| GUESS INC ITEM 1A Risk Factors |
| You should carefully consider the following factors and other information in this Annual Report or Form 10-K Additional risks which we do not presently consider material, or of which we are not currently aware, may also have an adverse impact on us |
| Demand for our merchandise may decrease and the appeal of our brand image may diminish if we fail to identify and rapidly respond to consumers’ fashion tastes |
| The apparel industry is subject to rapidly evolving fashion trends and shifting consumer demands |
| Accordingly, our brand image and our profitability are heavily dependent upon both the priority our target customers place on fashion and on our ability to anticipate, identify and capitalize upon emerging fashion trends |
| Current fashion tastes place significant emphasis on a fashionable look |
| If we fail to anticipate, identify or react appropriately, or in a timely manner, to fashion trends, we could experience reduced consumer acceptance of our products, a diminished brand image and higher markdowns |
| These factors could result in lower selling prices and sales volumes for our products and could have a material adverse effect on our results of operations and financial condition |
| The apparel industry is highly competitive, and we may face difficulties competing successfully in the future |
| We operate in a highly competitive and fragmented industry with low barriers to entry |
| We compete with many apparel manufacturers and distributors, both domestically and internationally, as well as many well-known designers, some of whom have substantially greater resources than we do and some of whose products are priced lower than ours |
| Our retail and factory outlet stores compete with many other retailers, including department stores, some of whom are our major wholesale customers |
| Our licensed apparel and accessories compete with many designer and non-designer lines and well-known brands |
| Within each of our geographic markets, we also face significant competition from global and regional branded apparel companies, as well as retailers that market apparel under their own labels |
| These and other competitors pose significant challenges to our market share in our existing major domestic and foreign markets |
| In addition, our larger competitors may be better able than we to adapt to changing conditions that affect the competitive market |
| Also, the industry’s low barriers to entry allows the introduction of new products or new competitors at a faster pace |
| Any of these factors could result in reductions in sales or prices of our products and could have a material adverse effect on our results of operations and financial condition |
| Changes in the economy and trends in consumer confidence may adversely affect the fashion industry as well as our operating results |
| Purchases of apparel and related merchandise tend to decline during recessionary periods and also may decline at other times |
| Reduced levels of consumer spending can also result from (i) changes in interest rates, (ii) the availability of consumer credit, (iii) changes in taxation rates, (iv) consumer confidence in future economic conditions and (v) reduced levels of consumer disposable income |
| Due to these cyclical factors in the retail industry, we may not be able to maintain our growth in revenues or earnings, or remain profitable in the future |
| Actual or potential terrorist acts and other conflicts in recent periods have also created significant instability and uncertainty in the world and may have additional effects in the future |
| These may include causing consumers to defer purchases or preventing our suppliers and service providers from providing required services or materials to us |
| These or other impacts could materially and adversely affect our operating results |
| 14 ______________________________________________________________________ We could find that we are carrying excess inventories if we fail to anticipate consumer demand, if our international vendors do not supply quality products on a timely basis, if our merchandising strategies fail or if we do not open new and remodel existing stores on schedule |
| We currently purchase a significant majority of our finished products from international third-party vendors |
| Consequently, we must commit to styles and fabrics well in advance of the applicable fashion season |
| Because of this commitment, the products we eventually receive might not be consistent with constantly changing consumer tastes |
| Further, even if we correctly anticipate consumer fashion trends, our vendors could fail to supply the quality products and materials we require at the time we need them |
| Moreover, we could fail to effectively market or merchandise these products once we receive them |
| Lastly, we could fail to open new or remodeled stores on schedule, and inventory purchases made in anticipation of such store openings could remain unsold |
| Any of the above factors could cause us to experience excess inventories and higher markdowns, which in turn could have a material adverse effect on our results of operations and financial condition |
| Our success depends on maintaining good working relationships with our suppliers and manufacturers |
| We do not own or operate any production equipment, and we depend on independent contractors to supply our fabrics and to manufacture our products to our specifications |
| We do not have long-term contracts with any suppliers or manufacturers, and our business is dependent on continued good relations with our vendors |
| In addition, none of our suppliers or manufacturers supplies or manufactures our products exclusively |
| As a result, we compete with other companies for the production capacity of independent manufacturers and international import quota capacity |
| If our vendors or manufacturers fail to ship our fabrics or products on time or to meet our quality standards or are unable to fill our orders, we might not be able to deliver products to our retail stores and wholesale customers on time or at all |
| Moreover, our manufacturers have at times been unable to deliver finished products in a timely fashion |
| This has led to an increase in our inventory, causing a decrease in our profitability |
| As there are a limited number of qualified, offshore manufacturers, it could take significant time to find alternative manufacturers, which could result in our missing retailing seasons or our wholesale customers’ canceling orders, refusing to accept deliveries or requiring that we lower selling prices |
| Since we cannot return merchandise to our manufacturers, we could also have a significant amount of unsold merchandise |
| Any of these problems could harm our financial condition and results of operations |
| Our wholesale business is highly concentrated |
| The decision by any of our large customers to decrease their purchases of our products or stop carrying our products could have a material adverse effect on our results of operations and financial condition |
| In 2005, 5dtta8prca of our consolidated net revenue came from Bloomingdale’s, Macy’s and other affiliated stores owned by Federated Department Stores, Inc, including the May Department Stores acquired by Federated as of August 30, 2005, treated as if Federated had owned such stores for the entire year |
| 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 |
| Also, as we expand the number of our retail stores, we run the risk that our wholesale customers will perceive that we are increasingly competing directly with them, which may lead them to reduce or terminate purchases of our products |
| In addition, in recent years there has been a significant increase in the number of designer brands seeking placement in department stores, which makes any one brand potentially less attractive to department stores |
| products or to carry our products only on terms less favorable to us, our sales and profitability could significantly decrease |
| This could have a material adverse effect on our results of operations and financial condition |
| 15 ______________________________________________________________________ Since we do not control our licensees’ actions and we depend on our licensees for a substantial portion of our earnings from operations, their conduct could harm our business |
| We license to others the rights to produce and market products that are sold with our trademarks |
| If the quality, focus, image or distribution of our licensed products diminish, consumer acceptance of and demand for the GUESS? |
| brand and products could decline |
| This could materially and adversely affect our business and results of operations |
| In 2005, approximately 69dtta8prca of our net royalties were derived from our top five licensed product lines, all of which royalties have been contributed to our subsidiary and pledged to secure the ultimate payment of secured notes issued by another of our wholly owned subsidiaries |
| A decrease in customer demand for any of these product lines could have a material adverse effect on our results of operations and financial condition |
| We depend on our intellectual property, and our methods of protecting it may not be adequate |
| Our success and competitive position depend significantly upon our trademarks and other proprietary rights |
| We take steps to establish and protect our trademarks worldwide |
| Despite any precautions we may take to protect our intellectual property, policing unauthorized use of our intellectual property is difficult, expensive and time consuming, and we may be unable to determine the extent of any unauthorized use |
| We also place significant value on our trade dress and the overall appearance and image of our products |
| However, we cannot assure you that we can prevent imitation of our products by others or prevent others from seeking to block sales of GUESS? |
| products for violating their trademarks and proprietary rights |
| We also cannot assure you that others will not assert rights in, or ownership of, trademarks and other proprietary rights of GUESS?, that our proprietary rights would be upheld if challenged or that we would, in that event, not be prevented from using our trademarks, any of which could have a material adverse effect on our financial condition and results of operations |
| Further, we could incur substantial costs in legal actions relating to our use of intellectual property or the use of our intellectual property by others; even if we are successful, the costs we incur could have a material adverse effect on us |
| In addition, the laws of certain foreign countries do not protect proprietary rights to the same extent as do the laws of the United States |
| If we fail to successfully execute our growth initiatives, including through acquisitions, our business and results of operations could be harmed |
| As part of our business growth initiatives, we regularly open new stores in the United States and Canada |
| We also regularly evaluate strategic acquisitions and alliances and pursue those that we believe will support and contribute to our overall growth initiatives |
| For instance, we completed the acquisition of our former European jeanswear licensee during 2005 and continued our international expansion by opening new stores outside the US, primarily through stores owned by our international licensees and distributors |
| We plan to continue opening new stores in the US and internationally |
| This expansion effort places increased demands on our managerial, operational and administrative resources that could prevent or delay the successful opening of new stores, adversely impact the performance of our existing stores and adversely impact our overall results of operations |
| In addition, acquired businesses may not provide us with increased business opportunities, or result in the growth that we anticipate |
| Furthermore, integrating acquired operations is a complex, time-consuming and expensive process |
| Failing to acquire and successfully integrate complementary businesses, or failing to achieve the business synergies or other anticipated benefits of acquisitions, could materially adversely affect our business and results of operations |
| 16 ______________________________________________________________________ We may be unsuccessful in implementing our planned North America retail expansion, which could harm our business and negatively affect our results of operations |
| To open and operate new stores successfully, we must: · identify desirable locations, the availability of which is out of our control; · negotiate acceptable lease terms, including desired tenant improvement allowances; · build and equip the new stores; · source sufficient levels of inventory to meet the needs of the new stores; · hire, train and retain competent store personnel; · successfully integrate the new stores into our existing operations; and · satisfy the fashion preferences of customers in the new geographic areas |
| Any of these challenges could delay our store openings, prevent us from completing our store opening plans or hinder the operations of stores we do open |
| We cannot be sure that we can successfully complete our planned expansion or that our new stores will be profitable |
| Such things as unfavorable economic and business conditions and changing consumer preferences could also interfere with our plans to expand |
| Much of our business is international and can be disrupted by factors beyond our control |
| We have been reducing our reliance on domestic contractors and expanding our use of offshore manufacturers as a cost-effective means to produce our products |
| During 2005, we sourced a significant majority of our finished products from third-party suppliers located outside the United States and we also continued to increase our purchase of fabrics outside the United States |
| As part of this process, we have expanded our Hong Kong office to allow us to source directly from overseas factories |
| In addition, we have been increasing our international sales of product outside of the United States primarily through the significant expansion of our international stores through our licensees and distributors and through our 2005 acquisition of our European jeanswear licensee |
| As a result of our increasing international operations, we face the possibility of greater losses from a number of risks inherent in doing business in international markets and from a number of factors which are beyond our control |
| Such factors that could harm our results of operations and financial condition include, among other things: · political instability or acts of terrorism, which disrupt trade with the countries in which our contractors, suppliers or customers are located; · local business practices that do not conform to legal or ethical guidelines; · adoption of additional or revised quotas, restrictions or regulations relating to imports or exports; · additional or increased customs duties, tariffs, taxes and other charges on imports; · significant fluctuations in the value of the dollar against foreign currencies; · increased difficulty in protecting our intellectual property rights in foreign jurisdictions; · social, legal or economic instability in the foreign markets in which we do business, which could influence our ability to sell our products in these international markets; and · restrictions on the transfer of funds between the United States and foreign jurisdictions |
| 17 ______________________________________________________________________ Our imports are limited by textile agreements between the United States and some foreign jurisdictions, including Hong Kong most notably |
| These agreements impose quotas on the amounts and types of merchandise that may be imported into the United States from these countries |
| These agreements also allow the United States to limit the importation of categories of merchandise that are not now subject to specified limits |
| The United States and the countries in which our products are produced or sold may also, from time to time, impose new quotas, duties, tariffs or other restrictions, or adversely adjust prevailing quota, duty or tariff levels |
| In addition, none of our international suppliers or international manufacturers supplies or manufactures our products exclusively |
| As a result, we compete with other companies for the production capacity of independent manufacturers and import quota capacity |
| If we were unable to obtain our raw materials and finished apparel from the countries where we wish to purchase them, either because room or space under the necessary quotas was unavailable or for any other reason, or if the cost of doing so should increase, it could have a material adverse effect on our results of operations and financial condition |
| Our two most senior executive officers own a majority of our common stock |
| Their interests may differ from the interests of our other stockholders |
| Maurice and Paul Marciano, our two most senior executive officers, collectively beneficially own the majority of our outstanding shares of common stock |
| These officers may have different interests than our other stockholders and, accordingly, they may direct the operations of our business in a manner contrary to the interests of our other stockholders |
| As long as these officers own a majority of our common stock, they will effectively be able to: · elect our directors; · amend or prevent amendment of our Restated Certificate of Incorporation or Bylaws; · effect or prevent a merger, sale of assets or other corporate transaction; and · control the outcome of any other matter submitted to our stockholders for vote |
| Their stock ownership, together with the anti-takeover effects of certain provisions of applicable Delaware law and our Restated Certificate of Incorporation or Bylaws, may allow them to delay or prevent a change in control that may be favored by our other stockholders, which in turn could reduce our stock price or prevent our stockholders from realizing a premium over our common stock price |
| Our failure to attract and retain our existing senior management team and other key personnel could adversely affect our business |
| Our business requires disciplined execution at all levels of our organization in order to ensure the timely delivery of merchandise in appropriate quantities to our stores and our wholesalers’ stores |
| This execution requires experienced and talented management in design, production, merchandising and advertising |
| Our success depends upon the personal efforts and abilities of our senior management, particularly Maurice Marciano and Paul Marciano, and other key personnel |
| Although we have recently recruited several key executives with relevant industry expertise, the extended loss of the services of one or both of the Marcianos or other key personnel could materially harm our business |
| Although we are the beneficiary of a dlra10 million “key man” insurance policy on the life of Paul Marciano, we do not have any other “key man” insurance with respect to either of the Marcianos or other key employees, and any of them may leave us at any time, which could severely disrupt our business and future operating results |
| In addition, we announced on February 8, 2006 that our Senior Vice President and Chief Financial Officer, Frederick G Silny, will be leaving the Company on May 9, 2006 |
| Although we are actively searching for a successor, we may not be able to locate a new Chief Financial Officer prior to Mr |
| Silny’s departure |
| We also announced on February 15, 2006 that the staff of the SEC has notified (a so-called 18 ______________________________________________________________________ “Wells Notice”) our President and Chief Operating Officer, Carlos Alberini, that it is considering recommending that the SEC commence a civil enforcement action against him in connection with his service at his previous employer, Footstar, Inc |
| The period of the SEC’s inquiry predates his employment with GUESS? |
| or any other member of our management |
| Alberini is required to divert significant time and effort to this matter, or if certain of the remedies that may be sought are ultimately imposed, then his services to our business could be adversely affected or disrupted |
| We contributed most of our royalties under many of our trademark license agreements to a financing subsidiary, and these contributed royalties are being used as a primary asset for payment of obligations under our secured notes |
| If the revenue stream generated by these contributed royalties does not exceed the amounts payable under the notes from time to time, there may not be any royalties for the subsidiary to distribute to us |
| In 2003, we contributed the royalties under 15 of our 23 trademark license agreements, including our top five license agreements to a financing subsidiary |
| These contributed royalties are being used for payment of secured notes until the notes are paid in full |
| If the revenue stream generated by these contributed royalties does not exceed the amounts payable under the notes from time to time, there may not be any royalties for the subsidiary to distribute to us |
| One of our indirect, wholly owned subsidiaries has pledged all of our right, title and interest in a number of our trademarks and license agreements as collateral for the guarantee of the payment of our outstanding secured notes |
| If the note holders foreclose on the collateral, then we may lose all of our right, title and interest in those trademarks and revenues under those licensing agreements |
| In 2003, we contributed all of our right, title and interest in a number of our trademarks and domestic and largest European license agreements to a newly created, wholly owned subsidiary, Guess? |
| IP Holder LP, or IP Holder |
| IP Holder contributed all royalties due and to become due under those license agreements to another of our indirect, wholly owned subsidiaries, Guess? |
| Royalty Finance LLC, or Royalty Finance |
| Royalty Finance then issued dlra75 million secured notes due 2012, pledging future royalties due under those license agreements, which are its primary assets |
| IP Holder guaranteed the payment of the notes issued by Royalty Finance and pledged a number of our trademarks and license agreements as collateral for payment of its guarantee of the notes |
| IP Holder also granted a security interest in those trademarks and licensing agreements for the performance of its obligations to contribute the royalties on the license agreements to Royalty Finance |
| If the note holders seek to collect from IP Holder as guarantor of the notes and IP Holder cannot meet the obligations under the notes, then the note holders may foreclose on those trademarks and license agreements |
| Also, if IP Holder does not contribute future royalties under the licensing agreements to Royalty Finance, then Royalty Finance may foreclose on the those trademarks and license agreements |
| In either of these situations, the note holders would have a first priority interest in a number of our trademarks and domestic and largest European license agreements, and we would not receive any proceeds from these assets until the note holders have been paid in full |
| If certain events happen, we could lose our role as “servicer” of the trademarks and license agreements pledged by one of our wholly owned subsidiaries as collateral for its guarantee of the payment of the secured notes of another wholly owned subsidiary |
| If another party is appointed “servicer”, that party could issue new licenses or modify existing licenses in a manner that negatively impacts our overall brand performance and ultimately results in a decline in value of all our trademarks |
| When we transferred all our right, title and interest in a number of our trademarks and domestic and largest European license agreements to one of our wholly owned subsidiaries and that subsidiary pledged those trademarks and license agreements as collateral for the guarantee of the payment of secured notes issued by another of our wholly owned subsidiaries, we were appointed as servicer of the trademarks and 19 ______________________________________________________________________ license agreements |
| If certain events happen, such as the bankruptcy of Guess?, Inc |
| or the underperformance of these licenses producing royalties at a rate below specified trigger levels, we may be terminated as servicer of those trademarks and license agreements |
| A new servicer could be appointed and that servicer would have the authority to issue new license agreements and modify existing license agreements, with the likely goal of improving short-term cash flow and repaying the secured notes |
| In order to accomplish this goal, the new servicer may sacrifice the long-term value of the trademarks by, among other things, approving new distribution channels of our products that we currently do not use (such as mass market retailers) and reducing some of the quality requirements of the products our licensees sell |
| These actions could impact our overall brand performance and could ultimately result in a decline in value of all our trademarks |
| Fluctuations in our quarterly results of operations, comparable store sales, sales per square foot, wholesale operations or royalty net revenue or other factors could have a material adverse effect on our results of operations and financial condition |
| Our quarterly results of operations for our individual stores, our wholesale operations and our royalty net revenue have fluctuated in the past and can be expected to fluctuate in the future |
| Further, if our retail store expansion plans, both domestically and internationally, fail to meet our expected results, our overhead and other related expansion costs would increase without an offsetting increase in sales and net revenue |
| This could have a material adverse effect on our results of operations and financial condition |
| Our net revenue and operating results are typically lower in the second quarter of our fiscal year due to general seasonal trends in the apparel and retail industries |
| Our comparable store sales and quarterly results of operations are affected by a variety of factors, including: · shifts in consumer tastes and fashion trends; · the timing of new store openings and the relative proportion of new stores to mature stores; · calendar shifts of holiday or seasonal periods; · changes in our merchandise mix; · the timing of promotional events; · actions by competitors; · weather conditions; · changes in style; · changes in the business environment; · population trends; · changes in patterns of commerce such as the expansion of electronic commerce; and · the level of pre-operating expenses associated with new stores |
| An unfavorable change in any of the above factors could have a material adverse effect on our results of operations and financial condition |
| Violation of labor laws and practices by us or our licensees, contractors or suppliers could harm our business |
| We promote and follow applicable legal and ethical business practices through our internal and vendor operating guidelines |
| However, we do not control our licensees’, contractors’ or suppliers’ labor practices |
| The violation of labor or other laws by us or any of our licensees, contractors or suppliers, or 20 ______________________________________________________________________ divergence of a licensee’s, contractor’s or supplier’s labor practices from those generally accepted as ethical in the United States, could harm the value of our trademarks and the quality of our products |
| We rely on third parties and our own personnel for upgrading and maintaining our management information and accounting systems |
| If these parties do not perform these functions appropriately, our business could be disrupted |
| The efficient operation of our business is very dependent on our information and accounting systems |
| In particular, we rely heavily on the automated sortation system used in our distribution center and the merchandise management system used to track sales and inventory |
| We depend on our vendors to maintain and periodically upgrade these systems for the continued ability of these systems to support our business as we expand |
| The software programs supporting our automated sorting equipment and processing our inventory management information were licensed to us by independent software developers |
| The inability of these developers to continue to maintain and upgrade our software programs could result in incorrect information being supplied to management, inefficient ordering and replenishment of products and disruption of our operations if we are unable to convert to alternate systems in an efficient and timely manner |