Estee Lauder 2004 Annual Report Download - page 47

THE EST{E LAUDER COMPANIES INC.
the impact of foreign currency translation, net sales in
Asia/Pacific increased 9%.
We strategically stagger our new product launches by
geographic market, which may account for differences in
regional sales growth.
COST OF SALES
Cost of sales as a percentage of total net sales improved to
25.5% from 26.0% reflecting production and supply chain
efficiencies of approximately 70 basis points and lower
costs from promotional activities of approximately 60 basis
points. Partially offsetting these improvements were
changes in exchange rates of approximately 40 basis points
and costs related to inventory obsolescence and recondi-
tioning and re-handling of goods of approximately 20
basis points. Also offsetting these improvements were costs
a ssociated with higher travel retail sales, which contri-
buted approximately 10 basis points. Travel retail has a
higher cost of goods sold percentage because of its higher
mix of fragrance sales coupled with its margin structure.
Since certain promotional activities are a component
of sales or cost of sales and the timing and level of pro-
motions vary with our promotional calendar, we have
experienced, and expect to continue to experience, fluc-
tuations in the cost of sales percentage. In addition, future
cost of sales mix may be impacted by the inclusion of new
brands which have margin and product cost structures
different than our existing brands.
OPERATING EXPENSES
Operating expenses decreased to 63.4% of net sales as
compared with 64.1% of net sales in the prior year. Prior-
year operating expenses included a charge related to the
pending settlement of a legal proceeding of $22.0 million
or 0.4% of net sales. Before considering the effect of this
charge, operating expenses as a percentage of net sales
decreased 30 basis points from 63.7% in the prior year.
Operating expenses as a percentage of net sales
decreased approximately 100 basis points primarily due
to the higher growth rate in net sales, particularly in the
travel retail business, as well as our ongoing cost contain-
ment efforts to maintain expenses in line with our busi-
ness needs, partially offset by operating expenses related
to BeautyBank, the higher operating costs associated with
newly acquired brands and expenses related to compli-
ance with new regulatory requirements (such as those
arising under the Sarbanes Oxley Act of 2002). Partially
offsetting the net favorability in the current year were
higher levels of advertising, merchandising and sampling
expenses incurred to support new and recently launched
products of approximately 70 basis points.
Changes in advertising, sampling and merchandising
spending result from the type, timing and level of activi-
ties related to product launches and rollouts, as well as
the markets being emphasized.
Under agreements covering our purchase of trade-
marks for a percentage of related sales, royalty payments
totaling $18.8 million and $20.3 million in fiscal 2004 and
2003, respectively, have been charged to expense. Such
payments were made to Mrs. Estée Lauder until her death
on April 24, 2004, after which time the final payments
ceased to accrue and were made to a trust. This event
resulted in a reduction of operating expenses in fiscal
2004 of $3.7 million, or $2.2 million after tax. We will
realize a benefit from the elimination of these royalty
payments in fiscal 2005.
OPERATING RESULTS
Operating income increased 28% or $140.3 million to
$644.0 million. Operating margins were 11.1% of net sales
in the current period as compared with 9.9% in the prior
year. Prior year results include a charge related to the
pending settlement of a legal proceeding of $22.0 million.
Absent this charge, operating income increased 23% or
$118.3 million and operating margins increased 80 basis
points from fiscal 2003. These increases in operating
income and operating margin reflect sales growth,
improvements in the components of cost of sales and
a reduction in operating expenses as a percentage of
net sales.
Net earnings and net earnings per diluted share
increased approximately 7% and 17%, respectively. Net
earnings improved $22.3 million to $342.1 million and
net earnings per diluted share increased by 17% from
$1.26 to $1.48. Net earnings from continuing operations
increased by $49.8 million or 15% and diluted earnings
per common share from continuing operations increased
26% to $1.62 from $1.29 in the prior year. Absent the
charge related to the pending settlement of a legal pro-
ceeding, net earnings from continuing operations
increased by $36.3 million or 11% and diluted earnings
per common share from continuing operations increased
21% from $1.35.
The following discussions of Operating Results by
Product Categories and Geographic Regions exclude the
impact of the fiscal 2003 charge related to the pending
settlement of a legal proceeding. We believe the follow-
ing analysis of operating income better reflects the man-
ner in which we conduct and view our business. The table
on page 43 reconciles these results to operating income
as reported in the consolidated statements of earnings.
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