The businessFossil designs and markets watches and accessories. Since its inception in 1984, they has grown into a diversified company offering an fashion watches under the proprietary FOSSIL, RELIC and ZODIAC brands and BURBERRY, DIESEL, DKNY and EMPORIO ARMANI. Additionally, they sell a wide range of accessories including small leather goods, belts, handbags, andsunglasses under the FOSSIL and RELIC brands, jewelry under the FOSSIL and EMPORIO ARMANI brands and FOSSIL brand apparel. Domestically, Fossil sells its products in approximately 20,500 retail locations in the United States through a diversified distribution network that includes approximately 7,500 department store doors, such as Federated/Macy's, Sak's, Nordstroms, May Department Stores, and Dillard's for its FOSSIL brand and certain licensed brands and JCPenney, Kohls and Sears for its RELIC brand, and approximately 13,000 specialty retail locations.Fossil has a network of 98 company-owned stores, with 44 retail stores located in premier retail sites and 54 outlet stores located in major outlet malls. They have one of the better websites for retail I have seen www.fossil.com. Internationally, products are also sold to department stores and specialty retail stores in over 90 countries worldwide through company-owned foreign sales subsidiaries and through a network of approximately 60 independent distributors. Products can be found in Europe, South and Central America, the Caribbean, Canada, Mexico, the Far East, Australia and the Middle East. Products are offered on cruise ships and in 22 international company-owned retail stores. Additionally, Fossil products are sold through independently-owned retail stores and kiosks in some international markets. In 1995, they opened outlet stores at selected major outlet malls throughout the United States. The Company currently operates 54 outlet stores. These stores, which operate under the FOSSIL name, enable them liquidate excess inventory and increase brand awareness. They intend to open six to eight additional outlet stores in 2004. In 1996, they opened full priced accessory Fossil retail stores in retail malls and entertainment parks in the United States in order to broaden the recognition of the brand name. Fossil operates 26 accessory retail stores in leading malls and retail locations throughout the United States and 18 accessory retail stores in select international markets. They will open three to four additional accessory retail stores in the United States in 2004. In 2000, they began offering Fossil brand apparel through specially designed Company-owned apparel stores--18 Fossil jeans wear stores in malls and retail locations throughout the United States. The apparel stores carry the full apparel line along with an assortment of certain Fossil watch and accessory products.Three to four additional apparel stores will open in 2004. They operated 119 stores at the end of the year, consisting of 53 outlet, 26 accessory and 18 jeanswear stores in the United States and 22 stores located outside the United States. This compares to 104 stores at the end of the prior year. Fossil opened 17 new stores during the year. They expect to open 12 to 16 new stores in 2004 with at least one-half of these new store openings planned to be outlet concepts. During fiscal years 2003, 2002 and 2001, company-owned Fossil store sales accounted for approximately 13.3%, 12.5%, and 12.5% of net sales, respectively. ProductsThey occupy a niche between the high priced Rolex/Piaget and the low priced Timex/mass produced $5 off-brand digitals. Fossil competes in the range of moderately priced watches. The higher end watches are BURBERRY, EMPORIO ARMANI and ZODIAC and are generally over $150. The lower priced products between $40 to $150 are covered by the Fossil and Relic brands. A chief competitor would be Swatch. They intend to penetrate the low-priced market $5 to $40 in 2004.In 2000,Fossil introduced a line of apparel that is distributed exclusively through company-owned retail stores and the company's website. The apparel line is focused on the casual lifestyle of 16 to 24 year old consumers and consists primarily of jeans, tee shirts, and sweatshirts featuring FOSSIL brand packaging and labeling. Manufacturing and distribution strategyProducts are manufactured by independent contractors and by companies in which Fossil holds a majority interest. Substantially all of the company's watches are manufactured by approximately 39 factories located primarily in Hong Kong and China, except for the Swiss watches which are assembled in Switzerland. Outsourcing products allows it to achieve increased production flexibility while avoiding significant capital expenditures, build-ups of work-in-process inventory and the costs of managing a substantial production work force. The average lead time from the commitment to purchase products through the production and shipment thereof ranges from two to three months in the case of watches, from two to six months in the case of eyewear, from three to four months in the case of leather goods, from two to four months for apparel items and from two to four months for jewelry.Fossil owns a majority interest in a number of watch assemblers with locations in China. In addition, theymaintains close relationships with accessory manufacturers in the Far East. These relationships create a significant competitive advantage as they allow Fossil to produce quality products, reduce the delivery time to market and improve overall operating margins.The company distributes substantially all of its products sold in the United States and from its warehouse and distribution center in Dallas, Texas.They distribute products tointernational markets from warehouse and distribution centers located in Germany, Italy, Hong Kong, Australia, France, Switzerland, Japan, Singapore and the United Kingdom. In September 2003, the company opened a new 100,000 square foot distribution facility in Germany. Backlog At the end of 2003, Fossil had unfilled customer orders of approximately $72.1 million compared to $43.9 million and $57.4 million for fiscal years 2002 and 2001.PropertyThey lease all retail space. They own five properties including corporate headquarteres and warehouses. The lease obligations can be considered as a form of debt.All share and per share price data has been adjusted to reflect three-for-two stock splits effected in the form of a stock dividend paid on August 17, 1999 and June 7, 2002. This data has not been adjusted to reflect the three-for-two stock split declared on March 12, 2004, to be effected in the form of a stock dividend to be paid on April 8, 2004 to stockholders of record on March 26, 2004. Income statement 2003 2002 2001 2000 1999gross margins 54% 53% 52% 52% 52%operating margins 14% 14% 14% 19% 21%net margins 9% 9% 8% 11% 12%growth revenue 18% 22% 8% 20% --growth gross 21% 24% 7% 20% --growth operating 14% 25% -18% 7% --growth net 16% 35% -22% 8% --growth COGS 14% 19% 9% 21% --growth SGA 22% 22% 20% 29% --growth EPS diluted 15% 31% -18% 10% --growth EPS cont operations 15% 31% -14% 4% --tax rate 38% 39% 40% 41% 41%**Net margins increasing over 2001**Growth has slowed since 2002 but is still high**Decreasing tax rae due to mix of overseas sales and lower rates in foreign countries**Domestic watch sales increased 2.4% primarily as a result of a 5.5% increase in sales of FOSSIL watches and a 17.3% increase in sales of licensed brand watches. These sales gains were partially offset by decreases in RELIC watches and by the discontinuance of the EDDIE BAUER private label watch line.**Operating expenses increased approximately $53 million during 2003 and, as a percentage of net sales, increased to 37.3% during 2003 compared to 35.9% for the prior year. Included in 2003 operating expenses is approximately $13 million in additional costs related to the translation impact of stronger foreign currencies into U.S. dollars and approximately $7 million related to operating expenses of businesses acquired in 2002. The remaining $33 million increase in operating expenses during 2003 primarily reflects increases in:1)personnel and other costs associated with new business initiatives primarily related to the Company's Swiss watch, EMPORIO ARMANI jewelry and tech watch businesses for which there have been minimal revenue contributions to-date2)advertising costs3) depreciation and amortization expense.**Increased operating expenses, as a percentage of net sales, were partially offset by improved gross profit margins resulting in operating profit margin of 14.1% of net sales compared to 14.5% of net sales in 2002. Operating income for the year included approximately $15 million of additional income as a result of the effects of stronger foreign currencies. **Sales from company-owned retail stores worldwide increased 25.3% during the year as a result of a 14.4% increase in the average number of stores opened during the year and comp-store sales gains of 10.6%. Double-digit comp store growth during the year was attributable to better in-store merchandising and visual presentation and lower quantities of discounted merchandise available in comparison to the prior year that resulted in higher average selling prices during 2003.**In 2003, 2002 and 2001, domestic department stores accounted for approximately 43.1%, 49.3%, and 53.3% of the net sales, respectively. In addition, in the same periods, the 10 largest customers represented approximately 20%, 25%, and 39% of net sales, respectively. No customer accounted for more than 10% of the net sales in fiscal years 2003, 2002 and 2001. **Foreign operations include a presence in Australia, Canada, the Caribbean, Central and South America, Europe, the Far East, and the Middle East. Payment from its foreign distributors is in United States currency. During 2003, 2002 and 2001, international and export sales accounted for approximately 43.6%, 38.1%, and 34.5%, of net sales.**During 2003, 2002 and 2001, company-owned FOSSIL store sales accounted for approximately 13.3%, 12.5%, and 12.5% of net sales, respectively. Balance Sheet 2003 2002 2001 2000 1999current ratio 3.4 3.1 2.5 3.0 3.0quick ratio 1.2 0.9 0.6 0.9 1.2AR growth 41% 17% 18% 22% DSO 56.9 47.5 49.5 45.5 44.7 inventory days 128.5 141.2 143.3 122.2 114.9growth in payables -18% 55% 16% 54% growth in inventory 4% 17% 28% 29%CCC 157.9 150.5 163.3 140.2 138.0ROE 16% 17% 17% 25% 27%ROA 12% 12% 11% 18% 19%ROIC 16% 17% 16% 25% 26%debt/equity 0.7% 0.7% 6.1% 2.3% 2.6%debt/capital 1% 1% 6% 2% 3%book value 6.0 4.8 3.8 3.2 2.6 cash/share $2.26 $1.61 $0.99 $1.17 $1.26 NC WC 158.2 131.3 111.8 95.4 69.3change in NC WC 26.9 19.5 16.4 26.1 69.3payable days outstanding 27.5 38.2 29.4 27.5 21.7 **Accounts receivable increased to $122 million at year-end compared to $86 million at January 4, 2003. Day's sales outstanding increased to 56 days for the year compared to 47 days in the prior year. The majority of this increase was attributable to an increase in the collection cycle and currency translation effects. The collection cycle has increased as a result of a larger percentage of international sales, which historically have longer collection periods than those experienced in the U.S. **Inventory at year-end was current and on-plan at $127 million, an increase of 4.1% compared to prior year inventory of $122 million, and well below the rate of the company's net sales growth. **At the end of the year, the Company had working capital of $314 million compared to working capital of $241 million at the end of the prior year. **The Company had approximately $2.8 million of outstanding borrowings against its combined $43 million short-term bank credit facility and no long term debt**Increasing cash per share**Increasing book value*High ROA; ROE has decreased over the past few years, but has gone to almost nothing during this period**Better inventory turns**CCC would have been better but days payable declinedCash flow statement 2003 2002 2001 2000 1999growth in operating cash flow -9% 66% 21% -35% --operating cash/revenue 9% 12% 9% 8% 15%operating cash/net income 108% 138% 112% 72% 119%operating cash/debt+interest 25.3 31.1 3 7.7 12.7growth capex -7% -56% 252% 53% --capex/operating cash 39% 39% 146% 50% 22%free cash flow 44.6 49.7 -22.5 20 48.3free cash flow/share $0.64 $0.71 $(0.33) $0.30 $0.67 ** Cash flow from operations combined with existing cash on hand and amounts available under its credit facility will be sufficient to satisfy the cash requirements of its working capital needs for at least the next eighteen months. ** During years 2003 and 2002, the company repurchased and retired 568,324 and 3,558 shares, respectively, at a cost of approximately $14.3 million and $59,000, respectively. Shares outstanding has decreased since 1999, but at current levels of options exercise and repurchase the number of shares is still increasing slightly. The recent 3:2 split increased shares to 71 million. **Free cash flow positive**Capex easily covered by operating cash flow**Low levels of debt easily covered by operating cash flow**Operating cash flow declining as accounts receivable and inventories riseGrowthBased upon planned new door openings and continued positive comp-store sales growth, management believes retail stores net sales growth will exceed 15% in 2004. A store is included in comp-store sales in the thirteenth month of operation. Stores that experience a gross square footage increase of 10% or more due to an expansion and/or relocation are removed from the comp-store sales base, but are included in total sales. These stores are returned to the comp-store sales base in the thirteenth month following the expansion and/or relocation. Same stores sales have inreased by 10% and they do not breakout square footage sales.Off balance sheet liabilitiesFuture royalty paymentsFuture minimum royalty commitments under such license agreements at the close of fiscal year 2003 are as follows (amounts in thousands): 2004 $ 22,092 2005 22,015 2006 23,598 2007 23,636 2008 19,666 Thereafter 6,828 --------- $ 117,835 Rent obligationsThis is a fairly large expense for retailers in general. The rent expense can be reclassified as debt and even if the company is almost debt free as Fossil is, this represents an obligation that must be paid.Rent expense under these agreements was approximately $23.2 million, $20.6 million, and $17.5 million for fiscal years 2003, 2002 and 2001, respectively. Future minimum rental commitments under such non-cancelable leases at the close of fiscal year 2003 are as follows (amounts in thousands): 2004 $ 18,760 2005 17,571 2006 15,148 2007 13,853 2008 12,529 Thereafter 28,615 --------- $ 106,476 Their estimated bond rating would be A+With leases reclassified as debt, they are obligated to a total expense of $84.14 million. That would be due over the next 11 years.Cost of debt is estimated at 7.5%Net cash from operating activities still comfortably covers this yearly Options The weighted average fair value of the stock options granted during fiscal years 2003, 2002 and 2001 was $15.07, $11.07 and $6.86, respectively. Incentive options3.9 million outstanding 2003exercised 779,125 @$10.21 2002Non-employee options195,000 outstanding 200322,500 exercised @ $7.28 2002Total 4.1 million @$15.07=$61.79 millionPer share $0.87Total dilution 5.7% which is not abusiveValuationDCF assumptionsThree stage growth modelHigh growth 8 years 15%Risk free rate 4.45Market risk 5.51Beta 1EPS $0.93No dividendsCapex/share $0.41Depreciation/share $0.27Revenue/share $11.17Noncash wc/share $2.26Change in nincash wc $0.38Transition 5 years gradualStable growth 3%Depreciation capex wc all grow at same rate as earningsCapex exceeds depreciation by 100% in stable growthValue of Fossil= $28.77Value of options =$0.87Value per share =$27.90Current P/E around 27P/BV around 4.5% Held by Insiders: 46.87% % Held by Institutions: 67.15% There is a lot to like about Fossil. They are a company that is currently doing everything right. Earnings growth has been double digit for 2 years and the most recent quarter did not disappoint. The strategy to open company owned stores appears to be paying off and the comps are good at over 10%. The internet presence is strong with store fronts at sites such as Amazon and AOL. Their own website is nicely designed and easy to navigate. The selection of watches is impressive. The price ranges have something for everyone and their entry into the lower-priced categories should increase sales in the $5 to $40 market.They will be selling in WalMart and Target. This spring they acquired Michele Watches which is an upscale watch maker. The average price is $800 per watch and that is expected to add $25 million in sales for 2004. They impress as a company that knows how to grow and has yet to make many missteps.The downside is that investors are well aware of their success and the price reflects that. They are fully to over-priced right now. They are not a value. If you are comfortable taking a gamble on a momentum stock, they may provide more upside. If the consumer begins to flag over the next year, there may not be as much appreciation in price as needed to take the plunge. These are things you can't know. Buying a fully valued stock presents this risk, there is no margin of safey here.Value Line likes them quite a bit and has increased their timeliness to 1. What this means is the company has momentum behind it and you could expect some decent price apprecition at least until consumers quit spending.Another quarter of strong sales and profit growth has helped propel Fossil shares to the top of our Timeliness ranking system. The watch maker is posting impressive sales gains along a number of fronts, especially in its international and retail-store businesses and leveraging this growth to realize wider operating margins. This potent combination drove second-quarter earnings 50% higher, to $0.21 a share, surpassing our estimate of $0.18. Share- net comparisons become more challenging over the rest of 2004, but the favorable momentum in place should support bottom-line gains in excess of 20%. In all, we are raising our full-year estimate by $0.03, to $1.23 a share. Fossil's June-quarter results were warmly received by the market, which bid the stock up roughly 10%. And as noted, the Timeliness rank for FOSL shares has moved up, to 1
2003 2002 2001 2000 1999gross margins 54% 53% 52% 52% 52%operating margins 14% 14% 14% 19% 21%net margins 9% 9% 8% 11% 12%growth revenue 18% 22% 8% 20% --growth gross 21% 24% 7% 20% --growth operating 14% 25% -18% 7% --growth net 16% 35% -22% 8% --growth COGS 14% 19% 9% 21% --growth SGA 22% 22% 20% 29% --growth EPS diluted 15% 31% -18% 10% --growth EPS cont operations 15% 31% -14% 4% --tax rate 38% 39% 40% 41% 41%
2003 2002 2001 2000 1999current ratio 3.4 3.1 2.5 3.0 3.0quick ratio 1.2 0.9 0.6 0.9 1.2AR growth 41% 17% 18% 22% DSO 56.9 47.5 49.5 45.5 44.7 inventory days 128.5 141.2 143.3 122.2 114.9growth in payables -18% 55% 16% 54% growth in inventory 4% 17% 28% 29%CCC 157.9 150.5 163.3 140.2 138.0ROE 16% 17% 17% 25% 27%ROA 12% 12% 11% 18% 19%ROIC 16% 17% 16% 25% 26%debt/equity 0.7% 0.7% 6.1% 2.3% 2.6%debt/capital 1% 1% 6% 2% 3%book value 6.0 4.8 3.8 3.2 2.6 cash/share $2.26 $1.61 $0.99 $1.17 $1.26 NC WC 158.2 131.3 111.8 95.4 69.3change in NC WC 26.9 19.5 16.4 26.1 69.3payable days outstanding 27.5 38.2 29.4 27.5 21.7
2003 2002 2001 2000 1999growth in operating cash flow -9% 66% 21% -35% --operating cash/revenue 9% 12% 9% 8% 15%operating cash/net income 108% 138% 112% 72% 119%operating cash/debt+interest 25.3 31.1 3 7.7 12.7growth capex -7% -56% 252% 53% --capex/operating cash 39% 39% 146% 50% 22%free cash flow 44.6 49.7 -22.5 20 48.3free cash flow/share $0.64 $0.71 $(0.33) $0.30 $0.67
2004 $ 22,092 2005 22,015 2006 23,598 2007 23,636 2008 19,666 Thereafter 6,828 --------- $ 117,835
2004 $ 18,760 2005 17,571 2006 15,148 2007 13,853 2008 12,529 Thereafter 28,615 --------- $ 106,476
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