MOV

Movado Group Inc. 10-Q Summary: Period Ended July 31, 2004

Business Context and Reporting Period

This is an unaudited quarterly report (Form 10-Q) for Movado Group Inc., a designer and distributor of luxury watches, for the quarter and six months ended July 31, 2004. The Company operates through Wholesale and Retail segments across Domestic (North America) and International markets. A significant event during this period was the completion of the acquisition of the Ebel brand from LVMH, finalized in March 2004 with the German portion completed in July 2004.

Key Financial Metrics

Cash Flow (Six Months): Operating activities used $18.9 million (vs. $0.2 million used in prior year). Investing activities used $50.6 million, primarily for the Ebel acquisition ($43.5 million). Financing activities provided $13.8 million.

Material Changes vs. Prior Period

• Revenue Growth: Net sales increased 25.8% year-over-year for the six months, driven by a 26.3% increase in Wholesale sales and a 23.6% increase in Retail sales. International wholesale sales surged 94.4%.
• Margin Compression: Gross margin percentage declined from 61.2% to 58.9% (six months). Management attributes this to the inclusion of the Ebel brand (lower margins), higher sales mix of Tommy Hilfiger (lower margins), and a shift in boutique sales toward jewelry.
• Acquisition Impact: The Ebel acquisition contributed $12.8 million in sales for the six months but resulted in a reported loss of $3.1 million for the period due to integration costs and lower initial margins.
• Litigation Gain: A one-time pre-tax gain of $1.4 million was recorded from a settlement with Swiss Army Brands, Inc., boosting net income by approximately $0.8 million.
• Inventory Build: Inventories increased significantly to $181.8 million (from $121.7 million at Jan 31, 2004), largely due to the Ebel acquisition and stocking for the holiday season. Ebel inventory alone was $91.4 million with a reserve of $48.2 million.

Guidance, Outlook, and Risks

Management Commentary: Management highlights strong growth in the Tommy Hilfiger brand (up 64.5% domestically) and international expansion, particularly in Asia. The Retail segment saw 66.8% growth in Movado Boutique sales, driven by 8 new stores and 18.4% comparable store sales growth.

Liquidity and Debt: The Company utilized its $75 million revolving credit line, with $25 million outstanding at period end. The average borrowing rate decreased to 4.7% for the six months. The Company settled the mortgage assumed in the Ebel acquisition during the quarter.

Risks and Contingencies:

• Integration Risk: Success depends on integrating Ebel operations without disrupting existing business.
• Currency Risk: Significant exposure to the Swiss Franc; the Company uses hedging strategies (forwards and options) to mitigate this.
• Market Conditions: Risks include general economic conditions, consumer spending trends, and competition.
• Inventory Valuation: A substantial inventory reserve ($51.2 million total, $48.2 million related to Ebel) indicates potential write-down risks if Ebel products do not sell as projected.

Investor Verification Checklist

• Ebel Performance: Verify the trajectory of Ebel's profitability and the adequacy of the $48.2 million inventory reserve.
• Margin Trends: Monitor if gross margins stabilize as the Ebel brand is revitalized and the product mix normalizes.
• Cash Burn: Assess the sustainability of the $18.9 million cash outflow from operations, driven by inventory buildup and acquisition integration costs.
• Debt Covenants: Review the terms of the $75 million credit facility and the $30 million Senior Notes to ensure compliance with leverage ratios given the increased debt load.
• One-Time Items: Exclude the $1.4 million litigation settlement when analyzing core operating performance.