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Notes Payable 0 0 5 93
Accounts Payable 137 133 157 134
Taxes Payable 0 38 88 87
Accrued Expenses 277 324 326 242
Other Current Liabilities 0 0 1,141 0
Total Current Liabilities 428 503 1,720 577
Long-Term Debt 2,530 2,363 1,332 727
Deferred Taxes 230 160 174 150
Other Liabilities 135 151 88 82
Total Noncurrent Liabilities 2,895 2,674 1,594 959
Total Liabilities 3,323 3,176 3,315 1,536

Equity:
Common Stock 220 159 57 75
Capital Surplus 0 0 0 29
Retained Earnings “321 “331 “464 942
Common (Total) Equity “101 “172 “407 1,045
Total Liabilities & Equity 3,222 3,004 2,908 2,581
......................................................................................................................................
Donna Karan International Inc.




1 996 was an exciting and challenging year for Donna Karan Interna-
tional Inc. . . . The year was marked by the following achievements: strong divi-
sional sales performance, segmentation of women™s apparel collections, growth of
men™s business, growth in international business, and an initial public offering.
Donna Ka-
While we are pleased with these accomplishments, 1996 was also marked by sig-
ran Inter-
ni¬cant challenges and setbacks. Despite our growth in net sales, our 1996 oper-
national
ating and net income declined signi¬cantly from 1995 levels. . . . Pro¬tability was
impacted by generally high corporate and administrative expenses and increased
investments in our newly segmented and existing businesses. . . . 1996™s ¬nancial
results were unacceptable. We are identifying and implementing changes that are
necessary to curtail the rise in selling, general, and administrative expenses, im-
prove gross margins, and continue growth without sacri¬cing the quality, consis-
tency, and image of the “Donna Karan New York” and “DKNY” brands.
Excerpts from Donna Karan International™s
Letter to Shareholders, 1996 Annual Report
Shortly after the publication of its ¬rst annual report (Exhibit 6), and the close of
Donna Karan International™s ¬rst full year as a public company, The Daily News ran the
following piece:
Fashion Week, the twice-yearly, week-long series of high-octane runway shows
opened last night. But, for a change the focus of this week™s 60 back-to-back cat-
walk shows won™t entirely be ¬xed on the celebrities or even hemlines. Instead,
much of the interest will be concentrated on the bottom line of another kind: Will
the image each designer presents create the cachet necessary to hawk $150 silk
scarves or $60 bottles of perfume to those of us who can™t afford a $5,000 suit?
The latest trend to bind the world of high fashion is a passion for the big bucks that
a working relationship with Wall Street can yield. . . . Donna Karan, who in June
was the ¬rst upscale American designer to take her chances on the stock market,
pocketed $58 million from the gamble. But, as Alan Millstein, editor of a fashion
newsletter, explains, it also puts Karan in a dodgy position this afternoon. “Now
that she is a public company, Donna is under the microscope and the stakes are

.........................................................................................................................
Research Associate Sarayu Srinivasan prepared this case under the supervision of Professor Krishna G. Palepu as
the basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative
situation. Copyright © 1997 by the President and Fellows of Harvard College. Harvard Business School case 9-197-
077.




915
916 Case: Donna Karan International Inc.




186 Part 4 Additional Cases




higher than ever before. Donna has suffered the slings and arrows of outrageous
fortune over the last nine months. Her stock, which debuted at $24, has fallen be-
low nine points. It doesn™t take a ¬nancial whiz to ¬gure out she has lost two-thirds
of her shareholders™ con¬dence. Psychologically, that™s a helluva blow.”1
Donna Karan International Inc. (DKI), an international fashion design house, was
founded in 1984 by its Chairman, CEO, and Chief Designer, Donna Karan, and her hus-
band and Co-Chief Executive Of¬cer, sculptor Stephen Weiss. The company was owned
Donna Karan International




by Karan, Weiss, and their ¬nancial backers, the Takihyo Group.
The company designed, contracted for the production of, marketed, and distributed
both “designer” and “bridge”2 collections of men™s and women™s clothing, sportswear,
accessories, and footwear under the Donna Karan New York and DKNY brand names.
The company also developed, contracted for the production of, marketed, and distrib-
uted collections of men™s and women™s fragrances and bath, body, and treatment prod-
ucts under the DK Men and Donna Karan New York brand names. In addition, the
company had selectively granted licenses for the manufacture and distribution of certain
other products under the Donna Karan New York and DKNY brands, including hosiery,
intimate apparel, eyewear, and children™s apparel.3
The company™s 1996 net revenues were $612.8 million, operating income was $13.3
million, and net income was $25 million. Exhibit 1 shows 1996 revenue breakdown. In
July of the same year, Karan broke with fashion tradition and took her ¬rm to the public
markets with an IPO.


THE U.S. APPAREL INDUSTRY
In 1994 the apparel industry had retail sales (including domestic wholesale sales, value
of apparel imports at entry, and retail markups) of $211 billion. Apparel included men™s,
women™s, and children™s clothing and accessories excluding footwear. Over half of all
apparel sales were for women™s apparel. Fashion products (as opposed to seasonal or ba-
sic) constituted 35 percent of the market.
The U.S. apparel market was divided into national and niche brands. National brands
made up 30 percent of all apparel sales and were produced by 20 or so large ¬rms such
as Fruit of the Loom, Inc., Levi-Strauss, and Liz Claiborne, Inc. National brands also
included apparel made overseas by U.S. manufacturers. Many national brand ¬rms pro-
duced more than one brand, some even produced private label brands. Niche or private
label brands were produced by a very fragmented industry of thousands of ¬rms of all
sizes, and accounted for the remaining 70 percent of apparel sales.4

.........................................................................................................................
1. Excerpted from Orla Healy, “Designers are up against a Wall Street,” Daily News , April 6, 1997, p. 31.
2. Bridgewear refers to apparel collections created as separate brands to re¬‚ect a more casual fashion identity,
priced lower than the luxury “designer” collections but retaining an association with the designer image. The
bridge market is considerably larger and more pro¬table than the designer market.

3. Donna Karan International Prospectus, June 1996.
917
Case: Donna Karan International Inc.




187
Part 4 Additional Cases




Demand for apparel was cyclical, but not totally predictable. Demand for women™s
apparel was more volatile because it was more sensitive to seasonal and fashion trends.
Apparel sales were driven by three factors: the economy, consumer trends and demo-
graphics, and fashion. Generally, when the economy was strong, consumers purchased
more apparel. Demand for luxury apparel, however, was largely insensitive to changes
in the economy and disposable income. Attitudes of the general population, such as the
ongoing casual of¬ce dressing trend, also in¬‚uenced purchasing behavior. Recent con-
sumer trends revealed a bargain mentality, an unwillingness to spend on apparel, and a




Donna Karan International
shift from department store shopping, which accounted for half of apparel sales, to
the lower priced mass merchandisers (including major chains J.C. Penney, Sears, etc.)
Finally, fashion was a historic driver of women™s apparel purchases but not quanti¬able
or predictive.
Low barriers to entry (moderate capital requirements, use of simple technologies, low
¬xed assets, and the ability to control output by use of contractors) made for intense in-
dustry competition. Labor intensity, low pro¬t margins, and high ¬rm mortality rates
characterized the industry.
In the 1990s larger and better known apparel makers had greater competitive advan-
tages. Retailers such as department stores were consolidating and growing larger, reduc-
ing their total numbers. With fewer large retailers in business, retailer power over both
suppliers (manufacturers) and buyers (customers) increased. Large retailers decreased
the number of apparel manufacturers they did business with, eliminating the shelf space
of small manufacturers in favor of those that could pay for space and that produced pop-
ular big-name brands, usually better capitalized apparel makers.
Retail apparel could be divided into ¬ve price and market categories: popular, mod-
erate, upper-moderate, bridgewear, and designer or high-priced ready-to-wear. Design-
ers such as Donna Karan, who made up the high-priced ready-to-wear segment, also
positioned themselves successfully in the pro¬table and large bridgewear markets
through separate brands like DKNY.


Designer Apparel Market
High priced ready-to-wear and bridge apparel manufacturers were typically high-fash-
ion designers with a design house and brand(s) such as Calvin Klein, Donna Karan,
Ralph Lauren, Chanel, and Issey Miyake. This segment was expected to grow 5“10 per-
cent in coming years.
Designers competed with one other and with other market and industry segments.
The Donna Karan New York Collection, for instance, consisted of Karan™s highest priced
apparel. This competed with other designer collections and, to an extent, with the entire
apparel market, including low-cost Donna Karan copies. Karan™s DKNY brand com-

.........................................................................................................................
4. Standard & Poor™s Industry Surveys, Textiles, Apparels and Home Furnishing , September 28, 1995.
918 Case: Donna Karan International Inc.




188 Part 4 Additional Cases




peted with other designer bridgewear, upper to upper-moderate apparel, and other ap-
parel. Karan™s accessories and toiletries competed with both counterpart designer
offerings and the larger nondesigner market. Designer products were luxury goods, so
competition arose from both luxury and nonluxury substitute goods.
Competition between designers rested on differentiation. Each designer embodied
and projected a unique image. The vehicle of differentiation and expression for the de-
signer™s image was the designer™s brand. Purchasing a designer product was purchasing
the image, and the lifestyle behind it. Designers might produce several product lines and
Donna Karan International




brands aimed at different market segments, but there would be a unifying image behind
all the offerings. The designer™s image and associated brand were the most critical and
central asset of the designer™s business. The image and brand name were inseparable
from one another.
Designer Calvin Klein™s trademark, for example, was sensuality, while Donna Ka-
ran™s was the power and potential of modern women. Designer brands were long-term
investments built over time, requiring tremendous expenditures to accurately promote
the image and feeling behind the name. These large time and capital outlays (easily
between $10 million and $100 million) were strong deterrents to new market entrants.
While barriers to entry and ¬xed costs were generally low in the industry, advertising
and marketing were substantial and necessary investments in the designer apparel niche,
and served as strong entry deterrents to potential competitors.
Brands were further capitalized upon through the mechanism of licensing. Licensing
was a very pro¬table and important growth vehicle for designers. Licensing arrange-
ments established apparel designers as true houses of design. While designers licensed
their names to products ranging from sheets to timepieces, it was critical to tightly con-
trol brand context and usage to maintain and protect the integrity, image, and value of
the brand and guard against unnecessary dilution.
Designers commonly sourced raw materials and production capacity by contracting
with domestic and international suppliers. Good supplier relationships could lead to
bene¬cial (but not critical) economies of scale, but had a more important impact on the
quality of raw and ¬nished goods, shipping and delivery schedule adherence, and ensur-
ing future reliability of supplies.
Designers distributed through their own showrooms and retail stores, mini-shops at
better retailers, boutiques, and outlets. Retailer consolidation gave retailers signi¬cant
leverage over designers. Fewer retailers with limited ¬‚oor space had to allocate space
between designer brands (that often entailed building a “hard shop””an entire environ-
ment complete with custom ¬xtures and furniture easily measuring 5,000 square feet,
evoking the designer™s vision and showcasing the merchandise), national brands, and
lesser known brands.
Designer and national brands were attractive to retailers because they produced
higher margins, had big-name draw, and were better capitalized to be able to spend the
advertising dollars and markdown money and guarantee the sell-throughs demanded by
¬nancially driven retailers. Big brands also demarcated department stores from mass
919
Case: Donna Karan International Inc.




189
Part 4 Additional Cases




merchandisers and specialty stores. Lastly, department stores had historically been
brand intensive. For these reasons, retailers preferred to showcase designers at the cost
of smaller brands. The emphasis on big brands, however, posed problems. Most depart-
ment stores ended up carrying the same large brands, limiting breadth. Secondly, the
profusion of designer hard shops created an incongruency on selling ¬‚oors. Finally,
stores continued to stretch their demands on designers, making it an increasingly expen-
sive and political game for designers to gain premium shelf space for their brands, lead-
ing to friction between the parties.5




Donna Karan International
DONNA KARAN INTERNATIONAL INC.
Company Background

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