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Stage Stores Inc. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 __________ FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended January 30, 1999 Commission File Number 333-42427 -------------- J. CREW GROUP, INC. (Exact name of registrant as specified in its charter) New York 22-2894486- ---------------------------------- ---------------------------------(State or other jurisdiction of (IRS Employer Identification No.)incorporation or organization) 770 Broadway, New York, New York 10003 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (212) 209-2500 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: NoneIndicate by check mark whether the registrant (1) has filed all reports requiredto be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 duringthe preceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.Yes X No ----- -----Indicate by check mark if disclosure of delinquent filers pursuant to Item 405of Regulation S-K is not contained herein, and will not be contained, to thebest of registrant's knowledge, in definitive proxy or information statementsincorporated by reference in Part III of this Form 10-K or any amendment to thisForm 10-K. [ X]The common stock of the registrant is not publicly traded. Therefore, theaggregate market value is not readily determinable.As of April 1, 1999, there were 58,546 shares of Common Stock, par value $.01per share, outstanding.Documents incorporated by reference: None Certain statements in this Annual Report on Form 10K under the captions"Business", "Selected Financial Data", "Management's Discussion and Analysis ofFinancial Condition and Results of Operations", "Financial Statements andSupplementary Data" and elsewhere constitute "forward-looking statements" withinthe meaning of the Private Securities Litigation Reform Act of 1995. Suchforward-looking statements involve known and unknown risks, uncertainties andother important factors that could cause the actual results, performance orachievements of the Company, or industry results, to differ materially fromhistorical results, any future results, performances or achievements expressedor implied by such forward-looking statements. Such risks and uncertaintiesinclude, but are not limited to, competitive pressures in the apparel industry,changes in levels of consumer spending or preferences in apparel and acceptance by customers of the Company's products, overall economic conditions,governmental regulations and trade restrictions, political or financialinstability in the countries where the Company's goods are manufactured, postalrate increases, paper and printing costs, Year 2000 issues, the level of theCompany's indebtedness and exposure to interest rate fluctuations, and otherrisks and uncertainties described in this report and the Company's other reportsand documents filed or which may be filed, from time to time, with theSecurities and Exchange Commission. The Company expressly disclaims anyobligation or undertaking to disseminate any updates or revisions to anyforward-looking statement contained herein to reflect any change in theCompany's expectations with regard thereto or any change in events, conditionsor circumstances on which any such statement is based.References herein to fiscal years are to the fiscal years of J.Crew Group, Inc.,which end on the Friday closest to January 31 in the following calendar year forfiscal years 1994, 1995 and 1996 and on the Saturday closest to January 31 inthe following calendar year for fiscal years 1997 and 1998. Accordingly, fiscalyears 1994, 1995, 1996, 1997 and 1998 ended on February 3, 1995, February 2,1996, January 31, 1997, January 31, 1998 and January 30, 1999. All fiscal yearsfor which financial information is included had 52 weeks, except fiscal 1994which had 53 weeks.References in this Report to the "Company" and "J.Crew" mean J.Crew Group, Inc.and its subsidiaries, unless the context requires otherwise. Part IITEM 1. BUSINESSGeneralThe Company is a leading retailer of women's and men's apparel, shoes andaccessories operating under the J. Crew (R) brand name. The Company has built astrong and widely recognized brand name known for its timeless styles at pricepoints that the Company believes represent exceptional product value. The J.Crew image has been built and reinforced over its 15-year history through thecirculation of more than one-half billion catalogs that use magazine-qualityphotography to portray a classic American perspective and aspirationallifestyle. Many of the original items introduced by the Company in the early1980s (such as the rollneck sweater, weathered chino, barn jacket and pockettee) were instrumental in establishing the J. Crew brand and continue to be coreproduct offerings. The Company has capitalized on the strength of the J. Crewbrand to provide customers with clothing to meet more of their lifestyle needs,including casual, career and sport.The J. Crew merchandising strategy emphasizes timeless styles and a broadassortment of high-quality products designed to provide customers with one-stopshopping opportunities at attractive prices. J. Crew retail stores, catalogs andits Internet site offer a full line of men's and women's basic durables (casualweekend wear), sport, swimwear, accessories and shoes, as well as the moretailored men's and women's "Classics" lines. Approximately 60% of the Company'sJ. Crew brand sales are derived from its core offerings of durables and sportclothing, the demand for which the Company believes is stable and resistant tochanging fashion trends. The Company believes that the J. Crew image andmerchandising strategy appeal to college-educated, professional and affluentcustomers 1 who, in the Company's experience, have demonstrated strong brand loyalty and atendency to make repeat purchases.J. Crew products are distributed exclusively through the Company's retail andfactory outlet stores, catalogs and the Company's Internet site, jcrew.com. TheCompany currently circulates over 73 million J. Crew catalogs per annum andoperates 65 J. Crew retail stores and 45 J. Crew factory outlet stores. Inaddition, J. Crew products are distributed through 67 free-standing and shop-in-shop stores in Japan under a licensing agreement with Itochu Corporation.The Company has three major operating divisions: J. Crew Mail Order, J. CrewRetail, and J. Crew Factory Outlets, each of which operate under the J. Crewbrand name. In 1998, products sold under the J. Crew brand contributed $626.0million in revenues. J. Crew brand revenues in 1998 were comprised of $274.0million from J. Crew Retail, $252.8 million from J.Crew Mail Order, $96.5 million from J. Crew Factory Outlet and $2.7 of licensing revenues.The Companyalso markets to its customers through its Internet site (jcrew.com). Revenuesderived from the Internet, which were estimated at $20.0 million for 1998, areincluded in J.Crew Mail Order revenues.Effective as of October 30, 1998 the Company sold Popular Club Plan, Inc. andsubsidiaries (PCP) to The Fingerhut Companies, Inc. for $42.0 million and theassumption of an accounts receivable securitization facility.Revenues for the nine months ended October 30, 1998 were $124.1 million. A gainon the sale of $10.0 million was included in the results of operations in fiscal1998.In 1998, management of the Company made a decision to exit the operations of itsClifford & Wills mail order and factory outlet subsidiaries (C&W). Revenues forthe year ended January 30, 1999 were $74.3 million. A charge of $13.3 millionwas included in fiscal 1998 operations to write down the assets of C&W to netrealizeable value and to provide for certain additional costs in connection withthe discontinuance of the C&W operations, including severance and leasetermination costs. Additionally, fourth quarter charges of $1.7 million,included in selling expense, were incurred relating to deferred catalog costs.J. Crew BrandMerchandising and Design StrategyOver time, the J. Crew merchandising strategy has evolved from providing unisexproducts to creating full lines of men's and women's clothing, shoes andaccessories. This strategy had the effect of increasing overall J. Crew brandsales volume, and significantly increasing revenues from sales of women'sapparel as a percentage of total J. Crew brand sales from 47% in 1994 to 65% in1998.Every J. Crew product is designed by an in-house design staff, to reflect aclassic, clean aesthetic that is consistent with the brand's American lifestyleimage. Design teams are formed around J. Crew product lines and categories todevelop concepts, themes and products for each of the Company's J. Crewbusinesses. Members of the J. Crew technical design team develop constructionand fit specifications for every product to ensure quality workmanship andconsistency across product lines. These teams work in close collaboration withthe merchandising and production staff in order to gain market and other input.Product merchandisers provide designers with market trend and other informationat initial stages of the design process. J. Crew designers and merchants sourceglobally for fabrics, yarns and finished products to ensure quality and value,while manufacturing teams research and develop key vendors worldwide to identifyand maintain the essential characteristics for every style.Sourcing, Production and QualityThe Company maintains separate merchandising, design, manufacturing and qualityassurance teams for the production of J. Crew brand merchandise. The Company'sproducts are designed exclusively by in-house design and product developmentteams which support each line and class of product. These teams provideindividual attention and expertise to every style, ensuring that these stylesfit the J. Crew brand image.The Company's merchandise is produced for the Company by a variety ofmanufacturers, both domestically and outside the United States. The Company doesnot own or operate any manufacturing facilities, instead contracting 2 with third party vendors in over 30 countries for the production of itsproducts. In 1998, approximately 60% of the Company's J. Crew brand productswere sourced in the Far East, 20% were sourced domestically and 20% were sourcedin Europe and other regions. Rarely does the Company represent the majority ofany one vendor's business and no one vendor supplies more than 10% of theCompany's merchandise.The Company retains independent buying agents to conduct in-line and finalquality inspections at each manufacturing site. Random inspections of allincoming merchandise at the Lynchburg and Asheville distribution facilitiesfurther assure that the Company's products are of a consistently high quality.Due to the high concentration of foreign suppliers of J. Crew brand merchandise, the Company estimates seven month lead times for its products. The Company hasestablished through the use of domestic vendors and strategic partnerships, acore group of long-term suppliers to provide quick response programs atsignificantly shorter lead times for certain product categories.DistributionThe Company operates two telemarketing and distribution facilities for itsoperations. Order fulfillment for J. Crew Mail Order takes place at the 406,500square foot telemarketing and distribution center located in Lynchburg,Virginia. The Lynchburg facility processes approximately 3.5 million orders peryear and employs approximately 1,100 full and part-time employees during itsnon-peak season and an additional 700 employees during its peak season.A 192,500 square foot telemarketing and distribution facility in Asheville,North Carolina serves as the main distribution center for the retail and outletstore operations and also houses a J. Crew Mail Order telemarketing center. Thisfacility employs approximately 600 full- and part-time employees during its non-peak season and an additional 400 employees during the peak holiday season.The Company ships merchandise via UPS, the United States Postal Service andFedEx. To enhance efficiency, each facility is fully equipped with a highlyadvanced telephone system, an automated warehouse locator system and aninventory bar coding system.Management Information SystemsThe Company's management information systems are designed to provide, amongother things, comprehensive order processing, production, accounting andmanagement information for the marketing, manufacturing, importing anddistribution functions of the Company's business. The Company has installedsophisticated point-of-sale registers in its J. Crew Retail and Factory Outletstores that enable it to track inventory from store receipt to final sale on areal-time basis. The Company believes its merchandising and financial systems,coupled with its point-of-sale registers and software programs, allow for rapidstock replenishment, concise merchandise planning and real-time inventoryaccounting practices.The Company's telephone and telemarketing systems, warehouse package sortingsystems, automated warehouse locator and inventory bar coding systems utilizeadvanced technology. These systems have provided the Company with a number ofbenefits in the form of enhanced customer service, improved operationalefficiency and increased management control and reporting. In addition, theCompany's real-time inventory systems provide inventory management on a per SKUbasis and allow for a more efficient fulfillment process.J. Crew RetailDuring fiscal 1998, J.Crew Retail generated revenues of $274.0 million,representing 43.8% of the Company's total J.Crew brand revenues.An important aspect of the Company's business strategy is an expansion programdesigned to reach new and existing customers through the opening of J. CrewRetail stores. In addition to generating sales of J. Crew products, J. CrewRetail stores help set and reinforce the J. Crew brand image. The stores aredesigned in-house and fixtured to create a distinctive J. Crew environment andstore associates are trained to maintain high standards of visual 3 presentation and customer service. The result is a complete statement of J.Crew's timeless American style, classic design and attractive product value.The Company believes that J. Crew Retail derives significant benefits from theconcurrent operation of J. Crew Mail Order. The broad circulation of J. Crewcatalogs performs an advertising function, enhancing the visibility and exposureof the brand, aiding the expansion of the retail concept and increasing theprofitability of the stores.The Company believes that its J. Crew Retail stores are among the mostproductive in its industry segment. All of the Company's J. Crew Retail storesare profitable and have generated positive store contribution within the first12 months of opening. J. Crew Retail stores that were open during all of fiscal1998 averaged $4.9 million per store in sales, produced sales per gross square foot of approximately $572 and generated store contribution margins ofapproximately 24.0%. The Company believes that these results compare favorablyto the average among retailers that the Company believes to be its primarycompetitors. J. Crew Retail stores have an average size of 8,150 gross squarefeet.As of January 30, 1999 J. Crew Retail operated 65 retail stores nationwide,having expanded from 18 stores in 1993. The Company opened 14 stores in fiscal1998 and intends to open 15 stores in fiscal 1999. The stores are located inupscale shopping malls and in retail areas within major metropolitan marketsthat have an established higher-end retail business.The table below highlights certain information regarding J. Crew Retail storesopened through fiscal 1998. Average Stores Open Stores Stores Stores Total ---------- -------------- -------- ------ Open at ------- Store Total At Beginning Opened Closed --------- Square ------------ -------------- -------- ------ End of ------- Square Of Fiscal Year During During --------- Footage ------------ -------------- -------- ------ Fiscal Year ------- Footage at Fiscal Fiscal --------- (000's) ------------ Year Year ------- End of Year -------- ------ ----------- 1994 28 1 -- 29 235 8,103 1995 29 2 -- 31 266 8,581 1996 31 8 -- 39 338 8,667 1997 39 12 -- 51 428 8,392 1998 51 14 -- 65 530 8,150 J. Crew Retail plans to increase the number of stores in operation by 15 to 20stores annually, resulting in approximately 100 stores in operation by the endof fiscal 2000. The retail expansion plan will initially focus on markets inwhich J. Crew Mail Order has been successful and, more generally, in areaswithin major metropolitan markets with affluent and well educated populations.J. Crew Mail OrderSince its inception in 1983, J. Crew Mail Order has distinguished itself fromother catalog retailers by its award-winning catalog, which utilizes magazine-quality "real moment" pictures to depict an aspirational lifestyle image. Duringfiscal 1998, J. Crew Mail Order distributed 33 catalog editions with a combinedcirculation of more than 73 million, and extended its direct marketing conceptto e-commerce via its Internet site (jcrew.com). J. Crew Mail Order generated$252.8 million in revenues or 40.4% of the Company's total J. Crew brandrevenues in fiscal 1998. 4 Circulation StrategyJ. Crew Mail Order's circulation strategy focuses on continually improving thesegmentation of customer files and the acquisition of additional customer names.In 1998, approximately 60% of J. Crew Mail Order revenues were from customers inthe 12-month buyer file (buyers who have made a purchase from any J. Crewcatalog in the prior 12 months).Customer Segmentation. The Company segments its customer file and tailors itscatalog offerings to address the different product needs of its customersegments. To increase core catalog productivity and improve the effectiveness ofmarginal and prospecting circulation, each customer segment is offeredappropriate catalog editions. The Company currently circulates Base, Women's,Prospect and Sale catalogs to targeted customer segments.Descriptions of the Company's current catalogs follow:Base Books. These catalogs contain the entire mail order product offering andare sent primarily to 12-month buyers. Women's Books. Introduced in the spring of 1996, the Women's books featurewomen's merchandise and are sent to buyers who purchase primarily women'smerchandise. These books represent an additional customer contact potentiallygenerating incremental revenue from women customers.Prospect Books. Introduced in late 1995, these editions are abridged versionsof the Base Books and are sent to less active and prospective customers in orderto cost-effectively reactivate old customers and acquire new customers.Sale Books. These catalogs contain overstock merchandise to be sold at reducedprices without adversely affecting the J. Crew brand image.The Company introduced college and swimwear catalogs on a trial basis in Spring1998. The Company has decided not to continue these catalogs in 1999 since itbelieves it can successfully target these segments through its base and women'sbooks.In 1998, total circulation decreased to approximately 73 million from 77 millionin 1997, while pages circulated were approximately 8.8 billion in 1998 and 9.8billion in 1997. Reductions in total pages circulated resulted in a decrease inpaper and postage expenses and an increase in productivity or sales per pagecirculated in 1998.Customer Acquisition and List Management. J. Crew Mail Order's nameacquisition programs are designed to attract new customers in a cost-effectivemanner. The Company acquires new names from various sources, including listrentals, exchanges with other catalog and credit card companies, "friends' name"card inserts, its Internet site and, through J. Crew Retail stores whichrepresent an increasingly significant resource in prospecting for new names.Names and addresses of 25% to 30% of the customers making credit card purchasesat J. Crew Retail stores are automatically captured at the point of sale.Customers are also asked to fill out cards at the cash register when they makepurchases. In addition, the Company is in the process of placing telephones inits J. Crew Retail stores with direct access to the J. Crew Mail Ordertelemarketing center to allow customers in the stores to order catalog-specificor out-of-stock items.Catalog Creation and ProductionThe Company is distinguished from other catalog retailers by its award-winningcatalog, which utilizes magazine-quality "real moment" pictures to depict anaspirational lifestyle image. All creative work on the catalogs is coordinatedby J. Crew personnel to maintain and reinforce the J. Crew brand image.Photography is executed both on location and in studios, and creative design andcopy writing are executed on a desk-top publishing system. Digital images aretransmitted directly to outside printers, thereby reducing lead times andimproving reproduction quality. The Company believes that appropriate pagepresentation of its merchandise stimulates demand and therefore places greatemphasis on page layout. 5 J. Crew Mail Order does not have long-term contracts with paper mills. Projectedpaper requirements are communicated on an annual basis to paper mills to ensurethe availability of an adequate supply. Management believes that the Company'slong-standing relationships with a number of the largest coated paper mills inthe United States allow it to purchase paper at favorable prices commensuratewith the Company's size and payment terms.Telemarketing and Customer ServiceJ. Crew Mail Order's primary telemarketing and fulfillment facilities arelocated in Lynchburg, Virginia. Telemarketing operations are open 24 hours aday, seven days a week and handled over 6.3 million calls in fiscal 1998. Ordersfor merchandise may be received by telephone, facsimile, mail and on theCompany's Internet site. The telemarketing centers are staffed by a total of 900full-time telemarketing associates, and up to 2,000 associates during peakperiods, who are trained to assist customers in determining the customer'scorrect size and to describe merchandise fabric, texture and function. Eachtelemarketing associate utilizes a terminal with access to an IBM mainframecomputer which houses complete and up-to-date product and order information. Thefulfillment operations are designed to process and ship customer orders in aquick and cost-effective manner. Orders placed before 9:00 p.m. are shipped the following day. Same-day shipping is available for orders placed before noon.J. Crew Factory OutletsThe Company extends its reach to additional consumer groups through its 45 J.Crew Factory Outlets. Offering J. Crew products at an average of 30% below fullretail prices, J. Crew Factory Outlets target value-oriented consumers. Thefactory outlet stores also serve to liquidate excess, irregular or out-of-seasonJ. Crew products outside of the Company's two primary distribution channels.During fiscal 1998, J. Crew Factory Outlets generated revenues of $96.5 million,representing 15.4% of the Company's total J. Crew brand revenues.J. Crew Factory Outlets offer selections of J. Crew menswear and womenswear.Ranging in size from 3,800 to 10,000 square feet with an average of 6,500 squarefeet, the stores are generally located in major outlet centers in 27 statesacross the United States. The Company believes that the outlet stores, which aredesigned in-house, maintain fixturing, visual presentation and service standardssuperior to those typically associated with outlet stores.Trademarks and International LicensingJ. Crew International, Inc., an indirect subsidiary of J.Crew Group, Inc.currently owns all of the trademarks for the J. Crew name that the Company holdsthroughout the world, as well as its international licensing contracts withthird parties. Trademarks related to the J. Crew name are registered in theUnited States Patent and Trademark Office.The Company derives revenues from the international licensing of its trademarksin the J. Crew name and the know-how it has developed. The Company has enteredinto a licensing agreement with Itochu in Japan which gives the Company theright to receive payments of percentage royalty fees in exchange for theexclusive right to use the Company's trademarks in Japan. Under the licenseagreement the Company retains a high degree of control over the manufacture,design, marketing and sale of merchandise under the J. Crew trademarks. Thisagreement expires in January, 2003. In 1998, licensing revenues totaled $2.7million.EmployeesThe Company focuses significant resources on the selection and training of salesassociates in both its mail order, retail and factory operations. Salesassociates are required to be familiar with the full range of merchandise of thebusiness in which they are working and have the ability to assist customers withmerchandise selection. Both retail and factory store management are compensatedin a combination of annual salary plus performance-based bonuses. Retail,telemarketing and factory associates are compensated on an hourly basis and mayearn team-based performance incentives. 6 At January 30, 1999, the Company had approximately 5,400 associates, of whomapproximately 2,600 were full-time associates and 2,800 were part-timeassociates. In addition, approximately 3,500 associates are hired on a seasonalbasis to meet demand during the peak holiday buying season. None of theassociates employed by J. Crew are represented by a union. The Company believesthat its relationship with its associates is good.CompetitionAll aspects of the Company's businesses are highly competitive. The Companycompetes primarily with other catalog operations, specialty brand retailers,department stores, and mass merchandisers engaged in the retail sale of men'sand women's apparel, accessories, footwear and general merchandise. The Companybelieves that the principal bases upon which it competes are quality, design,efficient service, selection and price.The RecapitalizationOn October 17, 1997, the recapitalization of J.Crew Group, Inc. ("Holdings")(the "Recapitalization") was consummated pursuant to a RecapitalizationAgreement, dated as of July 22, 1997, as amended as of October 17, 1997 (the "Recapitalization Agreement"), among Holdings, its shareholders and TPG PartnersII, L.P. ("TPG"). Pursuant to the Recapitalization Agreement, Holdings purchasedfrom its shareholders all outstanding shares of Holdings' capital stock, otherthan shares having an implied value of $11.1 million, almost all of whichcontinue to be held by Emily Woods, and which represented approximately 14.8% ofthe outstanding shares of common stock of Holdings ("Common Stock")immediately following the transaction.In connection with the Recapitalization, Holdings organized J.Crew OperatingCorp ("Operating Corp.") and immediately prior to the consummation of theRecapitalization, Holdings transferred substantially all of its assets andliabilities to Operating Corp. Holdings' current operations are, and futureoperations are expected to continue to be, limited to owning the stock ofOperating Corp. Operating Corp repaid substantially all of the Company's fundeddebt obligations existing immediately before the consummation of theRecapitalization.Cash funding requirements for the Recapitalization totaled $559.8 million(including $99.0 million in seasonal borrowings) and were satisfied through thepurchase by TPG, certain of its affiliates and other investors of an aggregate$188.9 million in Holdings' equity securities together with an aggregate $330.9million in borrowings and $40.0 million in proceeds from the securitization ofcertain of the Company's accounts receivable.ITEM 2.PROPERTIESThe Company is headquartered in New York City. The New York City headquarters'offices are leased under a lease agreement expiring in 2012 (not includingrenewal options). The Company owns two telemarketing and distributionfacilities: a 406,500-square-foot telemarketing and distribution center for J.Crew mail order operations in Lynchburg, Virginia and a 192,500-square-foottelemarketing and distribution center in Asheville, North Carolina servicing theJ. Crew Retail and Outlet store operations.As of January 30, 1999, the Company operated 65 J.Crew retail stores and 45factory outlet stores in 34 states and the District of Columbia. All of theretail and factory outlet stores are leased from third parties, and the leasesin most cases have terms of 10 to 12 years, not including renewal options. As ageneral matter, the leases contain standard provisions concerning the payment ofrent, events of default and the rights and obligations of each party. Rent dueunder the leases is comprised of annual base rent plus a contingent rent paymentbased on the store's sales in excess of a specified threshold. Substantially allthe leases are guaranteed by Holdings. 7 The table below sets forth the number of stores by state operated by the Company(excludes 7 C&W Outlet stores) in the United States as of January 30, 1999: Total -------- Retail Outlet Number ------ ------ -------- Stores Stores Of Stores ------ ------ ---------Alabama -- 1 1 Arizona 1 -- 1 California 12 3 15 Colorado 1 2 3 Connecticut 3 1 4 Delaware -- 1 1 Florida 3 3 6 Georgia 2 2 4 Illinois 4 -- 4 Indiana 1 2 3 Kansas 1 1 2 Maine -- 2 2 Maryland 2 1 3 Massachusetts 5 1 6 Michigan 1 1 2 Minnesota 1 -- 1 Missouri 1 1 2 Nevada -- 1 1 New Hampshire -- 2 2 New Jersey 4 1 5 New Mexico 1 -- 1 New York 8 4 12 North Carolina 2 -- 2 Ohio 2 -- 2 Oregon 1 -- 1 Pennsylvania 2 4 6 South Carolina -- 2 2 Tennessee -- 1 1 Texas 3 3 6 Utah -- 1 1 Vermont -- 1 1 Virginia 1 1 2 Washington 2 1 3 Wisconsin -- 1 1 District of Columbia 1 -- 1 -- -- --- Total. 65 45 110 == == === ITEM 3. LEGAL PROCEEDINGS The Equal Employment Opportunity Commission ("EEOC") filed suit on August 6,1998 in the U.S. District Court, District of Connecticut, against the Companyalleging that the Company, through its Popular Club Plan subsidiary (which theCompany sold in fiscal year 1998), engaged in hiring conduct which violatedTitle VII of the Civil Rights Act of 1964 and Title I of the Civil Rights Act of1991 by discriminating against male applicants for 8 customer service and assistant manager positions at its service centers in NewEngland. The EEOC seeks unspecified monetary damages and an injunction enjoiningPopular Club from engaging in discriminatory hiring practices based on gender.The Company is vigorously defending itself against these allegations. Althoughit is not possible to predict with certainty the eventual outcome of anylitigation, in the opinion of management, this lawsuit is not expected to have amaterial adverse effect on the Company's financial position or results ofoperations. The Company has been named as one of the defendants in two lawsuits relatingto its purchasing of products from independent garment manufacturers in Saipan(Commonwealth of the Northern Mariana Islands). On January 13, 1999, a complaintwas filed in the U.S. District Court, Central District of California ("FederalAction"), by a group of unidentified Asian garment workers against 17 U.S.clothing retailers, including the Company, and 11 Saipan garment manufacturers.The unidentified worker plaintiffs seek class action status and allege, amongother things, violations of Federal racketeering and other laws in connectionwith labor practices and treatment of foreign workers in the defendantmanufacturers' Saipan factories. The plaintiffs seek injunctive relief andunspecified monetary damages, including treble and punitive damages. A secondcomplaint was filed on January 13, 1999 in Superior Court in San Francisco,California ("State Action"), by a labor union and three nonprofit groups againstthe same 17 U.S. clothing retailers, including the Company, one additionalretailer and other unnamed defendants alleging violations of California law forallegedly unlawful and unfair business practices and misleading advertising inconnection with labeling of products and labor practices regarding foreignworkers in Saipan. The plaintiffs seek injunctive relief and unspecified amountsfor restitution, disgorgement of profits and other damages. A third action, inwhich the Company is not named as a defendant, was filed on or about January 13,1999, by a group of unidentified Asian garment workers represented by some ofthe same law firms that brought the Federal Action. This action is a purportedclass action lawsuit against 22 Saipan garment manufacturers (10 of whom werenamed defendants in the Federal Action) alleging violations of Federal laborstatutes and other laws. All the defendants in the Federal Action, including the Company, jointlymoved to (i) change the venue of the Federal Action to the United StatesDistrict Court in the Commonwealth of the Northern Mariana Islands, where therelated action against certain manufacturing defendants is pending, and (ii) dismiss the Federal Action for failure to state a claim. All the defendants inthe State Action, including the Company, jointly moved to dismiss the StateAction for failure to state a claim. These actions are still at a verypreliminary stage, and, accordingly, it is too early to evaluate the likelihoodof an unfavorable outcome. Other than the proceedings discussed above, there are no material legalproceedings presently pending to which the Company is a party or of which any ofits property is the subject.ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to a vote of security holders during the quarterended January 30, 1999. PART IIITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERSThere is no established public market for any class of Holdings common stock.As of April 1, 1999, there were 37 shareholders of record of the Common Stock.See "Item 12. Security Ownership of Certain Beneficial Owners and Management"for a discussion of the ownership of Holdings.Holdings has not paid cash dividends on its Common Stock and does not anticipatepaying any such dividends in the foreseeable future.The Credit Agreement entered into a connection with the Recapitalization (the"Credit Agreement") and the Indenture relating to the Senior Discount Debentures(the "Holdings Indenture") prohibits the payment of dividends by Holdings onshares of Common Stock (other than dividends payable solely in shares of capitalstock of 9 Holdings). Additionally, because Holdings is a holding company, its ability topay dividends is dependent upon the receipt of dividends from its direct andindirect subsidiaries. Each of the Credit Agreement, the Holdings Indenture andthe Indenture relating to the Senior Subordinated Notes contains covenants whichimpose substantial restrictions on Operating Corp's ability to make dividends ordistributions to Holdings.The Directors of Holdings had the opportunity to purchase shares of Holdings'Common Stock for a purchase price of $1363.64 per share and Series A RedeemablePreferred Stock for a purchase price of $1000 per share. Effective July 17,1998, five Directors purchased a total of 150 shares of Common Stock and 300shares of Series A Redeemable Preferred Stock. In addition, the Directors ofHoldings have the right to receive all or a portion of the fees for theirservices as a Director in Common Stock at a purchase price of $1363.64 pershare. In fiscal year 1998, certain Directors elected to receive a total of 88shares of Common Stock in payment of their fees. Holdings sold the Common Stockand the Series A Preferred Redeemable Stock described in the foregoing sentencesin transactions which did not involve any public offering in reliance uponSection 4(2) of the Securities Act of 1933, as amended (the "Securities Act").ITEM 6. SELECTED FINANCIAL DATAThe following table sets forth selected consolidated historical financial,operating, other and balance sheet data of Holdings. The selected income statement and balance sheet data for each of the three fiscal years endedJanuary 31, 1997 are derived from the Consolidated Financial Statements ofHoldings, which have been audited by Deloitte & Touche LLP, independentauditors. The selected income statement and balance sheet data for the fiscalyears ended January 31, 1998 and January 30, 1999 are derived from theConsolidated Financial Statements of Holdings, which have been audited by KPMGLLP, independent auditors. The data presented below should be read inconjunction with the Consolidated Financial Statements, including the relatedNotes thereto, included herein, the other financial information included herein,and "Management's Discussion and Analysis of Financial Condition and Results ofOperations." Fiscal Year Ended February 3, February 2, January 31, January 31, January 30, -------------- -------------- -------------- -------------- -------------- 1995 1996 1997 1998 1999 -------------- -------------- -------------- -------------- -------------- (dollars in thousands, except per square foot data)Income Statement Data: Revenues $737,725 $745,909 $808,843 $ 834,031 $ 824,258 Cost of goods sold(a) 394,073 399,668 428,719 465,168 460,592 Selling, general and administrative 311,468 327,672 348,305 359,811 336,590 expenses Costs associated with discontinuance of 13,300 Clifford &Wills Other charges -- -- -- -- 7,995 Income from operations 32,184 18,569 31,819 9,052 5,781 Interest expense-net 6,965 9,350 10,470 20,494 39,323 Gain on sale of Popular Club Plan ---- ---- ---- ---- (10,000) Expenses incurred-Recapitalization -- -- -- 20,707 ---- Provision (benefit) for income taxes 10,300 3,700 8,800 (5,262) (8,162) Extraordinary items and cumulative effect of accounting changes, net of taxes -- 931 -- (4,500) -- -------- -------- -------- --------- --------- Net income (loss) $ 14,919 $ 6,450 $ 12,549 $ (31,387) $ (15,380) ======== ======== ======== ========= --------- Balance Sheet Data (at period end): Cash and cash equivalents $ 18,255 $ 13,529 $ 7,132 $ 12,166 $ 9,643 Working capital 104,455 132,256 132,222 142,677 107,334 Total assets 324,795 355,249 410,821 421,878 358,151 Total long term debt and redeemable preferred stock 69,566 87,329 87,092 428,457 433,243 Stockholders' equity (deficit) 82,041 89,633 102,006 (201,642) (235,773) 10 Operating Data: Revenues: Fiscal Year Ended February 3, February 2, January 31, January 31, January 30, 1995 1996 1997 1998 1999 J. Crew mail order $247,272 $274,653 $289,773 $ 264,853 $ 252,752 J. Crew retail 135,726 134,959 167,957 209,559 273,972 J. Crew factory 62,626 79,203 94,579 100,285 96,461 J. Crew licensing 3,269 3,975 3,817 2,897 2,712 -------- -------- -------- --------- --------- Total J. Crew brand 448,893 492,790 556,126 577,594 625,897 Other divisions(b) 288,832 253,119 252,717 256,437 198,361 -------- -------- -------- --------- --------- Total $737,725 $745,909 $808,843 $ 834,031 $ 824,258 ======== ======== ======== ========= ========= J. Crew Mail Order: Number of catalogs circulated (in 61,187 67,519 76,087 76,994 73,440 thousands) Number of pages circulated (in millions) 8,277 10,198 9,827 9,830 8,819 J. Crew Retail: Sales per gross square foot $ 594 $ 533 $ 551 $ 542 $ 558 Store contribution margin 22.7% 25.5% 25.4% 23.4% 25.0% Number of stores open at end of period 29 31 39 51 65 Comparable store sales change(c) 6.9% (6.0)% 4.5% (6.6)% 9.0% Depreciation and amortization $ 8,110 $ 10,272 $ 10,541 $ 15,255 $ 15,972 Net capital expenditures(d) New store openings 2,804 6,009 10,894 19,802 14,749 Other 10,663 8,631 11,587 11,565 21,605 -------- -------- -------- --------- --------- Total net capital expenditures 13,467 14,640 22,481 31,367 36,354(a) Includes buying and occupancy costs.(b) Includes revenues from the Company's PCP and C&W divisions and finance charge income from PCP installment sales. PCP was sold effective October 30, 1998.(c) Comparable store sales includes stores that have been opened for a full twelve month period.(d) Capital expenditures are net of proceeds from construction allowances.ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONSThis discussion summarizes the significant factors affecting the consolidatedoperating results, financial condition and liquidity of the Company during thethree-year period ended January 30, 1999. This discussion should be read inconjunction with the audited consolidated financial statements of the Companyfor the three-year period ended January 30, 1999 and notes thereto includedelsewhere in this Annual Report on Form 10-K. 11 Results of OperationsConsolidated statements of operations presented as a percentage of revenues areas follows: Fiscal Year ended January January January 30,1999 31,1998 31,1997 Revenues 100.0% 100.0% 100.0%Cost of goods sold, including buying and occupancy costs 55.9 55.8 53.0Selling, general and administrative expenses 40.8 43.1 43.1Costs associated with discontinuance of C&W 1.6 ---- ----Other charges 1.0 ---- ----Income from operations .7 1.1 3.9Interest expense, net (4.8) (2.5) (1.3)Gain on the sale of Popular Club Plan 1.2 ---- ----Expenses incurred-recapitalization - (2.5) -(Loss)/income before income taxes and extraordinary items (2.9) (3.9) 2.7Benefit/(provision) for income taxes 1.0 0.6 (1.0)(Loss)/income before extraordinary items (1.9)% (3.3)% 1.7% ===== ===== =====Fiscal 1998 Compared to Fiscal 1997Revenues- --------Revenues decreased 1.2% to $824.3 million in the fiscal year ended January 30,1999 from $834.0 million in the fiscal year ended January 31, 1998. The decreasein revenues was due primarily to (a) the sale of Popular Club Plan, effective asof October 30, 1998, which resulted in a decrease of $60.3 million and (b) adecrease in J.Crew Mail Order revenues of $12.0 million. These decreases wereoffset by an increase of $64.4 million in the revenues of J.Crew Retail.Excluding Popular Club Plan, revenues increased 7.8% from $649.6 in fiscal 1997to $700.3 in fiscal 1998.J.Crew Retail revenues increased by 30.7% from $209.6 million in fiscal 1997 to$274.0 million in fiscal 1998. The percentage of the Company's total revenuesderived from J.Crew Retail increased to 33.2% in fiscal 1998 from 25.1% infiscal 1997. This increase was attributed to $45.5 million from the opening ofnew stores and $18.9 million from an increase in comparable store sales of 9.0%.The number of stores opened at January 30, 1999 increased to 65 from 51 atJanuary 31, 1998.J.Crew Mail Order revenues decreased by 4.5% from $264.8 million in fiscal 1997to $252.8 million in fiscal 1998. The percentage of the Company's total revenuesderived from J.Crew Mail Order decreased to 30.7% in fiscal 1998 from 31.8% infiscal 1997. This decrease was primarily due to a decrease in catalogcirculation from 9.8 billion pages circulated in fiscal 1997 to 8.8 billionpages circulated in fiscal 1998 and a continuing weak performance in menswearsales. J.Crew Mail Order revenues in fiscal 1998 include approximately $20.0million from jcrew.com compared to approximately $4.0 million in fiscal 1997.J.Crew Factory Outlet revenues decreased by 3.8% from $100.3 million in fiscal1997 to $96.5 million in fiscal 1998. The percentage of the Company's totalrevenues derived from J.Crew Factory Outlet decreased to 11.7% in fiscal 1998from 12.0% in fiscal 1997. Comparable store sales for J.Crew Factory Outletdecreased by 11.5% in fiscal 1998. The decrease in comparable store salesresulted from additional markdowns required to sell through overstockmerchandise, primarily in the Spring of 1998. J.Crew Factory Outlet opened threenew stores in fiscal 1998 and 45 stores were open at January 30, 1999. 12 C&W revenues increased by 3.2% to $74.3 million in fiscal 1998 from $72.0million in fiscal 1997. The percentage of the Company's revenues derived fromC&W increased to 9.0% in fiscal 1998 from 8.6% in fiscal 1997. The increase inrevenues resulted from an increase in the number of catalogs mailed fromapproximately 40 million in fiscal 1997, to 42 million in fiscal 1998 and theintroduction of a deferred payment program in the fall of 1998. During 1998 the Company made a decision to exit the operations of C&W and incurred a charge of$13.3 million to write-down C&W assets to estimated realizable value and toprovide for other costs to be incurred in the discontinuance of operations, suchas severance and lease termination costs. Additionally fourth quarter charges of$1.7 million were incurred relating to deferred catalog costs.Cost of sales, including buying and occupancy costs- ---------------------------------------------------Cost of sales, including buying and occupancy costs as a percentage of revenueswas 55.9% for fiscal 1998 compared to 55.8% for fiscal 1997. This increase was caused primarily by higher markdowns in fiscal 1998 to liquidate overstocks.Selling, general and administrative expenses- --------------------------------------------Selling, general and administrative expenses as a percentage of revenues was40.8% in fiscal year 1998 and 43.1% in fiscal year 1997.As a percentage of revenues, selling expenses (catalog circulation costs)decreased to 13.1% in fiscal 1998 from 14.7% in 1997 and general andadministrative expenses decreased to 27.7% in fiscal 1998 from 28.4% in fiscal1997. The decrease in selling expense resulted primarily from the reduction incatalog circulation from 9.8 billion pages circulated in 1997 to 8.8 billionpages circulated in 1998 and the implementation of cost reduction initiativesrelating primarily to printing costs at J.Crew Mail Order.The decrease in general and administrative expenses in fiscal 1998 as apercentage of revenues was due to a decrease in expenses at J.Crew Mail Orderand J.Crew Retail from the implementation of cost reduction initiatives.The absolute dollar amount of selling, general and administrative expensesdecreased to $336.6 million in fiscal 1998 from $359.8 million in fiscal 1997 primarily as a result of the sale of Popular Club Plan as of October 30, 1998which accounted for $20.0 million of the decrease.Write-down and other charges in connection with the discontinuance of Clifford &- --------------------------------------------------------------------------------Wills- -----A charge of $13.3 million was included in fiscal 1998 operations to write-downthe assets of C&W to net realizable value and to provide for certain additionalcosts in connection with the discontinuanceAdditionally fourth quarter charges of $1.7 million were included in sellingexpense relating to deferred catalog costs. (See note 2 to the consolidatedfinancial statements).Other charges- -------------Other charges in fiscal 1998 include $2.9 million of costs incurred in connection with the termination of the employment contracts of two seniorexecutives, including the former Chief Executive Officer, and $5.1 million oftax gross-up payments made on behalf of senior executives relating to restrictedstock grants (See note 19 to the consolidated financial statements).Gain on Sale of Subsidiary- --------------------------During 1998 the Company sold the capital stock of Popular Club Plan Inc. and subsidiaries to the Fingerhut Companies, Inc. for gross proceeds of $42.0 million and realized a gain of $10.0 million. (See note 2 to the consolidated financial statements).Interest Expense- ----------------Interest expense, net increased to $39.3 million or 4.9% of revenues in fiscal1998 from $20.5 million or 2.5% of revenues in fiscal 1997. This increaseresulted primarily from the issuance of $295.3 million of debt in October 1997to fund the Recapitalization including $85.0 to retire senior indebtednessoutstanding at the time of the Recapitalization. Average borrowings under aRevolving Credit Facility required to fund inventories and capital expenditureswere $54.3 million in fiscal 1997 and $47.5 million in fiscal 1998. 13 Interest expense included non-cash interest and amortization of deferredfinancing costs of $12.7 million in fiscal 1998 compared to $3.9 million fiscal1997.Income Taxes- ------------The effective tax rate was (34.7)% in fiscal 1998 compared to (21.1)% in fiscal1997. The effective tax rate in fiscal 1997 was effected by the non-deductibility of certain expenses related to the Recapitalization.Fiscal 1997 Compared to Fiscal 1996RevenuesRevenues increased 3.1% to $834.0 million in the fiscal year ended January 31,1998 from $808.8 million in the fiscal year ended January 31, 1997, as a resultof increased sales of J. Crew Retail stores. J. Crew Retail revenues increasedby 24.8% to $209.6 million in the fiscal year ended January 31, 1998 from $168.0million in the fiscal year ended January 31, 1997. The increase in J. CrewRetail store revenues was the result of the opening of 12 new stores in fiscal1997.J. Crew Mail Order revenues decreased by 8.6% to $264.8 million in the fiscalyear ended January 31, 1998 from $289.8 million in the fiscal year ended January31, 1997. The percentage of the Company's total revenues derived from J. CrewMail Order decreased to 31.8% in the fiscal year ended January 31, 1998 from35.8% in the fiscal year ended January 31, 1997. The decrease in J. Crew MailOrder revenues was primarily due to weak performance in menswear sales andunseasonably warm weather on the east coast during the fall season. The UPSstrike also contributed to the decrease in J. Crew Mail Order revenues. Grosssales were down 19% from July 18, 1997 to the end of the UPS strike on August23, 1997. The number of catalogs mailed were approximately 77 million in fiscal1997 compared to 76 million in fiscal 1996.J. Crew Retail revenues increased by 24.8% to $209.6 million in the fiscal yearended January 31, 1998 from $168.0 million in the fiscal year ended January 31,1997. The percentage of the Company's total revenue derived from its J. CrewRetail stores increased to 25.1% in the fiscal year ended January 31, 1998 from20.8% in the fiscal year ended January 31, 1997. The increase in J. Crew Retailrevenues is the result of opening 12 new stores in the fiscal year ended January31, 1998. Comparable stores sales decreased 6.6% as the result of the openingof new stores in proximity to existing store locations, weak performance inmenswear sales and unseasonably warm weather in the second half of the yearwhich contributed to a decrease in the sales of fall and winter clothing.J. Crew Factory Outlet revenues increased by 6.1% to $100.3 million in thefiscal year ended January 31, 1998 from $94.5 million in the fiscal year endedJanuary 31, 1997. The percentage of the Company's total revenue derived from J.Crew Factory Outlet remained at approximately 12%. J. Crew Factory storescomparable store sales increased by 2.0% in the fiscal year ended January 31,1998. The comparable store sales increase was principally due to the overallimprovement in store merchandising under the direction of a new factory outletmerchandising vice president. J. Crew Factory Outlet opened three new storesand closed one store in fiscal 1997.PCP revenues increased by 3.8% to $184.4 million in the fiscal year ended January 31, 1998 compared to $177.7 million in the fiscal year ended January 31,1997. The percentage of the Company's total revenues derived from PCP remainedat approximately 22.0%. The number of catalogs mailed remained at the sameapproximate level of 7 million and the number of selling agents remainedunchanged at approximately 106,000 during the fiscal year ended January 31,1998. The increase in sales in fiscal 1997 over fiscal 1996 was attributable tobetter performance in ready-to-wear apparel and specifically in new brandedmerchandise.C&W revenues decreased 4.0% to $72.1 million in the fiscal year ended January31, 1998 from $75.0 million in the fiscal year ended January 31, 1997. Thepercentage of the Company's revenue derived from C&W decreased to 8.6% in thefiscal year ended January 31, 1998 from 9.3% in the fiscal year ended January31, 1997. The number of 14 catalogs mailed increased to approximately 40 million in the fiscal year endedJanuary 31, 1998 from approximately 38 million in the fiscal year ended January31, 1997. The decrease in sales was the result of unseasonably warm weather inthe second half of the fiscal year affecting the sales of fall and winterclothing.Cost of sales including buying and occupancy costsCost of sales including buying and occupancy costs as a percentage of revenueswas 55.8% for the fiscal year ended January 31, 1998 compared to 53.0% in thefiscal year ended January 31, 1997. Approximately half of the increase in costof sales was the result of significant promotional discounting in the Novemberand December Holiday catalogs in J. Crew Mail Order and the other half of theincrease was the result of an increase in J. Crew Retail buying and occupancycosts, reflecting the higher costs associated with opening new stores in urbanareas such as New York City.Selling, General and Administrative ExpensesSelling, general and administrative expenses as a percentage of revenues was43.1% in the fiscal year ended January 31, 1998 and the fiscal year endedJanuary 31, 1997. As a percentage of revenues general and administrative costsincreased by 1.2% primarily as a result of a higher expense ratio due to thedecrease in J. Crew Mail Order revenues and the decrease in comparable storesales in J. Crew Retail. The increase as a percentage of revenues is due toincreased general and administrative expenses of 1.3%, primarily as a result ofincreased expenses of the twelve new retail stores. Catalog circulation costs(consisting primarily of paper, postage and printing expenses) decreased by 1.2%primarily as a result of decreased paper costs. Absolute dollar amounts ofselling, general andQS administrative expenses increased to $359.8 million infiscal 1997 from $348.3 million in fiscal 1996, primarily reflecting volumerelated costs.Interest ExpenseInterest expense increased to $20.5 million or 2.5% of revenues in the fiscalyear ended January 31, 1998 from $10.5 million or 1.3% of revenues in the fiscalyear ended January 31, 1997. This increase in interest expense was due to theissuance by Holdings of the Senior Discount Debentures of $75.3 million whichcontributed approximately $2.9 million in increased interest, the issuance byOperating Corp of the Senior Subordinated Notes of $150 million whichcontributed approximately $4.6 million in increased interest and the Term LoanFacility of $70 million which contributed approximately $1.8 million inincreased interest. These borrowings were required to fund theRecapitalization. The increase was partially offset by a decrease in theinterest expense related to the $85.0 million of senior indebtedness which wasretired in October 1997 Borrowings under the Revolving Credit Facilitycontributed $1.9 million in increased interest required to fund increasedinventories and capital expenditures.Recapitalization ExpensesThe recapitalization expenses of $20.7 million consisted of management bonusesof $12.2 million, a financial advisory fee payable to TPG Partners of $5.5million, legal and accounting fees of $1.5 million, a consulting fee of $1.0million and other expenses of $0.5 million. The Company's results of operationswere negatively impacted by these recapitalization expenses. The loss before income taxes and extraordinary item of $32.1 million for the fiscal year endedJanuary 31, 1998 includes the $20.7 million of non-recurring recapitalizationexpenses, the majority of which were paid before January 31, 1998.Income taxesThe effective tax rate was (21.1)% in fiscal 1997 compared to 41.2% in fiscal1996 primarily as a result of the non-deductibility of certain expenses relatedto the Recapitalization.Liquidity and Capital Resources The Company's primary cash needs have been for capital expenditures incurredprimarily for opening new stores, debt service requirements and working capital.The Company's sources of liquidity have been primarily cash flows fromoperations and borrowings under the revolving credit facility. In October 1997 the Company incurred substantial indebtedness in connectionwith the Recapitalization. After giving effect to the Recapitalization, theCompany had $298.2 million of indebtedness outstanding and $201.6 15 million of stockholders' deficit at January 31, 1998. The Company's significantdebt service obligations following the Recapitalization could, under certaincircumstances, have material consequences to security holders of the Company. Infiscal 1998 the Company sold its Popular Club Plan subsidiary and used $26.0million of the proceeds to repay debt. Cash provided by operating activities was $8.1 million in fiscal year 1998compared to a use of $7.4 million in fiscal 1997. The decrease in the use ofcash resulted primarily from the payment of expenses incurred in connection withthe Recapitalization in 1997. Capital expenditures, net of construction allowances, were $36.4 million infiscal 1998. The 1998 capital expenditures consisted primarily of the opening of14 new J. Crew Retail stores and systems enhancements. Capital expenditures infiscal 1998 included $5.2 million for Popular Club Plan which was sold inOctober 1998. Capital expenditures, net of construction allowances, duringfiscal 1997 were $31.4 million, primarily to fund the opening of 12 retailstores and the relocation of the Company's headquarters office in New York City. Capital expenditures are expected to be $40.0 million in fiscal 1999,primarily for the opening of 15-20 J.Crew Retail Stores and for systemenhancements. The expected capital expenditures will be funded from internallygenerated cash flows and by borrowings from available financing sources. Gross proceeds from the sale of Popular Club Plan, Inc. in fiscal 1998 were $42.0 million. These proceeds, net of expenses, were used to reduceoutstanding indebtedness under the term loan by $26 million from $70 million to$44 million. Borrowings of $14 million were outstanding under the Revolving CreditFacility at January 30, 1999. There were no borrowings outstanding under theRevolving Credit Facility at January 31, 1998. Average borrowings under theRevolving Credit Facility were $47.5 million for the fiscal year ended January 30, 1999 and $54.5 million for the fiscal year ended January 31, 1998. Management believes that cash flow from operations and availability under theRevolving Credit Facility will provide adequate funds for the Company'sforeseeable working capital needs, planned capital expenditures and debt serviceobligations. The Company's ability to fund its operations and make plannedcapital expenditures, to make scheduled debt payments, to refinance indebtednessand to remain in compliance with all of the financial covenants under its debtagreements depends on its future operating performance and cash flow, which inturn, are subject to prevailing economic conditions and to financial, businessand other factors, some of which are beyond its control.The Year 2000 IssueThe Year 2000 issue affecting most companies, including the Company, is caused by the inability of internal and external computer systems to recognize andprocess more than two digit entries in the date code field. Beginning with dateslater than December 31, 1999, these date code fields will need to accept fourdigit entries to identify 21st century dates from 20th century dates.The Company has adopted a Year 2000 plan consisting of the following fourphases: identifying and prioritizing the components of the Company's internalsystems, equipment and related programs that are impacted by the Year 2000problem; remediation or replacement of non-compliant systems; testing todetermine the success of remediation efforts; and development of contingencyplans. The Company has completed the first phase and expects to substantiallycomplete the second phase of its Year 2000 Plan by the end of the second quarterof fiscal year 1999. The testing phase is ongoing as systems are remediated,updated or replaced and is scheduled to be completed during the third quarter offiscal year 1999. Contingency plans are being developed and will evolve as thetesting phase and third party assessments described below are completed.The Company has also initiated communications with its key vendors and thirdparties to obtain assurances that their systems will be Year 2000 compliant.These communication and evaluation processes are ongoing. 16 The Company is using internal programming resources, outside consultingservices, system upgrades from existing vendors and replacement of existingpackages with packages that are Year 2000 compliant. Certain systems are beingreplaced to modernize existing systems, not just for Year 2000 compliance. Totalexpenditures relating to implementing the plan are currently estimated to be$11.0 million for fiscal years 1997 through 2000, a substantial portion of whichwill be capitalized expenditures relating to acquisition and implementation ofnew package systems. This cost estimate does not include time and costs that maybe incurred by the Company as a result of failure of any third parties to becomeYear 2000 ready or costs to implement contingency plans. As of the end of fiscalyear 1998, the Company has incurred costs of approximately $5.1 million relatingto the Company's Year 2000 initiatives.The Company believes that its Year 2000 compliance program is designed toidentify and address Year 2000 issues that are subject to the Company's control.However, there can be no assurance that the Company's efforts will be fullyeffective and there are significant risks that are beyond the Company's control,including, without limitation, failure of (a) vendors to produce merchandise orperform services required by the Company, (b) utilities to deliver electricity,(c) shippers (including the U.S. Postal Service) to deliver merchandise, and (d)landlords to have the malls or buildings in which the Company has stores be Year2000 compliant. Impact of Inflation The Company's results of operations and financial condition are presentedbased upon historical cost. While it is difficult to accurately measure theimpact of inflation due to the imprecise nature of the estimates required, theCompany believes that the effects of inflation, if any, on its results ofoperations and financial condition have been minor. However, there can be noassurance that during a period of significant inflation, the Company's resultsof operations would not be adversely affected. Seasonality The Company's retail and mail order businesses experience two distinctselling seasons, spring and fall. The spring season is comprised of the firstand second quarters and the fall season is comprised of the third and fourthquarters. Net sales are usually substantially higher in the fall season andselling, general and administrative expenses as a percentage of net sales areusually higher in the spring season. Approximately 34% of annual net sales infiscal 1998 occurred in the fourth quarter. The Company's working capitalrequirements also fluctuate throughout the year, increasing substantially inSeptember and October in anticipation of the holiday season inventoryrequirements.Recent Accounting PronouncementsIn June 1998, the Financial Accounting Standards Board issued Statement ofFinancial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" which requires entities to recognize all derivatives aseither assets or liabilities in the statement of financial position and measurethose instruments at fair value. SFAS No. 133 is effective for all fiscal years beginning after June 15, 1999. The Company is currently reviewing SFAS No. 133and is not able to evaluate the impact, if any, it may have on future operatingresults or financial statement disclosures.ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKThe Company's principal market risk relates to interest rate sensitivity whichis the risk that future changes in interest rates will reduce net income or thenet assets of the Company. The Company's variable rate debt consists ofborrowings under the Revolving Credit Facility and the Term Loan Facility. Inorder to manage this interest rate risk, the Company entered into an interestrate swap agreement in October 1997 for $70 million notional principal amountwhich was reduced to $50 million in October 1998. This agreement which has aterm of three years, converts the interest rate to a fixed rate of 6.23%. Ifthis interest rate swap agreement was settled on January 30, 1999, the Companywould be required to pay an additional $1,047,000. 17 The Company enters into letters of credit to facilitate the internationalpurchase of merchandise. The letters of credit are primarily denominated in U.S.dollars. Outstanding letters of credit at January 30, 1999 were approximately$41.6 million.Furthermore, the Company has a licensing agreement in Japan which provides forroyalty payments based on sales of J.Crew merchandise as denominated in yen. TheCompany has from time to time entered into forward foreign exchange contracts tominimize this risk. At January 30, 1999, there were two forward foreign exchangecontracts outstanding to sell 130 million Yen each at different rates ofexchange which expired on March 31, 1999. In February 1999 the Company enteredinto forward foreign exchange contracts to sell 100 million Yen which expires onAugust 15, 1999 and 130 million Yen which expires on March 31, 2000.ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATAThe Financial Statements are set forth herein commencing on page F-1 of thisReport.ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURENot applicable. 18 PART IIIITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The following table sets forth the name, age and position of individualswho are serving as directors of Holdings and executive officers of Holdings andOperating Corp. Each Director of Holdings will hold office until the nextannual meeting of shareholders or until his or her successor has been electedand qualified. Officers are elected by the respective Boards of Directors andserve at the discretion of such Board.Name Age Position- ---- --- -------- Emily Woods............................... 38 Director, Chairman of the BoardRichard W. Boyce.......................... 44 Director, Chief Executive OfficerCharlotte L. Beers........................ 63 DirectorDavid Bonderman........................... 56 DirectorGregory D. Brenneman...................... 37 DirectorJohn W. Burden, III....................... 62 Director James G. Coulter.......................... 39 DirectorBarbara K. Eisenberg...................... 53 Vice President, General Counsel and Corporate SecretaryScott Formby.............................. 37 Senior Vice President, Women's DesignScott R. Gilbertson....................... 30 Senior Vice President, New Media and Strategic PlanningWalter Killough........................... 44 Senior Vice President, General Manager, Mail OrderNicholas Lamberti......................... 56 Vice President-Corporate ControllerThomas A. Lesica.......................... 39 Senior Vice President, Chief Information OfficerMichael Ovitz............................. 52 DirectorScott M. Rosen............................ 40 Senior Vice President, Chief Financial OfficerCarol Sharpe.............................. 44 Senior Vice President, General Merchandising Manager, RetailTrudy Sullivan ........................... 49 President-Mail OrderBrian T. Swette.......................... 45 DirectorJosh S. Weston............................ 70 DirectorEmily Woods Ms. Woods became Chairman of the Board of Directors of Holdings uponconsummation of the Recapitalization. Ms. Woods is also a director and Chairmanof the Board of Operating Corp. Ms. Woods co-founded the J. Crew brand in 1983.Ms. Woods has also served as Chief Executive Officer and Vice-Chairman ofHoldings and as Chief Executive Officer of Operating Corp. She is also adirector of Beringer Wines Estates, Inc.Richard W. Boyce Mr. Boyce became a director of Holdings upon consummation of theRecapitalization and Chief Executive Officer in January 1999. Mr. Boyce is thePresident of CAF, Inc. ("CAF"), a management consulting firm which advisesvarious companies controlled by TPG. Prior to founding CAF in 1997, Mr. Boyceserved as Senior Vice President of Operations for Pepsi-Cola North America("PCNA") from 1996 to 1997, and Chief Financial Officer of PCNA from 1994 to1996. He is also Chairman of Del Monte Foods Company. He is Chairman ofFavorite Brands International Holding Corp., which filed for protection underChapter 11 of the Bankruptcy Code on March 30, 1999.Charlotte L. Beers Ms. Beers became a director of Holdings in June 1998. Ms. Beers has beenChairman of J. Walter Thompson (advertising agency) since March 1999. She wasChairman and Chief Executive Officer of Ogilvy & Mather (advertising agency)from 1992 until 1997 and Chairman Emeritus from 1997 until March 1999. She alsoserves as a director of Gulfstream Aerospace Corp.David Bonderman Mr. Bonderman became a director of Holdings upon consummation of theRecapitalization. Mr. Bonderman is a founding partner of TPG and has beenManaging General Partner of TPG for more than five years. Mr. Bonderman serveson the Boards of Directors of Bell & Howell, Inc., Beringer Wine Estates, Inc.,Continental Airlines, Inc., Denbury Resources Inc., Ducati Motor HoldingsS.p.A., AerFi, Ltd., Landis & Gyr, Oxford Health Plans, Inc., Realty InformationGroup, Inc., Ryanair Ltd., Virgin Entertainment Group Ltd. and WashingtonMutual, Inc.Gregory D. Brenneman Mr. Brenneman became a director of Holdings in June 1998. He has beenPresident of Continental Airlines Inc. since 1996 and Chief Operating Officer ofContinental Airlines Inc. since 1995. Prior thereto, he was a Vice President ofBain & Company (consulting firm) for more than five years. He has been adirector of Continental since 1995 and is a director of Browning-FerrisIndustries, Inc. 19 John W. Burden, III Mr. Burden became a director of Holdings in June 1998. Mr. Burden has beena retail consultant for more than five years. He also serves as a director ofSaks Incorporated and Chicos Fas Inc.James G. Coulter Mr. Coulter became a director of Holdings upon consummation of theRecapitalization. Mr. Coulter is a founding partner of TPG and has been ManagingGeneral Partner of TPG for more than five years. He serves on the Boards ofDirectors of America West Holdings Corp., Beringer Wine Estates, Inc., Genesis Eldercare, Inc., Northwest Airlines, Inc., Oxford Health Plans, Inc.,Communications Partners, L.P. and Virgin Entertainment Group Ltd.Barbara K. Eisenberg Ms. Eisenberg joined the Company in October 1998 as Vice President, GeneralCounsel and Corporate Secretary. Prior thereto, she was Vice President,Associate General Counsel and Corporate Secretary of Burlington Industries, Inc.(textile manufacturer) for more than five years.Scott Formby Mr. Formby became Senior Vice President, Design of J.Crew in 1999. Priorthereto, he was Vice President, Design for more than five years.Scott R. Gilbertson Mr. Gilbertson joined the Company in October 1998 as Senior Vice Presidentof New Media and Strategic Planning. He was an associate of CAF from February1998 until joining the Company and a consultant with The Boston Consulting Groupfor more than five years prior thereto.Walter Killough Mr. Killough has been Senior Vice President, General Manager, Mail Orderfor more than five years.Nicholas Lamberti Mr. Lamberti has been Vice President - Corporate Controller for more thanfive years.Thomas A. Lesica Mr. Lesica joined the Company in January 1999 as Senior Vice President andChief Information Officer. He was with PepsiCo, Inc. as Vice President and ChiefInformation Officer from 1997 until joining the Company and Director ofInformation Technology of Pepsi Cola Company prior thereto.Michael Ovitz Mr. Ovitz became a director of Holdings in June 1998. He is an independentbusinessman and investor and co-founded Artists Management Group, amanagement/production multi-media company. From October 1995 to December 1996,Mr. Ovitz was President of the Walt Disney Company. For more than five yearsprior to 1995, Mr. Ovitz served as Chairman of Creative Artists Agency, which heco-founded. Mr. Ovitz is also a director of Gulfstream Aerospace Corp. andLivent, Inc.Scott M. Rosen Mr. Rosen joined the Company in 1994 as Chief Financial Officer of MailOrder. Since May 1998, he has been Senior Vice President and Chief FinancialOfficer.Carol Sharpe Ms. Sharpe was appointed Senior Vice President, General MerchandisingManager, Retail in March 1999. She was Senior Vice President and GeneralMerchandising Manager-Women's from 1998 until then and Vice President, Women'sfor more than 5 years prior thereto.Trudy Sullivan Ms. Sullivan has been President, Mail Order since 1998. Prior thereto, shewas President of Clifford and Wills from 1995 to 1998 and a Senior VicePresident, Merchandising of United Retail Group from 1992 to 1995.Brian T. Swette Mr. Swette became a director of Holdings in June 1998. He has been SeniorVice President of Marketing and International of eBay Inc. (person-to-persontrading community on the Internet) since August 1998. He was Executive VicePresident and Chief Marketing Officer-Global Beverages of Pepsi-Cola Beveragesfrom 1996 until joining eBay and Executive Vice President Marketing-NorthAmerica of Pepsi-Cola Beverages from 1994 to 1996. He is also a director ofeBay Inc.Josh S. Weston Mr. Weston became a director of Holdings in June 1998. He has been HonoraryChairman of the Board of Directors of Automatic Data Processing (computingservices business) since 1998. He was Chairman of the Board of Automatic DataProcessing from 1996 until 1998 and Chairman and Chief Executive Officer formore than five years prior thereto. Mr. Weston is also a director of OlstenCorp., Public Service Enterprise Group, Shared Medical Systems Corporation andRuss Berrie & Company, Inc. 20 ITEM 11. EXECUTIVE COMPENSATION The following table sets forth compensation paid by the Company for fiscalyears 1998, 1997 and 1996 to each individual serving as its chief executiveofficer during fiscal 1998, to each of the four other most highly compensatedexecutive officers of the Company as of the end of fiscal 1998 and to two otherexecutive officers of the Company whose employment terminated during fiscal year1998. Annual Compensation -------------------------------------------------------------Name Other Annual and Fiscal Salary Bonus Comp. Principal Position Year ($) ($) ($) - ------------------------ ------ ------- -------------- ------------- Emily Woods 1998 1,000,000 1,000,000 -- Chairman 1997 700,000 -- -- 1996 700,000 -- -- Richard W. Boyce 1998 83,333 -- -- Chief Executive Officer 1997 -- -- -- 1996 -- -- -- Scott Formby 1998 392,158 107,000 -- Senior Vice President, 1997 358,654 30,000 -- Women's Design 1996 325,000 30,000 -- Carol Sharpe 1998 362,500 100,300 -- Senior Vice President, 1997 315,856 75,000 -- General Merchandising 1996 300,485 50,000 -- Manager, Retail Trudy Sullivan 1998 310,000 230,000 -- President, Mail Order 1997 300,000 207,000 -- 1996 300,000 10,000 -- Howard Socol 1998 807,692 1,000,000 1,569,357/(5)/ Former Chief Executive 1997 -- -- -- Officer 1996 -- -- -- Matthew Rubel 1998 479,000 422,000 -- Former President, 1997 465,787 130,800 -- Popular Club Plan 1996 422,418 150,000 -- Barry Erdos 1998 428,000 150,000 635,489/(9)/ Former Chief Operating 1997 -- -- -- Officer 1996 -- -- -- Long-Term Compensation --------------------------------- Awards Payouts ---------------------------------- Securities Name Restricted Underlying LTIP All Other and Fiscal Stock Options/ Payouts Comp. Principal Position Year Award(s)($)(1) SARS (#) ($) ($) - ------------------------ ------ -------------- ----------- ---------- -------------------- Emily Woods 1998 /(2)/ -- -- 2,907,590/(3)(11)/ Chairman 1997 -- 2,461 -- 10,004,750/(4)(11)/ 1996 -- -- -- 4,500/(11)/ Richard W. Boyce 1998 -- 276 -- -- Chief Executive Officer 1997 -- -- -- -- 1996 -- -- -- -- Scott Formby 1998 -- -- -- 5,000/(11)/ Senior Vice President, 1997 -- 156 -- 64,750/(4)(11)/ Women's Design 1996 -- -- -- 4,500/(11)/ Carol Sharpe 1998 -- 62 -- 5,000/(11)/ Senior Vice President, 1997 -- 63 -- 54,750/(4)(11)/ General Merchandising 1996 -- -- -- 4,500/(11)/ Manager, Retail Trudy Sullivan 1998 -- 125 -- 5,000/(11)/ President, Mail Order 1997 -- 63 -- 54,750/(4)(11)/ 1996 -- -- -- 4,500/(11)/ Howard Socol 1998 (6) -- 4,242,515/(7)/ Former Chief Executive 1997 -- -- -- -- Officer 1996 -- -- -- -- Matthew Rubel 1998 -- -- -- 2,818,880/(8)(11)/ Former President, 1997 -- 188 -- 304,750/(4)(11)/ Popular Club Plan 1996 -- -- -- 4,500/(11)/ Barry Erdos 1998 -- 625 -- 273,077/(10)/ Former Chief Operating 1997 -- -- -- -- Officer 1996 -- -- -- -- - ------------------------------ (1) There is no established public market for shares of Common Stock. Holders of restricted stock have the same right to receive dividends as other holders of Common Stock. The Company has not paid any cash dividends on its Common Stock.(2) Ms. Woods was granted 3,308 shares of Common Stock ("Woods Restricted Shares"), of which 393 shares vested immediately upon grant, 972 shares will vest on each of the 3rd and 4th anniversaries of the Recapitalization and 971 shares will vest on the 5th anniversary of the Recapitalization.(3) The amount set forth in this column includes reimbursement for income taxes in the amount of $ 2,902,590 incurred by Ms. Woods as a result of the grant of the Woods Restricted Shares.(4) The amount set forth in this column includes a bonus paid in connection with the consummation of the Recapitalization.(5) This amount is comprised of a signing bonus of $1,500,000 plus reimbursement of $69,357 in relocation expenses.(6) Mr. Socol was granted 2,437 shares of Common Stock ("Socol Restricted Shares"). The shares vest 25% on each of February 24, 1999, 2000, 2001 and 2002, except that if Mr. Socol is terminated other than for cause the portion of the Socol Restricted Shares that would have vested in the two years following the date of such termination immediately vest. Holdings purchased the vested Socol Restricted Shares in accordance with the terms of the stockholders agreement among Mr. Socol, Holdings and TPG.(7) This amount is comprised of (i) $2,242,515 for reimbursement of income taxes incurred as the result of the grant of the Socol Restricted Shares; and (ii) $2,000,000 severance payments in connection with the termination of Mr. Socol's employment.(8) The amount includes a bonus of $2,813,880 paid in connection with the sale of Popular Club Plan.(9) This amount is comprised of a signing bonus of $250,000 plus reimbursement of $385,489 in relocation expenses.(10) This amount was paid as severance in connection with the termination of Mr. Erdos' employment. See "Employment Agreements and Other Compensation Arrangements" for a description of termination amounts payable to Mr. Erdos under his employment agreement.(11) Includes Company matching contributions to 401(k) plan in the amounts of $5,000, $4,750 and $4,500 for fiscal years 1998, 1997 and 1996, respectively. 21 The following Table shows information concerning stock options granted toany of the named executive officers during fiscal year 1998. Option Grants In Fiscal Year 1998 Potential Realizable Value At Assumed Annual Rates Of Stock Price Appreciation For Individual Grants Option Term - -------------------------------------------------------------------------------------------------------------------------------- Number of Percent Of Securities Total Options Underlying Granted To Options Employees In Exercise Expiration Name Granted(#)/(1)(2)/ Fiscal Year Price($/Sh) Date 5%($) 10% ($)- -------------------------------------------------------------------------------------------------------------------------------- Richard W. Boyce 276 12.8% 1,363.64 6/1/05 153,218 357,064 Barry Erdos 625 29.0% 1,363.64 4/14/99 -- -- Carol Sharpe 62 2.9% 1,363.64 11/10/08 53,170 134,744 Trudy Sullivan 125 5.8% 1,363.64 5/15/08 107,198 271,661 - -------------------------------------------/(1)/ The Company has not granted any SARs./(2)/ Mr. Boyce's options have a 7-year term and became exercisable 100% on the date of grant. Mr. Erdos' options expire 90 days after the date of termination of his employment in accordance with the terms of his stock option grant. Ms. Sharpe's and Ms. Sullivan's options have a 10-year term and are exercisable 10% on the grant date, 10% on January 31, 1999 and 20% on January 31st in each of 2000, 2001, 2002 and 2003. The following Table shows the number of stock options held by the namedexecutive officers at the end of fiscal year 1998. The named executive officersdid not exercise any stock options in fiscal year 1998.Aggregated Option Exercises in Fiscal Year 1998 and Fiscal Year-End Option Values Number Of Securities Underlying Unexercised Options At Fiscal Year End (1) (#)Name Exercisable/Unexercisable- ---- ------------------------- Richard W. Boyce........................................................ 276 / 0Barry Erdos............................................................ 62.5 / 562.5Scott Formby............................................................ 31.2 / 124.8Matthew Rubel........................................................... 56.8 / 0Carol Sharpe............................................................ 25 / 100Trudy Sullivan......................................................... 37.6 / 150.4Emily Woods............................................................. 492.2 / 1968.8- ------------------------------------(1) Although there is no established public market for shares of the Company's Common Stock, the Company's management believes that all options granted were out-of-the-money as of the end of fiscal year 1998. 22 Employment Agreements and Other Compensation Arrangements On October 17, 1997, Holdings and Operating Corp (the "Employers") and Ms.Woods entered into an employment agreement which provides that, for a period offive years commencing on the closing of the Recapitalization, she will serve asChairman of the Board of Directors of Holdings. The employment agreementprovides for an annual base salary of $1.0 million, and an annual target bonusof up to $1.0 million based on achievement of earnings objectives to bedetermined each year. The employment agreement also provides for the grant of3,308 shares of Common Stock (the "Woods Restricted Shares"). (See footnotes 2and 3 to the Executive Compensation Table for information on the vesting of theWoods Restricted Shares and the reimbursement of income taxes incurred by Ms.Woods in connection with such grant.) Ms. Woods is also entitled to variousexecutive benefits and perquisites under the employment agreement. Under the terms of stock options awarded to Ms. Woods under the Company'sStock Option Plan, all unvested options shall become exercisable (i) if Ms.Woods' employment is terminated by Holdings without cause, by Ms. Woods for goodreason or by reason of death or disability, or (ii) in the event of a change incontrol of Holdings. The Woods Restricted Shares and any shares of Common Stock acquired by Ms.Woods pursuant to the exercise of options are subject to a shareholders'agreement providing for certain transfer restrictions, registration rights andcustomary tag-along and drag-along rights. Mr. Socol had an employment agreement with the Employers which providedthat, for a period of four years commencing on February 24, 1998, he would serveas Chief Executive Officer of Holdings and Operating Corp. The Employers alsoagreed to cause Mr. Socol to be elected as a member of the Board of Directors ofHoldings. The employment agreement provided for an annual base salary of $1.0million (subject to an increase to $1.2 million in any fiscal year following afiscal year in which the Company's EBITDA (as defined) equals or exceeds $75million), and provided an annual target bonus of up to 100 percent of his annual base salary based on achievement of earnings objectives to be determined eachyear provided that, with respect to fiscal year 1998, the bonus would be atleast $500,000 regardless of whether the bonus objectives were achieved. Theemployment agreement also provided for the payment of a signing bonus of $1.5million and the grant of 2,437 shares of Common Stock (the "Socol RestrictedShares"). See footnotes 6 and 7 to the Executive Compensation Table forinformation on the vesting of the Socol Restricted Shares and reimbursement ofincome taxes incurred by Mr. Socol in connection with such grant. The SocolRestricted Shares were subject to a shareholders' agreement providing forcertain transfer restrictions, registration rights and customary tag-along anddrag-along rights. Mr. Socol was also entitled to various executive benefitsand perquisites under the employment agreement. Mr. Socol's employment agreementprovided that in the event of his termination of employment other than forcause, death or disability (as provided therein), he would receive an amountequal to two times his base salary and any bonus to which he would have beenentitled under his bonus plan for the fiscal year in which the terminationoccurred. Mr. Socol's employment with the Employers terminated on January 4,1999. See footnotes 6 and 7 to the Executive Compensation Table for informationconcerning payments to Mr. Socol pursuant to his employment agreement inconnection with the termination of his employment. Mr. Erdos had an employment agreement with Operating Corp. which providedthat, for a period of three years commencing on April 13, 1998, he would serveas Chief Operating Officer of Operating Corp. The employment agreement providedfor an annual salary of $600,000 and an annual target bonus of up to 50% of hisannual base salary based on achievement of earnings objectives to be determinedfor each year provided that, with respect to fiscal year 1998, the bonus wouldbe at least $150,000 regardless of whether the bonus objectives were achieved.The employment agreement also provided for the payment of a signing bonus of$500,000 and the grant of options to purchase 625 shares of Common Stock. Theagreement provided that upon the termination of Mr. Erdos' employment byOperating Corp. other than for cause, death or disability (as provided therein),Mr. Erdos would receive his salary for 12 months and the payment of a pro ratabonus with respect to the fiscal year in which such termination occurred. Mr. Rubel had an employment agreement with Operating Corp. which providedthat he would be employed as President of PCP with an annual salary of $475,000.The agreement also provided that Mr. Rubel was eligible for a performance-basedannual bonus if certain performance objectives were satisfied as well as theopportunity to earn an additional bonus based on the "gain" on the sale of PCP(as defined in the agreement). The agreement provided Mr. Rubel with variousexecutive benefits and perquisites. Finally, the agreement provided forcontinuation of salary and medical benefits for a period of one year if Mr.Rubel's employment was terminated without cause (as defined in the agreement).Compensation Committee Interlocks and Insider Participation Ms. Woods, Chairman, is a member of the Compensation Committee of Holdings.Compensation of Directors An attendance fee of $10,000 for each Board of Directors meeting is paid toeach Director who is neither an employee of the Company nor a representative ofTPG. Directors have the option to receive all or a portion of that fee paid incash or in shares of Common Stock at a per share purchase price of $1,363.64 forfiscal year 1998. 23 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table sets forth information regarding the beneficialownership of the Common Stock of Holdings as of April 12, 1999 for each personwho is known to Holdings to be the beneficial owner of 5% or more of the CommonStock. The holders listed have sole voting power and investment power over theshares held by them, except as indicated by the notes following the table. Name and Address Amount and Nature of Percent of Title of Class of Beneficial Owner Beneficial Ownership Class- -------------------------------------------------------------------------------------------------- Common Stock TPG Partners II, L.P. 36,568.988 shares (1) 61.2% 201 Main Street, Suite 2420 Fort Worth, TX 76102Common Stock Emily Woods 11,818.083 shares (2) 19.8% J. Crew Group, Inc. 770 Broadway New York, NY 10003- -------------------------(1) These shares of Common Stock are held by TPG and the following affiliates of TPG (collectively, "TPG Affiliates"): TPG Parallel II L.P. and TPG Investors II, L.P.(2) Includes (a) 492.2 shares not currently owned but which are issuable upon the exercise of stock options awarded under the Company's Stock Option Plan that are currently exercisable, and (b) 2,915 shares of Common Stock that have not vested and are held in custody by the Company until vesting thereof. 24 The following table sets forth information regarding the beneficialownership of each class of equity securities of Holdings as of April 12, 1999for (i) each director, (ii) each of the executive officers identified in thetable set forth under Item 11. "Executive Compensation", and (iii) all directorsand all such executive officers as a group. The holders listed have sole votingpower and investment power over the shares held by them, except as indicated bythe notes following the table. Amount and Nature of Percent ofTitle of Class Name of Beneficial Owner Beneficial Ownership Class- ---------------------------------------------------------------------------------------------------------------------------- Common Stock Charlotte Beers 45 shares *Common Stock David Bonderman 36,568.988 shares (1) 61.2%Common Stock Richard W. Boyce 276 shares (2) *Common Stock Gregory Brenneman 44 shares * Common Stock James G. Coulter 36,568.988 shares (1) 61.2%Common Stock Barry Erdos 62.5 shares (2) *Common Stock Scott Formby 31.2 shares (2) *Common Stock Michael Ovitz 52 shares *Common Stock Matthew E. Rubel 56.8 shares (2) *Common Stock Carol Sharpe 25 shares (2) *Common Stock Trudy Sullivan 37.6 shares (2) *Common Stock Brian Swette 52 shares *Common Stock Josh Weston 45 shares *Common Stock Emily Woods 11,818.083 shares (3) 19.8%Common Stock All Directors and specified 49,129.171 shares (1) (2) (3) 82.2% Officers as a Group Series A Preferred Stock Charlotte Beers 60 shares *Series A Preferred Stock David Bonderman 73,474.58 shares/(1)/ 79.2%Series A Preferred Stock Gregory Brenneman 60 shares *Series A Preferred Stock James G. Coulter 73,474.58 shares/(1)/ 79.2%Series A Preferred Stock Michael Ovitz 60 shares *Series A Preferred Stock Brian Swette 60 shares *Series A Preferred Stock Josh Weston 60 shares *Series A Preferred Stock Emily Woods 2,978.505 shares 3.2%Series A Preferred Stock All Directors and specified 76,753.085 shares 82.7% Officers as a Group- ------------------------------------- *Represents less than 1% of the class.(1) Attributes ownership of the shares owned by TPG Affiliates to Messrs. Bonderman and Coulter, who are partners of TPG. Each of Messrs. Bonderman and Coulter disclaim beneficial ownership of the shares owned by TPG Affiliates.(2) These are shares not currently owned but which are issuable upon the exercise of stock options awarded under the Company's Stock Option Plan that are currently exercisable or become exercisable within 60 days.(3) Includes (a) 492.2 shares not currently owned but which are issuable upon the exercise of stock options awarded under the Company's Stock Option Plan that are currently exercisable, and (b) 2,915 shares of Common Stock that have not vested and are held in custody by the Company until vesting thereof. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Mr. Erdos had a loan in the principal amount of $300,000 from the Companyat an interest rate of 5.5%, compounded semi-annually, which loan has been paidin full. Holdings and its subsidiaries entered into a tax sharing agreementproviding (among other things) that each of the subsidiaries will reimburseHoldings for its share of income taxes determined as if such subsidiary hadfiled its tax returns separately from Holdings. 25 PART IVITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K(a) 1. Financial Statements The following financial statements of J. Crew Group, Inc. and subsidiaries are included in Item 8: (i) Report of KPMG LLP, Independent Auditors (ii) Report of Deloitte & Touche LLP, Independent Auditors (iii) Consolidated Balance Sheets January 30, 1999 and January 31, 1998 (iv) Consolidated Statements of Operations - Years ended January 30, 1999, January 31, 1998 and 1997 (v) Consolidated Statements of Stockholders' Equity (Deficit) - Years ended January 30, 1999, January 31, 1998 and 1997 (vi) Consolidated Statements of Cash Flows - Years ended January 30, 1999, January 31, 1998 and 1997 (vii) Notes to consolidated financial statements 2. Financial Statements Schedules Schedule II Valuation and Qualifying Accounts. 3. Exhibits The exhibits listed on the accompanying Exhibit Index are incorporated by reference herein and filed as part of this report.(b) Reports on Form 8-K The Company filed a report on Form 8-K dated January 4, 1999, and the item reported was Item 5. Other Events.(c) Exhibits See Item 14(a)3 above.(d) Financial Statement Schedules See Item 14(a)1 and 14(a)2 above. 26 SIGNATURES ---------- Pursuant to the requirements of Section 13 or 15(d) of the SecuritiesExchange Act of 1934, the Registrant has duly caused this report to be signed onits behalf by the undersigned, thereunto duly authorized. J. CREW GROUP, INC.Date: April 26, 1999 By: /s/ Richard W. Boyce ------------------------- Richard W. Boyce Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, thisreport has been signed below by the following persons on behalf of theregistrant and in the capacities and on the dates indicated. Signature Title Date ---------- ----- ---- /s/ Emily Woods Director; Chairman of the Board April 26, 1999- ------------------------------------------------------------- Emily Woods /s/ Richard W. Boyce Director; Chief Executive Officer April 26, 1999- ------------------------------------------------------------- (Principal Executive Officer) Richard W. Boyce /s/ Scott Rosen Senior Vice President, Chief Financial April 26, 1999- ------------------------------------------------------------- Officer Scott Rosen (Principal Financial Officer) /s/ Nicholas Lamberti Vice President, Corporate Controller April 26, 1999- ------------------------------------------------------------- (Principal Accounting Officer) Nicholas Lamberti /s/ Charlotte Beers Director April 26, 1999- ------------------------------------------------------------- Charlotte Beers /s/ David Bonderman Director April 26, 1999- ------------------------------------------------------------- David Bonderman /s/ Gregory Brenneman Director April 26, 1999- ------------------------------------------------------------- Gregory Brenneman /s/ John Burden, III Director April 26, 1999- ------------------------------------------------------------- John Burden, III /s/ James G. Coulter Director April 26, 1999- ------------------------------------------------------------- James G. Coulter /s/ Michael Ovitz Director April 26, 1999- ------------------------------------------------------------- Michael Ovitz /s/ Brian Sweete Director April 26, 1999- ------------------------------------------------------------- Brian Sweete /s/ Joshua Weston Director April 26, 1999- ------------------------------------------------------------- Joshua Weston S-1 J. CREW GROUP, INC. AND SUBSIDIARIES Consolidated Financial Statements January 30, 1999 and January 31, 1998 (With Independent Auditors' Report Thereon) F-1 Independent Auditors' Report The Board of Directors and StockholdersJ. Crew Group, Inc. and Subsidiaries:We have audited the accompanying consolidated balance sheets of J. Crew Group,Inc. and subsidiaries (the "Company") as of January 30, 1999 and January 31,1998 and the related consolidated statements of operations, stockholders'deficit and cash flows for the years then ended. In connection with our auditsof the consolidated financial statements, we also have audited the financialstatement schedule for the years ended January 30, 1999 and January 31, 1998 listed in the acccompanying index. These consolidated financial statements andfinancial statement schedule are the responsibility of the Company's management.Our responsibility is to express an opinion on these consolidated financialstatements and financial statement schedule based on our audits.We conducted our audits in accordance with generally accepted auditingstandards. Those standards require that we plan and perform the audit to obtainreasonable assurance about whether the financial statements are free of materialmisstatement. An audit includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements. An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statement presentation.We believe that our audits provide a reasonable basis for our opinion.In our opinion, the consolidated financial statements referred to above presentfairly, in all material respects, the financial position of J. Crew Group, Inc.and subsidiaries as of January 30, 1999 and January 31, 1998 and the results oftheir operations and their cash flows for the years then ended in conformitywith generally accepted accounting principles. Also, in our opinion, the relatedfinancial statement schedule for the years ended January 30, 1999 and January31, 1998, when considered in relation to the basic consolidated financialstatements taken as a whole, presents fairly, in all material respects theinformation set forth therein. KPMG LLPApril 29, 1999 INDEPENDENT AUDITORS REPORTTo the Board of Directors and Stockholders of J. Crew Group, Inc.We have audited the accompanying consolidated statements of operations, stockholders' equity (deficit) and cash flows of J. Crew Group, Inc. and subsidiaries for the fiscal year ended January 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit.We conducted our audit on accordance with generally accepted auditing standards.Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. an audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.We believe that our audit provides a reasonable basis for our opinion.In our opinion, such consolidated financial statements present fairly, in all material respects, the results of operations and cash flows of J. Crew Group, Inc. and subsidiaries for the fiscal year ended January 31, 1997 in conformity with generally accepted accounting principles.Deloitte & Touche LLPNew York, New YorkMarch 31, 1997 J.CREW GROUP, INC. AND SUBSIDIARIES Consolidated Balance Sheets January 30, January 31, Assets 1999 1998 ----------- ----------- (in thousands) Current assets: Cash and cash equivalents $ 9,643 12,166 Accounts receivable (net of allowance for doubtful accounts of $5,438) -- 16,834 Merchandise inventories 156,022 202,763 Prepaid expenses and other current assets 38,026 62,399 Deferred income taxes 2,148 -- Net assets held for disposal 17,377 -- ----------- ----------- Total current assets 223,216 294,162Property and equipment - at cost: Land 1,460 1,460 Buildings and improvements 11,167 11,167 Furniture, fixtures and equipment 53,344 47,673 Leasehold improvements 114,424 101,407 Construction in progress 3,932 4,569 ----------- ----------- 184,327 166,276 Less accumulated depreciation and amortization 64,577 55,613 ----------- ----------- 119,750 110,663 ----------- ----------- Other assets 15,185 17,053 ----------- ----------- Total assets $ 358,151 421,878 =========== =========== Liabilities and Stockholders' DeficitCurrent liabilities: Notes payable - bank $ 14,000 -- Accounts payable 40,130 65,553 Other current liabilities 59,175 77,700 Deferred income taxes -- 7,981 Federal and state income taxes payable 2,577 251 ----------- ----------- Total current liabilities 115,882 151,485 Long-term debt 282,695 298,161 Deferred credits and other long-term liabilities 44,799 43,578 Redeemable preferred stock 150,548 130,296 Stockholders' deficit (235,773) (201,642) ----------- ----------- Total liabilities and stockholders' deficit $ 358,151 421,878 =========== =========== See accompanying notes to consolidated financial statements. F-2 J.CREW GROUP, INC. AND SUBSIDIARIES Consolidated Statements of Operations Years ended ------------------------------------------------- January 30, January 31, --------------- ------------------------------ 1999 1998 1997 --------------- -------------- ------------- (in thousands)Revenues: Net sales $816,221 822,840 795,931 Other 8,037 11,191 12,912 --------------- -------------- ------------- 824,258 834,031 808,843Operating costs and expenses: Cost of goods sold, including buying and occupancy costs 460,592 465,168 428,719 Selling, general and administrative expenses 336,590 359,811 348,305 Write down of assets and other charges in connection with discontinuance of Clifford & Wills 13,300 -- -- Termination costs and other nonrecurring employment contract charges 7,995 -- -- --------------- -------------- ------------- 818,477 824,979 777,024 Income from operations 5,781 9,052 31,819 Interest expense - net 39,323 20,494 10,470 Gain on sale of Popular Club Plan (10,000) -- -- Expenses incurred in connection with the Recapitalization -- 20,707 -- --------------- -------------- ------------- (Loss) income before income taxes and extraordinary item (23,542) (32,149) 21,349 Benefit (provision) for income taxes 8,162 5,262 (8,800) --------------- -------------- ------------- (Loss) income before extraordinary item (15,380) (26,887) 12,549 Extraordinary item - loss on early retirement of debt (net of income tax benefit of $3,127) -- (4,500) -- --------------- -------------- ------------- Net (loss) income $(15,380) (31,387) 12,549 =============== ============== ============= See accompanying notes to consolidated financial statements. F-3 J. CREW GROUP, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows Years ended ------------------------------------------------- January 30, January 31, --------------- ------------------------------ 1999 1998 1997 --------------- -------------- ------------- (in thousands)Cash flows from operating activities: Net (loss) income $ (15,380) $ (31,387) $ 12,549 Adjustments to reconcile net (loss) income to net cash provided by (used in) operating activities: Gain on sale of subsidiary (10,000) -- -- Write down of assets and other charges in connection with discontinued catalog 15,000 -- -- Loss on early retirement of debt -- 7,627 -- Depreciation and amortization 15,972 15,255 10,541 Amortization of deferred financing costs 2,119 958 401 Noncash interest expense 10,534 2,904 -- Deferred income taxes (10,129) (5,010) (1,184) Provision for losses on accounts receivable 5,627 7,343 6,945 Noncash compensation expense 881 150 -- Changes in operating assets and liabilities: Accounts receivable (8,242) 33,902 (6,744) Merchandise inventories (15,608) (5,106) (49,602) Prepaid expenses and other current assets 8,167 (4,081) (4,007) Other assets (2,559) (587) (375) Accounts payable 7,415 (37,726) 31,864 Other liabilities 1,931 17,577 3,439 Federal and state income taxes payable 2,326 (9,268) 12,670 --------------- -------------- ------------- Net cash (used in) provided by operating activities 8,054 (7,449) 16,497 --------------- -------------- ------------- Cash flows from investing activities: Capital expenditures (41,177) (43,134) (27,462) Proceeds from construction allowances 4,823 11,767 4,981 Proceeds from sale of subsidiary, net of related expenses 37,157 -- -- --------------- -------------- ------------- Net cash provided by (used in) investing activities 803 (31,367) (22,481) --------------- -------------- ------------- Cash flows from financing activities: Increase in notes payable, bank 14,000 -- -- Issuance of long-term debt -- 295,257 -- Repayment of long-term debt (26,000) (92,863) (237) Costs incurred in connection with the issuance of debt -- (16,429) -- Proceeds from the issuance of common stock 320 63,891 -- Proceeds from the issuance of redeemable preferred stock 300 125,000 -- Repurchase and retirement of capital stock -- (316,688) -- Costs incurred in connection with the repurchase of capital stock -- (14,318) -- Dividends paid -- -- (176) --------------- -------------- ------------- Net cash provided by (used in) financing activities (11,380) 43,850 (413) --------------- -------------- ------------- Increase (decrease) in cash and cash equivalents (2,523) 5,034 (6,397) Cash and cash equivalents at beginning of year 12,166 7,132 13,529 --------------- -------------- ------------- Cash and cash equivalents at end of year $ 9,643 12,166 7,132 =============== ============== ============= Supplementary cash flow information: Income taxes paid (refunded) $ (515) $ 5,180 $ (3,600) =============== ============== ============= Interest paid $ 27,763 $ 12,655 $ 9,880 =============== ============== ============= Noncash financing activities: Dividends on redeemable preferred stock $ 19,952 $ 5,296 $ -- =============== ============== ============= See accompanying notes to consolidated financial statements. F-4 J.CREW GROUP, INC. AND SUBSIDIARIES Consolidated Statements of Changes in Stockholders' Deficit (in thousands, except shares) 6% noncumulative 8% cumulative preferred stock preferred stock -------------------- -------------------- Shares Amount Shares Amount -------- -------- -------- -------- Balance at February 2, 1996 15,794 $ 1,579 5,000 $ 500 Net income -- -- -- -- Dividends -- -- -- -- -------- -------- -------- -------- Balance at January 31, 1997 15,794 1,579 5,000 500 Net loss -- -- -- -- Repurchase and retirement of capital stock (15,794) (1,579) (5,000) (500) Costs incurred in connection with the repurchase of capital stock -- -- -- -- Issuance of 55,000 shares of common stock -- -- -- -- Preferred stock dividends -- -- -- -- Issuance of common stock pursuant to grant of restricted stock -- -- -- -- Amortization of restricted stock -- -- -- -- -------- -------- -------- -------- Balance at January 31, 1998 -- -- -- -- Net loss -- -- -- -- Issuance of 238 shares of common stock -- -- -- -- Preferred stock dividends -- -- -- -- Issuance of common stock pursuant to grant of restricted stock, net -- -- -- -- Forfeiture of shares of restricted stock -- -- -- -- Amortization of restricted stock -- -- -- -- -------- -------- -------- -------- Balance at January 30, 1999 -- $ -- -- $ -- ======== ======== ======== ======== See accompanying notes to consolidated financial statements. F-5 Stock- Common stock Additional Retained Deferred holders' -------------------------- paid-in earnings Treasury compen- equity Shares Amount capital (Deficit) stock sation (Deficit) ----------- --------- ----------- ----------- --------- ----------- ----------- 262,912 $ 263 3,710 89,477 (5,896) -- 89,633 -- -- -- 12,549 -- -- 12,549 -- -- -- (176) -- -- (176) ----------- --------- ---------- ------------ --------- ----------- ----------- 262,912 263 3,710 101,850 (5,896) -- 102,006 -- -- -- (31,387) -- -- (31,387) (262,912) (263) (3,161) (317,081) 5,896 -- (316,688) -- -- -- (14,318) -- -- (14,318) 55,000 1 63,890 -- -- -- 63,891 -- -- -- (5,296) -- -- (5,296) 3,308 -- 4,500 -- -- (4,500) -- -- -- -- -- -- 150 150 ----------- --------- ---------- ----------- --------- ----------- ------- 58,308 1 68,939 (266,232) -- (4,350) (201,642) -- -- -- (15,380) -- -- (15,380) 238 -- 320 -- -- -- 320 -- -- -- (19,952) -- -- (19,952) 2,437 -- 1,120 -- -- (1,120) -- -- -- -- -- (2,325) 2,325 -- -- -- -- -- -- 881 881 ----------- --------- ---------- ----------- --------- ----------- ------- 60,983 $ 1 70,379 (301,564) (2,325) (2,264) (235,773) =========== ========= ========== =========== ========= =========== ======= F-6 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997(1) Nature Of Business And Summary Of Significant Accounting Policies (a) Principles of Consolidation The accompanying consolidated financial statements include the accounts of J. Crew Group, Inc. ("Holdings") and its wholly-owned subsidiaries (collectively, the "Company"). All significant intercompany balances and transactions have been eliminated in consolidation. (b) Business The Company designs, contracts for the manufacture of, markets and distributes men's and women's apparel and accessories. The Company's products are marketed, primarily in the United States, through retail stores, catalogs, and the Internet. The Company is also party to a licensing agreement which grants the licensee exclusive rights to use the Company's trademarks in connection with the manufacture and sale of products in Japan. The license agreement provides for payments based on a specified percentage of net sales. The Company is subject to seasonal fluctuations in its merchandise sales and results of operations. The Company expects its sales and operating results generally to be lower in the first and second quarters than in the third and fourth quarters (which include the back-to-school and holiday seasons) of each fiscal year. A significant amount of the Company's products are produced in the Far East through arrangements with independent contractors. As a result, the Company's operations could be adversely affected by political instability resulting in the disruption of trade from the countries in which these contractors are located or by the imposition of additional duties or regulations relating to imports or by the contractor's inability to meet the Company's production requirements. (c) Fiscal Year The Company's fiscal year ends on the Saturday closest to January 31. Effective January 31, 1998, the Company changed its fiscal year-end from the Friday closest to January 31, to the Saturday closest to January 31. The effect of this change on the results of operations was not material. The fiscal years 1998, 1997 and 1996 ended on January 30, 1999 (52 weeks), January 31, 1998 (52 weeks) and January 31, 1997 (52 weeks). (d) Cash Equivalents For purposes of the consolidated statements of cash flows, the Company considers all highly liquid debt instruments, with maturities of 90 days or less when purchased, to be cash equivalents. Cash equivalents, which were $755,000 and $1,902,000 at January 30, 1999 and January 31, 1998, are stated at cost, which approximates market value. F-7 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 (e) Accounts Receivable Accounts receivable consists of installment receivables resulting from the sale of merchandise of Popular Club Plan, Inc., a subsidiary of the Company (see note 2). Concentrations of credit risk with respect to trade accounts receivable are limited due to the large number of customers comprising the accounts receivable base. Finance charge income (including the gain on sale of receivables (see note 5)), which is included in other revenues, for the fiscal years 1998, 1997 and 1996 was $5,325,000, $8,294,000 and $9,095,000. (f) Merchandise Inventories Merchandise inventories are stated at the lower of cost (determined on a first-in, first-out basis) or market. The Company capitalizes certain design, purchasing and warehousing costs into inventory. (g) Catalog Costs Catalog costs, which primarily consist of catalog production and mailing costs, are capitalized and amortized over the expected future revenue stream, which extends up to five months from the date catalogs are mailed. The Company accounts for catalog costs in accordance with the AICPA Statement of Position ("SOP") 93-7, "Reporting on Advertising Costs." SOP 93-7 requires that the amortization of capitalized advertising costs be the amount computed using the ratio that current period revenues for the catalog cost pool bear to the total of current and estimated future period revenues for that catalog cost pool. Deferred catalog costs, included in prepaid expenses and other current assets, as of January 30, 1999 and January 31, 1998 were $21,130,000 and $39,227,000. Catalog costs, which are reflected in selling and administrative expenses, for the fiscal years 1998, 1997 and 1996 were $116,515,000, $131,103,000 and $135,633,000 (h) Property and Equipment Property and equipment are stated at cost. Buildings and improvements are depreciated by the straight-line method over the estimated useful lives of the respective assets of twenty years. Furniture, fixtures and equipment are depreciated by the straight-line method over the estimated useful lives of the respective assets, ranging from three to ten years. Leasehold improvements are amortized over the shorter of their useful lives or related lease terms. The Company receives construction allowances upon entering into certain store leases. These construction allowances are recorded as deferred credits and are amortized over the term of the related lease. F-8 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 (i) Other Assets Other assets consist primarily of debt issuance costs of $12,857,000 and $14,865,000 at January 30, 1999 and January 31, 1998, which are amortized over the term of the related debt agreements. (j) Income Taxes The provision for income taxes includes taxes currently payable and deferred taxes resulting from the tax effects of temporary differences between the financial statement and tax bases of assets and liabilities, in accordance with Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes." (k) Revenue Recognition Revenue is recognized for catalog sales when merchandise is shipped to customers, and at the time of sale for retail sales. The Company accrues a sales return allowance for estimated returns of merchandise subsequent to the balance sheet date that relate to sales prior to the balance sheet date. (l) Store Preopening Costs Costs associated with the opening of new retail and outlet stores are expensed as incurred. (m) Derivative Financial Instruments Derivative financial instruments are used by the Company to manage its interest rate and foreign currency exposures. For interest rate swap agreements, the net interest paid is recorded as interest expense on a current basis. Gains or losses resulting from market fluctuations are not recognized. The Company from time to time enters into forward foreign exchange contracts as hedges relating to identifiable currency positions to reduce the risk from exchange rate fluctuations. Gains and losses on contracts accounted for as hedges are deferred and recognized as adjustments to the bases of those assets. Contracts accounted for as speculative are marked to market and gains and losses are recorded currently. Such gains and losses were not material for the fiscal years ended January 30, 1999 and January 31, 1998. (n) Use of Estimates in the Preparation of Financial Statements The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. F-9 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 (o) Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed of The Company reviews long-lived assets and certain identifiable intangibles for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The Company assesses the recoverability of such assets based upon estimated cash flow forecasts. (p) Stock Based Compensation The Company accounts for stock-based compensation using the intrinsic value method of accounting for employee stock options as permitted by SFAS No. 123, "Accounting for Stock-Based Compensation". Accordingly compensation expense is not recorded for options granted if the option price is equal to the fair market price at the date of grant.(2) Disposal of Businesses (a) Popular Club Plan In accordance with a sale agreement dated November 24, 1998 the Company sold all of the capital stock of Popular Club Plan, Inc. and subsidiaries ("PCP") to The Fingerhut Companies, Inc. effective as of October 30, 1998 for gross proceeds of $42.0 million in cash. A gain on the sale of PCP of $10.0 million is included in the statement of operations for fiscal 1998. For the nine months ended October 30, 1998 revenues of $124.1 million were included in the statement of operations. (b) Clifford & Wills In 1998, management of the Company made a decision to exit the catalog and outlet store operations of Clifford & Wills ("C&W"). F-10 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 The statement of operations for fiscal year 1998 includes a charge of $13,300,000 to write down assets to net realizable value and provide for other costs to be incurred in the discontinuance of operations including lease termination and severance costs. This loss includes the write-down of inventories of $9,400,000; the estimated loss on cancellation of leases of $1,000,000, severance costs of $1,100,000, write down of property and equipment of $600,000, and other related costs of $1,200,000. The inventory writedown of $9,400,000 was required due to lower than anticipated recovery rates on the liquidation of these inventories. The Company will use various methods to dispose of the inventories related to the discontinued catalog including special clearance catalogs, off-price merchants, and its outlet stores. Additionally fourth quarter charges of $1,700,000 included in selling expense were incurred relating to deferred catalog costs. Net assets held for disposal of $17,377,000 are included in the balance sheet as of January 30, 1999. Revenues of C&W included in the statement of operations for the year ended January 30, 1999 were $74.3 million.(3) Recapitalization Transaction In October 1997, the Company entered into a recapitalization transaction (the "Recapitalization"). Holdings purchased from the existing Shareholders for an aggregate purchase price of approximately $316,688,000 all of the outstanding shares of Holdings' capital stock, other than a certain number of shares of Holdings' common stock held by existing shareholders which represented 14.8% of the outstanding shares of Holdings' common stock immediately following consummation of the Recapitalization. The purchase of such outstanding shares of capital stock was financed in part by (a) issuing to TPG Partners II, L.P., its affiliates and other investors shares of common stock of Holdings for approximately $63,891,000 and shares of preferred stock of Holdings for $125,000,000 and (b) consummating the debt and securitization transactions described in Notes 5, 6 and 7. In connection with the Recapitalization, the Company repaid substantially all of its preexisting debt obligations immediately before the consummation of the Recapitalization. Expenses incurred in connection with the Recapitalization consisted of: Management bonuses $12,163,000 TPG financial advisory fee 5,550,000 Legal and accounting fees 1,454,000 Consulting fee 1,000,000 Other 540,000 ---------- Total $20,707,000 ---------- F-11 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 (4) Other Current Liabilities Other current liabilities consist of: January 30, January 31, 1999 1998 ------------ --------------- Customer liabilities $ 6,861,000 $ 18,572,000Accrued catalog and marketing costs 5,155,000 12,504,000Taxes, other than income taxes 3,834,000 9,067,000Accrued interest 5,042,000 4,998,000Accrued occupancy 4,059,000 2,592,000Reserve for sales returns 3,473,000 3,529,000Accrued compensation (including employment contract termination costs of $2,850,000 at 11,984,000 5,638,000 January 30, 1999) Other 18,767,000 20,800,000 ------------ --------------- $ 59,175,000 $ 77,700,000 ------------ --------------- (5) Sale of Accounts Receivable In October 1997, the Company entered into an agreement to securitize certain customer installment receivables of Popular Club Plan, Inc. on a revolving basis. The Company had no obligation to reimburse the trust or the purchasers of beneficial interests for credit losses. The transactions were accounted for as a sale in accordance with the provisions of SFAS No. 125 "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities." Under SFAS No. 125, no servicing asset or liability was recorded as fees charged were expected to cover related expenses. At January 31, 1998, $46,000,000 of accounts receivable had been sold. The sale of the receivables resulted in a gain on sale of $1,472,000 during the year ended January 31, 1998, which was included in other revenues. Obligations under the securitization agreement were assumed by the acquiror under the terms of the sale agreement with The Fingerhut Companies, Inc. (see Note 2). F-12 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 (6) Long-Term Debt January 30, January 31, 1999 1998 --------------- --------------- Term loan (a) 44,000,000 70,000,00010-3/8% senior subordinated notes (b) 150,000,000 150,000,00013-1/8% senior discount debentures (c) 88,695,000 78,161,000 --------------- --------------- Total $ 282,695,000 298,161,000 --------------- --------------- (a) The term loan is subject to the same interest rates and security terms as the Revolving Credit Agreement. Weighted average interest rates were 8.5% at January 30, 1999 and January 31, 1998 (see Note 7). The term loan is repayable in quarterly installments of $2.5 million from February 2001 through November 2001 and $4.25 million from February 2002 through November 2003. Proceeds of $26.0 million from the sale of PCP were used to repay the term loan in 1998. (b) The senior subordinated notes are unsecured general obligations of J. Crew Operating Corp., a subsidiary of Holdings, and are subordinated in right of payment to all senior debt. Interest on the notes accrues at the rate of 10-3/8% per annum and is payable semi-annually in arrears on April 15 and October 15. The notes mature on October 15, 2007 and may be redeemed at the option of the issuer subsequent to October 15, 2002 at prices ranging from 105.188% in 2002 to 100% in 2005 and thereafter. (c) The senior discount debentures were issued in aggregate principal amount of $142.0 million at maturity and mature on October 15, 2008. These debentures are senior unsecured obligations of Holdings. Cash interest will not accrue prior to October 15, 2002. The principal amount of the debentures will accrete at a rate of 13-1/8% per annum Interest will be payable in arrears on April 15 and October 15 of each year subsequent to October 15, 2002. The senior discount debentures may be redeemed at the option of Holdings on or after October 15, 2002 at prices ranging from 106.563%, to 100% in 2005 and thereafter. The maturities of long-term debt required during the next five years are: Fiscal year Amount ------------ -------------- 1999 $ -- 2000 -- 2001 10,000,000 2002 17,000,000 2003 17,000,000 F-13 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997(7) Lines of Credit On October 17, 1997, in connection with the Recapitalization, the Company entered into a syndicated revolving credit agreement of up to $200.0 million (the "Revolving Credit Agreement") with a group of banks. This agreement was amended on March 18, 1998, November 23, 1998 and April 20, 1999. Borrowings may be utilized to fund the working capital requirements of the Company including issuance of stand-by and trade letters of credit and bankers' acceptances. Borrowings are secured by a perfected first priority security interest in all assets of the Company's subsidiaries and bear interest, at the Company's option, at a base rate equal to the Administrative Agent's Eurodollar rate plus an applicable margin or an alternate base rate equal to the highest of the Administrative Agent's prime rate, a certificate of deposit rate plus 1% or the Federal Funds effective rate plus one-half of 1% plus, in each case, an applicable margin. The Revolving Credit Agreement matures on October 17, 2003. Maximum borrowings under revolving credit agreements were $104,000,000 during fiscal 1998 and 1997, and $55,000,000 during fiscal 1996 and average borrowings were $47,500,000, $54,300,000 and $31,200,000. Borrowings outstanding under the Company's revolving credit agreement were $14,000,000 at January 30, 1999. There were no borrowings outstanding at January 31, 1998. Outstanding letters of credit established to facilitate international merchandise purchases at January 30, 1999 and January 31, 1998 amounted to $41,628,000 and $20,143,000. The provisions of the Revolving Credit Agreement, as amended, require that the Company maintain certain levels of (i) leverage ratio, (ii) interest coverage ratio and (iii) inventory coverage ratio; provide for limitations on capital expenditures, sale and leaseback transactions, liens, investments, sales of assets and indebtedness; and prohibit the payment of cash dividends on shares of common stock.(8) Common Stock The restated certificate of incorporation authorizes Holdings to issue up to 100,000,000 shares of common stock; par value $.01 per share. During 1998 directors acquired 150 shares of common stock and converted directors fees into 88 shares of common stock. F-14 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997(9) Redeemable Preferred Stock The restated certificate of incorporation authorizes Holdings to issue up to: (a) 1,000,000 shares of Series A cumulative preferred stock; par value $.01 per share; and (b) 1,000,000 shares of Series B cumulative preferred stock; par value $.01 per share. In connection with the Recapitalization, Holdings issued 92,500 shares of Series A Preferred Stock and 32,500 shares of Series B Preferred Stock. During 1998 directors acquired 300 shares of preferred stock at $1,000 per share. The Preferred Stock accumulates dividends at the rate of 14.5% per annum (payable quarterly) for periods ending on or prior to October 17, 2009. Dividends compound to the extent not paid in cash. On October 17, 2009, Holdings is required to redeem the Series B Preferred Stock and to pay all accumulated but unpaid dividends on the Series A Preferred Stock. Thereafter, the Series A Preferred Stock will accumulate dividends at the rate of 16.5% per annum. Subject to restrictions imposed by certain indebtedness of the Company, Holdings may redeem shares of the Preferred Stock at any time at redemption prices ranging from 103% of liquidation value plus accumulated and unpaid dividends at October 17, 1998 to 100% of liquidation value plus accumulated and unpaid dividends at October 17, 2000 and thereafter. In certain circumstances (including a change of control of Holdings), subject to restrictions imposed by certain indebtedness of the Company, Holdings may be required to repurchase shares of the Preferred Stock at liquidation value plus accumulated and unpaid dividends. Accumulated but unpaid dividends amounted to $25,248,000 at January 30, 1999. Dividends were recorded as an increase to redeemable preferred stock and a reduction of retained earnings. F-15 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997(10) Commitments and Contingencies (a) Operating Leases As of January 30, 1999, the Company was obligated under various long-term operating leases for retail and outlet stores, warehouses, office space and equipment requiring minimum annual rentals. These operating leases expire on varying dates to 2012. At January 31, 1999 aggregate minimum rentals in future periods are as follows: Fiscal year Amount ------------ ------------ 1999 $ 32,660,000 2000 30,633,000 2001 28,442,000 2002 27,541,000 2003 27,447,000 Thereafter 122,102,000 Certain of these leases include renewal options and escalation clauses and provide for contingent rentals based upon sales and require the lessee to pay taxes, insurance and other occupancy costs. Rent expense for fiscal 1998, 1997 and 1996 was $42,347,000, $35,753,000 and $29,852,000, including contingent rent based on store sales of $3,270,000, $2,877,000 and $2,850,000. (b) Employment Agreements The Company is party to employment agreements with certain executives which provide for compensation and certain other benefits. The agreements also provide for severance payments under certain circumstances. (c) Litigation The Company is subject to various legal proceedings and claims that arise in the ordinary conduct of its business. Although the outcome of these claims cannot be predicted with certainty, management does not believe that the ultimate resolution of these matters will have a material adverse effect on the Company's financial condition or results of operations. The Company has been named as one of the defendants in two lawsuits relating to its purchasing of products from independent garment manufacturers in Saipan (Commonwealth of the Northern Mariana Islands). On January 13, 1999 a complaint was filed in the U.S. District Court, Central District of California, ("Federal Action"), by a group of unidentified Asian garment workers against 17 U.S. clothing retailers, including the Company, and 11 Saipan garment manufacturers. The unidentified worker plaintiffs seek class action status and allege, among other things, violations of Federal racketeering and other laws in connection with labor practices and treatment of foreign workers in the defendant manufacturers' Saipan factories. The plaintiffs seek injunctive relief and unspecified monetary damages, including treble and punitive damages. A second complaint was filed on January 13, 1999 in Superior Court in San Francisco, California ("State Action"), by a labor union and three nonprofit groups against the same 17 U.S. clothing retailers, including the Company, one additional retailer and other unnamed defendants alleging violations of California law for allegedly unlawful and unfair business practices and misleading advertising in connection with labeling of products and labor practices regarding foreign workers in Saipan. The plaintiffs seek injunctive relief and unspecified damages. All the defendants in the Federal Action, including the Company, jointly moved to (i) change the venue of the Federal Action to the United States District Court in the Commonwealth of the Northern Mariana Islands, where the related action against certain manufacturing defendants is pending, and (ii) dismiss the Federal Action for failure to state a claim. All the defendants in the State Action, including the Company, jointly moved to dismiss the State Action for failure to state a claim. These actions are still at a very preliminary stage, and, accordingly, it is too early to evaluate the likelihood of an unfavorable outcome. F-16 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 (11) Employee Benefit Plan The Company has a thrift/savings plan pursuant to Section 401 of the Internal Revenue Code whereby all eligible employees may contribute up to 15% of their annual base salaries subject to certain limitations. The Company's contribution is based on a percentage formula set forth in the plan agreement. Company contributions to the thrift/savings plan were $1,780,000 for fiscal 1998 and 1997 and $1,680,000 for fiscal 1996.(12) License Agreement The Company has a licensing agreement through January 2003 with Itochu Corporation, a Japanese trading company. The agreement permits Itochu to distribute J. Crew merchandise in Japan. The Company earns royalty payments under the agreement based on the sales of its merchandise. Royalty income, which is included in other revenues, for fiscal 1998, 1997 and 1996 was $2,712,000, $2,897,000, and $3,817,000.(13) Interest Expense - Net Interest expense, net consists of the following: 1998 1997 1996 -------------- ------------------ ---------------- Interest expense $ 40,379,000 20,636,000 10,613,000 Interest income (1,056,000) (142,000) (143,000) -------------- ------------------ ---------------- Interest expense, net $ 39,323,000 20,494,000 10,470,000 -------------- ------------------ ---------------- (14) Financial Instruments The following disclosure about the fair value of financial instruments is made in accordance with the requirements of SFAS No. 107, "Disclosures About Fair Value of Financial Instruments." The fair value of the Company's long-term debt is estimated to be approximately $246,680,000 and $275,290,000 at January 30, 1999 and January 31, 1998, respectively, and is based on dealer quotes or quoted market prices of the same or similar instruments The carrying amounts of long-term debt were $282,695,000 and $298,161,000 at January 30, 1999 and January 31, 1998. The carrying amounts reported in the consolidated balance sheets for cash and cash equivalents, accounts receivable, notes payable-bank, accounts payable and other current liabilities approximate fair value because of the short-term maturity of those financial instruments. The estimates presented herein are not necessarily indicative of amounts the Company could realize in a current market exchange. F-17 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 In October 1997 the Company entered into an interest rate swap agreement for $70 million notional amount, which was reduced to $50 million in October 1998, which effectively converted the interest rate on its term loan and borrowings on the Revolving Credit Agreement from a variable rate to a fixed rate of 6.23% through October 2000. If this agreement was settled on January 30, 1999, the Company would be required to pay $1,047,000. At January 30, 1999, the Company had two forward foreign exchange contracts outstanding to sell 130 million yen each on March 31, 1999 at different rates of exchange. These contracts are entered into to manage the foreign exchange rate exposure relating to foreign licensing revenues. The fair value of the contracts approximate carrying value. There were no outstanding foreign exchange contracts at January 31, 1998. The Company is exposed to credit losses in the event of nonperformance by the counterparties to these contracts, but it does not expect any counterparties to fail to meet their obligation given their high-credit rating. F-18 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997(15) Income Taxes The Company accounts for income taxes in accordance with SFAS No. 109, "Accounting for Income Taxes". This statement requires the use of the liability method of accounting for income taxes. Under the liability method, deferred taxes are determined based on the difference between the financial reporting and tax bases of assets and liabilities using enacted tax rates in effect in the years in which the differences are expected to reverse. The (benefit) provision for income taxes consists of: 1998 1997 1996 ------------- -------------- -------------- Current: Foreign $ 270,000 309,000 400,000 Federal 600,000 (866,000) 8,984,000 State and local 1,097,000 305,000 600,000 ------------- -------------- -------------- 1,967,000 (252,000) 9,984,000Deferred - Federal, state and local (10,129,000) (5,010,000) (1,184,000) ------------- -------------- -------------- Income taxes before tax effect of extraordinary items $(8,162,000) (5,262,000) 8,800,000Extraordinary item - current - Federal, state and local -- (3,127,000) -- ------------- -------------- -------------- Total (benefit) provision for income taxes (8,162,000) (8,389,000) 8,800,000 ============= ============== ============== A reconciliation between the (benefit) provision for income taxes based on the U.S. Federal statutory rate and the Company's effective rate is as follows. 1998 1997 1996 ------------- -------------- -------------- Federal income tax rate (35.0)% (35.0)% 35.0%State and local income taxes, net 5.3 of Federal benefit (1.4) (1.8)Nondeductible expenses and Other 1.7 15.7 0.9 ------------- -------------- -------------- Effective tax rate (34.7 )% (21.1) % 41.2% ------------- -------------- -------------- F-19 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 The tax effect of temporary differences which give rise to deferred tax assets and liabilities are: January 30, January 31, 1999 1998 ---------------- ----------------- Deferred tax assets: Allowance for doubtful accounts $ -- $ 2,118,000 State and local net operating loss carryforwards 4,132,000 4,074,000 Difference in book and tax basis 2,302,000 2,277,000 for property and equipment Original issue discount 5,190,000 1,154,000 Other 1,798,000 1,447,000 ---------------- ----------------- 13,422,000 11,070,000 ---------------- ----------------- Deferred tax liabilities: Prepaid catalog expenses and other prepaid expenses (11,274,000) (19,051,000) ---------------- ----------------- Net deferred income tax assets (liabilities) $ 2,148,000 $ (7,981,000) ================ ================= Management believes that it is more likely than not that the results of future operations will generate sufficient taxable income to realize the deferred tax assets. The Company has state and local income tax net operating loss carryforwards of varying amounts.(16) Extraordinary Item In October 1997, the Company prepaid $85 million principal amount of senior notes and recorded an extraordinary loss of $4,500,000 (net of an income tax benefit of $3,127,000) consisting of the write-off of deferred financing costs and redemption premiums related to the early retirement of debt.(17) Stock Options The J.Crew Group, Inc. Stock Option Plan (the "Option Plan") was adopted by the Company in 1997. Under the terms of the Option Plan, an aggregate of 7,388 shares are available for grant to certain key employees or consultants. During 1997, 3,934 options were granted at an exercise price per share of $1,364 for 3,114 options; $1,705 for 164 options; $2,131 for 164 options; $2,664 for 164 options; $3,330 for 164 options; and $4,162 for 164 options. During 1998, 2,155 options were granted at an exercise price of $1,364 and 1,103 options were forfeited. F-20 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 The options have terms of seven to ten years and become exercisable over a period of five years. At January 30, 1999, 4,986 options were outstanding at a weighted average exercise price of $1,600 per share, of which 1,251 were exercisable at a weighted average exercise price of $1,409 per share. Options granted under the Option Plan are subject to various conditions, including under some circumstances, the achievement of certain performance objectives.(18) Employee Restricted Stock Under the terms of employment agreements with several key executives 5,745 shares of restricted stock have been awarded. These shares vest through October 2002. Deferred compensation of $5,620,000 was credited to additional paid in capital. Deferred compensation is charged to expense over the vesting period. In connection with the termination of an executive, 2,437 shares were forfeited and deferred compensation of $2,325,000 was reversed and the shares were reacquired as treasury stock.(19) Termination costs and other non-recurring employment contract changes Charges of $2,850,000 were incurred in fiscal 1998 in connection with the termination of the employment contracts of two senior executives including the former Chief Executive Officer. Additionally, during fiscal 1998, tax gross-up payments of $5,145,000 were made on behalf of senior executives relating to restricted stock grants.(20) Segment Information On January 1, 1998, the Company adopted SFAS 131, "Disclosure About Segments of An Enterprise and Related Information". This statement does not affect the Company's financial position or results of operations. The Company designs, contracts to manufacture and markets men's, women's, and children's apparel, accessories and home furnishings primarily under Company owned brand names. The brands are marketed through various channels of distribution including retail and factory outlet stores, catalogs, the Internet and licensing arrangements with third parties. These operations have been aggregated into three reportable segments based on brand identification: J. Crew, Clifford & Wills and Popular Club Plan. All of the Company's identifiable assets are located in the United States. Export sales are not significant. During 1998, the Company sold Popular Club Plan, Inc. (PCP) to The Fingerhut Companies, Inc. and decided to discontinue the operations of its Clifford & Wills (C&W) brand. The revenues and operating income of PCP are included through October 30, 1998 and through January 30, 1999 for C&W. F-21 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 Income from operations relating to Clifford & Wills for fiscal 1998 includes a noncash write-down of $13,300,000 relating to the discontinuance of C&W operations and $1,700,000 of fourth quarter charges to write off deferred catalog costs. (See note 2). F-22 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997 Management evaluates the results of operations of its segments based on income from operations. Corporate and other expenses include expenses incurred by the corporate office and certain non-recurring expenses that are not allocated to specific business units. Corporate and other expenses in fiscal 1998 include tax gross-up payments related to restricted stock grants and employee contract termination costs. Corporate and other expenses in fiscal 1997 include a one-time bonus expense related to the employment of a senior executive and non-recurring consulting fees incurred as a result of the Recapitalization. Segment assets represent the assets used directly in the operations of each business unit such as inventories and property and equipment. Corporate assets consist principally of investments, deferred financing costs and deferred compensation. The accounting policies used for segment reporting are consistent with those described in the summary of significant accounting policies.Revenues 1998 1997 1996- --------- ------------------- ----------------- --------------- J. Crew $ 625,897 $ 577,594 $ 556,126Clifford & Wills 74,303 72,063 75,046PCP 124,058 184,374 177,671 ------------------- ----------------- --------------- $ 824,258 $ 834,031 $ 808,843 =================== ================== =============== F-23 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997Income from Operations 1998 1997 1996 -------------------- -------------------- ------------------ J. Crew $ 34,736 $ 8,393 $ 30,803Clifford & Wills (16,694) (1,186) (2,596)PCP (2,701) 7,550 3,612Corporate and other (9,560) (5,705) - -------------------- -------------------- ------------------ Income from operations 5,781 9,052 31,819 -------------------- -------------------- ------------------ Interest expense, net (39,323) (20,494) (10,470)Gain on sale of PCP 10,000 - -Expense incurred inconnection with theRecapitalization - (20,707) - -------------------- -------------------- ------------------ Income (loss) before income taxes $ (23,542) $ (32,149) $ 21,349 ==================== ==================== =================== Depreciation and amortization 1998 1997 1996 -------------------- -------------------- ------------------ J. Crew $ 14,455 $ 13,645 $ 8,911Clifford & Wills 327 199 548PCP 1,015 1,279 1,082Corporate 175 132 - -------------------- -------------------- ------------------ $ 15,972 $ 15,255 $ 10,541 ==================== ==================== =================== F-24 J. CREW GROUP, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended January 30, 1999, January 31, 1998 and 1997Identifiable Assets 1998 1997 1996 ---------------- ------------ ------------ J. Crew $ 311,120 $ 314,186 $ 287,030Clifford & Wills 17,377 29,078 26,408PCP - 57,811 91,783Corporate 29,654 20,803 5,600 ---------------- ------------ ------------ $ 358,151 $ 421,878 $ 410,821 ================ ============ ============ Capital Expenditures (net of disposals) 1998 1997 1996 ---------------- ------------ ------------ J. Crew $ 34,084 $ 41,149 $ 25,115Clifford & Wills (59) (98) 37PCP 5,264 2,058 2,190Corporate 1,888 25 120 ---------------- ------------ ------------ $ 41,177 $ 43,134 $ 27,462 ================ ============ ============ F-25 SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS ($ in thousands) beginning charged to cost charged to other ending balance and expenses accounts deductions balance ($ in thousands)Allowance for doubtful accounts- -------------------------------(deducted from accounts receivable) fiscal year ended: January 30, 1999 $5,438 5,627 ---- (5,579)(c) $---- (5,486)(a) January 31, 1998 4,357 7,343 ---- (6,262)(a) 5,438 January 31, 1997 4,824 6,945 ---- (7,412)(a) 4,357 Inventory impairment reserve- ----------------------------(deducted from inventories) fiscal year ended: January 30, 1999 $4,400 4,929 ---- 2,200(c) $6,122 1,007(d) January 31, 1998 3,289 1,111(b) ---- ---- 4,400 January 31, 1997 5,226 (1,937)(b) ---- ---- 3,289 Allowance for sales returns- ---------------------------(included in other current liabilities) fiscal year ended: January 30, 1999 $3,529 844(b) ---- 500(c) $3,473 400(d) January 31, 1998 2,406 1,123(b) ---- ---- 3,529 January 31, 1997 2,384 22(b) ---- ---- 2,406 (a) accounts deemed to be uncollectible(b) The inventory impairment reserve and allowance for sales returns are evaluated at the end of each fiscal quarter and adjusted (plus or minus) based on the quarterly evaluation. During each period inventory write-downs and sales returns are charged to the statement of operations as incurred.(c) charged to gain on sale of Popular Club Plan, Inc. (d) reclassified to net assets held for disposal (relating to discontinouance of Clifford & Wills operation F-26 EXHIBIT INDEX Exhibit No. Description ---- ----------- 2.1 Recapitalization Agreement, dated as of July 22, 1997 between TPG Partners II, L.P. and J. Crew Group, Inc. (the "Recapitalization Agreement") (incorporated by reference to Exhibit 2.1 to Registrant's Form S-4 Registration Statement, File No. 333-42427, filed December 16, 1997 (the "Registration Statement")) NOTE: Pursuant to the provisions of paragraph (b)(2) of Item 601 of Regulation S-K, the Registrant hereby undertakes to furnish to the Commission upon request copies of any schedule to the Recapitalization Agreement. 2.2 Amendment to Recapitalization Agreement, dated as of October 17, 1997 between TPG Partners II, L.P. and J. Crew Group, Inc. (the "Amendment") (incorporated by reference to Exhibit 2.2 to the Registration Statement) NOTE: Pursuant to the provisions of paragraph (b)(2) of Item 601 of Regulation S-K, the Registrant hereby undertakes to furnish to the Commission upon request copies of any schedule to the Amendment. 3.1 Restated Certificate of Incorporation of J. Crew Group, Inc. (incorporated by reference to Exhibit 3.1 to the Registration Statement) 3.2(a) By-laws of J. Crew Group, Inc. (incorporated by reference to Exhibit 3.2 to the Registration Statement) 3.2(b) By-laws amendment adopted June 1, 1998 4.1 Indenture, dated as of October 17, 1997, between J. Crew Group, Inc., as issuer, and State Street Bank and Trust Company, as trustee, relating to the Debentures (the "Indenture") (incorporated by reference to Exhibit 4.3 to the Registration Statement) 4.2(a) Credit Agreement, dated as of October 17, 1997 ("Credit Agreement"), among J. Crew Group, Inc., J. Crew Operating Corp., the Lenders Party thereto, the Chase Manhattan Bank, as Administrative Agent, and Donaldson, Lufkin & Jenrette Securities Corporation, as Syndication Agent (incorporated by reference to Exhibit 4.5 to Amendment No. 1 to the Registration Statement, filed February 6, 1998 (the "Amendment No. 1")) 4.2(b) Amendment dated as of November 23, 1998 to the Credit Agreement 4.2(c) Amendment dated as of March 18, 1998 to the Credit Agreement 4.2(d) Amendment and Restatement Agreement dated as of April 20, 1999 relating to the Credit Agreement 4.3 Guarantee Agreement dated as of October 17, 1997, among J. Crew Group, Inc., the subsidiary guarantors of J. Crew Operating Corp. that are signatories thereto and The Chase Manhattan Bank (incorporated by reference to Exhibit 4.6 to the Registration Statement) 4.4 Indemnity, Subrogation and Contribution Agreement dated as of October 17, 1997, among J. Crew Operating Corp., the subsidiary guarantors of J. Crew Operating Corp. that are signatories thereto and The Chase Manhattan Bank (incorporated by reference to Exhibit 4.7 to the Registration Statement) 1 Exhibit No. Description ---- ----------- 4.5 Pledge Agreement, dated as of October 17, 1997 among J. Crew Operating Corp., J. Crew Group, Inc., the subsidiary guarantors of J. Crew Operating Corp. that are signatories thereto and The Chase Manhattan Bank (incorporated by reference to Exhibit 4.8 to the Registration Statement) 4.6 Security Agreement, dated as of October 17, 1997 among J. Crew Operating Corp., J. Crew Group, Inc., the subsidiary guarantors of J. Crew Operating Corp. that are signatories thereto and The Chase Manhattan Bank (incorporated by reference to Exhibit 4.9 to the Registration Statement) 4.7 Registration Rights Agreement, dated as of October 17, 1997 by and among J. Crew Group, Inc., Donaldson, Lufkin & Jenrette Securities Corporation and Chase Securities Inc. (incorporated by reference to Exhibit 4.10 to the Registration Statement) NOTE: Pursuant to the provisions of paragraph (b)(4)(iii) of Item 601 of Regulation S-K, the Registrant hereby undertakes to furnish to the Commission upon request copies of the instruments pursuant to which various entities hold long-term debt of the Company or its parent or subsidiaries, none of which instruments govern indebtedness exceeding 10 percent of the total assets of the Company and its subsidiaries on a consolidated basis.10.1+ Employment Agreement, dated October 17, 1997, among J. Crew Group, Inc., J. Crew Operating Corp., TPG Partners II, L.P. (only with respect to Section 2(c) therein) and Emily Woods (the "Woods Employment Agreement") (incorporated by reference to Exhibit 10.1 to the Registration Statement)10.2+ J. Crew Operating Corp. Senior Executive Bonus Plan (included as Exhibit A to the Woods Employment Agreement filed as Exhibit 10.1)10.3+ Stock Option Grant Agreement, made as of October 17, 1997 between J. Crew Group, Inc. and Emily Woods (time based) (incorporated by reference to Exhibit 10.3 to the Registration Statement)10.4+ Stock Option Grant Agreement, made as of October 17, 1997 between J. Crew Group, Inc. and Emily Woods (performance based) (incorporated by reference to Exhibit 10.4 to the Registration Statement)10.5+ Letter Agreement between Matthew Rubel and J. Crew Group, Inc. (incorporated by reference to Exhibit 10.5 to Amendment No. 2 to the Registration Statement, filed February 26, 1998) 2 Exhibit No. Description --- ----------- 10.6+ Employment Agreement, dated February 24, 1998, among J. Crew Group, Inc., J. Crew Operating Corp., TPG Partners II, L.P. (only with respect to Section 2(c) therein) and Howard Socol (incorporated by reference to Exhibit 10.6 to the Company's Form 10-K for fiscal year 1997)10.7 Stockholders' Agreement, dated as of October 17, 1997, among J. Crew Group, Inc. and the Stockholder signatories thereto (incorporated by reference to Exhibit 4.1 to the Registration Statement)10.8 Stockholders' Agreement, dated as of October 17, 1997, among J. Crew Group, Inc., TPG Partners II, L.P. and Emily Woods (included as Exhibit B to the Woods Employment Agreement filed as Exhibit 10.1)10.9 J. Crew Group, Inc. 1997 Stock Option Plan (incorporated by reference to Exhibit 10.13 to the Registration Statement)10.10 Contract Carrier Agreement, between J. Crew Group, Inc. and United Parcel Service, Inc. (incorporated by reference to Exhibit 10.6 to the Registration Statement)10.11 Custom Pricing Agreement, made November 15, 1996 between Federal Express Corporation and J. Crew Group, Inc. (incorporated by reference to Exhibit 10.7 to the Registration Statement)10.12 Letter Agreement dated July 29, 1996 between World Color and Clifford & Wills, Inc. (incorporated by reference to Exhibit 10.10 to the Registration Statement)10.13 Agreement dated August 14, 1997 between R.R. Donnelley & Sons Company and J. Crew Inc. (incorporated by reference to Exhibit 10.11 to the Registration Statement)10.14 Letter Agreement, dated April 17, 1998, between J. Crew Operating Corp. and Barry Erdos (incorporated by reference to Exhibit 10.16 to the Company's Form 10-K for fiscal year 1997)21.1 Subsidiaries of J. Crew Group, Inc.27.1 Financial Data Schedule - -----------------------------+Management contract or compensatory plan or arrangement. 3 Exhibit 3.2(b) -------------- By-laws amendment adopted June 1, 1998 Section 3.01. Number of Directors. The number of directors ------------------- which shall constitute the entire Board of Directors shall not be less than three nor more than eleven. Subject to the foregoing limitation, the number of directors may be fixed from time to time by action of a majority of the entire Board of Directors or of the shareholders at an annual or special meeting, or, if the number of directors is not so fixed, the number shall be four. Exhibit 4.2(b) -------------- AMENDMENT dated as of November 23, 1998, to the Credit Agreement dated as of October 17, 1997 (as previously amended by an amendment dated as of March 18, 1998, the "Credit Agreement"), among J. CREW OPERATING CORP., a Delaware corporation, as Borrower, J. CREW GROUP, INC., the Lenders party thereto, THE CHASE MANHATTAN BANK, as Administrative Agent, and DONALDSON, LUFKIN & JENRETTE SECURITIES CORPORATION, as Syndication Agent. WHEREAS, the Borrower (such term and each other capitalized term usedbut not defined herein having the meanings assigned to such terms in the CreditAgreement) has requested that the Lenders approve amendments to certainprovisions of the Credit Agreement; and WHEREAS, the undersigned Lenders are willing, on the terms and subjectto the conditions set forth herein, to approve such amendments; NOW, THEREFORE, in consideration of these premises, the Borrower andthe undersigned Lenders hereby agree as follows: SECTION 1. Amendment. Effective on and as of the Amendment ---------- Effective Date (as defined in Section 3 hereof), Section 6.17 of the CreditAgreement is hereby amended by deleting the amount "$40,000,000" therein andsubstituting therefor the amount "$35,000,000". SECTION 2. Representations and Warranties. The Borrower represents ------------------------------- and warrants to each of the Lenders that, after giving effect to the amendmentscontemplated hereby, (a) the representations and warranties of each Loan Partyset forth in the Loan Documents are true and correct in all material respects onand as of the date of this Amendment, except to the extent such representationsand warranties expressly relate to an earlier date (in which case suchrepresentations and warranties were true and correct in all material respects asof the earlier date) and (b) no Default has occurred and is continuing. SECTION 3. Effectiveness. This Amendment shall become effective as -------------- of the date (the "Amendment Effective Date") when each of the followingconditions shall have been met: (a) The Administrative Agent (or its counsel) shall have receivedcopies hereof that, when taken together, bear the signatures of the Borrower,Holdings and the Required Lenders. (b) The sale, transfer or disposition of substantially all the assetsor capital stock of Popular Club to a Person or Persons other than the Borrowerand its Subsidiaries shall have been consummated. SECTION 4. Applicable Law. This Amendment shall be construed in --------------- accordance with and governed by the law of the State of New York. SECTION 5. No Other Amendments. Except as expressly set forth -------------------- herein, this Amendment shall not by implication or otherwise limit, impair,constitute a waiver of, or otherwise affect the rights and remedies of any partyunder the Credit Agreement, nor alter, modify, amend or in any way affect any ofthe terms, conditions, obligations, covenants or agreements contained in theCredit Agreement, all of which are ratified and affirmed in all respects andshall continue in full force and effect. This Amendment shall apply and beeffective only with respect to the provisions of the Credit Agreementspecifically referred to herein. SECTION 6. Counterparts. This Amendment may be executed in two or ------------- more counterparts, each of which shall constitute an original, but all of whichwhen taken together shall constitute but one contract. Delivery of an executedcounterpart of a signature page of this Amendment by facsimile transmissionshall be as effective as delivery of a manually executed counterpart of thisAmendment. SECTION 7. Headings. Section headings used herein are for --------- convenience of reference only, are not part of this Amendment and are not toaffect the construction of, or to be taken into consideration in interpreting,this Amendment. SECTION 8. Expenses. The Borrower shall reimburse the Administrative --------- Agent for its reasonable out-of-pocket expenses incurred in connection with this Amendment, including the reasonablefees and expenses of Cravath, Swaine & Moore, counsel for the AdministrativeAgent. IN WITNESS WHEREOF, Holdings, the Borrower and the undersigned Lendershave caused this Amendment to be duly executed by their duly authorizedofficers, all as of the date first above written. J. CREW GROUP, INC., by /s/ Scott M. Rosen ---------------------- Name: Scott M. Rosen Title: Chief Financial Officer J. CREW OPERATING CORP., by /s/ Scott M. Rosen --------------------------- Name: Scott M. Rosen Title: Chief Financial Officer Exhibit 4.2(c) -------------- AMENDMENT dated as of March 18, 1998, to the Credit Agreement dated as of October 17, 1997 (the "Credit Agreement"), among J. CREW OPERATING CORP., a Delaware corporation, as Borrower, J. CREW GROUP, INC., the Lenders party thereto, THE CHASE MANHATTAN BANK, as Administrative Agent, and DONALDSON, LUFKIN & JENRETTE SECURITIES CORPORATION, as Syndication Agent. WHEREAS, the Borrower (such term and each other capitalized term usedbut not defined herein having the meanings assigned to such terms in the CreditAgreement) has requested that the Lenders approve amendments to certainprovisions of the Credit Agreement; and WHEREAS, the undersigned Lenders are willing, on the terms and subjectto the conditions set forth herein, to approve such amendments; NOW, THEREFORE, in consideration of these premises, the Borrower andthe undersigned Lenders hereby agree as follows: SECTION 1. Amendments. Effective on and as of the Amendment ----------- Effective Date (as defined in Section 3 hereof), the Credit Agreement is herebyamended as follows: (a) The definition of "Consolidated EBITDA" is amended by theaddition of the following sentence at the end of such definition: If the sale, transfer or disposition of all or substantially all of the assets or capital stock of C&W is consummated prior to the end of the Borrower's fiscal year ending January 30, 1999, then Consolidated EBITDA, calculated as set forth above, shall be increased for each day during the period from the date of consummation of such transaction through the last day of such fiscal year (to the extent any days during such period are included in the period for which Consolidated EBITDA is being determined) by an amount equal to (i) $5,100,000, divided by (ii) 365. (b) The definition of "Excluded Charges" is amended by (i) deletingthe phrase "not exceeding $8,000,000" therein and substituting the following:"taken during the fiscal year ending January 30, 1998, or the fiscal year endedJanuary 30, 1999, not exceeding $11,000,000"; and (ii) inserting, after thephrase "management bonuses for 1997", the following: ", one-time compensationpayments made to newly hired executives in 1998". (c) Each of Section 6.13 and Section 6.14 of the Credit Agreement ishereby amended by the addition of the following proviso at the end of suchSection: provided that the Borrower shall not be required to comply with the -------- requirements of this Section as of the end of any of the four fiscal quarters ending during the fiscal year ending January 30, 1999. (d) Section 6.15 of the Credit Agreement is hereby amended bydeleting the figure "($17,000,000)" therein and substituting the following:"($25,000,000)". (e) Article VI of the Credit Agreement is hereby amended by theaddition of the following new Section at the end of such Article: SECTION 6.17. Minimum EBITDA. The Borrower will not permit its --------------- Consolidated EBITDA for any period of four consecutive fiscal quarters of the Borrower ending during the Borrower's fiscal year ending January 30, 1999, to be less than (a) $20,000,000, in the case of any such period ending on the last day of the first or second fiscal quarter of such fiscal year, (b) $25,000,000, in the case of the period ending on the last day of the third fiscal quarter of such fiscal year or (c) $40,000,000, in the case of the period ending on the last day of such fiscal year. SECTION 2. Representations and Warranties. The Borrower represents ------------------------------- and warrants to each of the Lenders that, after giving effect to the amendmentscontemplated hereby, (a) the representations and warranties of each Loan Partyset forth in the Loan Documents are true and correct in all material respects onand as of the date of this Amendment, except to the extent such representationsand warranties expressly relate to an earlier date (in which 3case such representations and warranties were true and correct in all materialrespects as of the earlier date) and (b) no Default has occurred and iscontinuing. SECTION 3. Effectiveness. This Amendment shall become effective as -------------- of the date (the "Amendment Effective Date") when the Administrative Agent (orits counsel) shall have received copies hereof that, when taken together, bearthe signatures of the Borrower, Holdings and the Required Lenders. SECTION 4. Amendment Fee. The Borrower agrees to pay to each Lender -------------- that executes and delivers a copy of this Amendment to the Administrative Agent(or its counsel) on or prior to April 1, 1998, an amendment fee in an amountequal to 0.25% of the sum of such Lender's Revolving Commitment (whether used orunused) and outstanding Term Loans, in each case as of the Amendment EffectiveDate; provided that the Borrower shall have no liability for any such amendment -------- fee if this Amendment does not become effective. Such amendment fee shall bepayable (i) on the Amendment Effective Date, to each Lender entitled to receivesuch fee as of the Amendment Effective Date and (ii) in the case of any Lenderthat becomes entitled to such fee after the Amendment Effective Date, within twoBusiness Days after such Lender becomes entitled to such fee. SECTION 5. Applicable Law. This Amendment shall be construed in --------------- accordance with and governed by the law of the State of New York. SECTION 6. No Other Amendments. Except as expressly set forth -------------------- herein, this Amendment shall not by implication or otherwise limit, impair,constitute a waiver of, or otherwise affect the rights and remedies of any partyunder the Credit Agreement, nor alter, modify, amend or in any way affect any ofthe terms, conditions, obligations, covenants or agreements contained in theCredit Agreement, all of which are ratified and affirmed in all respects andshall continue in full force and effect. This Amendment shall apply and beeffective only with respect to the provisions of the Credit Agreementspecifically referred to herein. SECTION 7. Counterparts. This Amendment may be executed in two or ------------- more counterparts, each of which shall 4constitute an original, but all of which when taken together shall constitutebut one contract. Delivery of an executed counterpart of a signature page ofthis Amendment by facsimile transmission shall be as effective as delivery of amanually executed counterpart of this Amendment. SECTION 8. Headings. Section headings used herein are for --------- convenience of reference only, are not part of this Amendment and are not toaffect the construction of, or to be taken into consideration in interpreting,this Amendment. SECTION 9. Expenses. The Borrower shall reimburse the Administrative --------- Agent for its reasonable out-of-pocket expenses incurred in connection with thisAmendment, including the reasonable fees and expenses of Cravath, Swaine &Moore, counsel for the Administrative Agent. IN WITNESS WHEREOF, Holdings, the Borrower and the undersigned Lendershave caused this Amendment to be duly executed by their duly authorizedofficers, all as of the date first above written. J. CREW GROUP, INC., by /s/ Michael P. McHugh ------------------------- Name: Michael P. McHugh Title: Vice President of Finance and Chief Financial Officer J. CREW OPERATING CORP., by /s/ Michael P. McHugh ------------------------- Name: Michael P. McHugh Title: Vice President of Finance and Chief Financial Officer Exhibit 4.2(d) -------------- AMENDMENT AND RESTATEMENT AGREEMENT (this "Amendment and Restatement") dated as of April 20, 1999, relating to the Credit Agreement dated as of October 17, 1997 (as previously amended, the "Credit Agreement"), among J. CREW OPERATING CORP., a Delaware corporation, as Borrower, J. CREW GROUP, INC., the Lenders party thereto, THE CHASE MANHATTAN BANK, as Administrative Agent, and DONALDSON, LUFKIN & JENRETTE SECURITIES CORPORATION, as Syndication Agent. A. The Borrower (such term and each other capitalized terms used butnot defined herein having the meanings assigned to such terms in the CreditAgreement) has requested that the Lenders approve amendments to certainprovisions of the Credit Agreement and a restatement of the Credit agreement toincorporate such amendments. B. The undersigned Lenders are willing, on the terms and subject tothe conditions set forth herein, to approve such amendments and suchrestatement. In consideration of these premises, the Borrower and the undersignedLenders hereby agree as follows: SECTION 1. Amendment and Restatement. Upon the effectiveness of this -------------------------- Amendment and Restatement as provided in Section 3 below, the Credit Agreementshall be amended and restated in the form resulting from the followingrevisions: (a) The definition of "Applicable Rate" in Section 1.01 of the CreditAgreement is hereby amended by (i) deleting the first proviso thereto andreplacing such proviso with: "; provided that from the Amendment and Restatement of this Credit -------- Agreement as of April 20, 1999 until the delivery of the Borrower's financial statements pursuant to Section 5.01 for the second full fiscal quarter commencing in calendar year 1999, the "Applicable Rate" shall be the applicable rate per annum set forth below in Category 2:"; and (ii) deleting the table therein in its entirety and replacing it withthe following:=============================================================================================== Leverage Ratio: ABR Eurodollar Acceptance --------------- --- ---------- ---------- Spread Spread Spread ------ ------ ------ - ----------------------------------------------------------------------------------------------- Category 1 1.75% 2.75% 2.75% ---------- Greater than 5.00 to 1.00- ----------------------------------------------------------------------------------------------- Category 2 1.50% 2.50% 2.50% ---------- greater than 4.50 to 1.00 and less than or equal to 5.00 to 1.00- --------------------------------------------------------------------------------------------- Category 3 1.25% 2.25% 2.25% ---------- greater than 4.00 to 1.00 and less than or equal to 4.50 to 1.00- --------------------------------------------------------------------------------------------- Category 4 1.00% 2.00% 2.00% ---------- greater than 3.50 to 1.00 and less than or equal to 4.00 to 1.00- --------------------------------------------------------------------------------------------- Category 5 0.75% 1.75% 1.75% ---------- greater than 3.00 to 1.00 and less than or equal to 3.50 to 1.00- ---------------------------------------------------------------------------------------------- Category 6 0.50% 1.50% 1.50% ---------- less than or equal to 3.00 to 1.00============================================================================================= (b) Section 2.11(e) of the Credit Agreement is hereby amended bydeleting the table therein in its entirety and replacing it with the following: Fiscal Year Revolving Exposure ----------- as Reduced ------------------ 1999 $30,000,000 2000 $20,000,000 2001 $15,000,000 2002 and thereafter $ 0 (c) Section 6.12 of the Credit Agreement is hereby amended bydeleting the table therein in its entirety and replacing it with: Fiscal Year Amounts Ending ------- ----------- January 30, 1999 $43,000,000 January 29, 2000 $40,000,000 February 3, 2001 $45,000,000 February 2, 2002 $50,000,000 February 1, 2003 $55,000,000 and thereafter (d) Section 6.13 of the Credit Agreement is hereby amended bydeleting the table therein in its entirety and replacing it with: Quarter Ending Ratio During the Period ----- ------------------------- May 1, 1999 through 5.75 to 1.00 October 30, 1999 October 31, 1999 5.25 to 1.00 through April 29,2000 April 30, 2000 through 4.75 to 1.00 May 5, 2001 May 6, 2001 through 4.25 to 1.00 November 3, 2001 November 4, 2001 and 4.00 to 1.00 thereafter (e) Section 6.14 of the Credit Agreement is hereby amended bydeleting the table therein in its entirety and replacing it with: Four-Quarter Ratio Period Ending ----- ------------- January 31, 1999 through 1.25 to 1.00 October 30, 1999 October 31, 1999 through 1.30 to 1.00 April 29, 2000 April 30, 2000 through 1.35 to 1.00 May 5, 2001 May 6, 2001 through 1.40 to 1.00 February 1, 2003 February 2, 2003 1.50 to 1.00 And thereafter (f) Section 6.15 of the Credit Agreement is hereby deleted in itsentirety and replaced with "INTENTIONALLY OMITTED". (g) Section 6.16 of the Credit Agreement is hereby amended bydeleting "1.75 to 1.00." and replacing such phrase with the following: "1.50 to1.00 or, for any fiscal month ending during the third fiscal quarter in anyfiscal year, 1.35 to 1.00". SECTION 2. Representations and Warranties. The Borrower represents ------------------------------- and warrants to each of the Lenders that, after giving effect to the amendmentsand restatement contemplated hereby, (a) the representations and warranties ofeach Loan Party set forth in the Loan Documents are true and correct in allmaterial respects on and as of the date of this Amendment, except to the extentsuch representations and warranties expressly relate to an earlier date (inwhich case such representations and warranties were true and correct in allmaterial respects as of the earlier date) and (b) no Default has occurred and iscontinuing. SECTION 3. Effectiveness. This Amendment and Restatement shall -------------- become effective (as of the date first written above) on the date (the"Amendment Effective Date") when (a) the Administrative Agent (or its counsel) shall have received copies hereof that, when taken together, bear the signaturesof the Borrower, Holdings and the Required Lenders and (b) the Administrative Agentshall have received payment of the fees payable under Section 4 below (to theextent due on the Amendment Effective Date) and any out-of-pocket expenses ofthe Administrative Agent payable by the Borrower that have been invoiced beforethe Amendment Effective Date. This Amendment and Restatement shall terminate onApril 22, 1999, unless all conditions set forth in this section shall have beensatisfied at or before 5 p.m., New York City time, on that date. SECTION 4. Amendment and Restatement Fee. The Borrower agrees to pay ------------------------------ to each Lender that executes and delivers a copy of this Amendment andRestatement to the Administrative Agent (or its counsel) on or prior to April20, 1999, an amendment and restatement fee in an amount equal to 0.125% of thesum of such Lender's Revolving Commitment (whether used or unused) andoutstanding Term Loans, in each case as of the Amendment Effective Date;provided that the Borrower shall have no liability for any such amendment and- -------- restatement fee if this Amendment and Restatement does not become effective.Such amendment and restatement fee shall be payable (i) on the AmendmentEffective Date, to each Lender entitled to receive such fee as of the AmendmentEffective Date and (ii) in the case of any Lender that becomes entitled to suchfee after the Amendment Effective Date, within two Business Days after suchLender becomes entitled to such fee. SECTION 5. Applicable Law. This Amendment and Restatement shall be --------------- construed in accordance with and governed by the law of the State of New York. SECTION 6. No Other Amendments. Except as expressly set forth -------------------- herein, this Amendment and Restatement shall not by implication or otherwiselimit, impair, constitute a waiver of, or otherwise affect the rights andremedies of any party under the Credit Agreement, nor alter, modify, amend or inany way affect any of the terms, conditions, obligations, covenants oragreements contained in the Credit Agreement, all of which are ratified andaffirmed in all respects and shall continue in full force and effect. SECTION 7. Counterparts. This Amendment and Restatement may be ------------- executed in two or more counterparts, each of which shall constitute anoriginal, but all of which when taken together shall constitute but onecontract. Delivery of an executed counterpart of a signature page of thisAmendment and Restatement by facsimile transmission shall be as effective as delivery of a manually executed counterpart of this Amendment and Restatement. SECTION 8. Headings. Section headings used herein are for --------- convenience of reference only, are not part of this Amendment and Restatementand are not to affect the construction of, or to be taken into consideration ininterpreting, this Amendment and Restatement. SECTION 9. Expenses. The Borrower shall reimburse the Administrative --------- Agent for its reasonable out-of-pocket expenses incurred in connection with thisAmendment and Restatement, including the reasonable fees and expenses ofCravath, Swaine & Moore, counsel for the Administrative Agent. IN WITNESS WHEREOF, Holdings, the Borrower and the undersigned Lendershave caused this Amendment and Restatement to be duly executed by their dulyauthorized officers as of the date first above written. J. CREW GROUP, INC., by -------------------------- Name: Title: J. CREW OPERATING CORP., by -------------------------- Name: Title: Exhibit 21.1 ------------ SUBSIDIARIES OF THE REGISTRANT J. CREW GROUP, INC. State of Name Under WhichName of Subsidiary Incorporation Subsidiary Does Business- ------------------ ------------- ------------------------J. Crew Operating Corp. Delaware J. Crew Operating Corp.J. Crew Inc. New Jersey J. Crew Inc.Clifford & Wills, Inc. New Jersey Clifford & Wills, Inc.Grace Holmes, Inc. Delaware (J. Crew Retail Stores)H.F.D. No. 55, Inc. Delaware (J. Crew Factory Outlet Stores)C & W Outlet, Inc. New York C & W Outlet, Inc.J. Crew International, Inc. Delaware J. Crew International, Inc.J. Crew Services, Inc. Delaware J. Crew Services, Inc.
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