------- ------- -------- ------- ------- Denominator for basic earnings per share -- Weighted average shares............................................. 19,607 22,362 22,310 -------- ------- ------- Effect of dilutive securities: Employee stock options........................................... -- 152 200 -------- ------- ------- Denominator for diluted earnings per share -- Weighted average adjusted shares.................................... 19,607 22,514 22,510 -------- ------- ------- -------- ------- ------- Basic earnings (loss) per share before extraordinary item............. $ (2.00) $ 0.85 $ 1.02 -------- ------- ------- -------- ------- ------- Diluted earnings (loss) per share before extraordinary item........... $ (2.00) $ 0.85 $ 1.01 -------- ------- ------- -------- ------- -------
Options to purchase 2,226,900 shares of common stock at prices ranging from $17.19 to $20.88 per share were outstanding during fiscal 1998 but were not included in the computation of diluted earnings per share because the options' exercise price was greater than the average market price of the common shares. The options, which expire from August 2005 to May 2008 were still outstanding at the end of fiscal 1998. 11 - COMMITMENTS AND CONTINGENCIES Rent expense, including rent paid to Warnaco (See Note 13 of Notes to Consolidated Financial Statements) was $10,200,000, $13,341,000 and $15,438,000 for the years ended July 6, 1996, July 5, 1997 and July 4, 1998, respectively. Future minimum lease payments, required under non-cancelable operating leases with terms in excess of one year are as follows (in thousands):
FISCAL YEAR TOTAL ---- ------ 1999............................................................. $9,322 2000............................................................. 6,493 2001............................................................. 4,246 2002............................................................. 2,595 2003............................................................. 2,243 2004 and thereafter.............................................. 2,755
12 - NON-RECURRING EXPENSES Herman's Sporting Goods, Inc. ('Herman's') filed for bankruptcy on April 26, 1996 and on May 2, 1996 announced their liquidation. As a result, the Company recorded a special bad debt loss of $11,642,000 ($8,033,000 net of income tax benefits) related to the write-off of uncollectible accounts receivable and the write-down in the value of Herman's common stock received as a distribution to creditors as part of the settlement from Herman's March 1993 bankruptcy. The special bad debt loss is net of gross recoveries from the Company's credit insurance policy of approximately $4,600,000. F-16 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 12 - NON-RECURRING EXPENSES (CONTINUED) The Company incurred certain legal, investment banking and other fees in connection with a proposed merger between the Company and Warnaco which was terminated in July 1996. These costs, amounting to approximately $2,000,000 ($1,380,000 net of income tax benefits), have been included as a non-recurring item in the Statement of Operations in fiscal 1996. On January 1, 1997, one of the Company's three distribution centers, located in Sparks Nevada, was flooded destroying certain inventory owned by the Company. The Company is insured for such losses as well as for profits lost due to business interruption. As of July 5, 1997, the Company had recorded a $25 million claim receivable from the insurance company related to this claim for the cost of inventory damaged in the flood, lost profit on orders that were lost due to the flood and other incurred expenses. As of July 5, 1997 the Company had received $15.5 million from the insurance company against such claim receivable, leaving an outstanding claim receivable of $9.5 million. In fiscal 1998, in order to achieve an early resolution of the insurance claim the Company accepted a cash settlement offer on the outstanding claim receivable of approximately $8.8 million and wrote-off the remaining receivable of $0.7 million. In the fourth quarter of fiscal 1997, the Company incurred certain flood related distribution expenses in excess of amounts covered by insurance amounting to $3,354,000 ($2,162,000 net of income tax benefits) which have been included as a non-recurring item in the Statement of Operations in fiscal 1997. During the first quarter of fiscal 1998 the Company closed its twenty Speedo'r' Authentic Fitness'r' retail stores located in Bally's Fitness Centers and consolidated its three California manufacturing facilities into two facilities. The total costs associated with these actions was approximately $1,408,000 ($859,000 net of income tax benefits) and has been included as a non-recurring item in the Statement of Operations. On January 18, 1998 a fire damaged or destroyed certain inventory stored in one of the Company's three distribution centers which is located in Los Angeles, California. The Company is fully insured for any inventory lost as well as profits lost due to business interruption and other incurred expenses. As of July 4, 1998, the Company had recorded a $36.8 million claim receivable from the insurance company related to this claim for the cost of inventory damaged or destroyed in the fire, lost profit on orders that were lost due to the fire and other incurred expenses. As of July 4, 1998 the Company had received $24.5 million from the insurance company against such claim receivable, leaving an outstanding claim receivable of $12.3 million. 13 - RELATED PARTY TRANSACTIONS In 1990, the Company purchased the Activewear Division of The Warnaco Group, Inc. ('Warnaco'). Certain directors and officers of the Company are also directors and officers of Warnaco. From time to time, the Company and Warnaco jointly negotiate contracts and agreements with vendors and suppliers. The Company purchases certain services from Warnaco including contract manufacturing, occupancy services related to leased facilities, computer service, laboratory testing, transportation and other services. Additionally, the Company sells certain inventory to Warnaco and provides certain design services to Warnaco. The Company also has sales to subsidiaries of a major stockholder ('Subsidiaries'). An affiliate of a major stockholder of the Company ('Affiliate') acts as buying agent for certain merchandise purchased by the Company from international suppliers and the Company pays royalties to a subsidiary of a major stockholder ('Subsidiary'). In May 1996 the Company made a strategic decision to close its closeout outlet stores. In July 1996, the Company closed several of its closeout outlet stores, transferred the leases on the remaining stores to Warnaco and sold the existing store inventory to Warnaco. F-17 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 13 - RELATED PARTY TRANSACTIONS (CONTINUED) GE Capital is a shareholder of the Company and a party to the Company's credit agreement. During fiscal 1998, the Company paid interest to GE Capital for amounts borrowed under the terms of its credit facility. During the second quarter of fiscal 1997, the Company realized a gain of approximately $3 million from the sale of certain barter assets to the issuing barter company. The barter assets had an original face value of $12.3 million of which approximately $2.8 million had been utilized by the Company through December 1996 and an adjusted net book value of approximately $5.5 million. The Company received $8.5 million from the sale. The sale of the barter assets was negotiated by certain officers and directors of the Company who also serve as officers and directors of Warnaco. The following summarizes related party transactions included in the Consolidated Statements of Operations (in thousands):
JULY 6, JULY 5, JULY 4, 1996 1997 1998 ------- ------- ------- Expenses for Warnaco services (excluding rent expense)................. $ 2,727 $ 7,110 $ 9,739 Rent expense -- Warnaco................................................ 979 726 612 Product sales and other income -- Warnaco(1)........................... 4,302 28,726 9,254 Product sales -- Subsidiaries.......................................... 1,251 573 141 Interest expense relating to balance owed to Affiliate................. 928 665 975 Gross purchases through Affiliate...................................... 23,457 21,385 26,512 Royalty expenses -- Subsidiary......................................... 6,177 5,705 6,959 Fees paid to Affiliate for buying agent services....................... 1,557 1,419 1,759 Interest expense related to credit agreement........................... -- 3,861 4,217
- ------------ (1) The year ended July 5, 1997 includes revenues from the transfer of outlet store assets of approximately $13 million. 14 - BENEFIT PLAN The Company has a 401(k) defined contribution profit sharing plan ('Plan'), which covers all eligible, non-union domestic employees of the Company. The Company contributes amounts equal to 15% of employee contributions up to a maximum of 6% of employee's eligible compensation. Company contributions to the Plan were approximately $114,000, $91,000 and $67,000 for the years ended July 6, 1996, July 5, 1997 and July 4, 1998, respectively. F-18 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 15 - INCOME TAXES The components of deferred taxes and liabilities as of July 5, 1997 and July 4, 1998 are as follows (in thousands):
JULY 5, JULY 4, 1997 1998 -------- -------- Deferred tax assets (and valuation allowances): Inventory and accounts receivable reserves................................. $ 2,876 $ 1,954 Book amortization of trademarks, licenses and other intangible assets...... 9,435 7,283 Tax credit carryforwards................................................... 2,673 2,394 Net operating loss carryforward............................................ 19 66 Other deferred tax assets.................................................. 3,718 1,723 Valuation allowances....................................................... (458) -- -------- -------- Deferred tax assets -- net............................................ 18,263 13,420 Deferred tax liabilities: Tax over book depreciation................................................. (3,659) (4,130) Acquisition related accruals............................................... (2,391) (2,391) Tax amortization of trademarks, licenses and other intangible assets....... (8,292) (7,908) Pre-opening costs.......................................................... (869) (587) Prepaid costs.............................................................. (975) (1,302) Software development costs................................................. (2,174) (1,048) Other deferred tax liabilities............................................. (4,988) (5,854) -------- -------- Deferred tax liabilities.............................................. (23,348) (23,220) -------- -------- Net deferred tax liability............................................ $ (5,085) $ (9,800) -------- -------- -------- --------
Valuation allowances are recorded to account for uncertainties related to the ultimate realization of net operating loss, capital loss, contribution and foreign tax credit carry-forwards and the ultimate realization of tax deductions for intangible amortization. The valuation allowance decreased $5,415,000 and $458,000 for the fiscal years ended July 5, 1997 and July 4, 1998, respectively. The provision for income taxes included in the Consolidated Statements of Operations amounts to (in thousands):
FOR THE YEARS ENDED ------------------------------ JULY 6, JULY 5, JULY 4, 1996 1997 1998 -------- ------- ------- Current: U.S. Federal..................................................... $ (9,995) $ 3,857 $ 5,988 State............................................................ (1,227) 1,040 1,603 Foreign.......................................................... (99) 511 453 -------- ------- ------- (11,321) 5,408 8,044 -------- ------- ------- Deferred: U.S. Federal..................................................... (6,483) 4,541 3,752 State............................................................ (632) 100 943 Foreign.......................................................... 108 24 20 -------- ------- ------- (7,007) 4,665 4,715 -------- ------- ------- Total....................................................... $(18,328) $10,073 $12,759 -------- ------- ------- -------- ------- -------
As of July 4, 1998, the Company had net operating loss carry-forwards for state income tax purposes of $2,943,000 which expire in various years up to 2011. For federal income tax purposes, the F-19 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 15 - INCOME TAXES (CONTINUED) Company has contribution carry-forwards of $2,686,000 which expire in various years up to 2002 and federal alternative minimum tax credits of $1,802,000 which can be carried forward indefinitely. The following represents the reconciliation of the tax provision rate to the U.S. Federal income statutory tax rate:
FOR THE YEARS ENDED ----------------------------- JULY 6, JULY 5, JULY 4, 1996 1997 1998 ------- ------- ------- Statutory rate............................................................... (35.0)% 35.0% 35.0% State rate................................................................... (1.1) 7.0 4.7 Foreign tax rate in excess of U.S. statutory rate............................ -- 0.8 0.1 Deduction for foreign taxes.................................................. -- -- (4.4) Intangible amortization...................................................... 0.3 0.7 0.5 Other........................................................................ -- 5.0 1.3 Valuation allowances......................................................... 5.2 (13.2) (1.3) Inventory contribution....................................................... (0.6) (0.7) -- ------- ------- ------- Tax provision rate........................................................... (31.2)% 34.6% 35.9% ------- ------- ------- ------- ------- -------
16 - EXTRAORDINARY ITEMS Due to early extinguishment of debt the Company wrote off the deferred financing costs of $2,202,000 related to the Company's credit facility in March 1996. The extraordinary item of $1,497,000, net of income tax benefits of $705,000 was recorded in the third quarter of fiscal 1996. 17 - FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments. Revolving and term loan. The fair value of the Company's outstanding balances under its Credit Agreement are valued based on rates available to the Company for debt with similar terms and maturities. Interest rate swap agreement. The Company has entered into an interest rate swap agreement which has the effect of converting a portion of the Company's outstanding variable rate debt into fixed rate debt. The fair value of the Company's agreement to fix the interest rate on $75,000,000 of its outstanding debt is based upon quotes from brokers and represents the cash requirement if the existing agreement had been settled at year end. Letters of credit. Letters of credit collateralize the Company's obligations to third parties and have terms ranging from thirty days to one year. The face amount of the letters of credit are a reasonable estimate of the fair value since the value for each is fixed over its relatively short maturity. F-20 AUTHENTIC FITNESS CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 17 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) The carrying amounts and fair value of the Company's financial instruments are as follows (in thousands):
JULY 5, 1997 JULY 4, 1998 ------------------- ------------------- CARRYING FAIR CARRYING FAIR AMOUNT VALUE AMOUNT VALUE -------- ------- -------- ------- Revolving Loan.............................................. $ 75,776 $75,776 $ 61,963 $61,963 Term Loan................................................... 47,500 47,500 41,250 41,250 Interest rate swap.......................................... -- -- -- 17 Letters of credit........................................... 935 935 1,484 1,484
18 - QUARTERLY FINANCIAL DATA (UNAUDITED) The following summarizes the unaudited quarterly financial results of the Company for the fiscal years ended July 5, 1997 and July 4, 1998 (in thousands except share data):
FIRST SECOND THIRD FOURTH YEAR ENDED JULY 5, 1997 QTR QTR QTR QTR - ----------------------------------------------- -------- ------- -------- -------- Net revenues................................... $ 38,665 $70,443 $104,952 $109,028 Gross profit................................... 11,203 26,572 46,588 47,933 Net income (loss).............................. (11,541) 4,637 13,936 12,003 Basic net income (loss) per common share(1).... $ (0.52) $ 0.21 $ 0.62 $ 0.54 -------- ------- -------- -------- -------- ------- -------- -------- Diluted net income (loss) per common share(1)..................................... $ (0.52) $ 0.21 $ 0.62 $ 0.53 -------- ------- -------- -------- -------- ------- -------- --------
FIRST SECOND THIRD FOURTH YEAR ENDED JULY 4, 1998 QTR QTR QTR QTR - ----------------------------------------------- -------- ------- -------- -------- Net revenues................................... $ 36,970 $72,652 $127,935 $129,927 Gross profit................................... 13,070 32,441 53,648 49,505 Net income (loss).............................. (6,849) 3,660 13,954 12,004 Basic net income (loss) per common share(1).... $ (0.31) $ 0.17 $ 0.63 $ 0.53 -------- ------- -------- -------- -------- ------- -------- -------- Diluted net income (loss) per common share(1)..................................... $ (0.31) $ 0.16 $ 0.62 $ 0.53 -------- ------- -------- -------- -------- ------- -------- --------
- ------------------ (1) The fiscal 1997 and first quarter fiscal 1998 earnings per share amounts have been restated to comply with SFAS No. 128. F-21 AUTHENTIC FITNESS CORPORATION SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS AND RESERVES (IN THOUSANDS OF DOLLARS)
ADDITIONS BALANCE CHARGED TO BEGINNING COSTS AND BALANCE AT DESCRIPTION OF YEAR EXPENSES(1) DEDUCTIONS(2) END OF YEAR - ------------------------------------------------------------ --------- ---------- ------------- ----------- Accounts Receivable Allowances: Year ended July 6, 1996..................................... $ 4,119 $ 26,368 ($21,126) $ 9,361 --------- ---------- ------------- ----------- --------- ---------- ------------- ----------- Year ended July 5, 1997..................................... $ 9,361 $ 20,135 ($22,625) $ 6,871 --------- ---------- ------------- ----------- --------- ---------- ------------- ----------- Year ended July 4, 1998..................................... $ 6,871 $ 27,188 ($29,195) $ 4,864 --------- ---------- ------------- ----------- --------- ---------- ------------- -----------
- ------------------ (1) Allowances are primarily charged to income as incurred. The allowance is adjusted at the end of each period, by a charge or credit to income, for the estimated discounts and allowances applicable to the accounts receivable then outstanding. (2) Uncollectible accounts written-off, net of recoveries and charges for returns, allowances and cash discounts to the allowance account. S-1 STATEMENT OF DIFFERENCES ------------------------ The trademark symbol shall be expressed as............................. 'TM' The registered trademark symbol shall be expressed as.................. 'r' The dagger symbol shall be expressed as................................ 'D' EX-10 2 EXHIBIT 10.17 AUTHENTIC FITNESS CORPORATION 1998 STOCK PLAN SECTION 1. PURPOSE. The purposes of the Authentic Fitness Corporation 1998 Stock Plan are to promote the interests of Authentic Fitness Corporation and its stockholders by (i) attracting and retaining exceptional executive personnel and other key employees of, and advisors and consultants to, the Company and its Affiliates, as defined below; (ii) motivating such employees, advisors and consultants by means of performance-related incentives to achieve longer-range performance goals; and (iii) enabling such employees, advisors and consultants to participate in the long-term growth and financial success of the Company. SECTION 2. DEFINITIONS. As used in the Plan, the following terms shall have the meanings set forth below: "Affiliate" shall mean (i) any entity that, directly or indirectly, is controlled by the Company and (ii) any entity in which the Company has a significant equity interest, in either case as determined by the Committee. "Award" shall mean any Option or Restricted Stock Award. "Award Agreement" shall mean the written agreement, contract, or other instrument or document evidencing an Award, which may, but need not, be executed or acknowledged by a Participant. "Board" shall mean the Board of Directors of the Company. "Code" shall mean the Internal Revenue Code of 1986, as amended from time to time. "Committee" shall mean that committee of the Board designated by the Board to administer the Company's incentive plans. "Company" shall mean Authentic Fitness Corporation, together with any successor thereto. "Employee" shall mean (i) an employee of the Company or of any Affiliate and (ii) an advisor or consultant to the Company or to any Affiliate. "Exchange Act" shall mean the Securities Exchange Act of 1934, as amended. "Fair Market Value" shall mean the fair market value of the property or other item being valued, as determined by the Committee in its sole discretion. "Option" shall mean a right to purchase Shares from the Company. "Participant" shall mean any Employee selected by the Committee to receive an Award under the Plan. "Person" shall mean any individual, corporation, partnership, association, joint-stock company, trust, unincorporated organization, government or political subdivision thereof or other entity. "Plan" shall mean the Authentic Fitness Corporation 1998 Stock Plan. "Restoration Option" shall mean an Option granted pursuant to Section 6(e) of the Plan. "Restricted Stock" shall mean any Share granted under Section 7 of the Plan. "Shares" shall mean shares of the Common Stock, par value $.001 per share, of the Company, or such other securities of the Company as may be designated by the Committee from time to time. "Substitute Awards" shall mean Awards granted in assumption of, or in substitution for, outstanding awards previously granted by a company acquired by the Company or with which the Company combines. SECTION 3. ADMINISTRATION. The Plan shall be administered by the Committee. Subject to the terms of applicable law, and in addition to other express powers and authorizations conferred on the Committee by the Plan, the Committee shall have full power and authority to: (i) designate Participants; (ii) determine the type of Award to be granted to an eligible Employee; (iii) determine the number of Shares to be covered by Awards; (iv) determine the terms and conditions of any Award, including, without limitation, the conditions under which the Shares received by an Employee upon exercise or vesting of any Award may be subject to forfeiture; (v) determine whether, to what extent, and under what circumstances Awards may be settled or exercised in cash, Shares, other securities or other property, or cancelled, forfeited, or suspended and the method or methods by which Awards may be settled, exercised, cancelled, forfeited, or suspended; (vi) determine whether, to what extent, and under what circumstances Shares payable with respect to an Award shall be deferred either automatically or at the election of the holder thereof or of the Committee; (vii) interpret and administer the Plan and any instrument or agreement relating to, or Award granted under, the Plan; (viii) establish, amend, suspend, or waive such rules and regulations and appoint such agents as it shall deem appropriate for the proper administration of the Plan; and (ix) make any other determination and take any other action that the Committee deems necessary or desirable for the administration of the Plan. Unless otherwise expressly provided in the Plan, all designations, determinations, interpretations, and other decisions under or with respect to the Plan or any Award shall be within the sole discretion of the Committee, may be made at any time and shall be final, conclusive, and binding upon all Persons, including the Company, any Affiliate, any Participant, any holder or beneficiary of any Award, any shareholder and any Employee. 2 SECTION 4. SHARES AVAILABLE FOR AWARDS. (a) Shares Available. Subject to adjustment as provided in Section 4(b), the number of Shares with respect to which Awards may be granted under the Plan shall not exceed the number of Shares held from time to time in the treasury. If, after the effective date of the Plan, any Shares covered by an Award granted under the Plan are forfeited, or if any Shares are forfeited and returned to the Company following the exercise or vesting of any Award, or if an Award otherwise terminates or is cancelled without the delivery of Shares, then the Shares covered by such Award, or the Shares forfeited, or the number of Shares otherwise counted against the aggregate number of Shares with respect to which Awards may be granted, to the extent of any such settlement, forfeiture, termination or cancellation, shall again be, or shall become, Shares with respect to which Awards may be granted. In the event that (i) an Option is exercised through the delivery of Shares or (ii) a Participant shall deliver Shares in satisfaction of any withholding obligation relating to the exercise or vesting of any Award, the number of Shares available for Awards under the Plan shall be increased by the number of Shares surrendered. (b) Adjustments. In the event that the Committee determines that any dividend or other distribution (whether in the form of cash, Shares, other securities, or other property), recapitalization, stock split, reverse stock split, reorganization, merger, consolidation, split-up, spin-off, combination, repurchase, or exchange of Shares or other securities of the Company, issuance of warrants or other rights to purchase Shares or other securities of the Company, or other similar corporate transaction or event affects the Shares such that an adjustment is determined by the Committee to be appropriate in order to prevent dilution or enlargement of the benefits or potential benefits intended to be made available under the Plan, then the Committee shall, in such manner as it may deem equitable, adjust any or all of (i) the number of Shares with respect to which Awards may be granted, in aggregate or to any individual, (ii) the number of Shares subject to outstanding Awards, and (iii) the exercise price with respect to any Option or, if deemed appropriate, make provision for a cash payment to the holder of an outstanding Award. (c) Substitute Awards. Any Shares underlying Substitute Awards shall not, except in the case of Shares with respect to which Substitute Awards are granted to Employees who are officers or directors of the Company for purposes of Section 16 of the Exchange Act or any successor section thereto, be counted against the Shares available for Awards under the Plan. (d) Sources of Shares Deliverable Under Awards. Any Shares delivered pursuant to the exercise or vesting of an Award shall be treasury Shares. SECTION 5. ELIGIBILITY. Any Employee, including any officer or employee-director of the Company or any Affiliate, shall be eligible to be designated a Participant. 3 SECTION 6. STOCK OPTIONS. (a) Grant. Subject to the provisions of the Plan, the Committee shall have sole and complete authority to determine the Employees to whom Options shall be granted, the number of Shares to be covered by each Option, the exercise price therefor and the conditions and limitations applicable to the exercise of the Option. The Committee shall have the authority to grant only Options that are not intended to be "incentive stock options" within the meaning of Section 422 of the Code. Option is granted, which price shall not be less than 100% of the per Share Fair Market Value on the date of grant. (b) Exercise. Each Option shall be exercisable at such times and subject to such terms and conditions as the Committee may, in its sole discretion, specify in the applicable Option Agreement or thereafter. The Committee may impose such conditions with respect to the exercise of Options, including, without limitation, any relating to the application of federal or state securities laws, as it may deem necessary or advisable. (c) Payment. No Shares shall be delivered pursuant to any exercise of an Option until payment in full of the exercise price therefor is received by the Company. Such payment may be made in cash, or its equivalent, or, if and to the extent permitted by the Committee, by exchanging Shares owned by the optionee (which are not the subject of any pledge or other security interest), or by a combination of the foregoing, provided that the combined value of all cash and cash equivalents and the Fair Market Value of any such Shares so tendered to the Company as of the date of such tender is at least equal to such exercise price. (d) Restoration Options. In the event that any Participant delivers Shares in payment of the exercise price of an Option granted hereunder, the Committee shall have the authority to grant or provide for the automatic grant of a Restoration Option to such Participant, subject to Section 4(a). The grant of a Restoration Option shall be subject to the satisfaction of such conditions or criteria as the Committee in its sole discretion shall establish from time to time. A Restoration Option shall entitle the holder thereof to purchase a number of Shares equal to the number of such Shares so delivered upon exercise of the original Option and, in the discretion of the Committee, the number of Shares, if any, tendered to the Company to satisfy any withholding tax liability arising in connection with the exercise of the original Option. A Restoration Option shall have a per share exercise price of not less than 100% of the per Share Fair Market Value on the date of grant of such Restoration Option, a term not longer than the remaining term of the original Option at the time of exercise thereof, and such other terms and conditions as the Committee in its sole discretion shall determine. SECTION 7. RESTRICTED STOCK. (a) Grant. Subject to the provisions of the Plan, the Committee shall have sole and complete authority to determine the Employees to whom Shares of Restricted Stock shall be granted, the number of Shares of Restricted Stock to be granted to each Participant, the duration of 4 the period during which, and the conditions under which, the Restricted Stock may be forfeited to the Company, and the other terms and conditions of such Awards. (b) Transfer Restrictions. Shares of Restricted Stock may not be sold, assigned, transferred, pledged or otherwise encumbered, except as provided in the Plan or the applicable Award Agreements. Certificates issued in respect of Shares of Restricted Stock shall be registered in the name of the Participant and deposited by such Participant, together with a stock power endorsed in blank, with the Company. Upon the lapse of the restrictions applicable to such Shares of Restricted Stock, the Company shall deliver such certificates to the Participant or the Participant's legal representative. (c) Dividends During Restricted Period. Dividends paid on any Shares of Restricted Stock may be paid directly to the Participant, or may be reinvested in additional Shares of Restricted Stock, as determined by the Committee in its sole discretion. SECTION 8. AMENDMENT AND TERMINATION. (a) Amendments to the Plan. The Board may amend, alter, suspend, discontinue, or terminate the Plan or any portion thereof at any time; provided that no such amendment, alteration, suspension, discontinuation or termination shall be made without shareholder approval if such approval is necessary to comply with any tax or regulatory requirement, including for these purposes any approval requirement which is a prerequisite for exemptive relief from Section 16(b) of the Exchange Act for which or with which the Board deems it necessary or desirable to qualify or comply. Notwithstanding anything to the contrary herein, the Committee may amend the Plan in such manner as may be necessary so as to have the Plan conform with local rules and regulations in any jurisdiction outside the United States. (b) Amendments to Awards. The Committee may waive any conditions or rights under, amend any terms of, or alter, suspend, discontinue, cancel or terminate, any Award theretofore granted, prospectively or retroactively; provided that any such waiver, amendment, alteration, suspension, discontinuance, cancellation or termination that would impair the rights of any Participant or any holder or beneficiary of any Award theretofore granted shall not to that extent be effective without consent of the affected Participant, holder or beneficiary. (c) Adjustment of Awards Upon the Occurrence of Certain Unusual or Nonrecurring Events. The Committee is hereby authorized to make adjustments in the terms and conditions of, and the criteria included in, Awards in recognition of unusual or nonrecurring events (including, without limitation, the events described in Section 4(b) hereof) affecting the Company, any Affiliate, or the financial statements of the Company or any Affiliate, or of changes in applicable laws, regulations, or accounting principles, whenever the Committee determines that such adjustments are appropriate in order to prevent dilution or enlargement of the benefits or potential benefits intended to be made available under the Plan. (d) Cancellation. Any provision of this Plan or any Award Agreement to the contrary notwithstanding, the Committee may cause any Award granted hereunder to be cancelled in 5 consideration of a cash payment made to the holder of such cancelled Award equal in value to the Fair Market Value of such cancelled Award. SECTION 9. GENERAL PROVISIONS. (a) Nontransferability. i) Each Award, and each right under any Award, shall be exercisable only by the Participant during the Participant's lifetime, or, if permissible under applicable law, by the Participant's guardian or legal representative or by a transferee receiving such Award pursuant to a qualified domestic relations order ("QDRO"), as determined by the Committee. ii) No Award may be assigned, alienated, pledged, attached, sold or otherwise transferred or encumbered by a Participant otherwise than by will or by the laws of descent and distribution or pursuant to a QDRO, and any such purported assignment, alienation, pledge, attachment, sale, transfer or encumbrance shall be void and unenforceable against the Company or any Affiliate; provided that the designation of a beneficiary shall not constitute an assignment, alienation, pledge, attachment, sale, transfer or encumbrance. (b) No Rights to Awards. No Employee, Participant or other Person shall have any claim to be granted any Award, and there is no obligation for uniformity of treatment of Employees, Participants, or holders or beneficiaries of Awards. The term and conditions of Awards need not be the same with respect to each recipient. (c) Share Certificates. All certificates for Shares or other securities of the Company or any Affiliate delivered under the Plan pursuant to the exercise or vesting of any Award shall be subject to such stop transfer orders and other restrictions as the Committee may deem advisable under the Plan or the rules, regulations, and other requirements of the Securities and Exchange Commission, any stock exchange upon which such Shares or other securities are then listed, and any applicable Federal or state laws, and the Committee may cause a legend or legends to be put on any such certificates to make appropriate reference to such restrictions. (d) Delegation. Subject to the terms of the Plan and applicable law, the Committee may delegate to one or more officers or managers of the Company or any Affiliate, or to a committee of such officers or managers, the authority, subject to such terms and limitations as the Committee shall determine, to grant Awards to, or to cancel, modify or waive rights with respect to, or to alter, discontinue, suspend, or terminate Awards held by, Employees who are not officers or directors of the Company for purposes of Section 16 of the Exchange Act, or any successor section thereto, or who are otherwise not subject to such Section. (e) Withholding. A Participant may be required to pay to the Company or any Affiliate and the Company or the Affiliate shall have the right and is hereby authorized to withhold from any payment due or transfer made pursuant to the exercise or vesting of any Award or from any compensation or other amount owing to a Participant the amount (in cash, Shares, other securities, or other property) of any applicable withholding taxes in respect of the exercise or vesting of 6 an Award and to take such other action as may be necessary in the opinion of the Company to satisfy all obligations for the payment of such taxes. The Committee may provide for additional cash payments to holders of Awards to defray or offset any tax arising from the exercise or vesting of any Award. (f) Award Agreements. Each Award hereunder shall be evidenced by an Award Agreement which shall be delivered to the Participant and shall specify the terms and conditions of the Award and any rules applicable thereto, including but not limited to the effect on such Award of the death, retirement or other termination of employment of a Participant and the effect, of any, of a change in control of the Company. (g) No Limit on Other Compensation Arrangements. Nothing contained in the Plan shall prevent the Company or any Affiliate from adopting or continuing in effect other compensation arrangements, which may, but need not, provide for the grant of the types of Awards provided for hereunder (subject to shareholder approval if such approval is required), and such arrangements may be either generally applicable or applicable only in specific cases. (h) No Right to Employment or Service. The grant of an Award shall not be construed as giving a Participant the right to be retained in the employ of the Company or any Affiliate. Further, the Company or an Affiliate may at any time dismiss a Participant from employment, free from any liability or any claim under the Plan, unless otherwise expressly provided in the Plan or in any Award Agreement. (i) No Rights as Stockholder. Subject to the provisions of the applicable Award, no Participant or holder or beneficiary of any Award shall have any rights as a stockholder with respect to any Shares to be distributed under the Plan until he or she has become the holder of such Shares. (j) Governing Law. The validity, construction, and effect of the Plan and any rules and regulations relating to the Plan and any Award Agreement shall be determined in accordance with the laws of the State of Delaware. (k) Severability. If any provision of the Plan or any Award is or becomes or is deemed to be invalid, illegal, or unenforceable in any jurisdiction or as to any Person or Award, or would disqualify the Plan or any Award under any law deemed applicable by the Committee, such provision shall be construed or deemed amended to conform the applicable laws, or if it cannot be construed or deemed amended without, in the determination of the Committee, materially altering the intent of the Plan or the Award, such provision shall be stricken as to such jurisdiction, Person or Award and the remainder of the Plan and any such Award shall remain in full force and effect. (l) Other Laws. The Committee may refuse to issue or transfer any Shares under any Award if, acting in its sole discretion, it determines that the issuance or transfer of such Shares might violate any applicable law or regulation or entitle the Company to recover the same under Section 16(b) of the Exchange Act, and any payment tendered to the Company by a Participant, other holder or beneficiary in connection with the exercise or vesting of such Award shall be promptly refunded to the relevant Participant, holder or beneficiary. Without limiting the generality of the foregoing, no Award granted hereunder shall be construed as an offer to sell securities of 7 the Company, and no such offer shall be outstanding, unless and until the Committee in its sole discretion has determined that any such offer, if made, would be in compliance with all applicable requirements of the U.S. federal securities laws. (m) No Trust or Fund Created. Neither the Plan nor any Award shall create or be construed to create a trust or separate fund of any kind or a fiduciary relationship between the Company or any Affiliate and a Participant or any other Person. To the extent that any Person acquires a right to receive payments from the Company or any Affiliate pursuant to an Award, such right shall be no greater than the right of any unsecured general creditor of the Company or any Affiliate. (n) No Fractional Shares. No fractional Shares shall be issued or delivered pursuant to the Plan or any Award, and the Committee shall determine whether cash, other securities, or other property shall be paid or transferred in lieu of any fractional Shares or whether such fractional Shares or any rights thereto shall be cancelled, terminated, or otherwise eliminated. (o) Headings. Headings are given to the Sections and subsections of the Plan solely as a convenience to facilitate reference. Such headings shall not be deemed in any way material or relevant to the construction or interpretation of the Plan or any provision thereof. SECTION 10. TERM OF THE PLAN. (a) Effective Date. The Plan shall be effective as of the date of its adoption by the Board. (b) Expiration Date. No Award shall be granted under the Plan after May 7, 2008. Unless otherwise expressly provided in the Plan or in an applicable Award Agreement, any Award granted hereunder may, and the authority of the Board or the Committee to amend, alter, adjust, suspend, discontinue, or terminate any such Award or to waive any conditions or rights under any such Award shall, continue after May 7, 2008. 8 EX-23 3 EXHIBIT 23.1 EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Registration Statements on Form S-8 (No. 33-74590, No. 33-74588 and No. 33-93912) of Authentic Fitness Corporation of our report dated August 20, 1998 appearing on page F-1 on this Annual Report on Form 10-K. PRICEWATERHOUSECOOPERS LLP Los Angeles, California September 28, 1998 EX-23 4 EXHIBIT 23.2 EXHIBIT 23.2 CONSENT OF INDEPENDENT AUDITORS We consent to the incorporation by reference in the Registration Statements (Form S-8 No. 33-74590, Form S-8 No. 33-74588 and Form S-8 No. 33-93912) pertaining to the Authentic Fitness 1992 Long Term Stock Incentive Plan, the Authentic Fitness 1993 Stock Option Plan for Non-Employee Directors and the Authentic Fitness Corporation Savings Plan, of our report dated October 2, 1996, with respect to the consolidated statements of operations, shareholders' equity and cash flows and schedule of Authentic Fitness Corporation included in the Form 10-K for the year ended July 4, 1998. ERNST & YOUNG LLP Los Angeles, Calfornia September 28, 1998 EX-27 5 ARTICLE 5 FDS 1998 10-K
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE FINANCIAL STATEMENTS OF AUTHENTIC FITNESS CORPORATION FOR THE YEAR ENDED JULY 5, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 12-MOS JUL-04-1998 JUL-06-1997 JUL-04-1998 638 0 126,824 4,864 63,910 194,588 73,706 23,289 316,162 125,491 33,178 23 0 0 150,842 316,162 367,484 367,484 218,820 218,820 98,883 27,188 14,253 35,528 12,759 22,769 0 0 0 22,769 1.02 1.01
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