Overview

We began operations in 1967 as Supreme International Corporation with a focus on marketing guayabera shirts, and other men's apparel products targeted at the Hispanic market in Florida and Puerto Rico. Over time we expanded our product line to offer a variety of men's sport shirts. In 1988, we added the Natural Issue brand and completed our initial public offering in 1993. In 1996, we began an expansion strategy through the acquisition of brands including the Munsingwear family of brands in 1996, the John Henry and Manhattan brands from Perry Ellis Menswear in 1999 and the Perry Ellis brand in 1999. Following the Perry Ellis acquisition, we changed our name from Supreme International Corporation to Perry Ellis International, Inc. to better reflect the name recognition that the brand provided. In 2002, we acquired the Jantzen brand and in June 2003 we acquired Perry Ellis Menswear, our largest licensee, giving us greater control of the Perry Ellis brand, as well as adding other brands owned by Perry Ellis Menswear. In February 2005, we completed an acquisition, making us one of the largest supplier's of bottoms in the United States. In January 2006, we completed the acquisition of primarily all of the worldwide intellectual property of the leading California lifestyle company Gotcha International, including the Gotcha, Girl Star and MCD logo trademarks and the intellectual property license agreements. In February 2008, we completed the acquisition of the Laundry by Shelli Segal and C&C California brands giving us a stronger product line in dresses and women's sportswear.

We are one of the leading apparel companies in the United States. We manage a portfolio of major brands, some of which were established over 100 years ago. We design, source, market and license our products nationally and internationally at multiple price points and across all major levels of retail distribution in over 15,000 doors. Our portfolio of highly recognized brands includes the Perry Ellis family of brands, which we believe together generate over $1.5 billion in annual retail sales, Axis, Tricots St. Raphael, Jantzen, John Henry, Cubavera, the Havanera Co., Natural Issue, Munsingwear, Grand Slam, Original Penguin, Mondo di Marco, Redsand, Pro Player, Manhattan, Axist, Savane, Farah, Gotcha, Girl Star, MCD, Laundry by Shelli Segal and C&C California.

We distribute our products primarily to wholesale customers that represent all major levels of retail distribution including department stores, national and regional chain stores, mass merchants, specialty stores, sporting goods stores, green grass golf shops, the corporate wear market, as well as clubs and independent retailers in the United States, Canada, the United Kingdom and Europe. Our largest customers include Kohl's, Macy's, Dillard's, Wal-Mart, and J.C. Penney, As of March 1, 2009, we also operated 46 Perry Ellis retail outlet stores located primarily in upscale retail outlet malls across the United States as well as 6 Original Penguin retail stores located in upscale demographic markets. In addition, we leverage our design, sourcing and logistics expertise by offering a limited number of private label programs to retailers. In order to maximize the worldwide exposure of our brands and generate high margin royalty income, we license our brands through 2 worldwide, 33 domestic, and 89 international license agreements.

Our wholesale business, which is comprised of men's and women's sportswear, swimwear and swimwear accessories, accounted for 97% of our total revenues in fiscal 2009, and our licensing business accounted for approximately 3% of our total revenues in fiscal 2009. We have traditionally focused on the men's sportswear market, which represented approximately 87% of our total revenues in fiscal 2009, while our women's dresses and casual sportswear and men's and women's swimwear markets represented approximately 13% of our total revenues in fiscal 2009. Finally, our U.S. based business represented approximately 92% of total revenues, while our foreign operations represented 8% for fiscal 2009.

Our licensing business is a significant contributor to our operating income. We license the brands we own to third parties for the manufacturing and marketing of various products in distribution channels and countries in which we do not distribute those brands, including men's and women's apparel and footwear, men's suits, underwear, loungewear, outerwear, fragrances, eyewear and accessories. These licensing arrangements heighten the overall awareness of our brands without requiring us to make capital investments or incur additional operating expenses.

We employ a three-dimensional strategy in the design, sourcing, marketing and licensing of our products that focuses on diversity of brands, products and distribution channels. Through this strategy, we provide our products to a broad range of customers, which reduces our reliance on any single distribution channel, customer, or demographic group and minimizes competition among our brands.

Our products have historically been geared towards lighter weight apparel generally worn during the spring and summer months. We believe that this seasonality has been reduced with our introduction of fall, winter, and holiday merchandise. Our swimwear business, however, is highly seasonal in nature, with the significant majority of its sales occurring in our first and fourth quarters. Our higher-priced products generally tend to be less sensitive to either economic or weather conditions. Seasonality can be affected by a variety of factors, including the mix of advance and fill-in orders, the amount of sales to different distribution channels, and overall product mix among traditional merchandise, fashion merchandise and swimwear. We expect that revenues for our second quarter will typically be lower than our other quarters due to the impact of seasonal sales.

We believe that our future growth will come as a result of organic growth from our continued emphasis on our existing brands; new and expanded product lines; domestic and international licensing opportunities; international, direct retail and E-commerce opportunities and selective acquisitions and opportunities that fit strategically with our business model. Our future results may be impacted by risks and trends set forth in "Item 1A. Risk Factors" and elsewhere in this report.

See Notes to the Consolidated Financial Statements in "Item 8. Financial Statements and Supplementary Data" for recent accounting pronouncements.

Critical Accounting Policies

Included in the footnotes to the consolidated financial statements in this report is a summary of all significant accounting policies used in the preparation of our consolidated financial statements. We follow the accounting methods and practices as required by accounting principles generally accepted in the United States of America ("GAAP"). In particular, our critical accounting policies and areas we use judgment are in the areas of revenue recognition, the estimated collectability of accounts receivable, the recoverability of obsolete or overstocked inventory, the impairment of long-lived assets that are our trademarks, the recoverability of deferred tax assets, the measurement of retirement related benefits and stock-based compensation.

Revenue Recognition. Sales are recognized at the time legal title to the product passes to the customer, generally FOB Perry Ellis' distribution facilities, net of trade allowances and a provision for estimated returns and other allowances, considering historical and anticipated trends. Revenues are recorded net of corresponding sales taxes. Royalty income is recognized when earned on the basis of the terms specified in the underlying contractual agreements. We believe that our revenue recognition policies conform to SEC Topic 13: Revenue Recognition.

Accounts Receivable. We maintain an allowance for doubtful accounts receivables and an allowance for estimated trade discounts, co-op advertising, allowances provided to retail customers to flow goods through the retail channel, and losses resulting from the inability of our retail customers to make required payments considering historical and anticipated trends. Management reviews these allowances and considers the aging of account balances, historical bad debt experience, changes in customer creditworthiness, current economic trends, customer payment activity and other relevant factors. A small portion of our accounts receivable are insured for collections. Should any of these factors change, the estimates made by management may also change, which could affect the level of future provisions.

Inventories. Our inventories are valued at the lower of cost or market value. Estimates and judgment are required in determining what items to stock and at what levels, and what items to discontinue and how to value them. We evaluate all of our inventory style-size-color stock keeping units, or SKUs, to determine excess or slow-moving SKUs based on orders on hand and projections of future demand and market conditions. For those units in inventory that are so identified, we estimate their market value or net sales value based on current realization trends. If the projected net sales value is less than cost, on an individual SKU basis, we write down inventory to reflect the lower value. This methodology recognizes projected inventory losses at the time such losses are evident rather than at the time goods are actually sold.

Intangible Assets. We have, at the present time, only one class of indefinite lived assets, trademarks. We review our intangible assets with indefinite useful lives for possible impairments at least annually in accordance with Statement of Financial Accounting Standards ("SFAS") No. 142 and perform impairment testing as of February 1st of each year by among other things, obtaining independent third party valuations. We evaluate the "fair value" of our identifiable intangible assets for purposes of recognition and measurement of impairment losses. Evaluating indefinite useful life assets for impairment involves certain judgments and estimates, including the interpretation of current economic indicators and market valuations, and our strategic plans with regard to our operations, historical and anticipated performance of our operations and other factors. If we incorrectly anticipate these trends or unexpected events occur, our results of operations could be materially affected.

Deferred Taxes. We account for income taxes under the liability method. Deferred tax assets and liabilities are recognized based on the differences between financial statement and tax basis of assets and liabilities using presently enacted tax rates. A valuation allowance is recorded, if required, to reduce deferred tax assets to that portion which is expected to more likely than not be realized.

It is our policy to provide for uncertain tax positions and the related interest and penalties based upon management's assessment of whether a tax benefit is more likely than not to be sustained upon examination by tax authorities. To the extent that we prevail in matters for which a liability for an unrecognized tax benefit is established or is required to pay amounts in excess of the liability, our effective tax rate in a given financial statement period may be affected.

In addition to judgments associated with valuation accounts, our current tax provision can be affected by our mix of income and identification or resolution of uncertain tax positions. Because income from domestic and international sources may be taxed at different rates, the shift in mix during a year or over years can cause the effective tax rate to change.

Retirement-Related Benefits. The pension obligations related to our defined benefit pension plans are developed from actuarial valuations. Inherent in these valuations are key assumptions, including the discount rate, expected return of plan assets, future compensation increases, and other factors, which are updated on an annual basis. Management is required to consider current market conditions, including changes in interest rates, in making these assumptions. Actual results that differ from the assumptions are accumulated and amortized over future periods, and therefore, generally affect the recognized pension expense or benefit and our pension obligation in future periods. The fair value of plan assets is based on the performance of the financial markets, particularly the equity markets. Therefore, the market value of the plan assets can change dramatically in a relatively short period of time. Additionally, the measurement of the plan's benefit obligation is highly sensitive to changes in interest rates. As a result, if the equity market declines and/or interest rates decrease, the plan's estimated accumulated benefit obligation could exceed the fair value of the plan assets and therefore, we would be required to establish an additional minimum liability, which would result in a reduction in shareholders' equity for the amount of the shortfall.

Stock-Based Compensation. Our stock-based award programs are intended to attract, retain and provide incentives for talented employees, officers and directors, and to align stockholder and employee interests. As of January 31, 2009, we had three stock-based compensation plans.

In December 2004, the Financial Accounting Standards Board ("FASB") issued SFAS No. 123(R), "Share-Based Payment," which amended SFAS No. 123. SFAS No. 123(R) requires that share-based awards granted to employees be fair valued on the date of grant and the related expense recognized over the requisite service period, which is generally the vesting period of the award. We adopted SFAS No. 123(R) on February 1, 2006, the first day of fiscal 2007.

Beginning February 1, 2007, we have applied the modified prospective application of SFAS No. 123(R) to all our stock-based awards. In accordance with SFAS No. 123(R), compensation cost must be recognized over the requisite service period if it is probable that the performance condition will be satisfied. We use our best judgment to determine whether it is probable the performance conditions will be satisfied at each reporting period and record compensation costs accordingly; however, the recognition or non-recognition of such compensation cost remains subject to uncertainty. If the performance conditions are not met for performance vesting restricted stock, no compensation costs will be recognized for those shares and any compensation cost recognized previously for those shares will be reversed.

Our Results of Operations for Fiscal 2009

The following table sets forth, for the periods indicated, selected items in our consolidated statements of operations expressed as a percentage of total revenues:

  Fiscal Year Ended January 31                              2009      2008      2007
  Net sales                                                  97.0 %    97.1 %    97.3 %
  Royalty income                                              3.0 %     2.9 %     2.7 %

  Total revenues                                            100.0 %   100.0 %   100.0 %
  Cost of sales                                              67.3 %    66.2 %    66.8 %

  Gross profit                                               32.7 %    33.8 %    33.2 %
  Selling, general and administrative expenses               27.8 %    25.0 %    24.7 %
  Depreciation and amortization                               1.7 %     1.5 %     1.4 %
  Impairment on long-lived assets                             2.6 %     0.0 %     0.0 %

  Operating income                                            0.5 %     7.3 %     7.1 %
  Costs on early extinguishment of debt                       0.0 %     0.0 %     0.4 %
  Impairment on marketable securities                         0.3 %     0.0 %     0.0 %
  Interest expense                                            2.1 %     2.0 %     2.5 %

  (Loss) income before minority interest and income taxes    -1.9 %     5.3 %     4.2 %
  Minority interest                                           0.1 %     0.0 %     0.0 %
  Income tax (benefit) provision                             -0.4 %     1.8 %     1.5 %

  Net (loss) income                                          -1.5 %     3.5 %     2.7 %

The following is a discussion of our results of operations for the fiscal year ended January 31, 2009 ("fiscal 2009") as compared with the fiscal year ended January 31, 2008 ("fiscal 2008") and fiscal 2008 compared with the fiscal year ended January 31, 2007 ("fiscal 2007").

Our Fiscal 2009 Results as compared to our Fiscal 2008 Results

Net sales. Net sales in fiscal 2009 were $825.9 million, a decrease of $12.6 million, or 1.5%, from $838.5 million in fiscal 2008. This decrease was primarily driven by the planned reduction of $30 million of our private label bottoms business, an increase in sales allowances of approximately $8.8 million, a revenue decline of $4.5 million related to the loss of multiple customers due to their filing for Chapter 11 bankruptcy protection or liquidation in the second half of the year, and the reduction of certain brands in our specialty store channels; partially offset by organic growth of several of our platforms- swim, golf lifestyle, denim, and Hispanic lines. Additionally, net sales for fiscal 2009 included approximately $26.1 million due to the fiscal 2009 acquisition of the C&C California and Laundry by Shelli Segal brands.

Royalty income. Royalty income in fiscal 2009 was $25.4 million, remaining essentially flat as compared to fiscal 2008. Royalty income decreased due primarily to the termination of the Gotcha license in Europe. However, we offset this decrease by the benefit of new licenses added in the categories of outerwear, fragrances, and dress shirts. Royalty income is derived from agreements entered

Gross profit. Gross profit was $278.3 million in fiscal 2009, a decrease of $13.3 million, or 4.6%, from $291.6 million in fiscal 2008. As a percentage of total revenue, gross profit margins were 32.7% in fiscal 2009 compared to 33.8% in fiscal 2008, a decrease of 110 basis points. Our overall fiscal 2009 gross margin was significantly impacted by the highly promotional holiday season, which required an increase in sales allowances as compared to fiscal 2008. Additionally, we liquidated approximately 290,000 units of products below cost related to the exiting of our specialty store business and inventory previously targeted for certain retailers who filed for Chapter 11 bankruptcy protection.

Wholesale gross profit margins (which exclude the impact of royalty income) were 30.6% in fiscal 2009, compared to 31.8% in fiscal 2008. This decrease is primarily attributable to the factors mentioned above.

Selling, general and administrative expenses. Selling, general and administrative expenses in fiscal 2009 were $236.8 million, an increase of $20.9 million, or 9.7%, from $215.9 million in fiscal 2008. As a percentage of total revenues, selling, general and administrative expenses increased to 27.8% in fiscal 2009 as compared to 25.0% in fiscal 2008. The increase in selling, general and administrative expenses, on a dollar and percentage basis, is attributed to additional costs related to our continued investment into the boys, action sports, E-commerce and retail businesses, as well as certain costs associated with the addition of the women's contemporary business of approximately $18.2 million. Additionally, we made substantial management changes in the first half of the year in the UK, as well as repositioned our European business, which caused us to incur additional expenses.

We began a strategic review process during our third quarter of fiscal 2009. Most of the identified expenses in connection with this strategic review were incurred during our fourth quarter. In connection with this process, we incurred approximately $1.7 million in certain real estate exit costs and severance charges during fiscal 2009.

As part of our strategic review process, we identified selling, general and administrative expense reductions of approximately $20 million for fiscal 2010. The identified initiatives included: the consolidation of the Tampa bottom's production department; reductions in headcount and advertising and promotion budget in the men's specialty store businesses; reduction in the shared services cost structure; restructuring of the Perry Ellis Outlet operations; the annualization of distribution cost savings due to the closing of the Winnsboro distribution center; and a hiring freeze and reduction of travel and other discretionary expenses.

Depreciation and amortization. Depreciation and amortization in fiscal 2009 was $14.8 million, an increase of $1.5 million, or 11.3%, from $13.3 million in fiscal 2008. The increase is primarily due to the increase in property and equipment, primarily from our Oracle retail system, and our continued expansion in retail stores. As of January 31, 2009, we owned approximately $130.6 million of property, plant and equipment at cost as compared to approximately $128.1 million as of January 31, 2008 at cost.

Impairment on long-lived assets. We performed our annual impairment test for indefinite-lived trademarks. Certain key assumptions we use are critical in determining the fair value estimates, such as: (i) discount rates used to derive the present value factors used in determining the fair value of the trademarks;
(ii) royalty rates used in the trademark valuations; (iii) projected revenue growth rates; and (iv) projected long-term growth rates used in the derivation of terminal year values. These and other assumptions are impacted by economic conditions and our expectations may change in the future based on period-specific facts and circumstances. As a result of our annual impairment analysis, we recorded trademark impairment charges of $20.7 million, due to decreases in our projected revenues for certain brands. The impairments result from a decline in the future anticipated cash flows from these trademarks, which is due, in part, to the current deterioration of economic and market conditions in the apparel industry.

Impairment on marketable securities. During the year ended January 31, 2009, we determined that marketable securities that were classified as available for sale were deemed to be other than temporarily impaired, due to the percentage and duration of the loss. Accordingly, an impairment in the amount of approximately $2.8 million was recognized for the twelve months ended January 31, 2009.

Interest expense. Interest expense in fiscal 2009 was $17.5 million, a decrease of $0.1 million, or 0.6%, from $17.6 million in fiscal 2008. We ended fiscal 2009 with a balance of $54.4 million on our senior credit facility compared to no borrowings for fiscal 2008. Although our senior credit facility increased, it includes approximately $34 million for the acquisition of the women's contemporary business and $11.6 million for purchases of treasury shares. Despite these increases, we were able to control our average borrowings under our senior credit facility and thus achieved a slight decrease in interest expense.

Income taxes. The income tax (benefit) provision for fiscal 2009 was $(3.7) million, a $19.5 million decrease as compared to $15.8 million for fiscal 2008. For fiscal 2009, our effective tax rate was 23.1% as compared to 35.2% in fiscal 2008. The decrease in the tax rate is attributed to additions to the Company's unrecognized tax benefits, adjustments of our state net operating losses, increase in the valuation allowance established against specific deferred tax assets, the increase in the relative proportion of non-deductible taxable differences to net book income before minority interest and taxes and the offsetting effect of domestic losses combined with income from our international operations, which experience a lower tax rate.

Net (loss) income. Net loss in fiscal 2009 was $(12.9) million, a decrease of $41.1 million, or 146%, from net income of $28.2 million in fiscal 2008 as a result of the above-mentioned factors.

Our Fiscal 2008 Results as compared to our Fiscal 2007 Results

Net sales. Net sales in fiscal 2008 were $838.5 million, an increase of $30.9 million, or 3.8%, from $807.6 million in fiscal 2007. This increase was primarily driven by organic growth of several of our platforms-golf lifestyle, action sports, Hispanic, swimwear, direct retail and international, offset by an exit of certain private label programs, primarily in the bottoms area.

Royalty income. Royalty income in fiscal 2008 was $25.4 million, an increase of $3.2 million, or 14.4%, from $22.2 million in fiscal 2007. The increases were due primarily to the benefit of new licenses added during the later half of fiscal 2007, including the Perry Ellis fragrance license. Royalty income is derived from agreements entered into by us with our licensees, which average three to five years in length. The vast majority of our license agreements require licensees to pay us a royalty based on net sales and require licensees to pay a guaranteed minimum royalty. Approximately 86% of our royalty income was . . .