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Riding Into the East: Polo Buys Control Of Licensee

NEW YORK — Influence, control and, of course, money.<br><br>Those are the main reasons why Polo Ralph Lauren Tuesday said it will invest $70 million to increase direct management of its growing business in Japan. The company said it has signed an...

NEW YORK — Influence, control and, of course, money.

Those are the main reasons why Polo Ralph Lauren Tuesday said it will invest $70 million to increase direct management of its growing business in Japan. The company said it has signed an agreement in principle to acquire a 50 percent controlling interest in its Japanese master license and an 18 percent equity stake in a firm that holds the sublicenses for Polo’s women’s, men’s and Polo jeans businesses in Japan.

Financially, the deal is a win-win for the firm.

Roger Farah, president and chief operating officer, called the transactions a “significant growth opportunity” for the company. “Either way, royalties flow upstream, and [eventually] flow to us back here in New York. The royalty [percentage] hasn’t changed, but we get more as our interest in the master license has increased, plus the 18 percent stake [in the firm that holds the sublicenses],” he pointed out in a telephone interview.

Seibu Department Stores, Japan’s leading department store operator that owned 100 percent of the master license, will retain just a 5 percent stake under the new arrangement. Onward Kashiyama, Japan’s leading apparel wholesaler, will own a 45 percent interest. Onward Kashiyama, through an arrangement with Seibu under the master license, held the sublicenses for many of Polo’s products.

In a separate, but related, transaction, the three majority-owned subsidiaries of Onward Kashiyama — Impact 21 (women’s), Acty 21 (men’s) and Partner 21 (jeans) — will merge into one under the Impact 21 name, which is already a public company. Polo will hold an 18 percent stake in the merged entity, with Onward Kashiyama retaining a 41 percent interest and the balance held by the public. Other sublicense arrangements for children’s apparel, accessories, home furnishings and Polo Golf remain unchanged.

Upon completion of the deal of the transaction, Polo said it will include its investment in Impact 21 in its consolidated financial statements. However, the company Tuesday reaffirmed its second-quarter earnings guidance of between 48 cents and 53 cents. It will report second-quarter results during the first week of November.

Seibu is the company’s longest licensing partner, an arrangement that hails back to 1978. It started when designer and Polo chairman Ralph Lauren recognized the need to have a presence in the overseas marketplace, before global expansion became a throwaway phrase.

According to Lauren, “We are extremely pleased with this agreement, as it will enable us to further develop Polo Ralph Lauren in the Japanese market. Two years ago, we acquired our European license, and taking direct ownership of our European business has grown dramatically. We believe there are similar opportunities in Japan.

“Our decision to approach our Japanese partners about this new agreement was based upon the excellent performance of our brands in Japan and the considerable growth opportunities we see in the region,” Lauren said in an interview. “Seibu has been a good partner for more than 25 years and we appreciate and thank them for their support of the Polo Ralph Lauren business.”

Sources familiar with Polo’s Japanese business said its annual wholesale sales are in the $450 million range, with the firm receiving a percentage in royalties based on those sales. The new deal would give Polo tremendous input into how the brand is developed for growth down the road. Polo’s management has said wholesale sales in Japan have the potential to reach $1 billion.

For the year ended March 30, Polo had total sales of $2.36 billion. It acquired the bulk of its European business, Poloco, in January 2000 and the balance, its Italian licensee, in October 2001. Since taking direct ownership of the European business in January 2000, the compounded annual growth rate of the European business is approximately 38.3 percent.

Definitive agreements are expected to be signed shortly, with the transaction to close by March 2003, the end of Polo’s current fiscal year. Polo will fund the $70 million purchase price from available cash. The company said the transactions are expected to be accretive to earnings in fiscal year 2004.

Farah said, “While the economy in Japan has been slow, for us it has been very good. Ours is showing strength. We’ve renovated half of the stores over there, with a year-and-a-half to go on the remaining stores.”

The company previously announced a three-year, $70 million renovation of more than 150 shops-within-shops that were begun last year by its Japanese partners. In stores where renovations have been completed, sales have increased by double digits. According to Farah, the company will not be putting in any money for the remaining renovations, but added that it likely would do so if it chose to expand into specialty retail concepts, a move contemplated by the master license partners.

Those new concepts, Farah said, would be freestanding stores. “The sense in Japan is that it is difficult to get good real estate, but we’ll start looking for the right kind of real estate almost immediately,” he said.

While Lance Isham, vice chairman, will maintain oversight for Polo’s international expansion, Charles Fagan, named executive vice president of global retail brand development last month, will have a hand in integrating the merchandising and marketing strategies within the store environments domestically and internationally.

Blair Effron, vice chairman for investment banking at UBS Warburg, Polo’s financial adviser, said it isn’t often that companies can do a deal where it is “immediately accretive in year one. This one is nicely accretive for Polo.”

Dennis Rosenberg of Credit Suisse First Boston, wrote in a research note, “We estimate that the transaction will add 3 cents to 4 cents to earnings in fiscal 2004.” The analyst is projecting operating income from the master license (after minority interest and amortization of intangibles) at $41.1 million and equity income from the 18 percent investment in Impact 21 at $4 million. We estimate the absence of interest income on $70 million at $1.8 million.”

David Lamer, analyst at Ferris, Baker Watts Inc., said other licenses the company might consider acquiring at a later date include the children’s business and the Chaps business, which Warnaco has for a few more years. Shares of Polo on Tuesday rose $1.36 to close at $18.85 in trading on the New York Stock Exchange.