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A $1B Quest: Jones Looks to Tommy, Calvin as Polo Talks Drag

Is Jones Apparel Group’s overture to Tommy Hilfiger Corp. merely a negotiating ploy to irk Ralph Lauren - or does it desperately need the business?

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Ralph Lauren

Photo By WWD Staff

Peter Boneparth

Photo By WWD Staff

Tommy Hilfiger

Photo By WWD Staff

NEW YORK — Is Jones Apparel Group’s overture to Tommy Hilfiger Corp. merely a negotiating ploy to irk Ralph Lauren — or does it desperately need the business?

Jones, the $4.3 billion powerhouse, reportedly has held very preliminary discussions to acquire Polo’s arch rival, Tommy Hilfiger, the $1.8 billion sportswear company that has been battling erosion of its core men’s wear business. Neither Hilfiger nor Jones officials would comment Thursday on the report, which appeared in The Wall Street Journal. Investors seemed pleased with the idea, driving shares of Hilfiger up $1.41, or 23.9 percent, to close at $7.30 on the New York Stock Exchange.

But, if Jones maintains its payment record, a purchase of Hilfiger could cost from $1.5 billion to $2 billion.

Plus Hilfiger isn’t the only designer Jones is in talks with. Sources said the group is aggressively pursuing a Calvin Klein better price women’s sportswear license from Phillips-Van Heusen Corp.

Jones is anxious to find a backup for its licensed Polo business, which contributes more than $1 billion to its sales. As reported, Jones and Polo are in discussions about the renewal of some of those licenses — talks that, sources said, are increasingly acrimonious.

Jones’ ability to retain the licenses is looking less likely, said sources. A spokeswoman for Polo Ralph Lauren Corp., said, "We do not comment on any ongoing business discussions."

One of the possible outcomes of the dispute is that Polo will take the Lauren, Ralph and Polo Jeans businesses in-house. Sources have indicated that Polo has already taken three additional floors at 550 Seventh Avenue here to accommodate the Lauren and Ralph businesses.

"Polo has a strong sense it can do it all themselves," said one source. However, some observers question whether Polo has the infrastructure to manufacture and distribute the lines itself.

The crux of the matter is that the three licensed businesses account for more than $1 billion in sales at Jones. Should Polo take them back, Jones will be left with a $1 billion hole to fill and would have to replace it quickly. Consequently, Jones is frantically trying to line up other businesses to take their place. While the Hilfiger business would add additional volume, one source said it won’t help the profit picture. "It’s a sign of desperation on Jones’ part…you’ll replace the volume, but it won’t do anything to the bottom line."
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As for the Klein license, Bruce Klatsky, chairman of PVH, said he is currently in discussions with four companies about manufacturing and marketing a CK women’s better-price sportswear line, but wouldn’t divulge whether Jones was among them. He said a deal could be reached in 30 days. PVH, which plans to make the CK Calvin Klein men’s sportswear line itself, is looking to launch better women’s and men’s sportswear within the next 24 months.

The present dispute between Jones and Polo stems from the weak sales of the Ralph licensed line. And sources said it didn’t help Jones’ case when it has continually said that the Lauren by Ralph Lauren line is a "mature business." Polo feels strongly otherwise and believes the line has plenty of room to grow.

As reported, Polo contends that it has the right to end its substantial Lauren license with Jones at the end of 2003, three years earlier than its official expiration date, because of the failure to meet minimums in the Ralph agreement. Jones says it has the right to keep the Lauren license through the end of 2006. The Lauren line generates about $548 million in sales. For 2002, the contracted minimum for the Ralph line was $100 million, but Jones’ revenues from the Ralph license were just $37 million. Although the Polo Jeans license isn’t part of the dispute, sources said Polo may be angry enough to take back that license as well. Polo Jeans generates between $400 million and $450 million in revenues for Jones.

Peter Boneparth, chief executive officer of Jones, told a Bear Stearns conference last month that the Jones-Lauren licensing arrangement could have three possible outcomes. "One is we will enter into a longer-term license with Polo Corp. and we have offered a substantially higher royalty to do so. The second is the ugly scenario where we will fight to maintain our rights on the contract. The third scenario is…we do not go to court, but we both work on a practical and orderly transition from a timing perspective."

By dangling the possibility of a Hilfiger acquisition, Boneparth may be looking for leverage in his negotiations with Polo.

"This is a bit like bombing Iraq from the north, something of a diversionary tactic," said one source in the investment community. "Boneparth isn’t looking all that good in his time at Jones’ helm — their Lauren business appears mature and their shoe business and a lot of their apparel businesses are tough. Now, between Lauren, Polo Jeans and Ralph, he could be at risk of losing $1 billion in volume. He’s got to do something to put Jones on the offensive again, and I wouldn’t be surprised to see him do a Calvin Klein women’s wear deal with PVH, an acquisition of Tommy or even both."
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The source added that Polo appears ready to reabsorb the licensed businesses at Jones, and that former Jones president Jackwyn Nemerov, who enjoyed a close working relationship with Ralph Lauren and the crew at Polo, might be in line for a position at Polo.

One thing’s for sure: if the Lauren brands stay at Jones, there’s no way Ralph Lauren will allow Jones to take on the Hilfiger business. In 2001, Jones had to curtail its discussions with Calvin Klein for a better price women’s line because of Lauren’s strong objections.

Some market watchers say a deal between Jones and Hilfiger is intriguing and could have some benefits.

Marshal Cohen, a president of NPDFashionworld, Port Washington, N.Y. market research firm, observed, "A Jones acquisition of Hilfiger has major over-reaching implications in the market. The good news is it will take care of a major part of what Tommy needs. It can provide help on the infrastructure issues. Not only does Hilfiger have a branding issue, but it has a logistics issue. It’s a more competitive environment, and it has merchandise speed issues. The Jones group is adept at that. It will also give them international clout on purchasing."

In addition, Cohen pointed out it would be a win for the Jones group. "It gets them entrenched in the men’s business in a bigger and better way. It also provides a whole other level of power branding within the retail community. If you’re doing a licensing deal, you’re now going in talking about several power brands.

"The downside is you’re no longer an independent brand, but Jones and Liz [Claiborne] have allowed the businesses to maintain their image and identity," said Cohen.

For years the darling in the industry, Hilfiger has seen its fortunes erode as the label became over-distributed, the company grew too quickly, and a highly promotional retail environment hurt sales. These days, Hilfiger is seen as particularly vulnerable to a takeover because it is sitting on $400 million in cash and has experienced weak sales and declining market share in its core men’s wear business. Further, Hilfiger’s co-chairmen Lawrence Stroll and Silas Chou both stepped down last year to pursue other business opportunities, and the firm has been searching for a ceo to replace Joel Horowitz, who said he wouldn’t renew his contract when it expires in March 2004. Horowitz was named chairman of the company earlier this year. Herbert Mines Associates, the search firm, was hired to conduct the ceo search, and the firm is reportedly looking both inside and outside the apparel industry.
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The stock market reacted warmly to the idea of a Jones acquisition of Hilfiger. With the shares rising to $7.30, the total market capitalization of Hilfiger rose to about $660 million. Over the last 12 months, the firm’s stock has traded as low as $5.61 and as high as $16.65.

Jones also received a lift on Wall Street, even though acquisitions, or the possibility thereof, often pressure the valuation of the acquirer. Shares of the firm rose 35 cents, or 1.3 percent, to $27.99. This left the firm with a market cap of $3.61 billion.

Both issues trade on the New York Stock Exchange.

Analysts believe this could be a solution to appease Hilfiger shareholders.

"Tommy seems to be twisting in the wind a little bit, given their lack of growth prospects in the department stores," said Davenport & Co. equity analyst David Campbell. "I wouldn’t be surprised if they were looking for some type of exit strategy for their shareholders."

Campbell noted that Jones would not pick up a growing brand if it acquired Hilfiger, though it would fill the revenue void left if Polo pulled back its licenses. "Tommy’s more mature than Lauren," the analyst said of the brands. "It’s a larger business, but it does seem to have some growth potential in Europe." Additionally, Jones could squeeze some incremental growth from Hilfiger through better brand management, he said.

Acquiring Hilfiger, though, could go against the grain of Jones’ strategy to reduce exposure to the department store channel, said the analyst. However, Jones does have a "very strong" free cash flow and could financially make a deal happen, he noted.

Jones also has plenty of experience with acquisitions, though taking control of Hilfiger would represent one of the firm’s largest deals.

In April 2002, Jones sewed up its $143.7 million acquisition of moderate stretch and twill jeanswear firm Gloria Vanderbilt Apparel Corp. The firm posted sales of $146 million in 2001. Jones then completed the acquisition of LEI in August for $309 million, in a cash and stock deal. In 2001, the junior denim firm boasted a top line of $248 million. In June 2001, Jones acquired McNaughton Apparel Group for more than $572 million. The preceding year, McNaughton produced sales of $506.3 million. Jones, in 1999, merged with Nine West in a deal valued at $1.4 billion, which included more than $500 million in debt.
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"I think Tommy has been a takeover target for some time. People have been talking about it behind his back," said consultant Walter Loeb of Loeb & Associates. "But these days, with full disclosure, a lot can happen between now and then."

"I think there’s a possibility that someone could buy Hilfiger," said Allan Ellinger, senior managing director of MMG, a consulting firm. "It’s an undervalued company sitting on all that cash. It appears to be the only uni-brand major public apparel company selling into the department store zone. That is dangerous."

Ellinger said Hilfiger has resisted making other acquisitions, and the company has been exploring options to maximize its shareholder value. "Plus, there’s a leadership issue," he added.

Ellinger believes that Jones could easily swallow a $2 billion company. "It appears they’re well organized. Jones could plug that brand into a lot of their product categories, such as Nine West. They could add a lot of value to the Tommy name. They could license the men’s wear to another company. There’s also a lot of major international opportunities," said Ellinger.

According to Andrew Jassin, managing director of Jassin O’Rourke Group, a management consulting firm, "Hilfiger has all this cash. Two things could happen. They could downsize the company and make it more productive, and buy another brand, or sell the company. Hilfiger only owns 10 percent of the company, and he’s earning an unbelievable amount of money. He can cash out and sell the company. It’s still a decent trademark," he said, although it’s not as desirable as it was a few years ago. Hilfiger’s total compensation last year was $27.9 million.

While some observers said Hilfiger is a mature business, they questioned whether the company fits into Jones’ profile of acquisition candidates.

At a recent WWD ceo Summit, Boneparth said the way he identifies candidates for acquisitions are companies that are growing faster than Jones’ core base and ones that diversify its customer base, distribution channel and product mix. He also said he’s looking for "dedicated and intelligent management."

Asked where Jones is underrepresented, Boneparth cited the possibilities of men’s wear and children’s wear, but cautioned that those markets can be difficult in terms of the investment it would take to develop them. Further, he said that targets should be in the range of $200 million to $500 million in sales, considering anything smaller would also require significant development costs that could impact the rate of return on such acquisitions.
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In 2002, Jones drove net profits up 34.8 percent to $318.5 million, or $2.36 a diluted share. Revenues for the 12 months ended Dec. 31, 2002, rose 5.9 percent to $4.34 billion. At the end of the year, Jones had cash and cash equivalents of $283.3 million. The firm’s long-term debt and its obligations under capital leases, though, mounted to $978.1 million.

On the other hand, Hilfiger, for the nine months ended Dec. 31, 2002, lost $399.8 million, or $4.41 a diluted share. The result was weighed down by a $430 million aftertax charge for a change in accounting principle. This compared with income of $93.8 million, or $1.04, a year earlier. Excluding nonrecurring charges, income dropped 7.1 percent to $87.1 million. Hilfiger’s revenues for the nine months inched up 0.9 percent to $1.39 billion. As of the end of the year, Tommy carried cash and cash equivalents of $485.6 million on its balance sheet. Long-term debt stood at $350.2 million.

The Jones Journey
Milestones in the History of Jones Apparel Group

1970 Founded by Sidney Kimmel as a division of W.R. Grace & Co.
1975 Purchased from Grace and incorporated as Jones Apparel Group
1991 Goes public on the New York Stock Exchange
1993 Acquires Evan-Picone label
1995 Obtains Lauren by Ralph Lauren license
1996 Sales pass $1 billion
1998 Acquires Sun Apparel and its Polo Jeans license for $457 million
1999 Completes purchase of Nine West Group for $1.4 billion, gets Ralph license
2000 Acquires Victoria & Co. for $87 million
2001 Acquires McNaughton Apparel Group for $499 million and Judith Jack for an estimated $20 million
2002 Acquires Gloria Vanderbilt Apparel Group for $144 million and RSV Sport, owners of L.E.I., for $394 million; Peter Boneparth succeeds Kimmel as ceo in May
2003 Company acknowledges conflict with Polo Ralph Lauren over licenses

SOURCE: Company reports, market estimates and WWD archives
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