COACH INC
ITEM 1. BUSINESS GENERAL DEVELOPMENT OF BUSINESS Founded in 1941, Coach was acquired by Sara Lee Corporation (“Sara Lee”) in 1985. In June 2000, Coach was incorporated in the state of Maryland. In October 2000, Coach was listed on the New York Stock Exchange and sold approximately 68 million shares of common stock, split adjusted, representing 19.5% of the outstanding shares. In April 2001, Sara Lee completed a distribution of its remaining ownership in Coach via an exchange offer, which allowed Sara Lee stockholders to tender Sara Lee common stock for Coach common stock.
In June 2001, Coach Japan was formed to expand our presence in the Japanese market and to exercise greater control over our brand in that country. Coach Japan was initially formed as a joint venture with Sumitomo Corporation. On July 1, 2005, we purchased Sumitomo’s 50% interest in Coach Japan, resulting in Coach Japan becoming a 100% owned subsidiary of Coach, Inc.
In fiscal 2009, the Company acquired the Coach domestic retail businesses in Hong Kong, Macau and mainland China (“Coach China”) from its former distributor, the ImagineX group. These acquisitions provide the Company with greater control over the brand in China, enabling Coach to raise brand awareness and aggressively grow market share with the Chinese consumer.
In fiscal 2011, the Company acquired a non-controlling interest in a joint venture with Hackett Limited to expand the Coach International business in Europe. Through the joint venture, the Company opened retail locations in Spain, Portugal and Great Britain in fiscal 2011 and in France and Ireland in fiscal 2012. The Company currently anticipates further European expansion in fiscal 2013.
In fiscal 2012, the Company acquired the Coach domestic retail businesses in Singapore and Taiwan, which were operated by Valiram Group and Tasa Meng, respectively. In connection with the fiscal 2011 agreement with the Valiram Group, the Company assumed direct control of its domestic retail business in Malaysia in July 2012. Additionally, in connection with the fiscal 2012 agreement with Shinsegae International, the Company assumed direct control of its retail business in Korea in early August 2012.
FINANCIAL INFORMATION ABOUT SEGMENTS See the Segment Information note presented in the Notes to the Consolidated Financial Statements.
NARRATIVE DESCRIPTION OF BUSINESS Coach has grown from a family-run workshop in a Manhattan loft to a leading American marketer of fine accessories and gifts for women and men. Coach is one of the most recognized fine accessories brands in the U.S. and in targeted international markets. We offer premium lifestyle accessories to a loyal and growing customer base and provide consumers with fresh, relevant and innovative products that are extremely well made, at an attractive price. Coach’s modern, fashionable handbags and accessories use a broad range of high quality leathers, fabrics and materials. In response to our customer’s demands for both fashion and function, Coach offers updated styles and multiple product categories which address an increasing share of our customer’s accessory wardrobe. Coach has created a sophisticated, modern and inviting environment to showcase our product assortment and reinforce a consistent brand position wherever the consumer may shop. We utilize a flexible, cost-effective global sourcing model, in which independent manufacturers supply our products, allowing us to bring our broad range of products to market rapidly and efficiently.
Coach offers a number of key differentiating elements that set it apart from the competition, including:
A Distinctive Brand - Coach offers distinctive, easily recognizable, accessible luxury products that are relevant, extremely well made and provide excellent value.
A Market Leadership Position With Growing Global Share - Coach is a global leader in premium handbag and accessories. Each year, as our market share increases, our leadership position strengthens. In North America, Coach is the leading brand. In Japan, Coach is the leading imported luxury handbag and accessories brand by units sold.
A Loyal And Involved Consumer - Coach consumers have a specific emotional connection with the brand. Part of the Company’s everyday mission is to cultivate consumer relationships by strengthening this emotional connection.
A Multi-Channel International Distribution Model - This allows Coach to maintain a critical balance as results do not depend solely on the performance of a single channel or geographic area. The Direct-to-Consumer channel provides us with immediate, controlled access to consumers through Coach-operated stores in North America; Japan; Hong Kong, Macau, and mainland China; Taiwan; Singapore and the Internet. Beginning with the first quarter of fiscal 2013, this channel also includes Coach-operated stores in Malaysia and Korea. The Indirect channel provides us with access to consumers via wholesale department store and specialty store locations in over 20 countries.
Innovation And A Consumer-Centric Focus - Coach listens to its consumer through rigorous consumer research and strong consumer orientation. Coach works to anticipate the consumer’s changing needs by keeping the product assortment fresh and relevant.
We believe that these differentiating elements have enabled the Company to offer a unique proposition to the marketplace. We hold the number one position within the U.S. premium handbag and accessories market and the number two position within the Japanese imported luxury handbag and accessories market.
PRODUCTS Coach's product offerings include women’s and men’s bags, accessories, wearables, footwear, jewelry, sunwear, travel bags, watches and fragrance. The following table shows the percent of net sales that each product category represented:
Handbags - Women’s handbag collections feature classically inspired designs as well as fashion designs. Typically, there are three to four collections per quarter and four to seven styles per collection. These collections are designed to meet the fashion and functional requirements of our broad and diverse consumer base. Men’s handbag collections include business cases, computer bags, messenger-style bags and totes. In fiscal 2012, we introduced the new Hamptons Weekend and Willis collections, and made updates to our Poppy, Madison and Kristin collections. In early fiscal 2013, we launched a new dual-gender Legacy lifestyle collection, inspired by our heritage, grounded in leather and featuring distinctive Coach elements. Legacy, our largest product launch in many years, is an iconic lifestyle collection which provides a foundation for the brand, targeting multi-generational consumers whom are both classic and stylish in their preferences.
Accessories - Accessories include women’s and men’s small leather goods, novelty accessories and women’s and men’s belts. Women’s small leather goods, which coordinate with our handbags, include money pieces, wristlets, and cosmetic cases. Men’s small leather goods consist primarily of wallets and card cases. Novelty accessories include time management and electronic accessories. Key rings and charms are also included in this category.
Wearables - This category is comprised of scarves, jackets, gloves and hats, including both cold weather and fashion. The assortment is primarily women's and contains a fashion assortment in all components of this category.
Footwear - Jimlar Corporation (“Jimlar”) has been Coach's footwear licensee since 1999. Footwear is distributed through select Coach retail stores, coach.com and about 1,000 U.S. department stores. Footwear sales are comprised primarily of women’s styles, which coordinate with Coach’s handbag collections.
Jewelry - This category is comprised of bangle bracelets, necklaces, rings and earrings offered in both sterling silver and non-precious metals.
Sunwear - Marchon Eyewear, Inc. (“Marchon”) has been Coach’s eyewear licensee since 2003 under a licensing agreement that expired in 2011. During October 2010, the Company signed a licensing agreement with Luxottica Trading and Finance Ltd. (“Luxottica”) and began transitioning the eyewear business during the second half of fiscal 2012. This collection is a collaborative effort that combines the Coach aesthetic for fashion accessories with the latest fashion directions in sunglasses. Coach sunglasses are sold in Coach retail stores and coach.com, department stores, select sunglass retailers and optical retailers in major markets.
Travel Bags - The travel collections are comprised of luggage and related accessories, such as travel kits and valet trays.
Watches - Movado Group, Inc. (“Movado”) has been Coach's watch licensee since 1998 and has developed a distinctive collection of watches inspired primarily by the women's collections with select men's styles.
Fragrance - Starting in the spring of 2010, Estée Lauder Companies Inc. (“Estée Lauder”), through its subsidiary, Aramis Inc., became Coach's fragrance licensee. Fragrance is distributed through Coach retail stores, coach.com, about 4,000 U.S. department and specialty stores and 500 international locations. Coach offers four women’s fragrance collections and one men’s fragrance. The women's fragrance collections include eau de perfume spray, eau de toilette spray, purse spray, body lotion and body splashes.
DESIGN AND MERCHANDISING Coach's New York-based design team, led by its Executive Creative Director, is responsible for conceptualizing and directing the design of all Coach products. Designers have access to Coach's extensive archives of product designs created over the past 70 years, which are a valuable resource for new product concepts. Coach designers are also supported by a strong merchandising team that analyzes sales, market trends and consumer preferences to identify business opportunities that help guide each season's design process. Merchandisers also analyze products and edit, add and delete to achieve profitable sales across all channels. The product category teams, each comprised of design, merchandising/product development and sourcing specialists help Coach execute design concepts that are consistent with the brand's strategic direction.
Coach's design and merchandising teams work in close collaboration with all of our licensing partners to ensure that the licensed products (watches, footwear, eyewear and fragrance) are conceptualized and designed to address the intended market opportunity and convey the distinctive perspective and lifestyle associated with the Coach brand.
During fiscal 2008, the Company announced a new business initiative to drive brand creativity. This initiative has evolved into the Reed Krakoff brand, representing New American luxury, which is supported by a team of experienced designers and merchandisers and encompasses all women’s categories, with a focus on ready-to-wear, handbags, accessories, footwear and jewelry. We introduced the Reed Krakoff brand with store openings in North America and internationally through specialty retailers in early fiscal 2011.
SEGMENTS Coach operates in two reportable segments: Direct-to-Consumer and Indirect. The reportable segments represent channels of distribution that offer similar products, service and marketing strategies.
Direct-to-Consumer Segment The Direct-to-Consumer segment consists of channels that provide us with immediate, controlled access to consumers: Coach-operated stores in North America; Japan; Hong Kong, Macau, and mainland China; Taiwan; Singapore and the Internet. This segment represented approximately 89% of Coach's total net sales in fiscal 2012, with North American stores and the Internet, Coach Japan and Coach China contributing
approximately 63%, 18% and 6% of total net sales, respectively. Beginning with the first quarter of fiscal 2013, this segment also includes Coach-operated stores in Malaysia and Korea.
North American Retail Stores - Coach stores are located in regional shopping centers and metropolitan areas throughout the U.S. and Canada. The retail stores carry an assortment of products depending on their size and location. Our flagship stores, which offer the broadest assortment of Coach products, are located in high-visibility locations such as New York, Chicago, San Francisco and Toronto.
Our stores are sophisticated, sleek, modern and inviting. They showcase the world of Coach and enhance the shopping experience while reinforcing the image of the Coach brand. The modern store design creates a distinctive environment to display our products. Store associates are trained to maintain high standards of visual presentation, merchandising and customer service. The result is a complete statement of the Coach modern American style at the retail level.
The following table shows the number of Coach retail stores and their total and average square footage:
North American Factory Stores - Coach's factory stores serve as an efficient means to sell manufactured-for-factory-store product, including factory exclusives, as well as discontinued and irregular inventory outside the retail channel. These stores operate under the Coach Factory name and are geographically positioned primarily in established outlet centers that are generally more than 30 miles from major markets.
Coach’s factory store design, visual presentations and customer service levels support and reinforce the brand's image. Through these factory stores, Coach targets value-oriented customers who would not otherwise buy the Coach brand. Prices are generally discounted from 20% to 70% below full retail prices.
The following table shows the number of North America Coach factory stores and their total and average square footage:
Internet - Coach views its website as a key communications vehicle for the brand to promote traffic in Coach retail stores and department store locations and build brand awareness. With approximately 76 million unique visits to the coach.com e-commerce website in fiscal 2012, our online store provides a showcase environment where consumers can browse through a selected offering of the latest styles and colors. Our e-commerce programs also include third-party flash sites and our invitation-only factory flash site.
Coach Japan - Coach Japan operates department store shop-in-shop locations and freestanding flagship, retail and factory stores as well as an e-commerce website. Flagship stores, which offer the broadest assortment of Coach products, are located in select shopping districts throughout Japan.
The following table shows the number of Coach Japan locations and their total and average square footage:
Coach China - Coach China operates department store shop-in-shop locations as well as freestanding flagship, retail and factory stores. Flagship stores, which offer the broadest assortment of Coach products, are located in select shopping districts in Hong Kong and mainland China.
The following table shows the number of Coach China locations and their total and average square footage:
Coach Singapore and Taiwan - Coach Singapore and Taiwan operate department store shop-in-shop locations as well as freestanding flagship, retail and factory stores. Flagship stores, which offer the broadest assortment of Coach products, are located in select shopping districts in Singapore and Taiwan.
The following table shows the number of Coach Singapore and Taiwan locations and their total and average square footage:
Reed Krakoff - The Reed Krakoff brand represents new American luxury primarily for handbags, accessories and ready-to-wear. We introduced the Reed Krakoff brand with store openings in North America and internationally through specialty retailers in early fiscal 2011. Reed Krakoff operates department store shop-in-shop locations, freestanding flagship stores as well as an e-commerce website at reedkrakoff.com. Flagship stores, which offer the broadest assortment of Reed Krakoff products, are located in select shopping districts in the U.S.
Indirect Segment Coach began as a U.S. wholesaler to department stores and this segment remains a part of our overall consumer reach. Today, we work closely with our partners, both domestic and international, to ensure a clear and consistent product presentation. The Indirect segment represented approximately 11% of total net sales in fiscal 2012, with U.S. Wholesale and Coach International representing approximately 6% and 4% of total net sales, respectively. The Indirect segment also includes royalties earned on licensed product.
U.S. Wholesale - This channel offers access to Coach products to consumers who prefer shopping at department stores. Coach enhances presentation, within the department store environment, primarily through the creation of more shop-in-shops with proprietary Coach fixtures. Coach custom tailors its assortments through wholesale product planning and allocation processes to better match the attributes of our department store consumers in each local market. Coach products are also available on macys.com, dillards.com, bloomingdales.com, lordandtaylor.com, belk.com, vonmaur.com and nordstrom.com. While overall U.S. department store sales have slowed over the last few years, the handbag and accessories category has remained strong. The Company continues to closely manage inventories in this channel given the highly promotional environment at point-of-sale.
Coach's products are sold in approximately 990 wholesale locations in the U.S. and Canada. Our most significant U.S. wholesale customers are Macy’s (including Bloomingdale's), Dillard's, Nordstrom, Lord & Taylor, Carson’s, the Bay and Saks Fifth Avenue.
Coach International - This channel represents sales to international wholesale distributors and authorized retailers. Travel retail represents the largest portion of our customers’ sales in this channel. However, we continue to drive growth by expanding our distribution to reach local consumers in emerging markets. Coach has developed relationships with a select group of distributors who sell Coach products through department stores and freestanding retail locations in over 20 countries. Coach's current network of international distributors serves the following domestic and/or travel retail markets: South Korea, US & Territories, Taiwan, Malaysia, Hong Kong, Mexico, Saudi Arabia, Thailand, Japan, Australia, Singapore, UAE, France, China, Macau, Indonesia, Kuwait, Bahamas, Aruba, Vietnam, New Zealand, Bahrain, India and Brazil.
For locations not in freestanding stores, Coach has created shop-in-shops and other image enhancing environments to increase brand appeal and stimulate growth. Coach continues to improve productivity in this channel by opening larger image-enhancing locations, expanding existing stores and closing smaller, less productive stores. Coach's most significant international wholesale customers are the DFS Group, Shinsegae International, Tasa Meng Corp, Lotte Group and Shilla Group.
In connection with the fiscal 2011 agreement with the Valiram Group, the Company assumed direct control of its domestic retail business in Malaysia in July 2012. Additionally, in connection with the fiscal 2012 agreement with Shinsegae International, the Company assumed direct control of its retail business in Korea in early August 2012.
In fiscal 2013, the Company will be expanding further into Latin America through distributor partners to customers in Venezuela, Colombia, Panama and Peru.
The following table shows the number of international wholesale locations at which Coach products are sold:
Licensing - In our licensing relationships, Coach takes an active role in the design process and controls the marketing and distribution of products under the Coach brand. The current licensing relationships as of June 30, 2012 are as follows:
Category
Licensing
Partner
Introduction
Date
Territory
License
Expiration
Date
Footwear
Jimlar
Spring '99
U.S.
Eyewear
Luxottica
Spring '12
Worldwide
Watches
Movado
Spring '98
Worldwide
Fragrance
Estee Lauder
Spring '10
Worldwide
Products made under license are, in most cases, sold through all of the channels discussed above and, with Coach's approval, these licensees have the right to distribute Coach brand products selectively through several other channels: shoes in department store shoe salons, watches in selected jewelry stores and eyewear in selected optical retailers. These venues provide additional, yet controlled, exposure of the Coach brand. Coach's licensing partners pay royalties to Coach on their net sales of Coach branded products. However, such royalties are not material to the Coach business as they currently comprise less than 1% of Coach’s total net sales. The licensing agreements generally give Coach the right to terminate the license if specified sales targets are not achieved.
MARKETING Coach’s marketing strategy is to deliver a consistent and relevant message each time the consumer comes in contact with the Coach brand through our communications and visual merchandising. The Coach image is created internally and executed by the creative marketing, visual merchandising and public relations teams. Coach also has a sophisticated consumer and market research capability, which helps us assess consumer attitudes and trends and gauge the likelihood of a product’s success in the marketplace prior to its introduction.
In conjunction with promoting a consistent global image, Coach uses its extensive customer database and consumer knowledge to target specific products and communications to specific consumers to efficiently stimulate sales across all distribution channels.
Coach engages in several consumer communication initiatives, including direct marketing activities and national, regional and local advertising. In fiscal 2012, consumer contacts increased 131% to over 1.4 billion primarily driven by increased email communications. The Company continues to leverage marketing expenses by refining our marketing programs to increase productivity and optimize distribution. Total expenses related to consumer communications in fiscal 2012 were $89.2 million, representing less than 2% of net sales.
Coach’s wide range of direct marketing activities includes email contacts and brochures targeted to promote sales to consumers in their preferred shopping venue. In addition to building brand awareness, the coach.com and reedkrakoff.com websites serve as effective brand communications vehicles by providing a showcase environment where consumers can browse through a strategic offering of the latest styles and colors, which drives store traffic and enables the collection of customer data.
As part of Coach's direct marketing strategy, the Company uses its database consisting of approximately 22 million active households in North America and 6.6 million active households in Japan. Email contacts and catalogs are Coach's principal means of communication and are sent to selected households to stimulate consumer purchases and build brand awareness. The growing number of visitors to the coach.com e-commerce sites in the U.S., Canada and Japan provides an opportunity to increase the size of these databases.
During fiscal 2012, the Company sent approximately 1.2 billion emails to strategically selected customers as we continue to evolve our internet outreach to maximize productivity while streamlining distribution. In fiscal 2012, the Company distributed over one million catalogs in Coach stores in Japan; Hong Kong, Macau and mainland China; and Taiwan and Singapore. The Company also mailed over one million additional catalogs to households throughout Asia, including over 700,000 in China.
In fiscal 2012, Coach had marketing websites in Australia, Bahrain, Brazil, China, Colombia, France, Ireland, Malaysia, Mexico, Panama, Portugal, Singapore, South Korea, Spain, Taiwan, Thailand, UAE, United Kingdom, Venezuela and Vietnam. In addition, the Company utilizes and continues to explore new technologies such as blogs and social networking websites, including Twitter and Facebook, as a cost effective consumer communication opportunity to increase on-line and store sales, acquire new customers and build brand awareness.
The Company also runs national, regional and local advertising campaigns in support of its major selling seasons.
MANUFACTURING While all of our products are manufactured by independent manufacturers, we nevertheless maintain control of the supply chain process from design through manufacture. We are able to do this by qualifying raw material suppliers and by maintaining sourcing and product development offices in China, Hong Kong, Vietnam, South Korea and India that work closely with our independent manufacturers. This broad-based, global manufacturing strategy is designed to optimize the mix of cost, lead times and construction capabilities. Over the last several years, we have increased the presence of our senior management at our manufacturers’ facilities to enhance control over decision making and ensure the speed with which we bring new product to market is maximized.
These independent manufacturers support a broad mix of product types, materials and a seasonal influx of new, fashion oriented styles, which allows us to meet shifts in marketplace demand and changes in consumer preferences. During fiscal 2012, approximately 71% of Coach's total net sales were generated from newly introduced products with no sales in the same quarter the previous year. As the collections are seasonal and planned to be sold in stores for short durations, our production quantities are limited which lowers our exposure to excess and obsolete inventory.
All product sources, including independent manufacturers and licensing partners, must achieve and maintain Coach's high quality standards, which are an integral part of the Coach identity. One of Coach's keys to success lies in the rigorous selection of raw materials. Coach has longstanding relationships with purveyors of fine leathers and hardware. Although Coach products are manufactured by independent manufacturers, we maintain control of the raw materials that are used in all of our products. Compliance with quality control standards is monitored through on-site quality inspections at all independent manufacturing facilities.
Coach carefully balances its commitments to a limited number of “better brand” partners with demonstrated integrity, quality and reliable delivery. Our manufacturers are located in many countries, including China, Italy, United States, Vietnam, Hong Kong, India, Thailand, Philippines, Taiwan and Peru. Coach continues to evaluate new manufacturing sources and geographies to deliver the finest quality products at the lowest cost and help limit the impact of manufacturing in inflationary markets. During fiscal 2012, one vendor provided approximately 16% of Coach’s total units. No other individual vendor currently provides more than approximately 11% of Coach’s total units. Before partnering with a vendor, Coach evaluates each facility by conducting a quality and business practice standards audit. Periodic evaluations of existing, previously approved facilities are conducted on a random basis. We believe that all of our manufacturing partners are in material compliance with Coach’s integrity standards.
DISTRIBUTION Coach operates an 850,000 square foot distribution and consumer service facility in Jacksonville, Florida. This automated facility uses a bar code scanning warehouse management system. Coach's distribution center employees use handheld radio frequency scanners to read product bar codes, which allow them to more accurately process and pack orders, track shipments, manage inventory and generally provide excellent service to our customers. Coach's products are primarily shipped to Coach retail stores and wholesale customers via express delivery providers and common carriers, and direct to consumers via express delivery providers.
To support our growth in China and the region, in fiscal 2010 we established an Asia distribution center in Shanghai, owned and operated by a third-party, allowing us to better manage the logistics in this region while reducing costs. The Company also operates a distribution center, through a third-party, in Japan.
MANAGEMENT INFORMATION SYSTEMS The foundation of Coach's information systems is its Enterprise Resource Planning (“ERP”) system. This fully integrated system supports all aspects of finance and accounting, procurement, inventory control, sales and store replenishment. The system functions as a central repository for all of Coach's transactional information, resulting in increased efficiencies, improved inventory control and a better understanding of consumer demand. This system was upgraded in fiscal 2008, continues to be the most current version available, and is fully scalable to accommodate growth.
Complementing its ERP system are several other system solutions, each of which Coach believes is well suited for its needs. The data warehouse system summarizes the transaction information and provides a single platform for all management reporting. The supply chain management system supports sales and inventory planning and reporting functions. Product fulfillment is facilitated by Coach's highly automated warehouse management system and electronic data interchange system, while the unique requirements of Coach's internet business are supported by Coach’s order management system. Finally, the point-of-sale system supports all in-store transactions, distributes management reporting to each store, and collects sales and payroll information on a daily basis. This daily collection of store sales and inventory information results in early identification of business trends and provides a detailed baseline for store inventory replenishment. Updates and upgrades of these systems are made on a periodic basis in order to ensure that we constantly improve our functionality. All complementary systems are integrated with the central ERP system.
TRADEMARKS AND PATENTS Coach owns all of the material trademark rights used in connection with the production, marketing and distribution of all of its products, both in the U.S. and in other countries in which the products are principally sold. Coach also owns and maintains worldwide registrations for trademarks in all relevant classes of products in each of the countries in which Coach products are sold. Major trademarks include Coach, Coach and lozenge design, Coach and tag design, Signature C design, Coach Op Art design and The Heritage Logo (Coach Leatherware Est. 1941). Coach is not dependent on any one particular trademark or design patent although Coach believes that the Coach name is important for its business. In addition, several of Coach's products are covered by design patents or patent applications. Coach aggressively polices its trademarks and trade dress, and pursues infringers both domestically and internationally. It also pursues counterfeiters domestically and internationally through leads generated internally, as well as through its network of investigators, the Coach hotline and business partners around the world.
Coach expects that its material trademarks will remain in existence for as long as Coach continues to use and renew them. Coach has no material patents.
SEASONALITY Because Coach products are frequently given as gifts, Coach has historically realized, and expects to continue to realize, higher sales and operating income in the second quarter of its fiscal year, which includes the holiday months of November and December. In addition, fluctuations in sales and operating income in any fiscal quarter are affected by the timing of seasonal wholesale shipments and other events affecting retail sales. Over the last several years, we have achieved higher levels of growth in the non-holiday quarters, which has reduced these seasonal fluctuations.
GOVERNMENT REGULATION Most of Coach's imported products are subject to existing or potential duties, tariffs or quotas that may limit the quantity of products that Coach may import into the U.S. and other countries or may impact the cost of such products. Coach has not been restricted by quotas in the operation of its business and customs duties have not comprised a material portion of the total cost of its products. In addition, Coach is subject to foreign governmental regulation and trade restrictions, including retaliation against certain prohibited foreign practices, with respect to its product sourcing and international sales operations.
COMPETITION The premium handbag and accessories industry is highly competitive. The Company mainly competes with European and American luxury brands as well as private label retailers, including some of Coach’s
wholesale customers. Over the last several years the category has grown, encouraging the entry of new competitors as well as increasing the competition from existing competitors. The Company believes, however, that as a market leader we benefit from this increased competition as it drives consumer interest in this brand loyal category.
The Company further believes that there are several factors that differentiate us from our competitors, including but not limited to: distinctive newness, innovation and quality of our products, ability to meet consumer’s changing preferences and our superior customer service.
EMPLOYEES As of June 30, 2012, Coach employed approximately 18,000 people, including both full and part time employees. Of these employees, approximately 6,200 and 8,000 were full time and part time employees, respectively, in the retail field in North America; Japan; Hong Kong, Macau, and mainland China; Taiwan; Singapore and Korea. Approximately 70 of Coach’s employees are covered by collective bargaining agreements. Coach believes that its relations with its employees are good, and it has never encountered a strike or work stoppage.
FINANCIAL INFORMATION ABOUT GEOGRAPHIC AREAS See the Segment Information note presented in the Notes to the Consolidated Financial Statements for geographic information.
AVAILABLE INFORMATION Our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments to these reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, are available free of charge on our website, located at www.coach.com, as soon as reasonably practicable after they are filed with or furnished to the Securities and Exchange Commission. These reports are also available on the Securities and Exchange Commission’s website at www.sec.gov. No information contained on any of our websites is intended to be included as part of, or incorporated by reference into, this Annual Report on Form 10-K.
The Company has included the Chief Executive Officer (“CEO”) and Chief Financial Officer certifications regarding its public disclosure required by Section 302 of the Sarbanes-Oxley Act of 2002 as Exhibit 31.1 to this report on Form 10-K. Additionally, the Company filed with the New York Stock Exchange (“NYSE”) the CEO’s certification regarding the Company’s compliance with the NYSE’s Corporate Governance Listing Standards (“Listing Standards”) pursuant to Section 303A.12(a) of the Listing Standards, which indicated that the CEO was not aware of any violations of the Listing Standards by the Company.
ITEM 1A. RISK FACTORS You should consider carefully all of the information set forth or incorporated by reference in this document and, in particular, the following risk factors associated with the Business of Coach and forward-looking information in this document. Please also see “Special Note on Forward-Looking Information” at the beginning of this report. The risks described below are not the only ones we face. Additional risks not presently known to us or that we currently deem immaterial may also have an adverse effect on us. If any of the risks below actually occur, our business, results of operations, cash flows or financial condition could suffer.
The current economic conditions could materially adversely affect our financial condition, results of operations and consumer purchases of luxury items. The current uncertain global economic conditions are having a significant negative impact on businesses around the world. Our results can be impacted by a number of macroeconomic factors, including but not limited to consumer confidence and spending levels, unemployment, consumer credit availability, raw materials costs, fuel and energy costs, global factory production, commercial real estate market conditions, credit market conditions and the level of customer traffic in malls and shopping centers.
Demand for our products, and consumer spending in the premium handbag and accessories market generally, is significantly impacted by trends in consumer confidence, general business conditions, interest rates, the availability of consumer credit, and taxation. Consumer purchases of discretionary luxury items, such as Coach products, tend to decline during recessionary periods, when disposable income is lower. The general economic conditions in the economy may continue to affect consumer purchases of our products for the foreseeable future and adversely impact our results of operations.
The growth of our business depends on the successful execution of our growth strategies, including our efforts to expand internationally. Our growth depends on the continued success of existing products, as well as the successful design and introduction of new products. Our ability to create new products and to sustain existing products is affected by whether we can successfully anticipate and respond to consumer preferences and fashion trends. The failure to develop and launch successful new products could hinder the growth of our business. Also, any delay in the development or launch of a new product could result in our company not being the first to bring product to market, which could compromise our competitive position.
Additionally, our current growth strategy includes plans to expand in a number of international regions, including Asia and Europe. We currently plan to open additional Coach stores in China and other international markets, and we have entered into strategic agreements with various partners to expand our operations in Europe. In addition, we have recently taken control of certain of our retail operations in the Asia-Pacific region, including Taiwan, Malaysia and South Korea during calendar year 2012. We do not yet have significant experience directly operating in these countries, and in many of them we face established competitors. Many of these countries have different operational characteristics, including but not limited to employment and labor, transportation, logistics, real estate, and local reporting or legal requirements.
Furthermore, consumer demand and behavior, as well as tastes and purchasing trends may differ in these countries, and as a result, sales of our product may not be successful, or the margins on those sales may not be in line with those we currently anticipate. Further, such markets will have upfront short-term investment costs that may not be accompanied by sufficient revenues to achieve typical or expected operational and financial performance and therefore may be dilutive to Coach in the short-term. In many of these countries, there is significant competition to attract and retain experienced and talented employees. If our international expansion plans are unsuccessful, our financial results could be materially adversely affected.
Significant competition in our industry could adversely affect our business. We face intense competition in the product lines and markets in which we operate. Our competitors are European and American luxury brands as well as private label retailers, including some of Coach’s wholesale customers. There is a risk that our competitors may develop new products that are more popular with our customers. We may be unable to anticipate the timing and scale of such product introductions by competitors,
which could harm our business. Our ability to compete also depends on the strength of our brand, whether we can attract and retain key talent, and our ability to protect our trademarks and design patents. A failure to compete effectively could adversely affect our growth and profitability.
We face risks associated with operating in international markets. We operate on a global basis, with approximately 32% of our net sales coming from operations outside the U.S. However, sales to our international wholesale customers are denominated in U.S. dollars. While geographic diversity helps to reduce the Company’s exposure to risks in any one country, we are subject to risks associated with international operations, including, but not limited to:
• changes in exchange rates for foreign currencies, which may adversely affect the retail prices of our products, result in decreased international consumer demand, or increase our supply costs in those markets, with a corresponding negative impact on our gross margin rates,
• political or economic instability or changing macroeconomic conditions in our major markets,
• natural and other disasters in international and other markets, and
• changes in foreign or domestic legal and regulatory requirements resulting in the imposition of new or more onerous trade restrictions, tariffs, embargoes, exchange or other government controls.
We monitor our global foreign currency exposure and in order to minimize the impact on earnings of foreign currency rate movements, we hedge our subsidiaries’ U.S. dollar-denominated inventory purchases in Japan and Canada, as well as Coach’s cross currency denominated intercompany loan portfolio. We cannot ensure, however, that these hedges will fully offset the impact of foreign currency rate movements. Additionally, our international subsidiaries primarily use local currencies as the functional currency and translate their financial results from the local currency to U.S. dollars. If the U.S. dollar strengthens against these subsidiaries’ foreign currencies, the translation of their foreign currency denominated transactions may decrease consolidated net sales and profitability.
Failure to adequately protect our intellectual property and curb the sale of counterfeit merchandise could injure the brand and negatively affect sales. We believe our trademarks, copyrights, patents, and other intellectual property rights are extremely important to our success and our competitive position. We devote significant resources to the registration and protection of our trademarks and to anti-counterfeiting efforts worldwide. In spite of our efforts, counterfeiting still occurs and if we are unsuccessful in challenging a third-party’s rights related to trademark, copyright, or patent this could adversely affect our future sales, financial condition, and results of operation. We are aggressive in pursuing entities involved in the trafficking and sale of counterfeit merchandise through legal action or other appropriate measures. We cannot guarantee that the actions we have taken to curb counterfeiting and protect our intellectual property will be adequate to prevent to protect the brand and prevent counterfeiting in the future. Furthermore, our efforts to enforce our intellectual property rights are often met with defenses and counterclaims attacking the validity and enforceability of our intellectual property rights. Unplanned increases in legal fees and other costs associates with defending our intellectual property rights could result in higher operating expenses. Finally, many countries’ laws do not protect intellectual property rights to the same degree as US laws.
Cyber security threats, including a privacy or data security breach, could damage our relationships with our customers, harm our reputation, expose us to litigation and adversely affect our business. We depend on digital technologies for the successful operation of our business, including corporate email communications to and from employees and stores, the design, manufacture and distribution of our finished goods, digital marketing efforts, collection and retention of customer data, employee information, the processing of credit card transactions, online e-commerce activities and our interaction with the public in the social media space. The possibility of a cyber-attack on any one or all of these systems is a serious threat. As part of our business model, we collect, retain, and transmit confidential information over public networks. In addition to our own databases, we use third party service providers to store, process and transmit this information on our behalf. Although we contractually require these service providers to implement and use
reasonable security measures, we cannot control third parties and cannot guarantee that a security breach will not occur in the future either at their location or within their systems. We also store all designs, goods specifications, projected sales and distribution plans for our finished products digitally. We have confidential security measures in place to protect both our physical facilities and digital systems from attacks. Despite these efforts, however, we may be vulnerable to targeted or random security breaches, acts of vandalism, computer viruses, misplaced or lost data, programming and/or human errors, or other similar events.
Consumer awareness and sensitivity to privacy breaches and cyber security threats is at an all-time high. Any misappropriation of confidential or personally identifiable information gathered, stored or used by us, be it intentional or accidental, could have a material impact on the operation of our business, including severely damaging our reputation and our relationships with our customers, employees and investors. We may also incur significant costs implementing additional security measures to comply with state, federal and international laws governing the unauthorized disclosure of confidential information as well as increased cyber security protection costs such as organizational changes, deploying additional personnel and protection technologies, training employees, and engaging third party experts and consultants and lost revenues resulting from unauthorized use of proprietary information including our intellectual property. Lastly, we could face increased litigation as a result of cyber security breaches.
Our business is subject to the risks inherent in global sourcing activities. As a company engaged in sourcing on a global scale, we are subject to the risks inherent in such activities, including, but not limited to:
• unavailability of or significant fluctuations in the cost of raw materials,
• compliance with labor laws and other foreign governmental regulations,
• imposition of additional duties, taxes and other charges on imports or exports,
• increases in the cost of labor, fuel, travel and transportation,
• compliance with our Global Business Integrity Program,
• disruptions or delays in shipments,
• loss or impairment of key manufacturing or distribution sites,
• inability to engage new independent manufacturers that meet the Company’s cost-effective sourcing model,
• product quality issues,
• political unrest, and
• natural disasters, acts of war or terrorism and other external factors over which we have no control.
While we require our independent manufacturers and suppliers to operate in compliance with applicable laws and regulations, as well as our Global Operating Principles and/or Supplier Selection Guidelines, we do not control these manufacturers or suppliers or their labor, environmental or other business practices. Copies of our Global Business Integrity Program, Global Operating Principles and Supplier Selection Guidelines are posted on our website, coach.com. The violation of labor, environmental or other laws by an independent manufacturer or supplier, or divergence of an independent manufacturer’s or supplier’s labor practices from those generally accepted as ethical or appropriate in the U.S., could interrupt or otherwise disrupt the shipment of our products, harm our trademarks or damage our reputation. The occurrence of any of these events could adversely affect our financial condition and results of operations.
While we have business continuity and contingency plans for our sourcing and distribution center sites, significant disruption of manufacturing or distribution for any of the above reasons could interrupt product supply and, if not remedied in a timely manner, could have an adverse impact on our business. We maintain three primary distribution centers: a distribution center in Jacksonville, Florida, owned and operated by Coach, an Asia distribution center in Shanghai, owned and operated by a third-party, and a distribution center, through a third-party, in Japan. See Distribution section of Item 1. Business for further discussion. The warehousing of
Coach merchandise, store replenishment and processing direct-to-customer orders is handled by these centers and a prolonged disruption in any center’s operation could adversely affect our business and operations.
Increases in our costs, such as raw materials, labor or freight could negatively impact our overall profitability. Labor costs at many of our manufacturers have been increasing significantly and, as the middle class in developing countries continues to grow, it is unlikely that such cost pressure will abate. The cost of transportation has been increasing as well and it is unlikely such cost pressure will abate if oil prices continue to increase. We may not be able to offset such increases in raw materials or labor or transportation costs through pricing measures or other means. These increasing costs of productions could also adversely affect our ability to achieve the gross margin objectives we have established.
Our business is subject to increased costs due to excess inventories if we misjudge the demand for our products. If Coach misjudges the market for its products it may be faced with significant excess inventories for some products and missed opportunities for other products. In addition, because Coach places orders for products with its manufacturers before it receives wholesale customers’ orders, it could experience higher excess inventories if wholesale customers order fewer products than anticipated. If that occurs, we may be forced to rely on markdowns or promotional sales to dispose of excess, slow-moving inventory, which may negatively impact our business.
Our Indirect segment could suffer as a result of consolidations, liquidations, restructurings and other ownership changes in the retail industry. Our Indirect segment, consisting of the U.S. Wholesale and Coach International businesses comprised approximately 11% of total net sales for fiscal 2012. Continued consolidation in the retail industry could further decrease the number of, or concentrate the ownership of, stores that carry our and our licensees’ products. Furthermore, a decision by the controlling owner of a group of stores or any other significant customer, whether motivated by competitive conditions, financial difficulties or otherwise, to decrease or eliminate the amount of merchandise purchased from us or our licensing partners could result in an adverse effect on the sales and profitability within our Indirect segment.
Our operating results are subject to seasonal and quarterly fluctuations, which could adversely affect the market price of Coach common stock. Because Coach products are frequently given as gifts, Coach has historically realized, and expects to continue to realize, higher sales and operating income in the second quarter of its fiscal year, which includes the holiday months of November and December. Poor sales in Coach’s second fiscal quarter would have a material adverse effect on its full year operating results and result in higher inventories. In addition, fluctuations in sales and operating income in any fiscal quarter are affected by the timing of seasonal wholesale shipments and other events affecting retail sales.
If we are unable to pay quarterly dividends at intended levels, our reputation and stock price may be harmed. Our quarterly cash dividend is currently $0.30 per common share. The dividend program requires the use of a modest portion of our cash flow. Our ability to pay dividends will depend on our ability to generate sufficient cash flows from operations in the future. This ability may be subject to certain economic, financial, competitive and other factors that are beyond our control. Our Board of Directors (“Board”) may, at its discretion, decrease the intended level of dividends or entirely discontinue the payment of dividends at any time. Any failure to pay dividends after we have announced our intention to do so may negatively impact our reputation, investor confidence in us and negatively impact our stock price.
Fluctuations in our tax obligations and effective tax rate may result in volatility of our operating results and stock price. We are subject to income taxes in many U.S. and certain foreign jurisdictions. We record tax expense based on our estimates of future payments, which includes reserves for uncertain tax positions in multiple tax jurisdictions. At any one time, many tax years are subject to audit by various taxing jurisdictions. The results
of these audits and negotiations with taxing authorities may affect the ultimate settlement of these issues. As a result, we expect that throughout the year there could be ongoing variability in our quarterly tax rates as events occur and exposures are evaluated. In addition, our effective tax rate in a given financial statement period may be materially impacted by changes in the mix and level of earnings or by changes to existing accounting rules or regulations. Further, proposed tax changes that may be enacted in the future could negatively impact our current or future tax structure and effective tax rates.
Provisions in Coach’s charter, bylaws and Maryland law may delay or prevent an acquisition of Coach by a third party. Coach’s charter, bylaws and Maryland law contain provisions that could make it more difficult for a third party to acquire Coach without the consent of Coach’s Board. Coach’s charter permits its Board, without stockholder approval, to amend the charter to increase or decrease the aggregate number of shares of stock or the number of shares of stock of any class or series that Coach has the authority to issue. In addition, Coach’s Board may classify or reclassify any unissued shares of common stock or preferred stock and may set the preferences, rights and other terms of the classified or reclassified shares. Although Coach’s Board has no intention to do so at the present time, it could establish a series of preferred stock that could have the effect of delaying, deferring or preventing a transaction or a change in control that might involve a premium price for Coach’s common stock or otherwise be in the best interest of Coach’s stockholders.
Coach’s bylaws can only be amended by Coach’s Board. Coach’s bylaws also provide that nominations of persons for election to Coach’s Board and the proposal of business to be considered at a stockholders meeting may be made only in the notice of the meeting, by Coach’s Board or by a stockholder who is entitled to vote at the meeting and has complied with the advance notice procedures of Coach’s bylaws. Also, under Maryland law, business combinations, including issuances of equity securities, between Coach and any person who beneficially owns 10% or more of Coach’s common stock or an affiliate of such person are prohibited for a five-year period, beginning on the date such person last becomes a 10% stockholder, unless exempted in accordance with the statute. After this period, a combination of this type must be approved by two super-majority stockholder votes, unless some conditions are met or the business combination is exempted by Coach’s Board.
Risks relating to our Hong Kong Depositary Receipts (“HDRs”) An active trading market for the Hong Kong Depositary Receipts on the Hong Kong Stock Exchange might not develop or be sustained and their trading prices might fluctuate significantly. We cannot assure you that an active trading market for the HDRs on the Hong Kong Stock Exchange can develop or be sustained. If an active trading market of the HDRs on the Hong Kong Stock Exchange does not develop or is not sustained, the market price and liquidity of the HDRs could be materially and adversely affected. As a result, the market price for HDRs in Hong Kong might not be indicative of the trading prices of Coach’s Common Stock on the NYSE, even allowing for currency differences.
The characteristics of the U.S. capital markets and the Hong Kong capital markets are different. The NYSE and the Hong Kong Stock Exchange have different trading hours, trading characteristics (including trading volume and liquidity), trading and listing rules, and investor bases (including different levels of retail and institutional participation). As a result of these differences, the trading prices of Common Stock and the HDRs representing them might not be the same, even allowing for currency differences. Fluctuations in the price of our Common Stock due to circumstances peculiar to the U.S. capital markets could materially and adversely affect the price of the HDRs. Because of the different characteristics of the U.S. and Hong Kong equity markets, the historic market prices of our Common Stock may not be indicative of the performance of the HDRs.
We are a corporation incorporated in the State of Maryland in the United States and our corporate governance practices are principally governed by U.S. federal and Maryland state laws and regulations. We are a corporation incorporated in the State of Maryland in the United States and our HDRs are listed on the Hong Kong Stock Exchange. Our corporate governance practices are primarily governed by and subject to U.S. federal and Maryland laws and regulations. U.S. federal and Maryland laws and regulations differ in a
number of respects from comparable laws and regulations in Hong Kong. There are certain differences between the stockholder protection regimes in Maryland and the United States and in Hong Kong.
We have obtained a ruling from the Securities and Futures Commission of Hong Kong (the “SFC”) that we will not be regarded as a public company in Hong Kong for the purposes of the Code on Takeovers and Mergers and the Share Repurchases Code of Hong Kong and hence, these codes will not apply to us. We have also obtained a partial exemption from the SFC in respect of the disclosure of interest provisions set out in the Securities and Futures Ordinance of Hong Kong. In addition, we have been granted waivers or exemptions by the Hong Kong Stock Exchange from certain requirements under its listing rules. Neither our stockholders nor the HDR holders will have the benefit of those Hong Kong rules, regulations and the listing rules of the Hong Kong Stock Exchange for which we have applied, and been granted, waivers or exemptions by the Hong Kong Stock Exchange and SFC.
Additionally, if any of these waivers or exemptions were to be revoked in circumstances including our non-compliance with applicable undertakings for any reason, additional legal and compliance obligations might be costly and time consuming, and might result in issues of interjurisdictional compliance, which could adversely affect us and HDR holders.
As the SFC does not have extra-territorial jurisdiction on any of its powers of investigation and enforcement, it will also have to rely on the regulatory regimes of Maryland state authorities and the SEC to enforce any corporate governance breaches committed by us in the United States. Investors in the HDRs should be aware that it could be difficult to enforce any judgment obtained outside the United States against us or any of our associates.
Furthermore, prospective investors in the HDRs should be aware, among other things, that there are U.S. federal withholding and estate tax implications for HDR holders.
HDR holders are not stockholders of the Company and must rely on the depositary for the HDRs (the “HDR Depositary”) to exercise on their behalf the rights that are otherwise available to the stockholders of the Company. HDR holders do not have the rights of stockholders. They only have the contractual rights set forth for their benefit under the deposit agreement for the HDRs (the “Deposit Agreement”). Holders of HDRs are not permitted to vote at stockholders’ meetings, and they may only vote by providing instructions to the HDR Depositary. There is no guarantee that holders of HDRs will receive voting materials in time to instruct the HDR Depositary to vote and it is possible that holders of HDRs, or persons who hold their Hong Kong depositary shares through brokers, dealers or other third parties, will not have the opportunity to exercise a right to vote, although both we and the HDR Depositary will endeavor to make arrangements to ensure as far as practicable that all holders of HDRs will be able to vote. As the HDR Depositary or its nominee will be the registered owner of the Common Stock underlying their HDRs, holders of HDRs must rely on the HDR Depositary (or its nominee) to exercise rights on their behalf. In addition, holders of HDRs will also incur charges on any cash distribution made pursuant to the Deposit Agreement and on transfers of certificated HDRs.
Holders of HDRs will experience dilution in their indirect interest in the Company in the event of an equity offering which is not extended to them. If we decide to undertake an equity offering (that is not a rights or other offering that is extended to HDR holders), HDR holders may suffer a dilution in their indirect ownership and voting interest in the Common Stock, as compared to their holdings in the HDRs immediately prior to such an offering.
Holders of HDRs will be reliant upon the performance of several service providers. Any breach of those service providers of their contractual obligations could have adverse consequences for an investment in HDRs. An investment in HDRs will depend for its continuing viability on the performance of several service providers, including but not limited to the HDR Depositary, the registrar for the HDRs, the custodian and any sub-custodian appointed in respect of the underlying Common Stock. A failure by any of those service
providers to meet their contractual obligations, whether or not by culpable default, could detract from the continuing viability of the HDRs as an investment. Coach will not have direct contractual recourse against the custodian, any sub-custodian or the registrar; hence the potential for redress in circumstances of default will be limited. However, Coach and the HDR Depositary have executed a deed poll in favor of HDR holders in relation to the exercise by them of their rights as HDR holders under the Deposit Agreement against the Company or the HDR Depositary.
Withdrawals and exchanges of HDRs into Common Stock traded on the NYSE might adversely affect the liquidity of the HDRs. Our Common Stock is presently traded on the NYSE. Any HDR holder may at any time request that their HDRs be withdrawn and exchanged into Common Stock for trading on the NYSE. Upon the exchange of HDRs into Common Stock, the relevant HDRs will be cancelled. In the event that a substantial number of HDRs are withdrawn and exchanged into Common Stock and subsequently cancelled, the liquidity of the HDRs on the Hong Kong Stock Exchange might be adversely affected.
The time required for HDRs to be exchanged into Common Stock (and vice versa) might be longer than expected and investors might not be able to settle or effect any sales of their securities during this period. There is no direct trading or settlement between the NYSE and the Hong Kong Stock Exchange on which the Common Stock and the HDRs are respectively traded. In addition, the time differences between Hong Kong and New York and unforeseen market circumstances or other factors may delay the exchange of HDRs into Common Stock (and vice versa). Investors will be prevented from settling or effecting the sale of their securities across the various stock exchanges during such periods of delay. In addition, there is no assurance that any exchange of HDRs into Common Stock (and vice versa) will be completed in accordance with the timelines investors might anticipate.
Investors are subject to exchange rate risk between Hong Kong dollars and U.S. dollars. The value of an investment in the HDRs quoted in Hong Kong dollars and the value of dividend payments in respect of the HDRs could be affected by fluctuations in the U.S. dollar/Hong Kong dollar exchange rate. While the Hong Kong dollar is currently linked to the U.S. dollar using a specified trading band, no assurance can be given that the Hong Kong government will maintain the trading band at its current limits or at all.
ITEM 1B. UNRESOLVED STAFF COMMENTS None.
ITEM 2. PROPERTIES The following table sets forth the location, use and size of Coach's distribution, corporate and product development facilities as of June 30, 2012. The majority of the properties are leased, with the leases expiring at various times through 2028, subject to renewal options.
(1) Includes 250,000 square feet in Coach owned buildings. During fiscal 2009, Coach purchased its corporate headquarters building at 516 West 34th Street in New York City for $126.3 million.
As of June 30, 2012, Coach also occupied 354 retail and 169 factory leased stores located in North America, 180 Coach-operated department store shop-in-shops, retail stores and factory stores in Japan, 96 Coach-operated department store shop-in-shops, retail stores and factory stores in Hong Kong, Macau and mainland China, and 34 Coach-operated department store shop-in-shops, retail stores and factory stores in Taiwan and Singapore. These leases expire at various times through 2024. Coach considers these properties to be in generally good condition and believes that its facilities are adequate for its operations and provide sufficient capacity to meet its anticipated requirements.
ITEM 3. LEGAL PROCEEDINGS Coach is involved in various routine legal proceedings as both plaintiff and defendant incident to the ordinary course of its business, including proceedings to protect Coach’s intellectual property rights, litigation instituted by persons alleged to have been injured upon premises within Coach’s control and litigation with present or former employees.
As part of Coach’s policing program for its intellectual property rights, from time to time, Coach files lawsuits in the U.S. and abroad alleging acts of trademark counterfeiting, trademark infringement, patent infringement, trade dress infringement, trademark dilution and/or state or foreign law claims. At any given point in time, Coach may have a number of such actions pending. These actions often result in seizure of counterfeit merchandise and/or out of court settlements with defendants. From time to time, defendants will raise, either as affirmative defenses or as counterclaims, the invalidity or unenforceability of certain of Coach’s intellectual properties.
Although Coach’s litigation with present or former employees is routine and incidental to the conduct of Coach’s business, as well as for any business employing significant numbers of employees, such litigation can result in large monetary awards when a civil jury is allowed to determine compensatory and/or punitive
damages for actions claiming discrimination on the basis of age, gender, race, religion, disability or other legally protected characteristic or for termination of employment that is wrongful or in violation of implied contracts.
Coach believes that the outcome of all pending legal proceedings in the aggregate will not have a material adverse effect on Coach’s business or consolidated financial statements.
Coach has not entered into any transactions that have been identified by the IRS as abusive or that have a significant tax avoidance purpose. Accordingly, we have not been required to pay a penalty to the IRS for failing to make disclosures required with respect to certain transactions that have been identified by the IRS as abusive or that have a significant tax avoidance purpose.
ITEM 4. MINE SAFETY DISCLOSURES Not applicable.
PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES Market and Dividend Information Coach’s common stock is listed on the New York Stock Exchange and is traded under the symbol “COH.” Coach’s Hong Kong Depositary Receipts have also been listed on the Hong Kong Stock Exchange since December 2011 and the issuance from time-to-time of these Hong Kong Depositary Receipts has not been registered under the Securities Act, or with any securities regulatory authority of any state or other jurisdiction of the United States and is being made pursuant to Regulation S of the Securities Act. Accordingly, they may not be re-offered, resold, pledged or otherwise transferred in the United States or to, or for the account of, a “U.S. person” (within the meaning of Regulation S promulgated under the Securities Act), unless the securities are registered under the Securities Act or pursuant to an exemption from, or in a transaction not subject to, the registration requirements of the Securities Act, and hedging transactions involving the Hong Kong Depositary Receipts may not be conducted unless in compliance with the Securities Act. No additional common stock was issued, nor capital raised through this listing.
The following table sets forth, for the fiscal periods indicated, the high and low prices per share of Coach’s common stock as reported on the New York Stock Exchange Composite Index.
As of August 3, 2012, there were 3,400 holders of record of Coach’s common stock.
Any future determination to pay cash dividends will be at the discretion of Coach’s Board and will be dependent upon Coach’s financial condition, operating results, capital requirements and such other factors as the Board deems relevant.
The information under the principal heading “Securities Authorized For Issuance Under Equity Compensation Plans” in the Company’s definitive Proxy Statement for the Annual Meeting of Stockholders to be held on November 7, 2012, to be filed with the Securities and Exchange Commission (The “Proxy Statement”), is incorporated herein by reference.
Performance Graph The following graph compares the cumulative total stockholder return (assuming reinvestment of dividends) of Coach’s common stock with the cumulative total return of the S&P 500 Stock Index and the “former peer set” and “revised peer set” companies listed below over the five-fiscal-year period ending June 29, 2012, the last trading day of Coach’s most recent fiscal year. Coach’s “former peer set,” as determined by management, through fiscal 2011, consisted of:
• Ann Taylor Stores Corporation,
• Kenneth Cole Productions, Inc.,
• Ralph Lauren Corporation,
• Tiffany & Co.,
• Talbots, Inc., and
• Williams-Sonoma, Inc.
During fiscal 2012, the Company established a “revised peer set” consisting of:
• The Gap, Inc.,
• Guess?, Inc.,
• Limited Brands, Inc.,
• PVH Corporation,
• Ralph Lauren Corporation,
• Tiffany & Co.,
• V.F. Corporation, and
• Williams-Sonoma, Inc.
Coach management selected the “revised peer set” on an industry/line-of-business basis and believes these companies represent good faith comparables based on their history, size, and business models in relation to Coach, Inc.
The graph assumes that $100 was invested on June 29, 2007 at the per share closing price in each of Coach’s common stock, the S&P 500 Stock Index and a “former peer set” and “revised peer set” index compiled by us tracking the peer group companies listed above, and that all dividends were reinvested. The stock performance shown in the graph is not intended to forecast or be indicative of future performance.
Stock Repurchase Program The Company’s share repurchases during the fourth quarter of fiscal 2012 were as follows:
(1) The Company repurchases its common shares under repurchase programs that were approved by the Board as follows:
ITEM 6. SELECTED FINANCIAL DATA (dollars and shares in thousands, except per share data) The selected historical financial data presented below as of and for each of the fiscal years in the five-year period ended June 30, 2012 have been derived from Coach’s audited Consolidated Financial Statements. The financial data should be read in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” the Consolidated Financial Statements and Notes thereto and other financial data included elsewhere herein.
(1) Coach’s fiscal year ends on the Saturday closest to June 30. Fiscal years 2012, 2011, 2009, and 2008 were each 52-week years. Fiscal year 2010 was a 53-week year.
(2) During fiscal years 2012, 2011, 2009 and 2008, the Company recorded certain items which affect the comparability of our results. The following tables reconcile the as reported results to such results excluding these items. See Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” for further information about these items.
(3) During fiscal 2008, the Company had income from discontinued operations in connection with exiting its corporate accounts business. There were no discontinued operations in fiscal years 2012, 2011, 2010 or 2009.
(4) During the fourth quarter of fiscal 2009, the Company initiated a cash dividend at an annual rate of $0.30 per share. During the fourth quarter of fiscal 2010, the Company increased the cash dividend to an annual rate of $0.60 per share. During the fourth quarter of fiscal 2011, the Company increased the cash dividend to an annual rate of $0.90 per share. During the fourth quarter of fiscal 2012, the Company increased the cash dividend to an expected annual rate $1.20 per share.
(5) During fiscal 2009, the Company acquired its domestic retail businesses in Hong Kong, Macau and mainland China from its former distributor, the ImagineX group. Prior to the acquisitions, these locations were operated by the ImagineX group. During fiscal 2012, the Company acquired its domestic retail businesses in Singapore and Taiwan from their former distributors, Valiram Group and Tasa Meng, respectively. Prior to the acquisitions, these locations were operated by these distributors. See the Acquisitions note presented in the Notes to the Consolidated Financial Statements.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion of Coach’s financial condition and results of operations should be read together with Coach’s financial statements and notes to those statements, included elsewhere in this document. When used herein, the terms “Coach,” “Company,” “we,” “us” and “our” refer to Coach, Inc., including consolidated subsidiaries.
EXECUTIVE OVERVIEW Coach is a leading American marketer of fine accessories and gifts for women and men. Our product offerings include women’s and men’s bags, accessories, business cases, footwear, wearables, jewelry, sunwear, travel bags, watches and fragrance. Coach operates in two segments: Direct-to-Consumer and Indirect. The Direct-to-Consumer segment includes sales to consumers through Coach-operated stores in North America; Japan; Hong Kong, Macau and mainland China; Taiwan; Singapore and the Internet. Beginning with the first quarter of fiscal 2013, this segment also includes Coach-operated stores in Malaysia and Korea. The Indirect segment includes sales to wholesale customers and distributors in over 20 countries, including the United States, and royalties earned on licensed product. As Coach’s business model is based on multi-channel international distribution, our success does not depend solely on the performance of a single channel or geographic area.
In order to sustain growth within our global framework, we continue to focus on two key growth strategies: increased global distribution, with an emphasis on North America and China, and improved store sales productivity. To that end we are focused on four key initiatives:
• Growing our Women’s business in North America through the growing accessories market and by increasing our North American retail store base by opening stores in new markets and adding stores in under-penetrated existing markets. We believe that North America can support about 500 retail stores in total, including up to 30 in Canada. We expect to open about 10 net new retail stores and 18 factory outlets in fiscal 2013. The pace of our future retail store openings will depend upon the economic environment and will reflect opportunities in the marketplace. In addition, as part of our culture of innovation and continuous improvement, we have implemented a number of initiatives to accelerate the level of newness, elevate our product offering and enhance the in-store experience. These initiatives will enable us to maximize productivity and continue to leverage our leadership position in the market.
• Leverage the global opportunity for the Coach brand by raising brand awareness and building market share in markets in which Coach is under-penetrated, most notably in Asia, where China is our largest geographic growth opportunity, given the size of the market, its rate of growth, and our increasing brand awareness. We currently plan to open about 30 new locations in China during fiscal 2013, with the majority in mainland China. We will continue to expand market share with the Japanese consumer, driving growth in Japan primarily by opening new retail locations. We currently plan to open approximately 13 net new locations, most notably Men’s locations, during fiscal 2013. In addition to the acquisitions of our Singapore and Taiwan businesses during fiscal 2012, and consistent with our strategy of directly operating key Asian markets, we have acquired our domestic businesses in Korea and Malaysia subsequent to the end of fiscal 2012. Outside of Asia, we are developing the brand opportunity as we expand into Europe and South America.
• Focus on the Men’s opportunity for the brand, notably in North America and Asia, while drawing on our long heritage in the category. We have implemented a number of initiatives to elevate our Men’s product offering through image-enhancing and accessible locations. We are leveraging the Men’s opportunity by opening new locations in both full-price and factory, and as a productivity driver with a broadened assortment, dual-gender stores and shop-in-shop store executions.
• Raise brand awareness and maximize e-commerce sales through our digital strategy, coach.com, our global e-commerce sites and programs, third-party flash sites, marketing sites and social networking. Our e-commerce programs include an invitation-only factory flash site targeted towards our most loyal Factory exclusive customers. The Company utilizes and continues to explore implementing
new technologies such as our global web presence, with 22 marketing websites in 23 countries, e-commerce enabled in the United States, Canada and Japan, and social networking and blogs as cost-effective consumer communication opportunities to increase online and store sales.
We believe the growth strategies described above will allow us to deliver long-term superior returns on our investments and drive increased cash flows from operating activities. However, the current macroeconomic environment, while stabilizing, has created a challenging retail market in which consumers, notably in North America and Japan, are still cautious. The Company believes long-term growth can still be achieved through a combination of expanded distribution, a focus on innovation to support productivity and disciplined expense control. Our multi-channel distribution model is diversified and includes substantial international and factory businesses, which reduces our reliance upon our full-price U.S. business. With an essentially debt-free balance sheet and significant cash position, we have a business model that generates significant cash flow and we are in a position to invest in our brand while continuing to return capital to shareholders through common stock repurchases and dividends.
FISCAL 2012 The key metrics of fiscal 2012 were:
• Earnings per diluted share rose 20.9% to $3.53.
• Net sales increased 14.5% to $4.76 billion.
• Direct-to-consumer sales rose 16.1% to $4.23 billion.
• Comparable sales in Coach’s North American stores increased 6.6%.
• In North America, Coach opened 9 net new retail stores and 26 new factory stores, including 16 Men’s, bringing the total number of retail and factory stores to 354 and 169, respectively, at the end of fiscal 2012. We also expanded 10 factory stores in North America.
• Coach China results continued to be strong with double-digit growth in comparable stores. Coach China opened 30 net new locations, bringing the total number of locations at the end of fiscal 2012 to 96.
• Coach Japan opened 11 net new locations, bringing the total number of locations at the end of fiscal 2012 to 180. In addition, we expanded three locations.
• The company acquired its domestic retail Coach businesses in Taiwan and Singapore. As the result of these acquisitions and subsequent openings, the company operated 7 retail locations in Singapore and 27 in Taiwan as of the end of fiscal 2012. The Company has assumed direct control of its domestic business in Malaysia in July 2012 and its domestic retail business in Korea in August 2012.
• Coach’s Board increased the Company’s cash dividend by 33%, to an expected annual rate of $1.20 per share starting with the dividend paid on July 2, 2012.
FISCAL 2012 COMPARED TO FISCAL 2011 The following table summarizes results of operations for fiscal 2012 compared to fiscal 2011:
Net Sales The following table presents net sales by operating segment for fiscal 2012 compared to fiscal 2011:
Direct-to-Consumer - Net sales increased 16.1% to $4.23 billion during fiscal 2012 from $3.65 billion during fiscal 2011, driven by sales increases in our Company-operated stores in North America and China.
Comparable store sales measure sales performance at stores that have been open for at least 12 months, and includes sales from coach.com. Coach excludes new locations from the comparable store base for the first year of operation. Similarly, stores that are expanded by 15% or more are also excluded from the comparable store base until the first anniversary of their reopening. Stores that are closed for renovations are removed from the comparable store base.
In North America, net sales increased 12.7% driven by sales from new and expanded stores and by a 6.6% increase in comparable store sales. During fiscal 2012, Coach opened 9 net new retail stores and 26 new factory stores, and expanded 10 factory stores in North America. In Japan, net sales increased 11.7% driven by an approximately $40.1 million, or 5.3%, positive impact from foreign currency exchange. During fiscal 2012, Coach opened 11 net new locations and expanded three locations in Japan. Coach China results continued to be strong with double-digit percentage growth in comparable store sales. During fiscal 2012, Coach opened 30 net new stores in Hong Kong and mainland China.
Indirect - Net sales increased 3.8% to $531.5 million from $512.1 million in fiscal 2011. The increase was driven primarily by a 7.9% increase in Coach International Wholesale net revenue, partially offset by a 1.6% decrease in U.S. Wholesale net revenue. Licensing revenue of approximately $28.5 million and $24.7 million in fiscal 2012 and fiscal 2011, respectively, is included in Indirect sales.
Operating Income Operating income increased 15.9% to $1.51 billion in fiscal 2012 as compared to $1.30 billion in fiscal 2011. Excluding items affecting comparability of $39.2 million in fiscal 2012 and $25.7 million in fiscal 2011, operating income increased 16.6% to $1.55 billion. Operating margin increased to 31.7% as compared to 31.4% in the prior year, as gross margin increased while selling, general, and administrative (“SG&A”) expenses decreased as a percentage of sales. Excluding items affecting comparability, operating margin was 32.6% in fiscal 2012 as compared to 32.0% in fiscal 2011.
Gross profit increased 14.6% to $3.47 billion in fiscal 2012 from $3.02 billion in fiscal 2011. Gross margin was 72.8% in fiscal 2012 as compared to 72.7% during fiscal 2011. Coach’s gross profit is dependent upon a variety of factors, including changes in the relative sales mix among distribution channels, changes in the mix of products sold, foreign currency exchange rates and fluctuations in material costs. These factors, among others may cause gross profit to fluctuate from year to year.
SG&A expenses are comprised of four categories: (1) selling; (2) advertising, marketing and design; (3) distribution and consumer service; and (4) administrative. Selling expenses include store employee compensation, store occupancy costs, store supply costs, wholesale account administration compensation and all Coach Japan, Coach China, Coach Singapore and Coach Taiwan operating expenses. These expenses are affected by the number of Coach-operated stores in North America; Japan; Hong Kong, Macau, mainland China; Taiwan and Singapore open during any fiscal period. Advertising, marketing and design expenses include employee compensation, media space and production, advertising agency fees, new product design costs, public relations and market research expenses. Distribution and consumer service expenses include warehousing, order fulfillment, shipping and handling, customer service and bag repair costs. Administrative expenses include compensation costs for the executive, finance, human resources, legal and information systems departments, corporate headquarters occupancy costs, consulting and software expenses. SG&A expenses increase as the number of Coach-operated stores increase, although an increase in the number of stores generally results in the fixed portion of SG&A expenses being spread over a larger sales base.
Coach, similar to some companies, includes certain costs related to our distribution network in selling, general and administrative expenses rather than in cost of sales; for this reason, our gross margins may not be comparable to that of entities that include all costs related to their distribution network in cost of sales.
During fiscal 2012, SG&A expenses increased 13.7% to $1.95 billion, compared to $1.72 billion during fiscal 2011. Excluding items affecting comparability of $39.2 million in fiscal 2012 and $25.7 million in fiscal 2011, SG&A expenses were $1.91 billion and $1.69 billion, respectively. As a percentage of net sales, SG&A expenses were 41.0% and 41.3% during fiscal 2012 and fiscal 2011, respectively. Excluding items affecting comparability during fiscal 2012 and fiscal 2011, SG&A expenses as a percentage of net sales were 40.2% and 40.7%, respectively, as we leveraged our selling expense base on higher sales.
Selling expenses were $1.36 billion, or 28.5% of net sales compared to $1.18 billion, or 28.5% of net sales, during fiscal 2011. The dollar increase in selling expenses was due to higher operating expenses in Coach China and North American stores due to higher sales and new store openings. Coach Japan operating expenses decreased by $0.4 million in constant currency, but was more than offset by the impact of foreign currency exchange rates which increased reported expenses by approximately $15.2 million.
Advertising, marketing, and design costs were $245.2 million, or 5.1% of net sales, compared to $224.4 million, or 5.4% of net sales, during fiscal 2011. The dollar increase was primarily due to marketing expenses related to consumer communications, which includes our digital strategy through coach.com, our global e-commerce sites, third-party flash sites, marketing sites and social networking. The Company operates marketing websites in 23 countries, and utilizes social networking and blogs as cost-effective consumer communication opportunities to increase online and store sales and build brand awareness. Also contributing to the increase were new design expenditures and development costs for new merchandising initiatives.
Distribution and consumer service expenses were $68.9 million, or 1.4% of net sales, compared to $58.2 million, or 1.4% of net sales, during fiscal 2011.
Administrative expenses were $282.2 million, or 5.9% of net sales, compared to $252.4 million, or 6.1% of net sales, during fiscal 2011. Excluding items affecting comparability of $39.2 in fiscal 2012 and
$25.7 million in fiscal 2011, expenses were $243.0 million and $226.7 million, respectively, representing 5.1% and 5.5% of net sales, respectively. The dollar increase in administrative expenses was primarily due to increased headcount and systems investment, largely due to our international expansion.
Provision for Income Taxes The effective tax rate was 31.0% in fiscal 2012 compared to 32.3% in fiscal 2011. During the second quarter of fiscal 2012, the Company recorded the effect of a revaluation of certain deferred tax asset balances due to a change in Japan’s corporate tax laws and the favorable completion of a multi-year transfer pricing agreement with Japan. Also, during the fourth quarter of fiscal 2012, the Company recognized a favorable tax settlement. As a result, it made charitable contributions which precisely offset the benefit of the tax settlement to net income and earnings per share. During the third quarter of fiscal 2011, the Company decreased the provision for income taxes primarily as a result of a favorable settlement of a multi-year tax return examination. Excluding the benefit from these items affecting comparability, the effective tax rate was 32.8% in fiscal 2012 and 33.6% in fiscal 2011. The decrease in the effective tax rate is also attributable to higher profitability in lower tax rate jurisdictions in which income is earned, due to the increased globalization of the Company, and a lower effective state tax rate.
Net Income Net income was $1.04 billion in fiscal 2012 compared to $880.8 million in fiscal 2011. The increase was due to the higher operating income and a reduction of the effective tax rate.
FISCAL 2011 COMPARED TO FISCAL 2010 The following table summarizes results of operations for fiscal 2011 compared to fiscal 2010:
Net Sales The following table presents net sales by operating segment for fiscal 2011 compared to fiscal 2010:
Direct-to-Consumer - Net sales increased 14.7% to $3.65 billion during fiscal 2011 from $3.18 billion during fiscal 2010, driven by sales increases in our Company-operated stores in North America and China. Net sales of fiscal 2010 included an additional week of sales, which represented approximately $62 million.
Comparable store sales measure sales performance at stores that have been open for at least 12 months, and includes sales from coach.com. Coach excludes new locations from the comparable store base for the first year of operation. Similarly, stores that are expanded by 15.0% or more are also excluded from the comparable store base until the first anniversary of their reopening. Stores that are closed for renovations are removed from the comparable store base.
In North America, net sales increased 14.4% driven by sales from new and expanded stores and by a 10.6% increase in comparable store sales. During fiscal 2011, Coach opened three net new retail stores and 22 new factory stores, and expanded six factory stores in North America. In Japan, net sales increased 5.1% driven by an approximately $69.8 million, or 9.8%, positive impact from foreign currency exchange. During fiscal 2011, Coach opened eight net new locations and expanded three locations in Japan. Coach China results continued to be strong with double-digit percentage growth in comparable store sales. During fiscal 2011, Coach opened 25 net new stores in Hong Kong and mainland China.
Indirect - Net sales increased 19.4% to $512.1 million from $428.9 million in fiscal 2010. The increase was driven primarily by an 18.4% increase in Coach International Wholesale and U.S. Wholesale net revenue. The net sales increase was partially offset by an additional week of sales in fiscal 2010, which represented approximately $8 million. Licensing revenue of approximately $24.7 million and $19.2 million in fiscal 2011 and fiscal 2010, respectively, is included in Indirect sales.
Operating Income Operating income increased 13.5% to $1.30 billion in fiscal 2011 as compared to $1.15 billion in fiscal 2010. Excluding items affecting comparability of $25.7 million in fiscal 2011, operating income increased 15.7% to $1.33 billion. Operating margin decreased to 31.4% as compared to 31.9% in the prior year, as gross margin decreased while selling, general, and administrative (“SG&A”) expenses slightly increased as a percentage of sales. Excluding items affecting comparability, operating margin was 32.0% in fiscal 2011.
Gross profit increased 14.8% to $3.02 billion in fiscal 2011 from $2.63 billion in fiscal 2010. Gross margin was 72.7% in fiscal 2011 as compared to 73.0% during fiscal 2010. Coach’s gross profit is dependent upon a variety of factors, including changes in the relative sales mix among distribution channels, changes in the mix of products sold, foreign currency exchange rates and fluctuations in material costs. These factors, among, others may cause gross profit to fluctuate from year to year.
SG&A expenses are comprised of four categories: (1) selling; (2) advertising, marketing and design; (3) distribution and consumer service; and (4) administrative. Selling expenses include store employee compensation, store occupancy costs, store supply costs, wholesale account administration compensation and all Coach Japan and Coach China operating expenses. These expenses are affected by the number of Coach-operated stores in North America; Japan; Hong Kong, Macau and mainland China open during any fiscal period. Advertising, marketing and design expenses include employee compensation, media space and production, advertising agency fees, new product design costs, public relations and market research expenses. Distribution and consumer service expenses include warehousing, order fulfillment, shipping and handling, customer service and bag repair costs. Administrative expenses include compensation costs for the executive, finance, human resources, legal and information systems departments, corporate headquarters occupancy costs, consulting and software expenses. SG&A expenses increase as the number of Coach-operated stores increase, although an increase in the number of stores generally results in the fixed portion of SG&A expenses being spread over a larger sales base.
Coach, similar to some companies, includes certain costs related to our distribution network in selling, general and administrative expenses rather than in cost of sales; for this reason, our gross margins may not be comparable to that of entities that include all costs related to their distribution network in cost of sales.
During fiscal 2011, SG&A expenses increased 15.8% to $1.72 billion, compared to $1.48 billion during fiscal 2010. Excluding items affecting comparability of $25.7 million in fiscal 2011, SG&A expenses were $1.69 billion. As a percentage of net sales, SG&A expenses were 41.3% and 41.1% during fiscal 2011 and fiscal 2010, respectively. Excluding items affecting comparability during fiscal 2011, SG&A expenses as a percentage of net sales were 40.7% as we leveraged our selling expense base on higher sales.
Selling expenses were $1.18 billion, or 28.5% of net sales compared to $1.05 billion, or 29.1% of net sales, during fiscal 2010. The dollar increase in selling expenses was due to higher operating expenses in Coach China and North American stores due to higher sales and new store openings. Additionally, selling expenses of Reed Krakoff stores contributed to the dollar increase since the brand was not launched until the beginning of fiscal 2011. Coach China and North American store expenses as a percentage of sales decreased primarily due to operating efficiencies and sales leverage. The decrease in Coach Japan operating expenses in constant currency of $10.2 million was offset by the impact of foreign currency exchange rates which increased reported expenses by approximately $33.5 million.
Advertising, marketing, and design costs were $224.4 million, or 5.4% of net sales, compared to $179.4 million, or 5.0% of net sales, during fiscal 2010. The increase was primarily due to new design expenditures and development costs for new merchandising initiatives. Also contributing to the increase were marketing expenses related to consumer communications, which includes our digital strategy through coach.com, our global e-commerce sites, marketing sites and social networking. The Company utilizes and continues to explore implementing new technologies such as our global web presence, with marketing websites in 23 countries, social networking and blogs as cost-effective consumer communication opportunities to increase on-line and store sales and build brand awareness.
Distribution and consumer service expenses were $58.2 million, or 1.4% of net sales, compared to $48.0 million, or 1.3% of net sales, during fiscal 2010. To support our growth in China and the region, during
the second half of fiscal 2010 we established an Asia distribution center in Shanghai, owned and operated by a third-party, allowing us to better manage the logistics in this region. During fiscal 2011, the Asia distribution center contributed to the increase in distribution and consumer service expenses; however in the long run, the Company expects the Asia distribution center to reduce costs as a percentage of net sales.
Administrative expenses were $252.4 million, or 6.1% of net sales, compared to $204.0 million, or 5.7% of net sales, during fiscal 2010. Excluding items affecting comparability of $25.7 million in fiscal 2011, expenses were $226.7 million, representing 5.5% of net sales. The increase in administrative expenses was primarily due to higher share-based and performance-based compensation.
Provision for Income Taxes The effective tax rate was 32.3% in fiscal 2011 compared to 36.5% in fiscal 2010. Excluding the benefit from the items affecting comparability, the effective tax rate was 33.6% in fiscal 2011. The decrease in the effective tax rate is primarily attributable to a favorable settlement of a multi-year tax return examination and higher profitability in lower tax rate jurisdictions in which income is earned, due to the increased globalization of the Company, and a lower effective state tax rate.
Net Income Net income was $880.8 million in fiscal 2011 compared to $734.9 million in fiscal 2010. The increase was due to the higher operating income and a reduction of the effective tax rate.
FISCAL 2012, FISCAL 2011, FISCAL 2009 AND FISCAL 2008 ITEMS AFFECTING COMPARABILITY OF OUR FINANCIAL RESULTS Non-GAAP Measures The Company’s reported results are presented in accordance with U.S. Generally Accepted Accounting Principles (“GAAP”). The reported SG&A expenses, operating income, and provision for income taxes in fiscal 2012 and 2011 reflect certain items which affect the comparability of our results. Similarly, the reported SG&A expenses, operating income, provision for income taxes, income from continuing operations, net income and earnings per diluted share from continuing operations in both fiscal 2009 and fiscal 2008 reflect certain items which affect the comparability of our results. These metrics are also reported on a non-GAAP basis for these fiscal years to exclude the impact of these items.
These non-GAAP performance measures were used by management to conduct and evaluate its business during its regular review of operating results for the periods affected. Management and the Company’s Board utilized these non-GAAP measures to make decisions about the uses of Company resources, analyze performance between periods, develop internal projections and measure management performance. The Company’s primary internal financial reporting excluded these items affecting comparability. In addition, the compensation committee of the Company’s Board used these non-GAAP measures when setting and assessing achievement of incentive compensation goals.
We believe these non-GAAP measures are useful to investors in evaluating the Company’s ongoing operating and financial results and understanding how such results compare with the Company’s historical performance. In addition, we believe excluding the items affecting comparability assists investors in developing expectations of future performance. These items affecting comparability do not represent the Company’s direct, ongoing business operations. By providing the non-GAAP measures, as a supplement to GAAP information, we believe we are enhancing investors’ understanding of our business and our results of operations. The non-GAAP financial measures are limited in their usefulness and should be considered in addition to, and not in lieu of, U.S. GAAP financial measures. Further, these non-GAAP measures may be unique to the Company, as they may be different from non-GAAP measures used by other companies.
The year-over-year comparisons of our financial results are affected by the following items included in our reported results:
Fiscal 2012 Items Charitable Contributions and Tax Adjustments During fiscal 2012, the Company decreased the provision for income taxes by $23.9 million, primarily as a result of recording the effect of a revaluation of certain deferred tax asset balances due to a change in Japan’s corporate tax laws and the favorable settlement of a multi-year transfer pricing agreement with Japan. The Company used the net income favorability to contribute an aggregate $39.2 million to the Coach Foundation. The Company believed that in order to reflect the direct results of the normal, ongoing business operations, both the tax adjustments and the resulting Coach Foundation funding needed to be adjusted. This exclusion is consistent with the way management views its results and is the basis on which incentive compensation was calculated for fiscal 2012.
Fiscal 2011 Items Charitable Contributions and Tax Adjustments During the third quarter of fiscal 2011, the Company decreased the provision for income taxes by $15.5 million, primarily as a result of a favorable settlement of a multi-year tax return examination. The Company used the net income favorability to contribute $20.9 million to the Coach Foundation and 400 million yen or $4.8 million to the Japanese Red Cross Society. The Company believed that in order to reflect the direct results of the normal, ongoing business operations, both the tax adjustments and the resulting Coach Foundation funding and Japanese Red Cross Society contribution needed to be adjusted. This exclusion is consistent with the way management views its results and is the basis on which incentive compensation was calculated and paid for fiscal 2011.
Fiscal 2009 Items Cost Savings Measures During the third quarter of fiscal 2009, the Company recorded a charge of $13.4 million, related to cost savings initiatives. These initiatives included the elimination of approximately 150 positions from the Company’s corporate offices in New York, New Jersey and Jacksonville, the closure of four underperforming retail stores and the closure of Coach Europe Services, the Company’s sample-making facility in Italy. Prior to these cost savings measures in fiscal 2009, the Company had no recent past history of similar elimination of positions, closure of facilities, or closure of underperforming stores during the stores’ lease terms.
Charitable Contribution and Tax Adjustments During the fourth quarter of fiscal 2009, the Company decreased the provision for income taxes by $18.8 million, primarily as a result of a favorable settlement of a multi-year tax return examination and other tax accounting adjustments. The underlying events and circumstances for the tax settlement and adjustments were not related to the fiscal 2008 settlement. The Company used the net income favorability to contribute $15.0 million to the Coach Foundation. The Company believed that in order to reflect the direct results of the normal, ongoing business operations, both the tax adjustments and the resulting foundation funding needed to be adjusted. This exclusion is consistent with the way management views its results and is the basis on which incentive compensation was calculated and paid for fiscal 2009.
Fiscal 2008 Items Charitable Contribution and Tax Adjustments During the fourth quarter of fiscal 2008, the Company decreased the provision for income taxes by $60.6 million, primarily as a result of a favorable settlement of a tax return examination. The underlying events and circumstances for the tax settlement were not related to the fiscal 2009 settlement. The Company used the net income favorability to create the Coach Foundation. The Company recorded an initial contribution to the Coach Foundation in the amount of $20.0 million. The Company believed that in order to reflect the direct results of the business operations as was done for executive management incentive compensation, both the tax adjustments and the resulting foundation funding needed to be adjusted.
Variable Expenses As a result of the lower income tax provision, the Company incurred additional incentive compensation expense of $12.1 million, as a portion of the Company’s incentive compensation plan is based on net income and earnings per share. Incremental incentive compensation driven by tax settlements of this magnitude is unlikely to recur in the near future as the Company has modified its incentive compensation plans during fiscal 2009 to be measured exclusive of any unusual accounting adjustments. The Company believes excluding these variable expenses, which were directly linked to the tax settlements, assists investors in evaluating the Company’s direct, ongoing business operations.
Currency Fluctuation Effects The percentage increase in sales and U.S. dollar increases in operating expenses in fiscal 2012 and fiscal 2011 for Coach Japan have been presented both including and excluding currency fluctuation effects from translating these foreign-denominated amounts into U.S. dollars and comparing these figures to the same periods in the prior fiscal year.
We believe that presenting Coach Japan sales and operating expense increases, including and excluding currency fluctuation effects, will help investors and analysts to understand the effect on these valuable performance measures of significant year-over-year currency fluctuations.
FINANCIAL CONDITION Cash Flow Net cash provided by operating activities was $1.22 billion in fiscal 2012 compared to $1.03 billion in fiscal 2011. The increase of $188.4 million was primarily due to the $158.1 million increase in net income as well as the result of working capital changes between the two fiscal years, the most significant of which
occurred in inventories, accrued liabilities and other liabilities. Increases in inventory balances in fiscal 2012 resulted in the use of cash of $71.7 million as compared to $64.7 million in fiscal 2011, primarily due to the Company’s international expansion. Changes during the year in accrued liabilities balances provided cash of $84.2 million in fiscal 2012, compared to $53.7 million in fiscal 2011, driven primarily by the timing of certain expenses and tax payments. Changes in other liabilities balances resulted in a use of cash of $17.6 million in fiscal 2012 compared to a cash source of $13.4 million in fiscal 2011, primarily due to the timing of certain cash payments.
Net cash used in investing activities was $259.4 million in fiscal 2012 compared to $59.6 million in fiscal 2011, with the increase of $199.8 million largely driven by acquisitions, higher planned capital investment, and the timing of cash investments. During fiscal 2012, the Company acquired 100% of its domestic retail businesses in Singapore and Taiwan from the former distributors for an aggregate $53.2 million, net of cash acquired. Purchases of property and equipment were $184.3 million in fiscal 2012, which was $36.6 million higher than fiscal 2011, reflecting planned increased capital investment. In addition, during fiscal 2012, the Company provided $24.1 million of loan advances in connection with its European joint venture operations, to fund expansion plans in the region.
Net cash used in financing activities was $741.9 million in fiscal 2012 as compared to $875.1 million in fiscal 2011. The decrease of $133.2 million was primarily attributable to $398.0 million less expended for common stock repurchases, partially offset by $192.4 million lower net proceeds from exercises of share based awards and $82.2 million higher dividend payments in fiscal 2012, due to the higher dividend payment rate.
Revolving Credit Facilities Through June 18, 2012, the Company maintained a $100 million revolving credit facility with certain lenders and Bank of America, N.A. as the primary lender and administrative agent (the “Bank of America facility”). At Coach’s request and lenders’ consent, the Bank of America facility was able to be expanded to $200 million and also extended for two additional one-year periods.
Coach paid a commitment fee of 6 to 12.5 basis points on the Bank of America facility on any unused amounts and interest of LIBOR plus 20 to 55 basis points on any outstanding borrowings. Both the commitment fee and the LIBOR margin were based on the Company’s fixed charge coverage ratio.
Coach’s Bank of America facility was available for seasonal working capital requirements or general corporate purposes and could be prepaid without penalty or premium. During fiscal 2012 and fiscal 2011 there were no borrowings under the Bank of America facility. Accordingly, as of July 2, 2011, there were no outstanding borrowings under the Bank of America facility.
The Bank of America facility contained various covenants and customary events of default. Coach was in compliance with all covenants of the Bank of America facility since its inception through its termination.
On June 18, 2012, the Company terminated the Bank of America facility and replaced it with a new, $400 million revolving credit facility with certain lenders and JP Morgan Chase Bank, N.A. as the primary lender and administrative agent (the “JP Morgan facility”). The JP Morgan facility may also be used to finance the working capital needs, capital expenditures, certain investments, share repurchases, dividends, and other general corporate purposes of the Company and its subsidiaries (which may include commercial paper back-up), and expires in June 2017. At Coach’s request and lenders’ consent, revolving commitments of the JP Morgan facility may be expanded to $650 million. As of June 30, 2012, there were no outstanding borrowings on the JP Morgan facility, and the borrowing capacity was $393 million, due to outstanding letters of credit.
Borrowings under the JP Morgan Facility bear interest at a rate per annum equal to, at Coach’s option, either (a) an alternate base rate or (b) a rate based on the rates applicable for deposits in the interbank market for U.S. dollars or the applicable currency in which the loans are made (the “Adjusted LIBO Rate”) plus an applicable margin. The applicable margin for Adjusted LIBO Rate loans will be adjusted by reference to a grid (the “Pricing Grid”) based on the ratio of (a) consolidated debt plus 800% of consolidated lease expense to (b) consolidated EBITDAR (“Leverage Ratio”). Additionally, Coach will pay a commitment fee, calculated
at a rate per annum determined in accordance with the Pricing Grid, on the average daily unused amount of the JP Morgan Facility, and certain fees with respect to letters of credit that are issued. At June 30, 2012, the commitment fee was nine basis points.
The JP Morgan facility contains various covenants and customary events of default. Coach has been in compliance with all covenants of the facility since its inception.
To provide funding for working capital and general corporate purposes, Coach Japan has available credit facilities with several Japanese financial institutions. These facilities allow a maximum borrowing of 4.1 billion yen, or approximately $52 million, at June 30, 2012. Interest is based on the Tokyo Interbank rate plus a margin of 27.5 to 30 basis points. During fiscal 2012 and 2011, the peak borrowings were $0 and $27.1 million, respectively. As of June 30, 2012 and July 2, 2011, there were no outstanding borrowings under the Japanese credit facilities.
To provide funding for working capital and general corporate purposes, Coach Shanghai Limited has a credit facility that allows a maximum borrowing of 63 million Chinese renminbi, or approximately $10 million, at June 30, 2012. Interest is based on the People's Bank of China rate. During fiscal 2012 and fiscal 2011, there were no borrowings under this credit facility. Accordingly, at June 30, 2012 and July 2, 2011, there were no outstanding borrowings under this facility.
Common Stock Repurchase Program During fiscal 2011, the Company completed its $1.0 billion common stock repurchase program, which was put into place in April 2010. In January 2011, the Board approved a new common stock repurchase program to acquire up to $1.5 billion of Coach’s outstanding common stock through June 2013. Purchases of Coach common stock are made subject to market conditions and at prevailing market prices, through open market purchases. Repurchased shares become authorized but unissued shares and may be issued in the future for general corporate and other uses. The Company may terminate or limit the stock repurchase program at any time.
During fiscal 2012 and fiscal 2011, the Company repurchased and retired 10.7 million and 20.4 million shares, respectively, or $0.70 billion and $1.10 billion of common stock, respectively, at an average cost of $65.49 and $53.81, respectively. As of June 30, 2012, $261.6 million remained available for future purchases under the existing program.
Liquidity and Capital Resources In fiscal 2012, total capital expenditures were $184.3 million related primarily to new stores and corporate infrastructure in North America, China, and Japan which accounted for approximately $58.4 million, $35.4, and $10.4 million, respectively, of total capital expenditures. Spending on department store renovations and distributor locations accounted for approximately $9.9 million of the total capital expenditures. The remaining capital expenditures related to corporate systems and infrastructure. These investments were financed from on hand cash and operating cash flows.
For the fiscal year ending June 29, 2013, the Company expects total capital expenditures to be approximately $250 million. Capital expenditures will be primarily for new stores in North America, Asia and technology to support our global expansion. We will also continue to invest in corporate infrastructure and department store and distributor locations. These investments will be financed primarily from on hand cash and operating cash flows.
Coach experiences significant seasonal variations in its working capital requirements. During the first fiscal quarter Coach builds inventory for the holiday selling season, opens new retail stores and generates higher levels of trade receivables. In the second fiscal quarter its working capital requirements are reduced substantially as Coach generates consumer sales and collects wholesale accounts receivable. In fiscal 2012, Coach purchased approximately $1.4 billion of inventory, which was primarily funded by on hand cash and operating cash flows.
Management believes that cash flow from operations and on hand cash will provide adequate funds for the foreseeable working capital needs, planned capital expenditures, dividend payments and the common stock repurchase program. Any future acquisitions, joint ventures or other similar transactions may require additional
capital. There can be no assurance that any such capital will be available to Coach on acceptable terms or at all. Coach’s ability to fund its working capital needs, planned capital expenditures, dividend payments and scheduled debt payments, as well as to comply with all of the financial covenants under its debt agreements, depends on its future operating performance and cash flow, which in turn are subject to prevailing economic conditions and to financial, business and other factors, some of which are beyond Coach’s control.
Commitments At June 30, 2012, the Company had letters of credit available of $600 million, of which $215.4 million were outstanding. These letters of credit, which expire at various dates through 2014, primarily collateralize the Company’s obligation to third parties for the purchase of inventory.
Contractual Obligations As of June 30, 2012, Coach’s long-term contractual obligations are as follows:
(1) Represents the Company’s legally binding agreements related to capital expenditures.
(2) Represents the Company’s legally binding agreements to purchase finished goods.
(3) Amounts presented include interest payment obligations.
The table above excludes the following: amounts included in current liabilities, other than the current portion of long-term debt, in the Consolidated Balance Sheet at June 30, 2012 as these items will be paid within one year; long-term liabilities not requiring cash payments and cash contributions for the Company’s pension plans. The Company intends to contribute approximately $0.4 million to its pension plans during the next year. The above table also excludes reserves recorded in accordance with the Financial Accounting Standards Board’s (“FASB”) guidance for accounting for uncertainty in income taxes which has been codified within Accounting Standards Codification (“ASC”) 740, as we are unable to reasonably estimate the timing of future cash flows related to these reserves.
Coach does not have any off-balance-sheet financing or unconsolidated special purpose entities. Coach’s risk management policies prohibit the use of derivatives for trading or speculative purposes. The valuation of financial instruments that are marked-to-market are based upon independent third-party sources.
Long-Term Debt Coach is party to an Industrial Revenue Bond related to its Jacksonville, Florida distribution and consumer service facility. This loan has a remaining balance of $1.4 million and bears interest at 4.5%. Principal and interest payments are made semiannually, with the final payment due in 2014.
During fiscal 2009, Coach assumed a mortgage in connection with the purchase of its corporate headquarters building in New York City. This mortgage bears interest at 4.68%. Interest payments are made monthly and principal payments began in July 2009, with the final payment of $21.6 million due in June 2013. As of June 30, 2012, the remaining balance on the mortgage was $21.9 million.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions. Predicting future events is
inherently an imprecise activity and, as such, requires the use of judgment. Actual results may vary from estimates in amounts that may be material to the financial statements. The development and selection of the Company’s critical accounting policies and estimates are periodically reviewed with the Audit Committee of the Board.
The accounting policies discussed below are considered critical because changes to certain judgments and assumptions inherent in these policies could affect the financial statements. For more information on Coach’s accounting policies, please refer to the Notes to Consolidated Financial Statements.
Income Taxes The Company’s effective tax rate is based on pre-tax income, statutory tax rates, tax laws and regulations, and tax planning strategies available in the various jurisdictions in which Coach operates. Deferred tax assets are reported at net realizable value, as determined by management. Significant management judgment is required in determining the effective tax rate, in evaluating our tax positions and in determining the net realizable value of deferred tax assets. In accordance with ASC 740-10, the Company recognizes the impact of tax positions in the financial statements if those positions will more likely than not be sustained on audit, based on the technical merits of the position. Tax authorities periodically audit the Company’s income tax returns. Management believes that our tax filing positions are reasonable and legally supportable. However, in specific cases, various tax authorities may take a contrary position. A change in our tax positions or audit settlements could have a significant impact on our results of operations. For further information about income taxes, see the Income Taxes note presented in the Notes to the Consolidated Financial Statements.
Inventories The Company’s inventories are reported at the lower of cost or market. Inventory costs include material, conversion costs, freight and duties and are determined by the first-in, first-out method. The Company reserves for slow-moving and aged inventory based on historical experience, current product demand and expected future demand. A decrease in product demand due to changing customer tastes, buying patterns or increased competition could impact Coach’s evaluation of its slow-moving and aged inventory and additional reserves might be required. At June 30, 2012, a 10% change in the reserve for slow-moving and aged inventory would have resulted in an insignificant change in inventory and cost of goods sold.
Goodwill and Other Intangible Assets The Company evaluates goodwill and other indefinite life intangible assets annually for impairment. In order to complete our impairment analysis, we must perform a valuation analysis which includes determining the fair value of the Company’s reporting units based on discounted cash flows. This analysis contains uncertainties as it requires management to make assumptions and estimate the profitability of future growth strategies. The Company determined that there was no impairment in fiscal 2012, fiscal 2011 or fiscal 2010.
Long-Lived Assets Long-lived assets, such as property and equipment, are evaluated for impairment whenever events or circumstances indicate that the carrying value of the assets may not be recoverable. The evaluation is based on a review of forecasted operating cash flows and the profitability of the related asset group. An impairment loss is recognized if the forecasted cash flows are less than the carrying amount of the asset. The Company recorded an impairment loss in fiscal 2009 of $1.5 million related to the closure of three underperforming stores. The Company did not record any impairment losses in fiscal 2012, fiscal 2011 or fiscal 2010. However, as the determination of future cash flows is based on expected future performance, impairment could result in the future if expectations are not met.
Revenue Recognition Sales are recognized at the point of sale, which occurs when merchandise is sold in an over-the-counter consumer transaction or, for the wholesale channels, upon shipment of merchandise, when title passes to the customer. Revenue associated with gift cards is recognized upon redemption. The Company estimates the amount of gift cards that will not be redeemed or remitted as escheatable property, based on historical
redemption patterns and escheatment laws, and records such amounts as breakage revenue when we can determine the portion of the liability where redemption is remote, which is approximately two years after the gift card is issued. Revenue associated with gift card breakage is not material to the Company’s net operating results. Allowances for estimated uncollectible accounts, discounts and returns are provided when sales are recorded based upon historical experience and current trends. Royalty revenues are earned through license agreements with manufacturers of other consumer products that incorporate the Coach brand. Revenue earned under these contracts is recognized based upon reported sales from the licensee. At June 30, 2012, a 10% change in the allowances for estimated uncollectible accounts, discounts and returns would have resulted in an insignificant change in accounts receivable and net sales.
Share-Based Compensation The Company recognizes the cost of employee services received in exchange for awards of equity instruments, such as stock options, based on the grant-date fair value of those awards. The grant-date fair value of stock option awards is determined using the Black-Scholes option pricing model and involves several assumptions, including the expected term of the option, expected volatility and dividend yield. The expected term of options represents the period of time that the options granted are expected to be outstanding and is based on historical experience. Expected volatility is based on historical volatility of the Company’s stock as well as the implied volatility from publicly traded options on Coach’s stock. Dividend yield is based on the current expected annual dividend per share and the Company’s stock price. Changes in the assumptions used to determine the Black-Scholes value could result in significant changes in the Black-Scholes value. However, a 10% change in the Black-Scholes value would have resulted in an insignificant change in fiscal 2012 share-based compensation expense.
Recent Accounting Pronouncements In May 2011, Accounting Standards Codification 820-10 “Fair Value Measurements and Disclosures,” was amended to clarify certain disclosure requirements and improve consistency with international reporting standards. This amendment is to be applied prospectively and was effective for the Company beginning January 1, 2012. The adoption of this amendment did not have a material effect on the Company’s consolidated financial statements.
Accounting Standards Codification Topic 220, “Comprehensive Income,” was amended in June 2011 to require entities to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The amendment does not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income under current GAAP. This guidance is effective for the Company’s fiscal year and interim periods beginning July 1, 2012. The Company is currently evaluating this guidance, but does not expect its adoption to have a material effect on its consolidated financial statements.
In September 2011, Accounting Standards Codification 350-20, “Intangibles - Goodwill and Other - Goodwill,” was amended to allow entities to assess qualitative factors to determine if it is more-likely-than-not that goodwill might be impaired, and whether it is necessary to perform the two-step goodwill impairment test required under current accounting standards. This guidance is effective for the Company’s fiscal year beginning July 1, 2012. The Company does not expect its adoption to have a material effect on its consolidated financial statements.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The market risk inherent in our financial instruments represents the potential loss in fair value, earnings or cash flows arising from adverse changes in interest rates or foreign currency exchange rates. Coach manages these exposures through operating and financing activities and, when appropriate, through the use of derivative financial instruments with respect to Coach Japan and Coach Canada. The use of derivative financial instruments is in accordance with Coach’s risk management policies. Coach does not enter into derivative transactions for speculative or trading purposes.
The following quantitative disclosures are based on quoted market prices obtained through independent pricing sources for the same or similar types of financial instruments, taking into consideration the underlying
terms and maturities and theoretical pricing models. These quantitative disclosures do not represent the maximum possible loss or any expected loss that may occur, since actual results may differ from those estimates.
Foreign Currency Exchange Foreign currency exposures arise from transactions, including firm commitments and anticipated contracts, denominated in a currency other than the entity’s functional currency, and from foreign-denominated revenues and expenses translated into U.S. dollars.
Substantially all of Coach’s fiscal 2012 non-licensed product needs are purchased from independent manufacturers in countries other than the United States, including China, Vietnam, India, Philippines, Thailand, Italy, Taiwan, Peru, Malaysia, Columbia, Turkey and Great Britain. Additionally, sales are made through international channels to third party distributors. Substantially all purchases and sales involving international parties, excluding consumer sales at Coach Japan, Coach Canada, Coach China, Coach Singapore, and Coach Taiwan are denominated in U.S. dollars and, therefore, are not subject to foreign currency exchange risk.
In Japan and Canada, Coach is exposed to market risk from foreign currency exchange rate fluctuations resulting from Coach Japan and Coach Canada’s U.S. dollar denominated inventory purchases. Coach Japan and Coach Canada enter into certain foreign currency derivative contracts, primarily zero-cost collar options, to manage these risks. As of June 30, 2012 and July 2, 2011, open foreign currency forward contracts designated as hedges with a notional amount of $310.9 million and $171.0 million, respectively, were outstanding.
Coach had exposure to market risk from foreign currency exchange rate fluctuations with respect to Coach Japan as a result of its $65.0 million U.S. dollar-denominated fixed rate intercompany loan. To manage this risk, on December 29, 2011, Coach Japan entered into a cross-currency swap transaction, the terms of which included an exchange of Japanese yen fixed interest for U.S. dollar fixed interest. The loan and swap were settled at maturity in June 2012, at which point the swap required an exchange of Japanese yen and U.S. dollar based notional values.
Coach is also exposed to market risk from foreign currency exchange rate fluctuations with respect to various cross-currency intercompany and related party loans. These loans are denominated in various foreign currencies, with a total notional value of approximately $207 million as of June 30, 2012. To manage the exchange rate risk related to these loans, the Company entered into forward exchange and cross-currency swap contracts, the terms of which include the exchange of foreign currency fixed interest for U.S. dollar fixed interest and an exchange of the foreign currency and U.S. dollar based notional values at the maturity dates of the contracts, the latest of which is June 2013.
The fair value of open foreign currency derivatives included in current assets at June 30, 2012 and July 2, 2011 was $1.5 million and $2.0 million, respectively. The fair value of open foreign currency derivatives included in current liabilities at June 30, 2012 and July 2, 2011 was $4.1 million and $1.7 million, respectively. The fair value of these contracts is sensitive to changes in foreign currency exchange rates.
Coach believes that exposure to adverse changes in exchange rates associated with revenues and expenses of foreign operations, which are denominated in Japanese yen, Chinese renminbi, Hong Kong dollar, Macanese pataca, Canadian dollar, Singapore dollar, Taiwan dollar, Malaysian ringgit, Korean won and the euro, are not material to the Company’s consolidated financial statements.
Interest Rate Coach is exposed to interest rate risk in relation to its investments, revolving credit facilities and long-term debt.
The Company’s investment portfolio is maintained in accordance with the Company’s investment policy, which identifies allowable investments, specifies credit quality standards and limits the credit exposure of any single issuer. The primary objective of our investment activities is the preservation of principal while maximizing interest income and minimizing risk. We do not hold any investments for trading purposes. The Company’s investment portfolio primarily consists of U.S. government and agency securities as well as
corporate debt securities. As the Company does not have the intent to sell and will not be required to sell these securities until maturity, investments are classified as held-to-maturity and stated at amortized cost, except for auction rate securities, which are classified as available-for-sale. At July 2, 2011, the Company’s investments, classified as held-to-maturity, consisted of commercial paper and treasury bills valued at $2.3 million. These investments matured during 2012, and the Company does not hold any similar investments at June 30, 2012. As the adjusted book value of the commercial paper and treasury bills equaled its fair value, there were no unrealized gains or losses associated with these investments. At June 30, 2012, the Company’s investments, classified as available-for-sale, consisted of a $6.0 million auction rate security. At June 30, 2012, as the auction rate securities’ adjusted book value equaled its fair value, there were no unrealized gains or losses associated with this investment.
As of June 30, 2012, the Company had no outstanding borrowings on its JP Morgan facility, its revolving credit facility maintained by Coach Japan, and its revolving credit facility maintained by Coach Shanghai Limited. The fair value of any future borrowing may be impacted by fluctuations in interest rates.
As of June 30, 2012, Coach’s outstanding long-term debt, including the current portion, was $23.4 million. A hypothetical 10% change in the interest rate applied to the fair value of debt would not have a material impact on earnings or cash flows of Coach.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA See “Index to Financial Statements,” which is located on page 47 of this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None.
ITEM 9A. CONTROLS AND PROCEDURES Disclosure Controls and Procedures Based on the evaluation of the Company’s disclosure controls and procedures, as that term is defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended, each of Lew Frankfort, the Chief Executive Officer of the Company, and Jane Nielsen, the Chief Financial Officer of the Company, has concluded that the Company’s disclosure controls and procedures are effective as of June 30, 2012.
Management’s Report on Internal Control over Financial Reporting The Company’s management is responsible for establishing and maintaining adequate internal controls over financial reporting. The Company’s internal control system was designed to provide reasonable assurance to the Company’s management and Board regarding the preparation and fair presentation of published financial statements. Management evaluated the effectiveness of the Company’s internal control over financial reporting using the criteria set forth by the Committee of Sponsoring Organizations (COSO) of the Treadway Commission in Internal Control - Integrated Framework. Management, under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, assessed the effectiveness of the Company’s internal control over financial reporting as of June 30, 2012 and concluded that it is effective.
The Company’s independent auditors have issued an audit report on the Company’s internal control over financial reporting. The audit report appears on page 49 of this report.
Changes in Internal Control over Financial Reporting There were no changes in internal control over financial reporting that occurred during the fourth fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
ITEM 9B. OTHER INFORMATION None.
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE The information required to be included by Item 10 of Form 10-K will be included in the Proxy Statement for the 2012 Annual Meeting of Stockholders and such information is incorporated by reference herein. The Proxy Statement will be filed with the Commission within 120 days after the end of the fiscal year covered by this Form 10-K pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended.
ITEM 11. EXECUTIVE COMPENSATION The information regarding executive and director compensation set forth in the Proxy Statement for the 2012 Annual Meeting of Stockholders is incorporated herein by reference. The Proxy Statement will be filed with the Commission within 120 days after the end of the fiscal year covered by this Form 10-K pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS The information under the headings “Securities Authorized for Issuance Under Equity Compensation Plans” and “Coach Stock Ownership by Certain Beneficial Owners and Management” in the Company’s Proxy Statement for the 2012 Annual Meeting of Stockholders is incorporated herein by reference.
There are no arrangements known to the registrant that may at a subsequent date result in a change in control of the registrant.
The Proxy Statement will be filed with the Commission within 120 days after the end of the fiscal year covered by this Form 10-K pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE The information required to be included by Item 13 of Form 10-K will be included in the Proxy Statement for the 2012 Annual Meeting of Stockholders and such information is incorporated by reference herein. The Proxy Statement will be filed with the Commission within 120 days after the end of the fiscal year covered by this Form 10-K pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES The information required by this item is incorporated herein by reference to the sections entitled “Fees For Audit and Other Services” and “Audit Committee Pre-Approval Policy” in the Proxy Statement for the 2012 Annual Meeting of Stockholders. The Proxy Statement will be filed with the Commission within 120 days after the end of the fiscal year covered by this Form 10-K pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended.
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
(a) Financial Statements and Financial Statement Schedules
See “Index to Financial Statements” which is located on page 47 of this report.
(b) Exhibits. See the exhibit index which is included herein.
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.
COACH, INC.
Date: August 22, 2012
By: /s/ Lew Frankfort
Name: Lew Frankfort
Title: Chairman and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated below on August 22, 2012.
Signature
Title
/s/ Lew Frankfort
Lew Frankfort
Chairman, Chief Executive Officer and Director
/s/ Jerry Stritzke
Jerry Stritzke
President, Chief Operating Officer
/s/ Jane Nielsen
Jane Nielsen
Executive Vice President and Chief Financial Officer
(as principal financial officer and
principal accounting officer of Coach)
/s/ Susan Kropf
Susan Kropf
Director
/s/ Gary Loveman
Gary Loveman
Director
/s/ Ivan Menezes
Ivan Menezes
Director
/s/ Irene Miller
Irene Miller
Director
/s/ Michael Murphy
Michael Murphy
Director
/s/ Jide Zeitlin
Jide Zeitlin
Director
UNITED STATES
SECURITES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
FINANCIAL STATEMENTS
For the Fiscal Year Ended June 30, 2012
COACH, INC.
New York, New York 10001
All other schedules are omitted because they are not applicable or the required information is shown in the consolidated financial statements or notes thereto.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Stockholders of
Coach, Inc.
New York, New York
We have audited the accompanying consolidated balance sheets of Coach, Inc. and subsidiaries (the “Company”) as of June 30, 2012 and July 2, 2011, and the related consolidated statements of income, stockholders’ equity, and cash flows for each of the three years in the period ended June 30, 2012. Our audits also included the financial statement schedule listed in the Index to the financial statements. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the consolidated financial position of the Company at June 30, 2012 and July 2, 2011, and the results of their operations and their cash flows for each of the three years in the period ended June 30, 2012, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company’s internal control over financial reporting as of June 30, 2012, based on the criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated August 22, 2012 expressed an unqualified opinion on the Company’s internal control over financial reporting.
/s/ Deloitte & Touche LLP
New York, New York
August 22, 2012
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors and Stockholders of
Coach, Inc.
New York, New York
We have audited the internal control over financial reporting of Coach, Inc. and subsidiaries (the “Company”) as of June 30, 2012 based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed by, or under the supervision of, the company’s principal executive and principal financial officers, or persons performing similar functions, and effected by the company’s board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of June 30, 2012, based on the criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements and financial statement schedule as of and for the year ended June 30, 2012 of the Company and our report dated August 22, 2012 expressed an unqualified opinion on those consolidated financial statements and consolidated financial statement schedule.
/s/ Deloitte & Touche LLP
New York, New York
August 22, 2012
COACH, INC.
CONSOLIDATED BALANCE SHEETS
(amounts in thousands, except share data)
See accompanying Notes to Consolidated Financial Statements.
COACH, INC.
CONSOLIDATED STATEMENTS OF INCOME
(amounts in thousands, except per share data)
See accompanying Notes to Consolidated Financial Statements.
COACH, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(amounts in thousands)
See accompanying Notes to Consolidated Financial Statements.
COACH, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(amounts in thousands)
See accompanying Notes to Consolidated Financial Statements.
COACH, INC.
Notes to Consolidated Financial Statements
(dollars and shares in thousands, except per share data) 1. NATURE OF OPERATIONS Coach, Inc. (the “Company”) designs and markets high-quality, modern American classic accessories. The Company’s primary product offerings, manufactured by third-party suppliers, include women’s and men’s bags, accessories, business cases, footwear, wearables, jewelry, sunwear, travel bags, watches and fragrance. Coach’s products are sold through the Direct-to-Consumer segment, which includes Company-operated stores in North America; Japan; Hong Kong, Macau, mainland China; Taiwan; Singapore and the Internet, and through the Indirect segment, which includes sales to wholesale customers and distributors in over 20 countries, including the United States, and royalties earned on licensed products. Beginning with the first quarter of fiscal 2013, the Direct-to-Consumer segment also includes Coach-operated stores in Malaysia and Korea.
2. SIGNIFICANT ACCOUNTING POLICIES Fiscal Year The Company’s fiscal year ends on the Saturday closest to June 30. Unless otherwise stated, references to years in the financial statements relate to fiscal years. The fiscal years ended June 30, 2012 (“fiscal 2012”) and July 2, 2011 (“fiscal 2011”) were each 52-week periods. The fiscal year ended July 3, 2010 (“fiscal 2010”) was a 53-week period. The fiscal year ending June 29, 2013 (“fiscal 2013”) will be a 52-week period.
Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements as well as the reported amounts of revenues and expenses during the reporting period. The level of uncertainty in estimates and assumptions increases with the length of time until the underlying transactions are completed. Actual results could differ from estimates in amounts that may be material to the financial statements.
Principles of Consolidation The consolidated financial statements include the accounts of the Company and all 100% owned subsidiaries. All significant intercompany transactions and balances are eliminated in consolidation.
Cash and Cash Equivalents Cash and cash equivalents consist of cash balances and highly liquid investments with a maturity of three months or less at the date of purchase.
Investments Long-term investments primarily consist of U.S. government and agency debt securities as well as municipal government and corporate debt securities. Long-term investments are classified as available-for-sale and recorded at fair value, with unrealized gains and losses recorded in other comprehensive income. Dividend and interest income are recognized when earned.
Short-term investments consist of commercial paper; the adjusted book value of the commercial paper equals its fair value. As the Company does not have the intent to sell and will not be required to sell these securities until maturity, investments are classified as held-to-maturity and stated at amortized cost.
In fiscal 2011, the Company participated in the organization of a joint venture. The Company has contributed a total of $9,559 in cash to the joint venture through June 30, 2012. This investment, which consists of a 50% equity interest, is accounted for using the equity method of accounting.
Concentration of Credit Risk Financial instruments that potentially expose Coach to concentration of credit risk consist primarily of cash and cash equivalents, investments and accounts receivable. The Company places its cash investments
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 2. SIGNIFICANT ACCOUNTING POLICIES - (continued) with high-credit quality financial institutions and currently invests primarily in U.S. government and agency debt securities, municipal government and corporate debt securities, and money market instruments placed with major banks and financial institutions. Accounts receivable is generally diversified due to the number of entities comprising Coach’s customer base and their dispersion across many geographical regions. The Company believes no significant concentration of credit risk exists with respect to these cash investments and accounts receivable.
Inventories Inventories consist primarily of finished goods and are valued at the lower of cost (determined by the first-in, first-out method) or market. Inventory costs include material, conversion costs, freight and duties.
Property and Equipment Property and equipment are stated at cost less accumulated depreciation. Depreciation is calculated on a straight-line basis over the estimated useful lives of the assets. Buildings are depreciated over 40 years. Machinery and equipment are depreciated over lives of five to seven years and furniture and fixtures are depreciated over lives of three to five years. Leasehold improvements are amortized over the shorter of their estimated useful lives or the related lease terms. Maintenance and repair costs are charged to earnings as incurred while expenditures for major renewals and improvements are capitalized. Upon the disposition of property and equipment, the cost and related accumulated depreciation are removed from the accounts.
Operating Leases The Company’s leases for office space, retail stores and the distribution facility are accounted for as operating leases. The majority of the Company’s lease agreements provide for tenant improvement allowances, rent escalation clauses and/or contingent rent provisions. Tenant improvement allowances are recorded as a deferred lease credit on the balance sheet and amortized over the lease term, which is consistent with the amortization period for the constructed assets. Rent expense is recorded when the Company takes possession of a store to begin its buildout, which generally occurs before the stated commencement of the lease term and is approximately 60 to 90 days prior to the opening of the store.
Goodwill and Other Intangible Assets Goodwill and indefinite life intangible assets are evaluated for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. The Company performed an impairment evaluation in fiscal 2012, fiscal 2011 and fiscal 2010 and concluded that there was no impairment of its goodwill or indefinite life intangible assets.
Valuation of Long-Lived Assets Long-lived assets, such as property and equipment, are evaluated for impairment whenever events or circumstances indicate that the carrying value of the assets may not be recoverable. The evaluation is based on a review of forecasted operating cash flows and the profitability of the related asset group. An impairment loss is recognized if the forecasted cash flows are less than the carrying amount of the asset. The Company performed an impairment evaluation in fiscal 2012, fiscal 2011 and fiscal 2010 and concluded that there was no impairment of its long-lived assets for stores expected to remain open.
Stock Repurchase and Retirement Coach accounts for stock repurchases and retirements by allocating the repurchase price to common stock, additional paid-in-capital and retained earnings. The repurchase price allocation is based upon the equity contribution associated with historical issuances, beginning with the earliest issuance. Under Maryland law, Coach’s state of incorporation, treasury shares are not allowed. As a result, all repurchased shares are
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 2. SIGNIFICANT ACCOUNTING POLICIES - (continued) retired when acquired. During the second quarter of fiscal 2008, the Company’s total cumulative stock repurchases exceeded the total shares issued in connection with the Company’s October 2000 initial public offering, and stock repurchases in excess of this amount are assumed to be made from the Company’s April 2001 Sara Lee exchange offer. Shares issued in connection with this exchange offer were accounted for as a contribution to common stock and retained earnings. Therefore, stock repurchases and retirements associated with the exchange offer are accounted for by allocation of the repurchase price to common stock and retained earnings. During the fourth quarter of fiscal 2010, cumulative stock repurchases allocated to retained earnings have resulted in an accumulated deficit balance. Since its initial public offering, the Company has not experienced a net loss in any fiscal year, and the net accumulated deficit balance in stockholders’ equity is attributable to the cumulative stock repurchase activity. The total cumulative amount of common stock repurchase price allocated to retained earnings as of June 30, 2012 was approximately $5,800,000.
Revenue Recognition Sales are recognized at the point of sale, which occurs when merchandise is sold in an over-the-counter consumer transaction or, for the wholesale channels, upon shipment of merchandise, when title passes to the customer. Revenue associated with gift cards is recognized upon redemption. The Company estimates the amount of gift cards that will not be redeemed or remitted as escheatable property, based on historical redemption patterns and escheatment laws, and records such amounts as breakage revenue when we can determine the portion of the liability where redemption is remote, which is approximately two years after the gift card is issued. Revenue associated with gift card breakage is not material to the Company’s net operating results. Allowances for estimated uncollectible accounts, discounts and returns are provided when sales are recorded. Royalty revenues are earned through license agreements with manufacturers of other consumer products that incorporate the Coach brand. Revenue earned under these contracts is recognized based upon reported sales from the licensee. Taxes collected from customers and remitted to governmental authorities are recorded on a net basis and therefore are excluded from revenue.
Cost of Sales Cost of sales consists of cost of merchandise, inbound freight and duty expenses, and other inventory-related costs such as shrinkage, damages, replacements and production overhead.
Selling, General and Administrative Expenses Selling, general and administrative expenses are comprised of four categories: (1) selling; (2) advertising, marketing and design; (3) distribution and consumer service; and (4) administrative. Selling expenses include store employee compensation, store occupancy costs, store supply costs, wholesale account administration compensation and all Coach Japan, Coach China, Coach Singapore, and Coach Taiwan operating expenses. Advertising, marketing and design expenses include employee compensation, media space and production, advertising agency fees, new product design costs, public relations, market research expenses and mail order costs. Distribution and consumer service expenses include warehousing, order fulfillment, shipping and handling, customer service and bag repair costs. Administrative expenses include compensation costs for the executive, finance, human resources, legal and information systems departments, corporate headquarters occupancy costs, and consulting and software expenses.
Preopening Costs Costs associated with the opening of new stores are expensed in the period incurred.
Advertising Advertising costs include expenses related to direct marketing activities, such as catalogs, media and production costs. In fiscal 2012, fiscal 2011 and fiscal 2010, advertising expenses totaled $89,159, $74,988,
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 2. SIGNIFICANT ACCOUNTING POLICIES - (continued) and $61,241, respectively, and are included in selling, general and administrative expenses. Advertising costs are expensed when the advertising first appears.
Share-Based Compensation The Company measures the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. The grant-date fair value of the award is recognized as compensation expense over the vesting period.
Shipping and Handling Shipping and handling costs incurred were $52,240, $31,522, and $22,661 in fiscal 2012, fiscal 2011 and fiscal 2010, respectively, and are included in selling, general and administrative expenses.
Income Taxes The Company accounts for income taxes in accordance with Accounting Standards Codification (“ASC”) 740, “Income Taxes.” Under ASC 740, a deferred tax liability or asset is recognized for the estimated future tax consequences of temporary differences between the carrying amounts of assets and liabilities in the financial statements and their respective tax bases. In evaluating the unrecognized tax benefits associated with the Company’s various tax filing positions, management records these positions using a more-likely-than-not recognition threshold for income tax positions taken or expected to be taken in accordance with ASC 740. The Company classifies interest and penalties, if present, on uncertain tax positions in the Provision for income taxes. See the note on Change in Accounting Principle.
Fair Value of Financial Instruments As of June 30, 2012 and July 2, 2011, the carrying values of cash and cash equivalents, trade accounts receivable, accounts payable and accrued liabilities approximated their values due to the short-term maturities of these accounts. The Company has evaluated its Industrial Revenue Bond and mortgage and believes, based on the interest rates, related terms and maturities, that the fair values of such instruments approximate their carrying amounts. See note on Fair Value Measurements for the fair values of the Company’s investments as of June 30, 2012 and July 2, 2011.
Coach Japan and Coach Canada enter into foreign currency contracts that hedge certain U.S. dollar- denominated inventory purchases. Additionally, the Company entered into forward exchange and cross-currency swap contracts to hedge various intercompany and related party loans denominated in various foreign currencies. These contracts qualify for hedge accounting and have been designated as cash flow hedges. The fair value of these contracts is recorded in other comprehensive income (loss) and recognized in earnings in the period in which the hedged item is also recognized in earnings. The fair values of the foreign currency derivatives are based on the forward curves of the specific indices upon which settlement is based and includes an adjustment for the Company’s credit risk. Considerable judgment is required of management in developing estimates of fair value. The use of different market assumptions or methodologies could affect the estimated fair value.
Foreign Currency The functional currency of the Company's foreign operations is generally the applicable local currency. Assets and liabilities are translated into U.S. dollars using the current exchange rates in effect at the balance sheet date, while revenues and expenses are translated at the weighted-average exchange rates for the period. The resulting translation adjustments are recorded as a component of accumulated other comprehensive income within stockholders’ equity.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 2. SIGNIFICANT ACCOUNTING POLICIES - (continued) Net Income Per Share Basic net income per share is calculated by dividing net income by the weighted-average number of shares outstanding during the period. Diluted net income per share is calculated similarly but includes potential dilution from the exercise of stock options and vesting of stock awards.
Reclassification Certain prior year amounts, specifically relating to cash flows in connection with share-based awards, have been reclassified to conform to the current year presentation in the Consolidated Statement of Cash Flows.
Recent Accounting Pronouncements In May 2011, Accounting Standards Codification 820-10 “Fair Value Measurements and Disclosures,” was amended to clarify certain disclosure requirements and improve consistency with international reporting standards. This amendment is to be applied prospectively and was effective for the Company beginning January 1, 2012. The adoption of this amendment did not have a material effect on the Company’s consolidated financial statements.
Accounting Standards Codification Topic 220, “Comprehensive Income,” was amended in June 2011 to require entities to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The amendment does not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income under current GAAP. This guidance is effective for the Company’s fiscal year and interim periods beginning July 1, 2012. The Company is currently evaluating this guidance, but does not expect its adoption to have a material effect on its consolidated financial statements.
In September 2011, Accounting Standards Codification 350-20, “Intangibles - Goodwill and Other - Goodwill,” was amended to allow entities to assess qualitative factors to determine if it is more-likely-than-not that goodwill might be impaired, and whether it is necessary to perform the two-step goodwill impairment test required under current accounting standards. This guidance is effective for the Company’s fiscal year beginning July 1, 2012. The Company does not expect its adoption to have a material effect on its consolidated financial statements.
3. ACQUISITIONS On July 3, 2011, Coach acquired 100% of its domestic retail business in Singapore from the former distributor, Valiram Group, and on January 1, 2012, acquired 100% of its domestic retail business in Taiwan from the former distributor, Tasa Meng. The results of the acquired businesses have been included in the consolidated financial statements since July 3, 2011 and January 1, 2012, respectively, within the Direct-to-Consumer segment. These acquisitions provide the Company with greater control over the brand in Singapore and Taiwan, enabling Coach to raise brand awareness and grow market share with regional consumers. The aggregate purchase prices of the Singapore and Taiwan businesses were $7,595 and $46,916, respectively, both paid during fiscal 2012.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 3. ACQUISITIONS - (continued) The following table summarizes the preliminary estimated fair values of the assets and liabilities acquired as of the dates of acquisition:
(1) We anticipate the entire balance of acquired goodwill to be tax deductible.
Prior to these acquisitions, Valiram Group operated five retail and department store locations in Singapore and Tasa Meng operated 26 retail and department stores in Taiwan. Management believes the strength of these established locations supported a premium above the fair value of the individual assets acquired. Unaudited pro forma information related to these acquisitions is not included, as the impact of this transaction is not material to the consolidated results of the Company.
In connection with the fiscal 2011 agreement with the Valiram Group, the Company assumed direct control of its domestic retail business in Malaysia in July 2012. Additionally, in connection with the fiscal 2012 agreement with Shinsegae International, the Company assumed direct control of its retail business in Korea in early August 2012.
4. SHARE-BASED COMPENSATION The Company maintains several share-based compensation plans which are more fully described below. The following table shows the total compensation cost charged against income for these plans and the related tax benefits recognized in the income statement:
Coach Stock-Based Plans Coach maintains the 2010 Stock Incentive Plan to award stock options and shares to certain members of Coach management and the outside members of its Board of Directors (“Board”). Coach maintains the 2000 Stock Incentive Plan, the 2000 Non-Employee Director Stock Plan and the 2004 Stock Incentive Plan for awards granted prior to the establishment of the 2010 Stock Incentive Plan. These plans were approved by Coach’s stockholders. The exercise price of each stock option equals 100% of the market price of Coach’s stock on the date of grant and generally has a maximum term of 10 years. Stock options and share awards that are granted as part of the annual compensation process generally vest ratably over three years. Other stock option and share awards, granted primarily for retention purposes, are subject to forfeiture until completion of the vesting period, which ranges from one to five years. The Company issues new shares upon the exercise of stock options, vesting of share units and employee stock purchases.
For options granted under Coach’s stock option plans prior to July 1, 2003, an active employee can receive a replacement stock option equal to the number of shares surrendered upon a stock-for-stock exercise. The exercise price of the replacement option equals 100% of the market value at the date of exercise of the
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 4. SHARE-BASED COMPENSATION - (continued) original option and will remain exercisable for the remaining term of the original option. Replacement stock options generally vest six months from the grant date. No replacement stock options were granted in fiscal 2012, fiscal 2011 or fiscal 2010.
Stock Options A summary of option activity under the Coach stock option plans as of June 30, 2012 and changes during the year then ended is as follows:
The fair value of each Coach option grant is estimated on the date of grant using the Black-Scholes option pricing model and the following weighted-average assumptions:
The expected term of options represents the period of time that the options granted are expected to be outstanding and is based on historical experience. Expected volatility is based on historical volatility of the Company’s stock as well as the implied volatility from publicly traded options on Coach’s stock. The risk free interest rate is based on the zero-coupon U.S. Treasury issue as of the date of the grant. Grants subsequent to the Company’s April 2009 Board approval to initiate a quarterly dividend included a dividend yield assumption based on Coach’s annual expected dividend divided by the grant-date share price.
The weighted-average grant-date fair value of options granted during fiscal 2012, fiscal 2011 and fiscal 2010 was $15.59, $11.41, and $9.68, respectively. The total intrinsic value of options exercised during fiscal 2012, fiscal 2011 and fiscal 2010 was $197,793, $226,511, and $127,879, respectively. The total cash received from option exercises was $178,292, $357,344, and $208,919 in fiscal 2012, fiscal 2011 and fiscal 2010, respectively, and the actual tax benefit realized for the tax deductions from these option exercises was $73,982, $84,993, and $47,795, respectively.
At June 30, 2012, $38,783 of total unrecognized compensation cost related to non-vested stock option awards is expected to be recognized over a weighted-average period of 1.0 years.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 4. SHARE-BASED COMPENSATION - (continued) Share Units The grant-date fair value of each Coach share unit is equal to the fair value of Coach stock at the grant date. The weighted-average grant-date fair value of shares granted during fiscal 2012, fiscal 2011 and fiscal 2010 was $62.71, $40.31, and $30.55, respectively. The following table summarizes information about non-vested shares as of and for the year ended June 30, 2012:
The total fair value of shares vested during fiscal 2012, fiscal 2011 and fiscal 2010 was $99,488, $58,359, and $23,955, respectively. At June 30, 2012, $98,571 of total unrecognized compensation cost related to non-vested share awards is expected to be recognized over a weighted-average period of 1.0 years.
Employee Stock Purchase Plan Under the Employee Stock Purchase Plan, full-time Coach employees are permitted to purchase a limited number of Coach common shares at 85% of market value. Under this plan, Coach sold 129, 120, and 176 new shares to employees in fiscal 2012, fiscal 2011 and fiscal 2010, respectively. Compensation expense is calculated for the fair value of employees’ purchase rights using the Black-Scholes model and the following weighted-average assumptions:
The weighted-average fair value of the purchase rights granted during fiscal 2012, fiscal 2011 and fiscal 2010 was $17.31, $11.51, and $9.15, respectively.
Deferred Compensation Under the Coach, Inc. Deferred Compensation Plan for Non-Employee Directors, Coach's outside directors may defer their director's fees. Amounts deferred under these plans may, at the participants' election, be either represented by deferred stock units, which represent the right to receive shares of Coach common stock on the distribution date elected by the participant, or placed in an interest-bearing account to be paid on such distribution date. The amounts accrued under these plans at June 30, 2012 and July 2, 2011 were $2,664 and $2,688, respectively, and are included within total liabilities in the consolidated balance sheets.
5. LEASES Coach leases certain office, distribution and retail facilities. The lease agreements, which expire at various dates through 2028, are subject, in some cases, to renewal options and provide for the payment of taxes, insurance and maintenance. Certain leases contain escalation clauses resulting from the pass-through of
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 5. LEASES - (continued) increases in operating costs, property taxes and the effect on costs from changes in consumer price indices. Certain rentals are also contingent upon factors such as sales.
Rent-free periods and scheduled rent increases are recorded as components of rent expense on a straight-line basis over the related terms of such leases. Contingent rentals are recognized when the achievement of the target (i.e., sales levels), which triggers the related payment, is considered probable. Rent expense for the Company's operating leases consisted of the following:
Future minimum rental payments under noncancelable operating leases are as follows:
Certain operating leases provide for renewal for periods of five to ten years at their fair rental value at the time of renewal. In the normal course of business, operating leases are generally renewed or replaced by new leases.
6. FAIR VALUE MEASUREMENTS In accordance with ASC 820-10, “Fair Value Measurements and Disclosures,” the Company categorized its assets and liabilities based on the priority of the inputs to the valuation technique into a three-level fair value hierarchy as set forth below. The three levels of the hierarchy are defined as follows:
Level 1 - Unadjusted quoted prices in active markets for identical assets or liabilities. Coach currently does not have any Level 1 financial assets or liabilities.
Level 2 - Observable inputs other than quoted prices included in Level 1. Level 2 inputs include quoted prices for identical assets or liabilities in non-active markets, quoted prices for similar assets or liabilities in active markets, and inputs other than quoted prices that are observable for substantially the full term of the asset or liability.
Level 3 - Unobservable inputs reflecting management’s own assumptions about the input used in pricing the asset or liability.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 6. FAIR VALUE MEASUREMENTS - (continued) The following table shows the fair value measurements of the Company’s assets and liabilities at June 30, 2012 and July 2, 2011:
(a) The fair value of the security is determined using a valuation model that takes into consideration the financial conditions of the issuer and the bond insurer, current market conditions and the value of the collateral bonds.
(b) The Company enters into zero-cost collar options to manage its exposure to foreign currency exchange rate fluctuations resulting from Coach Japan's and Coach Canada’s U.S. dollar-denominated inventory purchases. The fair value of these cash flow hedges is primarily based on the forward curves of the specific indices upon which settlement is based and includes an adjustment for the counterparty’s or Company’s credit risk.
(c) The Company is a party to forward contracts and cross-currency swap transactions to manage its exposure to foreign currency exchange rate fluctuations resulting from fixed rate intercompany and related party loans. The fair value of these cash flow hedges is primarily based on the forward curves of the specific indices upon which settlement is based and includes an adjustment for the Company's credit risk.
See note on Derivative Instruments and Hedging Activities for more information on the Company’s derivative contracts.
As of June 30, 2012 and July 2, 2011, the Company’s investments included an auction rate security (“ARS”) classified as a long-term investment, as the auction for this security has been unsuccessful. The underlying investments of the ARS are scheduled to mature in 2035. We have determined that the significant majority of the inputs used to value this security fall within Level 3 of the fair value hierarchy as the inputs are based on unobservable estimates. The fair value of the Company’s ARS has been $6,000 since the end of the second quarter of fiscal 2009.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 6. FAIR VALUE MEASUREMENTS - (continued) As of July 2, 2011, the fair value of the Company’s cross-currency swap derivatives, classified as Level 3 derivatives, were included within accrued liabilities. There were no derivatives classified as Level 3 as of June 30, 2012. The Company used a valuation model to value the Level 3 derivatives, which included a combination of observable inputs, such as tenure of the agreement and notional amount, and unobservable inputs, such as the Company’s credit rating. The table below presents the changes in the fair value of these derivatives during fiscal 2012 and fiscal 2011, through the settlement on December 29, 2011:
The above settlement amounts for the cross-currency swaps on June 30, 2012 and December 29, 2011 are net of a previously unrecognized gain recognized through accumulated other comprehensive income of $615 in fiscal 2012 and a loss of $10,807 in fiscal 2011 prior to the respective settlement dates.
During fiscal 2011, the Company purchased $224,007 of short-term investments consisting of U.S. treasury bills and commercial paper. These investments, net of proceeds from sales and maturities, totaled $2,256 as of July 2, 2011 and were classified as held-to-maturity based on our positive intent and ability to hold the securities to maturity. They were stated at amortized cost, which approximated fair market value due to their short maturities. There were no purchases of short-term investments during fiscal 2012, and there were no short-term investments held by the Company as of June 30, 2012.
7. DEBT Revolving Credit Facilities The Company maintains a $400,000 revolving credit facility with certain lenders and JP Morgan Chase Bank, N.A. as the primary lender and administrative agent (the “JP Morgan facility”). The JP Morgan facility, which expires in June 2017, replaced the Company’s previous $100,000 revolving credit facility with certain lenders, and Bank of America, N.A. as the primary lender and administrative agent, which was terminated on June 18, 2012 (the “Bank of America facility”). At Coach’s request and lenders’ consent, the JP Morgan facility can be expanded to $650,000. Borrowings under the JP Morgan facility bear interest at a rate per annum equal to, at Coach’s option, either (a) an alternate base rate or (b) a rate based on the rates applicable for deposits in the interbank market for U.S. dollars or the applicable currency in which the loans are made (the “Adjusted LIBO Rate”) plus an applicable margin. The applicable margin for Adjusted LIBO Rate loans will be adjusted by reference to a grid (the “Pricing Grid”) based on the ratio of (a) consolidated debt plus 800% of consolidated lease expense to (b) consolidated EBITDAR (“Leverage Ratio”). Additionally, Coach will pay a commitment fee, calculated at a rate per annum determined in accordance with the Pricing Grid, on the average daily unused amount of the Facility, and certain fees with respect to letters of credit that are issued. At June 30, 2012, the commitment fee was nine basis points.
The JP Morgan facility may also be used to finance the working capital needs, capital expenditures, certain investments, share repurchases, dividends, and other general corporate purposes of the Company and its subsidiaries (which may include commercial paper back-up). During fiscal 2012 and fiscal 2011 there were
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 7. DEBT - (continued) no borrowings under the JP Morgan facility and the Bank of America facility. Accordingly, as of June 30, 2012 and July 2, 2011, there were no outstanding borrowings. The Company’s borrowing capacity as of June 30, 2012 was $393,300 due to outstanding letters of credit.
The JP Morgan facility contains various covenants and customary events of default. Coach has been in compliance with all covenants of the facility since its inception.
To provide funding for working capital and general corporate purposes, Coach Japan has available credit facilities with several Japanese financial institutions. These facilities allow a maximum borrowing of 4.1 billion yen, or approximately $51,500, at June 30, 2012. Interest is based on the Tokyo Interbank rate plus a margin of 27.5 to 30 basis points. During fiscal 2012 and 2011, the peak borrowings were $0 and $27.1 million, respectively. As of June 30, 2012 and July 2, 2011, there were no outstanding borrowings under the Japanese credit facilities.
To provide funding for working capital and general corporate purposes, Coach Shanghai Limited has a credit facility that allows a maximum borrowing of 63 million Chinese renminbi, or approximately $10,000 at June 30, 2012. Interest is based on the People's Bank of China rate. During fiscal 2012 and fiscal 2011, there were no borrowings under this credit facility. Accordingly, at June 30, 2012 and July 2, 2011, there were no outstanding borrowings under this facility.
Long-Term Debt Coach is party to an Industrial Revenue Bond related to its Jacksonville, Florida facility. This loan bears interest at 4.5%. Principal and interest payments are made semi-annually, with the final payment due in August 2014. As of June 30, 2012 and July 2, 2011, the remaining balance on the loan was $1,440 and $1,860, respectively. During fiscal 2009, Coach assumed a mortgage in connection with the purchase of its corporate headquarters building in New York City. This mortgage bears interest at 4.68%. Interest payments are made monthly and principal payments began in July 2009, with the final payment of $21,555 due in June 2013. As of June 30, 2012, the remaining balance on the mortgage was $21,920. Future principal payments under these obligations are as follows:
8. COMMITMENTS AND CONTINGENCIES At June 30, 2012 and July 2, 2011, the Company had credit available of $600,000 and $275,000, respectively, of which letters of credit totaling $215,380 and $171,916, respectively, were outstanding. The letters of credit, which expire at various dates through 2014, primarily collateralize the Company’s obligation to third parties for the purchase of inventory.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 8. COMMITMENTS AND CONTINGENCIES - (continued) Coach is a party to employment agreements with certain key executives which provide for compensation and other benefits. The agreements also provide for severance payments under certain circumstances. The Company’s employment agreements and the respective end of initial term dates are as follows:
Executive
Title
End of Initial Term(1)
Lew Frankfort
Chairman and Chief Executive Officer
August 2012
Reed Krakoff
President and Executive Creative Director
June 2014
Michael Tucci
President, North America Retail Division
June 2013
(1) Once the initial term expires, these agreements automatically renew for successive one year terms unless either the employee or Board provides notice
In addition to the employment agreements described above, other contractual cash obligations as of June 30, 2012 and July 2, 2011 included $212,084 and $195,382, respectively, related to inventory purchase obligations and $1,272 and $1,087, respectively, related to capital expenditure purchase obligations. In addition, as of June 30, 2012, the Company had an irrevocable commitment to fund the Coach Foundation in the amount of $18,900 in fiscal 2013, and made a total of $20,270 in cash contributions to the Coach Foundation during fiscal 2012.
In the ordinary course of business, Coach is a party to several pending legal proceedings and claims. Although the outcome of such items cannot be determined with certainty, Coach's general counsel and management are of the opinion that the final outcome will not have a material effect on Coach's cash flow, results of operations or financial position.
9. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES Substantially all purchases and sales involving international parties, excluding consumer sales at Coach Japan, Coach Canada, Coach China, Coach Singapore, and Coach Taiwan, are denominated in U.S. dollars, which limits the Company’s exposure to foreign currency exchange rate fluctuations. However, the Company is exposed to market risk from foreign currency exchange risk related to Coach Japan’s and Coach Canada’s U.S. dollar-denominated inventory purchases and various cross-currency intercompany and related party loans. Coach uses derivative financial instruments to manage these risks. These derivative transactions are in accordance with the Company’s risk management policies. Coach does not enter into derivative transactions for speculative or trading purposes.
Coach Japan and Coach Canada enter into certain foreign currency derivative contracts, primarily zero-cost collar options, to manage the exchange rate risk related to their inventory purchases. As of June 30, 2012 and July 2, 2011, $310,891 and $171,030 of foreign currency forward contracts were outstanding, respectively.
On June 30, 2011, to manage the exchange rate risk related to a $109,110 intercompany loan, Coach Japan entered into a cross-currency swap transaction, the terms of which included an exchange of Japanese yen fixed interest for U.S. dollar fixed interest and an exchange of yen and U.S. dollar based notional values at maturity on December 29, 2011. On December 29, 2011, Coach Japan repaid the loan and settled the cross-currency swap. Concurrently, Coach Japan entered into a new $65,000 intercompany loan agreement and a cross currency swap transaction, the terms of which included an exchange of a Japanese yen fixed interest for a U.S. dollar fixed interest and an exchange of yen and U.S. dollar based notional values at maturity. The loan and swap were settled at maturity in June 2012.
During fiscal 2012, the Company entered into various intercompany and related party loans denominated in various foreign currencies. These loans have a total notional value of approximately $206,648 as of June 30, 2012 and maturity dates ranging from July 2012 to June 2013. To manage the exchange rate risk
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 9. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES - (continued) related to these loans, the Company entered into forward exchange and cross-currency swap contracts, the terms of which include the exchange of foreign currency fixed interest for U.S. dollar fixed interest and an exchange of the foreign currency and U.S. dollar based notional values at the maturity dates, the latest of which is June 2013.
The Company’s derivative instruments are primarily designated as cash flow hedges. The effective portion of gains or losses on the derivative instruments are reported as a component of other comprehensive income and reclassified into earnings in the same periods during which the hedged transaction affects earnings. The ineffective portion of gains or losses on the derivative instruments are recognized in current earnings and are included within net cash provided by operating activities.
The following tables provide information related to the Company’s derivatives:
For fiscal 2012 and fiscal 2011, the amounts above are net of tax of $1,858 and $5,960, respectively.
During fiscal 2012 and fiscal 2011, there were no material gains or losses recognized in income due to hedge ineffectiveness.
The Company expects that $994 of net derivative losses included in accumulated other comprehensive income at June 30, 2012 will be reclassified into earnings within the next 12 months. This amount will vary due to fluctuations in the Japanese yen and Canadian dollar exchange rates.
Hedging activity affected accumulated other comprehensive income, net of tax, as follows:
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 10. GOODWILL AND OTHER INTANGIBLE ASSETS The changes in the carrying amount of goodwill for the years ended June 30, 2012 and July 2, 2011 are as follows:
At June 30, 2012 and July 2, 2011, intangible assets not subject to amortization were $9,788 and consisted of trademarks.
11. INCOME TAXES The provisions for income taxes computed by applying the U.S. statutory rate to income before taxes as reconciled to the actual provisions were:
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 11. INCOME TAXES - (continued) Current and deferred tax provisions (benefits) were:
The components of deferred tax assets and liabilities at the respective year-ends were as follows:
Significant judgment is required in determining the worldwide provision for income taxes, and there are many transactions for which the ultimate tax outcome is uncertain. It is the Company’s policy to establish provisions for taxes that may become payable in future years as a result of an examination by tax authorities. The Company establishes the provisions based upon management’s assessment of exposure associated with uncertain tax positions. The provisions are analyzed periodically and adjustments are made as events occur that warrant adjustments to those provisions. All of these determinations are subject to the requirements of ASC 740.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 11. INCOME TAXES - (continued) A reconciliation of the beginning and ending gross amount of unrecognized tax benefits is as follows:
Of the $155,599 ending gross unrecognized tax benefit balance, $77,366 relates to items which, if recognized, would impact the effective tax rate. As of June 30, 2012 and July 2, 2011, gross interest and penalties payable was $24,338 and $35,258, which are included in other liabilities. During fiscal 2012, fiscal 2011 and fiscal 2010, the Company recognized interest and penalty (income) expense of $(11,334), $(3,195), and $6,204, respectively, in the Consolidated Statements of Income.
The Company files income tax returns in the U.S. federal jurisdiction as well as various state and foreign jurisdictions. Fiscal years 2009 to present are open to examination in the federal jurisdiction, fiscal 2004 to present in significant state jurisdictions and from fiscal 2004 to present in foreign jurisdictions. During fiscal 2012 and fiscal 2011, the Company recorded tax benefits related to multi-year agreements with tax authorities.
Based on the number of tax years currently under audit by the relevant tax authorities, the Company anticipates that one or more of these audits may be finalized in the foreseeable future. However, based on the status of these examinations, and the protocol of finalizing audits by the relevant tax authorities, we cannot reasonably estimate the impact of any amount of such changes in the next 12 months, if any, to previously recorded uncertain tax positions.
At June 30, 2012, the Company had net operating loss carryforwards in foreign tax jurisdictions of $88,967, which will expire beginning in fiscal years 2013 through fiscal year 2017. The deferred tax assets related to the carryforwards have been reflected net of a $3,156 valuation allowance.
The total amount of undistributed earnings of foreign subsidiaries as of June 30, 2012 was $1,203,949. It is the Company’s intention to permanently reinvest undistributed earnings of its foreign subsidiaries and thereby indefinitely postpone their remittance. Accordingly, no provision has been made for foreign withholding taxes or United States income taxes which may become payable if undistributed earnings of foreign subsidiaries are paid as dividends. Determination of the amount of unrecognized deferred income tax liabilities on these earnings is not practicable because such liability, if any, is subject to many variables and is dependent on circumstances existing if and when remittance occurs.
12. DEFINED CONTRIBUTION PLAN Coach maintains the Coach, Inc. Savings and Profit Sharing Plan, which is a defined contribution plan. Employees who meet certain eligibility requirements and are not part of a collective bargaining agreement may participate in this program. The annual expense incurred by Coach for this defined contribution plan was $18,641, $16,029, and $13,285 in fiscal 2012, fiscal 2011 and fiscal 2010, respectively.
13. SEGMENT INFORMATION The Company operates its business in two reportable segments: Direct-to-Consumer and Indirect. The Company's reportable segments represent channels of distribution that offer similar merchandise, service and marketing strategies. Sales of Coach products through Company-operated stores in North America; Japan;
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 13. SEGMENT INFORMATION - (continued) Hong Kong, Macau and mainland China; Singapore; Taiwan and the Internet constitute the Direct-to-Consumer segment. Beginning with the first quarter of fiscal 2013, this segment also includes Coach-operated stores in Malaysia and Korea. The Indirect segment includes sales to wholesale customers and distributors in over 20 countries, including the United States and royalties earned on licensed products. In deciding how to allocate resources and assess performance, Coach's chief operating decision maker regularly evaluates the sales and operating income of these segments. Operating income is the gross margin of the segment less direct expenses of the segment. Unallocated corporate expenses include production variances, general marketing, administration and information systems, as well as distribution and consumer service expenses.
In connection with the acquisitions of the retail businesses in Hong Kong, Macau, mainland China, Singapore and Taiwan, the Company evaluated the composition of its reportable segments and concluded that sales in these regions should be included in the Direct-to-Consumer segment. Accordingly, prior year net sales, operating income and profit before tax figures have been reclassified to conform to the current year presentation.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 13. SEGMENT INFORMATION - (continued) The following is a summary of the common costs not allocated in the determination of segment performance:
Geographic Area Information As of June 30, 2012, Coach operated 329 retail stores and 163 factory stores in the United States, 25 retail stores and six factory stores in Canada, 180 department store shop-in-shops, retail stores and factory stores in Japan and 130 department store shop-in-shops, retail stores and factory stores in Hong Kong, Macau, mainland China, Taiwan and Singapore. Coach also operates distribution, product development and quality control locations in the United States, Hong Kong, China, South Korea, Vietnam and India. Geographic revenue information is based on the location of our customer. Geographic long-lived asset information is based on the physical location of the assets at the end of each period and includes property and equipment, net and other assets.
(1) Other International sales reflect shipments to third-party distributors, primarily in East Asia, and sales from Coach-operated stores in Hong Kong, Macau, mainland China, Taiwan, Singapore and Canada.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 14. EARNINGS PER SHARE The following is a reconciliation of the weighted-average shares outstanding and calculation of basic and diluted earnings per share:
At June 30, 2012, options to purchase 116 shares of common stock were outstanding but not included in the computation of diluted earnings per share, as these options’ exercise prices, ranging from $72.06 to $78.46, were greater than the average market price of the common shares.
At July 2, 2011, options to purchase 55 shares of common stock were outstanding but not included in the computation of diluted earnings per share, as these options’ exercise prices, ranging from $59.97 to $60.28, were greater than the average market price of the common shares.
At July 3, 2010, options to purchase 3,710 shares of common stock were outstanding but not included in the computation of diluted earnings per share, as these options’ exercise prices, ranging from $41.93 to $51.56, were greater than the average market price of the common shares.
15. STOCK REPURCHASE PROGRAM Purchases of Coach’s common stock are made from time to time, subject to market conditions and at prevailing market prices, through open market purchases. Repurchased shares of common stock become authorized but unissued shares and may be issued in the future for general corporate and other purposes. The Company may terminate or limit the stock repurchase program at any time.
During fiscal 2012, fiscal 2011 and fiscal 2010, the Company repurchased and retired 10,688, 20,404 and 30,686 shares, respectively, or $700,000, $1,098,000 and $1,150,000 of common stock, respectively, at an average cost of $65.49, $53.81 and $37.48 per share, respectively. As of June 30, 2012, Coach had $261,627 remaining in the stock repurchase program.
COACH, INC.
Notes to Consolidated Financial Statements (Continued)
(dollars and shares in thousands, except per share data) 16. SUPPLEMENTAL BALANCE SHEET INFORMATION The components of certain balance sheet accounts are as follows:
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COACH, INC.
Schedule II - Valuation and Qualifying Accounts
For the Fiscal Years Ended June 30, 2012, July 2, 2011 and July 3, 2010
(amounts in thousands)
COACH, INC.
Quarterly Financial Data
(dollars and shares in thousands, except per share data)
(unaudited)
(1) The sum of the quarterly earnings per share may not equal the full-year amount, as the computations of the weighted-average number of common basic and diluted shares outstanding for each quarter and the full year are performed independently.
COACH, INC.
EXHIBITS TO FORM 10-K
(a) Exhibit Table (numbered in accordance with Item 601 of Regulation S-K)
Exhibit No.
Description
3.1
Amended and Restated Bylaws of Coach, Inc., dated February 7, 2008, which is incorporated herein by reference from Exhibit 3.1 to Coach’s Current Report on Form 8-K filed on February 13, 2008
3.2
Articles Supplementary of Coach, Inc., dated May 3, 2001, which is incorporated herein by reference from Exhibit 3.2 to Coach’s Current Report on Form 8-K filed on May 9, 2001
3.3
Articles of Amendment of Coach, Inc., dated May 3, 2001, which is incorporated herein by reference from Exhibit 3.3 to Coach’s Current Report on Form 8-K filed on May 9, 2001
3.4
Articles of Amendment of Coach, Inc., dated May 3, 2002, which is incorporated by reference from Exhibit 3.4 to Coach’s Annual Report on Form 10-K for the fiscal year ended June 29, 2002
3.5
Articles of Amendment of Coach, Inc., dated February 1, 2005, which is incorporated by reference from Exhibit 99.1 to Coach’s Current Report on Form 8-K filed on February 2, 2005
4.1
Specimen Certificate for Common Stock of Coach, which is incorporated herein by reference from Exhibit 4.1 to Coach's Registration Statement on Form S-1 (Registration No. 333-39502)
4.2
Deposit Agreement, dated November 24, 2011, between Coach, Inc. and JPMorgan Chase Bank, N.A., as depositary, which is incorporated by reference from Exhibit 4.1 to Coach’s Current Report on Form 8-K filed on November 25, 2011
4.3
Deed Poll, dated November 24, 2011, executed by Coach, Inc. and JPMorgan Chase Bank, N.A., as depositary, pursuant to the deposit agreement in favor of and in relation to the rights of the holders of the depositary receipts, which is incorporated by reference from Exhibit 4.1 to Coach’s Current Report on Form 8-K filed on November 25, 2011
10.1
Revolving Credit Agreement, dated as of July 26, 2007, by and between Coach, certain lenders and Bank of America, N.A. which is incorporated by reference from Exhibit 10 to Coach’s Quarterly Report on Form 10-Q for the period ended April 2, 2011
10.2*
Revolving Credit Agreement, dated as of June 18, 2012, by and between Coach, certain lenders and JPMorgan Chase Bank, N.A., as administrative agent
10.3
Coach, Inc. 2000 Stock Incentive Plan, which is incorporated by reference from Exhibit 10.10 to Coach’s Annual Report on Form 10-K for the fiscal year ended June 28, 2003
10.4
Coach, Inc. Performance-Based Annual Incentive Plan, which is incorporated by reference from Appendix A to the Registrant’s Definitive Proxy Statement for the 2005 Annual Meeting of Stockholders, filed on September 28, 2005
10.5
Coach, Inc. 2000 Non-Employee Director Stock Plan, which is incorporated by reference from Exhibit 10.13 to Coach’s Annual Report on Form 10-K for the fiscal year ended June 28, 2003
10.6
Coach, Inc. Non-Qualified Deferred Compensation Plan for Outside Directors, which is incorporated by reference from Exhibit 10.14 to Coach’s Annual Report on Form 10-K for the fiscal year ended June 28, 2003
10.7
Coach, Inc. 2001 Employee Stock Purchase Plan, which is incorporated by reference from Exhibit 10.15 to Coach’s Annual Report on Form 10-K for the fiscal year ended June 29, 2002
Exhibit No.
Description
10.8
Coach, Inc. 2004 Stock Incentive Plan, which is incorporated by reference from Appendix A to the Registrant’s Definitive Proxy Statement for the 2004 Annual Meeting of Stockholders, filed on September 29, 2004
10.9
Employment Agreement dated June 1, 2003 between Coach and Lew Frankfort, which is incorporated by reference from Exhibit 10.20 to Coach’s Annual Report on Form 10-K for the fiscal year ended June 28, 2003
10.10
Employment Agreement dated June 1, 2003 between Coach and Reed Krakoff, which is incorporated by reference from Exhibit 10.21 to Coach’s Annual Report on Form 10-K for the fiscal year ended June 28, 2003
10.11
Branding Agreement dated August 5, 2010 between Coach and Reed Krakoff, which is incorporated by reference from Exhibit 10.10 to Coach’s Annual Report on Form 10-K for the fiscal year ended July 3, 2010
10.12
Amendment to Employment Agreement, dated August 22, 2005, between Coach and Lew Frankfort, which is incorporated by reference from Exhibit 10.23 to Coach’s Annual Report on Form 10-K for the fiscal year ended July 2, 2005
10.13
Amendment to Employment Agreement, dated August 22, 2005, between Coach and Reed Krakoff, which is incorporated by reference from Exhibit 10.23 to Coach’s Annual Report on Form 10-K for the fiscal year ended July 2, 2005
10.14
Performance Restricted Stock Unit Award Grant Notice and Agreement, dated August 6, 2009, between Coach and Lew Frankfort, which is incorporated by reference from Exhibit 10.13 to Coach’s Annual Report on Form 10-K for the fiscal year ended July 3, 2010
10.15
Employment Agreement dated November 8, 2005 between Coach and Michael Tucci, which is incorporated by reference from Exhibit 10.1 to Coach’s Quarterly Report on Form 10-Q for the period ended December 31, 2005
10.16
Employment Agreement dated November 8, 2005 between Coach and Michael F Devine, III, which is incorporated by reference from Exhibit 10.2 to Coach’s Quarterly Report on Form 10-Q for the period ended December 31, 2005
10.17
Amendment to Employment Agreement, dated March 11, 2008, between Coach and Reed Krakoff, which is incorporated herein by reference from Exhibit 10.16 to Coach’s Annual Report on Form 10-K for the fiscal year ended June 28, 2008
10.18
Amendment to Employment Agreement, dated August 5, 2008, between Coach and Michael Tucci, which is incorporated herein by reference from Exhibit 10.16 to Coach’s Annual Report on Form 10-K for the fiscal year ended June 28, 2008
10.19
Performance Restricted Stock Unit Award Grant Notice and Agreement, dated August 5, 2010, between Coach and Jerry Stritzke, which is incorporated herein by reference from Exhibit 10.19 to Coach’s Annual Report on Form 10-K for the fiscal year ended July 3, 2010
10.20
Coach, Inc. 2010 Stock Incentive Plan, which is incorporated by reference from Appendix A to the Registrant’s Definitive Proxy Statement for the 2010 Annual Meeting of Stockholders, filed on September 24, 2010
10.21
Amendment to Employment Agreement, dated May 7, 2012, between Coach and Lew Frankfort, which is incorporated herein by reference from Exhibit 10.1 to Coach’s Current Report on Form 8-K filed on May 8, 2012
10.22
Amendment to Employment Agreement, dated May 7, 2012, between Coach and Reed Krakoff, which is incorporated herein by reference from Exhibit 10.2 to Coach’s Current Report on Form 8-K filed on May 8, 2012
Exhibit No.
Description
10.23
Amendment to Employment Agreement, dated May 7, 2012, between Coach and Michael Tucci, which is incorporated herein by reference from Exhibit 10.3 to Coach’s Current Report on Form 8-K filed on May 8, 2012
10.24
Performance Restricted Stock Unit Award Grant Notice and Agreement, dated August 4, 2011, between Coach and Michael Tucci, which is incorporated herein by reference from Exhibit 10.1 to Coach’s Quarterly Report on Form 10-Q for the fiscal period ended October 1, 2011
10.25
Employment Offer Letter, dated July 19, 2011, between Coach and Jane Nielsen, which is incorporated herein by reference from Exhibit 10.2 to Coach’s Quarterly Report on Form 10-Q for the fiscal period ended October 1, 2011
10.26
Consulting Agreement dated October 7, 2011 between Coach and Michael F. Devine, III, which is incorporated herein by reference from Exhibit 10.1 to Coach’s Current Report on Form 8-K filed on October 7, 2011
10.27
Sponsor Agreement, dated November 24, 2011, between Coach, Inc. and J.P. Morgan Securities (Asia Pacific) Limited, as sponsor, which is incorporated herein by reference from Exhibit 4.1 to Coach’s Current Report on Form 8-K filed on November 25, 2011
Letter re: change in accounting principle, which is incorporated herein by reference from Exhibit 18 to Coach’s Quarterly Report on Form 10-Q for the period ended October 2, 2010
21.1*
List of Subsidiaries of Coach
23.1*
Consent of Deloitte & Touche LLP
31.1*
Rule 13(a)-14(a)/15(d)-14(a) Certifications
32.1*
Section 1350 Certifications
101.INS*
XBRL Instance Document
101.SCH*
XBRL Taxonomy Extension Schema Document
101.CAL*
XBRL Taxonomy Extension Calculation Linkbase
101.LAB*
XBRL Taxonomy Extension Label Linkbase
101.PRE*
XBRL Taxonomy Extension Presentation Linkbase
101.DEF*
XBRL Taxonomy Extension Definition Linkbase
* Filed herewith