10-K/A 1 a2053698z10-ka.txt FORM 10-K/A -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ ANNUAL REPORT ON FORM 10-K/A-2 (MARK ONE) /X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000 OR / / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM ______________ TO ______________ COMMISSION FILE NUMBER 1-11805 ------------------------ DONNA KARAN INTERNATIONAL INC. (Exact name of registrant as specified in its charter) DELAWARE 13-3882426 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 550 SEVENTH AVENUE NEW YORK, NEW YORK 10018 (Address of principal executive office) (zip code)

REGISTRANT'S TELEPHONE NUMBER, (INCLUDING AREA CODE): (212) 789-1500 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: NONE ------------------------ Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes /X/ No / / Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. / / The aggregate market value of Registrant's Common Stock held by nonaffiliates as of March 28, 2001 was $101,872,962 based on 11,194,831 such shares outstanding on such date and the closing sales price for the Common Stock on such date of $9.10 as reported on the New York Stock Exchange. As of March 28, 2001, the Registrant had 22,253,254 shares of Common Stock outstanding.* ------------------------ * Does not include 18 shares of Class A Common Stock, par value $.01 per share, and two shares of Class B Common Stock, par value $.01 per share, outstanding as of such date. -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- The following Items of the Company's Annual Report on Form 10-K for the year ended December 31, 2000 are hereby amended and, as so amended, are restated below in their entirety; Item 3. Legal Proceedings; Item 6. Selected Financial Data; Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations; and Item 14. Exhibit, Financial Statements, Schedules and Reports on Form 8-K. ITEM 3. LEGAL PROCEEDINGS In December 2000, several putative class actions were filed in state court in Delaware and New York in connection with the LVMH Merger Offer. The actions filed in Delaware Chancery Court (New Castle County) are captioned: HARBOR FINANCE PARTNERS V. DONNA KARAN, ET AL., C.A. No. 18559-NC; DONNA HOUGHTON V. DONNA KARAN, ET AL., C.A. No. 18566-NC; DANIEL ORINGER V. DONNA KARAN, ET AL., C.A. No. 18567-NC; PHIL DORFMAN V. DONNA KARAN, ET AL., C.A. No. 18568-NC; E. JANET ALLRED V. DONNA KARAN, ET AL., C.A. No. 18569-NC; and FREDERICK V. MAUER V. DONNA KARAN, ET AL., C.A. No. 18574-NC. The actions filed in New York Supreme Court are captioned: ALICE BERMAN V. DONNA KARAN INTERNATIONAL INC., ET AL., Index No. 125465/00; HARBOR FINANCE PARTNERS V. DONNA KARAN, ET AL., Index No. 605638/00; and ROLLING INVESTOR GROUP INC. V. DONNA KARAN INTERNATIONAL INC., ET AL., Index No. 600032/01 (the actions filed in New York and Delaware are collectively referred to as the "LVMH Actions"). All of the complaints name the Company, Donna Karan, Stephan Weiss, and John Idol as defendants. Two of the complaints also name the Company's outside Board members as defendants and three of the complaints also name LVMH as a defendant. None of the lawsuits specifies any amount of damages sought and, therefore, it is not practicable to estimate a range of possible loss in connection with this litigation. The LVMH Actions allege, INTER ALIA, that the $8.50 price initially offered by LVMH to purchase the Company's common stock is inadequate, that the individual defendants breached their fiduciary duties in connection with the LVMH Merger Offer, and that Donna Karan and Stephan Weiss furthered their own interests, at the expense of the Company's interests, in allegedly negotiating with LVMH concerning the proposed sale of the Company to LVMH. Following the commencement of the LVMH Actions, counsel for the Company and the other defendants entered into (i) a stipulation with counsel for plaintiffs in the actions filed in New York staying such actions and providing that the outcome of those actions will be governed by the outcome of the actions filed in Delaware; and (ii) a stipulation with counsel for plaintiffs in the actions filed in Delaware providing that such actions will be consolidated and that defendants need not respond to the individual complaints pending the filing of a consolidated amended complaint. No consolidated amended complaint has been filed and discovery has not commenced. The Company is also involved from time to time in routine legal matters and litigation incidental to its business. While the outcome of these matters, as well as the LVMH Actions, could have a material adverse effect on the Company's results of operations and cash flows in the period in which such outcome is determined, in the Company's opinion, the results of these matters are not expected to have a material effect on the Company's financial position or results of operations. Accordingly, no reserve for the outcome of these matters has been recorded in the Company's financial statements as of December 31, 2000. 2 ITEM 6. SELECTED FINANCIAL DATA The following selected financial data should be read in conjunction with the Company's Financial Statements and the notes thereto and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included elsewhere herein.

------------------------ (1) Included in the financial statements for the fiscal year ended January 2, 2000 is a one-time recognition of deferred revenue amounting to $5.0 million, relating to the ELI beauty license consummated in fiscal 1997. (2) Included in the financial statements for the fiscal year ended December 31, 2000 are credits of $1.6 million related to previously recorded restructuring charges that were determined to be no longer necessary. This amount is included as follows: $0.8 million as cost of sales; $0.6 million as selling, general and administrative expenses; and $0.2 million as restructuring credits. Included in the financial statements for the fiscal year ended January 2, 2000 are restructuring and other non-recurring charges of $11.0 million as follows: $0.8 million as cost of sales; $6.1 million as selling, general and administrative expenses; and $4.1 million as restructuring charges. The restructuring charges are recorded net of $1.4 million of prior year's restructuring charges that were determined to be no longer necessary. 3 (3) Included in the financial statements for the fiscal year ended December 28, 1997 are restructuring charges, other charges, primarily nonrecurring, and operating losses aggregating $61.5 million as follows: restructuring charges of $8.6 million; $21.1 million related to the wind-down of the Company's beauty business (net of a $2.2 million gain in connection with the consummation of this transaction) of which $11.7 million is recorded as cost of sales, $10.9 million is recorded as sales returns and $0.7 million is recorded as selling, general, and administrative expenses; $2.3 million of operating losses of the beauty business subsequent to the consummation of this transaction; $12.5 million related to the wind-down of the Company's DKNY JEANS business as a result of the license of the business classified as $9.4 million of cost of sales and $3.1 million of selling, general and administrative expenses; and, $17.0 million of other charges related to the realignment of a retail and distribution arrangement, additional severance costs, and other costs related to strategic initiatives and cost containment, which have been classified as $15.4 million of selling, general and administrative expenses and $1.6 million of cost of sales. (4) Included in the financial statements for the fiscal year ended December 31, 2000 were $2.4 million in expenses related to the LVMH Merger Offer, which have been classified as selling, general and administrative expenses. (5) Included in selling, general and administrative expenses for the fiscal year ended December 29, 1996 are one-time charges for bonuses relating to the Company's initial public offering (the "Offering") of $5.3 million, the award of 105,100 shares of common stock to certain employees pursuant to the Company's 1996 Stock Incentive Plan which amounted to $2.5 million, and $3.2 million related to the purchase of all sales and marketing plans, patterns, samples, fabrics and other materials developed by a former licensee in connection with the termination of a license agreement. (6) On March 31, 1995, the Company sold 70% of its interest in the operations of Donna Karan Japan to a nonaffiliated party. Subsequent to the sale, the Company accounted for its remaining 30% interest in the operations of Donna Karan Japan using the equity method of accounting. Equity in earnings (loss) of affiliate amounted to ($0.1) million, $1.4 million and $3.1 million for the quarter ended March 30, 1998 and fiscal 1997 and 1996, respectively. An agreement with Donna Karan Japan provides for a management fee payable to the Company based upon net sales of Donna Karan Japan, which amount is included as an offset against selling, general and administrative expenses. In March 1998, the Company and the nonaffiliated party sold all of their outstanding shares in Donna Karan Japan to a Japanese public company. See Note 6 in the notes to financial statements elsewhere herein. (7) The provision for income taxes for the fiscal years ended December 31, 2000 and January 2, 2000 are net of $6.0 million and $4.0 million reductions, respectively, in a previously recorded valuation allowance due to the recognition of certain deferred tax assets. The benefit for income taxes for the fiscal year ended December 28, 1997 is net of a $24.0 million valuation allowance which was recorded due to the inherent uncertainties in estimating future taxable income (see Note 14 in the notes to financial statements elsewhere herein). The provision for income taxes for the fiscal year ended December 29, 1996 includes a $19.0 million tax benefit which was recorded by the Company concurrent with becoming subject to Federal and additional state income taxes. (8) Options outstanding during 1997 and 1996 were not included in the calculation of earnings per share because the effect would be antidilutive. Net income per common share for the year ended December 29, 1996 is based upon 10,612,934 shares of common stock outstanding for the period from January 1, 1996 to the date of our initial public offering in July 1996, and 21,468,034 shares of common stock outstanding subsequent to our initial public offering. 4 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW The Company's business is comprised of wholesale, licensing and retail activities. The following table is a comparative summary of the Company's results of operations for the fiscal years ended December 31, 2000 ("fiscal 2000"), January 2, 2000 ("fiscal 1999"), and January 3, 1999 ("fiscal 1998") and reflects the basis of presentation described in Note 1 in the notes to financial statements included elsewhere herein. The Company utilizes a 52- or 53-week fiscal year ending on the Sunday nearest December 31. Fiscal 2000 and fiscal 1999 results include 52 weeks as compared to 53 weeks in fiscal 1998.

SIGNIFICANT TRANSACTIONS In December 2000, the Company announced that it had received a proposal from LVMH to enter into merger negotiations to acquire all of the outstanding stock of the Company for a purchase price of $8.50 per share in cash. On April 2, 2001, the Company and LVMH announced that they had entered into a Merger Agreement, which sets forth the terms and conditions of the proposed acquisition of the Company by LVMH. Pursuant to the Merger Agreement, an indirect wholly-owned subsidiary of LVMH will be merged with and into the Company and the Company will survive the Merger as an indirect subsidiary of LVMH. The Merger is subject to the approval of the stockholders of the Company and the satisfaction of other customary closing conditions, including the receipt of required regulatory approvals. During fiscal 2000, the Company incurred $2.4 million in expenses related to the LVMH Merger Offer, which have been classified as selling, general and administrative expenses (see Note 13 in the notes to financial statements contained elsewhere herein). In December 2000, several putative class actions were filed in state court in Delaware and New York (collectively the "LVMH Actions") in connection with the LVMH Merger Offer. All of the complaints name the Company, its Chairman, its Vice Chairman and its Chief Executive Officer as defendants. Two of the complaints also name the Company's outside Board members as defendants and three of the complaints also name LVMH as a defendant. None of the lawsuits specifies any amount of damages sought and, therefore, it is not practicable to estimate a range of possible loss in connection with this litigation. The LVMH Actions allege, INTER ALIA, that the $8.50 price initially offered by LVMH to purchase the Company's common stock is inadequate, that the individual defendants breached their fiduciary duties in connection with the LVMH Merger Offer and that the Chairman and Vice Chairman of the Company furthered their own interests, at the expense of the Company's interests, in allegedly negotiating with LVMH concerning the proposed sale of the Company to LVMH. Following the commencement of the LVMH Actions, counsel for the Company and the other defendants entered into (i) a stipulation with counsel for plaintiffs in the actions filed in New York staying such actions and providing that the outcome of those actions will be governed by the outcome of the actions filed in Delaware; and (ii) a stipulation with counsel for plaintiffs in the actions filed in Delaware providing that such actions will be consolidated and that defendants need not respond to the 5 individual complaints pending the filing of a consolidated amended complaint. No consolidated amended complaint has been filed and discovery has not commenced. The Company is also involved from time to time in routine legal matters and litigation incidental to its business. While the outcome of these matters, as well as the LVMH Actions, could have a material adverse effect on the Company's results of operations and cash flows in the period in which such outcome is determined, in the Company's opinion, the results of these matters are not expected to have a material effect on the Company's financial position or results of operations. Accordingly, no reserve for the outcome of these matters has been recorded in the Company's financial statements as of December 31, 2000. In December 1999, the Company consummated the grant to LCI of the exclusive rights to design, produce, market and sell a new line of women's career and casual sportswear in the United States and Canada, which line launched for the Spring 2001 season under the CITY DKNY label. Under the agreement, LCI is obligated to pay the Company a royalty equal to a percentage of net sales of such licensed product. Upon consummation of the transaction, the Company received $6.4 million in prepaid royalties, which will be recognized as earned as LCI ships the licensed product. See Note 7 in the notes to financial statements contained elsewhere herein. In November 1999, the Company announced that it was implementing a series of strategic initiatives intended to further reduce costs and streamline operations, and focus on key business areas. As a result, the Company recorded restructuring and other non-recurring charges of $11.0 million, of which $0.8 million was classified as cost of sales, $6.1 million as selling, general and administrative expenses and $4.1 million as restructuring charges. The strategic initiatives included consolidating the Donna Karan New York and DKNY women's divisions and integrating the marketing and public relations functions into one unit, resulting in a charge of $2.6 million, closing seven non-performing outlet stores, resulting in a charge of $2.2 million, recognizing an impairment of under-performing retail stores, resulting in a charge of $3.7 million, the write-off of certain under-performing co-op shops, resulting in a charge of $1.1 million, and certain other non-recurring charges of $1.4 million. The Company anticipates achieving annual savings of approximately $6.0 million as a result of these strategic initiatives. See Note 9 in the notes to financial statements contained elsewhere herein. In January 1999, the Company acquired the assets of three free-standing retail stores in the United Kingdom which were previously owned and operated by a Singapore-based company, for approximately $17.4 million. The aggregate purchase price was financed with working capital and the issuance of subordinated notes payable which mature in January 2002. See Note 11 in the notes to financial statements contained elsewhere herein. In January 1998, the Company granted LCI the exclusive, long-term rights to the DKNY JEANS and DKNY ACTIVE trademarks for apparel products and to source, market, distribute, and sell both collections in the Western Hemisphere. In connection therewith and with the sale to LCI of certain usable inventory and other assets relating to the existing business, the Company received $30.0 million in fiscal 1997 and receives additional royalties from LCI based on sales of such jeanswear and related apparel and activewear products. Of this $30.0 million amount, $8.4 million represented prepaid royalties and was recognized as earned as LCI shipped the licensed product, and $21.6 million represented an up-front payment in exchange for the exclusive rights granted and is being amortized on a straight-line basis into income over the term of the agreement. (See Note 7 in the notes to financial statements contained elsewhere herein.) In connection with the transaction with LCI, in fiscal 1997 the Company recorded a loss of $12.5 million, which represented the writedown of inventory to net realizable value, as well as other costs necessary to exit its existing jeans business. The Company sells its products in Japan through Donna Karan Japan, a Japanese corporation. In March 1998, the Company and a nonaffiliated party sold all of their outstanding shares in Donna Karan Japan to a Japanese public company. At the same time, Donna Karan Japan was granted a 6 16-year exclusive license to import, manufacture, license, and/or distribute DONNA KARAN NEW YORK and DKNY products in Japan, with certain exceptions. In addition, Donna Karan Japan was granted the exclusive right to develop and operate a total of 12 DONNA KARAN NEW YORK and DKNY retail boutiques in Japan over the term of the agreement. Upon consummation of this transaction, the Company received $15.9 million. The Company receives a royalty on net sales of licensed products and a servicing fee on net sales of DONNA KARAN NEW YORK products imported by Donna Karan Japan. See Note 6 in the notes to financial statements contained elsewhere herein. RESULTS OF OPERATIONS NET REVENUES Net revenues in fiscal 2000 increased $0.9 million to $662.7 million as compared to fiscal 1999 and increased $39.2 million, or 6.3%, to $661.8 million for fiscal 1999 compared to fiscal 1998. Excluding the one-time recognition of $5.0 million of deferred revenue in fiscal 1999 related to the ELI beauty license consummated in fiscal 1997 (the "licensing credit"), net revenues increased $5.9 million in fiscal 2000 as compared to the prior year. Excluding the licensing credit in fiscal 1999 and certain sales of merchandise to LCI relating to the DKNY JEANS license amounting to $26.8 milion in fiscal 1998, net revenues in fiscal 1999 increased $61.0 million, or 10.2%, as compared to the prior year. In fiscal 2000, net revenues increased due to a $10.1 million, or 28.8%, increase in licensing revenues substantially offset by a $3.6 million, or 2.8%, decrease in retail sales and a $5.6 million, or 1.1% decrease in wholesale revenues. In fiscal 1999, net revenues increased due to a $16.7 million, or 90.4%, increase in licensing revenues and a $37.1 million, or 39.7%, increase in retail sales, partially offset by a $14.6 million, or 2.9%, decrease in wholesale revenues. Wholesale revenues in fiscal 2000 decreased $5.6 million, or 1.1%, to $490.7 million as compared to $496.3 million in the prior year. The decrease was primarily attributable to a decrease in revenues in the women's and accessories businesses, partially offset by an increase in the menswear business. Wholesale revenues in fiscal 1999 decreased $14.6 million, or 2.9%, to $496.3 million as compared to $510.9 million in the prior year. Exclusive of certain sales of merchandise to LCI relating to the DKNY JEANS license in fiscal 1998, wholesale revenues increased $12.2 million, or 2.5%. The increase was primarily attributable to an increase in sales from accessories and the menswear business, partially offset by a decrease in sales from the women's business and elimination of sales in the DKNY KIDS business which was licensed in 1998. Licensing revenues in fiscal 2000 increased 28.8% to $45.2 million in fiscal 2000 from $35.1 million in fiscal 1999. Exclusive of the one-time recognition of the licensing credit in fiscal 1999, licensing revenues increased $15.1 million, or 50.1%. The increase was primarily due to new product licenses, as well as growth under certain existing license agreements. Licensing revenues in fiscal 1999 increased 90.4%, from $18.5 million in fiscal 1998 to $35.1 million in fiscal 1999. Exclusive of the one-time recognition of the licensing credit in fiscal 1999, licensing revenues increased $11.7 million or 63.3%. The increase was primarily due to royalties from: the Company's regional Japanese license; DKNY JEANS and ACTIVE license; and, growth in sales of certain other new and existing licensed products. Retail sales in fiscal 2000 decreased $3.6 million, or 2.8%, to $126.8 million as compared to $130.4 million in the prior year. The decrease was primarily attributable to a 9.7% decrease in comparable store sales and a decrease in the number of outlet stores, partially offset by an increase in the number of full-price free-standing stores. Retail sales in fiscal 1999 increased $37.1 million, or 39.7%, to $130.4 million as compared to $93.3 million in the prior year. The increase was primarily attributable to: the opening and acquisition of full-price free-standing stores; an increase in the number of outlet stores; and a 5.0% increase in comparable store sales. 7 GEOGRAPHIC Net revenues in the United States in fiscal 2000 decreased approximately 6.0% to $434.8 million as compared to fiscal 1999 and increased approximately 9.4% to $462.8 million in fiscal 1999 as compared to fiscal 1998. Exclusive of: the one-time recognition of the licensing credit in fiscal 1999; certain sales of merchandise to LCI relating to the DKNY JEANS license in fiscal 1998; and sales of the DKNY KIDS business which was licensed in fiscal 1998, net revenues in the United States increased $65.8 million or 16.8%, in fiscal 1999 as compared to fiscal 1998. Net revenues in Japan in fiscal 2000 decreased 20.6% to $22.1 million as compared to fiscal 1999 and decreased 40.2% to $27.8 million in fiscal 1999 as compared to fiscal 1998. In both fiscal 2000 and 1999, the decrease was primarily attributable to the planned decrease in wholesale revenues to Japan, as a result of the Company's licensing agreement with DKJ. See Note 6 in the notes to financial statements. Net revenues for other geographic areas increased 20.1% to $205.7 million in fiscal 2000 as compared to fiscal 1999 and increased 11.8% to $171.2 million in fiscal 1999 as compared to fiscal 1998. The increase in fiscal 2000 was primarily attributable to increased sales in the Company's International DKNY JEANS business. The increase in fiscal 1999 was primarily attributable to the Company's free-standing retail stores in the United Kingdom. RESTRUCTURING CHARGES (CREDITS), NET AND OTHER NON-RECURRING CHARGES In fiscal 1999 the Company recorded restructuring and other non-recurring charges in the amount of approximately $11.0 million primarily related to strategic initiatives including: division consolidations, asset write-downs, personnel related expenses, the closing of non-performing outlet stores and certain other non-recurring charges. These charges were classified as $0.8 million in cost of sales, $6.1 million in selling, general and administrative expenses and $4.1 million in restructuring charges. Additionally, in fiscal 2000 and fiscal 1999 the Company determined that certain amounts related to its prior restructuring were no longer necessary. Accordingly, the Company credited into income $1.6 million in fiscal 2000 and $1.4 million in fiscal 1999 related to these restructuring charges. The credit in fiscal 2000 was classified as $0.8 million in cost of sales, $0.6 million in selling, general and administrative expenses and $0.2 million in restructuring charges. Of the total amount, $1.0 million was a credit from the 1999 restructure, while $0.6 related to a restructure charge that was taken in 1997. The credit in 1999 was classified as restructuring charges (credits). GROSS PROFIT Gross profit in fiscal 2000 was 32.9% of net revenues as compared to 31.9% of net revenues in fiscal 1999 and 24.7% of net revenues in fiscal 1998. Excluding the $0.8 million in non-recurring charges that were determined to be no longer necessary in fiscal 2000, and the one-time recognition of the licensing credit of $5.0 million and the non-recurring charges of $0.8 million in fiscal 1999, gross profit margin for fiscal 2000 increased to 32.8% as compared to 31.5% in fiscal 1999. The increase in fiscal 2000 was primarily related to a change in the revenue mix to higher margin licensing business and full-price retail stores. Excluding the one-time recognition of the credit of $5.0 million and the restructuring charge of $0.8 million in fiscal 1999 and the impact of the DKNY JEANS sales to LCI in fiscal 1998, gross profit margin for fiscal 1999 increased to 31.5% as compared to 25.9% in fiscal 1998. The increase in fiscal 1999, exclusive of the credit and the effect of the DKNY JEANS sales to LCI, was primarily attributable to a change in the revenue mix to higher margin licensing business and full-price retail stores. 8 SELLING, GENERAL AND ADMINISTRATIVE EXPENSES Selling, general and administrative expenses were 29.2% of net revenues in fiscal 2000, as compared with 29.3% and 24.4% of net revenues in fiscal 1999 and fiscal 1998, respectively. Exclusive of the credit in fiscal 1999 and the effect of the DKNY JEANS sales to LCI in fiscal 1998, selling, general and administrative expenses were 29.5% and 25.5% of net revenues for fiscal 1999 and 1998, respectively. In fiscal 2000, selling, general and administrative expenses include $2.4 million in transaction costs related to the LVMH Merger Offer, as well as the reversal of $0.6 million in restructuring and non-recurring charges that were deemed to be no longer necessary. Exclusive of these items, selling, general and administrative expenses were $191.4 million, or 28.9% of net revenues. In fiscal 1999, selling, general and administrative expenses include non-recurring charges of $6.1 million related to strategic initiatives. Exclusive of the credit and the non-recurring charges, selling, general and administrative expenses were $187.7 million, or 28.6% of net revenues. The increase in fiscal 2000 and fiscal 1999, as compared to fiscal 1998 was primarily a result of the growth of the Company's full-price free-standing retail stores and certain initiatives in the wholesale segment, as well as increased costs associated with the Company's ongoing licensing efforts. OPERATING INCOME Operating income increased $10.2 million to $24.9 million in fiscal 2000 as compared to fiscal 1999 and increased $12.4 million to $14.7 million in fiscal 1999 as compared to $2.3 million in fiscal 1998. Exclusive of the transaction costs and the reversal of the restructuring and non-recurring charges, operating income in fiscal 2000 was $25.7 million. Exclusive of the credit, and net restructuring and other charges, primarily nonrecurring, operating income in fiscal 1999 was $19.3 million. Operating income as a percent of net revenues for fiscal 2000 was 3.8%, as compared to 2.2% and 0.4%, in fiscal 1999 and fiscal 1998, respectively. Exclusive of the non-recurring items, operating income as a percent of net revenues for fiscal 2000 and fiscal 1999 was 3.9% and 2.9%, respectively. In fiscal 2000, the increase in operating income is attributable to increased operating profit in the licensing segment, decreased operating losses in the retail segment, and increased operating profit in the wholesale segment as well as the absence of restructuring and other non-recurring charges. In fiscal 1999, the increase in operating income is attributable to increased operating profit in the licensing segment, decreased operating losses in the retail segment, and increased operating profit in the wholesale segment. INTEREST EXPENSE, NET Interest expense, net of interest income, decreased $1.5 million to $2.6 million in fiscal 2000 as compared to fiscal 1999 and increased $2.0 million to $4.1 million in fiscal 1999 from $2.1 million in fiscal 1998. In fiscal 2000, the decrease is primarily attributable to lower borrowings during the first and second quarters of fiscal 2000. In fiscal 1999, the increase is primarily attributable to an increase in average borrowings during the year. PROVISION FOR INCOME TAXES The provision for income taxes represents Federal, foreign, state and local income taxes. The provision for income taxes for fiscal 2000, 1999 and 1998 was $3.2 million, $0.6 million and $0.1 million, respectively. In fiscal 2000 and fiscal 1999, the Company recognized a tax credit of $6.0 million and $4.0 million, respectively, relating to an adjustment of its valuation allowance. Prior to the tax credit, the provision was $9.2 million and $4.6 million, in fiscal 2000 and fiscal 1999, respectively. Realization of the future tax benefits related to any deferred tax assets is dependent primarily on the Company's ability to generate sufficient taxable income within the net operating loss carryforward period. Due to the inherent uncertainties in estimating future taxable income, in fiscal 1997 the Company provided for a valuation allowance of $24.0 million, of which $6.0 million and 9 $4.0 million were determined to be no longer required in fiscal 2000 and 1999, respectively, based on taxable income in those years. As of December 31, 2000, the remaining valuation allowance was $14.0 million. NET INCOME Net income was $19.2 million in fiscal 2000, as compared to $10.0 million in fiscal 1999 and $0.1 million in fiscal 1998. Exclusive of the transaction costs, the reversal of the restructuring and non-recurring charges, and the reduction of the valuation allowance, net income in fiscal 2000 was $13.7 million. Exclusive of the non-recurring and unusual items, and the reduction of the tax valuation allowance, net income in fiscal 1999 was $8.6 million. In fiscal 2000, the increase was primarily attributable to increased gross profit margins. In fiscal 1999, the increase was primarily attributable to increased net revenues and gross profit margins. NET INCOME (LOSS) PER COMMON SHARE Net income per common share on a diluted basis was $0.87 per share in fiscal 2000, as compared to $0.46 per share in fiscal 1999, and $0.01 per share in fiscal 1998. LIQUIDITY AND CAPITAL RESOURCES The Company's principal sources of funds have historically been, and are expected to continue to be, cash flow from operations and borrowings under its revolving credit facility. The Company's principal need for funds is to finance working capital (principally inventory and receivables), capital expenditures (including the construction of new shop-in-shops and outlet and full-price free-standing retail stores), and investments in the start-up of new collections and the extension of existing collections. At December 31, 2000, the Company had cash and cash equivalents of $15.5 million compared with $15.0 million at January 2, 2000. In February 2000, the Company amended the $150.0 million revolving Credit Facility (the "Facility") in place at January 2, 2000 and extended its term to expire on May 1, 2003 (the Facility was further amended in August 2001. See Note 19 in the notes to financial statements contained elsewhere herein). The Facility includes a $90.0 million subfacility for letters of credit and a $30.0 million subfacility for loans in certain foreign currencies. Borrowings under the Facility bear interest at a fixed spread over the lead bank's prime rate or, at the option of the Company, at a fixed spread over the LIBOR and are limited to a borrowing base calculated on eligible accounts receivable, inventory, and letters of credit. The Facility is secured by accounts receivable and inventory of the Company and a pledge of all the equity interests of the subsidiaries of the Company. The Facility includes financial and other restrictive covenants, including a limitation on additional debt which can be incurred, and on the amount of dividends which the Company can pay. The Facility is used for working capital requirements and general corporate purposes. At December 31, 2000 and January 2, 2000, there were no direct borrowings outstanding under the Facility. In connection with the Company's acquisition of three stores in the United Kingdom in fiscal 1999, the Company issued subordinated notes payable which are due January 2, 2002. See Note 11 in the notes to financial statements. The Company had a $6.7 million note payable to a principal stockholder as of December 28, 1997, which was repaid by the Company during the first quarter of 1998. The Company has supplemented its cash flow from operations with bank lines of credit and proceeds from its license and strategic alliances. In December 1999, the Company received from LCI $6.4 million related to the grant of rights for the production, marketing and sale of a new line of career and casual sportswear for women, which launched in Spring 2001 under the CITY DKNY label. In March 1998, the Company received $15.2 million related to a 16-year exclusive license to import, manufacture, license and/or distribute DONNA KARAN NEW YORK and DKNY products in Japan, with 10 certain exceptions. In January 1998, the Company received from LCI $30.0 million related to the granting of rights for the marketing, distribution, and sale of DKNY JEANS and ACTIVEWEAR apparel products in the Western Hemisphere. In November 1997, the Company received from ELI $25.0 million related to the grant of worldwide rights for the manufacturing, marketing, distribution and sale of beauty and beauty-related products and the sale of certain assets relating to the existing business. Net cash provided by operating activities in fiscal 2000 was $6.9 million, as compared to $27.8 million in fiscal 1999, and $39.5 million in fiscal 1998. The fiscal 2000 decrease primarily reflects higher net income and a decrease in net accounts receivable, partially offset by higher inventories, prepaid expenses and other current assets, and deposits and other noncurrent assets, as well as a lower increase in accounts payable, accrued expenses and other current liabilities. The fiscal 1999 decrease primarily reflects the Company's recording of greater deferred income associated with the Company's licensing agreements in the prior-year, a greater increase in accounts receivable, deferred taxes, and deposits and other current assets, partially offset by an increase in accounts payable, accrued expenses and other current liabilities, a lesser decrease in inventory and an increase in net income. Net cash used for investing activities in fiscal 2000 was $6.4 million, as compared to $20.2 million in fiscal 1999 and $7.5 million in fiscal 1998. Net cash used for investing activities primarily reflects capital expenditures which amounted to $6.4 million, $11.0 million and $8.2 million in fiscal 2000, 1999 and 1998, respectively. Spending for all three periods primarily reflects expenditures for equipment, machinery, computers, office furniture, leasehold improvements, outlet stores, and full-price free-standing retail stores. Additionally, in fiscal 1999, the Company used cash of $9.2 million in the acquisition of three free-standing stores in the United Kingdom. See Note 11 in the notes to financial statements. As of December 31, 2000, the Company had outstanding commitments for capital expenditures of approximately $2.5 million. The Company borrows on a seasonal basis for working capital and other purposes. In fiscal 2000, the Company had $33 thousand in proceeds from the exercise of stock options. In fiscal 1999, the Company used no net cash in financing activities. Net cash used for financing activities of $29.1 million in fiscal 1998 primarily relates to the repayment of amounts outstanding under the Company's Facility and the repayment of a note payable to a principal stockholder. The Company uses derivative financial instruments for the purpose of managing its exposure to adverse fluctuations in foreign currency exchange rates. The Company does not utilize derivative financial instruments for trading or other speculative purposes. The Company conducts business in many foreign currencies. As a result, it is subject to foreign currency exchange rate risk due to the effects that foreign exchange rate movements of these currencies, principally the Euro, Italian lire, U.K. pound, and Dutch guilder, have on the Company's costs and cash flows. The Company addresses its risks through a program of risk management, the principal objective of which is to minimize the effect of foreign exchange rate movements on the Company's operating activities. The Company enters into forward exchange contracts to hedge purchases, accounts receivable and accounts payable denominated in foreign currencies for periods consistent with its identified exposures. Gains and losses related to qualifying hedges of these exposures are deferred and recognized in operating income when the underlying hedged transaction occurs. The Company from time-to-time also enters into purchased foreign currency options to hedge anticipated transactions where there is a high probability that anticipated exposures will materialize. Any gains or losses realized on such options that qualify as hedges are deferred and recognized in operating income when the underlying hedged transaction occurs. Premiums on foreign currency options are amortized over the period being hedged. Foreign currency transactions that do not qualify as hedges are marked-to-market on a current basis with gains and losses recognized through income and reflected in operating expenses. In addition, any previously deferred gains and losses on hedges that are terminated prior to the transaction date are 11 recognized in current income when the hedge is terminated. The contracts have varying maturities with none exceeding 24 months. As a matter of policy, the Company enters into contracts with parties which are major international banks and financial institutions that have at least an "A" (or equivalent) credit rating. The Company's exposure to credit loss in the event of nonperformance by any of the counterparties is limited to only the recognized, but not realized, gains attributable to the contracts. Management believes risk of loss is remote, and in any event, would be immaterial. Costs associated with entering into such contracts have not been material to the Company's financial results. At December 31, 2000, the Company had contracts to exchange foreign currencies in the form of forward exchange contracts in the amount of $131.2 million. The Company extends credit to its customers, including those who have accounted for significant portions of the Company's gross revenues. Accordingly, the Company may have significant exposure for accounts receivable from its customers, or group of customers under common ownership. The Company has credit policies and procedures, which it uses to manage its credit risk. To further manage its credit risk, the Company insures its accounts receivable under credit risk insurance policies, subject to certain limitations. The Company anticipates that it will be able to satisfy its ongoing cash requirements for the foreseeable future, primarily with cash flow from operations, supplemented by borrowings under its Facility and, from time-to-time, amounts received in connection with strategic transactions, including licensing arrangements. Events that may impact this include, but are not limited to, future events that may have the effect of reducing available cash balances (such as unexpected operating losses or increased capital or other expenditures), as well as future circumstances that might reduce or eliminate the availability of external financing. DERIVATIVE FINANCIAL INSTRUMENTS The Company conducts business in many foreign currencies. As a result, it is subject to foreign currency exchange rate risk due to the effects that foreign exchange rate movements of these currencies have on the Company's costs and on the cash flows which it receives from its foreign subsidiaries. The Company believes that currently it has no other material market risk exposures. The Company addresses its risks through a controlled program of risk management that includes the use of derivative financial instruments. The Company primarily enters into foreign currency forward exchange contracts to reduce the effects of fluctuating foreign currency exchange rates, and accordingly categorizes these instruments as entered into for purposes other than trading. See Note 3 in the notes to financial statements. The Company uses a value-at-risk model to assess the market risk of its derivative financial instruments. Value-at-risk represents the potential losses for an instrument or portfolio from adverse changes in market factors, for a specified time period and confidence level. The Company estimates value-at-risk across all of its derivative financial instruments using a model with historical volatilities and correlations calculated over the past 250-day period. The Company's measured value-at-risk from holding such derivative instruments, using a variance/co-variance model with a 95 percent confidence level, assuming normal market conditions at December 31, 2000 was approximately $3.8 million. The Company's calculated value-at-risk exposure represents an estimate of reasonably possible net losses that would be recognized on its portfolio of derivative financial instruments assuming hypothetical movements in future market rates and is not necessarily indicative of actual results which may or may not occur. It does not represent the maximum possible loss nor any expected loss that may occur, since actual future gains and losses will differ from those estimated, based upon actual fluctuations in market rates, operating exposures and the timing thereof, and changes in the Company's portfolio of derivative financial instruments during the year. 12 The Company believes however, that any loss incurred would be offset by the effects of currency movements on the respective underlying transaction for which the hedge is intended. OUTLOOK The Company continues to invest in additional full-price free-standing retail stores, expand its licensing activities, implement its strategic plan, and respond to external market conditions, and as a result, selling, general and administrative expenses may increase as a percent of net revenues. Additionally, the Company is continuing its strategy of identifying and pursuing new licensing opportunities, which are intended to be complementary to its existing product lines. The Company believes that this strategy will enable it to expand its product offerings as well as enter into new international markets. Through these strategic alliances and the roll-out of existing licenses, the Company anticipates increased licensing revenues as a result of extending and broadening the reach of its brands and products. However, the Company's ability to maintain and increase licensing revenue is dependent upon certain factors not within the Company's control, including the retail performance of products sold by licensees. Lastly, as the Company diversifies its revenue mix, lessening the Company's dependency on any one particular business, further declines in the women's wholesale business may occur. In fiscal 2000 and fiscal 1999, revenue from sales to Asia represented approximately 6.7% and 8.1%, respectively, of the Company's wholesale net revenues including approximately 3.4% and 4.9% to Japan, respectively, and approximately 3.3% and 3.2%, respectively, to other areas in Asia. The Company has continued to experience a declining sales trend in fiscal 2000 as compared to fiscal 1999, which the Company believes was due, in part, to the general economic conditions in Asia. SEASONALITY OF BUSINESS The Company's business varies with general seasonal trends that are characteristic of the apparel and retail industries, and it generally experiences lower net revenues and net income (or higher net losses) in the first half of each fiscal year, as compared to the second half of its fiscal year. Accordingly, the Company's outstanding borrowings under its revolving credit facility, historically, have been lower on or about its fiscal year end. On a quarterly basis, the Company's operations may vary with production and shipping schedules, the introduction of new products, and variation in the timing of certain holidays from year to year. The Company historically has experienced lower net revenues and operating income in the second quarter than in other quarters due to (i) lower demand among retail customers typical of the apparel industry, and (ii) certain expenses that are constant throughout the year being relatively higher as a percentage of net revenues. As the Company's business continues to evolve and as it increases its free-standing full price retail business, the Company's operating performance may not reflect the typical seasonality of the apparel industry. EURO CONVERSION As part of the European Economic and Monetary Union (EMU), a single currency (the "Euro") will replace the national currencies of most of the European countries in which the Company conducts business. The conversion rates between the Euro and the participating nations currencies were fixed irrevocably as of January 1, 1999, with the participating national currencies being removed from circulation between January 1 and June 30, 2002 and replaced by Euro notes and coinage. During the "transition period" from January 1, 1999 through December 31, 2001, public and private entities as well as individuals may pay for goods and services using either checks, drafts, or wire transfers denominated in Euro or the participating country's national currency. Under the regulations governing the transition to a single currency, there is a "no compulsion, no prohibition" rule which states that no one is obliged to use the Euro until the notes and coinage have 13 been introduced on January 1, 2002. The Company is currently conducting business in both the Euro and the national currencies of the participating nations. Full conversion of operations to the Euro is expected to be completed by the time national currencies are removed from circulation. The anticipated cost related to software and business process conversion to the Euro is currently not expected to be material. ACCOUNTING STANDARDS In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended, which is required to be adopted in fiscal years beginning after June 15, 2000. The Company will adopt the provisions of this Statement effective January 1, 2001. This statements requires that all derivatives be recorded in the balance sheet as either an asset or liability measured at fair value and that changes in fair value be recognized currently in earnings unless specific hedge accounting criteria are met. If the derivative is a hedge, depending on the nature of the hedge, changes in the fair value of derivatives will either be offset against the change in fair value of the hedged assets, liabilities, or firm commitments through earnings or recognized in other comprehensive income until the hedged item is recognized in earnings. The ineffective portion of a derivative's change in fair value will be immediately recognized in earnings. The cumulative effect of adoption of this Statement will not be material to the Company's results of operations or financial condition. 14 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES, AND REPORTS ON FORM 8-K (a) The following documents are filed as part of this report: 1. Financial Statements--See "Index to Financial Statements" 2. Financial Statement Schedule--Schedule II Valuation and Qualifying Accounts and Reserves All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and therefore have been omitted. 3. Exhibits--see "Exhibit Index" (b) The Company filed no reports on Form 8-K during the last quarter of the period covered by this report. 15 DONNA KARAN INTERNATIONAL INC. INDEX TO FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 2000, JANUARY 2, 2000 AND JANUARY 3, 1999

F-1 REPORT OF INDEPENDENT AUDITORS The Board of Directors of Donna Karan International Inc. We have audited the consolidated balance sheets of Donna Karan International Inc. and subsidiaries (the "Company") as of December 31, 2000 and January 2, 2000, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2000. Our audits also included the financial statement schedule listed in the Index at Item 14(a). These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. 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 audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Donna Karan International Inc. at December 31, 2000 and January 2, 2000, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2000, in conformity with accounting principles generally accepted in the United States. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. ERNST & YOUNG LLP New York, New York March 13, 2001, except for Note 18 as to which the date is April 2, 2001, and Note 19 as to which the date is August 14, 2001 F-2 DONNA KARAN INTERNATIONAL INC. STATEMENTS OF INCOME

See notes to financial statements F-3 DONNA KARAN INTERNATIONAL INC. BALANCE SHEETS

See notes to financial statements F-4 DONNA KARAN INTERNATIONAL INC. STATEMENTS OF STOCKHOLDERS' EQUITY

See notes to financial statements F-5 DONNA KARAN INTERNATIONAL INC. STATEMENTS OF CASH FLOWS

See notes to financial statements F-6 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS NOTE 1.--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION The accompanying financial statements include the accounts of Donna Karan International Inc. and subsidiaries ("DKI" or the "Company"). The accompanying financial statements include the results of operations of DKI for the fiscal years ended December 31, 2000, January 2, 2000, and January 3, 1999. All significant intercompany balances and transactions have been eliminated. The equity method of accounting was used for Donna Karan Japan K.K. ("DKJ") since the date the Company sold 70% of its interest to a nonaffiliated party and until March 1998, when the Company and such nonaffiliated party sold all of their remaining outstanding shares to a Japanese public company (see Note 6). The Company's fiscal year consists of the 52- or 53-week period ending on the Sunday nearest December 31, with fiscal 2000 and fiscal 1999 consisting of a 52-week year and fiscal 1998 consisting of a 53-week year. Certain amounts in the financial statements of prior years have been reclassified to conform to the current year presentation. NET INCOME PER COMMON SHARE In accordance with the requirements of Financial Accounting Standards ("SFAS") No. 128, net income per common share amounts ("basic EPS") were computed by dividing net income by the weighted average number of common shares outstanding and contingently issuable shares (which satisfy certain conditions) and excluding any potential dilution. Net income per common share amounts assuming dilution ("diluted EPS") were computed by reflecting potential dilution from the exercise of stock options. SFAS No. 128 requires the presentation of both basic EPS and diluted EPS on the face of the statements of income. Reconciliation between the numerators and denominators of the basic and diluted EPS computations is as follows:

F-7 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) INVENTORIES Inventory is stated at the lower of cost or market, with cost being determined on the first-in, first-out method.

PROPERTY AND EQUIPMENT Property and equipment are carried at cost less accumulated depreciation. Depreciation of machinery, equipment and fixtures, including amounts accounted for under capital leases, is computed using straight-line and accelerated methods based on their estimated useful lives, which range from 5 to 7 years. Leasehold improvements are amortized on a straight-line basis over the lease term, which in certain instances include the anticipated renewal period. The Company's share of the cost of constructing in-store shop displays is capitalized and amortized using the straight-line method over their estimated useful lives of 4 years. At December 31, 2000 and January 2, 2000, the unamortized balance of these costs of $17.5 million and $11.8 million, respectively, was included in "Deposits and other noncurrent assets" in the accompanying balance sheets. Amortization expense of these costs for the years ended December 31, 2000, January 2, 2000 and January 3, 1999 amounted to approximately $6.5 million, $5.1 million and $4.4 million, respectively. Major classes of property and equipment consist of the following:

Depreciation and amortization of property and equipment amounted to $9.0 million, $9.6 million, and $5.5 million for the years ended December 31, 2000, January 2, 2000 and January 3, 1999, respectively. LONG-LIVED ASSETS The Company accounts for long-lived assets, including intangibles, at the lower of amortized cost or fair value, less disposition costs. Whenever events or changes in circumstances have indicated that the carrying amount of assets might not be recoverable, the Company, using its best estimates, reviews for impairment the carrying value of those long-lived assets. In fiscal 1999, the Company identified F-8 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) certain underperforming stores as a result of this review, and recorded a charge of approximately $3.7 million, related to this impairment loss (see Note 9). ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES Accrued expenses and other current liabilities are comprised of the following:

REVENUE RECOGNITION Revenues from merchandise sales are recognized upon shipment of products to the customer or, in the case of sales by Company-owned stores, when payment is received. The Company reports its sales on a net basis, which is computed by deducting from gross sales the amount of anticipated discounts, returns and allowances. Income from licensing agreements is recognized when earned and is included in net revenues. Shipping and handling costs related to merchandise sales are classified as selling, general and administrative expenses. ADVERTISING AND PROMOTION Costs associated with the production of advertising are expensed upon the first showing of the related advertisement, which is generally less than six months after the production costs are incurred. At December 31, 2000 and January 2, 2000, advertising costs totaling $4.3 million and $1.9 million, respectively, were included in "Prepaid expenses and other current assets" in the accompanying balance sheets. Advertising and marketing expenses, including costs related to the Company's Creative Services Department, for the years ended December 31, 2000, January 2, 2000, and January 3, 1999 were $35.8 million, $34.1 million and $31.0 million, respectively. STORE PRE-OPENING COSTS In accordance with Accounting Standards Executive Committee ("AcSec") Statement of Position ("SOP") No. 98-5 "Reporting on the Costs of Start-up Activities," costs associated with the opening or remodeling of stores, such as pre-opening rent and payroll, are expensed as incurred. In fiscal 1999, the Company expensed $1.9 million of costs associated with the opening of its DKNY Flagship store on Madison Avenue in New York City, New York. F-9 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) CASH AND CASH EQUIVALENTS The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. Cash includes approximately $5.7 million and $9.4 million of short-term deposits at December 31, 2000 and January 2, 2000, respectively. STATEMENT OF CASH FLOWS Supplemental disclosures of cash flow information:

FOREIGN CURRENCY TRANSLATION AND TRANSACTIONS For foreign operations, local currencies are considered the functional currency. All assets and liabilities of foreign subsidiaries and affiliates are translated at year-end rates of exchange, while results of operations are translated at weighted average rates of exchange for the year. Unrealized translation gains or losses are generally reported in stockholders' equity as accumulated other comprehensive income. Such adjustments amounted to approximately $0.4 million of unrealized translation losses and $0.2 million of unrealized translation gains in fiscal 2000 and fiscal 1999, respectively. Gains and losses from foreign currency transactions are included in operations. The Company enters into forward exchange contracts and from time-to-time purchases foreign currency options to hedge foreign currency transactions for periods consistent with its identified exposures. These financial instruments are designed to minimize exposure and reduce risk from exchange rate fluctuations in the regular course of business. The Company does not engage in speculation. Gains and losses on foreign exchange contracts which hedge exposures on firm foreign currency commitments are deferred and recognized as adjustments to the bases of those assets. For the years ended December 31, 2000, January 2, 2000 and January 3, 1999, gains and losses on foreign exchange contracts offset gains and losses on the underlying transactions. MANAGEMENT ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses reported in those financial statements. Actual results could differ from those estimates and assumptions. IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin 101 "Revenue Recognition in Financial Statements." The effective date has been deferred pending additional interpretive guidance. Based on current interpretations, no material impact on the Company's Financial Statement is anticipated. F-10 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended, which is required to be adopted in fiscal years beginning after June 15, 2000. The Company will adopt the provisions of this Statement effective January 1, 2001. This Statement requires that all derivatives be recorded in the balance sheet as either an asset or liability measured at fair value and that changes in fair value be recognized currently in earnings unless specific hedge accounting criteria are met. If the derivative is a hedge, depending on the nature of the hedge, changes in the fair value of derivatives will either be offset against the change in fair value of the hedged assets, liabilities, or firm commitments through earnings or recognized in other comprehensive income until the hedged item is recognized in earnings. The ineffective portion of a derivative's change in fair value will be immediately recognized in earnings. The Company's cumulative effect of adoption of this Statement will not be material to the Company's results of operations or financial condition. NOTE 2.--BORROWINGS In February 2000, the Company amended the $150.0 million revolving Credit Facility (the "Facility") in place at January 2, 2000 and extended its term, to expire on May 1, 2003. Direct borrowings under the Facility bear interest at a fixed spread over the lead bank's prime rate or, at the option of the Company, at a fixed spread over the LIBOR and are limited to a borrowing base calculated on eligible accounts receivable, inventory, and letters of credit. The Facility is secured by accounts receivable and inventory of the Company, as well as a pledge of all equity interests of the subsidiaries of the Company. The Facility also contains certain restrictive covenants which, among other things, require the Company to maintain certain financial ratios and restrict investments, incurrence of additional indebtedness, and payment of dividends. At December 31, 2000 and January 2, 2000, there were no direct borrowings outstanding under the Facility. In connection with the Facility, the Company incurred certain financing costs which were deferred and are being amortized over the remaining term of the Facility. At December 31, 2000, and January 2, 2000 unamortized financing costs of approximately $0.6 million and $0.6 million, respectively were included in "Deposits and other noncurrent assets" in the accompanying balance sheets. Amortization of deferred financing costs of approximately $0.8 million, $1.3 million and $1.3 million in fiscal 2000, 1999 and 1998, respectively, were included in interest expense. Letters of credit outstanding were approximately $56.6 million and $60.3 million at December 31, 2000 and January 2, 2000, respectively. NOTE 3.--FINANCIAL INSTRUMENTS DERIVATIVE FINANCIAL INSTRUMENTS RISK The Company selectively uses a combination of derivative financial instruments to maintain the value-at-risk inherent in its foreign currency exposures within acceptable parameters, as determined by senior management. The purpose of this approach is to reduce the Company's exposure to market risk resulting from fluctuations in foreign exchange rates. Derivative financial instruments currently utilized by the Company principally include forward exchange contracts and from time-to-time purchased foreign currency options. Hedges are executed centrally to facilitate the netting of offsetting currency exposures, to ensure control over the use of derivative financial instruments and to minimize transaction costs. The Company does not hold or enter into financial instruments for trading or speculative purposes. F-11 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) The Company has a policy of only entering into contracts with counterparties that have at least an "A" (or equivalent) credit rating. The counterparties to these contracts are major financial institutions and the Company does not have significant exposure to any one counterpart. Management believes that risk of loss is remote and in any event would be immaterial. FOREIGN EXCHANGE RISK MANAGEMENT The Company enters into forward exchange contracts to hedge inventory purchases, accounts receivable and accounts payable denominated in foreign currencies for periods consistent with its identified exposures. Gains and losses related to qualifying hedges of these exposures are deferred and recognized in operating income when the underlying hedged transaction occurs. The Company also enters into purchased foreign currency options from time-to-time to hedge anticipated transactions where there is a high probability that anticipated exposures will materialize. Any gain realized on such options that qualify as hedges are deferred and recognized in operating income when the underlying hedged transactions occurs. Foreign currency transactions, which do not qualify as hedges, are marked to market on a current basis with associated gains and losses reflected in operating income. In addition, any previously deferred gains and losses on hedges which are terminated prior to the transaction date are recognized in current operations when the hedge is terminated. The contracts have varying maturities with none exceeding 24 months. Foreign currencies exchanged under these contracts are principally the Italian Lira, U.K. Pound, Dutch Guilder, Japanese Yen and the European Economical Monetary Union Euro. Deferred unrealized gains and losses from derivative financial instruments consist of the following:

FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value: Cash and cash equivalents: The carrying amount approximated fair value, primarily because of the short maturity of cash equivalent instruments. Borrowing under revolving line of credit and Subordinated notes payable: The fair value of the Company's debt approximates its carrying value, primarily because they bear interest at a variable rate. Forward exchange contracts: The fair value of forward exchange contracts is the estimated amount the Company would receive or pay to terminate the agreements, as determined by dealer quotes. F-12 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) The estimated fair values of the Company's financial instruments are as follows:

NOTE 4.--EMPLOYEE BENEFIT PLANS The Company is required to make contributions to a multi-employer union pension and health and welfare plan. These payments are based on wages paid to the Company's union employees and amounts paid to contractors utilized by the Company. The Company does not participate in the management of the plans and has not been furnished with any information with respect to the type of benefits provided, vested and nonvested benefits or plan assets. Health and welfare plan expense approximated $1.1 million, $1.3 million and $1.7 million for the fiscal years ended December 31, 2000, January 2, 2000 and January 3, 1999, respectively. Pension expense approximated $0.4 million, $0.6 million and $0.7 million for the fiscal years ended December 31, 2000, January 2, 2000 and January 3, 1999, respectively. Separate actuarial calculations regarding the Company's share of plan benefits and net assets available for plan benefits have not been determined. Under the Employee Retirement Income Security Act of 1974, as amended, an employer, upon withdrawal from or termination of a multi-employer plan, is required to continue funding its proportionate share of the plan's unfunded vested benefits. As of December 31, 2000, the Company had no intention of withdrawing from the plan. The Company sponsors a defined contribution benefit plan covering its non-union employees with a minimum of six months of eligible service. The Company matches employee contributions at a rate of 50%, to a maximum of 6% of an employee's annual salary. Under the terms of the plan, a participant is 100% vested in the employer's matching contribution after six years of credited service. Expenses under this plan, net of forfeitures, were approximately $0.3 million, $0.8 million and $0.8 million for the fiscal years ended December 31, 2000, January 2, 2000 and January 3, 1999, respectively. During 1997, the Company adopted a bonus plan covering executives and certain members of management. Individual bonus payments are based on management and compensation levels, performance goals and the Company's overall performance. The Company also adopted a deferred compensation plan covering certain senior executives, which is based on compensation, is dependent upon the Company achieving profitability, and vests after a five year period. In addition, amounts under the deferred compensation plan will become fully vested upon a change in control of the Company (as defined in the plan). In fiscal 2000, 1999 and 1998, expenses under these plans were approximately $8.0 million, $7.8 million and $5.9 million, respectively. NOTE 5.--LEASES Rent expense included in the Company's financial statements was approximately $33.7 million, $32.3 million and $23.5 million for the fiscal years ended December 31, 2000, January 2, 2000, and F-13 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) January 3, 1999, respectively. At December 31, 2000, future minimum annual rental commitments under noncancellable operating leases for office, warehouse and retail facilities, and equipment are as follows (in thousands): 2001........................................................ $ 24,392 2002........................................................ 22,177 2003........................................................ 19,862 2004........................................................ 17,842 2005........................................................ 17,239 Thereafter.................................................. 80,741 -------- $182,253 ========

In addition, certain of the leases contain options to renew for periods up to 10 years and others include contingent payments based on sales. The Company has entered into certain sub-lease arrangements. At December 31, 2000, future offsets to annual rental commitments as a result of these subleases are as follows (in thousands): 2001........................................................ $1,626 2002........................................................ 1,543 2003........................................................ 1,310 2004........................................................ 1,143 2005........................................................ 1,143 Thereafter.................................................. 2,535 ------ $9,300 ======

NOTE 6.--SALE OF INTERESTS IN AFFILIATES In March 1998, the Company and a nonaffiliated party sold all of their remaining outstanding shares in DKJ to a nonaffiliated party, a Japanese public company. At the same time, DKJ was granted a 16-year exclusive license to import, manufacture, license and/or distribute DONNA KARAN NEW YORK and DKNY products in Japan, with certain exceptions. In addition, DKJ was granted the exclusive right to develop and operate a total of 12 DONNA KARAN NEW YORK and DKNY retail boutiques in Japan over the term of the agreement. On consummation of the transaction, the Company received $15.9 million, which is being amortized over the term of the agreement. The Company receives a royalty on net sales of licensed products and a servicing fee on net sales of Donna Karan products imported by DKJ. In consideration of the sale of its interest in DKJ, the Company received approximately $646,000 and recognized a gain, net of transaction costs, of approximately $88,000 in the fiscal year ended January 3, 1999. Equity in DKJ's loss amounted to approximately $0.1 million for the fiscal year ended January 3, 1999. As a result of the Company's agreement with DKJ in 1995, which provided for a fee based upon net sales of DKJ, the Company recognized management fee income, recorded as an offset of selling, general, and administrative expenses of approximately $0.4 million, $0.6 million and $0.8 million during the years ended December 31, 2000, January 2, 2000, and January 3, 1999, respectively. F-14 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) NOTE 7.--APPAREL LICENSING AGREEMENT In December 1999, the Company consummated an agreement to grant to Liz Claiborne Inc. ("LCI") the exclusive right to design, produce, market and sell a new line of women's career and casual sportswear, which line launched for the Spring 2001 season under the CITY DKNY label. Under the agreement, LCI is obligated to pay the Company a royalty equal to a percentage of net sales of such licensed product. Upon consummation of the transaction, the Company received $6.4 million in prepaid royalties, which will be recognized as earned as LCI ships the licensed product. The initial term of the license agreement is for 6 years through December 31, 2005, with an option to renew for two additional 5-year periods, if certain sales thresholds are met. On January 8, 1998, the Company and LCI consummated an agreement whereby the Company granted to LCI exclusive, long-term rights to the DKNY JEANS and DKNY ACTIVE trademarks for apparel products to market, distribute and sell both collections in the Western Hemisphere. Under the agreement, LCI is obligated to pay the Company a royalty equal to a percentage of net sales of the DKNY JEANS and ACTIVE products. The initial term of the license agreement is for 15 years through December 31, 2012, with an option to renew for an additional 15-year period if certain sales thresholds are met, which would continue the license through December 31, 2027. Upon consummation of the transaction, the Company received from LCI $8.4 million in prepaid royalties, which were recognized as earned as LCI shipped the licensed product. In addition, the Company received a $21.6 million up-front payment in exchange for the exclusive rights granted. This amount is being amortized on a straight-line basis into income over the term of the agreement. Aggregate minimum royalties for the initial 15-year term are $152.0 million. NOTE 8.--BEAUTY LICENSING AGREEMENT On November 10, 1997, the Company and Estee Lauder Inc. ("ELI") consummated an agreement whereby the Company granted to ELI exclusive worldwide rights to the DONNA KARAN NEW YORK and DKNY trademarks for the manufacture, marketing, distribution and sale of beauty and beauty-related products, including fragrances, cosmetics, skincare products, and beauty-related accessories. In connection therewith and with the sale to ELI of certain other assets relating to the existing business, the Company received $25.0 million and receives additional royalties from ELI based on sales of such beauty and beauty-related products. Of this $25 million amount, $10 million represents prepaid royalties, which are being recognized as earned as ELI ships the licensed product. Of the remaining $15.0 million, the Company recognized $10.0 million in fiscal 1997 since, other than certain veto rights related to the product, the Company would not be involved in the future day-to-day business and recognized a one-time licensing credit of $5.0 million in fiscal 1999 as a result of satisfying certain conditions of the beauty license related to the launch of new products in accordance with an agreed-upon schedule. In fiscal 1997, upon closing the transaction with ELI, the Company recorded a loss of approximately $21.1 million (net of a $2.2 million gain in connection with the consummation of the transaction.) This loss represented reserves recorded, primarily related to inventories, receivables and severance to cover the shut-down of the Company's existing beauty business, and is net of a gain of approximately $2.2 million, representing the portion of the proceeds recognized as income (the aforementioned $10.0 million) reduced by the cost of exiting the beauty business. F-15 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) NOTE 9.--RESTRUCTURING AND OTHER CHARGES On November 2, 1999 the Company announced that it was implementing a series of strategic initiatives intended to further reduce costs, increase efficiencies and focus on key business areas. In connection with the strategic initiatives, and in accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," and EITF Issue 94-3 "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)," the Company recorded in the fourth quarter restructuring and other non-recurring charges of $11.0 million, of which $0.8 million was classified as cost of sales, $6.1 million as selling, general and administrative expenses and $4.1 million as restructuring charges. The strategic initiatives included: (i) consolidating the Donna Karan New York and DKNY women's divisions and integrating the marketing and public relations functions into one unit, resulting in a charge of $2.6 million which was primarily for employee serverance; (ii) closing seven non-performing outlet stores, resulting in a charge of $2.2 million, which was primarily for the write-down to net realizable value of inventory and fixed assets, and the costs of buying out leases; (iii) recognizing an impairment of under-performing retail stores based upon the present value of projected cash flows to determine the fair value of the stores, resulting in an impairment charge of $3.7 million; (iv) the write-off of certain under-perfoming co-op shops that were identified and abandoned, resulting in a charge of $1.1 million; and (v) certain other non-recurring charges of $1.4 million, primarily for the write-off of fixed assets and leasehold improvements related the consolidation of certain divisions and functions. The Company anticipates achieving annual savings of approximately $6.0 million as a result of these stategic initiatives. The cash and noncash elements of the restructuring charge approximated $4.3 million and $6.7 million, respectively. As a result of the strategic initiatives, approximately 160 positions were eliminated in the Company, of which 50 were unfilled positions. Of the remaining 110 positions, 42 employees were terminated in fiscal 1999 and 68 employees were terminated in fiscal 2000. Included in the aforementioned strategic initiatives and concurrent with the Company's annual planning process, the Company determined that the estimated future undiscounted cash flows were below the carrying value of certain retail stores. Accordingly, during the fourth quarter of fiscal 1999, the Company adjusted the carrying value of these stores, to their estimated fair value and recorded an impairment charge of $3.7 million, which has been classified as selling, general and administrative expenses. The Company calculated the present value of projected cash flows to determine the fair value of the store assets. Additionally, as a result of the strategic initiatives, certain under-performing co-op shops were identified to be abandoned, and seven non-performing outlet stores were scheduled to be closed, resulting in the recording of a charge of approximately $1.1 million and $2.2 million, respectively. The charge includes $0.8 million related to cost of sales and $2.5 million classified as selling, general and administrative expenses. F-16 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) The major components of the fiscal 1999 restructuring and other charges are as follows:

During the year ended December 31, 2000, the Company utilized approximately $2.6 million of reserves previously established in connection with its fiscal 1999 restructuring plan and reversed $1.0 that was no longer deemed necessary. This reversal related to inventory and legal reserves that were ultimately not needed upon the closing of the seven non-performing outlet stores. The Company anticipates utilizing the remaining balance of its reserves during fiscal 2001. In 1997, the Company recorded restructuring charges of approximately $8.6 million, primarily for severance, the abandonment of leased space and the closing of the Company's Prato, Italy office. In addition, during 1997 the Company recognized other charges amounting to $17.0 million, primarily for additional severance costs, costs related to the realignment of a retail and distribution agreement in Europe, and other costs recorded during a cost containment review process. In the fourth quarter of 1999, the Company completed the closing of its Prato office, and $1.4 million in reserves that had been recorded in connection with this closing, primarily estimated severance costs and legal, accounting and other fees, were no longer needed, and accordingly, were reversed. Additionally, in the fourth quarter of 2000, the Company determined that all initiatives contemplated as part of the 1997 cost containment review process had been completed, and any remaining reserves for estimated costs set up at that time should be reversed. Accordingly, $0.6 million of the original $17.0 million charge was reversed. F-17 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) During the fiscal year ended December 28, 1997, the Company utilized $9.2 million in reserves recorded related to the 1997 restructuring and other charges. The activity in the reserve account for the fiscal years 1998, 1999 and 2000 are as follows:

NOTE 10.--RELATED PARTY TRANSACTIONS In July 1996, the Company entered into a licensing agreement (the "Gabrielle License") with Gabrielle Studio, Inc. ("Gabrielle Studio"), a corporation owned by two of the Company's principal stockholders and their children's trust, which grants the Company the exclusive worldwide rights, in perpetuity, to use, and to sublicense the right to use, the trademarks "DONNA KARAN", "DONNA KARAN NEW YORK", "DKNY", "DK" and all variations thereof and to use, and to sublicense the right to use, the name, signature and likeness of Donna Karan in connection with the design, manufacture, distribution, sale, advertising, marketing and promotion of products of any kind, nature or description, except for specified products and the provision of specified store services. The Gabrielle License provides that the Company will pay to Gabrielle Studio an annual royalty equal to 1.75% of the first $250 million of net sales for any year, plus 2.5% of the next $500 million of net sales for that year, plus 3% of the next $750 million of net sales for that year, plus 3.5% of all net sales for that year in excess of $1.5 billion. For purposes of computing the annual royalty, "net sales" includes sales by the Company, the Company's affiliates and subsidiaries and any sublicensees of products bearing any of the licensed trademarks or the Donna Karan name. The Company incurred $30.6 million, $25.0 million and F-18 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) $19.5 million in royalty expense for the years ended December 31, 2000, January 2, 2000, and January 3, 1999, respectively, which was included in cost of sales. Included in accrued expenses at December 31, 2000 and January 2, 1999, were royalties payable of $12.9 million and $10.6 million, respectively. The Gabrielle License imposes obligations on the Company with respect to the use of sales materials, protection of the licensed trademarks, indemnification of Gabrielle Studio, the maintenance of public liability insurance and quality control of products bearing the licensed trademarks or the Donna Karan name. The Gabrielle License also limits the use of the licensed trademarks in specified circumstances and in general prohibits any transfer or assignment of the parties' rights under the Gabrielle License. The Gabrielle License may be terminated by Gabrielle Studio upon the failure of the Company to pay any amount due within 60 days of receipt of notice of such failure, or if the Company violates the quality control provisions of the Gabrielle License and fails to initiate and thereafter pursue appropriate corrective action within 60 days after a final unappealable determination by an arbitration tribunal or court of competent jurisdiction that such violation has occurred. The Gabrielle License also may be terminated by Gabrielle Studio upon the occurrence of, among other events, a "change of control" of the Company, including certain changes in the ownership of voting securities, an acquisition by a third party of 30% or more of the voting securities of the Company, mergers, sales of assets, and certain changes in the composition of the Board of Directors. In January 2001, LVMH Moet Hennessey Louis Vuitton Inc. ("LVMH") consummated the acquisition of Gabrielle Studio from two of the Company's principal stockholders and their children's trust. The Company believes that its relationship under the Gabrielle License will not materially change under this new ownership. In October 1998, the Company and a wholly-owned affiliate of Ms. Donna Karan, Chairman of the Board and Chief Designer of the Company, entered into a boutique license agreement (the "Boutique Agreement"), granting the affiliated entity the right to open and operate a DONNA KARAN NEW YORK Flagship Collection Store. The Boutique Agreement has an initial five-year term, with two renewal periods at the affililated entity's option if specified conditions are met. The store, which is anticipated to open in 2001, will be located at 819 Madison Avenue in New York City. The Boutique Agreement states that the Company will provide the affiliated entity with certain management services related to the operation of the store in exchange for an annual fee equal to the greater of 1.5% of sales and $75,000. The store will also be entitled to offer a limited amount of non-branded products. In connection with the purchase of Gabrielle Studio in January 2001, LVMH agreed to assume the rights and obligations of Ms. Karan's affiliate in connection with the construction and operation of the DONNA KARAN NEW YORK flagship store. The assumption of such rights and obligations by LVMH shall be effective no earlier than June 15, 2001 and no later than September 15, 2001. The Company has an employee discount policy, whereby employees of the Company and their immediate family members may purchase Company products at specified discounts from the stated wholesale price. As of December 31, 2000 Ms. Donna Karan owed the Company $221,000 for purchases made under this policy. This amount has been classified in accounts receivable in the accompanying balance sheet. Under a stockholders agreement entered into on June 10, 1996, Ms. Donna Karan, Mr. Stephan Weiss (officers and principal stockholders of the Company), their affiliated trusts and Gabrielle Studio, collectively referred to as the "Karan/Weiss Group," are entitled to designate one member of the Company's board of directors, in addition to Ms. Karan and Mr. Weiss, as long as the combined F-19 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) ownership of the shares of the Company's common stock held by members of the Karan/Weiss Group is not less than 20% of the then outstanding common stock. Additionally, under the stockholders agreement, Messrs. Tomio Taki and Frank R. Mori, Takihyo Inc. (principal stockholders of the Company) and affiliates of Messrs. Taki and Mori, collectively referred to as the "Takihyo Group," are entitled to designate (1) two members of the Company's board of directors until such time as the Takihyo Group sells any shares of common stock owned by it, other than shares distributed to stockholders of Takihyo Inc., and (2) thereafter, one member of the Company's board of directors as long as the Takihyo Group owns not less than 10% of the then outstanding common stock. However, if either Mr. Taki or Mr. Mori is otherwise able to serve, and is serving, as the one designee of the Takihyo Group, then he will be entitled to continue to serve as a director as long as the Takihyo Group continues to own not less than 5% of the then outstanding common stock. The stockholders agreement provides that none of Mr. Mori, Mr. Taki or any other affiliate of the Takihyo Group may serve as a director as long as the Takihyo Group has an ownership interest in, or either Mr. Mori or Mr. Taki is an officer or director of, any of the Company's competitors. Under the stockholders agreement, the Karan/Weiss Group, on the one hand, and the Takihyo Group, on the other hand, have agreed to vote the shares of common stock owned by them for each other's designees as directors and, in the case of the Takihyo Group, for Ms. Karan and Mr. Weiss. The designee to the board of directors of the Karan/ Weiss Group and designees of the Takihyo Group, other than Messrs. Taki or Mori, must be reasonably satisfactory to the Company's board of directors. Ms. Karan and Mr. Weiss currently are serving on the Company's board of directors as the only designees of the Karan/Weiss Group. Mr. Mori currently is serving on the Company's board of directors as the only designee of the Takihyo Group. NOTE 11.--ACQUISITIONS In January 1999, the Company acquired the assets of three free-standing retail stores in the United Kingdom which were previously owned and operated by a Singapore-based company, for approximately $17.4 million. The aggregate purchase price was financed with working capital and the issuance of subordinated notes payable which mature in January 2002, and bear interest at LIBOR. The acquisition was accounted for as a purchase business combination, with any excess of the remaining purchase price over the estimated fair value of the assets acquired, being recorded as goodwill. NOTE 12.--STOCK OPTIONS AND RESTRICTED STOCK The Company has three plans which reserve shares of common stock for issuance. One plan is for employees, officers, advisors and independent consultants of the Company (the "Stock Incentive Plan"). The other two plans are for non-employee directors (the "Non-Employee Director Stock Option Plan" and the "Non-Employee Director Restricted Stock Plan"). Options and restricted stock granted under the plans will become fully vested upon a change in control of the Company (as defined in the plan). The Company has adopted the disclosure-only provisions of SFAS No. 123, "Accounting for Stock-Based Compensation." Accordingly, no compensation cost has been recognized for the stock options awarded under these plans. If compensation cost for the stock options awarded had been determined based on the fair value at the grant dates for awards in fiscal 2000, 1999 and 1998 consistent with the F-20 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) provisions of SFAS No. 123, the Company's pro forma net income (loss) and net income (loss) per common share would have been as follows (in thousands, except per share data):

The pro forma effect on net income for fiscal 2000, 1999 and 1998 is not representative of the pro forma effect on net income in future years since compensation cost is allocated on a straight-line basis over the vesting periods of the grants which extends beyond the reported years. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following assumptions:

Under the Stock Incentive Plan, which was amended in fiscal 1997, options to purchase shares of common stock and awards of restricted shares of common stock of up to a combined 2,600,000 shares may be granted (includes an award of 105,100 shares granted at the Company's initial public offering and 150,000 shares of restricted common stock (see Note 13)). The exercise price of the options may not be less than 100% of the market value of a share of common stock at the time of grant. An incentive stock option may not be exercised within one year of the date of grant, and no options may be exercised after ten years from the effective date of the plan. The options granted in fiscal 2000, fiscal 1999 and fiscal 1998 vest on a yearly basis in 33 1/3% increments, beginning on the first anniversary of the date of grant. Common stock reserved for future grants under the Stock Incentive Plan aggregated 1,056,420 shares as of December 31, 2000. Under the Non-Employee Director Stock Option Plan, options to purchase up to 100,000 shares of common stock may be granted, subject to adjustments in certain circumstances. Each eligible director, on the initial grant date, is granted options to purchase 7,500 shares of common stock. Each year, other than with respect to the year in which an eligible director receives an initial grant of options, each eligible director will receive an additional option to purchase 1,000 shares of common stock. Upon the exercise of an option, the purchase price paid will be 100% of the market value of such share at the time of the grant of the option. Options granted will be exercisable on or after the first anniversary of the date of grant, and will expire on the tenth anniversary of the date of grant. Common stock reserved F-21 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) for future grants under the Non-Employee Director Stock Option Plan aggregated 70,000 shares as of December 31, 2000. A summary of the Company's stock option programs as of fiscal 2000, 1999 and 1998 and changes during the years then ended, are presented below:

The weighted average fair value of options granted during 2000, 1999 and 1998 was $4.52, $4.21 and $5.36 per share, respectively. For various price ranges, weighted average characteristics of outstanding stock options at December 31, 2000 are as follows:

In January 2000, The Company' Incentive Compensation Subcommittee approved an exchange program which permitted the Company's executive officers to elect to have the Company cancel all of their existing vested and unvested options, and receive an award of restricted shares of common stock intended to have the same economic value as the options, determined on a Black-Scholes basis. The F-22 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) restricted shares will vest on the third anniversary of the date of the grant or earlier in 20% increments if the Company's common stock attains certain price levels. As a result of the program, options to purchase 770,000 shares were cancelled and 388,226 restricted shares were awarded. The market value of these shares on the date of grant has been recorded as unearned compensation and is being charged to selling, general and administrative expenses over the corresponding three-year vesting period. In addition, in March 2000, under the Stock Incentive Plan, the Company awarded 140,791 restricted shares of common stock to executive officers and certain key employees. The restricted shares will vest on the fifth anniversary of the date of the grant or earlier in 20% increments if the Company's common stock attains certain price levels. All of the restricted shares awarded in 2000 are subject to certain restrictions on transferability and a risk of forfeiture. The market value of these shares on the date of grant has been recorded as unearned compensation, and is being charged to selling, general and administrative expenses over the corresponding vesting period. Compensation expense recognized during fiscal 2000, 1999 and 1998 related to restricted stock amounted to approximately $1.3 million, $0.4 million and $0.2 million, respectively, and is included in selling, general and administrative expenses. Under the Non-Employee Director Restricted Stock Plan, each non-employee director is entitled to receive a grant of 500 shares of common stock as of the first day of the month following the annual meeting of stockholders, which will vest on the first anniversary of the date of grant. In addition, the restricted stock award will become fully vested upon a change in control of the Company (as defined in the plan). The following table summarizes the activity of restricted stock for fiscal 2000, 1999 and 1998:

NOTE 13.--COMMITMENTS AND CONTINGENCIES The Company has employment agreements with key executives which provide for guaranteed minimum compensation, minimum cash bonuses, stock options and termination payments and benefits. One employment agreement calls for a severance package, if the employee is terminated without cause during the one year period subsequent to a change in control, of three times the employee's base salary plus three times the bonus compensation for the immediately prior fiscal year. The employee is also F-23 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) entitled to receive $750,000 on the earlier of six months following a change in control, or termination without cause on or after a change in control. If these payments, as well as any other benefits due to the employee, are subject to an excise tax under the Internal Revenue Code of 1986 as "excess parachute payments", then the employee will be entitled to receive a tax gross-up so that the employee is in the same tax position as if there were no such excise tax. This same agreement contains a provision whereby the Company has granted 150,000 shares of restricted common stock to the employee. These shares are subject to certain restrictions on transferability and a risk of forfeiture. The forfeiture provisions expire at the earlier of five years from the date of grant or upon the attainment of certain market value goals for the common stock. As of December 31, 2000, all 150,000 shares were subject to the forfeiture provisions. These shares have been recorded as unearned compensation and are presented as a separate component of stockholders' equity. The unearned compensation is being charged to selling, general and administrative expenses over the five-year vesting period, or until such time as the market value goals are attained, in which case the expense will be accelerated to match the amounts earned. Total expense for the fiscal 2000, 1999 and 1998 amounted to approximately $319,000, $398,000 and $239,000, respectively. Another employment agreement contains a deferred compensation clause whereby the employee is entitled to $1 million plus interest in October 2005. This amount becomes vested at the rate of 20% per year in the event the employee is terminated without cause, and becomes fully vested upon a change in control of the Company. The Company has a severance plan that covers certain executive officers and key employees of the Company. In the event of a change in control, as defined, each covered employee who is terminated without cause during the one year period subsequent to, or 90 days prior to, the change in control is entitled to receive, in addition to severance benefits payable under such individual's employment contract or other severance benefits due, a lump sum payment equal to the employees then current annual salary. The Company has an Executive Incentive Plan ("EIP") whereby bonuses are generally paid to certain executive officers and key employees, based on pre-determined performance criteria. In the event of a change in control, under the terms of the EIP, the Company is obligated to make at least a pro-rata payment of each employee's target bonus for that plan year up to the date of the change in control. However, the Company may elect to make an additional payment of up to the employee's full bonus target for such plan year. All payments made under this change in control provision will reduce the employee's final award for such plan year. The Company also has a Voluntary Deferred Compensation Plan for Non-Employee Directors of the Company. This plan provides that an eligible director, at the election of the director, may defer payment of his or her cash retainer and meeting fees for five years or until he or she ceases to be a director. The deferred amounts, at the election of the director, during the deferral period either (i) are credited with interest at prescribed rates or (ii) are converted to the equivalent of that number of shares of the Company's common stock (based on the market price at the time of the deferral) that could be purchased with the deferred amounts. All payments under the Deferred Compensation Plan are in the form of cash. The Deferred Compensation Plan provides that lump-sum payments of all deferred compensation will be made as soon as administratively feasible following the date that (i) the participating director ceases to be a member of the Board of Directors or (ii) the Deferred Compensation Plan is terminated. In December 2000, several putative class actions were filed in state court in Delaware and New York (collectively the "LVMH Actions") in connection with the offer of LVMH to acquire the outstanding shares of the Company for a price of $8.50 per share (the "LVMH Offer"). All of the complaints name the Company, its Chairman, its Vice Chairman and its Chief Executive Officer as F-24 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) defendants. Two of the complaints also name the Company's outside Board members as defendants and three of the complaints also name LVMH as a defendant. None of the lawsuits specifies any amount of damages sought and, therefore, it is not practicable to estimate a range of possible loss in connection with this litigation. The LVMH Actions allege, INTER ALIA, that the $8.50 price initially offered by LVMH to purchase the Company's common stock is inadequate, that the individual defendants breached their fiduciary duties in connection with the LVMH Offer and that the Chairman and Vice Chairman furthered their own interests, at the expense of the Company's interests, in allegedly negotiating with LVMH concerning the proposed sale of the Company to LVMH. Following the commencement of the LVMH Actions, counsel for the Company and the other defendants entered into (i) a stipulation with counsel for plaintiffs in the actions filed in New York staying such actions and providing that the outcome of those actions will be governed by the outcome of the actions filed in Delaware; and (ii) a stipulation with counsel for plaintiffs in the actions filed in Delaware providing that such actions will be consolidated and that defendants need not respond to the individual complaints pending the filing of a consolidated amended complaint. No consolidated amended complaint has been filed and discovery has not commenced. The Company is also involved from time to time in routine legal matters and litigation incidental to its business. While the outcome of these matters, as well as the LVMH Actions, could have a material adverse effect on the Company's results of operations and cash flows in the period in which such outcome is determined, in the Company's opinion, the results of these matters are not expected to have a material effect on the Company's financial position or results of operations. Accordingly, no reserve for the outcome of these matters has been recorded in the Company's financial statements as of December 31, 2000. NOTE 14.--INCOME TAXES The Company accounts for income taxes under SFAS No. 109, "Accounting for Income Taxes" which requires the asset and liability method of accounting for income taxes. Under the asset and liability method, deferred income taxes are recognized for the tax consequences of "temporary differences" by applying enacted statutory tax rates applicable to future years to differences between the financial carrying amounts and the tax basis of existing assets and liabilities. The income tax provision consists of the following:

F-25 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) Deferred income taxes reflect the net effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant items comprising the Company's net deferred tax asset were as follows:

The Company has available foreign net operating loss carryforwards of approximately $2.4 million to offset future taxable income. The foreign net operating loss carryforwards do not expire. In addition, the Company has foreign tax credit carryforwards of approximately $1.7 million which expire from fiscal 2002 through fiscal 2004. Realization of the future tax benefits related to the deferred tax assets is dependent on many factors including the Company's ability to generate sufficient taxable income within the net operating loss carry forward period and potential limitations imposed by the Internal Revenue Code. Due to the inherent uncertainties in estimating future taxable income, the Company recorded a valuation allowance of $24.0 million in fiscal 1997. During fiscal 2000 and 1999, the Company recognized certain deferred tax assets and reduced the valuation allowance by $6.0 million and $4.0 million, respectively, based upon taxable income in those years. The valuation allowances at December 31, 2000 and January 2, 2000 were $14.0 million and $20.0 million, respectively. The foreign and domestic components of income before income taxes were a foreign income of $4.8 million and domestic income of $17.5 million in 2000 and foreign loss of $4.1 million and domestic income of $14.6 million in 1999. F-26 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) A reconciliation between the provision for income taxes computed by applying the statutory Federal income tax rate to income before taxes and the actual provision for income taxes is as follows:

Exclusive of the impact of the valuation allowance, the Company's effective tax rate was 41.0% and 43.0% in fiscal 2000 and fiscal 1999, respectively. NOTE 15.--COMPREHENSIVE INCOME (LOSS) Comprehensive income (loss) is comprised of net income and other comprehensive income (loss), which contains gains or losses from foreign currency translation. The change in accumulated other comprehensive loss, exclusive of deferred income taxes, for the years ended at December 31, 2000 and January 2, 2000 is as follows:

Comprehensive income (loss) is as follows:

------------------------ (1) For fiscal 2000, 1999 and 1998 there was no sale or liquidation of the Company's investment in a foreign entity. As such, no reclassification adjustments were required and gross amounts were displayed exclusive of any provision for income taxes. F-27 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) NOTE 16.--SEGMENT INFORMATION The Company has three reportable business segments: wholesale, licensing, and retail. The Company's wholesale business consists of three divisions: womenswear, menswear, and accessories, all of which sell products under the DONNA KARAN NEW YORK and DKNY brands to department stores, specialty stores, boutiques, and to the Company's owned and licensed free-standing stores. The accessories division also sells products under the DKNY JEANS, DKNY ACTIVE and CITY DKNY brands. The Company also sells products in Europe under the DKNY JEANS brand. The licensing division forms strategic alliances with companies, through which it licenses the right to develop, market, and sell products under the DONNA KARAN NEW YORK, DKNY, DKNY JEANS, DKNY ACTIVE and CITY DKNY brands, and licenses, on a royalty-free basis, free-standing stores under the DONNA KARAN NEW YORK, DKNY and DKNY JEANS names. The retail division operates outlet stores and full-price, domestic free-standing retail stores. The Company's reportable segments are individual business units that offer different products and services. They are managed separately because each business requires different strategic initiatives, promotional campaigns, marketing, and advertising, based upon its own individual positioning in the market. The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based upon profit or loss from operations before interest expense and interest income, nonrecurring gains and losses, and income taxes. Information related to the Company's geographic segments are as follows:

In fiscal 2000, the Company had one customer who accounted for 10.2% of revenues. In fiscal 1998 sales to entities affiliated with a Singapore-based company, including DKJ, and certain free-standing international retail stores, were 10.5% of the Company's revenues. In fiscal 1999, no customer accounted for greater than 10% of revenues. Sales to Japan for the quarter ended March 28, 1998 were made to a 30% owned subsidiary (see Note 6). F-28 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) Intersegment sales and transfers are recorded at amounts that approximate cost. All intercompany revenues and profit or loss is eliminated in consolidation.

------------------------ (1) In fiscal 2000, the Company reversed previously recorded and other non-recurring charges of $1.6 million that were no longer deemed necessary, and recorded costs related to the LVMH Merger Offer of $2.4 million. Exclusive of these charges and credits, operating profit (loss) for the wholesale and retail segments would have been $17.8 million and ($13.4) million, respectively. (2) In December 1999, the Company recorded restructuring and non-recurring charges related to the consolidation of divisions, the impairment of under-performing assets and the closing of outlet stores (see Note 9). Exclusive of these charges, operating profit (loss) for the wholesale and retail segments was $18.2 million and ($12.0) million, respectively. (3) In fiscal 1999, includes recognition of a one-time licensing credit of $5.0 million, related to the ELI beauty license (see Note 8). Exclusive of the one-time licensing credit, segment net revenues and operating profit in fiscal 1999 was $30.1 million and $13.0 million, respectively. (4) In fiscal 1999, The Company expensed $1.9 million of costs associated with the opening of its DKNY flagship store on Madison Avenue in New York City, New York (see Note 1). Prior to the charges (see note (2) above) and the opening costs, segment operating loss in fiscal 1999 was $10.1 million. F-29 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) NOTE 17.--QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) The following summarizes the unaudited quarterly operating results of the Company for fiscal 2000 and fiscal 1999 (in thousands, except per share amounts):

------------------------ (1) In fiscal 2000, includes the reversal of previously recorded restructuring and other non-recurring charges of $1.0 million that were no longer deemed necessary. Exclusive of these reversals, net loss per common share on a fully diluted basis was $0.34 per share. (2) In fiscal 2000, includes the reversal of previously recorded restructuring and other non-recurring charges of $0.6 million that were no longer deemed necessary, costs related to a proposed merger of $2.4 million, and a $6.0 million reduction in a previously recorded income tax valuation allowance (see Note 14). Exclusive of these charges and credits, net income per common share on a fully diluted bases was $0.18 per share. (3) In the fourth quarter of fiscal 2000, gross profit includes $1.4 million, or $0.04 per share on a fully diluted basis, as a result of the resolution of certain amounts with third parties related to product costs, offset in part by unfavorable inventory variances. The net effect in the full fiscal year 2000 for these items was not material. (4) In fiscal 1999, includes recognition of the one-time licensing credit, relating to the ELI beauty license, amounting to $5.0 million (see Note 8). Exclusive of the licensing credit, net income per common share on a fully diluted basis was $0.46 per share. (5) In fiscal 1999, includes restructuring and other non-recurring charges of $9.6 million (see Note 9) and a $4.0 million reduction in a previously recorded income tax valuation allowance (see Note 14). Exclusive of these charges and credits, net income per common share on a fully diluted basis was $0.19 per share. F-30 DONNA KARAN INTERNATIONAL INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) NOTE 18.--SUBSEQUENT EVENT On April, 2, 2001, the Company and LVMH announced that they had entered into an Agreement and Plan of Merger, dated as of March 31, 2001 (the "Merger Agreement"), which sets forth the terms and conditions of the proposed acquisition of the Company by LVMH. Pursuant to the Merger Agreement, an indirect wholly-owned subsidiary of LVMH will be merged with and into the Company (the "Merger") and the Company will survive the Merger as an indirect subsidiary of LVMH. The Merger is subject to the approval of the stockholders of the Company and the satisfaction of other customary closing conditions, including the receipt of required regulatory approvals. NOTE 19.--SUBSEQUENT EVENT The Company's results of operations in the second quarter of fiscal 2001, having been affected by business and economic conditions, are below forecast and are expected to continue below forecast for the balance of the fiscal year. In August 2001, the Company entered into an agreement with Gabrielle Studio, Inc. (an LVMH affiliate) pursuant to which Gabrielle Studio, Inc. agreed to defer until June 30, 2002 the payment of royalties owed by the Company for the second, third and fourth quarters of 2001. The Company believes that the deferral of such royalty payments will enable it to meet its credit facility covenants, amended as follows, for the remainder of its fiscal year. In August 2001, the Company also amended its credit facility. The August 2001 credit facility amendment provides (i) that an event of default will occur on January 7, 2002 if the merger with LVMH has not occurred, (ii) for changes in the application of credit facility covenant calculations so as to exclude from such calculations, the royalty payments deferred by the above referenced agreement with Gabrielle Studio, Inc., together with certain unpaid severance and merger expenses, and (iii) that the Company must maintain a minimum of $20 million in availability under the credit facility from December 15, 2001 through the expiration of the credit facility. In addition to the August 2001 credit facility amendment, in June 2001 the Company also entered into an amendment of its credit facility which enabled the Company to borrow amounts in excess of its calculated borrowing base during the months of June, July and August 2001. The failure of the Merger with LVMH to close by January 7, 2002 will cause an event of default under the credit agreement. The Company believes that the Merger will occur prior to January 7, 2002, and if not, that it will be required to amend its existing credit facility (which expires May, 2003), or obtain an alternate source of long-term financing. However, there can be no assurances that an amended credit facility or any new financing will be available and, if available, that the terms will be as favorable as the existing terms in the current credit facility. F-31 INDEX TO EXHIBITS

------------------------ * Exhibit is a management contract or compensatory plan or arrangement ** Previously Filed SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this amendment to the Annual Report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized. DONNA KARAN INTERNATIONAL INC. (Registrant) Dated: August 21, 2001 By: /s/ JOSEPH B. PARSONS ------------------------------------------- Joseph B. Parsons, CHIEF FINANCIAL AND OPERATIONS OFFICER

DONNA KARAN INTERNATIONAL INC 10-K/A