Estee Lauder 2007 Annual Report Download - page 42

THE EST{E LAUDER COMPANIES INC. 41
operating expenses related to the implementation of our
cost savings initiative that negatively impacted our operat-
ing expense margin by approximately 140 basis points.
Partially offsetting this improvement was an increase of
approximately 50 basis points in selling, general and
administrative expenses refl ecting higher demonstration,
fi eld selling and training costs in support of our business.
In fi scal 2007, our operating expense margin was nega-
tively impacted by approximately 40 basis points resulting
from expenses related to our pharmacy channel for orga-
nizational costs, costs to streamline the distribution of
goods, and the impairment of goodwill and other intan-
gible assets. An increase in costs incurred related to the
implementation of our Strategic Modernization Initiative
and higher stock-based compensation expenses lowered
our operating expense margin by approximately 20 addi-
tional basis points, combined. Overall operating expenses
refl ected savings achieved during the current period
from our cost savings initiative, which commenced during
fi scal 2006.
Changes in advertising, merchandising and sampling
spending result from the type, timing and level of activities
related to product launches and rollouts, as well as the
markets being emphasized.
OPERATING RESULTS
Due to the growth in net sales and the decreases in our
cost of sales and operating expense margins as previously
discussed, operating income increased 21%, or $130.3
million, to $749.9 million as compared with the prior year.
Operating margins were 10.7% of net sales as compared
with 9.6% in the prior year, which was negatively impacted
by 1.4% of net sales as a result of the special charge
related to our cost savings initiative.
The following discussions of Operating Results by
Product Categories and Geographic Regions exclude the
impact of special charges related to our cost savings
initiative of $1.1 million and $92.1 million for the fi scal
years ended June 30, 2007 and 2006, respectively. We
believe the following analysis of operating results better
refl ects the manner in which we conduct and view our
business. See Note 17 of Notes to Consolidated Financial
Statements — Segment Data and Related Information.
Product Categories
Fragrance operating results increased over 100%, or $20.4
million, to $28.1 million, as profi ts from higher international
net sales and lower spending at certain of our core brands
in the United States more than offset spending behind
new and developing brands. Hair care operating results
grew 60%, or $16.0 million, to $42.5 million as the
increase in net sales outpaced increased spending in
that were anticipated at that time as a result of then-
announced store closings from retailer consolidations.
In Europe, the Middle East & Africa, net sales increased
16%, or $345.7 million, to $2,493.4 million, including an
exchange rate benefi t due to the weakening of the U.S.
dollar of approximately $122 million. The growth in the
region refl ected higher net sales of approximately $260
million in the United Kingdom, our travel retail business,
Russia, Germany and Spain, with all benefi ting from an
improving retail environment, and in Turkey, where we
acquired a distributor. On a local currency basis, net sales
in Europe, the Middle East & Africa increased 10%.
Net sales in Asia/Pacifi c increased 13%, or $113.5
million, to $983.2 million. The growth in this region
refl ected higher net sales of approximately $86 million in
Korea, China, Hong Kong and Australia. These markets
benefi ted from an improved economy across the region
while China’s growth in net sales primarily refl ected our
continuing strategic expansion in this country. We also
experienced modest sales growth in Japan, our largest
market in this region. Excluding the impact of foreign
currency translation, Asia/Pacifi c net sales increased 11%.
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 decreased
to 25.2% as compared with 26.1% in the prior year. Cost
of sales as a percentage of net sales refl ected a favorable
change in the mix of our business of approximately 40
basis points, a decrease in the level and timing of promo-
tional activities of approximately 20 basis points, the effect
of exchange rate translation of approximately 20 basis
points and a decrease in obsolescence charges of approx-
imately 10 basis points. Certain of these items refl ect
savings achieved during the current period from our cost
savings initiative, which commenced during fi scal 2006.
Since certain promotional activities are a component
of sales or cost of sales and the timing and level of promo-
tions vary with our promotional calendar, we have experi-
enced, and expect to continue to experience, fl uctuations
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
from those of our existing brands.
OPERATING EXPENSES
Operating expenses improved to 64.1% of net sales as
compared with 64.3% of net sales in the prior year. During
the prior year, we recorded a $92.1 million charge to